Finance and Supply Chains - THE PERFECT MATCH

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Supply Chain Leaders

Finance and Supply Chains - THE PERFECT MATCH

The importance of supply chains has been highlighted by the COVID-19 pandemic. Considerable media attention was paid to supply chain disruptions from delays at key ports, shortages of semiconductors, energy supply issues and increasing costs. Supply chains became topical. There are several areas where finance and supply chain teams can benefit from working together, which focus on a strong business partnering relationship. One of the key tenets of the function is to be more collaborative across the entity, reflecting the fact that increasingly finance teams are looking to both financial and non-financial performance measures. Clive Webb, Head – Business Management, ACCA Professional Insights Team, through this analytical piece, presents the synchrony that finance & supply chain have in common and how can they work together to bring Greater Good for companies.

The pandemic has seen entities challenged by several disruptive forces from port delays to workforce shortages deliveries at all levels of the supply chains have been taking longer in certain cases. However, it should be appreciated that in many instances supply chains have proved resilient during the pandemic. Disruption is an ongoing reality, be that from natural events or from more human related activities, such as the Suez Canal incident. Manging the impact of these requires a focus on supply chain risk management and supply chain resilience. Both actions integrate across entity wide activities that include finance teams.

The longer-term impact of these disruptions, together with the macroeconomic impacts of the pandemic, are requiring entities to rethink some, or all, of their sourcing strategies. The late part of the 20th century and the early 21st century were focused on low-cost manufacturing and an increasing integration of supply chains. As some of those cost advantages are lessened, so entities are thinking about strategies such as nearshoring or moving away from just-in-time manufacturing processes, where these are possible.

CLOSING THE LOOP

“The supply chain is the lifeline of a company like [a] blood vessel [is] to the human body, and finance is the brain of a company. the healthy and effective cooperation of the two can ensure the sustainable development of company,” Stated a Finance Manager based in Mainland China. Supply chains are a fundamental part of the modern business environment. The management of these chains often presents entities with challenges and opportunities.

The disruptions during the time of the pandemic have focused attention on this area. Technological advancements are changing the ways in which organizations manage their supply chains and the environmental, social and governance lens is requiring entities to develop a deeper understanding of their networks. The strong relationship between finance and supply chain teams is becoming ever more important to an entity’s success.

Below are few areas of common interest for finance and supply chains…

ROLE OF FINANCE AND THE FINANCE BUSINESS PARTNER

The role of the finance business partner is fundamental in a successful relationship between supply chains and finance functions. The finance business partner, especially those working with supply chains, needs to be fully conversant with the current risks and opportunities but also to be innovative in considering how to manage issues. The challenge is how to think of new solutions, as the problem is often not falling demand but a scarcity of resources, especially human capital, and this will define the coming few years. This in turn has created inflationary pressures in a range of economies which further exacerbates supply chain issues.

UNDERSTANDING THE BUSINESS MODEL

One of the first fundamentals is to ensure that finance professionals fully understand the business model. The fourth Industrial Revolution and the impact of the pandemic are changing the way that entities operate. The need to adapt quickly to changing circumstances is becoming paramount if entities wish to survive. Only by understanding the business model and the supply chains can the finance professional be an effective contributor.

PRODUCT PROFITABILITY

Product profitability is a key area of collaboration between finance and supply chain teams. The pandemic has seen changes in customer behaviour, with an increased emphasis on online ordering. Small customers can be expensive to serve and have expectations of rapid delivery times. Those customers who you considered to be the most profitable might not be when full costs are considered.

The challenge of allocation can be considered by using the ‘Cost-to-Serve’ approach, which analyses the costs in a supply chain and shows how each product and customer combination involves a different series of activities and as a result has a different cost and profitability profile. Unlike Activity Based Costing, this approach is not resource intensive, and focuses on aggregate analyses of a blend of cost drivers. The approach gives an integrated view of costs at each stage of the supply chain, providing a fact based view to see through the complexity of multiple supply chains and channels to market. It enables a focus on both long term decisions and the prioritisation of short-term actions.

There is a need for finance teams to support such approaches and to provide relevant data to make comparisons feasible. In an increasingly online consumer experience Cost-to-Serve is not only about the cost of shipment, but also the costs of managing the returns. There are variants in the approach to the calculation of the Cost-to-Serve, not least for allocation methods. The overall approach is to identify the relevant costs related to serving a customer. These may include the following categories:

  • Order management overheads
  • Customer service overheads
  • Factory planning overheads
  • Materials planning overheads
  • Cost of goods sold and carrying costs, including workforce costs
  • Sourcing and procurement overheads
  • Transportation, warehouse, and delivery costs
  • Product returns and repair
  • Cost of quality management.

Each of the overheads is apportioned across the product volumes. This can be a complex process and as a result several software packages have been developed that integrate with enterprise resource planning (ERP) solutions that can perform the calculation.

PAYMENT TERMS

At a time where liquidity is a key focus of entities, a closer collaboration between the respective teams is advantageous. CFOs need to recognize that lower margin products will not survive, and it is important to understand the relationship between the customer and the recoverability of the accounts receivable. There could be benefits in paying earlier, such as strengthening the relationship between the suppliers and the entity. Having an informed conversation can be beneficial.

ACQUISITION OR DISPOSALS OF ENTITIES

One often-forgotten area of collaboration between the two teams was the due diligence process in the acquisition or disposal of entities, finance teams tend to perform it in isolation and what you find when you finish the transaction is that due diligence done at this high level has not really looked at the stuff that really matters operationally or day-today. The nature of the supply network should never be assumed to be static and the implications of strategic advantage via consolidation, as seen in Industry 4.0, should not be ignored. Finance professionals need to have a dialogue with their colleagues to consider these risks and how they affect strategic and detailed planning models.

ADVISING SMALLER ENTITIES

Smaller entities have distinct challenges in supply chains. As they often lack finance functions with the necessary breadth and depth of expertise, their external advisers can fill some of that void. Yet in every supply chain, there is a constituency of smaller entities. The level of understanding of the issues that they face, and how the developments in other parts of the supply chain affects them must be a cause for concern. With the growing emphasis on larger companies’ understanding of their tier II & III suppliers and beyond, there is a need to create visibility of key information throughout the networks. This enables the effective management of supply chain risks, at a time when sourcing strategies are being questioned by many entities, moving from single to multiple, and often geographically distributed, sources.

FINANCE AND LOGISTICS 4.0

The digital nature of the interactions between the various parties in the chains and networks is increasingly facilitating transparency at many levels of the process. Applying the techniques of Industry 4.0 can lead to efficiencies in processes and hence cost reductions. The use of smart contracts is one example of this trend, as is the use of blockchain more generally. The adoption of Industry 4.0 leads to opportunities to optimize the working capital requirements by using techniques such as supply chain financing. For some time, factoring has been used by entities to manage their debt burden. The use of supply chain finance is a more recent evolution of this. While factoring or invoice finance is used to discount the accounts receivable portfolio to achieve a more rapid payment, supply chain finance also brings into consideration the use of the credit ratings of the organisations in the supply chain into consideration.

TREASURY MANAGEMENT

Historically, there has been limited engagement between treasury functions and supply chain teams. The overall financing of the cash position was regarded as a strategic operation while the collection and payment processes were part of the finance function. With the increased globalization of treasury functions in large corporates, the ability to manage the cash and liquidity on a more holistic and timelier basis offered more opportunities for engagement. The advent of Logistics 4.0, with an increased capability for the capture of real-time data and the use of more predictive analytics permits a greater clarity on positions and allows the treasury team to take a more active role in managing cash positions in the light of expected funding requirements.

THE ESG AGENDA AND SUPPLY CHAINS

For a finance professional appreciating the activities of the entities in multiple levels of the supply chain is not just about addressing the disclosure requirements that are increasingly been required by governments and investors. This alone can be problematic as the level of appreciation of the nature of these chains, which are in reality networks, is an area that needs improvement. The ethical nature of some of the supplier interactions, such as workforce conditions, requires entities to make strategic decisions about those who they trade with.

In addition to disclosures, it is also a question to ensuring liquidity in the supply chain, especially in the face of disruption and inflationary times. Finance teams need to collaborate with supply chain teams in the application of ethical procurement policies, such as those outlined in supplier codes of conduct or in ISO 20400:2017 Sustainable Procurement. Supply chains are the focus of several the UN Sustainable Development Goals and as entities increasingly focus upon these so understanding the impact and reporting progress will become ever more important.

OPPORTUNITIES FOR COLLABORATION

Financing activities including treasury and supply chain financing are increasingly relevant as liquidity continues to be challenged. With the increased focus on vertical and horizontal integration across supply chains from Industry 4.0 either through acquisition or through collaborative structures such as joint ventures so ensuring that the agreements accommodate the impact of other entities in supply chains becomes valuable. These are just some of the areas of collaboration. Close cooperation is key to the fortune of many entities.

The similarity to the mission of the supply chain teams is clear, which is to have one integrated view of the organization based upon a common set of data. Generally, there is a lot of room for improvement in the communication between the two groups, namely the supply chain group, and the finance group, because historically the relationship is very functional. Yet, the events of 2021 and 2022 have caused further disruption to entities and their supply chains: disruption that may yet have a course to run. 

‘Disruption’ is a key word of our time. The years 2020 and 2021 will go down as pivotal points of change in the way that businesses operate. Not only has the pandemic challenged many of our traditional ways of working, but so have the technological and data advances, which have in many cases been accelerated by the pandemic. The new world is one of collaboration: one in which professionals work together to address problems and execute plans.

*Views expressed in the article are based on the report ‘Supply Chains: A Finance Professional’s Perspective’

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