July 22, 2010
Posted by : BobKramer
“If I had asked people what they wanted, they would have said faster horses.” – Henry Ford
No, that’s not the latest text message shorthand or “txtspk”.
The Bank of England (BOE) commissioned the Association of Corporate Treasurers (ACT) to chair a Supply Chain Finance Working Group (SCFWG) to review the Supply Chain Finance market. The review was released this week and it provides much more than an alphabet soup of acronyms.
The report refers to what I would call Supply Chain Finance as Buyer Driven Receivables Programs (BDRP). The report is at times inconsistant in their SCF definitions but for now we’ll leave the definition debate to my first post on Supply Chain Finance.
The working group concluded that SCF has an important role to play in providing business credit in today’s credit constrained environment – “In conclusion, SCF can help ease lending constraints for small to mid tier companies or those with a weaker credit standing…in market conditions where lenders are concerned with credit quality we do believe that buyer driven programmes can and will help ease funding conditions,,,it is working and fulfilling a valuable role in the provision of working capital to a diverse range of companies.”
I found it interesting that the working group decided to call out the role of “bank independent” technology platforms vs proprietary bank owned platforms – “Platforms that are bank/investor independent are helpful to broader market availability but need to be more open to alternative funding sources.” The last part of that statement is a bit of a head scratcher since, by definition, open, independent platforms are more open to alternative funding sources.
It was nice to see the working group point out the important role of “integrators”. According to the report “The role of the integrator is to provide advice and assistance to organisations who are embarking on the deployment of a SCF solution. The integrator should provide expert input in the selection of the appropriate solution, the accounting structures and tax implications, the selection of funding source (internal/external) and the ‘on boarding’ (recruiting) of suppliers.” Interestingly this role today is usually performed by the SCF technology/services provider or banks rather than traditional systems integrators such as consulting firms.
Among the report’s other conclusions:
- Selection of the best SCF solution depends on the requirements of the buyer and their unique suppliers
- Supply Chain Finance (Buyer Driven Receivables Programs) are growing fast and there is no lack of funding constraining the growth of SCF.
- Procurement should play a vital role in SCF solution selection and deployment.
- Adverse market conditions have lead many organizations to extend supplier payment terms which has forced suppliers to look for alternative financing solutions.
- Accounting considerations are important for the buying organization.
One area of the report which is a bit lacking is the discussion of buyer objectives in Appendix 2. All of the objectives focus on features of an SCF solution. There is no mention of supplier relationship management objectives such as improving the financial health of the supply chain, payment term extensions, reduced pricing, etc.
All in all, from my perspective as someone who has implemented many Supply Chain Finance programs, I think the white paper provides a useful description of SCF despite the omission of some critical tactical considerations as well as some definitional inconsistencies.
July 14, 2010
Posted by : BobKramer
“Never Judge a Person Until You Walk a Mile In Their Shoes” – Proverb
In last week’s post I discussed how different corporate objectives and/or supply chain demographics can lead to significant differences in how corporates implement a customized solution like Supply Chain Finance. Not only does this customization lead to different implementation approaches but it also leads to different measures of success.
Many people not directly involved in Supply Chain Finance look at the number or percentage of suppliers participating in an SCF program as the measuring stick of a successful implementation. This is usually the wrong metric because the buyer’s objective is not to maximize the number of supplier’s on the SCF system. Most buyers leverage SCF to support an initiative to extend supplier payment terms and reduce working capital within their direct material (or goods for resale) supply base. If that’s the objective then the organization should try to maximize the percent of spend on the SCF program, not percent of suppliers. Over on Spend Matters, Jason Busch discusses “early payment programs” and says that “when companies enable such programs with technology, it’s rare that more than a small single digit percentage of suppliers participate”. How do we know that single digit supplier participation doesn’t meet the buyer’s objective? In fact, in most industrial supply chains you can reach 70% or more of the spend with much less than 10% of the suppliers. Many buyers will choose to maximize the amount of spend flowing through SCF with the least number of suppliers possible. The biggest limiting factor on the number of suppliers who participate is the buyer’s objectives, not SCF, and that is entirely appropriate.
I think the focus on maximizing the number of suppliers comes from the electronic invoicing and purchasing card worlds where you’re trying to digitize a large number of paper based transactions so the focus is on number of transactions and number of suppliers (and usually indirect spend) rather than on the value of those transactions. With SCF, the objectives are very different and therefore so are the metrics for success.
July 6, 2010
Posted by : BobKramer
Tags : Best Practices, Credit Market Volatility, credit memos, Customization, Developing Countries, Financial Distress, Insolvency Risk, Letter of Credit, low cost country sourcing, Merchandising Training, Multi-bank model, Payment Term Extension, payment terms benchmarking, Plug and Play, Price Reduction, Procurement Training, Reserves, Scalable Liquidity, supplier bankruptcy, supplier negotiations, supplier prioritization, Supply Chain Finance Implementation, Supply Chain Finance Objectives, Supply Chain Finance Partners, Sustainable Liquidity
“Whatever crushes individuality is despotism.” – John Stuart Mill
Supply Chain Finance is a service which is customized to the needs of the buying organization and the characteristics of their supply chain. It is not a plug and play product. Although there clearly are best practices that lead to much better and more predictable results, different buying organizations can and should implement SCF differently. These different implementation approaches will also impact which SCF partners can best help the buyer meet their objectives.
Today I wanted to look at how some potential buyer objectives impact SCF implementation and the selection of SCF partners. In the next post in this series we’ll look at how the characteristics of the buyer’s supply base impact rollout strategy and SCF partner selection.
Reduce cost and risk in the supply chain. For this objective, suppliers will be prioritized based on a combination of strategic importance, insolvency risk and the impact of working capital on demand responsiveness. Given the greater financial distress of prioritized suppliers, the SCF technology will require features to minimize the risk associated with supplier bankruptcy rather than simply excluding those suppliers most in need of improved cash flow. Features such as the ability to easily process credit memos/offsets, the ability to set reserve amounts, etc., will be critical. This objective also places a greater emphasis on a scalable and sustainable liquidity model, one that will finance the largest and most financially distressed suppliers during credit market volatility. Given the importance of critical direct material suppliers and the changing views of financial institutions on firm and industry credit risk, this objective will require an open, multi-bank funding approach. Multiple buyers have already experienced the impact of critical supplier bankruptcies due to the withdrawal or restriction of credit by proprietary, single bank SCF platforms. Further, although SCF is a “buyer risk” model, some banks will not fund specific suppliers which will require the ability to bring in additional banks (eg, we’ve seen some banks who won’t fund suppliers below a certain credit rating, in certain geographies or who have a high concentration of revenue with the buyer).
Support a term extension initiative or pricing reductions. Here, suppliers are prioritized based on the potential for payment term extensions or price reductions. This leads to a somewhat different supplier prioritization than if the objective is to reduce cost and risk in the supply chain. Services to support the Procurement/Merchandising team’s term extension negotiations with suppliers are much more critical than with other buyer objectives. For example, payment terms benchmarking, training for the Procurement/Merchandising teams (including web based, on-demand tools), helping determine supplier negotiation strategies (we call it the “playbook”) and supplier sales (vs. just education) are all more important than with other SCF objectives. With the potential cash flow gain of $250 Million or more, even if an outstanding services provider achieves results only 20% better than a good service provider, the impact is $50 Million.
Support low cost country sourcing and/or migration from Letter of Credit to Open Account. Here, suppliers are prioritized by geography and payment methodology. Given the geographic dispersion of suppliers, buyers will want to work with SCF partners who have experience and capability in handling multi-geography SCF rollouts. It is critical for the buyer to ensure that the liquidity model supporting their SCF solution has the flexibility to bring in funding providers to support each required geography. Many U.S. and Western European banks do not support receivables transactions in developing countries in Asia, Eastern Europe and Latin America, never mind all 3. This places a greater emphasis on using a multi-bank SCF solution.
These are a just a few examples of the interplay between the buyer’s objectives and Supply Chain Finance implementation strategies and partner selection. Keep in mind there can be different objectives for different groups of suppliers within the same buyer. Buyers will want to ensure that they optimize their SCF program based on their unique objectives and supply chain characteristics.
June 28, 2010
Posted by : BobKramer
Tags : AB InBev, asset efficiency, bargaining power, cash flow, CFO Magazine, credit crunch, Dell, Diageo, DPO, economic value added, extending supplier payment terms, ROIC, supplier payment terms, Univeler, Vodafone
“A spoonful of sugar helps the medicine go down.” – Mary Poppins
Corporates continue to garner bad press for increasing supplier payment terms. Companies such as Dell, Vodafone, Diageo, AB Inbev, and Unilever have all been criticized in the press for extending their payment terms to between 60 and 120 days (though I suspect they’ve been cheered by investors). In many cases the companies in question are simply standardizing their payment terms across the supply chain. They’re far from alone in extending terms though. As I mentioned in my last post, according to CFO Magazine, 94% of firms said their customers were leaning on them for extended payment terms last year. It’s no secret why firms are looking to extend supplier payment terms. A typical Global 2000 firm can generate $100 Million or more (much more) in incremental cash flow. This supports key asset efficiency metrics such as Return on Invested Capital (ROIC) and Economic Value Added (EVA). In fact, if a company has lower DPO than their competitors, they’re effectively subsidizing the cash flow of those competitors.
But why the consternation about terms commercially agreed between an organization and their suppliers? Why the rhetoric about the “morality” of various payment terms? There’s no such concern regarding a whole host of terms agreed between buyer and supplier which includes everything from pricing to merchandising allowances. The reason for the angst – cash flow is the lifeblood of business and negatively impacting supplier cash flow can put them out of business, especially in today’s credit constrained environment.
Companies can avoid the negative impact of term extensions on their supply base, and the morality play, by collaborating with their suppliers around cash flow much as they do on the physical end of the supply chain around inventory flows. By using a supplier relationship management tool like Supply Chain Finance, the impact of term extensions on suppliers is minimal. When combined with SCF, suppliers can improve cash flow despite the term extension. Even with a 15 day term extension, the most financially vulnerable suppliers will actually reduce costs with SCF. Further, the cash flow the buyer gains from the term extension can be invested in the business which ultimately helps the supply chain.
Do large buyers leverage their bargaining power (sometimes known as bullying!)? Sure, their shareholders demand it and it’s not going to stop. However, by introducing a more collaborative approach around payment terms with Supply Chain Finance it doesn’t have to be a zero sum game.
June 22, 2010
Posted by : BobKramer
“Man is an animal that makes bargains: no other animal does this – no dog exchanges bones with another.” – Adam Smith
What are the appropriate payment terms for suppliers?
According to CFO Magazine, last year 94% of firms said their customers were leaning on them for extended payment terms. It’s no secret as to why firms are looking to extend terms; a Global 2000 organization can generate $100 Million to $1 Billion in incremental cash flow from extending supplier payment terms, cash that can be used to invest in their business or support a host of other shareholder value initiatives. That’s attractive in any macroeconomic environment.
As I noted in my last post, Supply Chain Finance is often used by companies to mitigate the negative impact of their term extension initiative on suppliers. With SCF, suppliers can choose when they get paid, irrespective of the negotiated payment term, at a discount rate based on their customer’s credit risk. The first step though is determining appropriate supplier payment terms and many of our clients engage us in part to help them make this determination. Have they gone too far? Not far enough? Should supplier payment terms be 60 days, 90 days? More?
Payment terms should be determined independent of Supply Chain Finance and should incorporate payment terms benchmarking across commodity classes. Terms should be based on a host of buyer/supplier specific characteristics including the commodity class of the supplier, inventory turnover, buyer/supplier relationships, the buyer’s corporate objectives, etc. It may not make sense to have the same payment terms for flat rolled steel as for steel castings or wire harnesses. It might not make sense to have the same payment terms for apparel, consumer electronics and home appliances. In the auto aftermarket retail industry, inventory turns slowly so it probably makes sense to have longer payment then an auto OEM where inventory turns more quickly (among other differences). For example, Autozone’s 2009 Days Inventory Outstanding (DIO) are 233 days while General Motors are 40. These two organizations should have vastly different supplier payment terms.
Determining appropriate supplier payment terms simply isn’t possible without the context of the specific buyer/supplier relationship and supplier characteristics a well as other aspects of the buyer-supplier commercial relationship. Ignoring these dynamics can lead to supplier relationship management issues among a company’s most critical suppliers.
