Mitigating The Risk Of A Financially Unhealthy Supplier

The pandemic has compromised the resilience of many supply chains throughout the world, with the insolvencies of one link causing widespread headaches both upstream and downstream.

The threat of one vendor going under isn’t the only type of financial risk in the supply chain today, however. And according to Eric Evans, managing director of Business Development at RapidRatings, financial risk often bleeds over into other areas of the enterprise, compounding risk exposure for B2B partners.

“Things went from bad to worse,” Evans told PYMNTS of the current climate of financial risk within supply chains. “There are companies that had preexisting conditions, and the story only got worse.”

It’s vital for organizations to not only understand the current financial risks their suppliers pose, but to remain continuously proactive to assess the trajectory of their business partners in the future.

Beyond Financials

Particularly in the midst of the pandemic, one of the biggest concerns was the threat of a key supplier becoming insolvent.

But the consequences of financial risk within the supply chain go beyond a failed business. Organizations that lack financial resiliency may underperform in key areas, according to Evans, citing research conducted by RapidRatings in 2018.

The analysis revealed that organizations that pose financial risk to their supply chains are more than twice as likely to ship a defective product and ship a product late.

“From our perspective, financial risk is very foundational. It could be a huge symptom of other problems,” he said, adding that the research “really confirmed our suspicion that financial risk does bleed over into other risk categories.

These businesses may also be unable to invest in updated infrastructure, effective cybersecurity controls, product research and development, or hire new talent when employees leave. Compounding the issue is that when a disastrous event occurs, such as a data breach, these organizations are also less capable of rebounding.

The pandemic has exacerbated this crossover of risks, too.

“We did a survey back in March, and a lot of private companies had low inventory,” Evans noted. “They really couldn’t sustain a shutdown for more than a few weeks because they had low inventory or low working capital. If you’re financially healthier, a lot of that can be easily managed.”

The Trajectory of Risk

Now more than ever, Evans said, organizations need to assess both the short- and medium-term outlooks for their vendors’ financial health, and understand how they intersect.

One of the biggest challenges organizations face today when attempting to independently assess the risks their business partners pose is placing a risk profile in the broader context of what has happened in the past and, especially, what is likely to happen in the future.

Evans noted that much of the time, organizations are forced to manually analyze risk profiles through models that lack consistency. They can struggle to obtain the financial statements of their vendors, particularly those of private companies, or lack the resources to complete a well-rounded assessment.

“They just can’t keep up because of limited resources,” he said. “It can be really manual in nature, and an arcane process they may have.”

Working with a partner that can automate forecasts and projection models allows the enterprise to examine a more holistic trajectory of their partners’ risk profiles.

“It’s also about the rate of change, and the velocity of change,” explained Evans. “A lot of companies start out good, but how fast are their revenues dropping? They might still be low-to-medium risk, but boy, if they’re dropping fast, you want to know that — as well as the high risk and very high risk.”