Why Cutting Out the Middle Man may be the Key to Financing Your Supply Chain

There has been much talk over the past year about how supply chain financing (SCF) can leverage your working capital. And on the face of it, in a low interest and risky economic climate, this might seem like a great way for cash-rich organisations to make the most of their money.

But let’s get a few definitions straight. Traditional SCF is where a buyer uses money from a Financial Institution (FI) – a bank for example – to fund the early payment to the supplier. This is also known as reverse factoring. This method is ideal for your larger suppliers in terms of total spend – say the top 100 or 200 – for two key reasons:

1. Banks have to adhere to KYC (Know Your Customer) regulations to prevent fraud and ensure they’re not funding illegal organizations. It costs them thousands of dollars for each supplier they on-board to the scheme. They are therefore much more likely to focus only on those organisations that will have a larger spend volume, as the banks have no financial incentive to pay these fees for organisations who may not give them a return.

2. Your larger suppliers will have the commercial leverage to bargain for interest rates as low as 2 – 3% APR, as opposed to the 18 – 25% you can charge your smaller suppliers. However, this is below the amount it would take for your buying company to make money from the deal. This is where the bank can step in and fund the APR rate for the larger suppliers, so that everyone wins.

Considering a SCF programme like this is only for your largest spend suppliers, however, the return for the buyer company will not be as big as you might expect, as the bank will take a large portion as a fee.

Innovative cash-rich organizations realize that they need to monitor the health of their entire supply chain, not just the big guys. The ideal solution is one that can address the large suppliers with a bank-funded offering, and also allows you to leverage your own cash to offer early payment discounts to the long tail of your supply chain. The latter is known as Dynamic Discounting, and enables organisations to fund an early payment programme for all their suppliers, not just a select few. By investing money in their cash-poor suppliers by paying them early and setting the rate of return, these companies take a discount on the payable that varies depending on when the supplier chooses to be paid. This might sound daunting, but American utility company PG&E captured $42m in early payment discounts in 2012 alone.

The challenge in all of this, however, is to find a flexible solution that preserves each unique buyer-supplier relationship. It needs to be scalable to cater to organisations of all sizes, of all invoice types, and that can involve third parties for those who are suitable. Taulia’s platform is the only SAP© certified web-based dynamic discounting solution around, and their customer’s successes are certainly impressive.