Viewpoint: as the tragic global health crisis of Covid-19 becomes an economic one too, there is an urgent need to improve the resilience of our supply chains

Michiel Steeman

date: May 20, 2020

The scale of the human tragedy of the Covid-19 outbreak unfolding around the globe can often seem overwhelming. Who could anticipate the speed at which the virus took hold over one country after another? National death tolls have become a depressingly regular feature of each passing day. As I write this, there have been more than 183,000 deaths worldwide.

The measures taken by governments to lock down their nations, shutting shops, cafes and sports stadiums, are essential tactics needed to slow the spread of the virus and safeguard our lives, our health services and the staff that continue to work to look after the sickest. SCF Community recognises the efforts of all of those that continue to keep our hospitals, essential shops, waste collection and other vital services running.

The indirect consequences of the very urgent need to contain this virus will inevitably have ramifications for economies, businesses, people’s livelihoods and global supply chains for months – if not much longer. We’ve already seen factories stop production, while the hospitality and tourism sectors have seen revenue disappear overnight.

Forecasts suggest real global GDP could decline between 4.9 per cent and 6.2 per cent in the second quarter of this year compared to Q4 2019, depending on how quickly the virus is contained, according to scenarios outlined by consultancy McKinsey. In the Eurozone, GDP could decline between 9.5 percent and 12.2 percent in that time period depending on the severity of the crisis. The expected declines in the US in this quarter could be the worst seen since WW2.

Even if lockdown measures start to ease later this year, our economies will not immediately return to ‘normal’. A U or V-shaped recovery is perhaps wishful thinking.

I see the economic crisis having at least four waves taking us into 2022. We are currently in the initial phase where we are seeing supply disrupted as factories closed, as seen in China at the start of the year and now across the globe.

The second phase will start to emerge soon as demand disruption affects growth. Lockdown measures have decimated demand in leisure, entertainment, and hospitality industries, among others. Inevitably this will place pressure on companies’ liquidity needs and will result in an increase in bankruptcies.

The third phase will likely emerge later in the year as bruised and battered companies start to reduce their costs, whether though cancelled investment projects or making widespread redundancies.

The final phase will start to be more evident at the end of 2021 and the start of 2022 as sovereign debt starts to mount.

Governments are pouring trillions of dollars into propping up their economies and their populations. This accumulation of debt will start to weigh on not just southern European countries but also the US economy, slowing down growth.

With a looming recession and a long road to economic recovery, the best we can do as a community is to develop strategies so we can adapt to both the immediate and long-term consequences of Covid-19 on supply chains and our ability to finance them. Being able to effectively adjust will help keep businesses going, staff employed and goods reaching their destination.

Before deciding on a strategy, it is worthwhile remembering that each industry faces its own challenges, with some sectors seeing demand skyrocketing or seeing it nose-dive.

Sanitising equipment, medical equipment and food are in high demand while no one can go out for dinner in a restaurant and few are looking to buy a new car.

Both the low and high demand scenarios are resulting in suppliers and buyers looking to safeguard their liquidity. Buyers want to delay payments of invoices, while many suppliers are in urgent need of quicker payment to cover their costs.

Companies which are grappling with high demand require large injections of working capital to increase their production capacity.

This need for liquidity from all parties has driven up demand for SCF programmes, and we are clearly seeing an immediate increase in interest and usage.

Yet, there is a question mark over whether this increase will be a long-term trend, especially given the anticipated recession lurking on the horizon. Will there continue to be a need for additional working capital?

As the economic crisis worsens, there will be many corporates that will struggle with obsolete stock they can no longer sell or are forced to sell at a discount – particularly in the non-food sector such as the clothing industry.

This is an expensive problem to have and, will be a contributing factor to the anticipated cost reduction initiatives I see being implemented later in the year. Some companies won’t be able to survive, leading to payment defaults.

This may not bode well for the wider economy nor for SCF programmes, particularly if A-rated corporate buyers are downgraded or start defaulting on debt. The whole ‘ecosystem’ of SCF relies on the anchor buyer having a good rating.

There’s also a potential issue around trust in the market when it comes to selling or buying SCF assets in an environment where credit losses will start to increase. I hope the banking system is stronger than it was in 2008 and that we don’t see trust between banks deteriorate as rapidly.

There needs to be enough liquidity to support SCF programmes – which will in part come from governments and central banks. State-backed guarantees on loans will help while central bank efforts to increase their purchasing of assets – such as the ECB’s Pandemic Emergency Purchasing Programme – will also be beneficial. Clearly, SCF assets should be included in such programmes.

Investor interest in SCF programmes must be maintained as well. Any sign of a retreat from the market will likely spook corporate buyers who are all too aware that programmes are “uncommitted” and could be withdrawn as and when required. We certainly want to avoid a situation where an SCF programme is considered too much of systematic risk for corporates.

There will likely be some fundamental shifts in our physical global supply chains as well. I anticipate more reshoring of manufacturing back to Europe and there may be new regulations that will widen what are considered “strategic goods”, with more restrictions on what can and can’t be exported. All of which pose fresh challenges to managing and financing the supply chains.

Yet, SCF has a chance to play an important role in making our future supply chains far more resilient to virus outbreaks and other “black swan” events that seem to be appearing with increasing regularity.

One strategy could be for corporate buyers to consider having some form of ‘backstop’ SCF programme in place which they can activate when they need it – something like the liquidity backstop programmes you see in the capital markets. Companies should consider it becoming part of their business continuity plans.

This would limit the last-minute scrambling to set up or expand programmes when financing is urgently needed. SCF will also be useful when businesses look to restore their operations in a post-lockdown world. With the support of their suppliers or buyers, companies could find fresh sources of liquidity to help kickstart their supply chains.

While my outlook may seem gloomy, I do see a route through this. It is, however, wise to consider how you might need to adapt and improve the resilience of your physical supply chains and SCF programmes so we can work effectively in whatever shape the “new normal” world takes.

Michiel Steeman

Professorship at Windesheim University of Applied Sciences

Michiel Steeman was selected in 2013 as the inaugural holder of the Supply Chain Finance Professorship at the Windesheim University of Applied Sciences in The Netherlands. He is also the founder and chairman of the Supply Chain Finance Community that has already brought together over 30 leading business schools from more than 20 countries around the world who actively collaborate with companies, banks and governments in the developing field of Supply Chain Finance.