Sunday, March 21, 2010

The Diet of 900 lb Gorillas

In my post of March 11, “The Perversity of the Possible”, I wrote about large companies unilaterally changing payment terms for their obligations to suppliers.

My thanks to Dave Schmidt for his response to the post and confirmation of the problem!

Coincidentally, a report by Morgan Stanley was released at about the same time. It offers Morgan’s help to large firms in devising programs to leverage their cost-of-capital advantage to essentially squeeze discounts out of their suppliers.

This is presented as a win-win proposition, but that’s clearly just a smoke-screen.

Morgan Stanley’s suggestion is really that large firms with excess cash or credit capacity propose to pay suppliers early at a 4% discount. For those who chose not to participate, the unacknowledged flip-side would be a lengthening of payment terms.

Morgan uses relatively large print and bold typeface to trumpet its conclusions that these transactions increase profitability of BOTH the large companies that would be Morgan’s clients and their suppliers.

In the small-typeface, cramped-format analysis, however, we find that the assumption on which these conclusions are based is a 100-day acceleration of the supplier’s payment!

What is Morgan Stanley saying here?

It is saying that the large company, the 900-lb Gorilla, will force the supplier to either take a 4% discount or wait 100 days to get paid. This is very close to the situation I described in my March 11 post.

Let’s be clear, here. This is in no way an attempt to find a win-win solution. This is Morgan offering to coach large companies in the fine art of squeezing small ones. As if that were necessary!

To put an even finer point on it—this is Morgan Stanley offering to provide 3rd party justification for such squeezing so that the leaders of the large companies have the cover of expert advice as a defense for their actions.

Now, the Morgan report does introduce The Receivables Exchange as a potential alternative to using the large companies own excess working capital capacity. Its presentation of TRE and its process and benefits is flattering (if not completely accurate). And that is a good thing for TRE.

But the point of their bringing TRE into the report is as a thinly-veiled option for squeezing the suppliers WITHOUT using the large company’s own working capital.

They’re saying, even if you don’t HAVE the excess capacity yourself, you can STILL force extended payment terms on your suppliers by simultaneously suggesting that the suppliers utilize TRE to compensate for the extended payment terms.

Make no mistake. Morgan is not in this to help the supplier.

The Morgan report explicitly states that it is not a product of their research unit. This is a marketing initiative to help Morgan generate fee revenue by coaching large companies in the creation of accounts-payable strategies that increase their own profits at the expense of their smaller, weaker and less-well-capitalized suppliers.

I’m sure that Morgan publishes a list of its annual charitable initiatives. This isn’t one of them!

In individual or isolated instances, squeezing the suppliers as recommended by Morgan can work. It cannot work as a wide-spread, systematic shift in large-company AP strategies. At least, not without compensating pricing adjustments.

There might be room in the forest for one or two 900-lb Gorillas. But if all gorillas were that big there wouldn’t be enough food to sustain them, and some would have to die off or change their diet in order to restore balance.


  1. There actually is an opportunity for the buyer to extend payment terms and the supplier to reduce costs and improve cash flow, though as you rightfully point out, it isn’t the scenario described by Morgan Stanley.

    Through Supply Chain Finance (SCF), suppliers can obtain financing at rates based on the buyer’s credit rating. Let’s say that a large investment grade buyer has 60 day payment terms with a supplier and the supplier’s borrowing cost is 6% APR. The buyer intends to extend the supplier’s payment terms from 60 days to 90 days and the buyer also offers SCF to offset the negative economics of the term extension. The supplier can now obtain financing through SCF at say 2.5% APR (not 2.5% of invoice value). The buyer gets longer payment terms and the supplier pays less in financing costs (90 days at 2.5% APR results in lower financing costs than 60 days at 6% APR). That is a true win-win.

    By the way, you mentioned in your post that Morgan Stanley’s “presentation of TRE and its process and benefits is flattering (if not completely accurate)”. What part of Morgan Stanley’s presentation with respect to TRE wasn’t accurate?

    Thanks and great work on the blog, well written and informative.

    Robert Kramer
    VP, Working Capital Solutions
    PrimeRevenue, Inc.

  2. Thanks very much, Robert!

    The scenario you present does produce a net benefit to both parties and I appreciate your pointing out the sort of circumstances in which that outcome can occur.

    And I have no quarrel with such an arrangement.

    I do wonder how many suppliers of the sort that currently find their way to TRE have access to 6% APR working capital. And you agree, I think, that the Morgan Stanley initiative is not aimed at that segment of the market.

    My quarrel with the Morgan program is that it seems to me (and I might be judging harshly) that it is based on identification of and capitalization on imbalances of power, to the significant disadvantage of the supplier. Ultimately, that sort of program, if widely-enough employed, has to come back to haunt the buyers.

    As to the inaccuracies of the Morgan presentation of TRE: they are not conceptual.

    It's pretty easy, though, to look at the Exchange's own PR and find discrepancies between the figures TRE, itself, presents on items such as average auction size and number of Sellers, and those in the Morgan report.

    The report accurately terms TRE a "new, small, developing market" and I'll just leave it at that.

    I appreciate your contribution to the discussion!