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"Научный аспект №2-2019" - Гуманитарные науки

Application of the reverse factoring mechanism to reduce risks and costs by the real sector companies

Абдуллаев Гусейн Валех оглы – студент аспирантуры Департамента финансовых рынков и банков Финансового университет при Правительстве РФ.

Аннотация: Актуальность данной статьи обусловлена развитием рынка факторинга в России, как наиболее оптимального инструмента финансирования цепочек поставок товаров компаниями реального сектора в условиях стагнации национальной экономики. Реверсивный факторинг является новым инструментом, который заполняет потребность в финансировании покупателя при необходимости источника финансированиям.

Abstract: The relevance of this article is due to the development of the factoring market in Russia as the most optimal instrument for financing the supply chains of goods by companies in the real sector in the conditions of stagnation of the national economy. Reverse factoring is a new tool that fills the need for buyer financing when a source of financing is needed.

Ключевые слова: Реверсивный факторинг, финансирование цепочек поставки, средневзвешенная стоимость капитала, сравнительная стратегия, финансовый инструмент.

Keywords: Reverse factoring, supply chain financing, weighted average cost of capital (WACC), comparative strategy, financial instrument.

In a globalizing economy, industrial value chains are becoming more complex, spanning more countries and providers than ever before. While the flows of goods are increasingly integrated and optimized, information and finance flows are often fragmented. The credit crisis has revealed the structural weaknesses of this system. During the recent credit crisis liquidity dried up and many companies adopted aggressive cash management strategies to safeguard their cash levels in the face of declining credit from financial institutions. One aspect of these new cash management strategies included extending payment terms for their suppliers. Companies have continued to push payment term extensions with suppliers as a means of freeing up cash for purposes such as investment, dividends and share buybacks (NG, 2013). Another reason for the continued pursuit of aggressive cash management strategies is that companies feel that they do not have sufficient working capital to take advantage of an economic upturn. Suppliers to these companies are now feeling the effects of extended payment terms by having to obtain more and more financing to continue operations. To address these costs and the risks of supply disruption, multinationals are increasingly interested in managing the financial supply chain with an equally integrated view similar to the one that they apply to the physical supply chain. Supply chains in manufacturing industries could reach up to 25 tiers, often including hundreds of parts suppliers spanning the globe. Such chains involve an equally complex string of (financing) arrangements and interdependencies between suppliers, buyers, banks and logistics service providers. This large network of agreements creates a clear IT challenge, with the risk of data being fragmented and the challenges of common sharing and interfacing. The latest study in France has shown an excess of working capital of more than 200 billion euros due to poorly managed inventories, payment terms and delays. Inefficiencies in inter-company processing mean that significant amounts of working capital are locked in delivered products and services not yet paid for by the client. With an average payment period of 56 days in Europe, despite formal payment terms of 30 days, the liquidity position of the supplying companies is negatively influenced. Many companies need to obtain trade credits to overcome this cash flow problem. Whereas large corporates often are ‘investment grade’, with AAA to BBB ratings and related credit terms, their direct and indirect suppliers face relatively high financing costs while credit rates soar as the distance from their large, credit-worthy end buyers increases (NG, 2013). At present, for such non-investment grade suppliers, the Weighted Average Cost of Capital (WACC) approaches 20% or more (Gustin, 2006) – 10 to 50 times the rate of the end buyer – causing high overhead costs which affect the whole supply chain. In addition, finance organizations that provide trade credit have so far mostly targeted businesses in familiar markets and industries where transactional terms are relatively unambiguous. Preliminary research indicates that late payments contributed to about 25% of bankruptcies in Europe (Muriel, 2006). More often, lack of cash could prevent a company from achieving its desired production capacity. This can be illustrated by the widely published case of Caterpillar, the world is leading manufacturer of construction equipment. When it wanted to ramp up production in 2010, some of its top 500 suppliers could not deliver due to insufficient working capital. This had a ripple effect throughout its supply chain and resulted in limited growth. Such risks, therefore, force companies to maintain expensive stock or to support supplying companies with working capital. Large buyers typically control and steer supply chain improvement processes. We see several examples of large multinationals using reverse factoring for this purpose. An early example of successful reverse factoring implementation is that of Unilever, which has freed up 2 billion USD in overall working capital. The first movers in SCF, located mainly in Europe and the United States, are experimenting with supply chain finance models on an international scale, reaching beyond their larger second, or even third tier suppliers. In 2012, companies like Airbus (FR/DE), Mercedes-Benz (DE), Volvo (SE), ASML (NL), Sainsbury (UK), and others announced pilot projects. These experiments aim to improve operational aspects, such as efficiency, inventory optimization and risk reduction. To what extent can these supply chain finance models actually reduce costs and mitigate risks are the underlying research questions that multinationals would like to understand. We are working together with Heineken, Philips and Unilever to address these questions. The starting point for our research is the idea that supply chain finance strategies can be linked to the supply chain strategy that in itself supports the overall strategy of the company. Strategic dimensions could include efficiency, the stability of the chain, the potential to support business growth, and the loyalty of suppliers. This can be illustrated in the following figure.

 

Figure 1. From Competitive to Supply Chain Finance Strategy.

The relevance of supply chain finance models is also gaining ground among governments in Europe as they are actively looking for alternative forms of financing to stimulate research, innovation and growth. Horizon 2020, the EU framework programme for Research and Innovation that was launched in 2013, highlights two important finance themes: access to risk capital and SME finance. This was reflected in the European Commission hosting several sequential panel discussions in 2011, with the aim of helping refine the design of a new generation of financial instruments for risk capital and SME finance. Policy makers are particularly keen to add nontraditional bank financing instruments as a tool favorable to SMEs. The traditional view of regulators and financiers is that such initiatives are to be financed from outside the supply chain through banks, investors and private equity. Governments are now looking to stimulate new structures for improving the framework conditions for companies to provide or facilitate debt and equity financing from within the supply chain. This will improve access to risk capital and financing for small and medium-sized companies, such as advocated in Horizon 2020. With politicians picking up signals from the market, European programmes are beginning to address this topic. The European Union Directorate-General Enterprise & Industry has opened a consultation process on SCF in early 2013, with the goal of exploring its role in this new market. The European Parliament in its Industrial Policy Communication update of 10.10.2012, calls for the consideration of SCF as an alternative to traditional banking finance, and hints at the possible revision of the Markets in Financial Instruments Directive (MiFID). At the same time, it stresses the need for prudent consideration by regulators. Also at a national level, politicians support the development of SCF, for example, SCF being a topic within the Dutch industry policy on logistics. They claim that there is little supply chain finance provision for developing economies in Asia, Africa and Eastern Europe. This creates an entry barrier for many industries into the global market. Such financial inefficiencies are increasingly becoming a strategic risk factor in supply chain management for the end buyers. However, more importantly, the question arises whether supply chain finance could really be an accelerator for economic development by providing suppliers in developing countries with improved access to funding. Our aim is to work together with developing banks, non-governmental organisations, commercial banks, and investment funds to understand, develop and implement SCF models in supply chains that originate in developing countries.

Specific attention should be given to the definition of supply chain finance. In most of the literature on SCF, the definition question is discussed, besides the fact that not much academic literature is available specifically about SCF. The problem seems more profound than just deciding on a definition. Citing Templar et al., 2012.: “Defining the true nature of SCF in itself appears to be difficult: model, discipline, technique, product or programme?” Some definitions of SCF: “SCF is an approach for two or more organizations in a supply chain, including external service providers, to jointly create value through the means of planning, steering, and controlling the flow of financial resources on an interorganisational level”: “SCF is a combination of trade financing provided by a financial institution, a third-party vendor or a corporation itself, and a technology platform that unites trading partners and financial institutions electronically and provides the financing triggers based on the occurrence of one or several supply chain events”.“SCF is the name attached to the collection of products and services that financial institutions offer to facilitate the physical and information flow of a supply chain”. (Hofmann & Belin, 2011): “This study views SCF ... namely that financial flows are in contrast to physical flows and their related information flows along the C2C cycle. Thus, the optimization of a companyґs SCF can be considered equivalent to working capital optimization”. The framework from Templar et al., 2012 is particularly worthwhile to consider when categorizing the different schools of thought about SCF as observed in the literature. They position supply chain finance as part of the broader concept of Supply Chain Management (SCM). It recognizes three schools (from broadly to narrowly defined): SCF as financial supply chain management, SCF as supply chain financing and SCF as buyer-driven payables solutions.

Figure 2. SCM Model 1 with description.

The first school of thought from Templar et al. (2012), SCF as financial supply chain management, encompasses all activities in the supply chain that can be related to finance, so in a broader sense than just payables or integrated working capital solutions. It covers the entire end-to-end supply chain and, as put forward by Hofmann (2005) and Hofmann & Belin (2011), it follows in the opposite direction to the physical supply chain. Where materials flow from suppliers to buyers, funds flow from buyers to suppliers. Hofmann and Belin go one-step further than Templar, since they see the financial supply chain as the opposite of the physical supply chain, whereas Templar observes financial supply chain management as part of a broader SCM context. According to Hofmann (2005), the information flow, technology, document and data management, order processing, etc. are all considered part of SCF. 1. Do buyers consider the strategic relevance of suppliers in the decision to facilitate supply chain finance? This central question can be divided into the following sub-questions: • When are suppliers considered strategically relevant to the buyer? What segmentation models are commonly used? • What is supply chain finance? What supply chain finance models are known and being used? • What disciplines are involved in the decisions to facilitate supply chain finance? Do they apply to supplier segmentation models? The second central research question deals with the potential value of supply chain finance models. There are many types of costs and risks that buyers face when dealing with suppliers. We propose adding supply chain finance to the set of tools buyers can use to mitigate risks and lower costs. However, what role can supply chain finance models have? This leads to our second central research question: 2. what type of costs and risks need to be analyzed and quantified to determine the value of collaborative finance models for the buyer and its suppliers? The value of a supply chain finance model might be positive, but the question remains whether it is the only factor that motivates the buyers’ decision to facilitate this for their suppliers? Other dimensions might play a role, such as the various functional departments that are involved, the relative value of the SCF programme, the level of understanding, or other environmental factors. These results in the third central research question: 3. what factors can influence the tactical decision to facilitate collaborative finance models for suppliers. The aim of our research is to address these three central research questions across the three research lines of the multinational, SME’s in The Netherlands, and suppliers in developing countries. This should lead not only to a better understanding of the cost and risk factors that determine the need and value of supply chain finance models, but should also provide insights into the (organizational and environmental) factors that influence decision making and that can help shape the policies of governments and international institutions. Earlier we distinguished three main areas of development around supply chain finance that will be reflected in our three research lines: • multinationals (SCF 2.0): How can SCF support multinationals in reducing costs and mitigating risks? • SME: How can SCF result in improved access to funding for small and medium-sized companies, and especially for smaller suppliers in Western Europe, particularly those in The Netherlands? • International Sustainable Development (ISD): What role can SCF have on international sustainable development, especially for smaller suppliers in developing countries? Through experimenting and analysis, the relevance of SCF models will be researched. The aim is to realize substantial benefits for buying firms and their suppliers through cost reductions and risk mitigation. Our initial focus is on the role of the larger multinational or large buyers in their supply chain with respect to supply chain finance. How can they apply collaborative finance models to support their supply chain, and particularly their supplier network. These suppliers can have very different characteristics, for example, from very small to very large, or from located close by to located far away. Taking the perspective of the large buyer, we can develop the following uniform research question across the three research lines: Supply chain finance has gained much interest among corporates as a support for their supply chain strategy. We have shown with multiple examples that the use of SCF models is not only about reducing costs, but also about mitigating risk. It can be expected that the application of SCF models by large buying firms will increase significantly, in both variety and depth, in the years to come. It has also been shown that policy makers in governments increasingly promote the adoption of SCF models as an alternative financing solution to regular banks. Large buying firms are expected to facilitate these solutions for their wider supplier base. Development banks such as IFC and the World Bank have started programmes to leverage the position of large buying firms for the benefit of small suppliers in developing countries. As shown, the applied research in the area of supply chain finance is still limited. It is a developing field of research and our aim is to add to this research field in three dimensions: 1. Supply chain finance for multinationals 2. Supply chain finance for small and medium-sized enterprises 3. Supply chain finance for international sustainable development.

References

  1. Aberdeen. (2006). Get Ahead with Supply Chain Finance: How to Leverage New Solutions for End-to-End Financial Improvement. Aberdeen Group.
  2. Blackman, I. D., Holland, C., & Westcott, T. (2013). Motorola’s global financial supply chain strategy. Supply Chain Management: An International Journal, 18(2), 132–147.
  3. Camerinelli, E. (2011). B2B Finance: a new name for Supply Chain Finance. Aite Group Blog. Retrieved June 12, 2013, from http://aitegroupblog.com/banking-payments/b2b-finance-a-new-name-for-scf/
  4. Ellingsen, T., & Vlachos, J. (2009). Trade finance in a liquidity crisis (No. 5136) (pp. 1–22). Retrieved from https://openknowledge.worldbank.org/handle/10986/4328
  5. Gustin, D. (2006). A perspective on Corporates and their Global Supply Chains (pp. 1–22). Vancouver: GBI.
  6. Hofmann, E. (2005). Supply chain finance: some conceptual insights. Beitge Zu Beschaffung Und Logistik, 203–214.
  7. Hofmann, E. (2013). Research on supply chain finance a review, a framework, and suggestions for the future (pp. 1–16).
  8. Hofmann, E., & Belin, O. (2011). Supply Chain Finance Solutions relevance - propositions - market value (pp. 1–100). Heidelberg: Springer-verlag.
  9. Hurtrez, N., & Gesua’ sive salvadori, M. (2010). Supply chain finance: From myth to reality. Mckinsey on Payment, (October 2010), 22–28.
  10. Kerle, P. (2003). The Necessity for Supply Chain Finance. Credit Control, 39–45.

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