Unlocking Hidden Value: How Supply Chain Finance Boosts 7 Critical Financial Metrics

How Supply Chain Finance Boosts 7 Critical Financial Metrics

By Nathan Feather • Published May 11, 2023 • 7 minute read

Early payment programs, like supply chain finance, are primarily designed to unlock liquidity trapped in the supply chain. It enables companies to improve their cash flow by extending payment terms to their suppliers while offering their suppliers the option to get paid earlier through third-party financing at a nominal fee. The immediate benefit – the one that typically drives buyers to launch a supply chain finance program in the first place – is cash flow improvement.

One message we reinforce frequently at PrimeRevenue is that this benefit is not limited to the buyer. Suppliers also realize material cash flow improvements. In fact, in many cases, the benefit to the supplier can be just as (or more) meaningful to the supplier than it is to the buyer. For example, ECI, an electrical components supplier, claimed participation in its customer’s supply chain finance program was a financial lifeline during an economic downturn. The cash flow improvement was so helpful to their business ($25 million unlocked in accounts receivable) that they launched their own supply chain finance program a few years later.

But while better cash flow may be considered the “main draw” for supply chain finance, it’s not the only financial metric affected. The long-tail impact of supply chain finance benefits a long list of financial KPIs – all of which have a significant impact on the financial position of the buyer and supplier participants. Assuming cash flow is #1, let’s look at a few other metrics uplifted by supply chain finance.

#2 – Days Payables Outstanding

Your DPO represents the average time it takes to pay invoices from trade creditors, such as suppliers. A higher DPO typically equates to better cash flow. The challenge? According to industry benchmarks, most companies pay suppliers sooner than they should. If you pay your suppliers on day 30 while your competitor pays on day 57, you have less working capital available to invest in other areas of your business such as labor, R&D, paying down debt, etc. and are operating at a competitive disadvantage. Note that these requirements vary based on the economic climate. For example, the pressure to pay down debt is significantly higher right now than it was when interest rates were historically low.

When a supply chain finance program is backed by current industry DPO benchmarks, it ensures your company’s DPO is in line with best-in-class payment terms. For example, Genuine Parts Company used supply chain finance to increase its DPO from 39 to 135 days.

#3 – Corporate Debt

Over the last decade, the debt of nonfinancial corporations worldwide has grown significantly – from $46.63 trillion (USD) in 2009 to $87.38 trillion U.S. dollars in 2022. However, that trend is reversing now that interest rates are markedly higher. Companies are taking a more conservative approach and opting to repay their existing debt while being cautious about adding more debt to the balance sheet.

For many businesses, particularly non-investment-grade buyers and suppliers, taking on more debt isn’t an option at all as the lending climate becomes more restrictive and economic uncertainty looms. This makes supply chain finance an attractive option in two ways. First, the cash flow gains generated by supply chain finance can be used to pay down debt. Second, these gains can offset the need to increase debt as companies seek ways to financially strengthen their supply chain and fund strategic initiatives. To really see the power of supply chain finance in action, check out how this global beverage company leveraged supply chain finance to pay down its debt by 15%.

#4 – Interest Expense

Corporate interest expense has been hit with a double whammy over the last few years. First, the obvious – higher interest rates have made traditional commercial lending more expensive thereby driving up interest expense. The second are changes to tax law. In the U.S., tax law changes enacted in 2018 and 2022 limit the amount of taxable income that can be offset by interest expense deductions for certain businesses.

As mentioned earlier, the free cash flow gains provided by supply chain finance can be used to pay down debt, which in turn reduces interest expense. For example, a company with $2.57 billion in net debt has an average cost of debt at 6.5 percent. The potential free cash flow gain for their program is $550 million. If that cash is used to pay down debt, the interest expense avoidance would be approximately $35.75 million.

#5 – Leverage Ratios and Interest Rates

File this under the waterfall effect of using supply chain finance to pay down debt. Minimized debt, either by having the liquidity on hand to pay it down or not needing to accrue additional debt, leads to a lower debt to equity ratio. Also known as leverage ratio, this refers to the amount of debt a company has in comparison to its equity. A lower debt to equity ratio indicates less financial risk and a greater ability to financially weather economic volatility. It also indicates greater financial flexibility as the business may be able to invest in new projects, expand operations, or make acquisitions without having to rely heavily on debt financing.

#6 – Credit Rating

Using supply chain finance to reduce debt and improve leverage ratios can ultimately lead to a more favorable credit rating. For example, one PrimeRevenue customer had a BB- credit rating and was facing $6 billion in leveraged buyout debt. In three months, the company’s supply chain finance program generated $750 million in free cash flow that was used to pay off a significant portion of its debt. As a result, S&P upgraded the company’s credit rating three times.

#7 – Enterprise Value

Freeing up material amounts of capital can significantly improve a company’s value to investors and boost investor sentiment. That’s a powerful benefit in any economic climate, but it’s particularly important during times of market volatility. The last few years have taught us how supply chain vulnerabilities can affect consumer and investor confidence.

Early payment programs like supply chain finance have a critical role to play in improving financial resiliency in the supply chain, especially for vulnerable suppliers. Here is what one supplier participating in Volvo Cars’ PrimeRevenue-led supply chain finance program had to say:

“At the beginning of the pandemic, Volvo Cars had to temporarily suspend its Chinese operations which put a significant strain on our cash flow. New orders were stopped as well, which paused our ability to be paid for part of our previous supplies…Without timely support from both Volvo Cars and PrimeRevenue, I’m not sure we would have been able to survive those first few months.”

Positive Outcomes Beyond Cash Flow Improvements

The benefits of supply chain finance to both buyers and suppliers are numerous. The uplift to key financial metrics can powerfully impact fiscal health and supply chain resiliency. We’ve seen more of these benefits become visible in the current economic landscape where companies are fighting for every financial advantage they can secure. If you’re considering supply chain finance as a financial resiliency tool for your business, remember – cash flow improvement is just the beginning!