Financial Risk • 113
TABLE6.1
Selected Supplier Balance Sheet Data (US$ in millions) for Period Ending
December31, 2014
Ninaka
Materials
FASE
Chemicals DMS NV
Assets
Cash $95.9 $35 $54.3
Marketable securities $122.5 $9 $27.7
Accounts receivable $889 $45 $174.5
Inventories $1057.7 $75 $135.4
Total current assets $2,165.1 $164 $391.9
Investments at equity $738.4 $21 $95
Goodwill $300 $40 $80.4
Total investments and other assets $1,038.4 $61 $175.4
Property, plant, and equipment $1,734.5 $125 $412.5
TOTAL ASSETS $4,938 $350 $979.8
Liabilities And Shareholders’ Equity
Notes payable $525.5 $11 $35
Accounts payable $525.9 $75 $125
Taxes due on income $245 $23 $48
Accrued payroll and employee benets $484.2 $13.5 $139
Total current liabilities $1,780.6 $122.5 $347
Long-term debt $1,243.5 $55 $165
Common stock $300 $30 $57.8
Retained earnings $1,613.9 $142.5 $410
Shareholders’ equity $1,913.9 $172.5 $467.8
TOTAL LIABILITIES AND
SHAREHOLDERS’ EQUITY
$4,938 $350 $979.8
Statement of Income Data (US$ in millions) Year Ended December31, 2014
Ninaka
Materials
FASE
Chemicals DMS NV
Net sales $6,500 $550 $1,355
Cost of goods sold $5,500 $407.5 $948.5
Selling, general, and administrative expenses $475 $65 $250
Interest expense $300 $12 $55
Costs and expenses $6,275 $484.5 $1,253.5
Income before income taxes $225 $65.5 $101.5
Estimated taxes on income $100 $28 $35
NET INCOME $125 $37.5 $66.5
114 • Supply Chain Risk Management: An Emerging Discipline
e net worth gure is also called shareholders equity in the balance sheet
for publicly traded companies.
5
From an accounting standpoint, working
capital is dened as the dierence between current assets and current
liabilities. is gure could be negative if a company’s current liabilities
exceed its current assets. Earnings before interest and taxes (EBIT) could
also be negative in the calculation. e following illustrates the Z- Score
for the suppliers presented in Table6.1:
Supplier Name: Ninaka
FASE
DMV
Working capital/ Total assets × 1.2 = 0.093 0.142 0.055
Retained earnings/ Total assets × 1.4 = 0.457 0.569 0.586
EBIT/ Total assets × 3.3 = 0.351 0.730 0.527
Net worth/ Total liabilities × 0.6 = 0.379 0.583 0.548
Sales/ Total assets × 1.0 = 1.32 1.57 1.38
Z- Score = 2.60 3.59 3.10
e following presents the gures used for the Ninaka calculation as
a guide:
• Working capital/ Total assets × 1.2 = (($2,165.1 current assets –
$1,780.6 current liabilities)/($4,938 total assets) × 1.2) = 0.093
• Retained earnings/ Total assets × 1.4 = (($1,613.9 retained earnings)/
($4,938 total assets) × 1.4) = 0.457
• EBIT/ Total assets × 3.3 = (($6,500 sales – $5,500 cost of goods sold –
$475 SGA expenses)/($4,938 total assets) × 3.3) = 0.351
• Net worth/ Total liabilities × 0.6 = (($1,913.9 Shareholders’ equity)/
($3,024 total liabilities) × 0.6) = 0.379
• Net sales/ Total assets × 1.0 = (($6,500 net sales)/($4,938 total assets)
× 1.0) = 1.32
From this analysis we conclude that only one of the three suppliers
Z- Score is in the green zone, indicating the supplier is nancially sound. e
other two suppliers, while well above the 1.8 Z- Score threshold value that
indicates serious nancial risk, have some area of concern. For Ninaka the
net worth/ total assets value is relatively low, while DMV had higher cur-
rent liabilities compared with current assets and a lower EBIT compared to
total assets. Ideally we would like to have nancial data for multiple periods
so the Z- Score can be compared against other periods. Trend data almost
always provides valuable insights that point- in- time data cannot.
Financial Risk • 115
Keep in mind that the Z- Score is a nancial risk indicator; it does not
tell us if the supplier has adequate capacity or can meet quality or deliv-
ery requirements. Chapter13 will illustrate a technique for performing a
rough- cut supplier capacity analysis using a small set of the nancial data
presented in Table6.1.
Other Predictive Indicators. It is not reasonable to assume that every
company has the resources or expertise to evaluate hundreds or even
thousands of suppliers from a nancial risk perspective. It is also not safe
to assume that nancial data about these suppliers will be available or easy
to obtain. For a variety of reasons buyers will rely on third- party data to
support their nancial assessment eorts. Two of the more popular pre-
dictive indicators are Rapid Ratings and Dun & Bradstreet.
Rapid Ratings (www.rapidratings.com) provides a comprehensive nan-
cial health assessment of companies. e assessment is a multiple- part
report that provides extensive nancial data and analysis. e rst page of
the output report is a detailed discussion of a company’s Financial Health
Rating (FHR), which is a number that ranges from 0 to 100. is also
includes multiple years of FHR trend data for comparison purposes. e
subsequent detailed report contains six sections: Section1 is the execu-
tive summary, Section2 includes a Return on Capital Employed (ROCE)
analysis, Section3 reports FHR history and performance category scores,
Section4 identies areas of strength and weakness in relation to other sec-
tor participants, Section5 is the company’s balance sheet, and Section6 is
the company’s income statement.
Dun & Bradstreet (www.dnb.com) oers a suite of risk management
products oering core and add- on modules under a broader category
called Supplier Risk Manager. Two analytic tools are available that use
predictive scores, including the Supplier Stability Indicator (SSI), a predic-
tor of near term (90–120days) nancial and operational stability and the
Supplier Evaluation Risk (SER) Rating, which predicts the likelihood that
a company will obtain legal relief from creditors or cease operations with-
out paying creditors in full over the next 12months.
Qualitative Supplier Financial Risk Indicators
e nancial analysis of suppliers should benet from a combination of
quantitative and qualitative assessments. While ratio analysis is a power-
ful tool, the technique still relies on data that are updated infrequently,
116 • Supply Chain Risk Management: An Emerging Discipline
dicult to obtain, or sometimes unreliable. e following presents a
checklist that might provide clues that a supplier is struggling from a
nancial perspective
6
:
• A large portion of a supplier’s sales go to customers in depressed
industries
• A supplier cannot meet agreed- upon lead times because of late pur-
chase order placement for its materials
• A supplier is shipping early due to a lack of business
• e supplier announces facility shutdowns, closings, and/ or layos
• e supplier has reduced its investment in R&D, IT, equipment,
or resources
• Unusual turnover occurs at the executive level
• e supplier’s payables period is lengthening
• Quality is deteriorating
• Additional discounts are oered for early payment or payments are
required in advance
• e supplier is restating nancial reports and projections
• e supplier’s product is labor intensive, requiring large payrolls
• e supplier has absorbed up- front research and development and tool-
ing costs on new products that are delayed in getting to the marketplace
• An unusual amount of company stock is being sold by executives
• Rumors of problems begin to emerge
While qualitative indicators are not modeled quantitatively like ratios,
they can still provide valuable insights that nancial data and ratio analy-
sis cannot. Like forecasting, which benets from a combination of quanti-
tative and qualitative approaches, assessments of supplier nancial health
should also benet from a quantitative and qualitative approach.
Assessment of Customer Creditworthiness
While one end of the supply chain thinks about the nancial strength of
suppliers, the other end thinks about the nancial strength of custom-
ers. Eective nancial risk management considers both ends of the supply
chain. Just as assessments of supplier nancial viability should routinely
occur, so too should assessments of customer creditworthiness.
Financial Risk • 117
e discussion that took place regarding ratio analysis of suppliers from
a risk perspective is much the same for customers except with dierent
objectives. A company evaluates the nancial integrity of suppliers with
the objective of avoiding future supply disruptions due to nancial issues
while it evaluates the nancial integrity of customers with the objective of
ensuring its invoices are paid. e interpretation of the various ratios used
does not change because a company is a supplier versus a customer.
Similar to supplier nancial reports and bankruptcy predictors, risk
managers can use third- party data providers to gain insight regarding cus-
tomer creditworthiness. An example includes the Debtor Risk Assessment
(DRA) score from the Coface Group, a 60-year old company that main-
tains a database of 50 million companies worldwide. Coface calculates a
DRA from 0 to 10, with each score corresponding to a dierent category
of trade risk. e assessment comprises primarily data points based on
nancial ratings, payment incident ratings, and company identity data,
although the DRA can be adjusted for external shocks to the economy,
trend behavior, or modications by senior analyst reviews.
Another example of third- party customer risk assessments includes a
suite of three reports available from Dun & Bradstreet. While not speci-
cally endorsing any particular product, these reports oer a wide range of
customer information that highlights the kinds of data that are available:
• Comprehensive Insight Plus Report. e most comprehensive (and
expensive) of the three reports, this report provides a business sum-
mary, information about corporate relationships, credit limit rec-
ommendations, public lings, nancial statements, payment history,
D&B ratings, and scores that predict the likelihood of future busi-
ness failure or late payments.
• Business Information Report. is report provides essentially the
same information as the rst report except it excludes the scores that
predict the likelihood of future business failure or late payments.
• Credit eValuator Plus. is basic report provides customer payment his-
tory, industry payment benchmarks, and credit line recommendations.
Other applications and services are available from D&B that target cus-
tomer credit risk management. A variety of other sources provide basic
credit rating scores that can support the development of a credit and
accounts receivable policy for a customer.
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