The pressures of global competition and emerging economies created the need for the innovations we commonly call the “supply chain”—the processes for procuring, manufacturing, and logistics. But there are actually three primary supply chains: the physical supply chain, the movement of materials and services; the informational supply chain, the movement of information that supports the movement of materials and services; and the financial supply chain, the movement of funds to achieve settlement. However, until the last decade, the impact and interdependence of the financial supply chain was not recognized by supply and procurement professionals.
In this age of technology, we process orders in seconds, fulfill in minutes, and deliver in hours, yet the time to complete the settlement of funds still takes weeks and months. For over 20 percent of those settlements, the use of technology is replaced by manual intervention—those payments have errors resulting in extensive investigations and delays. For the supplier, those invoices require excess working capital to cover the delays in replenishment of operating funds, usually at high rates of interest that are eventually paid by the buyer. The major beneficiaries are the banks and financial institutions; the major losers are the buyer and supplier (plus carrier).
Money is not free; nor is the cost of inventory, labor, and processing. The ability to profit by employing buffers of excess working capital, inventory, labor, and administrative costs is no longer a cost-effective strategy in today’s environment. The investments in electronic systems processing, such as ERP and other process technologies, to solve these problems has been ineffective. This is largely due to the lack of linkage between the payment cycle in the financial supply and the primarily manual receipt processes in the physical supply chain.
No company is immune from the gaps between the delivery and receipt processes and the ability to settle invoices, especially erroneous invoices. The use of excess working capital is now too expensive a buffer to close these gaps.
The irony is that when we force suppliers to incur additional and unnecessary costs (such as extra working capital to cover delays in payment), those costs eventually result in higher costs to the buyer. Examine your own accounts payment processing. Have you recently changed the payment cycle to suppliers from 30 days to 60 days? Larger, more critical suppliers may be able to force you to reverse those decisions; smaller, more dependent suppliers cannot. Yet those smaller suppliers often pay substantially more financial fees for working capital than you do. Economics 101 dictates that if you pay 5 percent for working capital and your supplier pays 12 percent, then you, the buyer, should carry the float—not the supplier. How successful have you been at convincing your chief financial officer of that logic?
How effectively are you using payment cycles to reward good suppliers and punish poor suppliers? Or are all suppliers paid with the same schedule? The most common complaint we hear from suppliers is their inability to get paid on time. Shouldn’t this be part of your RFP negotiating strategy?
The management of the financial supply chain is within your scope of responsibility, and its proper management will result in substantial benefits to you and your key suppliers. What are you doing to understand and optimize your financial supply chain?