Solving the liquidity paradox

By Sean Van Gundy on 4th April 2017

Invoice Funding

Access to working capital through alternative funding benefits both SMEs and large customers

Solving the liquidity paradox

Without funding alternatives, suppliers often sacrifice growth and financial stability to meet customer demands. The pressure on suppliers increases with longer payment terms or seasonal peaks in demand, or when a supplier lacks access to affordable lending.

The impact of this lack of access to working capital is greatest for smaller suppliers which may be operating with market capitalization of one-tenth of 1 per cent of the size of even a median-sized customer, and which may incur significantly higher interest rates.

The financing environment for SMEs is improving as more banks are lending heading into 2017, but there are still gaps. Survey findings from “The C2FO Working Capital Outlook Survey” indicates that more than a quarter (29 per cent) of respondents have no or limited ability to borrow. In the UK, 43 per cent of responding SMEs claim they can’t get financing.

At the same time, customers often have excess cash on their balance sheets that is earning low returns. The resulting “liquidity paradox” represents an opportunity for better financing alternatives for SMEs. Alternatives that create access to working capital will not only benefit these smaller suppliers, but ultimately benefits even the largest customer and our economy as well.

When SMEs can get access to working capital, they can invest in innovation. SMEs surveyed indicated that access to working capital would allow them to purchase more inventory or equipment (29 per cent), invest in new technology (12 per cent), and invest in employees through adding jobs or increasing wages (12 per cent).

“The main challenge for me is dealing with buyers’ terms. It’s hard for a small company having to wait for those payments and continue to grow. The most important thing to us is getting cash so we can pay our suppliers, pay our employees and invest to keep growing. Having money early [through alternative funding platform C2FO] lets us keep putting it right back into the company,” says Kevin Harris of Hot Sauce Harry’s, a growing company that sells to Sysco and other large buyers.

Solving the liquidity paradox also benefits customers by protecting small suppliers which play an important role in supply chain diversity as the source of niche or exclusive products. But SME suppliers which are struggling are averse to risking these valuable relationships by requesting earlier payment or indicating any uncertainty to their customers’ supply chains.

The situation can be a point of supply chain failure. While some enterprise customers find short term gains by extending payment terms, there is a much larger benefit to buyers with more transparent collaboration and improved relationships with their supply chain.

“By accelerating payments at a relatively low cost, it strengthens our brand partnerships and negotiations,“ says the Director of Accounting Operations, Ulta.

When the alternative funding is part of the supply chain, these customers can leverage a higher rate of return on the cash within their supply chain to finance their own growth, invest in research and development and strengthen their financial metrics — all while increasing capital available to SMEs and improving the strength of supply chains.

“We didn’t want our suppliers to have to rely on high cost finance to do business with us. At the same time, we wanted to reduce our own costs and risk in our supply chain and realize a better return on our short-term assets,” says Joseph E. Gracheck III, VP Merchandise Accounting Controller, Costco Wholesale.

There is growing interest in invoice finance solutions among SMEs. Nearly 20 per cent are looking to such alternatives, as noted in the C2FO Working Capital Outlook Survey. These include supply chain finance, factoring and invoice discounting, and more innovative solutions such as C2FO. Bank loans and peer-to-peer lending are also on the rise.

Each of these options has its strengths and deficits. To find the right working capital solution, SMEs should look for a funding alternative, or mix of solutions, that:

  • Do not include the burden of risk-based underwriting, complicated paperwork, and contracts
  • Offer true dynamic discounting, not “one-size-fits-all” pricing or static pricing that drives up the costs of goods
  • Do not have volume restrictions
  • Allow SMEs and their suppliers to set the rate that works for their needs
  • Are available on demand when there is immediate need for working capital or improved metrics
  • Strengthen the supply chain and the buyer-seller relationship
  • Provide control of cash flow on demand

Of all these considerations, control is the most critical for SMEs. The ability to control timing of receivables, to name the rate, and attain overall cash flow efficiency makes a business stable and successful.

“We were able to introduce a solution to this problem that was a win-win-win for Costco, its suppliers and ultimately Costco’s members. It’s not often that you have an opportunity to make a fundamental change in the way business is conducted. Our partnership with C2FO is a great example of what can be accomplished when thoughtful, ethical organizations are willing to challenge the status quo,” says Joseph E. Gracheck III of Costco.

Costco’s suppliers agree. The retailer giant’s transparent and equitable approach allows them to get paid in as little as two days and improve their cash flow at a competitive rate during the seasonal peaks of retail.

Successes like Costco’s adoption of C2FO highlight the best of alternative funding. A direct relationship that works within the supply chain — at the source of working capital issues —solves the liquidity paradox in a way that benefits both SMEs and customers.

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