Karen Lines explores the topic of supply chain finance to highlight the importance of educating all staff involved in the supply chain. Find out more about supply chain finance in our trade finance qualifications.
Supply chain finance (SCF) has been high on the agenda of many businesses in recent years and is often seen as a “win win” scenario for the parties involved. This is generally rare in finance structures but SCF has clear advantages for both the buyers and sellers involved in a transaction.
So, what is SCF?
The term has been around for some time but historically definitions have varied considerably, and there has been little consistency across the range of solutions and products available in the market. A positive development this year is that the ICC published the ‘Standard definitions for techniques of supply chain finance'
in April 2016, which aims to introduce a consistent and common understanding and has provided a useful reference point for the industry.
The guide states: “Supply chain finance is defined as the use of financing and risk mitigation practices and techniques to optimise the management of the working capital and liquidity invested in supply chain processes and transactions. SCF is typically applied to open account trade and is triggered by supply chain events. Visibility of underlying trade flows by the finance provider(s) is a necessary component of such financing arrangements which can be enabled by a technology platform.”
In practice, SCF provides solutions to bridge the gap between the needs of the supplier who wants to be paid as early as possible and the buyer who generally wants to delay payment to improve cash flow. This issue is common in trade and often leaves suppliers without funds to meet ongoing expenses and having to borrow to plug the gap in their trade / cash conversion cycle.
What are the benefits of a SCF solution?
There are several benefits to the supplier from an SCF solution; firstly, they can be provided with the option to seek earlypayment as a means of raising working capital. Particularly for smaller companies this can be very attractive as this finance is not subject to their own financial standing and can often be available at cheaper rates on the strength of the buyer’s creditworthiness as opposed to traditional methods such as overdrafts. In addition, any of their own credit lines can be available for other purposes or to improve balance sheet strength.
Other benefits include the ability to manage cash flow more effectively as invoices will be paid on time by the buyer’s bank. Reconciliation and management information can also be enhanced if the solution used provides consistent remittance information.
Going back to the “win win” scenario, there are also benefits to the buyer and a key driver is achieving better commercial terms without negatively impacting on supplier relationships and ensuring they remain financially viable. The supply chain can also become more resilient during uncertain times as key suppliers have greater financial certainty, this is particularly important when buying from emerging markets where local financing can be difficult and expensive to secure. Other benefits can include operational improvements through streamlined processing leading to lower supplier queries and associated costs.
Despite the positives highlighted above for both parties, establishing and ensuring utilisation of SCF facilities is not a simple process. Key challenges include the choice of programmes available and the number of stakeholders within an organisation that have a vested interest such as treasury, procurement, legal, accounting, audit and IT departments. Companies are also faced with the decision as to whether a single or multi bank solution is the best option to implement.
The first step to establishing an effective SCF is articulating what the company wants to achieve and communicating the chosen strategy to the multiple stakeholders in the business, it is vital that finance and procurement are aligned in the objectives of any program. Once the strategy is clear, service and product providers can be chosen and an implementation plan can be agreed.
SCF programs are not necessarily a quick win (or win win!) but they can strengthen global supply chains and also release working capital that has been historically tied up, and in today’s world “cash is often king”.
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