FAQs (frequently asked questions) on supply chain Finance
Following are some of the frequently asked questions (FAQs) on supply chain finance that we have encountered in our speeches, workshops, seminars, and other forums.
If you do not act on what you know, then you have no advantage over the person who does not know what you know. Feel free to ask more questions if your particular question is not answered below.
Why we are qualified to write this list of FAQs on supply chain finance?
VERY FEW PEOPLE KNOW SUPPLY CHAINS LIKE WE DO - with a 360 degree perspective on the topic. Whether it is information flow, or finance flow, or materials flow, or risk flow, or value flow - we have helped companies manage these flows to create effective and efficient business outcomes for them.
Since when no one had heard of supply chain, our co-founder Vivek Sood has been considered one of the most authoritative professionals in the field when it comes to the subject of supply chain finance in Australia, Asia, North America, South America and Europe. When Elite Bankers' Forums need a keynote speaker on finance flow of global supply chains, they invite Vivek Sood to provide that know-how.
He has written four seminal books about restructuring supply chains to gain massive advantage in business. He also regularly delivers keynote speeches at business schools and conferences such as University of Technology Sydney, Supply Chain Asia, Asian Bankers Forum, APEC Business Advisory Council.
He has been quoted in the authoritative business press and over 100 academic papers written by supply chain researchers around the world. Vivek and his team have examined thousands of supply chains during their projects over the last three decades and helped hundreds of executives build safe, cost effective and sustainable supply chains and careers.
Retail, beverages, food, milk, dairy, meat, livestock, explosives, chemicals, cotton, rice, graphite, solar power, natural gas, crude oil, fertilizers, electronics, packaging, glass manufacturing, machine parts, automobiles, industrial goods, mining, etc are just some of the industries where boards and executives have benefited from our proprietary knowledge of the five flows.
This is very critical question - and you should pay attention to our answer because up to now we have not seen or heard an accurate and complete answer to this question in any of the forums, books or articles. There is a lot of mystery and misunderstanding of this topic, and that is one of the reasons why decided to cover this topic in a FAQ format.
Financial flow is one of five key flows of supply chain management. Think of finance as the grease that keeps the material, the information, the value and the risk moving in the supply chain. The moment finance flow stops, the rest of the four flows will stop almost simultaneously, albeit with a slight lag.
One of our clients, a CFO of a company, calls it the "No Money, No Honey" principle of supply chain management. Another business partner calls it "money talks, baffling speech walks" principle.
So what are the various parts of the finance flow of supply chain?
- Clearly all the payments for the materials, information, risks and value transfer are the big part of the finance flow.
- Some of these payments might be on credit - so credit flow is also part of supply chain finance.
- Finally, financing of supply chain infrastructure, including information technology infrastructure to make the supply chain more efficient by increasing its optimisation, and create more effective supply chains by increasing its integration are all part of supply chain finance.
- Some people also include strategies to create tax-effective supply chains by routing payments through low tax regimes as part of supply chain finance. In our view any such strategies are taken as suspicious by tax offices and eventually discovered and reversed. We would encourage you to create real value flows in your supply chain by increasing efficiency, and effectiveness, rather than engage in such sham transactions.
Supply chain finance flow is the quid pro quo, literally, for the other four flows within supply chains. Whether it is materials, or risks, or value, or information - if you want access to these, you will have to pay for them. It is as simple as that.
When it comes to supply chain management - we make these five flows systematic, regular, well orchestrated, optimised and integrated.
In order to make the rest of the four flows systematic, regular, well orchestrated, optimised and integrated, we have to equally make the finance flow the same.
The short answer is - very badly. Whether it is the LoCs (Letters of Credits), or payments processing, or credit flow - traditional finance channels have by now lagged in service and cost. Even the so called disrupters (such as PayPal) are far behind their counterparts in the developing countries.
The long answer is that out of the five flows of supply chain, the finance flow is now the most antiquated and least efficient.
Part of the reason for this perplexing drag on the global supply chains is that in the past the flow of risk, value and information was also vested in the flow of finance.
Today, with the advent of modern technology, and with digitization of supply chains, it is entirely possible to separate the five flows and manage them independently.
Unfortunately the supply chain finance professionals have yet to come to terms with the modern reality - especially in the western world.
On the other hand, in China for example, companies such as ANT Group have clearly created a low cost high value alternatives to traditional routes of supply chain finance. To find out more about these alternatives, be sure to come back and check our web-site for our definitive guide to supply chain finance when it is ready.
Letters of Credit was a big part of the Masters Of Law (LLM) course that I did in international trade. A number of entire books have been devoted to the finer points of LoCs.
At its core, a LoC is very simple - no supplier wants to part with her goods till she has the payment in hand. Yet, in international trade the buyer and suppliers are far apart and goods take a long time to traverse the seas.
Enter the banks which devised an escrow method of taking the money from the buyer, and safeguarding it for the seller till the proper goods are in the hands of the buyer. How the entire device works can get very complicated - especially when you take the finer legal points into consideration.
And, of course the banks get to use to the funds while the funds are in their possession. Depending on the daily cost of these funds, the banks have an incentive to keep the funds and delay the payment, which they do in many underdeveloped economies. This has become a bone of contention, similar to what has happened with the payments with cheques and international transfers.
To boost national earnings and to encourage exports, national governments might provide export credits and insurance.
An exporter sells goods in the hope that the buyer will eventually pay via a letter of credit when the goods are delivered in sound condition.
The supply chain value flow is delayed due to the transit times.
The supply chain risk flow is discontinuous due to a number of reasons (goods might be damaged in transit, any of the banks in the LoC arrangement might go bankrupt, strikes, riots, civil commotion, war, and other acts of man or God might prevent the payment from eventuating).
The exporter may not be in a position to bear the risk or financing cost of the transaction. That is the reason why governments provide credits and insurance to exporters.
If you have not read the previous questions, and its answer then please go back and read it because this answer will build on that.
If you have already read the previous question and its answer then it is already clear that in many situations credit and insurance facilities will be useful to expand exports and other supply chains.
Exports are not the only supply chain flows that can benefit from availability of supply chain finance and insurance. Any situation in which value and risk transfer disparities create a supply chain bottleneck can potentially benefit from these facilities.
Another way of saying the same thing is that supply chain credit and insurance can greatly expand the supply chains by creating stability, assurance and systematic predictability.
Supply chain management itself is a relatively new thing when a systematic approach to integration and optimisation was applied to exchange of goods and services in the late 1970s.
In comparison to what is today known as supply chain finance has been around for millennia. In the past terms such as merchant banking, or trade finance would be applied to the same activity.
Unfortunately, while the terminology might have changed from trade finance to supply chain finance, the practice has not evolved much.
In comparison, the global supply chain have evolved greatly in the last 40 years with four generations of evolution taking them further and further away from the traditional international trade practices.
As mentioned in the answers to above questions - we are intimately involved in streamlining all the five flows of supply chain management for over 3 decades now. In our experience the participants who drag the chain the most are supply chain finance flow partners.
That is a polite way of saying that we still find almost all the platforms and finance partners uniformly mundane. They are extremely useful, but equally bad. So, we will not recommend any one partner over all the others.
Please do your due diligence and call us if you need our help to structure the flow of your supply chain finance.
The most important consideration in structuring the finance flow of your supply chain is to make sure that it matches the other four flows - the value flow, the risk flow, the materials flow and the information flow.
One can almost write a book on the topic - trying to make sure supply chain integrity and sustainability is maintained as you balance the risk transfer with value transfer and material ownership transfer.
You will find a lot of material on these topics within these pages if you use the search function on top of this page effectively.
A frequently missed recommendation is to look for specialists in supply chain finance and risk assurance, and well as look for government aided or encouraged entities that specialise in supply chain finance.
It is impossible to make an exhaustive list of all the industries in which SCF is relevant, or applied. For that matter, it is equally difficult to make an exhaustive list of all the industries that we have worked in during the past three decades - but a safe thought is that in almost all of them SCF played a critical role one way or the other. Here is a laundry list of such industries: soft commodities, hard commodities, chemicals, explosives, FMCG, food, beverages, manufacturing, machines, glass, packaging, automotive, energy and utilities, transportation, logistics, shipping etc.
In many industries front loading of supply chains has become a common practice today. Whether it is ethical, healthy and legal is something that we cannot answer because it is situation dependent. In many cases this practice clearly transgresses the legal boundaries and many companies have paid the ultimate price as a result.
Channel incentives are also important to attract appropriate participants in downstream supply chain - SCF terms become part of an attractive overall mix. Consumer goods and automotive industries spring to mind where customer acquisition is aided by SCF practices.
This is another question which might need a full book to cover our perspective adequately.
As stated elsewhere in these pages supply chains have evolved through four generations over the past four decades. Supply chain finance, on the other hand, continues to drag the chain with barely a first level of evolution.
We will certainly see a lot more digitisation in future of SCF. Disaggregation of the flows into five flows will become accentuated and SCF will become less responsible for managing the flow of risk, ownership/value, material and information.
Customers are already finding a workaround to SCF firms dragging the chain. Eventually the SCF firms will become innovative and catch up with the rest of the supply chain world.
Notes on FAQs
Clearly, any such list of frequently asked questions (FAQs) about supply chain can never be fully exhaustive. Neither is anyone, including us, the final authority and arbitrator on this or any other topic.
You will have your own opinions on many of these topics, and will have many other questions.
We throw open the comments section to you for your opinions and questions. We will try to address all of these, and the best ones will attract a reward in the form of one of our books, or publications.