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Supply Chain Financing - What's Good for the Buyer is Good for the Supplier!

In the supply chain a push and pull exists between suppliers and buyers: suppliers need to get paid upon invoice maturity date or earlier to keep the supply chain moving. Buyers want to stretch the amount of time they take to pay suppliers in order to hold on to working capital longer. In the current economic downturn, the divergent pressures have increased drastically, but the risks to a buyer of losing a dependable supply of product at a reasonable price have also increased. This article explores a solution that may benefit both suppliers and buyers - Supply Chain Financing (SCF).

SCF is a tool that many suppliers and buyers are beginning to turn to in response to pressures to lower product costs while raw material, energy and labor costs increase. A main reason for the focus is due to the potential cost savings that can instantly be realized upon implementing SCF. PrimeRevenue, a trade management company, highlights the potential savings by noting that the US Federal Reserve estimates $6 trillion in payables are outstanding at any point in time, and the cost of financing that sum is equal to about four percent of the cost of goods sold in the United States.

So, what is SCF? It can be as simple as providing small loans, advances, or faster payment terms to the supplier. On a larger basis, the buyer may offer the benefits of its credit rating to a supplier to allow the supplier to get more favorable bank terms or to finance its receivables. PrimeRevenue suggests the following definition: SCF is a mix of technology solutions and services that links buyers, their suppliers and financing providers to improve the visibility, financing cost, availability, and delivery of cash when one or several supply chain events takes place.

Typically there are four parties involved: the buyer, the supplier, the financing institution and the technology provider. Of these four parties, the supplier/manufacturer probably needs SCF the most since the supplier has the longest gap between initial expenditures for materials and overhead until such time final payment is received from buyer.

SCF works most often under the assumption that the buyer has a higher credit rating than the supplier. "Through SCF, suppliers of all sizes can access financing based on the credit risk profile of the large buyer. This serves to both increase the availability and drive down the cost of financing for suppliers, reducing cost and financial risk throughout the buyer's supply chain" (IndustryWeek.com, October 20, 2008).

A big selling point for SCF is that, if done properly, all parties involved will benefit. Despite this fact, suppliers are wary of entering into SCF, since it is often being introduced by the buyer. Suppliers tend to doubt that buyers would champion a program that would give true financial benefits to the supplier. But buyers depend on their supplier's ability to keep the supply chain moving and if a supplier can't finance its part of the supply chain, buyer's sales are negatively affected. Aberdeen Group, a research firm, cites 5-10 percent cuts in unit cost procurement when buyers help suppliers get paid faster – at lower interest rates than using traditional bank advances; creating a win-win for supplier and buyer through SCF.

Susan Feinberg, Research Director of TowerGroup, a financial services research and advisory firm, listed the following as components required for SCF to provide benefits to all parties:

  • Electronic Invoice Presentment and Payment: the ability to exchange relevant trade documents electronically
  • Shared visibility of supply chain events (including procurement and logistics-related activities) through a portal that is accessible by buyer, seller, and financial institution
  • Availability of multiple payment timing and pricing options to the buyer, including early payment discounts and extended payment terms
  • Availability of multiple funding timing and pricing options to the seller that can be triggered at various points in the supply chain to support raw materials or inventory financing if needed
  • Integration with ERP systems for procurement, accounting, and treasury management purposes
  • One or more sources of funding that have an appetite to buy trade payables

How accessible is SCF? A wide range of both bank and non-bank financing providers offer supply chain financing solutions that leverage the buyer's credit standing and approved payables to pay the supplier earlier. Recent research published by Demica, a provider of working capital solutions, found that 90% of major international banks offer supply chain financing solutions. Domestic US banks are increasingly making the service available as well, including financial institutions that our Financial Institutions Team represents on an ongoing basis.

Feinberg provides the following summary and warning: SCF "...combines traditional financing techniques with new technology not only to lower the cost of capital for participants but also to provide a tool for more efficient processing of financial transactions and enhanced visibility, which can lead to improved forecasting and reduced risk. The new tools being offered share some basic characteristics, but not all SCF programs are alike. Key economic and cultural trends have led to heightened interest in SCF solutions. Participants in the supply chain wishing to take advantage of the new solutions must carefully examine and compare the benefits and costs of each as well as the providers' qualifications for understanding the supply chain activities involved."

Feel free to contact Bob Taggart, Brett Miller or Keith Bice on our Financial Institutions Team if you would like to learn about this relatively new financing alternative.

  • Partner

    Brett J. Miller serves as Co-Leader of the Federal Tax Team. He is a member of the firm's Tax & Employee Benefits Department and Real Estate Practice Group. Mr. Miller’s tax controversy practice focuses on both federal and state tax ...

  • Partner

    Keith Bice serves as a Partnership Board Member, focusing his practice on business and real estate debt, equity and acquisition deals. In his role as co-chair, Keith leads the group's attorneys in continually anticipating the needs ...

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