Exploring the supply chain finance and P2P implications based on Greensill’s restructuring

Earlier today, the WSJ reported that Greensill Capital could face restructuring or liquidation. For those not involved in the esoteric world of trade financing (and supply chain finance, or “SCF,” in particular), it can be difficult to understand the structures that Greensill and its peers are involved with. So let’s first define supply chain finance (and offshoots of it) for those which are just coming up to speed before exploring the supply chain finance and procure-to-pay (P2P) implications of Greensill’s potential restructuring.

SCF background (approved payables financing)

In short, SCF and its associated vehicles provide liquidity for buyers by allowing DPO extension, whilst also providing for early payment of suppliers via third-party capital. Under these models, the “buyer” pays the third-party upon maturity of the extended receivable. For buyers, it is no surprise that SCF programs typically have a ROI that is tied to DPO extension. After all, who doesn’t want to free up working capital? Companies generally find success with approved payable finance programs when they have long payment terms and the buyer is a large percentage of the supplier’s sales (less than 30%), and the suppliers are weaker than the buyer. These “steady state” programs are often smooth sailing for all participants once they’re put into place, but when a non-investment grade buyer runs into difficulty, challenges can arise.

Historically, in the banking world, supply chain finance has served as a credit and cash management product and has only focused on investment grade or near investment grade companies. Yet classic SCF programs are expensive for providers to implement SCF due to regulatory requirements (e.g.,  KYC, UCC filings in the US) since funders are typically “buying” receivables, which makes it difficult to profitably implement bank funded SCF programs for SME buyers — and for smaller, long tail suppliers. More recently non-bank SCF programs, as well as related dynamic discounting programs have begun to gain favor as both a complement and alternative to SCF. These programs require no bank line and can be done by any corporate, investment grade, non rated, non-investment grade, etc.

Historically, corporates have tended to self-fund dynamic discounting using their own surplus cash, although Greensill and others have worked with P2P providers and supplier networks to allow for third-party capital to also fund these programs. In contrast to SCF, funding for these models is based on treasury hurdle rates and can, in certain circumstances, have APRs approaching 20% or more. Typically, these programs focus on the long tail of suppliers (i.e., smaller, more indirect spend vs. direct spend in manufacturing). Greensill has participated in both traditional SCF programs as well as these offshoots, including SCF for non-investment grade buyers (which is high yield and higher risk for investors).

What about insurance?

Many traditional supply chain finance deals are backed by trade credit insurance on the buyer. We can think of trade credit insurance as a substitute (or complement) for investors doing complete due diligence on the underwriting themselves. It’s a safety net. Yet trade credit insurance only provides protection for bankruptcy of an obligor. And becoming insolvent can be very different than “failure to pay.”

For investors in these programs, the important question to ask is: Am I prepared to underwrite the credit risk and prepared to take the loss? If not, there is a smaller pool of insurers that cover this space — think Euler, AIG, Coface — but given recent events (Chubb and Katerra, now Greensill), we could find pricing increasing and availability scarce.

SCF today (and tomorrow)

As noted, supply chain finance programs have been the domain of very large corporates for a few simple reasons:

• Large companies have the biggest spend
• These large companies also have the leverage to push terms
• Then there is the rate arbitrage — investment grade companies or near investment grade companies have significant rate advantages over many of their trading counterparties

But in recent years and quarters, market participants have pushed programs downstream to make SCF available to both smaller and less creditworthy companies. In this K-shaped recovery, there are a lot of non-investment grade companies who are highly leveraged, but in certain cases, bankers don’t have enough incentives to shut down because that means writing off their loans. Fintechs, including those focused on dynamic discounting programs and associated variants, may come in and offer some structured finance options, including supply chain finance, which helps these companies extend payables and improve their cash conversion cycle.

Looking ahead, these investors who would normally be attracted to the higher yields from the paper on these deals may now think twice about this asset class given the Greensill news. Granted, not all investors are homogeneous (think of the difference between a hedge fund and an insurance investor). But SCF (overall, but especially non-investment grade) may increasingly become viewed as a higher risk asset class vs. a low to moderate risk, high-yield opportunity.

Implication for P2P providers

While payment (not early payment) has become the major focus of many procurement and AP technology providers in recent years (think AvidXchange, Tipalti, Coupa Pay, etc.), a range of providers sometimes focus on early payment options as well. A number of providers have partnered with Greensill over the years (e.g., Taulia), to provide third-party funding into their platforms and networks. Some (e.g., C2FO) also share common investors with Greensill (e.g., Softbank). In fact, one of the founders of Taulia, Maex Ament, served as Vice Chairman Product and Technology at Greensill, for a period of time.

For these technology providers (and their customers), we see a few key implications of the Greensill situation:

• Capital to fund early-pay programs may become more costly (generally) but especially for non-investment grade payables. This may make early pay options via technology networks less attractive for suppliers when the rates are higher than other forms of financing (except as a last resort)
• A premium may be placed on market information via platforms and networks (to reduce the chance of invoice fraud — by the supplier, buyer or both), even if this does not alleviate credit risk on the buyer
• Derivatives of these programs (e.g., payroll financing) may also become more costly for participants given rising yields to compensate for similar credit risk considerations
• “Early payment” is not “payment” — the market for core payment solutions as components of source-to-pay, procure-to-pay, invoice-to-pay, and AP automation is likely to continue to remain as strong as ever