(From Supply Chain Standard, June 2012)
Rising commodity prices, market volatility and concerns over the stability of the Euro are weighing heavily on corporate supply chains. Cash-flow is still a core concern for many suppliers – and when suppliers face difficulties, buyers need to tread carefully.
The dip back into a shallow recession has done little to alleviate the persistent difficulties in obtaining credit for UK companies. The Euro crisis too adds to an air of caution that hangs over the financing of international supply chains. However, new financial initiatives are emerging that offer potential opportunities for buyers and suppliers.
Barclays introduced a supplier finance product about three years ago – an electronic payment system which enables suppliers to receive early payment ahead of the invoice due date. The discount charge is based on the buyer’s cost of funds and is typically lower than the supplier’s financing costs.
John Bevan, head of trade & working capital, UK&I at Barclays, explains that one of the key benefits for suppliers is that it provides certainty of payment. “It gives greater predictability to cash-flow, it gives them an early payment option and the potential for discount payments without recourse,” he says.
“Quite often clients are trading further overseas, so the issue is around certainty of payment and clarity of payment.”
But how easy is it for companies to get finance now? “If you look at receivables and funding of receivables in general – which supply chain fits into – I think banks in general, and certainly Barclays, have maintained a strong appetite to supply finance through this route,” says Bevan.
Bevan sees that as the market matures buyers are increasingly looking at supplier finance from an added value perspective. “By providing certainty of payment to their suppliers, making payments earlier in the process and giving them that clarity around the payments, these are seen as added benefits,” he says. So by improving cash-flow for the suppliers, buyers are making themselves more appealing to suppliers and are therefore creating competitive advantage.
Recent research by Demica points to invoice finance as an increasingly significant source of working capital funding. The report estimates the aggregated European invoice finance market to be £892 billion in 2011, compared to £811 billion in 2010 and £690 billion in 2009.
Philip Kerle, CEO of Demica says: “The Banks are being pressured by their corporate clients to offer a supply chain finance programme. So I’d say it’s more their clients are pushing the banks rather than the banks driving it.”
“From the banks’ side, this involves moving away from the letter of credit business which is a hugely profitable business for banks – albeit a business that has diminished. But it has been profitable and supply chain finance is another way to bite into this business,” he says. “So we have seen continued interest on the corporate side. It started off with the very big corporates but we are now starting to see the mid-size buyers pushing their banks to offer this.”
Demica has a platform set around a series of invoice based financing programmes. “What we see, particularly with some bigger companies, is that they like the idea of having an independent platform and it enables them to bring in banks in different regions and that is becoming more of an issue today because you find there are very few banks that want to, or are able to, provide global programmes for corporations.”
“Companies are looking at every which way to manage their cash-flow and this is one way to do that,” says Kerle.
“What usually happens in the process of entering into a supplier finance programme – the buyer will usually go to the supplier and say: ‘We’ve got some good news and some bad news. The bad news is we are extending the terms. The good news is we’ve got a banker who will pay you within five days’.
According to the results of a recent survey by Bain & Company, entitled “A fresh look at procurement” more than half of the respondents said cost pressures constrain their ability to make strategic investments. The authors of the report believe this could be an issue as procured costs represent between 25 per cent and 60 per cent of a company’s total costs, depending on the industry.
“Over half of all companies we spoke to had actually had to cut their strategic priorities and have looked to the supply chain for a way to fuel the ability to invest in the strategic parts of their business,” says Dave Fleish, partner at Bain & Company and one of the authors of the report.
So, how are companies going about achieving this? “Typically, the winners do three things well. The first is that they look across a very broad area of spend,” he says. “The second is that they really get to the root cause of the high spend – sometimes it’s the mix in terms of what they buy.” Fleish offers an example: “We had a client who found that when they started to dig into their office supplies category that they purchased ninety different kinds of computer mice in the prior year.” He points out that sometimes the specification may be unnecessarily high, ordering “custom and complicated” when “off-the-shelf” would be sufficient.
“Companies are a collection of past decisions,” says Fleish. “There are usually no processes to go back and “Gut-check” choices that were made, three, five, ten or even fifteen years ago. Most are not asking why they buy what they buy. So by systematically going through categories we find there are significant opportunities.”
But he indicates that the greatest factor that separates companies that achieve the savings from those that struggle is an ability to make it a joint effort between procurement, finance and the business. “When the efforts are procurement driven only they tend to significantly under achieve their potential,” he says.
Within supply chains the financial health of a key supplier is a critical issue. The financial failure of a supplier can have catastrophic effects on a buying organisation’s revenue, reputation and share price. There are plenty of examples from the automotive sector where vehicle production has been halted due to the financial collapse of a supplier. Only in April the filing for bankruptcy protection by Azure Dynamics, supplier of the Ford Transit Connect Electric delivery van’s all-electric power-train, halted production of Ford’s TCE van.
Abiola Atilola, product manager, at supplier information management company Achilles, emphasises the importance of buyers understanding the financial position of their suppliers, but believes most checks are inadequate as they look the wrong way. “Most financial checks on suppliers by buyers tend to rely on historical information – on past filed accounts. Third party checks too only tend to draw upon accounts filed at Companies House. But what is needed is a more forward looking perspective if the risk of a supplier failing is to be mitigated,” she says.
“Having more forward looking data and monitoring that information regularly, rather than just at the start of a contract, allows a buyer to see danger as it appears on the horizon.”
According to Atilola, this summer Achilles is to trial its financial analysis model (FAM) within its automotive community before rolling it out to its other communities such as oil & gas and utilities. The tool has been developed in association with a leading accountancy firm and includes historical data, current information provided by the supplier and future projections on financial performance. “By asking suppliers to offer current data on a regular basis, along with projected performance, buyers are in a position to use the analytical tools available to test the veracity of the information and better understand the future dynamics of the supplier’s finances,” she says.
Atilola believes there are advantages for the supplier too. “Within FAM you’ve got advisory flags and these are messages that pop-up to the supplier giving them pointers that would enhance the information that they provide,” she says.
“For instance, in a particular year a supplier may be reliant on five key customers. A flag may advise that: ‘It looks like most of your revenue is based on five key customers – do you want to add some more comments?’ Perhaps the supplier has some further important contracts in the pipeline. A note highlighting this would help improve a supplier’s position with a prospective buyer by creating greater confidence in the supplier’s future financial position.”
Anne-Marie Kilkenny, managing partner with Oliver Wight, sees the continuing challenge for the supply chain as the task of creating a balance between its three core elements – service levels, operating costs and cash.
“A lot of organisations have been chasing cash for a number of years now, since the crash in late 2008. However, the problem is that they tend to focus on just one piece of the mix. People have the drive to reduce inventory costs to free-up cash, but they don’t do it in the context of the wider picture, which results in short-lived success,” she says.
“Their working capital performance in a given period may look good, but inevitably it will suffer because they haven’t addressed the structural issues.”
“There is a lot of pressure on COGs [cost of goods] and inventory, and I can’t see that going away anytime soon. But the broader issue is linking the financial planning of the business into the financial planning of the supply chain. This is where some organisations are getting it right and some are not”, says Kilkenny.
“Traditionally, the purchasing people will be measured on purchase price variance, but what organisations really need is end-to-end predictability through the extended supply chain. So my view is that the value add from the finance team has got to shift from counting the money to supporting the business in doing analytics and modelling,” she says.