The theory behind Supply Chain Finance (SCF) is highly appealing. It gives large buying organisations a viable method of extending payment terms, thus building working capital while suppliers still get paid in a timely manner by third party financing provided by banks. And since competition to provide SCF programmes is intense between the banks, the cost of the finance is relatively cheap to suppliers. However, while the theory is good, the application of SCF into the real world has been beset with issues.
Classic bank-led SCF
SCF has traditionally been a bank-led initiative in response to the classic buyer - supplier payment terms dilemma. It is based on the principle that from a bank perspective, investing in the approved invoices or payables of tier one global/multinational buying organisations is a relatively low risk and lucrative investment. After all, at its heart, the core business model of a bank is to make money from money – either invested into the bank or lending back out.
So the theoretical supply chain finance model looks great on paper – buyers benefit as they build working capital, suppliers get timely payments and banks have a low risk investment opportunity that provides a good return.
And as a result, bank-led SCF has gently taken off. After a somewhat slow start, the pace of adoption accelerated after the 2008 banking crisis and following recession. If businesses were to survive in the recession, they needed to ensure that they had enough cash on the balance sheet. SCF became an obvious solution to keep the cash flowing between buying organisations, banks and their suppliers
Problems with bank-led SCF
However, there are a number of problems with this model.
Few suppliers benefit. Banks are primarily investment organisations. Their core competence is the management of funds and making a return on those funds. They are not set up to manage the onboarding of thousands of customers, and since the majority of the supplier spend is within the top 25-50 suppliers, that’s where their focus lies. So the vast majority of the supply chain does not benefit from bank-led SCF.
Outdated, user-unfriendly technology. While banks require technology to run their core systems, these are almost without exception vast legacy systems which are difficult to manage, let alone adapt constantly to meet changing customer demands. Therefore, bank systems tend not to be intuitive, easy to use or evolving to meet changing demands.
Weighed down by regulation. Banks are significantly burdened by Know Your Customer (KYC) and Anti Money Laundering (AML) checks that require highly time intensive processes to comply.
How Corporate Treasury’s priorities are changing
However, from a treasury perspective, these issues are only partly what concerns them. After all, their core role is to protect the cash and ensure that the right money is in the right place at the right time. Worrying about the health of the supply chain is technically Procurement’s job.
What has been emerging recently is what frustrates treasurers about bank-led SCF programmes. Since these programmes are so difficult to set up and run, it’s also difficult to exit or alter the programme as your needs change. This means that the treasurer is forced to become reliant on the bank providing the SCF programme and their funds that give its lifeblood.
This also means that they cannot offer a piece of the SCF business to any of their other banks. The only way to achieve this is to set up and run a completely separate SCF programme for a separate part of the business; and a number of enterprises have indeed done this. The end result however, is that the enterprise then becomes burdened with several autonomous SCF programmes each running on different proprietary platforms. This means that one supplier can end up using several different SCF platforms just for the one customer!
What treasurers have started to look for is a decoupling of the technology platform to run the SCF programme from the funds that fuel it. The first evolution of this was via independent SCF providers who offered a bank-independent approach, but one that was still primarily finance led. This had the advantage of allowing the enterprise to source funds from multiple providers but, it did not give them all the advantages of a true technology led approach in that it was generally still limited to the top 25 – 50 suppliers of the business.
More recently, a new breed of competitors is emerging which offer a true technology, supplier-centric approach combined with a finance-agnostic approach. These hybrid players allow treasurers to inject funds from multiple sources through a technology platform to reach the whole supply chain.
Key advantages of this approach are:
Multiple funders can participate - A financing agnostic platform allows the SCF programme to utilise funding from multiple providers, thereby reducing reliance on any one funding source, improving resilience, reducing costs and enabling the treasurer to ‘share’ the SCF business to multiple finance institutions wishing to invest--giving your suppliers the best funding options available
Sharing the returns – The enterprise can receive a percentage of the return from the SCF programme. This changes the parameters of the SCF programme from a simple DPO terms extension programme into a revenue generating exercise, benefiting the wider business
A new investment vehicle – Treasury can utilise its own excess working capital to invest back into its receivables, giving it a significantly better return than if it invested on the open market
All suppliers can participate - Leveraging technology to scale funding to the whole supply chain enables all suppliers to benefit from timely finance and which in turn improves returns from the programme
High supplier adoption - New technology platforms are intuitive, easy-to-use and integrated with ERP systems which greatly increases supplier adoption as they like using the tool
Calling time on traditional SCF
Decoupling through the emergence of these new, hybrid SCF players may therefore finally be the evolution that treasurers need to move traditional SCF from a useful, but niche solution, into the mainstream where it can be a real game changer for enterprises and their supply chain. And given the step change in the benefits that can now be realised, there is a strong likelihood that SCF will now finally fulfill its original promises, becoming the vehicle that unlocks cash between buyers and suppliers and freeing up the economy to grow.