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Supply chain financing – why more companies should do it

Supply financing | Supply chain financing – why more companies should do it Anthony Harrington

One of the well known evils of a deep downturn, though less immediately dramatic than horrors like unemployment, lost homes and blighted lives, is the way so many large companies improve their cash flow by choking their suppliers. Pushing payment terms out further and further passes the misery down the chain so that one person’s meat truly is another person’s poison.

The cynical view from large companies is that if this means that smaller suppliers go belly up, so what? There will always be other suppliers stepping in to fill up the gaps left by the fallen. First World War generals had a similar philosophy about the waves of soldiers they sent over the top. In a dog eat dog world this is perfectly understandable, but it does nothing for any public company’s brand, nor for any claim it might wish to make about being a good corporate citizen.

The problem gained sufficient prominence for the previous Government to introduce legislation facilitating the claiming of interest on late payments, but this is like selling last minute insurance on the decks of the Titanic. It’s nice to have, from the supplier’s perspective, but it rather begs the question of whether you are going to survive long enough to make the claim from your slow paying client.

I recently interviewed Keith Richardson, Relationship Director in Lloyds Banking Group’s Major Corporate section on working capital issues for a feature on retail. He pointed out that finance directors of supply chain companies need to look at a wide range of different financing options and they need to plan ahead so that they are getting finance when they want to, not when they absolutely have to. One of the most advantageous short term sources of finance is supply finance. This is a deal negotiated by the big retailers with their banks on behalf of those of their suppliers who want to participate.

Supply finance is a mirror image of invoice finance, which is where a company raises money on its debtors ledger. In invoice financing the bank advances the company 80% or possibly 85% of the value of every invoice the company raises, and it advances the money immediately, as soon as the invoice is raised. This accelerates the flow of debtor cash to the company.

Similarly, with supply financing the bank gives the supplier the cash immediately the supplier raises a valid invoice. The big difference with invoice discounting is that the surety for the bank for all the suppliers in the agreement is the single large company that they are all supplying, not the viability of the small supplier. The deep pockets of the client, in this instance, are what makes it possible for the bank to feel confident in extending credit to what may be quite small supply chain companies.

“Where a big retailer, for example, might usually pay invoices in 60 days, with supply financing, the suppliers get their cash straight away. The retailer sends the cleared invoice through to the bank, together with a note to the effect that it intends to pay the invoice in 50 days. The bank then advises the supplier that the invoice has been cleared by the customer and they can either wait 50 days for their cash or get it immediately for a small charge,” Richardson says.

From the retailer’s perspective, they are not actually speeding up their payments beyond their usual terms. The bank’s risk lies with the retailer, not with the individual supply companies and the suppliers are getting debt financing at a price, in terms of percentage points over LIBOR, that would never be available to them considered solely on their own financial merits. (The buyer is not only much bigger than the supplier, it generally also has a far better credit rating, which means the interest it pays for its debt is far less).

Even more important, supply financing is a new source of financing for the supplier. It does not impact their existing overdraft or working capital arrangements with their existing bank. At a time when many companies find cash hard to come by, talking to their larger clients about implementing supply finance could be very worth while.

Further reading on supply financing and raising capital:

Tags: banking , corporate financing , economic recovery , supply finance , trading
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