There’s no such thing as win-win – especially in supply chain finance

There’s no such thing as win-win – especially in supply chain finance

Posted by Pete Loughlin in Financial Supply Chain Management, Supply Chain Finance 24 Apr 2013

When anyone tells you something is a win-win, they’re usually lying. Where there’s a winner there’s always a loser. But sometimes it does look very compelling. Supply Chain Finance (SCF) offers the possibility of a supplier getting paid early, lowering their cost of working capital and at the same time, the buyer gets to extend their DPO. When something looks too good to be true it usually is. There must be a catch. And actually, there is.

Purchasing Insight logoThis is how Esther Liskamp from Philips described it when she spoke at the Økonomiforum conference on e-invoicing and supply chain finance in Copenhagen last week. When she was first introduced to SCF at Philips, she didn’t believe it. She put it down to Dutch skepticism. There is never a real win-win – someone must be paying she thought. But it has nothing to do with being Dutch – it’s common sense. If one party wins, the other must lose. If they both win, who’s paying? Well supply chain finance does have its loser – it’s the bank.

Think about how any flavour of SCF works. It could be dynamic discounting or it could be a more complex arrangement  like reverse factoring or OB10’s Express Payments product. In effect, the small, less credit worthy supplier borrows money at rates their bigger financially stronger customer can command. This borrowing offsets the pain of the customer extending payment terms. So the customer pays later, the supplier gets paid earlier and at a cost that is much lower than they could normally obtain. All of this is possible because the customer  agrees to settle an invoice. Everyone’s a winner – except the bank. Because the  buyers and sellers are collaborating, the banks can’t charge the high interest rates they would normally charge to the small supplier . Of course, the bank’s  losses are offset to a certain extent by lower risks but the fact is, they earn less.

It’s reassuring to me to think of  SCF is a win-win-lose. It strengthens my faith in my own common sense. It confirms the intuitive view that there was always something wrong with the banks charging upward of 20% to provide factoring services to weak suppliers while paying a tiny percentage on cash deposits of big suppliers. And it also restores my faith in human nature when I see companies like Philips taking a pragmatic rather than an adversorial approach to their suppliers and delivering benefit to the whole of the supply chain by using SCF.

Pete Loughlin can be found on twitter @peteloughlin

  • Dan Juliano September 3, 2013 at 4:42 pm /

    Hi Peter,
    Can I ask you a question about the rates suppliers are paying for DD and OB10 Express like programs? My experience with DD rates, when calculated to an APR, is they are equivalent to ~10-40%. Card solutions can be worse with rates between 1% to 2.5% off the value of the invoice. Are you seeing lower rates than that? Can you provide any specifics?
    For some suppliers, they may not have a lot of options, so, in theory, this could be the best or only option they have.
    As you may know PrimeRevenue provides buyers both reverse factoring and DD solutions and the rates by comparison, to be fair, are not comparable. I believe the highest rate we have for a reverse factoring program, on an APR basis, for the most challenging credit, is ~4.5% APR. So on 60 days of financing the supplier is paying about 0.75%. Typically investment grade programs have APR rates between 0.8% to 2.5% all-in.
    Unless rates have come down on DD and other financing options, on the win win side, those solutions are still pretty expensive forms of financing for the suppliers however great for the buyers. Any feedback would be appreciated.
    Dan

  • Pete Loughlin September 3, 2013 at 7:35 pm /

    Dan, I’m not going to comment on any particular vendor solution but I’d agree broadly on the rates you are seeing. However, the comparisons you make don’t really stack up.

    For Dynamic Discounting (DD), the rates are not determined by the product – they are agreed between the buyer and supplier. For card products I’ve seen rates lower and higher (sadly) than the range you quote – but to make a comparison with reverse factoring rates doesn’t make any sense.

    The thing that DD and cards have in common, however pricey they may or may not be, is that they offer early payment. A purchasing card can get the supplier paid in a few days – as can DD. That’s the value they offer.

    In contrast, reverse factoring gives the supplier no change in payment terms and they have the privilege of having to pay for it. You know what I’m talking about but for other readers let me explain.

    A typical reverse factoring arrangement works like this. The buyer extends payment terms to a supplier by say 60 days. At the same time, the buyer introduces the supplier to their bank who kindly lends the supplier the value of an invoice for a period of 60 days on the credit terms of the buyer. Net effect to the supplier – they get to pay the bank to maintain their payment terms as they were before. Net effect to the buyer – they get to extend their DPO by 60 days and thus improve their cash position.

    Do correct me if I’ve got this wrong Dan but what I think you are saying is that while DD and card solutions offer early payment at an APR in excess of 10% – sometimes much more than that, for and APR of less than 4.5% you can offer suppliers – absolutely nothing!

    Don’t misunderstand me – reverse factoring has an important place but when comparing products, let’s compare like for like.

  • Dan Juliano September 3, 2013 at 8:58 pm /

    Peter,
    Just to clear a few points up. The bank doesn’t lend the supplier money in reverse factoring. The supplier sells the invoice to the bank. The benefit to the supplier there is reduction in DSO and all recourse for the bank is to the buyer. And not all buyers extend terms. We have many programs where the buyer is offering reverse factoring to suppliers to help them with their cash flow situation. But in most cases the buyer wants something.
    * Cards they want rebates from the banks
    * DD they want income or COGS reduction from paying suppliers early
    * Reverse factoring, in most instances, buyers want longer terms for cash flow

    The reason I reached out to you was you compared DD, Card and revere factoring under the term SCF. One of the problems with all programs is the rates can be high especially in DD and card programs. So I was wondering if you were seeing much lower rates for those programs. I think the answer unfortunately no. Better, than in the past, but not good.

    But what I’m confused about is you make it sound like with DD and card you give the supplier something and reverse factoring nothing or as you say “absolutely nothing”? So are you saying you’d rather get paid by a card or via DD than take a term extension and get paid with reverse factoring? Why?

    Take a $100,000 invoice the buyer is offering card, DD or reverse factoring. Card they get paid immediately. With DD and Reverse they have to wait until the invoice is approved but let’s say in both cases they get paid on day 5. With DD we will even say the term stays the same as before at 45 days but in reverse factoring they are going to 60 days. So the math is:

    Take a $100,000 transaction.
    – Assume card is 1% (which is a low rate) paid on Day ) or 1
    – DD 10% APR (which is a low rate in the DD space) paid on Day 5
    – SCF 2% APR (this is medium to high rate for an investment grade program) paid on Day 5

    Fees:
    Card $1,000
    DD $1,111.11
    Reverse $305.55 ($687.50 at the 4.5% rate which is the highest rate)

    With reverse factoring the supplier can get paid when they want, as soon as the invoice is approved, and in many instances that is <5 days from receipt. Or the supplier can get paid on day 60 and pay no fees. It is their decision on each and every invoice.

    I think by comparison in the terms of SCF – reverse factoring does provide the supplier something.

    Buyers objectives could be really different and hence why we offer both products, DD and reverse factoring, but DD adoption is challenging because of the rates.

  • Pete Loughlin September 4, 2013 at 4:42 am /

    Dan,

    You’re right. I describe a scenario whereby the supplier get’s nothing out of reverse factoring which is not necessarily always going to be the case.

    Let’s not kid ourselves here though. Any SCF arrangement (and I know we’re using the term loosely) is buyer driven and they will, generally, get as much out of it as they can. And whatever the arrangement, there’s a third party that wants to be paid. The balance between the needs of all three parties determines the price of the deal

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