The benefits of supply chain finance to both buyers and suppliers have been well rehearsed and are well understood by the buyers that introduce such programmes. For them, an early payment (EP) programme – whether reverse factoring, dynamic discounting (DD) or any other scheme – provides the opportunity to secure working capital benefits by extending payment terms, improving the resilience of their supply chains or manage excess cash flows.

But how do suppliers themselves view EP programmes? Recent research by Global Business Intelligence (GBI), commissioned by Basware, suggests that middle market (MM) companies in North America may be somewhat more ambivalent about the advantages.

Financial supply chain expert David Gustin, founder and president of GBI, presented some of the key findings in a webinar hosted by Basware. “I want to get the feedback from the seller,” he explained. “There’s been a proliferation of early payment techniques, there’s been a lot of noise in the market. A lot of it tends to be focused on what the buyers are doing.”

There has been a lot of activity in the market, he said, which has been driven by three things:

  1. Large companies extending terms. “The consultants of the world go out and put pressure on companies and say, ‘Look where you are from a quadrant perspective on your working capital and your DPO: you’re not with your peers.’ In some cases we’ve seen terms get extended to 75, 90, 105, 120, 180 days,” Gustin said.
  2. More and more companies are digitising – both their customer ecosystem as well as their supplier ecosystem, with tools such as e-procurement, e-invoicing and AP automation.
  3. The technology itself, particularly accounts payable automation which has accelerated the time from receipt of invoice to approval. “Historically, if you go back to the paper-based world, it could take weeks for that to happen. Now some companies I know are doing five-way matches and it’s very automated. Therefore, invoices are approved by the buyer [quickly] but they may still have 75 days left until they’re paid. So there’s a huge opportunity to intermediate and say, ‘How can we alleviate some of the pain for the sellers?’ Hence the reason why we’ve seen such a proliferation of some of these [EP] techniques.”

Half don’t use EP finance

Gustin’s research, however, found that 50% of mid-market companies didn’t use EP finance. Only about one-in-five used SCF (20%) or DD (18%), with one-in-four (24%) using multiple programmes, typically including acceptance of purchasing cards.

So why is the MM acceptance rate of EP finance not higher? “It wasn’t that they weren’t offered these programmes,” Gustin said. That was only true for 18% of respondents.

The cost of EP finance offered was an issue for 28% of MM companies. But the real issue, Gustin said, was that “they felt that their payment terms weren’t as onerous as you were led to believe in the market. When you read the press you think that everybody is pushing their terms out. Maybe that’s true to some extent with the large companies, but the reality is, even if you move your terms from 30 to 45 days that still may not be as painful for the middle market.”

Another important reason why payment terms weren’t such an issue – and therefor why the demand for EP finance wasn’t higher – was that a lot of MM companies trade with other MM companies. “So a billion dollar company doesn’t necessarily have leverage over its supplier base to be able to push terms out,” Gustin argued.

He also found that MM companies were quite well serviced by an array of conventional lenders such as banks but also by non-conventional lenders such as asset managers, specialty finance companies, insurance companies and private equity.

“There’s this perpetual myth that there’s a great liquidity void because banks are underserving them  or banks are pruning their customer base or exiting because of the Basel capital requirements, etc,” Gustin said. “All that is very true – but there is an appetite in the marketplace for very good credit risks. Because of the strong appetite by some of the conventional and non-conventional lenders, their bigger issue seems to be that competition has driven the market to very light lending covenants and very low Libor-based pricing.” EP finance solutions, therefore, aren’t as compelling.

Reducing DSO exposure to major customers

For those mid-market companies that do take advantage of EP finance, the most common reason for doing so was to reduce their days’ sales outstanding (DSO), Gustin said. In cases where such companies do a lot of business with a particular supplier, the offer of reasonably-priced EP finance means “I can get a huge whack of my receivables at cheap pricing and I can reduce my DSO considerably,” Gustin explained.

Most suppliers use EP finance for only a very small proportion of their revenue, however. About two-thirds (65%) use it for less than 5% of their total receivables. “A small sliver” (5%) use it for 25-50% of their receivables.

Gustin also noted that, regardless of industry, “Everybody is getting squeezed.” Margins are under pressure all the way through the supply chain. The moral is, he said, “If you’re going to offer EP finance and take a whack off the invoice as a discount, that’s viewed as a cost. That makes it very difficult for this particular market segment.”

Onboarding: more than a technology issue

Gustin’s research also looked at the onboarding issues. These are often talked about but usually as a technology issue, he said. “Ease of onboarding is a good thing. But if you don’t understand the dynamics of the credit bank and capital market issues related to this particular middle market company then your onboarding is just technology.”

The real onboarding issue for MM companies isn’t the platform, it’s the fact that they have to get lien releases from their other lending arrangements, perhaps four or five times for the four or five customers offering EP finance. “Why would we do that instead of just going direct to the lender and using our collateral to get the best deal possible?” Gustin argued. “That tends to be the resistance point for some of these companies.”

The next five years

Looking ahead over the next 5 years, about 1-in-4 said EP finance will be important for more than 10% of their receivables. But 40% of suppliers did not forecast a need for EP finance at all. “Right now, asset-based lending and bank financing and other lenders cover a much higher percentage of receivable finance for these companies than EP finance,” said Gustin.

“Relationships do matter. There’s not a one-size-fits-all solution when it comes to financing. Just like every company has a different operating history and different balance sheet, there are different financing solutions for different companies.”