Supply Chain Finance – a panacea for cash flow problems?

Supply chainThe background

Supply chain finance has come to mean many different things to many different people.  It can be a simple catch-all term for a Trade Finance facility linked to an Invoice Finance facility.

If you search for Supply Chain Finance on Google, you will see there are many alternative definitions.  The Wikipedia entry is as follows:

‘Global supply-chain finance refers to the set of solutions available for financing specific goods and/or products as they move from origin to destination along the supply chain. It is related to a quickly growing use of a battery of technologies and financial business practices that allow for dynamic payables discounting.’

Interestingly there are no references on the page.

One of the most common methodologies is where a large Company (Bigco) has a range of smaller suppliers (Smallco) who trade on credit terms.  These terms can often be onerous and even extended at short notice.

Bigco agrees a deal with a provider of finance to fund invoices from Smallco once they have been passed for payment.  Smallco can then receive immediate payment from the funder, at a discount.  (This is also known as reverse factoring)

Bigco argue that these facilities help Smallco with any cash flow problems they may be experiencing in working with Bigco.

In many cases Smallco is at the mercy of Bigco, to whom they provide a significant proportion (or in some cases all) of their production, and is therefore powerless to negotiate shorter credit periods to help them with these cash flow problems.

It is also widely recognised that Bigco will often arbitrarily extend the agreed credit terms due to the lack of Smallco’s bargaining power.  An article in the Sunday Times recently reported that J Sainsbury has been named and shamed by the Forum for Private Business after informing non-food suppliers that it was extending payment times from the standard 30 days to75 days!!

Supply Chain Finance facilities, as described above, are often initiated by Bigco after an approach by the funding provider, and can even make provision for a part of the discount margin to be paid to Bigco in exchange for access to their suppliers!

A solution or an excuse?

It is now very interesting to note that the Government have become involved in ‘Supply Chain Finance’.  A headline in the Daily Telegraph on 23rd October read:

David Cameron heralds ‘win-win’ finance scheme for business

David Cameron is championing a new scheme called “supply chain finance”, which could slash the interest rates on working capital for small business.

At a meeting in Downing Street, he will try to persuade FTSE 100 companies to sign up to the innovative practice pioneered by companies such as Vodafone and Rolls Royce.

The previous government tried, without success, to ease the problem of late payment with the Late Payment of Commercial Debts (Interest) Act of 1998, as amended and supplemented by the late payment of commercial debts regulations 2002.  This legislation allows for interest to be charged on overdue debt, but is rarely used, probably for fear of upsetting a key customer?

It could be argued that, on the one hand, this current government intervention is a further attempt to improve the availability of funding to the hard pressed SME, using the power of the cash rich balance sheets of Bigco, which in itself is to be applauded.  With the Funding for Lending scheme, the Treasury and the Bank of England have already in effect given the Banks a blank cheque to lend to Smallco, at competitive rates, without adversely affecting their Capital Ratios.  It appears this has yet to make an impact.

 On the other hand there is a strong argument that these proposals are simply giving a green light from government to Bigco, to not only extend their already onerous credit terms, but to get Smallco to pay for it and even possibly take a share of this additional payment!

‘The best thing companies can do to help their suppliers is to stop late payment’ commented Phil McCabe of the Forum of Private Business following this announcement.

We would agree.  What do you think?

Image by: MyTudut