Fighting in Ukraine spurs factoring and digitalization adoption.
To combat the host of supply chain issues created by the Covid-19 pandemic, as well as the new ones that have emerged in March as a result of the war in Ukraine and subsequent sanctions, CFOs are focusing on risk mitigation strategies and optimizing working capital. They’re building budgets around business drivers as opposed to historical costs and are smoothing cash flows by joining digital ecosystems that connect the entire financial supply chain through automated payments.
As Craig Bailey, associate principal at The Hackett Group global consultancy, explains, supply chain backlogs have caused many companies to double up on inventory orders.
“Companies are spending more than usual trying to replenish inventories. Some are even using costly air freight options for emergency inventory orders, knowing they also have goods stuck at sea,” he says.
Generally, whenever organizations react that quickly to supply chain shortages, it leads to a buildup of inventories, Bailey adds. “Most companies are still trying to catch up from 2021.”
Restarting the production that was shut down by the Covid-19 pandemic in 2020—especially in China—led to a shipping bottleneck throughout 2021 when shipping rates soared, as did the number of ships waiting to offload their cargo. In mid-December 2021, as many as 101 containerships were waiting to berth at the Port of Los Angeles and the Port of Long Beach.
Meanwhile, Brexit’s aftermath complicated the UK’s and EU’s business environments by introducing new red tape and increased border checks for imports and exports.
This was in play before Russia invaded neighboring Ukraine on February 24. The subsequent sanctions and trade restrictions placed on Russia by much of the rest of the world have furthered trade complexity.
Interos, a company providing supply chain risk management solutions, estimates that more than 2,100 US-based firms and 1,200 European firms have at least one direct (tier-1) supplier in Russia, while more than 450 firms in the US and 200 in Europe have tier-1 suppliers in Ukraine. Adding tier-2 suppliers—those who purchase from companies with suppliers in the affected countries—of course enlarges the number of affected companies. More than 15,100 firms in the US and 8,200 European firms have tier-2 suppliers based in Ukraine, and Interos research found more than 190,000 firms in the US and 109,000 firms in Europe have Russian or Ukrainian suppliers at tier-3.
Whether alternative sources of supply can be found for Russian and Ukrainian goods like wheat, corn, minerals and oil, above all, remains to be seen. Grain importers in Africa and the Middle East are in trouble should Russian wheat supplies cease to reach their shores. At the same time, interference with Black Sea shipping will have broad consequences for global supply chains. As of the beginning of March, approximately 200 cargo ships were reportedly stranded in Ukrainian ports while more are stranded around the globe without access to the Black Sea route to market, increasing already soaring shipping costs.
According to January data from shipping rate provider Xeneta, Asia-US contract rates had gone up 122% from early 2020. The Shanghai Containerized Freight Index, which reflects the Shanghai export container transport market’s spot rates, also reached a new high in late December 2021, up 76% year on year, breaching the 5,000-point level for the first time. As of mid-March of this year, the index had reached 4,625 points.
Managing The Risks
Reduced supplier access and increased shipping costs have hit the bottom line for many companies hard and have CFOs turning increasingly to factoring their receivables, or selling their accounts receivable, to smooth out their cash flow and reduce risk.
The recent crises in Ukraine fueled the demand for factoring, with companies looking for working capital financing facilities in those sectors with the highest exposure to commodity prices, according to Johannes Wehrmann, managing director for corporate sales at London-based supply chain finance platform provider Demica.
“Companies are looking to more effectively manage cash, paying off higher debt by selling receivables at more favorable terms,” he says. “In Europe, for example, companies are taking advantage of the fact that various large, reputable finance providers are aggressively trying to grow their factoring business by providing very competitive terms. They’re quite a low risk compared to other debt products and enable sellers to repay older incumbent debt facilities.”
For CFOs to know whether factoring is a good option to manage their corporate cash flows, they must have a deep understanding of their receivables portfolio, Wehrmann adds. “They need to know the value drivers behind their portfolios, how they’ve performed historically and how the contracts are structured. Then they need to think about the impact on their balance sheet, liquidity and profitability.”
Deep insights into the factors driving profitability are critical when costs are rising, according to Tom Seegmiller, vice president of Financial Planning and Analysis at financial management software provider Vena Solutions.
Finance executives, as well as financial planning and analysis professionals, are increasingly using driver-based budgeting to link resource usage, activities and costs to the bottom line.
“Driver-based budgeting, from my perspective, really acknowledges that the budget is your financial output, the articulation of a series of operational items or activities that happen within the business,” Seegmiller says.
Such an approach shifts the focus from the budget item to the activities the company will undertake in the future, he adds. “That’s how you drive the budget. It moves the ownership of the budget from finance, one of the criticisms of traditional budgeting, to ownership that very clearly resides within the business.”
In an environment of rising costs, traditional budgeting falls short. “In the current environment of uncertainty over input prices, growing wage bills and the impact of the Ukraine crises on the global supply chain, it’s even more important for finance executives to dive deep into the operations side of the business to manage costs,” says Seegmiller.
To create more-stable supplier relationships while reducing risks, companies are rapidly joining “digital payments ecosystems,” according to Gavin Cicchinelli, COO at working capital and business-to-business payment platform provider PrimeRevenue.
No matter where companies are located today, supply chain issues remain prevalent. One of the biggest challenges for companies is ensuring they have adequate cash flow to produce the products, ship the products and then track everything.
“Roughly 40% to 50% of businesses still rely on manual vendor management and payment processes across their supply chains,” says Cicchinelli. “Last year, PrimeRevenue focused on delivering enhanced platform solutions that solve these problems for our clients by automating accounts payable and working capital solutions. As a result, companies can pay their suppliers early or on time at invoice maturity and reduce the friction in their entire supply chain, whether they have 100 suppliers or 15,000 suppliers.”
He adds that automating the process saves time and money from an accounts payable perspective and smooths and accelerates cash flow from suppliers.