Pieter Klapwijk of Nyenrode Business Univeriteit opened up the ‘Profit track’ discussion on making supply chain finance an investment class. But making supply chain finance an investment class requires standardisation, he said. But to do that you have to adjust the return or the risk to get similar risk-return profiles. Risk is the easiest to manage, through insurance.
Financial cost throughout the supply chain has many components: interest on bank loans, equity remuneration, transaction costs and so on. But these costs are largely hidden in the cost of goods sold. When you add up all the financial costs of all the tiers in a supply chain, research shows that the figure could be as much as 20-30% of final product cost being comprised of financing costs – much more than most people would have thought!
Razan Coarca from Liberty Global explained how the business accepts the reclassification of accounts payable as debt, because the company extends payment terms up to a year and covers suppliers’ costs. But that’s because cash flow is important to the company, he says. “We want to keep it neutral for suppliers and not have them impacted negatively.”
The buyer pays the original invoice plus agreed interest on day 360 – but the bank pays the vendor on day 90. It’s short-term debt for Liberty Global. But to protect the balance sheet in case banks choose not to support the programme, the company is looking for longer tenor than the invoice. A revolving committed structure covers up to 3-5 years while a special purpose vehicle bond structure covers up to 8 years. The company now has over €800m outstanding in the market and has won a number of awards for its bond deal.
When a bank buys non-payment insurance, it wants the policy to comply with Basle rules so as to reduce its capital requirements. The challenge is if a trade obligation is disputed, says Julian Macey-Dare of Marsh. What we’re seeing is a trend towards capital markets and private note placements where supply chain payables risks are sold in note form to a whole different class if investors. Insurers can flex their risk under Solvency II in a way that banks cannot do under Basle III.
This may be regarded as regulatory capital arbitrage. But it’s little different from a corporate treasurer using trade payables in a more efficient way while avoiding reclassification of payables as debt. This isn’t heavy financial engineering, however. Using credit insurance as a back-up helps make it possible to provide finance to companies especially those further down the supply chain. That insurance can help make something happen, creating trade by making it possible to get access to finance.