THE IMPORTANCE OF SUPPLY CHAIN FINANCE FOR THE HOME IMPROVEMENT RETAIL INDUSTRY

The home improvement retail industry is a highly diversified sector, which consists of furniture and home furnishings retail stores such as building materials, garden equipment, supplies dealers, and other home furnishing stores. Major players include Lowe’s, Home Depot, and True Value all based in the US, as well as Kingfisher Group based in the UK, Leroy Merlin in France, and OBI in Germany.

Oliver
Oliver

With retailers remaining focused on growth, “emerging markets” are the source of the fastest revenue growth. Global expansion is particularly important for home improvement retailers as large established domestic markets have less room for growth and consumers are highly sensitive to pricing. Therefore, retailers are eager to capture a growing middle class and young population of shoppers in Latin America, Asia, Eastern Europe, Africa and Middle East. In 2011, retail revenue growth was only 3.4 percent in the EU and 6.3 percent in the U.S., compared to 29 percent in Africa/Middle East and 21.3 percent in Latin America.

Alongside global expansion and increased market share of key players, there are other key trends to consider such as a strong focus on margins. As retailers believe they cannot increase margins in many markets, corporates are looking for ways to maintain profit margins over their competitors through innovative supply chain management tactics. While manufacturers used to play a dominant role in supply chains, this relationship has changed as individual retailers continued to gain market share.  This trend has allowed large retailers to dictate terms of their supplier contracts. Such shift in relationship creates challenges for suppliers, now facing extended payment terms and other exigencies of domestic and inter-national supply chains.

The profitability of do-it-yourself retailers depends on low-cost purchasing, effective merchandising, and competitive pricing. Despite continued growth of the home improvement retail industry, the industry is also exposed to risks. These include:

Inability to control rising prices – Low margins mean that costs have major effects on profitability. The majority of retailers focus on cutting sales, general and administrative (SG&A) expenses, and costs of goods and services (COGS).

Supply chain disruptions– Recent natural disasters such as the flooding in Thailand and the Japanese earthquake have exposed the retailers’vulnerability to supply chain disruptions. As a consequence companies may choose to reverse some cost saving procedures to attain more supply chain control, flexibility and lower supply chain risks.

Sourcing – In a globally diverse market, retailers tap into different geographical locations, thus sourcing risks can have large impacts on costs, profitability, and market position.

Access to capital–The ability to quickly fund initiatives to respond to rapidly changing business environments is becoming critical. Cash flow and working capital management remain critical to making timely and informed decisions.

As a result, there is a strong demand for a solution that resolves these challenges. For the last several years, Supply Chain Finance has been used successfully by leading home improvement retailers worldwide to solve this problem.

Supply Chain Finance as a Way to Improve Working Capital

Supply Chain Finance or Supplier Finance is a solution that allows suppliers to sell their invoices approved for payment (their accounts receivable) before the payment due date. The financing rate charged to the supplier is a rate closer to the buyer’s cost of capital, funding banks are willing to offer this financing based on the buyer’s promise to pay.

How does Supply Chain Finance work?

In practice, the supplier submits the invoices to the Buyer in the normal way for approval once a commercial transaction is concluded.

  • The buyer approves the supplier’s invoice for payment and electronically transmits the payment instruction to a Supply Chain Finance platform, such as those managed by banks and solution providers.
  • The Supplier is notified and has full visibility on future dated receivable on the platform
  • The Supplier has the option to trade his invoices immediately and get access to cash by a funder or, alternatively, can choose to wait until the invoice is due.
  • On invoice payment due date, the Supply Chain Finance platform retrieves the full amount of the invoice from the Buyer in settlement of any discount or (if discount has not taken place) effects payment to the Supplier.

Supplier Finance has also been called “reverse factoring,” because the cost of the financing is based on the buyer’s, not the supplier’s risk profile. Thus, financing charges are very low compared to what most suppliers can receive from their own lending partners. Therefore, by leveraging its strong credit rating, the retailer also lowers the cost of funding for its strategic suppliers. This allows the retailer to extend payment terms without negatively impacting its suppliers, who can borrow at lower rates under the program and gain access to immediate liquidity.

Advantages of Supply Chain Finance for Retailers / Buyers:

  • Achieve working capital optimization through payment terms extensions
  • Cost Reductions
  • Improved supplier relationships
  • Reduce risk of supply chain disruptions by supporting strategic suppliers

Advantage of Supply Chain Finance for Suppliers:

  • Savings in cost of funds through favorable financing rates
  • Reduce DSO (days sales outstanding)
  • Access to next-day liquidity at supplier’s discretion
  • Cash flow flexibility, predictability and certainty
  • Potentially eliminate debt on balance sheet
  • No minimum volume, transactions fees or costs to participate

Supply Chain Finance provides access to liquidity and a solution to improve working capital for both buyers and suppliers. It aims to improve the financial efficiency of the supply chain and substantially reduce the working capital of both buyers and suppliers. It creates a true win-win for all the parties involved as one of the most attractive tools for companies to diversify funding sources, enrich and solidify the relationships with their trade partners.This reflects a collaborative approach by addressing the working capital needs of both the buyer and its suppliers, thus cutting costs and reducing risk from the supply chain.

About the Author:

Oliver is a thought leader in Supply Chain Finance solutions managed by PrimeRevenue. Prior, Oliver worked for leading institutions in SCF including, Global Supply Chain Finance and Sumitomo Mitsui Banking Corporation Europe. In 2008, Oliver founded Swiss Commercial Capital, a company specialized in trade finance solutions, which was acquired by Macquarie Bank. In 2011, he released the book “Supply Chain Finance Solutions”, published by Springer Verlag.