Supply Chain Finance (SCF) – variously referred to a Supplier Finance, Reverse Factoring, or Payables Finance has been hailed as a working capital solution that benefits buyers, suppliers as well as Financiers/investors. This alignment of interests ensures that all parties play their part in setting up the requisite structure for ‘selfish’ interest.
The current global environment occasioned by Covid-19 has created both a health and financial crises that has disrupted many a supply chain. This is forcing many companies to better manage liquidity and strengthen their balance sheet. SCF can often be an attractive way for companies to improve their working capital position. The key idea behind SCF, is to provide suppliers with access to advantageous financing facilities by leveraging the buyer’s stronger credit rating.
In this arrangement, the buyer can benefit from longer supplier payment terms and a reliable, financially robust supply chain while the suppliers benefit through access to accelerated cash flow at preferential interest rates. Hence SCF benefits the whole supply chain.
An article by Pricewaterhousecoopers (PWC) identifies the following as the principles of supply chain finance:
· The supplier benefits from having access to finance at a preferential interest rate linked to the buyer’s creditworthiness. To make this feasible, the buyer’s rating must be better than the supplier’s.
· The buyer introduces the supplier to the financing institution providing the SCF facility and terms of business are agreed.
· The buyer approves the supplier’s invoices and confirms that it will pay the financing institution for these at a fixed determinable future date.
· The supplier sells (discounts) the invoices to the financing institution at a predetermined discount rate and receives the funds straight away.
· The buyer pays the financing institution as agreed.
· In parallel to the SCF facility, the buyer is typically able to negotiate better payment terms and /or prices with the supplier.
To maximise the working capital potential of a SCF programme, PWC recommends that it should be part of an integrated ‘procure to pay’ (PtP) strategy and approach. This means that the buyer needs to have robust PtP controls in place, as well as making sure that its Accounts Payable team processes and confirms invoices efficiently.
They see the main focus areas of an integrated PtP to be:
- Invoice process optimisation – Confirm invoices as quickly as possible so that they become eligible for financing.
- Payment term enhancement – Optimised and standardised terms across the group.
- SCF framework – Provide a SCF finance facility for selected suppliers through an independent financing institution and specialised platform.
- Optimised supplier payment cycles – Group-wide payment cycles aligned to standard payment terms and a coordinated cash management strategy.
The following are the benefits accruing to different parties:
- Buyer Benefits:
- Free Source of working Capital which frees credit lines for CAPEX
- Reduced Supply Chain Risk
- Better trade terms with suppliers benefitting from easy access to liquidity
- Can lead to reduced inventories and re-order levels
- Lowe admin costs through automation of supplier payment processes
- Supplier Benefits:
- Access to early payment and improved working capital.
- Affordable finance leveraging buyer’s good credit rating
- Cashflow predictability and certainty
- Nore liquid balance sheet allows access to other forms of credit
- Financier/Investor benefits:
- Significantly reduced credit risk and reduced origination costs
- Stable returns through relatively short term exposures
- Non-Committed lines making it easy to reprice if need arises
- Relatively low-risk assets; attracting low economic capital requirements
- Wider benefits:
- Funded SME suppliers become stable employers
- Providing finance to the un-bankable as no evaluation of supplier is required
- Acceleration of local and cross border trade that could stimulate demand and consumption leading to enhanced economic growth