• Thu. Sep 21st, 2023

New Rules Reveal $64 Billion of Hidden Leverage at Big US Firms

New accounting rules imposed on companies this year are revealing tens of billions of previously hidden leverage among the largest US businesses.

About 80 companies in the S&P 500 reported at least $64.1 billion worth of obligations in a type of short-term borrowing that lets them stretch out supplier bills and pay them back later, according to a Bloomberg analysis of filings. The number is expected to grow as many large companies won’t report their first-quarter financials until later this year. The list of users varies across industry and geography, including such household names as Philip Morris International Inc., Cigna Group, and Target Corp.

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The majority of the companies reported these supplier finance obligations for the first time, following rules newly mandated by the Financial Accounting Standards Board.

The financing helps companies free up cash so they can invest in their operations, buy back stock, or issue dividends, all outside the view of investors and analysts — until now. The new disclosures show how much money is at stake and how pervasive the cash flow practice is; about 80 of the 400 S&P 500 companies that had to comply with the rules in the first quarter use supplier financing. But the rules don’t require companies to divulge much else, exposing gaps to put those big numbers in context.

“It’s leverage that wasn’t reported and it’s reported now, but it’s just as difficult to understand,” said Lance Doherty, assistant vice president at Pacific Life Insurance Co., which invests in working capital arrangements like supplier finance and embraces more details to make investment decisions. “Inadequate is the perfect word for it.”

Supplier finance, sometimes called reverse factoring or supply chain finance, involves companies making arrangements with lenders to pay supplier bills quickly. Suppliers accept a slightly lower payment in exchange for getting paid as soon as possible. Companies then pay the lender back anywhere from 30 days to up to a year later, filings show.

Advocates pitch the special financing as a win for both businesses and their suppliers, with companies hanging onto their cash and suppliers immediately pocketing payments for anything from cardboard to car parts. But the US Securities and Exchange Commission, credit rating agencies, and accounting authorities have raised concerns that the financing deceptively portrays liquidity among the companies that use the arrangement.

Investors for years have sought information about which companies use supplier financing, after noticing cash flow boosts and longer period to settle bills— but no explanation as to how or why. Threw were no specific accounting requirement for the financing tool and few companies voluntarily disclosed it. US regulators in 2019 started asking questions, with the SEC nudging companies including Coca-Cola Co., Boeing Co., Keurig Dr. Pepper Inc., and Procter & Gamble Co., to spell out their arrangements in their financial statements. The Big Four accounting firms in 2019 asked the Financial Accounting Standards Board to weigh in and issue formal rules.

Much of the scrutiny has centered on the length of time it takes for companies to pay back the lenders. The longer it takes, the more it starts to resemble debt, even if a company doesn’t consider it that way. Ratings agency S&P Global Ratings regards any payables stretching longer than 90 days as a form of debt for the company purchasing products or services.

FASB’s rule, issued in September, calls on companies to report the “key terms” of their supplier finance programs, including, but not limited to a description of the payment terms, including payment timing, as well as assets pledged as security or other forms of guarantees. But some investors warned that those details weren’t specific enough and gave too much leeway to companies to decide what to divulge.

Of the roughly 80 companies that reported supplier finance programs, half revealed payment terms running past 90 days. The other half of the group disclosed no information on timing at all, the filings show.

The lack of specificity is one of the main flaws of the new accounting requirements, said David Gonzales, a senior accounting analyst at Moody’s Investors Service. While analysts now at least know which companies use the financing, they still don’t know how long it takes to pay the lender back or how that compares to original invoice terms.

“When you don’t mandate required disclosures, you won’t get information on a basis consistent enough to make an analysis,” Gonzales said.

Big Numbers

A number of the companies disclosing supplier financing arrangements recorded billions of dollars outstanding in supplier finance programs, under payment terms that could last for almost a year.

Genuine Parts Co., an Atlanta, Ga.-based auto parts company, reported $3 billion of supplier financing outstanding as of the end of last quarter, and said payment terms could be as long as 360 days. The amount of money due to its supplier finance program is more than half of its $5.6 billion recorded in accounts payable — the amount of money a company owes to its suppliers. Another auto parts company, O’Reilly Automotive Inc., reported $4.3 billion in supplier financing, about 70% of its accounts payable. The company said its terms were “generally” a year long.

Other companies disclosed relatively large dollar figures but they represented smaller portions of their total money due to suppliers. Insurer Cigna Inc. reported $1.1 billion in supplier financing but that represented 20% of its total accounts payable. The company also disclosed that its supplier finance program was primarily an arrangement with one supplier.

Tobacco company Philip Morris International revealed $1.1 billion of supplier financing, almost a quarter of its total accounts payable.

Varied Levels of Risk

While analysts and investors don’t view the use of supplier financing as a risk for all companies, it could be problem for firms that rely on it too heavily or are already on shaky financial footing. If credit conditions tighten, the financing source could suddenly dry up.

“We do believe these programs can be beneficial to companies,” Gonzales said. “We just want to make sure that we’re adequately understanding or at least thinking about the types of risks that happen if credit deteriorates or, these days, if the bank is no longer there.”

Supplier finance has been featured in the collapse of major corporations, with the most notable example outside the US. Carillion Plc became one of the UK’s largest corporate failures in 2018 after the contractor used reverse factoring to label almost half a billion pounds of debt as “other payables,” hiding its indebtedness. Greensill Capital ran a large supplier finance program for many companies when it collapsed in 2021 after straying into riskier loans.

FASB’s London-based counterpart, the International Accounting Standards Board, published its own set of supplier finance disclosure rules on Thursday.

Some investors and analysts hope the newly required disclosures are the first phase of greater transparency.

“We’re not seeing a ton here that’s helpful,” said Emily Grant Turner, vice president of accounting services firm CFRA Research. “It does definitely flag to me, as an analyst, that I should ask more questions to management.”


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