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Calculum Inc

Oliver Belin

Unlocking the Benefits of Supply Chain Finance for Your Business

June 2, 2023
Read time:
12 min

Supply Chain Finance, also referred to as Supplier Finance or Reverse Factoring is the most common form of financing solution in supply chains. The solution is usually used by a buyer organization to optimize its payment terms while offering at the same time, the option for suppliers to get paid earlier through a third-party funder.

As the buyer is part of the legal arrangement providing an irrevocable payment guarantee to the funder, the credit risk is only on the buyer, making the credit assessment fast and efficient. In most cases, Supply Chain Finance solutions are implemented by investment-grade, multinational companies allowing the funders to offer very low financing rates to the suppliers.

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March 5, 2020
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What are the Three Types of Supply Chain Finance Solutions?

There is a variety of solutions used in the industry describing the same solutions or used within Supply Chain Finance. The key elements common among the three solutions are that they are driven and initiated by the buyer organization and are based on approved invoices.

Supply Chain Finance solutions used in the market today, can be divided into three main solutions.

1. Approved Payables Finance

The solution is usually used by a buyer organization to optimize its payment terms while offering at the same time, the option for suppliers to get paid earlier through a third-party funder. As the buyer is part of the legal arrangement providing an irrevocable payment guarantee to the funder, the credit risk is only on the buyer, making the credit assessment fast and efficient.

2. Dynamic Discounting

Dynamic Discounting describes solutions, through which early payment discounts offered to suppliers are calculated dynamically, in the sense that the earlier the payment, the higher the discount. It is not new for buyers to offer static discounts, and it is standard in many industries across the world. However, instead of using static discounts, such as 2% for payment in 15 days, Net 30, Dynamic Discounting offers invoice discounts based on variable rates. In Dynamic Discounting, funding for early payment can come from many sources. Currently, however, Dynamic Discounting programs are typically self-funded by the buyer using its own balance sheet, as opposed to using third-party financing.

3. P-Cards and Virtual Cards

Purchasing Cards (P-Cards) or Virtual Cards can be considered as a sub-group within Supply Chain Finance solutions. They are a form of electronic payment, easy to implement, and especially useful for organizations looking for savings opportunities. They are usually issued and funded by a bank under a card network such as Mastercard or Visa and are used to settle invoices after approval for low dollar amounts - typically starting around USD$5,000. Cards allow the buyer to specify time payments and take advantage of early payment discounts, focusing mainly on indirect spend.

Five Key Benefits to Consider When Using Supply Chain Finance

Supply Chain Finance is growing rapidly and is used by all leading organizations. Please find below the key main reasons and benefits why.

Firstly, Approved Payables Finance solutions are offering some of the lowest financing rates based on the credit rating of the buyer, allowing costs to be out of the supply chain and making it more competitive.

Secondly, it offers similar benefits for the buying organization and the suppliers, such as optimizing working capital and generating free cash flow by improving payment terms.

Thirdly, the main benefits are the additional cash flow that can be used for buying back shares, paying out dividends, acquisitions, or investing in expanding the business into new products or markets.

Fourthly, improved working capital allows the buyer-supplier relationship to strengthen and makes the supply chain more resilient and reduces the risk of disruptions during challenging economic times.

Finally, supply chain finance solutions often result in efficiency gains. Businesses can reduce their reliance on external financing options, as well as, optimize procurement processes and streamlined invoice handling.

Importance of Supply Chain Finance When it Comes to Improving our Business Efficiency and Growth

Supply Chain Finance plays a crucial role in enhancing business efficiency and fostering growth by addressing financial challenges and optimizing the flow of goods and services throughout the supply chain. Here are the key reasons why it is important:

  • Optimizing working capital and cash flow acceleration: Extending payment terms for buyers and offering early payment options to suppliers frees up cash and optimizes working capital.
  • Enhancing supplier relationships: By generating free cash flow, Supply Chain Finance streng then the buyer-supplier relationships leading to better pricing and collaboration.
  • Streamlining procurement processes: Integration with procurement systems automates invoicing and payment processes, reducing overall manual efforts.
  • Mitigating Risk: Supply Chain Finance solutions can improve the financial health of suppliers, mitigating risks of supply chain disruptions due to cash flow issues.
  • Supporting overall growth: Optimized working capital and improved cash flow provide resources for business expansion and growth initiatives.

In summary, Supply Chain Finance is essential for improving business efficiency and driving growth by effectively managing working capital, enhancing cash flow, fostering supplier relationships, mitigating risks, improving operational efficiency, and enabling business scalability.

Key Lessons Learned When it Comes to Implement Supply Chain Finance

Supply Chain Finance seems to be all great and a proven path to success. However, when considered carefully, not all Supplier Finance programs are successful.

Below are the key factors in making the implementation of your Supply Chain Finance program a success.

First is to make sure that there is the right collaboration across the various business functions within a buyer organization, which is crucial for the implementation of a Supply Chain Finance program. Supply Chain Finance is often an “afterthought” - a reaction to an initiative by treasury or finance department to extend payment terms. However, to deploy a Supply Chain Finance program successfully, it is important that cross-functional teams, involving treasury, procurement, accounts payables, legal, accounting, and the IT department work closely together.

Once you have decided to start a Supply Chain Finance program, organizations are left with the decision about the structure, which can have implications on which financial institutions will fund and support the program, the legal documentation, the time required to set up a program, and many other aspects. There are no simple decisions. Organizations have probably been pitched numerous times by their relationship with banks to use their balance sheet and credit to fund suppliers using their proprietary platform, which in most cases has been white- labeled from another bank or service provider. 

In the end, what really matters depends on what is setting out to be done, and how organizations would like to approach it based in the long-term. Because once the structure of the program has been selected, you will not change it for the next few years as it takes time to implement a new program and for your suppliers to move from one structure to another.

The other driving force behind the successful implementation of Supply Chain Finance is the onboarding of suppliers. Unfortunately, it has traditionally been a particular challenge when deploying such financing solution and ensuring that suppliers are enabled to trade their receivables. This is also highlighted in a recent survey focusing on the key bottlenecks, which selects supplier appetite and supplier onboarding process as some of the biggest challenges.

In the context of Supply Chain Finance, the term ‘onboarding’ is generally used to describe the entire process consisting of contacting, educating, registering, training, and enabling suppliers on a platform. The ability to bring suppliers to the table effectively in order to help them understand and appreciate the benefits to be gained from a program is key to the increasing success of Supply Chain Finance.

However, it is surprising that many still do not realize that it requires selling the financing solution twice, not only to the buying organization but also to each individual supplier. In order to be successful with the onboarding process and have the most suppliers on the platform, it is crucial that they fully understand the benefits of joining the program and that the whole onboarding process is as easy touch as possible.

The final lesson learned when it comes to setting up a Supplier Finance Program is selecting the right partner to support your initiative. There is a multitude of Supply Chain Finance service providers, consultants, risk-takers, and funders in the market place. Many proclaim that they have the expertise, but upon closer look, only a few really have an active track-record in Supply Chain Finance.

Similar to other financial technologies, consultants emerge to sell their service based on the limited information available in the market. Most consultants help to find and select the right partner or run a Request for Proposal (RFP), which is usually based on questions around technology, support, onboarding, security, funding, pricing, and other standard topics.

When evaluating the key criteria for the selection of a service provider or funder, the following points should be considered for the implementation and ongoing management of a Supply Chain Finance program.

Pricing -  Like in almost every purchasing decision, pricing is a key selection criterion. When looking at pricing, it is important to compare and include all pricing elements in Supply Chain Finance.

Suppliers on the Platform - When evaluating service providers for Supply Chain Finance, many buyers always ask the same question, how many of my suppliers are already on your platform? This question should not be an important criterion for of the evaluation because of two reasons. Firstly, in most cases, this information is confidential and cannot be shared. Secondly, being on a platform does not mean a lot as it is not possible to know if the suppliers are active on the platform and trading their receivables.

Onboarding Capability - Buyer organisations should consider a service provider or bank that has experience in rolling out Supply Chain Finance solutions - specifically a partner with a robust onboarding capability with presence in local markets.

Working Capital and Spend Analysis - It is important to work with a partner who has the ability to analyze the buyer's spend, its suppliers, and to segment the companies into different categories in order to tailor the onboarding process. By analyzing the spend data and the suppliers, the buyer can forecast its potential and expected improvement in working capital as well as focus its efforts on the key trading partners.

Structuring and Legal Expertise - For the selection of a Supply Chain Finance partner, it is essential to review their structure and legal expertise. Especially when dealing with cross-border programs, legal documentation can be a crucial point in the success of the Supply Chain Finance solutions.

Recommendations When it Comes to Choosing the Right Type of Supply Chain Financing for a Business

For organizations looking to implement a Supply Chain Finance program, there are many options, and the applicability of those alternatives depends on an organization’s strategic objectives, industries, targeted suppliers, volumes, and other parameters - especially its cash position. Based on the levels of an organization’s cash position and their expected returns on this liquidity, the question for many corporate buyers is whether to pursue a Supply Chain Finance program funded by a third-party, self-funding it with their own balance sheet or a combination of both options.

Below is a summary of the key differences between Approved Payables Finance, Dynamic Discounting, and Card programs.

Approved Payables Finance programs are mainly focused on investment grade or near investment grade buying organizations looking for ways to improve their working capital and support their suppliers. Because the buyer provides a payment guarantee at maturity date, pricing tends to be five to ten times lower than in Dynamic Discounting.

In Dynamic Discounting, companies are implementing a program in order to reduce COGS (Cost of Goods Sold) and generate additional margins via discounts. In contrast, in Approved Payables Financing, most buyers are increasing payment terms to reduce their working capital while offering early payment through third-party funders.

Usually, Approved Payables Finance and Reverse Factoring programs take more time to implement as there is a third-party funder, mostly a bank involved, which purchases the receivables from the suppliers. This requires a receivable purchase agreement (RPA), as well as collection and check of KYC (Know Your Customer) data, compared to Dynamic Discounting, where no additional information has to be collected because it is funded by the buyer.

Because of the onboarding requirements and low pricing of funding, Approved Payables Finance tends to focus on a few, large strategic suppliers, responsible for the largest purchasing volumes. In Dynamic Discounting, and Card programs, suppliers are mostly smaller, with less access to funding and lower transaction volumes.

Looking Ahead on New Developments in Supply Chain Finance

There are radical innovations and challenging of the status quo in the coming years. With new macroeconomic development, regulatory changes, and technology advances, it becomes clear that change is the order of the day. In this regard, new developments and disruptions can be a remarkable thing. Whether it’s bracing for economic impact or funding innovation, change and disruption are driving organizations to seek new ways to access liquidity and financing solutions.

Therefore, as organizations and their partners look to implement Supply Chain Finance, it is crucial that they understand how potential market developments could alter the profitability, viability, financing options for such programs. We have identified key developments that are currently impacting or could impact supply chain finance initiatives, for better or for worse in the future. 

These key developments include mid-market and tail approach, price developments, changing interest rates, tax environment, looming trade conflicts, growing existing programs versus implementing new ones, holistic working capital solutions, and the growing number of partnerships.

One of the key developments in terms of technology is the use of AI (artificial intelligence) in Supply Chain Finance. AI developments in supply chain finance are revolutionizing the industry by enhancing efficiency, accuracy, and decision-making capabilities. Some notable advancements include:

  • Predictive Analytics: AI algorithms analyze historical data to forecast demand, optimize inventory levels, and identify potential financial risks. This helps organizations make informed decisions and improve their overall financial supply chain.
  • Intelligent Automation: AI-powered automation streamlines and accelerates various finance processes, such as invoice processing, payment reconciliation, and financial reporting. This reduces manual errors, enhances operational efficiency, and enables faster decision-making.
  • Risk Management: AI algorithms assess and mitigate financial risks by monitoring market trends, supplier performance, and creditworthiness. This enables businesses to proactively identify and address potential risks, ensuring a more stable and resilient supply chain.
  • Cash Flow Optimization: AI-powered algorithms analyze payment patterns, historical data, and market conditions to optimize cash flow management. This includes optimizing payment terms, identifying opportunities for early payment discounts, and maximizing working capital efficiency.

In conclusion, these main AI innovations together with the other developments mentioned above in Supply Chain Finance will empower businesses to optimize their financial operations, reduce costs, mitigate risks, and foster growth potential in today's dynamic business environment.

Supply Chain Finance FAQs

What is a Trade and Supply Chain Finance Program, and how does it work?

The Trade and Supply Chain Finance Program aims to make global trade and supply chains transparent, inclusive, resilient, and socially responsible by arranging buyers and sellers. The program works through a combination of transactions in the form of loans and guarantees. Also, the program focuses on building capacity and knowledge among the partner banks.

How can a supplier's cash flow be improved with supply chain finance?

Supply chain finance provides credit for the short term that helps suppliers to optimize their working capital. This type of financing improves the cash flow by expanding the payment terms of the supplier and at the same time allows suppliers to receive early payment for invoices. It doesn't hurt the supplier's or manufacturer's balance sheet.

What are the mechanics of how chain finance works to benefit all parties involved?

The buyer purchases services or goods from the supplier and gets the invoice with the payment due date on it. The buyer approves the payment mentioned in the invoice. The supplier requests an early payment after which the funder sends the payment to the supplier. However, the supplier pays a small fee. The buyer pays the funder on the due date mentioned in the invoice.

Can you explain what Receivables Purchase Agreements are and why they're used in financing processes?

A Receivable Purchase Agreement is a type of contract between two parties, buyer and seller. The seller will sell the receivables whereas the buyer will collect the receivables. These kinds of agreements allow the company to sell off as yet-to-be-paid bills. While sellers get the security they want, buyers get the opportunity to make some profits.

How does trade finance facilitate global suppliers getting paid on time for their goods or services?

The function of trade finance is to work with a third-party while introducing them to transactions. They help remove the supply risk and payment risk. Trade finance will provide the exporter with payment or receivables according to what the agreement says. Whereas, the importer might get an extended credit so that the trade order goes well.

Are there any other ways besides supply chain finance work that can help address suppliers' invoices being paid on time?

There is no alternative to supply chain finance when it comes to the supplier receiving the due payment on time. Supply chain financing will offer short-term credit that helps improve the liquidity and working capital of both the buyers and sellers. The buyer will seek help from a third-party funder and pay their suppliers early. It's a good way to increase the working capital.

What kind of services do banks provide when it comes to supply chain finance solutions for companies around the world?

Banks occupy an important position when it comes to trade credit for short-term financing. Also, they hold a pivotal position in the intermediate-term money markets. As the financing needs of businesses grow, banks provide extra funds. Banks will provide the payment mentioned on the buyer's invoice in exchange for a certain fee that the supplier pays.

Banks offer solutions in the name of supply chain finance that provides the infrastructure while minimizing the limitation of programs funded by banks. Sometimes, banks may provide sellers with the opportunity to add more funds through other programs, too.

Is there any risk associated with utilizing supply chain financing as a way to bridge the cash flow gap between buyers and sellers?

Yes, there is some amount of risk associated with using supply chain finance. The program is aimed to speed up payments and improve cash flow between sellers and buyers. But there are some drawbacks. The supplier doesn't control the invoice certification procedure. The procedure may take a week or even longer.

Although the program helps with cash flow, the buyer might be eligible for early payment reductions that cut into its profits. Besides, there is always a risk of withdrawal from the program. On rare occasions, the time needed for negotiation between parties like banks and other institutions takes a lot of time.

How has technology changed the process of supply chain finance over time, making it more efficient than ever before?

Financial services is an industry that has witnessed some of the biggest technological advancements over the years, and supply chain finance is no different. With the help of advanced technologies, automation and other types of seamless operations allow buyers, sellers, and financial entities to work in unison to provide better results for everyone.

As such, it helps businesses to reduce financial costs while improving business efficiency. Artificial Intelligence, machine learning, and Blockchain technology helped supply chain finance spread its wings to support cross-border trades. Calculum Inc helps your business optimize working capital, generate cash flow, and improve margins while reducing the risk of financial supply chain disruption.

In what ways have large corporations been able to take advantage of supply chain finance to optimize their operations supply chain management?

Improving supplier-buyer relationships, empowering the supply chain team, and leveraging the supply chain innovations, latest processes, and technologies, large corporations took competitive advantage with the supply chain finance.

Corporations have been able to optimize their working capital while bringing flexibility and stability to the supply chain. With effective working capital management strategies from a reputable organization like Calculum Inc, large corporations ensure that the business runs smoothly.

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