Published: June 02, 2012
The opportunities presented by supply chain finance (SCF) programmes have been met with interest and often enthusiasm by corporations globally. Despite this degree of interest, however, the proportion of companies that actually implement them has been relatively small until quite recently. Furthermore, the outcomes of SCF programmes have fallen short of expectations in some cases, not due to restrictions or flaws in the programme itself, but more often as a result of implementation issues. Through my experience of implementing a very successful SCF programme while I was working at Philips and driving many of the world’s most respected programmes since joining Citi, I have learnt a variety of lessons to ensure that SCF programmes achieve, and often exceed, companies’ working capital, efficiency and supply chain objectives.
Click above image for enlarged version of Fig 1.
In the past, one factor that discouraged companies from implementing an SCF programme has been the fear of being an early adopter. This inevitably resulted in slower take-up, which in turn led to misconception, and occasionally cynicism about SCF programmes. What seems too good to be true usually is, but an SCF programme, implemented in the right way, can be an exception to the rule. Before looking at some of the factors that contribute to a successful SCF from the outset, I want first to address some of the perceived barriers or issues with SCF, which in reality should rarely be cause for concern.
Effect on credit lines
One of the most common concerns is that credit lines will be negatively affected by the existence of an SCF programme. In fact, credit facilities can actually be enlarged. While ordinarily, a credit line extended to a supplier reduces a short- term credit facility on a like-for-like basis, short-term assets under an SCF programme are treated as being self-liquidating and are therefore additional to a company’s existing credit facilities. Furthermore, Citi will often sell SCF assets to other investors, opening up an investment community to which a company may not normally have access, and freeing up credit lines with Citi. We are finding that investors have a very keen appetite for short-term, investment grade assets that yield a good return, without settlement risk.[[[PAGE]]]
Perceived lack of supplier demand
Another common reason for companies deciding not to embark on an SCF programme is the perception that their suppliers do not need early payment, on the basis that they have never asked for it. In reality, almost no companies, of any size, would prefer to receive payment late rather than early. In some cultures in particular, suppliers may be afraid to ask directly, in case such a request suggests financial instability or weakness, which could affect their customer’s willingness to do business with them. In fact, highly-rated suppliers (often with a rating higher than the customer) are often also attracted to SCF programmes, as while they may be able to source financing at an equivalent or even better rate, their credit risk to the customer is greatly reduced, enabling them to do more business.
In my experience, from both a corporate and banking perspective, I have seen how SCF programmes can add considerable value to suppliers, and therefore enhance relationships. Indeed, they often approach Citi to see if their other customers could offer a similar programme. The value of SCF programmes is likely to increase further as Basel III is adopted, as smaller companies are likely to find working capital constrained even further.
Once companies have addressed some of the perceived barriers to implementing an SCF programme, the next step is to maximise its chances of success. Despite the potential value of SCF programmes, this is not always realised, and in some cases, companies that have adopted such a programme, particularly in the early days, have been dissatisfied with the outcome. There are reasons for this, specifically relating to the way that a programme is implemented, as opposed to flaws within the programme itself, which again are easily addressed with the right approach to implementation and both internal and external partnership.
No precedent for collaboration
One issue is that an effective SCF programme relies on a variety of different business functions, including procurement, legal and accounting, as well as treasury. In many organisations, the finance community is not well-integrated with the procurement function, individuals do not know each other, and there is no precedent for working together. Making an SCF programme work, however, relies on close co-operation between these business functions, particularly in the initial phases.
Inaccurate expectations
Another challenge is that many companies do not know exactly what value they should expect to derive from an SCF programme. The basic outcome, i.e., that payment terms to suppliers are extended and harmonised, is relatively straightforward and well-understood. Beyond this, however, an SCF is essentially a risk management tool, enabling companies to add resilience to their supply chain. If a key supplier fails, the risk of interruption to the company’s own supply is high. When there are shortages further down the supply chain, which will inevitably happen from time to time, suppliers need to make choices about which customers they will supply. Typically, they will choose those who pay the earliest. Consequently, implementing an SCF programme can be a valuable means of securing supplies and suppliers.
A benefit that is not always recognised or exploited is that SCF can be a catalyst for a more efficient purchase-to-pay process. Many companies are not really aware how much it costs to process an invoice and payment, which is frequently $20 for internal processing alone. If payment terms extend to 60 or 90 days, the financial and resource impact of process inefficiency is largely invisible. As SCF programmes rely on prompt approval of electronic invoices, the processes for invoice receipt, approval and payment transmission need to be accelerated and streamlined, resulting in reduced costs and more efficient use of resources.
These challenges can all be addressed if there is a pioneer in the company driving change, who can advocate the benefits of an SCF programme internally, and facilitate collaboration across departments. SCF is not simply about working capital, just as it is not only about invoice handling, so each department needs to look beyond its individual responsibilities and work together to achieve the programme’s wider objectives. This is rarely an overnight phenomenon, particularly amongst departments that have had little exposure to each other in the past.
In my experience, an SCF programme is more of a journey than a product, which relies on the formation of both internal and external relationships and the building of trust. Once this has been established, an SCF programme is genuinely and tangibly a ‘win win’ for all parties involved, but it takes effort, and the right partners, for this to be achieved.[[[PAGE]]]
Creating a virtuous cycle
Recently, we have seen a significant increase in the number of companies that wish to implement SCF programmes, prompted in many cases by liquidity constraints created by Basel III. In particular, companies are concerned that their smaller, lower-rated suppliers will find it difficult to raise capital in the future, which brings potential risk to the supply chain. At the same time, they wish to accelerate their own cash flow cycle to reduce the need for working capital, whilst recognising that typically an increase in their own days payable outstanding (DPO) will have a negative impact on their suppliers’ days sales outstanding (DSO), further compounding supply chain risk. Implementing an SCF programme can break this negative cycle, and enable the company to extend (and standardise) its payment terms, whilst positively impacting on suppliers’ DSO.
Implementing an SCF programme is much like losing weight: it may be difficult at times, and it may be tempting to give up, but the rewards can be considerable.
A defined strategy
So how can companies implement an SCF programme with the maximum chance of success? In fact, I would argue that chance is not involved at all; success is created through the right implementation, specifically the right focus on internal and external engagement. The first question to ask is what your strategy is. In particular, what do you want to achieve with your suppliers? Is this strategic, or purely a commoditised arrangement? In reality, these questions will probably be answered slightly differently by every company, depending on its supplier relationships, and the criticality of these relationships. Then the SCF programme can be implemented to meet this strategy, as opposed to the other way around.
Dedicated onboarding resources
One particular challenge is onboarding suppliers. For a bank to provide an onboarding service is a substantial undertaking, with a similar level of effort irrespective of the size of supplier. Consequently, a bank will typically focus on the few, largest suppliers where the financial value is greatest. However, this will not necessarily achieve the customer’s objective, as it is typically the smaller suppliers that benefit the most, which reaps the greatest advantage to the company in terms of managing its supply chain risk. Therefore, this needs to be planned upfront. Not every bank that provides SCF programmes has a dedicated capability in supplier onboarding, and this can be a major factor in a programme’s success or otherwise. Indeed, the fact that Citi has a dedicated team focusing on this area was an important element in my decision to join the bank.
Shifting relationships
Successful onboarding is not simply about the bank’s efforts, however. An SCF programme represents a change of relationship between a company and its suppliers, and in some cases, this can be a major shift. While in the past, some companies relied on their strength and size to achieve the terms of supply that they wanted, there is a far greater awareness today of the need for partnerships that recognise the needs and constraints of parties across the entire supply chain. However, it may take time for suppliers to recognise and believe in this change, and companies may therefore need to invest time in building trust. By understanding suppliers’ constraints and pain points, supplier onboarding can be far more successful, and leads to improved relationships more generally.
There is no single panacea to guarantee that an SCF programme will achieve your objectives, but strategy, internal relationships and building supplier trust are all vital elements. In addition, it is essential to select the right SCF provider, which will typically fulfil three key criteria:
i) The partner should be able to demonstrate skills and expertise in SCF programme implementation. This includes a deep understanding of your business and its dynamics, as well as having the capabilities and resources to support the implementation, including resources dedicated to supplier adoption. The initial stages of an SCF programme are critical as the first group of suppliers is engaged. The right banking provider will monitor the programme constantly and track the indices of success right from the beginning, and identify how improvements can be made.
ii) The SCF platform should be innovative, highly functional and integrate closely with both internal and bank systems.
iii) The provider should be in a position to provide the necessary level of funding, and have the stability and financial strength to continue providing this in the future.
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Implementing an SCF programme is much like losing weight: it may be difficult at times, and it may be tempting to give up, but the rewards can be considerable.
Trust and commitment to achieving the company’s specific objectives is critical. At Citi, we are delivering tangible value to both our customers and their suppliers through our SCF programmes, which is evidenced by the fact that many of these suppliers are also approaching us to develop a programme for their own suppliers. While SCF programmes were most commonly established in Europe and the United States in the past, we are now seeing programmes globally, including regions such as Russia, CEE and Africa. Furthermore, multinational corporations that have established separate programmes in each country or region are now recognising that they will derive greater value from a global programme, particularly as a number of suppliers provide goods and services in more than one location. We are helping to rationalise and standardise programmes to deliver even greater value both to our customers, and to their suppliers.
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