by Miguel Silva Gonzalez, Senior Vice President and Treasurer, Delhaize Group
In recent years, particularly since our CFO, Pierre Bouchut, joined the business in 2012, we have taken a proactive approach to increasing free cash flow across the business. We benchmarked our EBITDA, capital expenditure as a percentage of sales and working capital against competitors, and found that Delhaize’s EBITDA margins are amongst the highest in the sector, with capital expenditure as a percentage of sales also broadly in line with our peers. However, this benchmarking process illustrated the need for improvements in working capital performance, with median net working capital of 2.4% of sales over the preceding three fiscal years. This compares with a negative net working capital position amongst most European food retailers.
Identifying opportunities
As a retail business, collections are straightforward, as they are done at point of sale. Therefore, our primary focus has been on inventory and payables management. One of the most obvious ways of improving working capital performance is to extend payment terms; however, while this would meet our working capital objectives, we also recognised the negative impact on our suppliers’ working capital. Therefore, we wanted to devise a solution that would allow us to meet our working capital objectives at Delhaize, whilst also recognising our responsibility to suppliers, therefore creating a ‘win win’.[[[PAGE]]]
We decided that a supplier financing solution (also known as reverse factoring) would achieve this. By introducing a bank to purchase supplier receivables, we could decouple Delhaize’s payment date from a supplier’s collection date, offering both parties the potential to manage their working capital more precisely. The process of supplier financing takes place as follows:
1. Supplier sends invoice to Delhaize (day 1)
2. Delhaize approves invoice and sends file to bank (day 5)
3. Bank notifies supplier of approved invoice (day 5)
4. Supplier sells invoice to bank (day 5)
5. Bank discounts 100% of the receivable an pays the net discounted value to the supplier (day 5)
Quantifying the value for suppliers
The benefit of extending payment terms for Delhaize is clear, but the value proposition for many suppliers is equally compelling. Due to the credit arbitrage as a result of the difference in credit rating between Delhaize and our suppliers, which are often smaller businesses, they can typically gain access to credit at a more competitive rate than they would be able to achieve independently.
To give an example, assume an invoice value of €500,000 with 30 day payment terms. An indicative supplier’s existing cost of financing could be Euribor plus 3.5%. In contrast, the supply chain finance rate could be Euribor plus 1.5%. The cost of carry for the supplier is therefore (say) 30 days at 3.6%, totalling €1,500. In contrast, by using the supplier finance programme, the supplier’s cost of carry for 30 days at 1.5% is €667. For the same cost of carry for the supplier, Delhaize can extend its payment terms to 67 days; however, if the supplier chooses to receive earlier payment, it can reduce its cost of carry dramatically. In this example, payment in five days would result in a cost of carry of only €110, a saving of €1,390 compared with the 30 day cost of carry before introducing the programme.
The benefits are not restricted to small suppliers with little or no access to credit; we soon found that larger suppliers for whom there is less opportunity for credit arbitrage were also attracted to the working capital benefits that joining the programme offers.
Balancing local and global requirements
Originally, we had planned to set up the supplier finance programme with a single bank. However, as we operate in both Europe and the United States, we decided it was preferable to set up multiple programmes to reflect the diverse legal, market and cultural conditions in each market. This applies not only across continents, but also within Europe, such as the differences between the Eurozone and Central & Eastern Europe. We recognised that suppliers would be more likely to join the programme if they were familiar with the banking provider, which is not easy to achieve with a single bank across every market, particularly when looking across continents. We therefore selected four banks to offer supply chain financing in our key markets, including United States, Belgium, Romania and Greece. By doing so, we were able to appoint banks who had strong local market knowledge, including an appreciation of the funding dynamics in each market, such as the local cost of carry for suppliers.
Global rollout
We started with Belgium and the United States in April 2012, and went live in each case in September 2012. In June 2014 we added Romania. We are also rolling out pilot programmes in Serbia and Greece. We worked with the bank in each case to segment the supplier base, and targeted our communications accordingly e.g., supplier events, mailings and one-to-one discussions as appropriate. Wherever feasible, we have combined discussion of the supplier financing programme with commercial negotiations on pricing and payment terms, particularly for more strategic suppliers. This made the process more efficient and enabled us to have more meaningful conversations with suppliers based on actual rather than theoretical figures.
Addressing challenges, ensuring success
Inevitably, later programmes have been easier to implement as we have learnt lessons along the way, particularly how best to ensure internal, as well as external buy-in. In addition, we could take advantage of the preparatory work that had already been done, such as supplier marketing materials, contract templates and system changes. We made the decision to stop our US programme, as firstly, we had already made the working capital gains we were seeking by optimising our internal processes, but secondly, supplier financing is less common in the food retail industry in the US compared with industries with a longer supply chain. Furthermore, the regulatory environment in the US is more constrained, with more restrictions on payment terms.
From our experiences, however, there are five key factors in ensuring the success of a supplier financing programme:
1. Obtaining buy-in
While external buy-in is clearly essential to success, it is equally important to ensure support from internal stakeholders. This is easier to achieve with senior management sponsorship, which helps to ensure alignment across business functions. For example, finance and treasury, procurement, accounting and legal, and operations/ IT, each of which have their own strategic and operational objectives, are all impacted by the introduction of a supplier financing programme, Gaining support from each of these functions was not only critical to the successful rollout of the programmes, but there were associated benefits too. For example, implementing supplier financing was a catalyst for introducing improvements into our purchase-to-pay process, and also helped to align key performance indicators within the organisation to support working capital objectives.
2. Creating a strong business case
While the financial business case for suppliers (as well as Delhaize) is potentially compelling, the appetite for supplier financing will depend on a range of factors, including the supplier’s cost of carry and working capital position, as well as the legal and cultural environment. The right banking partner can be instrumental in helping to segment the supplier base and identify both the target supplier groups and the best way of demonstrating the ‘win win’ to these suppliers.[[[PAGE]]]
3. Appointing the right financial partner(s)
Working with the right bank or banks is essential to the success of a supplier financing progamme. We found that there were a variety of criteria when selecting the right banking provider:
Local presence
- Ability to reach out to suppliers in their local language, including documentation
- Broad in-country client base and trusted brand name for suppliers
- Knowledge of local market practices and pricing
Market intelligence
- Spend analysis and benchmarking capabilities
- Realistic assessment of the potential and constraints associated with a programme
Systems and purchase-to-pay (P2P) knowledge
- Comprehensive knowledge of P2P process and credit note complexity
- Ability to contribute to P2P impact discussion
- Flexible systems that can accommodate future change
Partner for procurement
- Affinity with the supplier base and industry of the onboarding staff
- Hands-on approach to support supplier adoption
- Disciplined approach to implementation including weekly progress calls with procurement and accounts payable teams
Efficient documentation
- Succinct, consistent documentation for relevant activities and countries that is acceptable to auditors and does not require lengthy negotiation
- Efficient documentation for suppliers and KYC requirements
4. Defining an appropriate timeline
It was essential to focus our efforts on the supplier segments where the value proposition was greatest for both suppliers and Delhaize to create ‘quick wins’ whilst also structuring the timeline around the negotiation cycle with suppliers. Keeping the momentum going beyond the first group of suppliers is very important to maximise the benefits.
5. Structuring a global approach
While there may be benefits to some companies in appointing a single provider globally, there is a careful balance to be reached between local knowledge and presence with the convenience of a global programme.
A successful outcome
We have successfully achieved our working capital objectives, which would have been far more difficult to achieve without introducing the supplier financing programme. The theory of supplier financing is compelling, but moving from theory to practice can be challenging given the diversity of objectives amongst internal stakeholders, the variety of external supplier perspectives and the regulatory and cultural constraints in different markets. However, with senior management sponsorship, the right banking partner(s) and a realistic, commercial approach to supplier onboarding, supplier financing can play a valuable role in achieving working capital objectives both for the originating company and its suppliers.
