Supply lines have been tested by the pandemic, causing headaches for businesses and consumers.
Aug. 19, 2022
By Annie Mulock Westbrook | Managing Director | US Commercial Banking
Since the onset of the pandemic, supply lines have been tested like never before. And although the distribution of goods has never stopped altogether, substantial bottlenecks have become large enough to cause significant headaches for businesses and consumers alike.
In the U.S., companies have been wrestling with supply chain troubles since mid-2020. Demand for consumer goods exploded in the early days of the pandemic, particularly for furniture, outdoor and backyard supplies, workout equipment, electronics and other items people felt would make their time at home as comfortable as possible. Meanwhile, global lockdowns and a lack of workers led to significant transportation delays, creating a mismatch between supply and demand.
Navigating that mismatch became increasingly difficult as shipping costs skyrocketed. By December 2021, the cost of international shipping was seven times higher than it had been in April 2020, a massive increase in the span of just 18 months.
Global container freight pricing, 2020 to 2022
Global container freight pricing, 2020 to 2022
Cost to ship a 40-foot freight container: China/East Asia to North America, West Coast. Source: Freightos Baltic Index (FBX01).
Impact of global conflict
But just as shipping and production costs began to stabilize, Russia invaded Ukraine, creating a ripple effect and leading to increased prices on energy and raw materials. Shipping costs rose even higher, particularly after insurance companies began charging higher premiums on shipping vessels due to Russia’s sinking of ships in international waters.
Producers weren’t just feeling the pinch in their shipping budgets. The cost of everything rose over the past two years, including raw material and labor costs, tariffs and detention and demurrage charges. It didn’t take long before most producers saw a sharp rise in the cost of goods sold — and a drop in margins.
Bottlenecks complicate inventory management
Lead times have also been an issue. Port bottlenecks driven by labor shortages and ongoing lockdowns in Asia have made it nearly impossible to predict when goods and raw materials will ship. In response, some companies moved from “just-in-time” to “just-in-case” inventory management, raising their inventory target levels to ensure goods and materials are in stock. Some producers that ordered extra inventory in anticipation of delays were unpleasantly surprised when orders shipped much earlier than expected, filling up warehouses and shelves with goods they can’t sell yet.
Both port bottlenecks and inventory bloat create liquidity challenges for producers, as cash is tied up in goods sitting on ships and shelves. In addition, the increased cost to obtain those goods creates inflated inventory valuations on many balance sheets. As the market pressures companies to reduce prices, the value of the inventory is reduced and squeezes margins as the higher-cost inventory moves through, directly impacting income statements and cash flow. Producers’ balance sheets may also be in jeopardy as debt versus collateral value tightens and liquidity is reduced.
Fortunately, some of the supply chain issues we’ve experienced seem to be easing. The cost of shipping from China to the West Coast has dropped significantly since April and continues to slide. Throughput at ports improved, and transportation costs declined slightly, although the price of gas, particularly diesel, remains elevated.
But supply chain challenges still lie ahead. Consumers are choosing to spend more of their dollars on travel and services. Demand for goods is weakening, especially in sectors that were strong during the early days of the pandemic. Rolling power outages and lockdowns continue to create bottlenecks at Asian ports, while port workers on the West Coast are in the midst of labor negotiations that could create additional distribution delays.
CIBC works with clients to manage disruptions
For many of our commercial clients, the combination of shipping delays plus increased cost of goods is creating bloated inventories and reduced liquidity, which could lead to potential loan covenant issues.
As a banking partner, we try to help clients get ahead of possible liquidity challenges. Our strategies may include:
Analyzing clients’ asset-based portfolios and sharing our insights into vendor terms, slow-moving inventory, etc.
Conducting field exams, either as an annual requirement or more proactively, to uncover issues with working capital assets.
Discussing inventory strategies, such as reducing prices to move inventory. While this may squeeze margins, the cash generation might be beneficial to right-size inventory levels.
Taking a closer look at commodity pricing and hedging opportunities to contain risk factors. This strategy could also be beneficial as interest rates continue to rise.
In addition to anticipating some of these issues on our clients’ behalf, as their advisor we also try to establish a level of trust that lets them be transparent with us when it comes to their financials. Open lines of communication enable us to help clients evaluate their balance sheets, pricing and “right-size” inventory numbers.
As your banking partner, we can help you maximize liquidity and ultimately allow you to be more agile and operationally focused on your goals.
Here to help If your financials are hampered by the effects of global supply turmoil and you want to discuss options and best practices, feel free to contact Annie directly: Annie Mulock Westbrook Managing Director