After a difficult start, reverse factoring has attracted the interest of many large companies in recent years. Almost all of them have asked themselves the question, and some have taken the plunge.
In 2014, the main factors saw double-digit growth in their reverse activities.
Is this a flash in the pan or a real change in supply chain financing?
Reverse factoring is a tool that enables large companies in good or excellent financial health to secure their supply chain by offering to finance their suppliers' invoices as soon as they have been validated by the customer. This operation will give suppliers access to financing on particularly attractive financial terms, based as they are solely on the customer's credit rating.
In return, because there is inevitably a quid pro quo, the supplier will agree to longer payment terms (which have become theoretical for the supplier) and will pay a discount or equivalent to remunerate the platform, the financiers and possibly indirectly the principal...
A complex process
Implementing such a programme is an ambitious undertaking that must involve a large number of company players: purchasing, accounting, treasury, supply chain, legal affairs, IT, etc.
The many programmes that have been devised and structured around finance or supply chain alone have generally ended prematurely or in failure. It will be necessary to carry out a detailed analysis of the supplier portfolio, set up an e-procurement platform, streamline the invoice validation process, choose the financial partner, ensure that there is no impact on the balance sheet, formalise the various contracts... and convince the suppliers!
A structuring project
It is therefore, in its implementation, a project for the internal structuring of processes. And of structuring the tools for all the Procurement, Supply-Chain, Accounting and Treasury functions. We all know how difficult these transformation projects and the change management that goes with them can be, just look at the extent to which good practices such as e-procurement, electronic invoicing and the digitisation of supplier invoices are struggling to become widespread in even the most structured companies. While the mobilisation and coordination of the company's various departments has been successful, it is often the difficulty of enrolling suppliers that has been the source of the greatest disillusionment.
In an ideal world, all suppliers would be offered a standard contract which they would simply have to sign in order to benefit from this ‘favour’. In practice, not all suppliers are familiar with the approach, some are wary of reinforcing a commitment to a customer on whom they already feel largely dependent, others have fussy legal departments that can turn the contract into a veritable encyclopaedia...
On the other hand, more and more suppliers are already using a factor which finances them at an admittedly higher cost and with a holdback, but as soon as the invoice is issued and not as soon as it is validated. Furthermore, the withdrawal of a first-tier customer from the factoring contract in place could lead to the whole contract being called into question, at least in its financial terms. Finally, not all suppliers are prepared to connect to each of their customers' platforms to arbitrate on the possible financing of their invoices... the global, interoperable platform does not exist... yet...
Legal constraints
Financial intermediation, and therefore factoring, is a regulated activity reserved for IOBSPs (Intermédiaires en Opérations de Banque et Services de Paiement) holding ORIAS approval. Under the terms of article R519-1 of the Monetary and Financial Code :
Only simple links are permitted.
The tripartite scheme
Legally speaking, the subject is also complex because, at the risk of seeing the supplier's debt reclassified as a financial debt, the principal must not be a party to the contract linking the supplier to the factor. The tripartite scheme is not legally reflected in an equivalent contract, but in several contracts, the outcome of which will have to be considered. What will happen if the financing rates change, the legal payment terms are modified, the commercial relationship comes to an end, etc.?
Legally, it is also important to ensure that the arrangement cannot be assimilated to a business transfer from the principal to the factor, as this activity is regulated (see box). Only the company putting the factor in touch with the supplier is allowed, and the presentation of the financial part of the programme can only be carried out by the factor or possibly by an approved broker, without any intervention from the principal...
Is such a complex set-up worth the risk?
International experts refer to Reverse Factoring as an ‘Approved Invoice Finance’ scheme, but to be even more accurate, it is the financing of approved invoices with a commitment to pay on the due date. This is no mean feat when you consider that in France only 36.5% of companies pay their invoices on time!
Reverse factoring would therefore lead to a deterioration in the originator's working capital, unless the supplier were to agree to a new theoretical payment term that was longer than the one previously applied... The supplier would then be faced with a simple choice: either finance all these invoices, or effectively deteriorate his own working capital... It's a long way from altruism!
Longer payment terms
In addition, the issue of extending payment terms is largely relativised in the case of French suppliers who are governed by the LME law and whose major customers have long imposed the legal maximum payment terms. The objective of giving suppliers access to financing for their validated invoices, including when they are due for payment, could well be achieved by introducing suitable payment methods (accepted bills of exchange, promissory notes, VCOM or BPO, etc.) that can be easily discounted on high-quality signatures.
There would be no need to set up a platform, and any use of financing would remain confidential to the client. Of course, the cost of financing will certainly be higher for the supplier, but is he looking for cheap financing or financing at all?
The question of confidentiality
Factoring is now widespread and has shed its connotation of ‘last chance financing’. We might also wonder why factoring contracts are still subject to the costly concern of ‘confidentiality’, even though customers are now encouraging their suppliers to use this method of financing through reverse factoring. There are very few cases where a company, even a small one, with high-quality customers would not be able to access factoring on its own. Even if it means handing over a customer's turnover, why not extend the approach?
Undeniable virtues?
Reverse factoring therefore appears to be a complex approach with relative success, except for omnipotent principals such as mass retailers and other market leaders (Airbus, EDF, etc.).
The ‘Bon à Payer’ is a valuable element in the customer-financial supplier information chain!
The formal circuit for sharing invoice validation information does not exist outside the supply chain management platforms... yet obtaining this information is a key issue for suppliers, who still often only become aware of disputes when they receive their first reminder a few days after the due date, i.e. more than 60 days after the service has been performed or the goods delivered! This is the leading cause of late payment.
This shared interest on the part of the client and its supplier in identifying disputes at a very early stage is undoubtedly the main virtue of setting up a reverse factoring programme. This approach is profoundly virtuous, insofar as it puts the issue of financing working capital formally on the table in purchasing negotiations.
A fresh look with suppliers
In this respect, the ideal approach is to review with key suppliers all the issues impacting P&L, WCR and cash in general: prices, volumes, logistical conditions, penalties, delivery and payment times, means of payment, sales forecasts, carrying of inventory, financing of WCR, etc., and to share structured information on these issues. This collaborative approach cannot be applied across the board to all suppliers, but it is worth starting with strategic or sensitive suppliers. Generally speaking, it is a question of establishing a Cash Culture within the company, extended to its commercial partners.
You don't need to be a major international group to implement it.
This article was written by Gilles Willot, founder of WISE Advisory, a consultancy specialising in cash flow management and optimisation.
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