INSIDEVIEW
in 2008, 16% had a current ratio of less than 1.0. While that support the domestic Chinese market. But export
the two financial metrics illustrated here are not sufficient dependence is not a singular indication of risk. A robust
to fully evaluate an individual supplier’s health, the notice- supply risk management process ranks each supplier’s
able degradation over this sampling of suppliers sends a health and takes into account the typical warning signs of
signal that the global downturn has impacted the financial distress such as those shown in Chart II. For those suppli-
health of Chinese suppliers and could threaten their ability ers that are deemed “high risk”, an action plan to mitigate
to maintain a reliable supply. the risk needs to be tailored to the specific situation. Risk
A distressed supplier, which runs out of cash and can mitigation tactics often include regular monitoring, build-
no longer maintain product shipments, presents unique ing an inventory safety stock, identifying alternative suppli-
challenges to purchasing managers. One multinational ers, and working with the troubled supplier to develop and
OEM who was dependent on continuity of supply from a implement operational and financial improvements.
distressed Chinese supplier had to face such a situation.
The supplier’s sales were heavily dependent on exports.
Chart II - Warning Signs of a Distressed Supplier
It had high debt levels, experienced a substantial drop in
sales, and was exposed to rising raw material costs. Con-
Financial Metrics Other Warning Signs
sequently, it generated large operating losses, violated its
High Debt Leverage Late Product Deliveries
Low Profit Margins Reliance on Expedited Shipping
bank covenants and did not generate enough cash to ser- Extending Trade PayablesRequesting Customers for favorable non-contractual terms
vice its debt. Although the firm’s current ratio of 1.4 was
Declining Sales Requires waiver from lenders for covenant violations
Its suppliers stop deliveries do to non payment
near the average of Chinese suppliers, its high inventory
levels could not be sold due to the sharp decline in de-
mand. The banks exercised their security interest in all of For suppliers, it is essential to
Chart III - Inventory Management
the supplier’s assets, including its inventory, and stopped evaluate your firm’s health and
Inventory
all customer shipments. The banks recognized the OEM’s take proactive measures in order
Region Turns
1
dependence on the supplier and demanded “hostage” to survive the economic down-
China 3.1
payments above the contract price to release shipments. turn. Cash Flow is more critical
Korea 13.4
Although the OEM only needed a portion of the supplier’s now than ever. Many Chinese
Japan 9.7
inventory it was forced to pay premiums for shipments firms have opportunities to imple-
US / Europe 12.0
ment operational measures such 1
Annual Sales / Inventory
Case Study: Component Parts Manufacturer as inventory reduction, scrap
Description: Manufacturer of precision metal products for export to N.A.
reduction, improvements to yield and first-time-through
(Export business nearly 100%)
performance. For instance, statistics reported by BBK
Annual Sales RMB 60 million show that inventory turns at Chinese suppliers significantly
Ownership 50 / 50 Joint Venture between North American and
lag the performance of its peers in other countries (Chart
Chinese partners
III). Reducing inventory levels frees up cash and improves
Debt Capital Two prominent Chinese commercial banks (Approx RMB
175 million)
a firm’s liquidity which is most crucial in this environment.
Situation Unable to repay banks
For many firms this also reduces its need for bank borrow-
High Debt Levels
Rising raw material prices ings and their associated interest expense. In addition to
Substantial sales decline
Substantial operating losses
operational improvements, it is crucial to actively monitor
In violation of bank covenants
and right-size your cost structure (including manpower,
Outcome
Banks demanded that customers pay premium price to
release inventory.
and overhead expenses) to keep in line with sales levels.
Customers re-sourced business to other suppliers.
All of these measures translate into improved financial
health and strengthen a firm’s competitive position.
needed while it developed a replacement supplier. Insuring supply continuity will require companies to al-
As many companies rethink how to structure their locate resources for identifying supply chain risk and be-
Chinese operations into their overall global supply chain ing prepared to provide assistance either operationally or
strategy, most conclude that a comprehensive Supply financially. While each distressed supplier may present
Risk Management process that proactively monitors and unique challenges, the benefit of averting a crisis remains
validates the financial and operational viability of a supply the same; it protects the bottom line from the unpredict-
base is essential. The earlier the problem is identified, able expense of a supply interruption.
the more time a purchasing manager has to avoid costly
production interruptions by working with its supplier to find
a solution or to develop an alternative supplier. In the
Duane Bolinger is Managing Director of
present environment, most purchasing managers recog-
BBK Shanghai. He has over 25 years of ex-
nize that suppliers with heavy dependence on export sales perience working with suppliers, primarily in
are impacted more severely by the downturn than those
the automotive Industry.
www.chainaonline.com MAY/JUNE 2009 43
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