An SEC Observation About Supply Chain Finance Programs and Liquidity in MD&A

In a recent presentation members of the SEC’s CorpFin staff mentioned that they have been seeing more companies use supply chain finance programs.  In these types of programs companies make arrangements with their suppliers and financial institutions to help manage the timing of payments to suppliers in an effort to better manage cash.  (You can read more details in the comment letter exchange below.)

One of the concerns the staff raised was that the use of these kinds of programs should be addressed in MD&A in the liquidity and capital resources discussion.  The following comment illustrates this concern:

  1. We note your “Accounts Payable days” are 71 days as of December 31, 2018. We further note your Accounts Payable days has increased substantially over the past ten years, with a low of 47 days in 2009, followed by a substantial increase to 63 days in 2011. Please tell us if you are engaging in supply chain finance operations and mechanisms, such as reverse factoring or similar methods to increase your Accounts Payable days. Otherwise, please explain how you have been able to achieve such extended accounts payable terms with your suppliers.

In response to this comment the company replied:

From 2009 through 2018, we increased our Accounts Payable days by executing a strategic initiative to extend payment terms with our suppliers. Through successful negotiations, principally by more directly leveraging our purchasing volume, we have significantly extended our payment terms with many of our suppliers. During 2012, we began to facilitate, through a third-party intermediary, a voluntary supply chain finance program between certain suppliers and several participating financial institutions, which to a lesser extent also improved Accounts Payable days. From 2012 through 2018, fewer than 3% of our suppliers utilized the program, and less than 10% of our direct material-related purchases were paid under the program in any given year. We retain our right to negotiate with the suppliers that elect to participate in the program and benefit from any negotiated pricing or credit terms. The amounts we pay and our payment terms to the participating financial institutions are the same as if we paid our suppliers directly.

Additionally, as disclosed in our Proxy Statements, our Organization and Compensation Committee selects performance metrics for our annual performance program each year, under which our executives and key employees at each of our businesses can earn cash bonuses and restricted stock awards, if the threshold goal is achieved. From 2009 through 2012, the Committee selected cash flow as a metric for this performance program, and from 2013 through 2018, working capital as a percentage of sales was selected by the Committee as a metric for this program. Additionally, from 2009 through 2018, the executive officers selected the metric of average working capital days to incentivize our business unit employees as part of their annual performance program. These metrics reinforce our executive officers’ and other employees’ focus on liquidity, align their incentive compensation measures and are favorably affected by increases in Accounts Payable and corresponding Accounts Payable days.

The SEC’s follow-up to this response was this comment:

  1. We have reviewed your response to our prior comment. Please address the following:

Tell us the dollar amount of accounts payable that were settled via your supply chain finance program for each year from 2012 to 2018.

Tell us the balance of your accounts payable that represents amounts due to participating financial institutions under your supply chain finance programs as of each year from 2012 to 2018.

Provide us an analysis to support your conclusion that amounts settled under your supply chain finance program are accounts payable rather than bank financing.

Your analysis should also address the classification of your payments made to the participating financial institutions as well as related disclosure of non-cash financing activities required by ASC 230-10-50-3.

You state in your response that the payment terms to the participating financial institution are the same as if you paid the supplier directly. Please tell us the terms of your supply chain finance arrangements with the participating financial institutions as well as the payment terms with your vendors.

You also state in your response that the program improved your accounts payable days. Please explain how the supply chain finance program increased your accounts payable days outstanding.

Tell us the extent to which the continued improvement to your accounts payable days, and related liquidity, are expected to continue as well as the factors, such as changes in interest rates, that may limit the availability of your supply chain finance programs.

To the extent material, expand your management’s discussion and analysis to address the impact the supply chain finance program has had on your liquidity and whether or not that impact is expected to continue.

Please ensure you have filed as exhibits, all agreements relating to your supply chain finance program.

You can read the company’s lengthy response to this comment and the results of a follow-up phone call along with the incremental F/S and MD&A disclosure the company agreed to provide in future filings here.

As always, your thoughts and comments are welcome.

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