Using SCF to Address a Significant Working Capital Shortfall

Twelve months ago, a disruption in revenue streams meant that solar roofing company PetersenDean – when faced with an unexpected working capital shortfall – had a choice: delay payments to suppliers while it rebuilt its cash reserve or look for a different solution. Reluctant to do the former, the company chose to implement a supply chain finance (SCF) programme to help solve this challenge – and hasn’t looked back since.

When I went to bed on 14 December 2016, the company was looking into the eye of a storm. PetersenDean had just posted a record year – for both revenues and profits and the next year was looking even better. Sure, cash flow always felt a little tight, but that was a function of our growth. For PetersenDean – and for the rest of the sector – we generally paid our bills faster than we generated revenues. For us, that difference amounted to around 20 days. As a result, we’d drawn most of our credit to support our growth.

Still, so long as we continued at this pace, we’d generate plenty of cash to fund our growth.

When it rains, it pours

But then the weather then took an aggressive turn for the worse. Between December 2016 and March 2017, California received more than 30 inches of rain. Even more significant was the number of days it rained. We experienced the highest number of rainy days and the second-highest recorded rainfall in 122 years, according to the United States National Centers for Environmental Information. 

Rain wreaks havoc on our business. Not only can we not install roofs in the rain, we often can’t even begin a job if there’s even the threat of rain. Many of our projects involve tearing off a roof and then installing new roofing and a solar system – a process that requires consecutive days of dry weather. When planning these multi-day projects, it would be irresponsible to start the project if there were even a threat of rain in the near future. The only option was to wait for clear skies.

But since we couldn’t do any roofing work, we couldn’t invoice our customers, either. Without those invoices, we didn’t have any money coming in. Although we knew the challenge was short-term (it wasn’t that the work was disappearing as every house needs a roof), the issue was that any new work coming in was going to the back of the queue – meaning no immediate revenue and a backlog of jobs. 

Meanwhile, our indirect costs, such as admin, facilities costs, equipment leasing fees, and so on, kept on racking up. Suddenly, our accounts payable (AP) days started to increase. At first, it was just a couple of days, but as the weeks with little cash flow wore on, the days payable grew by almost 25%. And the reality was much worse because all of our non-trade AP was non-discretionary. So, the increase in the Days Payables Outstanding (DPO) was disproportionately borne on the balance sheets of our suppliers. 

This led to a number of increasingly costly reactions. The first was the loss of early payment discounts. As a roofing installation company, our business has to run lean – our net income margin is often single-digits. So, the loss of those 2% - 3% early pay discounts was significant - not only did it hamper our bottom line, but without them our recovery would take longer. We also found that managing the relationships with our suppliers was becoming extremely time-consuming, taking valuable resources away from their focus on customers or operations.

In addition, the delays in our payments impacted our relationships with our vendors. Discussions that once focused on optimising delivery schedules and driving volumes for rebates were replaced by a focus on collections. Further, our ability to negotiate better pricing was impaired by our lack of liquidity. We also experienced a loss of priority with our suppliers. In a cash-starved sector, suppliers focus their best service on buyers that provide cash.

Time to press reset

The silver lining to all of this was that, as a sector, we were – and still are – pretty used to surviving challenging times. Since its founding 35 years ago, PetersenDean has operated through four recessions and a number of other operating crises – and we would have survived this one. Roofing work doesn’t disappear, it gets deferred. The ‘catch-up’ work that had been deferred by the rain – which totalled about $32m in revenues – would have gradually got us back to our starting point. 

But we also knew that it would take us a long time to get back on our feet if we just put our heads in the sand. Moreover, the company would have ended up being less profitable as the costs of our materials would have been higher and we would have spent a lot of time and resources managing our suppliers rather than focusing on rebuilding. In fact we estimated at the time that it would be a year before we could start to take advantage of early payment discounts again. 

In addition, we would have faced greater operational disruption – from re-engineering the supply chain, to using pre-liens, weekly payment terms, and personal guarantees. All of these are time-consuming activities, which would have the knock-on effect of making our service less reliable. 

It was clear that we needed to take a different approach to getting through this working capital shortfall. Since this is such a low margin business, factoring was out of the question. Instead, we turned to supply chain finance (SCF).

Getting off the ground

Initially, we evaluated several SCF providers, but ultimately chose PrimeRevenue based on their reputation. They were also the most straightforward when explaining the process and timeline for implementing the SCF programme. 

Another factor that influenced the choice of SCF provider was the size of the company. We are a private, sub-investment grade company with a $10m line, and most SCF providers only work with large international corporates. Because we are smaller than most, and our top four vendors make up c. 75% of our AP, we didn’t initially think that SCF would be a viable option for us, but we were pleasantly surprised to find that wasn’t the case.

PrimeRevenue worked with us on a solution and no technology changes were needed, which was a huge advantage. The main challenge from an implementation perspective was the fact that public awareness of SCF is pretty limited. When we first approached our suppliers, they were concerned there had been some kind of negative change in our business because they didn’t necessarily understand how SCF works. 

To overcome this, PrimeRevenue provided us with communications tools and strategies so we could effectively educate our suppliers on how the solution works and how it could benefit their own working capital. Soon enough, after hearing the benefits of SCF and what it meant to PetersenDean, all four of our major vendors signed up for the programme – which was up and running by 10 June 2017.

Accelerating  benefits

With the programme firmly in place, now all we have to worry about is paying our invoices on a set date, while suppliers are able to choose how early they get paid. We have seen numerous benefits, including higher profits on subsequent jobs and being able to take on more work than planned. Since our operations people were also freed up to focus on our service delivery rather than our vendor base, we were also able to reduce our cost base by $4m a year (another 1.5% of profit). Naturally, our AP days have also reduced and we are currently within five days of pre-rain levels. 

Interestingly, the further we get into the SCF programme, the more benefits we are seeing from it. Initially, we simply used it to capture the early payment discount. Soon, though, we found that if we promised to pay our invoice on the same day every time, our vendors were willing to offer price concessions and rebates that exceeded the early payment discount.

As we start to add more financing, we have an opportunity to further drive down costs by offering our vendors 10-day guaranteed payment terms. This effectively allows them to eliminate the working capital that they would normally need to sell to us. And in an industry with virtually no capital, we’re finding that the value to this is four times the cost of SCF. Importantly, this is allowing us to strengthen our supply chain, through improved relationships.

We are very happy with the results of the SCF programme, and so are our suppliers. I even received Christmas cards from our suppliers last year, rather than collection statements!