A Financial Reckoning is Coming for Supply Chains. Here’s How You Can Stay Ahead

The last three years have been a challenging time for global supply chains. COVID-19 shuttered factories and disrupted the delivery of goods. Russia’s war on Ukraine drove raw material prices up and availability down. At the same time, geopolitical tensions between the US and China have intensified. For instance, in October, the US banned the sale of advanced chip manufacturing equipment to China.

Over the last three years, as these disruptions emerged and evolved, countless decisions were made in the interest of survival. Cost became an afterthought, and only the outcome mattered. Now that some of the dust has settled, all of that is changing. Finance teams are taking a stronger stance in the supply chain, and the cost is once again at the forefront of decision-making.

The More Things Change…

Some of the challenges in recent years are familiar. Some are not. In both cases, the outcome results in risk and uncertainty for global supply chains, something that can easily translate to elevated costs.

Global supply chains are shifting as companies adapt to new, more contentious power dynamics. Relocating manufacturing from China to Vietnam, Malaysia and other Southeast Asian nations is expected to increase as the East and West decouple. Consequently, industrial land prices in Vietnam are increasing, and there’s a revival of manufacturing in Malaysia and a surge in demand for low-wage workers in India. Moving out of China when the country is reeling from its slowest economic growth in decades will take its toll.

Meanwhile, China remains steadfast in its plan to reclaim Taiwan, which could result in a war involving the United States and its regional allies. Ninety-two percent of the manufacturing capacity for the world’s most advanced chips is concentrated in Taiwan; the remaining eight percent is in South Korea.

Global supply chain ecosystems are growing more complex, especially for multinational companies that work with suppliers worldwide. The health of a global supply chain is typically measured in financial terms by revenue and profit. However, another relevant indicator is how efficiently capital flows between buyers and suppliers. Slow-moving capital, like slow-moving inventory, creates unnecessary costs and inefficiencies in the supply chain.

Finance’s Evolving Role in Supply Chain Management

As the global manufacturing landscape shifts, supply chain risk increases. In addition, strong demand and unstable supply costs since 2020, driven mainly by the COVID-19 pandemic, have created challenges for cash management. Consequently, managing supply chain disruptions and balancing organizational risk and capital flows are shifting to the finance organization and the chief financial officer (CFO). This is the case for companies of all sizes and industries.

Supply chain finance can be defined as a set of solutions that improves cash flow by allowing businesses to optimize their payment terms to their suppliers and provide an option for their larger suppliers to get paid more quickly.

Managing working capital is critical for every business, but its importance is elevated in an environment of global and regional economic shifts, industry volatility and geopolitical challenges. Fueled by working capital, global supply chains become more agile, innovative, and competitive even as market dynamics shift.

Specifically, supply chain finance improves cash flow by allowing buyers to optimize supplier payment terms. For example, increasing the time it takes to pay a supplier improves the buyer’s financial metrics, such as days payable outstanding and frees up cash that would otherwise be trapped inside the supply chain.

At the same time, supply chain finance offers suppliers a way to mitigate the effect of longer payment terms and accelerate their cash flow. Suppliers participating in such a program can get paid early, typically once the buyer has approved the invoice.

Depending on its financial position, the supplier can accelerate payment on some, all, or none of its receivables. In addition, the supplier pays a small finance charge or discount for receivables paid early. All of this occurs without negatively impacting either company’s balance sheet.

When done correctly, the accounting treatment for supply chain finance does not count as additional debt for the buyer or supplier. Since the buyer is the obligated party, financing is offered to the supplier at rates that are typically more favorable because they are based on the buyer’s credit history and rating. Access to a lower cost of funding is crucial for many suppliers and their customers. 

Understanding The Two Primary Methods of Supply Chain Financing

The first is the extension of supplier payment terms, where the buyer extends payment terms with all of its suppliers, for example, from 60 to 120 days. This dramatic slowdown of cash outflow gives the buyer access to more working capital.

The second tactic in supply chain finance is a counterbalance to the first. The buyer allows selected suppliers to get paid early by selling their invoices to financial institutions (or funders). This offsets the negative impact of longer payment terms on suppliers while enabling the buyer to meet its cash flow optimization objectives.

Invoice selling or trading is facilitated through a buyer-side implementation of a supply chain finance platform and program. In this program, buyers identify and invite target suppliers to participate in the program (usually based on the size of spend and the strategic value of the supplier). Once a supplier accepts the invitation, they are onboarded into the program, and its finance team is trained to use the processes and tools that will facilitate invoice trading.

They are also matched to a funding partner or financial institution. It’s important to note the critical role of a strong onboarding program and the availability of multiple funding sources in a supply chain finance program. The onboarding process should be efficient and straightforward. And access to numerous funding sources ensures the program can extend to all suppliers regardless of size or geography.

Participants in the Supply Chain Financial Ecosystem

  • Buyers: Typically, large organizations rely on many supplier-provided goods and services to deliver products for their customers. Buyers often operate on a global basis.
  • Suppliers: Companies that supply goods and services to buyers in the supply chain ecosystem. Some suppliers are large enough to also operate as buyers, having their own complex supply chains and the same need to optimize cash flow. 
  • Funders: Bank and non-bank sources of investment capital that advance funds to cover the cost of approved supplier invoices. 
  • Platform providers: Technology solution providers that facilitate the supply chain finance ecosystem and program management. Today, leading platforms are cloud-enabled, which does not require installing and operating specialty software systems.

Source: PrimeRevenue

How to Mitigate Risk in Supply Chain Finance

Supplyframe’s Commodity IQ offers four quarters of forward-looking supply chain intelligence for suppliers and customers that spans raw materials, passive and active components, machining and manufacturing operations, contingent labor, and transportation and logistics.

Updated quarterly, the platform delivers insights about market dynamics, pricing and lead times. In addition, it identifies market inflection points well in advance so suppliers and customers can dial in their buying and selling positions.

For example, if the price of DRAM rises, buyers can place purchase orders with suppliers to accelerate the purchase of the components to avoid a price hike. Early payment to the supplier lowers the cost. Alternatively, if DRAM prices are trending downward, the buyer can time the purchase further in the future to minimize the cost.

Commodity IQ is a powerful win-win tool for timing supply chain finance payments that lower buyer costs while accelerating supplier payment.

Elevate Your Intelligence

Download a sample commodity summary and see how Commodity IQ delivers the optimum balance of human and machine intelligence for the electronics supply chain.

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