In our latest post in a series on business finance, we’re looking at supply chain finance. We’ve recently covered how corporate finance textbooks have expanded their remit to include commercial financing types such as project finance. Supply chain finance is another offset of banking that deserves some attention today. Supply chain finance is similar, in that it enables economic activity to take place, but the financing could be open-ended and cover an ongoing manufacturing & supply relationship.
Most of the time, supply chain finance is not something that people think about. However, it plays an important role in satisfying the demand for goods and services by providing capital to help businesses meet their needs. Supply chain finance has been around since the 1970s and has grown over time as more companies have become interested in it. This article will discuss what supply chain finance is, and how supply chain finance in Australia helps satisfy demand and assist businesses to grow.
What is supply chain finance and how does it work
Supply chain finance (SCF) is an alternative form of trade financing that has surged in frequency and usage in recent years. Trade financing provides organizations with the money they need to manufacture the goods until payments are received, typically through bulk inventory financing. Supply chain finance, on the other hand, helps suppliers provide the things needed during production without waiting for actual sale payments. The benefits to treasury management are obvious.
Suppliers can even use SCF proceeds to purchase inputs in order to manufacture products ahead of time in anticipation of later payment. The advantage for suppliers is that by getting early access to capital through supply chain finance, they will be able to accumulate working capital earlier than if they had waited on payments from customers or managed their own cash flows.
Why should you use supply chain financing for your business
Supply chain financing, or liquidation investing, is permission to borrow money in order to fund the expansion of your inventory. Fueled with additional capital, you’ll be able to circumvent the steep costs associated with pre-selling goods before taking possession. For example, instead of buying raw materials for $10 USD per unit and selling it at a price of $20 USD per unit ($10/unit cost -($5/unit) operations =(-$5/unit)profit), you might borrow funds up by 50% ($5 credit facility) or more ($700 borrowed funds for 100 units). The result means that you have an upfront investment ($950 total cost for 100 units that are worth $1500 on resale).
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In the past 20 years, Supply chain finance has emerged as one of the most powerful tools in short-term working capital management. An SGF loan doesn’t only help address everyday constraints which an organization may face when their cash flow slows down during seasonal peaks or areas where they faced volatile demand fluctuations due to economies.
As finance books point out, supply chain finance can also provide much needed financial stability for an organization posing dangers in order to keep them running smoothly into that next season or quarter without inhibiting growth opportunities.
How supply chain financing helps companies satisfy demand
One way supply chain financing helps companies satisfy demand is through increased use of modular design. A modular design, also described as a just-in-time approach, is where parts are designed to be built in batches with products getting completed only when they are needed.
A remarkable amount of the time and labour that goes into product development for most companies can be eliminated by designing modules before production starts. The ability to customize designs on the fly means that if something goes wrong at one plant, it doesn’t matter because all operations are easily carried out by other plants according to their availability without interrupting anything else.
Supply chain financing is sometimes used by companies to exercise good financial management whilst taking risks on new revenue streams. Say there’s a new app that is becoming increasingly popular among millennials, but the demand for this app exceeds the company’s ability to manufacture it. When firms are unable to meet consumer demands quickly enough on their own, they can access external funding applications like supply-chain financing. This allows them to continue to develop their investing apps.
Supply chain finance takes place when an organization needs money immediately to fund commodity inventory or where equipment purchases will be delivered within several months or years into the future. And where they have viable buyers lined up for its goods and services expected soon after purchase.
The benefits of supply chain financing
Supply chain financing is a funding strategy that helps companies to grow and meet demand in scenarios where the economics of a manufacturing process would strain a companies finances. Supply chain financing allows companies with insufficient or out-of-date inventory to immediately fulfil customer needs without royalty fees, high-interest rates, long front end investments, or adding products to their own inventories. This reduces operational costs. In turn, this reduces the need for expensive physical inventory making the finances more available for day-to-day operations and bringing in higher revenues from improved cash flows used in day-to-day operations. Hence greater customer service is achieved while benefiting from lower operational costs and increased sales due to better customer satisfaction.
A company utilizes supply chain financing in order to satisfy its demands. This helps the company optimize cash flow and maintain low-risk positions when making investments in capital assets. A major drawback of this technique is that it can require a longer payment period, increasing the total cost of capital for such projects.