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Focus: Sourcing/Procurement

Feature Article from Our Sourcing and Procurement Subject Area - See All

From SCDigest's On-Target e-Magazine

- April 24, 2014 -


Supply Chain News: As Payment Terms are Stretched, and Financing is Still Tough, Companies Increasingly Serving as Banks to Key Suppliers

 

IKEA Makes $3 Million Loan to Get a Yarn Factory Off Ground; Smart Use for Piles or Corporate Cash?

 

SDigest Editorial Staff 

 

For suppliers to large companies, managing cash flow has been tough over the last few years. Many buyers, especially it seems in the consumer goods industry, have extended supplier payment terms significantly, to as long as 120 days or even more.

SCDigest Says:

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Analysis shows, for example, that 80 companies in the S&P 500 are major lenders, almost double the number in 2006.

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While that obviously improves cash flow at the buying company, it reduces cash flow at the supplier by an equal amount. That can put significant financial pressure on suppliers to meet operational needs or make investments.

Many large companies have responded by setting up relationships with "factoring" firms that will purchase the receivables from a supplier at a discount. For the receivables relative to the larger buying company, payment of the invoices will be guaranteed, and thus the larger company's credit rating can be used in determining the factoring rate. That leads to a reduced take for the factoring company - and thus more money for the supplier - than would be the case if the vendor worked directly with a factoring company.

But sometimes, even that help is not enough.

Given extreme payment terms and still very tough credit availability from traditional sources such as banks, a growing number of larger companies are finding it makes sense to extend or secure loans for key vendors.

The Wall Street Journal, for example, noted this week that "Larger companies are becoming financiers for their smaller suppliers and customers, who often have had trouble getting conventional business loans."

The fact is that the traditional financing spigot for smaller companies has only partially opened back up since the financial crisis. At the end of 2013, small business loans accounted for just 21% of commercial loans, the smallest share in two decades, according to the Federal Deposit Insurance Corp.

With stretched payment terms and difficulty obtaining loans from banks, factoring strategies of all kinds are being widely deployed, whether in conjunction with a larger company that owes the suppliers money, or independently. The amount of factored receivables has risen more than 70% from 2007 to a world-wide record of $3 trillion last year, according to the trade group Factors Chain International.

But increasingly, large companies are also getting into the direct loan business. Analysis shows, for example, that 80 companies in the S&P 500 are major lenders, almost double the number in 2006.

Swedish retailer IKEA, for instance, recently loaned $3 million to a textile company to build a new flax yarn factory in Belgium. That move wasn't, of course, an act of pure generosity. The new plant will provide an alternative supply source to IKEA that can be leveraged as prices change in the volatile cotton yarn market.

eBay's PayPal unit started a working-capital lending business last year. Under the program, eBay merchants - many of which are very small companies - can borrow as much as 8% of their sales from PayPal, up to a level of $20,000, after the company qualifies them for participation. PayPal then automatically deducts the loan payments from the merchants' sales.

There are a number of reasons a larger company might make loans to suppliers. As in the IKEA example, one might be to develop alternative sources of supply that can reduce supply chain costs or risk. Another might be that a key supplier needs working capital and is having trouble accessing it through traditional banking channels.



(Sourcing and Procurement Article Continues Below)

CATEGORY SPONSOR: SOFTEON

 

Finally, in an era of ultra-low interest rates, the growing piles of cash at many large companies are generating very little return. Loans to suppliers (and customers), even at modest rates of interest, could provide a more attractive return on that cash.

Of course, such supplier lending is also potentially fraught with cost and risks. There is overhead associated with processing and maintaining the loans, and the always present risk that suppliers will default on their payments. That means regular corporations, which really aren't organized to manage such default risks, have to be very selective with regards to the suppliers to whom they will make loans.

Close knowledge of a supplier, its executives and operations, the market and more can enable companies to loan smartly, experts say. This is especially true when the larger company represents a substantial portion of a given supplier's business, meaning revenue projections can be very accurate based on the larger company's own projected spend with that supplier.

Extending credit to such a supplier say for new machinery that will make its operations more efficient might make good business sense while being low risk.

Is making loans to suppliers a smart move? What are the keys to doing it right? Let us know your thoughts at the Feedback button or section below.




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