Supply chains present an opportunity to spur growth, despite stagflation storm

By Alistair Baxter

 

With skyrocketing commodity prices fuelling the highest level of inflation for a generation, and economists predicting stalling or declining GDP in many major markets, companies find themselves today facing down the challenge of stagflation. In an attempt to cool inflation, central bankers are racing to increase interest rates, which brings with it a number of additional challenges. In this stagflationary environment, businesses face a two-pronged attack on their cash and working capital. The cost of borrowing increases while the risk profile of customers and suppliers becomes uncertain. Against this backdrop, opportunities for growth can seem scarce, yet businesses have options in the untapped potential of their supply chains. In difficult economic environments, it is perhaps more important than ever for finance professionals to assess the reliability and stability of their supply chains, and rethink them as facilities for working capital rather than a source of risk.

It is worth stating that rising interest rates and low growth economies create the same problem for all companies. Borrowing costs and customer and supplier risk both increase. However, not all companies are affected equally. Credit will be more expensive for everyone, but for investment grade companies, the effects of this are minimal due to their safer risk profile. For smaller companies or larger companies that sit further down the credit rating stack, the cost of capital will increase far more dramatically.

This creates a double headache for businesses operating in an environment where they and their customers sit within the SME or high-yield bracket. Not only do borrowing costs increase, but so too do those of your customers and prospects. Either business might struggle to continue to operate or they face the prospect of relying on income from customers and prospects facing the same problem. In the worst case scenario, a business might be dealing with both. If we assume that central bank rates will continue to climb in the coming months and years, we can expect this issue to intensify further and spread across entire customer pools and supply chains.

Finding and funding growth opportunities looks tough in this environment. Increased costs and increased risk of customer default are not comfortable bedfellows and in this landscape, financing and supply chains can easily become a source of angst.

This can be turned on its head, however. Generally, rates are a fairly crude instrument: whilst they work well at a macro level, the technological innovations since the last time we faced an inflation and rates environment like today can allow companies to find liquidity and capital at a speed that suits them, whilst also finding ways to benefit from the gap between investment and non-investment grade credit markets. So while it may not have the same headline appeal as funding rounds or debt issuance, Accounts Receivable financing provides a solution both as an effective working capital and risk mitigation tool. The short version of the story is that companies can get the cash from their sales much sooner, whilst effectively transferring the risk of non-payment to another party.

This is significant, particularly for smaller businesses. In the past 12 months alone, research suggests that somewhere between a quarter and a third of SMEs have suffered from bad debt, with large sums written off because of customer non-payment. And this is an upward trend. The 12 months prior, the proportion of SMEs suffering bad debt was just a fifth – still a large proportion, but significantly lower than the most recent figures.

ESG credentials within supply chains have a role here too. Considerations around ESG factors tend to drive stability as businesses that have gone through the process of implementing their own ESG planning have a great understanding of their own risk exposure, but also often the risk exposure of businesses they deal directly with. Assessing  ESG risk within supply chains has traditionally been difficult because acquiring reliable ESG information and data of businesses that are more than a single step removed can be quite tricky. Technology is changing this, however. Readier information in this area should further increase the ability to select trusted partners and suppliers who make up reliable links in a supply chain.

In times of stagnant growth and higher borrowing costs, both the rate of, and access to, additional financing to fuel growth will be a critical concern to many finance directors and company executives. One of the defining features of Accounts Receivable financing is that it is not classified as debt. Instead, it should be considered a facility to unlock cash during times of supply chain illiquidity while keeping balance sheets liability free. The result is short-term cash flow and access to capital through the supply chain, while reserving longer-term access to financing through other channels by preserving a business’ leverage profile.

Prior to the pandemic there was talk of supply chain theory ‘coming of age’ attributable to changing trade conditions between the UK and Europe, and the US and China; however, the conflict in the Ukraine and the Global Pandemic has accelerated supply chain planning. Companies are now surgically redesigning supply chains to lead on the ESG agenda, to dual source and remove single points of failure, to avoid or reduce exposure to autocracies, and to nearshoring to reduce lead times to name a few dynamics. All of this represents a shift from the most financially efficient supply chains of the past to the most secure supply chains of the future. Naturally, this brings a working capital drag with it.

A stagflationary environment poses significant challenges for any business. For many, the solution will simply be to weather the storm, yet it should not be assumed that growth, and the necessary access to finance, is impossible. If anything, a new economic era presenting significant hurdles will likely see changes in behaviour and innovative thinking as businesses work out how to ensure liquidity not only on their own balance sheet, but also in their customer and supplier ecosystems. We can hope that before long supply chains are viewed as an opportunity and an asset, not simply a necessary business risk.

spot_img

Explore more