Chapter 6: Working Capital Management

Working Capital is the money used to make goods and attract sales. The less Working
Capital used to attract sales, the higher is likely to be the return on investment. Working
Capital management is about the commercial and financial aspects of Inventory, credit,
purchasing, marketing, and royalty and investment policy. The higher the profit margin,
the lower is likely to be the level of Working Capital tied up in creating and selling titles.
The faster that we create and sell the books the higher is likely to be the return on
investment. Thus when we have been using the word investment in the chapter on pricing,
we have been discussing Working Capital.

In the earlier chapter on Accounting concepts we showed a sample Balance Sheet. The
Balance Sheet comprises Long term Assets (real estate, motor vehicles, machinery) and
Net Current Assets. The word Working Capital is often used for Net Current Assets. In
this chapter we will exclude Cash in Bank from our definition. Thus our Balance Sheet
appears as follows: 

Long Term Assets  6,000 

Working Capital  28,000 
Cash in Bank  1,000 
Total Capital  35,000 

We defined Net Current Assets as Total Current Assets less Total Current Liabilities. In
this book we shall subtract current liabilities items from current assets as follows: 

Young 
Inventory  15,000 
Receivables  17,000 
Prepayments  6,000 
Payables  (9,000) 
Customer Prepayments  (1,000) 
Working Capital  28,000 

Using this format we can state than any reduction in the Working Capital figure, other
than for provisions for write-offs and write-downs, will generate the same amount of
cash. Thus if a customer pays US$ 500 that he owes to the organisation, the Working
Capital figure will fall be US$ 500, and the cash figure will be increased by the same
figure. This revised format is useful when designing spreadsheet financial planning
models for business plans or for internal reporting.

The Working Capital cycle, or Cash Conversion cycle as it is also called is usually
expressed in terms of the number of days. This figure is the average time that it takes to
turn investment in books into cash and profit. We studied Payback in the previous
chapter. Payback expresses the number of days required to recoup the original investment
on a single title. In the organisation’s Balance Sheet there will be the costs of paper, titles
still under development, author advances of books already and not yet published. In
addition there will be the cost of stocks of unsold books, Accounts Receivable, and
Accounts Payable.

Example: Osiris publishers

In order to illustrate the concept I have adapted slightly the example used in the chapter
on Accounting concepts. The Young scenario has the same Income Statement but I have
adapted the Prepayments figure within the Balance Sheet in order to illustrate more
elements of

Working Capital. I have divided the Prepayments figure of 6,000 into Prepayments to
authors and Prepayments to printers. The totals are the same. 

Income Statement  Osiris 

Turnover  100,000 
Cost of Sales  (57,000) 
Royalties  (18,000) 
Gross Profit  25,000 
Distribution costs  (5,000) 
Promotion  (2,000) 
Write-offs  (3,000) 
Administration costs  (10,000) 
Operating Profit  5,000 
Analysis 
Balance Sheet  Osiris  Working Capital / Sales 28.00% 
% 
Inventory  15,000  Inventory in days  96 
Receivables  17,000  Receivables in days  62 
Prepayments: authors  3,000  Prepayments in days: 61 
authors 
Prepayments : printers  3,000  Prepayments in days : 19 
printers 
Payables  (9,000)  Payables  (36) 
Customer Prepayments  (1,000)  Customer Prepayments  (4) 
Working Capital  28,000  Working Capital Cycle in 198 
days 

Explanation of the calculations 

 
Working Capital figure Explanation 
 Inventory in days  (Inventory / Cost of Sales) x 365 = 96 days. More correctly
the purchases figure, if available should be used, in this
case excluding royalties. Thus the publisher holds
approximately 2 months of unsold inventory
Accounts receivable in days  (Receivables / Turnover) x 365 = 62 days. Assuming the
turnover is phased evenly throughout the year, this means
the on average customers take 62 days to pay
Prepayments in days – (Prepayment: authors / Royalties) x 365 = 61 days. In
authors  practice royalties will be earned that reduce this figure
while new advances are also paid to other authors.
Prepayments in days – (Prepayment: printers / Cost of sales) x 365 = 19 days. In
printers  practice part of the Cost of Sales figure would be new title
pre-press costs not carried out at the printer. This item
relates to cases where advance payments are made to
printers as a deposit or for paper. The purchases figure if
available would give a more accurate figure.
Accounts Payable in days  (Payables /(All purchases) x 365

(9,000 / (57,000 + 18,000 + 5,000 + 2,000 + 10,000) x 365

= 36 days

The purchases (investment) rather than the cost of sales

figure should be used if available. I have assumed that this
figure includes money owed to authors (see prepayment:
authors)
Customer Prepayments  (Customer Prepayments / Turnover) * 365 = 4 days
Working Capital cycle in 96 + 62 + 61 + 19 - 36 - 4 = 198
days 
Working Capital / Sales %  28,000 / 100,000 = 28% 

Explanation of the figures

 On average it takes Osiris 198 days to turn an investment into cash and profit. 
 New tiles will use more Working Capital than reprints
 On average Working Capital equates to 28% of turnover
 The percentage of Working Capital to turnover varies according to the type of
publishing
 Trade publishing in developed countries may have a figure of between 35- 45 % of
turnover. Academic publishing is higher. Professional publishing uses a lower
Working Capital % figure
 Working Capital is also a measure of risk

This figure may include new titles, reprints, foreign language coeditions, licence sales.
The figure would be different for each of these. Within the total Balance Sheet, the
Working Capital figure will vary throughout the year according to the phasing of new
titles and the sales cycle. Publishers should know the typical Working Capital cycle and
the level of Working Capital as a % of turnover for each market or distributor, for each
category of book.

The relevance of Working Capital to publishing in young economies

In the FSU Working Capital levels were controlled at government rather than factory
level. Invoices were settled on standard credit terms. Non or slow payment was not a
major problem for printers and publishers. Risk was a government problem. Authors were
paid standard royalty rates and terms. Inventory levels and print runs were according to a
formula: in textbook publishing, 150% of the textbook requirement would be printed in
year 1, the remaining 50% would be used for replacement copies in subsequent years.
Publishers, printers and distributors would negotiate for annual cash budgets but did not
have to concern themselves about Working Capital questions except where budget
moneys were delayed. 

Printing capacity was sufficient to produce local and other agreed requirements. Thus
textbook printing would commence in November for the following September. In a
competitive open economy printers would have to offer discounts and credit to persuade
publishers to take the risk of early ordering. Schools would demand the latest up-to-date
editions. Publishers would have to borrow money from the bank or shareholders to pay
for the inventory.

For young economies, the implications are as follows.

1. In young economies the first industries to develop are those with low or negative
Working Capital % to sales. Negative Working Capital is where the organisation
uses supplier credit or customer Prepayments to fund their day to day needs.
E.G. banks and financial services, retailers, distribution, industries with cash sales
or advance payments on signature of contract (e.g. printers). Organisations with
negative Working Capital use the money from their customers with which to invest
and to pay suppliers.
2. Competition is fiercest among industries with low or negative Working Capital /
sales % figures. Financial entry barriers are lower and these industries are easier to
expand. However profit margins are often lower because of the competition (but
not always!) and the failure rate among such industries among developed countries
is usually higher.
3. Banks are attracted to industries with low or negative Working Capital / sales %
figures as cash and profits are earned more quickly
4. Entrepreneurs are attracted to industries with low or negative Working Capital %
figures
5. Most marketing innovations in book publishing have come about through the
application of the above Working Capital concepts to creating additional sales and
expanding the market. Most of the innovations introduced at the end of the
previous chapter were created by reduced the level of Working Capital and the
time schedule of creating and selling books.
6. The customers, suppliers and authors of book publishers also want to operate to a
low or negative Working Capital / sales %. Thus printers ask for advance payments
e.g. for paper, distributors will try to withhold payment until they have received
money from their customers.
7. Printers are loath to change from their dominant position where they could dictate
prices and schedules according to price scales formulated at state level. These price
 scales were geared to maximum production output, not to satisfying publishers and
their customers under national or international competition. 4-colour printing
would cost 4-times the cost of single colour printing, despite the introduction of
modern 4-colour sheet-fed presses. Printers will change their attitude to pricing and
print-runs only in a crisis. In many young economies printers have not co-operated
with publishers (partly the fault of the publishers) and faced near collapse as
publishers have purchased printing overseas.
8. In developed countries publishers have sometimes allowed retail groups extra
credit (= higher Working Capital for publishers) in order to encourage them to
expand into new outlets or sell more books. It is essential to distinguish between
genuine expansion cases and opportunistic entrepreneurs. The more a publisher is
actively engaged in marketing and distribution, the less likely is the publisher to
have to rely on offering credit as an incentive.
9. The concept applies equally to state enterprises and non-profit making
organisations. If cash and profits are generated more quickly, new titles can be
commissioned sooner, staff and suppliers paid promptly. Bank interest is reduced.
10.Where producers are dominant, their customers will have to accept higher levels of
Working Capital. Where customers are dominant, the producers have to accept a
greater burden. In some young economies, the government may have a policy of
holding key organisations in the state sector or as majority owned state enterprises
rather than encouraging a “free-for-all enterprise policy. This may affect printers,
publishers and distributors. This policy will affect the evolution of the Working
Capital cycle and may tilt it more in favour of producers.

Working Capital levels in book publishing in developed countries

Working Capital is a major problem in book publishing. Most publishers solve the
question on a temporary basis by negotiating credit with printers and other suppliers.
Their own customers solve the problem by negotiating credit with publishers or
demanding “sale or return” terms. “Sale or return” terms make planning and cash
forecasting much more difficult. Most publishers rightly prefer to offer a slightly higher
discount for a firm sale. Retailers will argue that they would not purchase many new titles
without their risk being mitigated by a “sale-or-return” policy”

The central issues, which must be solved, are:

 Investment decisions rely too heavily on economies of scale e.g. in printing prices,
by amortising first edition costs against larger print runs
 Publishers produce too many titles, which receive too little promotional effort and
thus sell slowly or not at all.

These can be solved only through long term changes in publishing strategy and greater
attention to the “value chain” where suppliers, publishers, wholesalers and retailers co-
operate to mutual benefit and shared risk. On demand publishing may reduce inventory
levels but does not solve the marketing aspects.
Many publishers have studied the publishing of music CD’s and cassettes, and of greeting
cards with a view to finding solutions. While lessons can be learned, there are major
differences:

CD’s, cassettes and greeting cards 

 Are all high margin projects

 Carry much heavier promotion budgets and commitment to marketing
 Are standardised in format
 Enjoy few economies of scale so short run and on-demand manufacture are the
norm
 Sell to a more wide variety of retailers
 Sell on a less seasonal basis

Paperback publishers have adopted some of these aspects and have fought successfully to
overcome the low price perception of paperbacks. Paperbacks can now sell in many cases
at the same price as a hardback edition. The creation of “hit-parades” or “Top 10” listings
has been adopted for books of different categories and has attracted significant media
attention thus making books more fashionable. As a result books may sell faster, perhaps
at higher prices and thus reduce Working Capital levels.

“Book Packagers”

Book packagers create books under contract to publishers, bookclubs or foreign

distributors. They evolve as part of the specialisation process especially when publishers
become larger and more bureaucratic. Publishers buy the rights for a territory for a period
of years or number of printings (provided that the title stays in print). The financial
attraction to publishers is that they can buy smaller print runs at economic cost. Most
publishers will make advance payments to the packagers but may be able to approve the
content and design. Most packagers prefer to sell finished books rather than licence titles
on a film and royalty basis. 

Packagers buy at low prices from printers because they create only a small number of
titles but each title will have a large print run. Packagers often stay loyal to printers who
reward them with long credit and, in many cases, lower printing prices than those paid by
their publisher customers.

In the TV world many program companies will create programs for several networks
while TV companies concentrate on distributing the programs. The production companies
will retain the rights and earn fees for repeat-shown programs. A similar situation exists
in the multimedia field.

Thus packagers are specialists who are not involved in marketing and distribution.
Subsequently a small number of them have decided to become publishers and done so
very successfully after re-financing. Most stay as packagers. Compared with publishers,
these packagers have little market value in acquisition terms.

Thus packagers are very similar to many private publishers in young economies but with
important differences as the table below shows: 

Book Packagers Private publishers in young economies 

- Founders are creatively rather than - Founders are creatively rather than market
market driven; enjoy “freedom”  driven; enjoy “freedom” 
- International printers offer them low - Printers tend to give better prices to
prices and credit; printers have often established publishers
offered credit to allow packagers to -
start up, sometimes with dire results for
the printer Some publishers may be closely linked with a
printer. The printer may demand advance
payment 
- Packagers usually allow publishers to - Publishers will not involve customers in the
approve content  book content except in special cases e.g.
textbooks and Ministry of Education, University
Publishing Houses
- Receive advance payments from - Are paid after delivery
publishers 
- Hold no Inventory but reprints make - Will often sell the total print run to a single or
high profits  small number of distributors
- Purchase rights from authors and - Sell books with no transfer of rights 
designers, and sell territorial or other
rights to a number of customers 

The Working Capital cycle in both cases is similar in both cases. The reason is perhaps
the same. Neither the book packager nor the young private publisher is adequately
financed; both enjoy the creative aspects but do not want to expand if it means losing
control. There are few potential buyers for book packagers.

The cost of starting such organisations is much lower. Working Capital is lower because
they are involved only in creating the books. They influence distributors, retailers and
consumers only so long as they generate saleable new ideas. While book packagers can of
course sell foreign rights, their potential to sell reprints is lower.

Making more efficient use of Working Capital

The table below lists items, which influence Working Capital levels favourably and
adversely 

Items that reduce Working Capital levels Items that increase Working Capital
for publishers levels for publishers 
- Increased profit margins - Lower profit margins 
 - Customers who pay promptly - Long print runs except where all the
- Advance payments by customers  books are required on publication e.g.
School and university textbooks
- Inventory which is sold and paid for - Slow authors who deliver late and whose
quickly by customers after publication manuscripts require substantial editing
- Lower Inventory levels by reducing print - Holding paper stock unless market
quantities and working with printers who conditions demand and the savings are
will deliver quickly and produce low print large
runs economically - Slow schedules for the development of
new titles 
- Successful promotion that speeds up the - Making advance payments to printers
rate of sale - Seasonal sales except where the
publishers prints only for the season 
- Licensing (but problematic in young  
economies)
- Paying suppliers on completion with credit  
- Authors who deliver manuscripts on disk
ready for computer make-up
- Incentives to staff , authors , suppliers,
customers , sales staff and agents to speed
up the rate of sale and of developing new
books, delivering manuscripts on schedule 

The attention of readers is again drawn to the examples at the end of the previous chapter,
which illustrate ways in which publishers have produced affordable books through a
marketing initiative. The concepts of this chapter apply in each example.

The danger of averaging Working Capital levels

Osiris has a Working Capital to Sales figure of 28%. However the figure will be the
average of the organisations different activities. Let us assume that there are three
divisions that produce different types of books for different markets and use different
methods of distribution. The table below shows how each division generates much Net
Contribution and also how much Working Capital is used in each division. The cost of
sales, royalty, distribution, promotion costs and write-off figures differ in each case as a
percentage of sales although not all the costs are necessarily variable. The term Net
Contribution is the amount of money that each division generates towards the central
administration cost of the company and hence to profit. Items below Net Contribution is
not relevant to our analysis unless administration cost vary according to each market.
Interest on bank loans could however be usefully charged against each division to give an
even more meaningful figure. Although a Balance Sheet item, Working Capital is shown
under Net Contribution to highlight the relevance of comparing Net Contribution and
Working Capital levels by division. 

Income Statement  Division A  Division B  Division C  Total 

Turnover  60,000  30,000  10,000  100,000 
Cost of Sales  (33,000)  (18,000)  (6,000)  (57,000) 
Royalties  (10,800)  (6,200)  (1,000)  (18,000) 
Gross Profit  16,200  5,800  3,000  25,000 
Distribution costs  (3,900)  (1,000)  (100)  (5,000) 
Promotion  (1,100)  (900)  0  (2,000) 
Write-offs  (1,700)  (1,100)  (200)  (3,000) 
Net Contribution**  9,500  2,800  2,700  15,000 
Working Capital  19,200  7,800  1,000  28,000 

** Gross Profit less distribution, promotion and write-offs. The contribution to administration costs and profit from
publishing activities

The analysis of the above sheds useful light on profitability and use of Working Capital
by division. This is discussed in detail below.

Analysis of the net contribution

The table below shows each cost item included in the Net Contribution calculation
expressed as a percentage of turnover. 

Division A  Division B  Division C  Average 

Cost of Sales % to Turnover  55.0%  60.0%  60.0%  57.0% 
Royalty % to turnover  18.0%  20.7%  10.0%  18.0% 
Gross profit margin %  27.0%  19.3%  30.0%  25.0% 
Distribution % to turnover  6.5%  3.3%  1.0%  5.0% 
Promotion % to turnover  1.8%  3.0%  0.0%  2.0% 
Write-off % to turnover  2.8%  3.7%  2.0%  3.0% 
Net Contribution % to turnover  15.8%  9.3%  27.0%  15.0% 
Working Capital / Turnover %  32.0%  26.0%  10.0%  28.0% 

Turnover

The turnover figure is the sum of the sales invoices issued during the year by division.
Any returns or invoice queries would be shown separately under write-offs in order to
highlight to management the extent of returns and invoices queries. The company will
invoice either by charging an agreed discount off the recommended retail price, or by
using an agreed unit price. If transport is included in the invoice price, the charge for
transport will be shown as an expense under distribution. Free samples or extra jackets
may also be included in the invoice price.

Cost of sales

The percentage to turnover is influenced by the sales mix, the balance of new and reprint
titles, and the length of print runs. A larger print run might increase the gross margin %
but also increase Working Capital levels and hence reduce the cash in bank figure.
Some organisations will charge new title costs in different percentages to each market.
The aim is to demonstrate that certain markets are profitable, but only on a marginal
costing basis. If an organisation has to increase prices to local bookshops as a result of
charging all new title costs against the home market, the organisation runs the risk of
losing market share and profitability in the home bookshop market

Other publishers, often the more progressive, may therefore regard new title costs as
research and development, and charge e.g. 1/12th each month following publication
against the Income Statement. This policy means that inventory is valued at a cost
excluding new title costs and reduces the need for write-offs. This policy also gives a
better view of trends in gross margins, as the figure is not distorted by changes in the new
title / reprint mix. The Net Income will fall. Countries may have specific policies for
writing off first edition costs against profits, as they are similar in concept to research and
development expenditure.

Royalty figures

The royalty figures differ because in the case of division A and B, the royalty is charged
on the basis of the retail price, while in the case of division C, the royalty payable is based
on net receipts, i.e. the unit price charged net of discounts. As markets expand, the need to
negotiate royalty terms based on net receipts will grow in order that publishers exploit
new markets. Without such author contractual terms, publishers might have to reject
otherwise profitable deals. Thus the author might lose also. It is common for net receipts
royalty rates to be agreed for deals above a certain discount rate, e.g. bookclub, export
deals, coeditions, and licences.

Gross margin

Definition: Turnover minus cost of sales and royalties payable.

Gross margin, the percentage of gross profit to turnover is widely used in book publishing
as a parameter for book pricing. Where an organisation produces books with a similar
cost profile, in similar print runs, and with a constant sales mix, gross profit may be a
useful criterion. Here the figures highlight also that the use of gross margin as a criterion
is not always useful and can be misleading although the division C, with the highest gross
margin, also has the highest net contribution. Use of gross margin ignores distribution,
promotion and write-offs, which will usually differ by division or type of book

Distribution costs

Distribution costs will include the following:

 Cost of own warehouse in handling the year’s sales

 Cost of using someone else’s warehouse for the same purpose

  Using a contractor who handles your organisation’s distribution on a percentage of turnover basis
for warehousing, transport, packing, invoicing but not selling.

 Transport and postage costs

 Packing materials

 Handling returned copies

 Sales invoicing and credit collection (in some developed countries)

The percentage cost will vary according to the method of market distribution used. If the books are sold to a
distributor who buys the books on a firm-sale basis and who will sell, warehouse and transport the books to
customers, then distribution costs will be low or nil. The publisher’s influence and control over the market
will also however be low or zero also. In the case of a bookclub, the bookclub will demand delivery to their
warehouse in bulk and distribution costs for the publisher will thus be limited to transport costs to the
bookclub’s warehouse.

Promotion costs

This includes the costs of promotion and selling whether carried out by the publishers or by other companies
who carry out the publisher’s instructions.

The following will be included:

 Publisher’s own sales force

 Sales commission to agents who sales on a commission basis only or to sales staff who are paid
partly by salary, partly on commission

 Advertising agency costs

 Some publishers may include samples under this heading

Write-offs

Write-offs are provisions against things that are likely to go wrong. The rule is that bad news has to be
charged to the Income Statement as soon as known whereas good news e.g. a large sales order for future
delivery is not shown as a profit until “realised”

The following would be included

 Doubtful debt provisions

 Bad debts

 Inventory that will not recover the cost of producing it

 Sales invoice queries

 Returned books (these are often shown separately as part of the turnover figures e.g.
Gross turnover 105,000
Returns provision 5,000
Sales turnover 100,000

 Currency losses (or gains) on sales and purchase invoices

 Royality advance write-offs

Net Contribution

Definition: Gross profit minus distribution and promotion costs, and write-offs

The Net Contribution shows the contribution from publishing activities of each division or market. While the
figure is immensely useful, the percentage figure must be used with caution as both fixed and variable costs
have been deducted from turnover. 

Licensing Income would also be shown, if significant, as a separate item and not necessarily as part of
turnover. While licensing can be risky in young countries, it is a significant part of publishing in developed
countries where the legal system or local publishing association will be active in protecting publishers ‘
rights. Showing licensing Income as part of turnover has misled publishers for years over the value of rights
income to profitability and to an acceptable return on capital %.

Net Contribution from Book Sales 15,000

Licensing Income (net of royalties payable) say 500
Total Net Contribution from publishing activities 15,500 

  

Analysis of Working Capital levels by division

After a rather long diversion we now revert to Working Capital using the same example. The table below
shows how efficient each division is in using Working Capital. 

Division Division Division C  Average 

A  B 

% Sales Turnover  60.0%  30.0%  10.0%  100.0% 

% Net Contribution /total Net 63.3%  18.7%  18.0%  15.0% 

contribution 

% Working Capital  68.6%  27.9%  3.6%  100.0% 

Net Contribution / Working Capital 49.5%  35.9%  270.0%  53.6% 

% 
 Net Contribution per 1 USD 49.48  35.90  270.00  53.57 
Working Capital 

Explanation using division C as an example

While generating only 10% of total turnover, but 18% of total Net Contribution, Division C uses only 3.6% of
the total Working Capital tied up in the company. Division C makes US$ 2.70 Net Contribution for every 1
US$ of Working Capital used in Division C.

For both entrepreneurs and for publishers unable to borrow more money from the bank or shareholders, the
Net Contribution per 1 US$ of Working Capital is vital. If we were to add the Working Capital cycle (198 days
in the case of Osiris earlier in the chapter) for each division, the report that we have just studied would be
even more useful.

Growth opportunities

The following analysis of the same data shows the importance of Working Capital levels in generating cash as
well as profit. Using the above data we can extract the following 

Impact of USD 1,000 increase in Division Division B  Division C  Average 

sales volume  A 

Increase in Contribution  158  93  270  150 

Increase in Working Capital  320  260  100  280 

For every additional US$ 1,000 of turnover, US$ 320 of Working Capital is required in Division A, US$ 260 in
division B, and only US$ 100. It is rare that the division with the lowest Working Capital requirement will also
have the highest net contribution % but that is what division C offers. Division C might perhaps consist of
reprints or foreign language editions only.

Calculating cashflow using Working Capital

We can project future cashflows using the Working Capital data. We are assuming that there are no
additional purchases of long term assets involved. Any other additional items of expenditure that are
required to support the change would also be included e.g. an additional editor, a new personal computer.

(a) using the Osiris average net contribution and Working Capital / turnover percentages

In the first case we will calculate the future cashflows over a three-year period using the average net
contribution percentage and average Working Capital % for Osiris. It shows the impact on cashflows starting
with sales of US$ 1,000 in the first year. 

Assumption 
 Turnover growth %  10%  10% 

Net Contribution %  15%  15%  15% 

Working Capital % to turnover  28%  28%  28% 

Osiris Analysis  xxxx1  xxxx2  xxxx3 

Turnover  1,000  1,100  1,210 

Net Contribution  150  165  182 

Working Capital  280  308  339 

Cashflow  (130)  137  151 

Bank figure  (130)  7  158 

As we are studying the cashflow on an incremental basis, the opening Working Capital figure, as for a new
project, would be zero. The calculation for cashflow in the first year is as follows:

Cashflow: year 1 = Net Profit Contribution** plus increase in Working Capital **

= 150 +0 – 280 = (130)
Cashflow: year 2 = 165 +280 – 308 = 137
Cashflow: year 3 = 182 + 308 – 339 = 151

** Plus any purchases of long term assets and additional administration expenses required as a result of the
decision. Net profit contribution is used instead of profit because we are studying the impact on cashflow of
increasing sales turnover. Only incremental costs and sales are included.

(b) using the net contribution and Working Capital / turnover percentages for Division C which has both
the highest net contribution % and the lowest Working Capital / turnover % 

Assumption 

Turnover growth %  10%  10% 

Net Contribution %  27%  27%  27% 

Working Capital % to turnover  10%  10%  10% 

Division C Analysis  xxxx1  xxxx2  xxxx3 

Turnover  1,000  1,100  1,210 

Net Contribution  270  297  327 

Working Capital  100  110  121 

 Cashflow  170  287  316 

Bank figure  170  457  773 

Thus an expansion in Division C of USD 1,000 in turnover, and thereafter an increase of 10% per year
cumulative, generates USD 773 of additional cash as compared with USD 158 in the average scenario for
Osiris. The difference is explained as follows:

Increase in Bank figure: Osiris average 158

Additional net contribution from division C 397
Cash improvement due to lower Working Capital % in division C 218
Closing Bank figure for division C : year 3 773

Most of the increase in the bank position is the resulting of higher profits but the lower level of Working
Capital in division C also results in an additional cashflow improvement of US$ 218.

Notes on the Cashflow calculations

In practice we would add back to the net contribution figures that part of write-offs that was included for
future problems. This is because such provisions do not affect cashflow.

We can apply the same concepts for the preparing of spreadsheet-generated Business Plan forecasts. In such
cases all Income Statement and Balance Sheet items would be included. Cashflow can be forecast using the
Balance Sheet rather than through a tale of Receipts and payments. The resulting cashflow figure will be the
same under either method. Using the Balance Sheet figure above, different scenarios can be studied, as the
spreadsheet model can be “parameter” driven. Thus changes in credit terms, inventory levels, margins can
be studied quickly.

Pareto's Law - the 80/20 rule

This “rule” states that invariably time, sales, costs, or problem areas occupy a disproportionately high
percentage of time or money. In publishing we might use the rule as follows:

 80% of inventory held is for only 20% of the titles published

 80% of our profits are made by 20% of the titles we publish

 80% of our turnover is made from 20% of our customers

 80% of our slow payments are caused by 20% of our customers

 80% of our Working Capital relates to 20% of our list or 20% of sales turnover.

 80% of out time is spent on 20% of our titles

This general rule can be applied in so many ways to financial management in book publishing.

A detailed Look at the elements of Working Capital

Inventory

Inventory will consist of:

 Un-printed paper

 Flat printed sheets

 New books and reprints under development

 Finished Inventory

 Publishing plant (discussed in chapters 4 and )

Unprinted paper

In young economies paper may represent 40-50% of the price of a book while in developed countries the
percentage may be 10 – 15% of the selling price. Thus in young economies, economic purchase of paper is a
major issue. In some countries paper is a scarce commodity with prices at a premium.

In developed countries publishers will uses several printers in different countries. The normal procedure for
book publishers, except for publishers of standard format paperbacks is to negotiate prices with printers,
which include an agreed paper specification. Newspaper and magazine publishers, who print to a single
format using reels will normally purchase paper in order to secure the lowest possible prices and in order to
guarantees supplies.

Paper is a commodity, but, unlike most commodities, is not traded on commodities' exchanges across the
world. Attempts are being made to develop a Futures Market for pulp. As a result there is no “market price”
for each paper grade. Large users will negotiate significant discounts on published price lists. but such data is
not published. Only for newsprint is there an open discussion on prices. Countries with strong economies
and currencies will negotiate the best prices, while countries with no local pulp industries will distort price
levels by panic buying.

Young ambitious economies will require increasing levels of paper, as education, packaging and advertising
become high priorities. Where a country has an indigenous pulp and papermaking industry, this increase in
demand causes paper shortages and leads to higher prices. Consumers become more demanding and
require higher quality papers, which are not available locally. Controlled paper distribution means that local
users may pay a higher price for local paper than their counterparts in developed countries. Unless subject
to special trade agreements or supported by their local governments e.g. for credit risk, foreign pulp and
paper mills may charge higher prices to young economies because of the credit risk and because they do not
always represent a major market to the mills. Local distributors are unlikely to inform publishers that world
paper prices are falling. Local distributors will often seek to limit alternate sources of supply. There is thus
often a large difference between prices charged by local distributors and those charged by the foreign paper
mills who are prepared to supply direct.

Many publishers in young economies will not purchase paper through the printer for two key reasons.
Printers will often make a surcharge of up to 25% as well as demanding advance payment. In addition
printers may give priority to customers prepared to pay higher prices for printing and paper and thus
jeopardise printing schedules.
Thus publishers in young economies face three problems:

 Paying no more than market prices for paper (with guaranteed quality)

 Guaranteeing supplies of paper and thus books. Printers may give priority to publishers with paper
stocks.

 Finding cash or loans to pay for the paper

Much of the comment on book inventory applies also to paper stocks. It is cheaper and less risky to hold an
inventory of paper than of books.

Flat printed sheets

These are flat printed sheets, which can be bound as hardback, paperback or other editions at a later date.
By not binding immediately the publisher also delays the cost of binding but will usually have to pay the
printer for storage. Wastage rates are higher when the binding is not carried out as a single run.

Many publishers of short run editions will print extra 4-colour covers for later printings. A further use is
where 4-colour illustration sheets are printed for later over-printing in other languages.

New books and reprints under development (Work-in-Progress or WIP)

This represents all the costs of creating new titles and reprints up to the stage where the books ready for
sale. Editorial and design salaries will be included. As competition among publishers increases, publishers are
forced to create more added value to manuscripts and this increases the amount of new title costs and also
WIP levels.

Faster schedules will reduce WIP levels. This can be achieved by better scheduling, use of in-house DTP and
scanning equipment, offering incentives to authors (for supplying manuscript on disk) or to staff and supplier
for shorter lead-times. One publishing survey indicated that those publishers who worked to short schedules
also had the lowest levels of typesetting corrections. Seeing the finished book on which they have worked
motivates certainly many publishing staff.