Setting the Record Straight on Supply Chain Finance

Since the beginning of trade, the basic negotiation points of any purchase have been the same: what is the price, who owns the goods, when/how does ownership transfer, and when/how will payment take place. The purchaser wants the lowest price and to pay as late as possible in the manner that is easiest for them, and the seller wants to receive payment as quickly as possible. Both parties want all of this to occur while simultaneously guaranteeing a reliable flow of quality goods.

Supply chain finance tackles the last of these negotiating points – when and how payment is made. Take a small or medium sized supplier of goods, for example. They have negotiated price and title transfer terms that work for their business, and they have managed to get their customer to agree to 60 day payment terms. Depending on the industry, these terms may be reasonably standard, the result of fantastic negotiating, or maybe just an act of God.

In any event, the supplier still has obligations to meet before receiving payment from their customer – things like buying inventory, paying rent, paying employees, etc. The question is how they can convert accounts receivable (what’s owed for what has already been invoiced) into cash to meet those obligations.

Most small or medium sized businesses have a few options:

• Equity – This is generally accepted as the least efficient and most costly option.
• Bank Loan or Line of Credit – If the bank is willing to lend a loan, it will likely need to be secured by the assets of the business. If a company trends more toward the “small” side, it may even need to be secured by personal assets.
• Factoring – This will often carry a high rate of interest, will likely carry strict rules and limits and will usually advance only 70% to 80% of the value of the A/R. It’s also likely that late payment or dilution could force a supplier to repurchase some of the invoices.
• P-Card – A p-card program allows suppliers to be paid within a couple of days of when an invoice is approved, but it can be expansive. Typical rates range from 2% to 3% of the face value of the invoice to accelerate payment from Day 60 to something like Day 10, which translates to roughly 14% to 21% per annum. It’s expensive because there are a lot of mouths to feed in a typical p-card transaction, including the purchaser who will usually receive rebates from the issuer for one-half to one-third of the total transaction cost!
• Traditional Dynamic Discounting – A traditional dynamic discounting program gives suppliers the opportunity to get paid earlier in exchange for a discount on the invoice. The discount rates sought in a traditional dynamic discounting arrangement can be very high. Note – this is different from the non-traditional dynamic discounting solution offered by PrimeRevenue, which provides the benefits of early payment without the high discount rates associated with traditional dynamic discounting. Our solution offers suppliers competitive rates that are on par with what we offer through supply chain finance (more on that below).

None of these traditional options are particularly attractive and they can all come at a high cost to the supplier.

Supply Chain Finance – A Much-Needed, Better Option for Suppliers

Supply chain finance provides suppliers the option to get paid as soon as an invoice is approved. Payment is disbursed electronically to the supplier’s bank account and covers 100% of the invoice value, minus a nominal fee. Transactions follow a true sale of receivable structure and all risk of collection or late payment is transferred to the financial institution. Full transaction details are provided to allow for cash application and reconciliation which ensures trade payables classification and no negative impact on the balance sheet. Even better, suppliers have complete flexibility to choose whether or when to advance payment.

Supply chain finance is a far more efficient source of financing than any of the alternatives available to most suppliers.

Buyers are generally going to be incentivized to stretch payment – they have strategic initiatives, investors looking for returns, and uses for cash as well. But, without supply chain finance, this only pushes the burden and risk further down the supply chain. When properly implemented, supply chain finance is a true win-win situation for buyers and their suppliers. The buyer can generate excess cash to invest and grow, which is ultimately a benefit to suppliers. At the same time, they can give their suppliers an extremely efficient process to accelerate their own cash flows.

Separating Bad Apples From the Bunch

Unfortunately, we live in a world where negative news tends to overshadow the positive. In the last few years, a handful of illegitimate supply chain finance programs have garnered media attention. Generally, these programs shouldn’t be defined as supply chain finance. Rather they are some sort of complicated financing structure that the sponsor tries to call supply chain finance. Just because an organization calls it “supply chain finance” doesn’t make it so.

Let’s be clear. Responsibly implemented supply chain finance should be a transparent, low-risk solution that provides mutual benefits to all parties involved. The supplier sells their rights and interest in the receivable to a funder, typically a financial institution. All of the risk should be transferred to banks, who are well equipped to manage and monitor credit risk. Further, the arrangement should have no negative impact on the buyer or supplier’s balance sheet.

At PrimeRevenue, we champion ethical programs that are rooted in transparency. Our programs follow a direct funding model, so buyers and suppliers know exactly who is funding the program and where the money is coming from. All transactions deal exclusively with approved invoices and we fully support disclosure of supply chain finance.

So, let’s set the record straight once and for all. Observers that conflate properly run supply chain finance with non-legitimate programs are creating an inaccurate perception of supply chain finance – one filled with fear, uncertainty, and doubt. Supply chain finance is tremendously beneficial to all participants, particularly small and mid-sized suppliers whose funding options are limited.