Why Supplier Financial Risk Will Persist in the New Normal

When dealing with risk, the past is the backdrop to present and future events. In particular, supplier financial risk tops the list of key threats. What can procurement and supply chain professionals learn from the year that changed everything – and significantly, what can they do now to manage supplier financial risk before it is too late?  

Many people refer to the coronavirus pandemic as “unprecedented.” The year 2020 was certainly one for the history books. Yet to echo the sentiment attributed to 17th century author Edmund Burke, “Those who cannot remember the past are condemned to repeat it.” When dealing with risk, the past is the backdrop to future events, and disruption is providing the momentum to change.

In many cases, the business outlook, risks and threats are dramatically different than they were just over a year ago. But what hasn’t changed is the need for comprehensive supply chain risk management. This involves using artificial-intelligence based, real-time monitoring along with advanced tools to identify, assess, and mitigate risk so as to avoid disruption, or reduce the damage arising from risk events. 

What has changed in the new normal is a growing normalization of risk management. In other words, following the pandemic-induced disruption and its aftershocks, more and more organizations are recognizing that managing risk is essential to strengthening supply chain resilience.  

Supplier Financial Risk (Still) Tops the List 

In the past year, the threat of pandemic outbreaks rose dramatically. Yet its effects were more severe than quarantines, lockdowns, or border closures. To be able to manage risk events that are directly or indirectly caused by the pandemic, you need insights into warning signs of the ripple effect. You need tools that help you connect the dots to uncover risks that may not yet be apparent.  

Real-time monitoring helps you identify shifts in risk, enables you to recognize the patterns and understand in advance what could be coming your way next. For enterprises of all sizes, monitoring threats is critical for mastering supply chain risk.  

Most significantly, direct and indirect pandemic-related risks have impacted the financial stability of suppliers. As government support programs are phased out, financial distress, insolvency, and bankruptcy loom, which could have huge and lasting aftereffects on your supply chain in the new normal. 

Top Five Risks in 2020  

Nearly every second warning sent by riskmethods (49%) was related to financial stability. 

 

1. Revenue & growth outlook
2. Ownership structure
3. Key employee stability
4. Business partner fines & penalties
5. Field issues (incl. recalls, product failures, or product safety risks) 

Compared to pre-pandemic conditions, riskmethods witnessed an overall increase of 88% of warnings on financial stability that it sent to its customers. 

Source: riskmethods Risk Report 2021 

How do I Recognize Warning Signs of Supplier Financial Risk? 

Specific events have the potential to disrupt supply chains, or belong to a series of events that indicate decreasing financial stability of a supplier. Financial risk indicators such as revenue and growth outlook, and ownership structure, consistently top the list of threats affecting global supply chains.

Here are a few key financial risk indicators:  

Revenue and growth outlook relates to events relating to individual companies, such as missed revenue targets. This risk indicator represented 25% of warnings overall in the past year. 

Ownership structure (Acquisitions) refers to changes or potentially destabilizing event at the business partner, including acquisitions. Even a restructuring could affect R&D, product lines, or availability of supply 

Major product release delays signal loss of revenue for your supplier, and possible loss of reputation, which can also affect your brand. 

Force majeure is when businesses claim that forces beyond their control prevented them from fulfilling their contracts. In 2020, force majeure claims increased by 124 % compared to a year previously.  

Bankruptcy is the final curtain for suppliers. With real-time monitoring, you can find out faster than your competitors, so you can act fast to secure any remaining supply.   

Supplier Financial Risk does not Happen Overnight  

Since early 2020, risks have shifted, from logistics bottlenecks to compliance issues and shortages, among others. Most of these, while sometimes critical, are temporary and will not drive the business to its knees. Yet when they increasesupplier financial risk, this can heavily impact the buyer, their ability to source the goods, materials, and services they need to successfully carry out business operations. 

How do you recognize supplier financial risk – before it’s too late? When analyzing examples of major disruption with serious consequences in 2020, it becomes clear that risk events build on or follow each other. For example, if you receive early warnings regarding your supplier for the financial risk indicators listed previously, you might also pay attention to their key employee stability. Why? Should the top executives such as CEO or CPO be leaving the company, it could be a sign that not all is well at the enterprise financially. 

And, as government programs to support businesses begin to expire, the underlying damage to businesses may surface, and set off a wave of supplier bankruptcies. If you are aware of the warnings, you can avoid or mitigate the impact. 

Supplier Financial Risk is not the Only Threat in Town  

The COVID-19 pandemic took center stage and eclipsed all other risk events in 2020. However, other forms of risk – including financial health, cyber, compliance, man-made, and natural hazards risk –have not gone away. These, too, shifted in the past year. And many of these events trigger other risks, to increase the overall risk exposure. Four key areas to watch include: 

Compliance Increasingly, enterprises are being held accountable for violations within their supply chains. Risk indicators of business partner fines and penalties warn you of violations of laws, or standards in your supply network.  

Natural hazards represent 5 % –10 % of all risk alerts in any given year. In addition to site damage caused by natural disasters, suppliers may invoke force majeure, which potentially raises your supply urgency. 

Geopolitical Increased taxes and tariffs on goods fortify the trend toward regional sourcing. In addition, critical industries, such as pharmaceuticals, medical devices, or aerospace and defense – are mandated to source certain percentage regionally. However, this creates greater complexity, and more possibilities for disruptions. 

Cyber Cyberattacks increased by 150% in 2020. As more companies digitalize supply chain processes, the cybersecurity of your suppliers is critical. Threat actors seek entry at the weakest link in the chain, and move laterally to attack your systems. 

Pulling it all together: A worldwide shortage of semiconductors is the result of a series of seemingly unrelated events, including pandemic lockdowns, tightened US sanctions, labor unrest, and fires at supplier and sub-supplier sites. This is where having visibility into n-tier can help enterprises anticipate shortfalls of raw materials and basic components before these become critical.

Dealing with Supplier Financial Risk in the New Normal 

By drawing insights from the shifts in risk, and recognizing patterns, you can take action now to avoid unpleasant surprises. A risk-aware organization factors in the cost of risk with every decision, is equipped to stay on top of all the potential threats to the supply chain, and remains positioned to quickly enact contingency plans when crisis strikes.  

When you recognize the warning signs and collaborate with suppliers through the sub-tiers of your supply network, your organization can begin to manage risks proactively, react faster to mitigate disruptions, and make your supply chains more resilient. Those who do not learn from history are doomed to repeat it