Investment in the Value Chain

Oct 01, 2020

COVID has exposed the cracks in value chains as many suppliers have worse cash flow problems than manufacturers / retailers.
Manufacturers with optimized / efficient supply chain are by definition exposed to the risks of their suppliers, and these risks have increased significantly. Among these risks are: Enterprise risk (risk of supplier’s bankruptcy), Performance risk (can the supplier meet the contracted volumes on time) and Quality risk.
The issue with economic crises is that bank lending dries up overnight. While the good practice is being friendly with one’s banker, the reality is that drawing down on the credit line becomes either impossible or risky as banks can ask for immediate repayment if the crisis lasts longer than the bank’s patience.

Solution

Since the best funding is cash revenue, large firms exposed to their suppliers’ risks should support their counterparties by paying earlier than the contracted payment terms, or even (cash-permitting) taking on some of the risk by prepaying for suppliers’ goods and services.
This may or may not have to be coupled with asking for better terms (like prices or exclusivity) from suppliers, or just be a sign of goodwill.
Paying suppliers faster solves their cash collection issues and assists with payroll timing (and the possible resulting quality improvement as a result of motivated workforce).
Unless the company has excess cash, such “altruism” will come at the opportunity cost of foregoing other investments. Not all cash management policies (or CFOs) are flexible enough to consider such approach seriously.
Another way to help value chain participants is extending payment terms for accounts receivable giving the distributors an opportunity to deploy this cash and avoid shutdowns. Probably this should be a measure of the last resort, and some may argue that it’s throwing good money after bad.

Treating suppliers as partners goes a long way towards positive mutual outcomes, and organizations, like people, have memories of dealing with each other.
We at Aviasales have always tried to pay invoices when we received them and not when they were due. First off, it’s a nice thing to do, and nothing builds trust better than prompt payments. Secondly, this has created a ~30 day cash flow buffer when we would keep the cash until the due date and still fulfil our side of the agreement.