Supply-chain finance addresses two problems at once: suppliers’ need for cash, and buyers’ desire to extend payment terms.
According to McKinsey & Co., unavailability of credit was a major factor behind the estimated 25-percent decline in international trade from 2008 to 2009. And while banks have resumed lending to some extent, small and medium-sized suppliers are still having trouble gaining access to liquidity.
As a formal idea, supply-chain finance can be traced back to the 1990s, although it’s only seen wide adoption in the last few years. The various models are far from mature – few address the end-to-end supply chain – but they’ve come a long way toward propping up suppliers, while offsetting the financial risks inherent in global trade.
Buyers have been able to stretch the time they take to pay their bills to as long as 120 days, while suppliers have won access to more generous financing terms. One McKinsey report claims that supply-chain finance strategies “could unlock $100bn to $500bn of liquidity by accelerating the cash conversion cycle for suppliers and buyers.” At the same time, the mechanism strengthens each link of the supply chain, cutting down on the risk to buyers.
There’s a pressing need for supply-chain finance today, says Oliver Belin, director of marketing with PrimeRevenue. (His firm is one of a number of non-bank sources of supply-chain finance to have emerged over the past decade.) Manufacturers that sharply cut back on production during the recession now find themselves scrambling to handle growth in demand. Improved cash flow is becoming a must.
Every company is looking over its shoulder. “One of the key enablers is what your peers and competitors are doing,” says Belin. Key suppliers are likely to favor buyers with finance programs that provide the most attractive payment terms. The trend can be seen in major industries such as telecommunications, automotive and, most recently, food and beverage.
Supply-chain finance is about more than just extending terms to favor a buyer, says Belin, who co-authored the book Supply Chain Finance Solutions. “It’s about optimizing the supply chain.” In many cases, suppliers are being offered early payment terms at attractive rates. In the process, buyers shore up relations with key vendors, becoming less vulnerable to disruptions caused by natural disasters and other events that threaten the continuity of supply.
On the banking side, supply-chain finance programs are mostly being offered by the major commercial lenders, says Belin. But competition is coming from entities like PrimeRevenue and big manufacturers and retailers with their own financing arms, such as IBM, Siemens and Walmart.
“We’ll see this year and the next a new trend of non-bank funders in supply-chain finance,” predicts Belin. Additional entrants include hedge funds and insurance companies, all looking to alleviate the risk that buyers take on when engaging in global commerce. Today, he claims, there are some 40 entities, both banks and non-banks, that are actively engaged in supply-chain finance.
Still, it’s not easy to break into the market. A good program calls for a strong I.T. infrastructure, tight integration with the buyer’s enterprise resource planning system, and an efficient means of on-boarding new suppliers.
Then there’s the difficulty of dealing with countries that don’t accept electronic documents in lieu of paper. Says Belin: “There’s a lot of investment required if you want to enter the supply-chain finance space.”
The growth of supply-chain finance has taken place against the backdrop of persistently low interest rates, but Belin doesn’t believe higher rates – when they finally arrive – will reverse the trend. Interest rates typically rise in small increments, giving companies time to adjust, he says. In any case, they make up just one piece of the financing pie.
Where might we expect to see a new wave of supply-chain finance activity in the years ahead? Robert Kramer, vice president of working capital solutions with PrimeRevenue, lays out the characteristics of industries that are prime future candidates. They include:
-- A high degree of industry concentration. Suppliers are dependent on a handful of players, making supply-chain finance an attractive proposition.
-- A high degree of spend concentration. When a supplier becomes a strategic partner, creative financing options are likely to be explored.
-- The use of relatively long payment terms, typically greater than 45 days. Suppliers become more motivated to pursue new cash-flow strategies.
-- A high percentage of “sub-investment grade” suppliers. Supply-chain finance becomes an important tool for offsetting the potentially higher cost of capital.
-- A capital-intensive supply chain. Cash flow and working capital become prime considerations.
Cash, risk and continuity of product: supply-chain finance addresses the key aspects of global trade. Companies that haven’t explored the option should give it a chance.
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Keywords: supply chain, supply chain management, supply chain finance, supply chain planning, supply chain risk management, sourcing solutions