The prospect of economic recovery is bringing innovation and growth to programs that help supply chains maintain critical links by supplying flexible enough liquidity to weather contractions and meet the increased demand that could come with an expansion.
Such innovation is filling in cracks where assets traditionally have been denied financing. UPS Capital is a niche player that saw an opportunity to move into supply chain finance (SCF). The subsidiary of Atlanta-based United Parcel Service is leveraging its possession of goods in transit and information about those goods into a program that will advance cash for goods being shipped via UPS, generally from foreign suppliers to U.S. buyers using ocean freight. The company has a similar program for inventory held by U.S. companies in foreign countries.
These two areas have generally been ineligible for asset-based financing, explains Mark Robinson, senior managing director for UPS Capital Supply Chain Finance. "If we have possession of the goods in transit or in foreign warehouses and if we have all the information lenders require, we can open the door to liquidity in cash-intensive activities where financing has been difficult to get," Robinson says. In these cases, UPS Capital provides some of the funding but most comes from partner banks, he notes.
Once a foreign supplier's goods are packed for transport, the container is turned over to UPS for shipping, and UPS has the bill of lading and other shipping documents, the goods may become eligible for advances. The lending margins, Robinson says, are "attractive."
Financing is also starting to appear for transactions prior to invoice approval. Usually third-party lenders entered the supply chain finance business to offer early payment to suppliers once invoices had been approved by the buyer, but now some growth is occurring in upstream activities such as inventory finance or pre-shipment finance, reports Shawn Taoufiki, source-to-settle practice leader at REL, a supply chain consulting division of the Hackett Group, an Atlanta-based performance benchmarking company.
"There are challenges, particularly for U.S. banks, since they are legally barred from owning trade inventory on behalf of other parties, but banks are working with freight forwarders or logistics companies to circumvent those barriers," Taoufiki says. Banks are also getting more involved in automating purchase order and invoice processing so that they see the data they need to make credit decisions, he adds.
More in the mainstream, companies like $4 billion Hanesbrands in Winston-Salem, N.C., are capitalizing on their opportunities both as buyers and as suppliers. In the honeymoon period following its 2006 spin-off from Sara Lee, Hanesbrands paid its suppliers in less than 30 days. Then the highly leveraged enterprise moved to hard-line 55-day terms. (The CFO must approve quicker payments.) When its mostly Asian suppliers complained, Hanesbrands worked out one-off arrangements with HSBC in which the bank pays approved invoices more quickly in return for a discount. Now Hanesbrands treasurer Rick Moss is working to expand that ad hoc solution into "a standardized, global program.
"When we renegotiated our revolver last December, we did a carve-out of $150 million for a supplier financing program, so we laid the groundwork," Moss explains. "The challenge for a global program is all the local regulations. You often need a presence in the suppliers' locale."
As a supplier to Wal-Mart and Kohl's, Hanesbrands takes advantage of the retail chains' supplier financing programs to the fullest, Moss says. "Since we have $2 billion in debt, it's a no-brainer for us. The cost of that financing is below our normal cost of funds, so we automatically discount all invoices as soon as they become eligible."
But Hanesbrands also has a receivables securitization program, so it doesn't aggressively push more customers to offer financing. "Our securitization program is working well, so we'd need to see a compelling reason to take receivables out of that program to use a direct customer program," Moss explains.
Revere Industries, a Toledo, Ohio, maker of ejection-molded plastics, uses a program sponsored by Whirlpool, a major Revere customer, to finance Whirlpool receivables, says CFO Jim Crews.
Revere avoids factoring because it's more expensive and can result in problems with bank lenders regarding collateral title, Crews says. With Whirlpool's SCF program, which he accesses via the Web site of PrimeRevenue, a multibank supply chain finance provider, it's a clean transaction. "PrimeRevenue has no recourse to Revere if they have a problem collecting from Whirlpool," Crews notes. Because Whirlpool's credit status held up well during the recession, Revere had no problems getting all the advances it wanted, he adds.
Crews has used different banks in the program but only one at a time. Each bank has its own legal agreements, but the language and the rates are quite consistent from bank to bank, he reports.
Not every company sees an advantage to involving banks as profit-making middlemen. "We looked at several proposals from banks but it turns out that the discounts we get from paying our suppliers earlier made more sense for both parties since we have the liquidity anyway," says Robert Yenko, Intel's assistant treasurer.
Necessity is still the mother of invention. Supply chain finance thrives in chains where suppliers are in dire need of cash and buyers are eager to extend terms. The incentive to employ supply chain financing is strongest when the suppliers are capital-intensive businesses with a lot of working capital tied up in raw materials and inventory, says Kurt Albertson, procurement advisory practice leader at the Hackett Group.
Buyers are rationalizing their supplier base and reducing suppliers, so supply chains involve fewer players with greater dependency, reports Bob Kramer, vice president of working capital solutions at Atlanta-based PrimeRevenue. Companies generally offer financing to suppliers of direct materials, those used to manufacture products, and enroll suppliers of lower-value goods in purchasing card programs, which may allow them to be paid quickly in exchange for a discount with a bank's money.
While supply chain finance programs are growing, penetration is still low. "The potential is great," notes John Ahearn, global head of trade financing at Citigroup. Ahearn estimates that only about 1% of global B2B transactions are currently covered by supply chain finance programs.
Since the great credit crunch began in 2008, supply chain finance programs have gained favor with buyers, sellers and banks, but the trend has been to diversify funding sources. Tight credit, which increased the cost and decreased the availability of credit, further spurred demand for supply chain financing, especially as large corporates continued to extend supplier payments, Kramer reports. With cash hoarding rampant, demand for bank financing increased. Banks, in many cases, lowered their credit limits on individual buyer companies but continued to find the credit risk and the lending spreads attractive. Financing had to be spread among a greater number of banks, but the funding never really dried up, he reports.
The credit crunch brought a spike in the demand for SCF among corporate buyers and sellers and a contraction in lending by banks, reports Mike McDonough, executive director of the global trade finance group at J.P. Morgan. "Demand went through the roof," McDonough says. "Supply was provided on a case-by-case basis."
Some lenders cut back their exposure to struggling names like General Motors and Chrysler, which had large SCF programs. Other banks saw it as an opportunity. There are no reliable statistics about total program outstandings, but McDonough's hunch is that total program volume "expanded substantially in the past two years."
At the same time, the alternative of asset securitization faded for many would-be issuers. The mortgage-backed securities debacle unfairly tainted all asset-backed securitizations, hurting the ability of suppliers to securitize their receivables, Citi's Ahearn notes. On top of that, tighter restrictions on the holdings of 2(a)7 money funds have dampened the funds' appetite for receivables-backed paper, and FASB 166 and 167 changes have made it harder to get off-balance-sheet treatment for receivables financing, he explains.
As bank-funded programs get larger while banks remain cautious about credit risk, one-bank programs are becoming multibank programs, with structures that look a lot like lending syndicates, McDonough reports. "A $500 million program may be too large for one bank's balance sheet," he says. "To bring the needed liquidity, other banks are being brought in."
Players like Orbian and PrimeRevenue already had multibank platforms, which initially took market share from the proprietary bank platforms. But now banks are providing their own multibank solutions to compete, McDonough reports.
In programs like PrimeRevenue's, the supplier can sometimes pick a bank or banks with which to arrange discounted payments, but there's nothing like an auction to help find the best rate. In fact, rates tend to vary little, Kramer reports. However, Ahearn notes that some buyers have created quasi-auction facilities where suppliers can shop for the best deal among several banks in a program.
The buyer-sponsored programs provide guaranteed funding for approved invoices to suppliers eligible for the program, Ahearn explains. There are also plenty of receivables financing programs that aren't buyer-sponsored and aren't guaranteed. The factor, lender or investor picks which receivables they will fund. On The Receivables Exchange, for example, a company can put a group of receivables up for auction at a Web site. Investors bid to buy them, which means the seller gets top price, but there is no guarantee that a receivable will sell. "You could put 100 receivables up for bid, but only 50 of them might see action," Ahearn notes.