Just the Numbers: D&B's Supply Risk Outlook is Not Looking Good (Part 1)
Frequent Spend Matters readers know the difference between Chapter 7 bankruptcies and Chapter 11. In Chapter 11, companies usually end up restructuring as the train continues to chug down the tracks. Supply disruption is often minimal, thanks in part to the debtor in possession (DIP) financing used to manage the restructuring period. Chapter 7, in contrast, results in liquidation. Don't pass go. Don't wait for your container. Don't expect to get your tooling back. Under Chapter 7, if you're waiting on supply, you've lost. And you had better have other alternatives in the chute.
So from a supply perspective, it's easy to see why Chapter 11 is preferred. If your supplier is going to go bankrupt, Chapter 11 is where you want them to end up. But according to Jim, "we are currently projecting that we will end 2008 with 35% more chapter 7 bankruptcies among suppliers than the same time last year". And adding insult to insolvent injury, "we are also seeing an increase in suppliers ceasing operations. For example, the suppliers we monitor in Automotive that ceased operations has increased 17.6% since June 30th."
Scary, you say, but I have no ties to the automotive supply chain. Well, you're still not safe, if D&B's numbers are to be believed. Jim also told me that within A&D, "we have seen a 41.4% increase in the number of normally very stable companies move into the moderate risk category." While I did not query Jim on other industries, you can be sure the picture is not pretty across heavy industry, retail, food, CPG, service-based and other industries especially prone to recession and/or commodity price volatility.
In this period of financial market bail-outs and the "not so big 3" domestic auto makers begging for Federal cash flow assistance, it's tragic that so many credit worthy 2nd tier producers can not secure DIP financing. We have F-mac and F-may guarantees for troubled credit worthy home mortgages. If responsible suppliers with a decades long responsible track record cannot find DIP financing, we have no business bailing-out any other industry.
Stay tuned for Part 2 of this post when I continue to share D&B information on how companies are delaying payments to suppliers -- both in the US and around the world -- in the current economic environment and what this means for supply risk.
- Jason Busch
Jim obviously is in the know. But, for a guy whose business is built on supply market's uncertainty and risk, I would argue that he is very conservative in his projections. Further validation of Jim's numbers comes from the American Bankruptcy Insititute. A back of envelope analysis of their bankruptcy filings statistics shows that business filings through the first half of 2008 were up more than 42% over the same period last year.
But, even that doesn't tell the whole story. If you consider economists' belated acknowledgement that the U.S. has already been in a recession for more than a year, ABI's records shows a whopping 106% increase in bankruptcy filings since this whole "R-word" era began.
And new projections suggest that filings -- particularly in the retail sector -- will only increase in 2009. Upshot: now more than ever, spend managers need to balance cost savings versus risk. Those who wait for the government to bailout their supply chain are foolish a best. Spend management leaders will use this opportunity not only to source more favorable terms but to also make more informed payment decisions to maximize cash flow both for themselves and for their critical suppliers.
Your advice is spot on. I just hope that your customers and the rest of the market react in time not only to save their own numbers, but to help keep suppliers that deserve to stay in business functioning.
Regarding D&B, my guess is Jim is hedging here a bit, as these numbers are rear-facing (from late Fall). I bet the Nov/Dec numbers and forecasts are downright scary. In my view, supplier bankruptcies and risk forecasts are both trailing indicators -- not leading. Think the mortgage markets 12 months ago. This is going to get much, much worse before it gets better.
I also hope that Obama takes a good look at the entire bailout package and offers loan programs that trickle down to small and medium-sized suppliers that need it and can prove they can stay in business. Unfortunately, the big fat cats who are hissing the most are likely to get fed first. Not the right recipe for recovery, in my book.
I agree with you Jason that this is just the beginning and will get worse before it gets better. I am amazed that the "loan" (bailout) that will likely be announced in the next day or two will meet the needs of the Big 3 only through Q1. I am not sure what great transformation we expect to occur in those short months -- 2009 will be a roller coaster.
You may recall a recent question on one of the sourcing blogs, asking whether renegotiation was 'immoral' in the current economic climate.
From the tone of the question -- and the fact that a buyer was asking it -- I could only presume they meant, is it moral to demand new or more generous terms from your suppliers. As your D&B interview indicates, morality aside, your own self-interest may well be jeopardized by such a one-sided approach.
But I think there is a wider point here regarding morality. If contracts are to have any value, they must represent honest and open commitments. And of course, anyone who pretends that recent market volatility has not fundamentally impacted their business outlook and capabilities is probably not being honest.
So I do feel there is a moral imperative for buyers and suppliers to relook at any long-term deals and relationships and assess how things have changed and what impacts this may have on their respective abilities to honor their agreement.
I do recognize that there is a lot of pressure on buyers to push for lower prices, especially in view of collapsing commodity prices. But again, this must not be a one-sided 'let's kick 'em while they're down' approach. I think there are some great opportunities for creative procurement professionals to really make a difference here:
1. By taking a balanced approach to renegotiation, there is potential to establish a more collaborative approach with key suppliers. This could set the framework for sustained advantage, by creating a framework for 'preferred customer' status when the next upturn in prices occurs.
2. In the wider context of business and social reputation, I believe there are excellent opportunities to create positive brand image as an ethical company that cares about jobs and relationships - and does not carelessly jeopardize the stability of its suppliers and their employees.
I strongly believe that the framework within which commitments are made has changed. The old world of contracts and law courts is swinging instead towards a broader set of commitments based on legal, ethical and social principles and where judgment will be in the court of public opinion.
In the current situation of the big-three automotive players, it's not just about them, but also the longer-term existence of a vibrant supply network. The estimate of Jim Lawton of over 18% of automotive suppliers ceasing operations since June 30th should be a red flag to any participant in that industry.
Cost absolutely needs to be balanced with risk.