THE ARTICLE
"Customer and Supplier Portfolios: Can Credit Risks Be Managed Through Supply Chain Relationships" by Matthew A. Schwieterman of Michigan State University and Thomas J. Goldsby and Keely L. Croxton of The Ohio State University. Published in the May 2018 issue of the Journal of Business Logistics.
THE UPSHOT
The nature or structure of a company's relationships with its customers and suppliers can have a direct impact on its financial performance. For example, if a prominent customer lengthens its payment terms, a supplier may see a decrease in its liquidity. Similarly, previous research has shown that a firm's share prices can be affected by the performance of its key customers.
Is there a similar link between the external market's perception of a company's supply chain relationships and the company's credit rating? This research sought to find out. The researchers chose to look specifically at two key ways to characterize a firm's portfolio of relationships with its suppliers and customers: concentration and balanced portfolio dependence. Concentration is defined as the portion of a firm's sale revenue that is received from its primary customers and the percentage of its purchasing spend that is allocated to its primary suppliers. Dependence relates to how much a company relies on its customer or supplier for its financial success. In some relationships, there is a power imbalance, where one party is more dependent on the other than the other is on it. In other relationships, the level of dependence is more equal. Balanced portfolio dependence is defined as the average degree of balance in dependence (based on the percentage of business each party allocates to the other) across the top customer and supplier relationships for a firm.
Previous research has found that these two characteristics can influence a company's financial outcomes. But is there a correlation between high customer or supplier concentration and a company's credit rating? Is there a correlation between a balanced portfolio dependence and a company's credit rating? The article's corresponding author, Matthew A. Schwieterman, explained to Supply Chain Quarterly Executive Editor Susan K. Lacefield what he and the rest of the research team found out and what it means for supply chain managers.
Q: What was the impetus for this research? Why were you interested in studying the relationship between supply chain portfolio characteristics and credit risks?
Based on the massive interest from the business community, supply chain relationships have been researched extensively in recent years. A variety of supply chain relationship issues have been explored, and a multitude of financial outcomes have been examined. For example, return on assets; return on sales; and earnings before interest, taxes, depreciation, and amortization margin have all been said to be influenced by supply chain structure.
As the popularity of supply chain management has grown, a variety of other outcomes have been proposed as being related to a company's supply chain strategy and practices. For example, concentrating sales to several large customers leads companies to hold excess cash to hedge against risks associated with loss of relationships. Similarly, these companies are likely to receive less favorable loan terms from banks and longer payment terms from customers. Given the large amount of interest in supply chain outcomes, we wanted to explore whether supply chain structure also affected a company's credit risks.
Q: Why did you choose to look at "concentration" and "balanced portfolio dependence" specifically?
Various studies in business and economics over the years have shown that these characteristics impact firm performance. However, these studies generally only considered financial performance. Based on our belief in the importance of supply chain structure, we wanted to extend the use of these characteristics to include other outcomes, such as credit ratings.
Q: What affect did your research show that concentration and balanced portfolio dependence had on credit ratings?
In a nutshell, both customer concentration and balanced customer portfolio dependence were shown to be beneficial to a company's credit ratings. However, supplier concentration and balanced supplier portfolio dependence had no significant effect. In plain terms, all else being equal, companies with several large, key customer relationships had better credit ratings than those that did not. Likewise, credit ratings were better for companies that had balanced relationships with customers, where each party represented relatively the same percentage of business to the other.
Q: Were any of the results surprising? Why, or why not?
We were happy to show that customer relationship characteristics were related to credit ratings but initially perplexed that supplier relationship characteristics were not. In hindsight though, this made sense as credit ratings are measures of a company's ability to meet its financial obligations. As such, revenue would be of key importance. The supplier characteristics, while important to other outcomes, would likely not feature a direct link to revenue as would the customer characteristics. The importance of supplier relationships on various supply chain outcomes would be a great area for more investigation in the future.
Q: How do you think that companies can apply your findings?
Companies can benefit from an awareness of the importance of supply chain structure to their overall performance, including credit ratings. Credit ratings are an important outcome, as they can impact the credit terms extended to companies.
Additionally, the findings point to the importance of managing customers and suppliers as a portfolio, with an awareness of how customers and suppliers are contributing to a company's strategy. When considering customer portfolio characteristics, companies should think about the possible benefits of large, prominent customers, especially as signals of future revenue to external evaluators, such as credit-rating agencies. Finally, balanced relationships may be important to success, and should be considered when possible.
Q: Do you think companies in general think about the effect that their supply chain relationships could have on their credit rating? Should these concepts of concentration and dependence affect who they choose to be suppliers and who they choose as customers?
We believe companies will continue to become more aware of the effect supply chain characteristics have upon various outcomes, including credit ratings. It makes sense to consider concentration and balanced dependence within customer portfolios when pursuing various customers. However, as with all key business decisions, many factors will need to be considered.
Q: What would you say is the key takeaway message of your research?
To put it broadly, supply chain structure is important! The decisions made by supply chain managers impact more than immediate financial metrics and have implications for a company's long-term success. Specifically, balanced relationships with large, key customers are associated with stronger credit ratings.
