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Recognizing and Managing Distress in the Supply Chain

April 13, 2020

In addition to the toll on health and safety, and the world economy, the COVID-19 pandemic is expected to cause-specific, substantial, and increasing pressure and distress on the automotive and manufacturing supply chain.  Even after the immediate effects of “shelter in place” and “work from home” orders are abated and workforces return to the C-Suite and manufacturing floors alike, cash flow constriction and financial distress, and business failure, on the part of customers and suppliers will intensify.  Indicators suggest that cash liquidity crunches and financial losses have exposed and will continue to expose the global supply chain to risks that will lead to interruptions in manufacturing and assembly activities.  This is especially true in the automotive sector.

Indeed, although a shock wave may be coming, proactivity will help mitigate risk. 

While various measures may and will be taken to address customer and supplier insolvencies once they occur, including tools such as new financings, adjusting and accelerating accounts payable, renegotiating contract terms, and implementing resourcing strategies, a sharp, recurrent focus on monitoring customers and suppliers, and identifying and responding to distress early will provide the opportunity to mitigate the effect of these challenging situations, open a more expansive suite of options and opportunities, and reduce obstacles to minimize the potentially high toll on business, both financially and operationally. 

In short, attention now will help businesses emerge on the other side of this crisis less scathed.

Below are some key signals that companies should be on the lookout to identify whether a customer or supplier may be troubled –

  • requests for price adjustments
  • requests for accelerated payment terms from suppliers or delayed (stretched) payments from customers, and requests for other financial or operational accommodations
  • the implementation of accounts receivable factoring arrangements
  • changes in payment remittance processes and procedures, including payee account information
  • indications of financial distress in public filings (SEC reporting) where applicable
  • delayed or restated financial statements
  • an uptick in litigation and/or filings of financing statements under the Uniform Commercial Code (especially by non-traditional “lenders” like customers and suppliers)
  • repeated product delivery delays or changes in product quality
  • the extensive and unusual use of expedited freight
  • the removal and replacement of key management personnel
  • the engagement of consultants, including restructuring consultants and financial advisors
  • significant employee layoffs
  • a higher than normal rate of warranty claims
  • changes in debt structure, including new loans, loan extensions, and modifications of existing loans

Identifying when customers and suppliers experience these warning signs, mobilizing rapidly and setting up cross disciplinary crisis-management teams—including financial, operational, and legal specialists—to address these conditions will greatly improve resilience to troubled customer and supplier situations.