• ITVI.USA
    15,314.590
    184.430
    1.2%
  • OTRI.USA
    24.080
    0.010
    0%
  • OTVI.USA
    15,313.750
    188.540
    1.2%
  • TLT.USA
    2.710
    0.000
    0%
  • TSTOPVRPM.ATLPHL
    3.350
    0.280
    9.1%
  • TSTOPVRPM.CHIATL
    3.090
    0.230
    8%
  • TSTOPVRPM.DALLAX
    1.730
    0.070
    4.2%
  • TSTOPVRPM.LAXDAL
    3.100
    0.150
    5.1%
  • TSTOPVRPM.PHLCHI
    2.160
    0.120
    5.9%
  • TSTOPVRPM.LAXSEA
    3.570
    0.220
    6.6%
  • WAIT.USA
    125.000
    -2.000
    -1.6%
  • ITVI.USA
    15,314.590
    184.430
    1.2%
  • OTRI.USA
    24.080
    0.010
    0%
  • OTVI.USA
    15,313.750
    188.540
    1.2%
  • TLT.USA
    2.710
    0.000
    0%
  • TSTOPVRPM.ATLPHL
    3.350
    0.280
    9.1%
  • TSTOPVRPM.CHIATL
    3.090
    0.230
    8%
  • TSTOPVRPM.DALLAX
    1.730
    0.070
    4.2%
  • TSTOPVRPM.LAXDAL
    3.100
    0.150
    5.1%
  • TSTOPVRPM.PHLCHI
    2.160
    0.120
    5.9%
  • TSTOPVRPM.LAXSEA
    3.570
    0.220
    6.6%
  • WAIT.USA
    125.000
    -2.000
    -1.6%
AskWavesNewsSupply Chains

What is supply chain finance?

Regulatory bodies seek more disclosure

This is part of FreightWaves’ AskWaves series. If you have a question for our editorial team to explore, click here. For more AskWaves articles, click here.

Supply chain finance, or reverse factoring, is a short-term lending arrangement that buyers establish to pay for goods and services provided to them by suppliers.

Under these agreements, a buyer enlists a financial institution to pay its outstanding invoice with a supplier. Typically, the bank makes the payment, ahead of the due date and at a discount, to the supplier on behalf of the buyer. The buyer then pays the bank at a date later than that afforded under the invoice’s billing terms.

A standard 30-day or 60-day invoice can be paid by the bank in short order once approved by the buyer, with the repayment to the bank being extended up to six months or even one year.

The transaction can be as simple as the bank paying the discounted invoice and the buyer repaying the bank the full amount of the invoice at a later date. Or, in more elaborate supply chain finance programs, suppliers are invited to participate.

Once in the program, the supplier can choose which invoices to trade or sell at a discount to financial institutions in exchange for early payment. In some instances, well-capitalized buyers fund the program themselves, paying invoices early in exchange for a discount to the face value of the invoice.

This scenario plays out in the supply chains of many manufacturers as a means to free up cash. Many big-box retailers use supply chain finance programs with their suppliers and vendors as well.

On the surface, it’s simple. Suppliers get paid early, albeit at a discount, buyers get extended payment terms and the bank earns a fee. Both suppliers and buyers can optimize cash flow by using the financial institution’s balance sheet. Also, many buyers have strong credit profiles, which can allow smaller suppliers with higher credit risk to essentially access financing at a reduced cost.

By comparison, factoring is initiated by the supplier. Under a factoring agreement, the supplier makes the delivery and then sells its invoice or account receivable to a third-party or financial institution known as the factor. The supplier receives a discounted portion of cash in advance of the actual payment of goods by the buyer. The factor receives a fee, usually the difference between the gross value of the invoice that is eventually paid by the buyer and the discounted portion it has already paid to the supplier.

In the past, most buyers would only have their top suppliers in a supply chain finance program. But improved technology platforms have allowed buyers to open finance programs to all suppliers regardless of size.

Scrutiny around supply chain finance

Scrutiny around disclosure on supply chain finance programs has increased following high-profile insolvencies like that of Greensill Capital. Supply chain finance arrangements are recorded with other accounts payable under current liabilities on the balance sheet, or those due in less than a year.

Most debt leverage metrics and valuation methods used to value a company and its equity only include debt and finance leases. Accounts payable are not included in these calculations. Also, extended payment terms can increase the amount of cash flow from operations a company generates, potentially inflating cash flow-based valuation metrics.

The lack of required disclosure for supply chain finance programs has drawn the attention of credit ratings agencies and the Securities and Exchange Commission. The groups contend investors may not have a full understanding of a company’s debt leverage, as the extension of payment terms through a supply chain financing program is not recorded as debt. There is also some concern around the potential fallout if financial institutions were to suddenly withdraw from these financing arrangements.

Some have pointed to the lack of supply chain finance disclosure requirements as a contributor to the demise of the United Kingdom’s second-largest construction company, Carillion. Project cost overruns and an extension of payment terms to subcontractors from 30 days to 120 were cited as reasons for the firm’s 2018 downfall.

Todd Maiden

Based in Richmond, VA, Todd is the finance editor at FreightWaves. Prior to joining FreightWaves, he covered the TLs, LTLs, railroads and brokers for RBC Capital Markets and BB&T Capital Markets. Todd began his career in banking and finance before moving over to transportation equity research where he provided stock recommendations for publicly traded transportation companies.

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