Financing Dynamic Distribution
A qualitative study on the rising role of distributor finance programmes in enabling downstream business in international supply chains
by Phillip Kerle, Chief Executive Officer, Demica
As trading business undergoes a shift from letters of credit (LC) to open account transactions, financial supply chain management solutions have become increasingly relevant. The credit squeeze triggered by the financial crisis has made large corporates more alert to issues surrounding liquidity and risk in their supply chains. To ensure supply chain stability, forward looking companies are seeking value-added financing facilities that benefit the various stakeholders located along the corporate supply chain. This new attitude has contributed to the increased uptake of supply chain finance (SCF), as attested by global banking institutions in previous research reports commissioned and released by Demica in recent years.
The heightened awareness of supply chain risk is also drawing amplified attention to downstream distributor finance (DF) – an area that has so far attracted less interest than SCF and yet a crucial topic that should not be neglected. In many emerging markets, small and medium enterprise (SME) distributors are struggling to obtain affordable credit. This is further compounded by sellers’ pressure to increase sales. As major corporates are expanding further afield in high growth regions, DF holds the key to opening up new markets and unlocking sales potential. It complements SCF to provide efficient financing for SMEs both up- and downstream in a major corporate’s supply chain, supporting the full process to market with short-term working capital funding.
In order to examine the current usage of DF in the market, especially in developing economies, Demica, along with the support of the management consultancy Capacent, has interviewed a number of global corporates to investigate the scale and fashion with which DF is being offered to their distributors. Together they have also interviewed a sample of international banking corporations to understand their approach to DF. This qualitative research report aims to deepen understanding of this emerging credit facility as well as to provide a primary assessment on market potential.
Definition of distributor finance
Distributor finance (DF) can be defined as:
“Financing solutions that support the working capital needs of a corporate seller’s distributors and potentially the distributors’ resellers, to ease the flow of product through the channel.”
DF solutions may include:
- Receivables-based financing programmes, with funding to the seller via purchase or discounting of receivables, to offer extended payment terms to distributors;
- Loans and other credit facilities to distributors, with varying level of support and involvement by the seller;
- Other asset-backed financing, for example, floor planning programmes, with varying levels of support and involvement by the seller.
There are also other variations of DF models. For example, distributors purchase goods from seller with extended payment terms. This model is funded by seller and therefore has an impact on its balance sheet. Distributors might also employ asset-based lending to obtain lines of credit backed by fixed assets or inventory (excluding floor planning). In addition, the relationship between seller and distributors might allow the seller to give an extended payment term under LC. The advising bank might be backed by an export credit agency. As for distributors with reasonable strong balance sheets, general working capital lines are often the most common alternative to DF. These are typically medium-term revolving credits.
For sellers, DF programmes help them expand into new and under-served regions/segments and deepen distributor relationships in emerging markets, in addition to supporting SME clients’ growth. DF also enables sellers to offer qualified distributors improved terms, with unchanged or reduced credit risk and positive or no liquidity impact. In fact, in many emerging cases, offering DF allows sellers to demand competitive commitments from their distributors, such as product or category exclusivity.
For distributors, DF programmes help improve their working capital through increased days payable outstanding (DPO) or reduced inventory and better management of balance sheet. As an alternative financing technique, DF gives distributors an additional source of and a lower cost of funding and reduces capital requirement for expansion. Furthermore, distributors can grow business volumes with lower capital.