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As many as 63% of British firms and 48% of German companies want to extend payment terms with their suppliers, but pressures on cashflows, combined with credit scarcity, make it impossible for suppliers to accommodate them, according to a recent report by supply chain solutions provider Demica.

This trend has brought the benefits of supply chain finance (SCF) to the fore with 61% of British firms and 43% of German companies now planning to monetise receivables outstanding to provide liquidity within their supply chains, according to the survey of 1,000 companies in Germany and the UK.

The majority of UK companies (88%) and 55% of German recognise that some of their key suppliers cannot  sustain lengthening payment terms, and are concerned that essential suppliers may fail.

“Scarcity of traditional credit has become a real problem in supply chain management this year, especially since many supply chain structures developed in the last few years have been predicated on the easy availability of low-cost liquidity,” says Phillip Kerle, chief executive officer of Demica. “The situation is becoming critical, particularly in business structures where the ability to swap suppliers is very limited because of the specialist products or components they provide. While the situation regarding extension of payment terms is problematic in Germany, it appears to be overwhelming in the UK.”

He adds that liquidity is more fluid in Germany than in the UK as the former’s banking system is used to rating and lending to unlisted, family-owned Mittelstand [German small-to-medium businesses]. In the UK, small companies often suffer from reduced credit availability during a recession because banks consider the amounts involved too small to justify the cost of detailed individual credit assessments.

“In both countries studied, however, we should recognise that over half of companies believe that payment terms can be stretched no further,” continues Kerle. “So the problem has definitely reached a critical point in Germany and the UK. Pressure is still heavily on major firms at the end of the supply chain to free up cash, but if that means putting essential suppliers out of business, then the whole chain can collapse like a pack of cards.”

In recent years, supply chains have been extended into more distant, lower cost geographies and use sophisticated analysis and planning routines to predict and meet future demand. The current global economic downturn is putting increasing pressure on supply chains in wholesale/retail, automotive, hi-tech, telecoms and specialty chemical sectors.

“When customer demand falls, large companies at the end of the supply chain tend to look to their suppliers to share the burden of that downturn. However, now that the supply chain has been subject to such fine-tuning since the 1990s, supplier margins have been pared and payment terms so extended that virtually no room for manoeuvre is left,” says the report.

Another major study of supply chain management trends recently identified supplier failure as amongst the top 10 risks inherent in supply chains, and its author revealed that “volatility and supplier failure” had increased 54% between mid-2007 and mid-2008.

“Yet many supply chains rely on a set of specialised suppliers who cannot be easily replaced, if at all. It is, therefore, in the interests of large firms to preserve the health of their supply chain, while at the same time maintaining pressure for economies and efficiencies,” it said.

The risk of supplier failure is also highlighted in economic figures for 2008, which revealed insolvency rates increased by some 24% in the UK and 11% across Europe, while rising by a more modest 3% in Germany.

According to the Demica report, however, both banks and corporates are keen to utilise SCF techniques to ease tensions in supply chains. SCF structures not only allow large corporations to extend their credit terms with suppliers, but enable suppliers to use the credit quality of their debtors to finance their receivables at favourable rates.
Banks, in particular, which are very reluctant to damage their risk profiles in today’s economic conditions, are exploring new ways of extending credit secured against robust assets, such as invoice debt.

“Companies are now turning to financing techniques to improve their supply chain efficiency without damaging essential suppliers in the chain. Banks are becoming increasingly active in the SCF portfolio, as this technique lifts the lid on lending without taking on unacceptable risk,” says the report, pointing out that 49% of UK respondents and 41% of German respondents specifically confirmed that they were considering factoring, securitisation, asset-based lending, SCF and other non-traditional financing techniques.
“Invoice debt is seen to be a high-quality security at the heart of many SCF programmes. It also seems likely that as these two key European economies recover from the recession, SCF programmes will become the norm,” the report notes.

The report also found that 61% of British firms and 50% of German firms believe that current market conditions have brought procurement and finance strategies into closer alignment within their organisations.