Explaining Supply Chain Finance for the Layman

A couple of weeks ago, an executive at a vendor politely took me to task for butchering an explanation of supply chain finance. I'll admit, even though I got most of it right, I could have been more explicitly clear in certain areas. If you're looking for a more specific definition of what supply chain finance is and what it involves, I'd strongly suggest you check out a recent edition of CPO Agenda, which published a byline titled Supply Chain Finance 101. Succinctly put, the article suggest that supply chain finance "looks for cash tied up in inventory, payment terms and days payable outstanding (an indicator of the average length of time it takes a company to pay its suppliers) and seeks to change processes that are using unjustified amounts of cash."

In a nutshell, with supply chain finance, "A buyer uses its company's high credit rating to get cheaper finance for its supplier and inject cash into the supply chain. The lender/factor (bank or financial institution) checks your business credit information and calculates the credit risk on your organization, rather than your supplier. Since the cost of financing for a large company is much lower than for a small supplier located in an emerging market, sourcing becomes financially efficient."

In addition to providing a good explanation of what supply chain finance involves, the author, Catherine Truel, opines that supply chain finance is growing, in part, thanks to the need for global banks to refresh their solution portfolio. To this end, historically, banks enjoyed healthy margins on letter of credit designed to facilitate the exchange of goods and services in developing markets while protecting buyers. But given the cost, many companies have moved to open book dealings with global suppliers. Now, "because an estimated 85 per cent of world trade is now done on open account, banks have responded to this shift by improving their SCF services." Bingo. Another way to line the bank vault with more bullion or Euros (who wants to hold dollars these days, anyway) ...

- Jason Busch

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