Distributor Finance

From Open Risk Manual

Definition

Distributor Finance is a form of Loan or Advance based Supply Chain Finance done as a provision for a distributor of a large manufacturer to cover the holding of goods for re-sale and to bridge the Liquidity Gap until the receipt of funds from receivables following the sale of goods to a retailer or end-customer..[1]

Also denoted as Buyer Finance, Dealer Finance, Channel Finance, Floor Plan Finance.

Business Model Description

In this business model the funding facility is typically offered to the distributor (or buyer) of a large manufacturer/exporter in the form of direct financing by means of loans or advances, subject to annual review. These facilities are, typically, used for funding inventory and receivables on a short term basis The underlying need that is being fulfilled, is to permit smaller/local distributors to obtain financing, especially if they have limited access to other sources of funding, and where there is a material timing gap between the credit terms of the large manufacturer selling to them, and the date by which the goods can be sold and receivables converted to cash. Typically, the distributor is a third-party owned company, but it could be owned or part-owned by the large manufacturer.

A financing agreement or facility letter is typically established directly between the distributor and the finance provider. In addition, there is often a master Distributor Finance agreement between the anchor party and the finance provider that would contain the terms of engagement for the finance provider to provide facilities for multiple distributors in a number of global territories, any agreed risk-sharing arrangements, and the operating model applying to the three parties – i.e., the anchor party, the distributor, and the finance provider.

Value Proposition

For the distributor (or buyers) of a large exporter/manufacturer the value proposition entails:

  • Working capital optimisation permitting the distributor to bridge the liquidity gap between the purchase of inventory and payments received from its customers
  • Increased credit for distributors (esp., distributors with limited credit availability from the traditional banking sources) based on the existence of actual financial or commercial support from the large manufacturer
  • Credit for distributors at a lower cost than what would be available from traditional banking sources

Customer Segments

For the large manufacturer, the business model- potentially allows for generating sales growth (by providing additional finance to increase product availability through distributors, the finance of inventory and support for the prompt delivery of products, especially in emerging and frontier markets). Potentially allows the large manufacturer to provide extended credit terms to the distributor or to ensure that additional funding can be raised with its support.

  • Large Corporates as Sellers in the Physical Supply Chain. Targeted towards sellers with above-industry benchmark DSO. This allows these companies to improve their Working Capital efficiency by shortening their DSO and improving their cash conversion cycle. More recently distributor financing is adopted by corporates for increasing their sales and managing the collections/funds coming from distributors. [2]

Distribution Channels

Distribution Channels are the means by which a company communicates with and reaches its Customer Segments to deliver its Value Proposition.

Customer Relationships

The parties to distributor finance are large manufacturers acting as sellers (often called ‘anchor parties’) their distributors acting as buyers, and finance providers.

Revenue Streams

  • Fees
  • Security Margin

Key Resources

  • Personnel
  • IT Systems

Key Activities

The operational process model may be manual, semi-manual or automated by a technology platform provided by the finance provider. Global finance providers often offer Distributor Finance programmes via web-based platform solutions tailored for their multinational clients. These platforms are accessed by the seller and distributors for purchase order approvals, invoice confirmations, and the handling and tracking of payments and drawdowns.

Risk Management

The risk management section focuses on the risks that must be managed by the business model. The risks to the business model itself can be identified with the Business Model Risk identification framework

  • Default by the distributor, including credit and political risk, mitigated by careful credit risk assessment and continuous monitoring. The importance of the particular distribution contract to the borrower’s business survival is an important factor to be evaluated
  • Diversion of funds, such as a situation, where the distributor uses borrowed funds for other reasons (such as financing the growth of the business in other directions) rather than repaying the financing mitigated by the large manufacturer supporting the distributor finance programme by providing information about the performance of the distributor, and/or any agreement for risk sharing
  • Operational risks especially the requirement to coordinate many commercial and financial components, mitigated by automation, management quality and business controls
  • Pre-existing security arrangements, mitigated by waivers or their removal, or by taking additional security
  • Fraud by the distributor or by collusion, mitigated by monitoring and verification
  • Lack of authority, mitigated by legal due diligence
  • For larger facilities, syndication may be utilised to share risk

Key Partnerships

Partnerships is the network of suppliers and partners that help make the business model work:

  • Platform providers (B2B networks, e-invoicing solutions, software vendors)
  • Bank or Non-Bank Funders providing funding for SCF programmes
  • Credit Insurers
  • Other risk management partners (FX/IR hedging)

Cost Structure

  • Personnel Salaries
  • Infrastructure Costs

Competitors

  • Alternative Supply Chain Providers
  • Alternative Forms of Financing

References

  1. Standard Definitions for Techniques of Supply Chain Finance, Global Supply Chain Finance Forum
  2. Supply Chain Finance Knowledge Guide, IFC - FIG, 2019

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