SOME REALITY FOR BUYER-LED SUPPLY CHAIN FINANCE PROGRAMS

Future Credit Downgrades Threaten Supply Chain Future programs

David Gustin

- December 15, 2015 7:15 AM |

Categories: Supply Chain Finance |

The vast majority of programs which use buyer approved payable finance are done for investment grade or near investment grade companies.  The classroom concept behind Buyer-Led Supply Chain Finance is to arbitrage capital across a large buyer’s supply chain, providing funding at a lower cost than the suppliers Weighted Average Cost of Capital (WACC). Only a limited number of companies have access to the commercial paper and debt markets, and asset backed commercial paper, so buyer led approved payable finance enables these companies to offer finance to their supplier ecosystem.  When times are good, or even if your credit rating improves, it’s awesome because banks will be more apt to increase your credit capacity significantly.
Citibank estimates that this type of Supplier Finance is being utilized by over 70% of companies in the S&P 500 today.  PrimeRevenue has some 250 programs and the large majority of their finance programs are for buyer-led approved finance.
But what happens when your credit is downgraded by Moody’s and or S&P?  There are many sectors going through significant challenges.  Some examples:

• Oil and gas sector is due for some rating downgrades particularly in the upstream sector as even the strongest investment-grade credits are being hurt by current oil prices.
• Commodity companies, including the metals and mining sector, have seen continued weakness and uncertainty over China's economic growth and companies with aggressive balance sheets and leverage could be downgraded..
• Engineering & Construction, which relies on metals, mining, forestry, etc. capital projects
• Emerging Markets reliant on China trade, ie Brazil (which had a recent downgrade to junk)
• Capital Goods- although many have stable outlooks, according to S&P, the majority of recent rating actions have been negative.
• Telecommunications – with price competition in North America and challenges from new entrants, this is a sector facing increasing competition.
• Even Governments, including State and Provincial, are seeing lower tax revenues.

Two very important points need to be understood (and which generally are not by even some smart people)

1. Buyer led payable finance programs are uncommitted facilities. What this means is that a big bank can yank the reins on these programs very quickly.  The companies relying on the money would be stuffed.  Suppliers would not get money. If the executives of a big bank say we are in a different market environment, we need to reduce balance sheet exposure, yields on SCF programs are not cutting it, bingo, Houston we have a problem.
2. You can buy credit insurance on the obligor but credit Insurance does not FIX the problem of banks trade assets. And this gets into understanding how trade credit insurance works with risk weighted assets at banks.

In sum, while everyone gets excited about this in the media, the future realities could be challenging.  As usual, details and depth of understanding matter.