The financial stability of your partners, including primary and secondary suppliers, is one of the most common sources of risk in the supply chain. Making things worse, vendors aren’t always forthcoming about their financial or operational realities — and private companies aren’t required to release financial statements the way public companies are.
What causes supplier financial risk in the first place? The list is long and includes poor bookkeeping, unbalanced supply and demand, inaccurate forecasting, and delayed or derelict payments from their customers. Knowing what types of financial duress your partners may be under is critical if you want to avoid tying your fortunes to a struggling or possibly unethical company.
So how can you spot financial risk among your suppliers before the worst happens, and what actions can you take if you do find evidence of risk? Here are some techniques to bear in mind.
1. Maintain a Diverse Team of Suppliers
Diversity adds spice to life — and in manufacturing and supply chain management, diversity is a key way to insulate yourself and your company from supplier financial risk. Why is this so important?
To put it simply, it’s because there are so many internal and external pressures that can affect the stability and solvency of the suppliers you depend on. Advancements in omnichannel retail, political turmoil, uncertainty about global trade and tariffs, extreme weather, and natural disasters all have the potential to slow or shut down key parts of your supply chain.
Think about supplier diversification as a portfolio of resources, vendors, and suppliers. By drawing materials and expertise from a broader geographical footprint, you can spread out your risk and ensure that the failure of a single supplier doesn’t cripple your business. You’ll always have another supplier ready to keep things moving, even if not at 100% capacity.
Believe it or not, this doesn’t carry a heavy price tag, either. In fact, the Hackett Group reported that diverse supply chains have more manageable operating costs than less diverse ones and, in many cases, even spend 20% less on procurement.
2. Accumulate a Stockpile of Critical Inventory
This is not the most obviously cost-effective course you can take, but it’s a fairly certain method for protecting yourself against slowdowns or falling output among your providers and vendors — at least in the short term.
Stocking up on essential products or product components will help you keep up with production, shipments, and customer obligations should you find your supply chain disrupted. At the same time, you can fix the problems, recover your productivity, or even switch to a different vendor.
This will require you to invest more of your working capital into products and materials that could sit unused for a time. However, you’ll have the peace of mind that comes with expanded operational flexibility and another firewall between you and the financial futures of the third parties you rely on.
3. Make Investments in Companies You Depend On
This tactic is probably more common than you think. Not every company is Apple Inc., but they provide a look at the sort of codependency that can make or break multiple companies’ fortunes at once; there are several smaller technology companies whose patents Apple depends on to maintain sales of its flagship products.
Consequently, it’s not uncommon for Apple to make strategic investments in its supplier partners, as it did in 2017 when Bain-Apple purchased Toshiba’s chipmaking business. You probably don’t have $18 billion lying around, but you also probably won’t need it. If you’re a small- or even medium-sized business, it’s probably well within your reach to make a strategic investment in your vendors to help keep them solvent and stable and make sure the flow of incoming materials and products isn’t interrupted.
4. Create or Buy a Vendor Scorecard
The process of creating your own vendor scorecards can be started early in the vetting process, when you’re still seeking suppliers and critically evaluating their abilities and capacities. Documents like requests for proposals (RFPs) and requests for quotations (RFQs) are some of your best opportunities to sniff out financial or operational shortcomings early on — and possibly even predict and eliminate future failures.
Let’s assume these documents come back looking good and you choose a vendor you like. The scoring process is ongoing from this point. When you drew up your contract with this vendor or vendors, you probably spelled out several key performance indicators (KPIs) to which you expect your vendors to adhere. This is the foundation upon which your supplier scorecard stands. If you don’t want to start from scratch, you can find some straightforward Excel templates online for inspiration.
Because the performance of your vendors touches each of your operations in one way or another, make sure your evaluation card is something that’s accessible and intuitive for everybody in your organization to use.
5. Keep Your Eye on the Bigger Picture
It’s worth remembering that the days of doing credit checks — without other forms of due diligence — are long behind us. As any landlord or creditor can tell you, a person’s creditworthiness is just one piece of the puzzle. Internal factors among your vendors and suppliers might look great on their own, but global trends, poor sales, inaccurate demand forecasts, work ethic, and company culture all factor in as well.
You need to keep your eye on the big picture instead of relying on outdated forms of vetting, like credit checks, that can’t tell you everything you need to know about the stability and flexibility of your partners or would-be partners.
In other words, financial due diligence is essential while you’re drawing up contracts in the first place, but mitigating risk more completely means continued vigilance and oversight of your supplier’s daily realities. Watch for staff shakeups — especially movement or departure among senior staff members — as well as new sources of debt being taken on. Even the breadth and tone of your suppliers’ interactions with customers and the general public online and on social media can provide clues about the potential longevity of your partners.
Minimizing Risk for a Stable, Successful Future
Nothing you’ve read here is entirely foolproof, but hopefully these tips serve as a reminder that you have plenty of tools at your disposal for detecting early signs of financial risk among your suppliers and taking steps to protect yourself from fallout.
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