And the silver lining.
The recent collapse of Silicon Valley Bank (SVB) is a wake-up call for all businesses. More proof that the effects of the perfect storm of macroeconomic events we’ve been warning about are spreading.
While the US government and federal regulators implemented a backstop and averted a crisis, the effects on capital markets have already led to an increase in volatility and more uncertainty.
How is SVB’s collapse tied to supply chains?
The impact of these challenges on supply chain resiliency cannot be ignored. The primary question for many businesses that were unaffected directly is whether their suppliers will be able to survive and perform during this time. Your suppliers’ ability to deliver on-time, on specification, and per the terms of contracts will be put to the test. It’s important to remember that your organization’s critical materials, goods, and services often come from smaller companies, the majority of which are privately held.
Private companies have been hurt by the perfect storm of macro conditions – inflation, rising interest rates and tightening credit standards –that are exceptionally challenging operating conditions for most companies, and private ones in particular. The recent failure of SVB, holding long-term securities that devalued in a rising rate environment, serves as a stark illustration that market conditions have changed. We’ve given the heads-up on this to clients for some time. The macro factors that hit SVB hard, are even harder for smaller, private companies to operate in, particularly when many are still struggling to recover operationally from operational pressures over the last three years. As a result, private companies are struggling and will be dipping dangerously into their cash reserves. The cheap and easy-to-access funding that has supported many private companies is gone. The consequences are that many are unable to cover their costs, and many won’t be able to raise additional capital needed to maintain their operations.
In light of the SVB situation, it’s imperative for businesses to stay vigilant and to understand if their suppliers are at risk today or in the future. We are already seeing a deteriorating trend in the financial health of the companies we monitor, underscoring the importance of understanding the financial health of your suppliers and vendors and how well they are navigating these conditions.
As supply chain risk managers, here are key takeaways that are crucial to keep in mind in the months ahead:
- Access to capital for private suppliers is critical. Access to capital is fundamentally important and cannot be taken for granted, and the SVB situation highlights how critical liquidity is for survival. A public company with cash at SVB had options to raise more capital very quickly through the public capital markets. A private company had fewer-to-no options. Many private companies had all their cash deposited at SVB, and most had only one bank relationship from which they could borrow, SVB. Given that most suppliers are private, banking concentration risk and capital access are large issues that are better known now – a silver lining to the SVB failure. SVB aside, each private company in your supply chain must think about liquidity and access to capital as a foundational element of its business. Supplier concentration risk will be enhanced for corporate supply chains that rely on suppliers who are typically linked with only one regional bank. Each company’s Financial Health is a material factor in its ability to raise capital (not to have access to its deposits, but to raise capital to refinance maturing debt and new capital to grow). We have been advising our RapidRatings’ clients to remain sensitive to credit market changes for some time. The past 13-14 years of low interest rates and easy access to credit are now over, and we must adjust accordingly.
- Capital will cost more for private and weaker companies and will be less available. The untested nature of the newer “private credit” market, which relies on non-bank providers of debt, adds a layer of uncertainty. For companies seeking capital, this means that it will become more expensive to raise capital, and for weaker businesses, it may not be available at all. At the same time, many small and mid-sized banks are becoming more conservative in their lending standards, and this will pinch many corporate borrowers. All companies will pay more for bank borrowing if it’s available.
- Understanding what financial exposures your suppliers have is fair. As above, we often talk about how private companies typically have only one bank relationship. As you engage and collaborate with private suppliers, it is entirely reasonable to ask them how many banks they have deposit and borrowing relationships with and how that’s changed in recent years. Expansion of bank groups is generally a positive and contraction can be a negative. A silver lining to the SVB failure is that no private company will be surprised by your asking about their bank relationships, and none can reasonably decline to answer. You should be asking this.
As we continue to navigate this unprecedented supply chain crisis, we strongly encourage you to see this event as a reminder of these critical messages above. Your supply chain risk and third-party risk management programs need to incorporate an understanding of current market conditions and how they will affect your suppliers. Suppliers’ financial health is more important than ever, and private company suppliers have unique dynamics, as SVBs failure so brightly spotlights.
Our team at RapidRatings is available to discuss these topics in more detail and provide our thoughts as the SVB situation continues to unfold.