Sustainability-linked Finance and Payment Terms

There is a quip attributed to the golfing legend Arnold Palmer when a weekend golfing warrior enquired as to how he could improve his putting.

Arnold drily replied, “try putting for cash”. And embedded in that short answer is why business conducts business with other businesses. To get paid! The value exchange is paramount.

The same applies to procurement - all the effort, all the complexity,the investment, the sourcing expertise, the supply side creativity it all comes down to one common denominator: “show me the money”;the exchange of value for goods delivered and services rendered. This may come as a shock to large buying companies who might be lured into thinking the supply chain strives to win their business because they really like them… nope, it's all about the sweet sound of money arriving in their bank account and the bank being open.

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How can financing be linked to procurement and sustainability?Sustainability-linked financing (SLF) incentivizes suppliers to pursue ambitious, long-term sustainability goals. Based on the 2030UN Sustainable Development Goals, SLF achieves its sustainability impact by tying pricing to the achievement of measurable goals,usually through interest rate step-ups or step-downs or early payments that can be linked to cash discounts.

Today, SLF are the fastest-growing instruments in the sustainable finance market. Over $876 billion of sustainability-linked loans and bonds have been issued since SLF appeared on the market in 2017.

Sustainability linked financing is a great step forward in underpinning the massive retooling of supply chains to manufacture clean, recycle, decarbonize and bring dignity to the lives of those engaged in production of what the world consumes. It is early doors,and experience will be gained in how best to structure SLF and subsequently refine the machine such that SLF liquidity pools are the de facto financing mechanism. It is exciting, noble and it's about time we would all agree.

With every new positive development there can be a certain euphoria that this time we have nailed it; and we have reached the ultimate goal. SLF is a big step in the right direction, but it cannot do all the heavy lifting on its own. SLF is primarily a liquidity infrastructure play which requires a refining hand to ensure it is applied most efficiently and with monitoring mechanisms to ensure the required change has taken root and is in itself sustainable.

There is another layer aligned with SLF one that has a built-in refinement that ties the desired behavioural change to “show me the money”. Sustainability-linked Payment and yep, here comes the acronym; SLP.

"The great strength in negotiating payment terms linked to sustainability is that it puts that fine point on the required outcome by linking getting paid to auditable behaviour"

SLP incentivizes and supports trading partners who pursue sustainability targets by tying the length of payment terms - usually in connection with early cash discounts to their achievement. The sustainability targets are typically related to corporate environmental, social, or governance (ESG) metrics. The SLP incentive structures can vary, including an increase (step-up) in the offered payment terms if the target is missed,a decrease (step-down) if the target is met.

The great strength in negotiating payment terms linked to sustainability is that it puts that fine point on the required outcome by linking getting paid to auditable behaviours and achieving optimised working capital and free cash flow in return - very powerful if we go back to Arnold’s quip.

The cost of competing and winning the contract and enduring RFP’s(Request for Proposals) is the accepted overhead to the ultimate goal.

Getting paid at favourable terms is the ultimate incentive for suppliers to deliver creative, on point commercial offerings;

It is the driving force behind why supply chains constantly create,morph, and change. In our view the ability to incent trading partners to move to proven sustainability practices is a combination of SLF and SLP. The challenge is to integrate and automate the various streams of payment term optimization, access to working capital,sustainability goals, whilst managing your balance sheet efficiently.Liquidity markets are moving to SLF but you are guaranteed that businesses will only make use of it and implement it in their corporate policies if it is tied to an appropriate ROIC (Return On Invested Capital), that will never change.

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The recent figures confirm that there is a need and interest in SLF in major industries. Suppliers are tapping into debt markets and asking their corporate partners to support them via favourable payment terms to transform their businesses and ease the transition towards a more resilient and inclusive future.

Corporates and financial institutions, meanwhile, need transparency around the sustainable credentials of potential opportunities. In this rapidly growing market, clarity is essential. That’s where automated analytics via DaaS (Data as a Service) comes in as an essential component for corporates to leverage and achieve payment terms-driven behaviours linked to sustainability and then maybe…just maybe, you can sink that 30 foot putt like Arnie.

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