Cash is king. Probably I could stop it right there, even more on current times with so much uncertainty. Yes, companies should continue to look at reducing expenses and growing sales, but unlocking cash within the company to build ‘internal liquidity’ is so important.
With an elevated risk of supply chain disruptions, you should look for ways to reduce these risks for suppliers. Supply Chain Finance technology is enabling new models for trade finance for the CFOs and Treasurers.
According to the International Chamber of Commerce and the Bankers Association of Finance and Trade, SCF is defined as:
“The use of financing and risk mitigation practices and techniques to optimize the management of the working capital and liquidity invested in supply chain processes and transactions.”
Although technology is vital in enabling the models, as far as 5,000 years ago in Mesopotamia, we already saw forms of invoice discounting for financing the trade. In modern times back in the ’80s an innovative funding option started as ‘confirming’ and evolved in the automotive industries first, then into the retail sector with well-known adopters like Carrefour or Metro Group.
The business problem is that Working Capital is a zero-sum game; suppliers want to get paid earlier, while buyers want to pay later. Negotiations around collection date and payment date are not easy, generating friction and potentially damaging the relationship.
SCF is a win-win solution decoupling the payment date from the collection date and enabling buyers to improve their commercial terms with suppliers. Suppliers can speed up the collection of their receivable with immediate non-recourse liquidity.
What a successful working capital management program aims is to reduce the cash cycle (CC). We define it as:
CC = DSO + DIH – DPO
Don’t worry, let’s take one at a time through the lifecycle of a manufacturer, or any other business dealing with suppliers on one end and end customers on the other. We would place an order with our supplier; we will receive the inventory, transform it and put it up for sale. Eventually, we will sell it and finally getting paid by the end customer.
In that timeline, DIH or Days Inventory Held is defined as the time between receiving the goods from the supplier and executing the sale. Where DSO or Days Sales Outstanding, is the number of days between the actual sale and the time when we are paid by the end customer. DPO or Days Payable Outstanding is the days difference between when we receive the goods from the supplier and when we need to pay them.
It appears evident that the shorter the Cash Cycle (CC) the better, i.e. paying to our supplier as close to the date when we will get paid, which actually may well be a negative number. i.e. we get paid by the end customer before we need to pay our supplier.
So, how do you set up an SCF programme? It is down to three options:
A) Setup your own SCF Platform and Operations
B) Participate in a Bank SCF Programme
C) Fund through a Non-Bank Platform
Option A is classical and most prolonged requires significant experience and investment.
Option B is the fastest approach at the expense of competing with the bank itself and little transparency.
Option C is the emerging one enabled by several FinTech solutions. It is a fast approach to SCF partnering with best of breed.
One of the enablers of such FinTech solutions is blockchain given that it operates on complex networks of multiples steps in the sourcing, manufacturing, distributing and selling of products and their associate finance and information flows. The distributed nature of blockchain and smart contracts enables those permissioned, trusted, distributed transactions.
Chief Financial Officers should monitor closely advances in this field to enhance the management of their working capital rapidly. As renowned companies like Apple, Dell or Carrefour have well-established SCF practices, but with the newly available solutions significantly smaller companies now can fund their SCF programme working with a FinTech.
jaume ayerbe 