While supply chain finance (SCF) programs are still relatively rare—only about 200 U.S. companies are thought to have them in place—such programs are gaining momentum in the wake of the financial crisis as companies seek to extend payment terms without putting suppliers at risk and, perhaps, even bolster their own income. A.J. Cederoth, CFO of Navistar International, a $13.9 billion manufacturer of heavy vehicles, says the company launched its SCF program this year as a way to strengthen its suppliers’ working capital. The program also fine-tunes payment terms, allowing Lisle, Ill.-based Navistar to focus on product costs in negotiations with suppliers.
“We have our platform up and running, and we’re working through the administrative and legal hurdles to bring more suppliers on board,” Cederoth says, adding that Navistar expects significant increases in the number of suppliers using the platform, including those in Latin America. “I definitely think suppliers are more interested in SCF than even a year ago,” he says.
Outdoor gear retailer Recreational Equipment (REI) is building a case to replace the sliding-scale discount program in its accounts payable platform with an automated SCF platform, though it has yet to choose a vendor to power it, says Russell Paquette, treasurer at the Kent, Wash., cooperative with $1.4 billion in 2011 revenue.
“SCF funding can help shore up temporary cash flow issues for the supplier while providing a discount to the buyer that, when annualized, eclipses what most cash-rich companies are able to earn on their short-term investments,” Paquette says.
In fact, companies increasingly view payables strategies such as SCF as a way to generate returns either indirectly, by freeing up working capital through discounts that result in earlier payments, or directly, in the form of fees earned for providing payables information to third parties that then offer early-payment-for-discounts deals to the suppliers. Cash-rich companies benefit, since they can pay suppliers in return for discounts while avoiding the cut taken by intermediary lenders.
“Now for large corporations, SCF is used as a liquidity management tool to generate yield from extra cash on the balance sheet,” says Shawn Taoufiki, director at REL Consulting.
In a “2/10 net 30” arrangement, for example, a supplier is paid in 10 days instead of 30 in return for giving the buyer a 2% discount. The buyer generates a 2% return on that sum over the remaining 20 days, which equates to a 36% annual rate of return.
“We advise our clients to take advantage of these early payment discount programs when feasible,” says Michael Stitt, executive director of trade and supply chain sales at J.P. Morgan.
Larger retailers were the first to adopt SCF and now manufacturers are setting up programs, Stitt says. “We’ve seen five times the level of inquiry in the last year than the previous four years.”
Robert Kramer, vice president of working capital solutions at PrimeRevenue, a bank-independent SCF provider, calls SCF early adopters the “visionary purchasers” because they crafted their own solutions from basic SCF systems. More recently, “pragmatists” want to buy a complete solution, often to support wide-ranging supplier initiatives, Kramer says.
Given the evolving cash management and risk management benefits of SCF, it’s not surprising that providers of treasury solutions have entered the arena, once the domain of procurement. Kyriba, for example, launched an SCF module for its treasury workstation in the U.S. in March.
In traditional SCF arrangements involving lenders, the bank essentially purchases receivables from suppliers and assumes the risk that the buyer doesn’t pay. Buyers can also enter SCF arrangements that extend payment terms much further out, freeing up working capital that can be put to more productive use.
Hanesbrands, for example, is piloting an SCF platform it built and expects to see an improvement of 40% in average days payable, says Donald Cook, treasurer of the Winston-Salem, N.C., apparel maker with $4.6 billion in 2011 revenue. Hanesbrands anticipates about 75% of its vendors will join the SCF program by year-end.
Cook says the automated platform integrates a U.S. bank and two large global banks, providing a financial solution for suppliers in the Americas, Asia and some Middle Eastern countries. “As all good treasury groups try to do, we’re sharing the wallet with our different lending banks,” he says.
A number of technology vendors, such as PrimeRevenue, Syncada, Ariba, Bottomline Technologies and Kyriba, include multiple banks on their SCF networks, which mitigates the risk from relying on a single bank and increases a program’s capacity to finance payables.
“We’ve chosen to go with a technology vendor and multiple lenders so we have diversity of funding,” says Navistar’s Cederoth, which uses PrimeRevenue. “We’ve found that suppliers prefer the technology vendors’ platforms because they’re more user-friendly.”
Even multinational banks may run into capacity issues when dealing with very large corporate customers that can have billions in payables outstanding. Rick Striano, regional head of trade and financial supply chain for the Americas at Deutsche Bank, says some buyers choose to establish multiple SCF programs to mitigate risk and capacity concerns. Deutsche has no plans to participate in competing platforms, Striano says, but is currently rolling out the “capability to invite other funding banks to participate in our programs.”
J.P. Morgan has been selling SCF assets to other lenders for a few years and has seen the number of banks interested in participating in such syndications increase significantly. “Whereas two years ago there were three or four banks participating in another bank’s program, now there are probably 20, and a year from now it will be closer to 40,” Stitt says.
Another recent trend involves companies offering dynamic discounting, automating a process that allows a supplier to agree to discounting at multiple points in the receivables lifecycle. SCF systems from banks and technology vendors increasingly offer some version of dynamic discounting.
SCF programs can also generate fees for companies that provide data on their suppliers and payables, an arrangement that PrimeRevenue offers on its platform.
“We’re paying them for access to their suppliers and the data from their internal systems,” says Kramer of PrimeRevenue, which pays marketing fees to buyers. “That data is very valuable because it gives suppliers and SCF funders visibility into future events, which they’ve never had before. This lowers costs and risks for all parties and enables funders to provide lower interest rates.”
For a discussion of whether some third-party supply chain finance arrangements could mean reclassifying payables as loans, see Supplier Finance Accounting Issues.