Abstract of the Ph. D.

Thesis

On

“An Evaluation of Channel Financing

as a mode of Working Capital Finance
– A Case Study of selected large scale
Engineering Industries in and around Pune City.”

Submitted to the University of Pune

For the degree of
Doctor of Philosophy in Management

By

Mrs. Yogini Chiplunkar

Under the guidance of

Dr. N. M. Vechalekar

Place of Research
Indian Institute of Cost and Management studies and
Research, Pune.

June, 2013
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1. Introduction

A supply chain works like a relay race wherein each player tries to

maintain and even improve upon the performance of earlier and passes on

the benefits so derived to the next player. No one knows the significance

of well managed supply chain better than the Original Equipment

Manufacturers who rely on chain of suppliers, dealers and service providers

to deliver the goods they manufacture to meet customer demand . The

journey from source to destination has always had its risks and uncertainties.

With the ever changing economic conditions, the rules of trade finance

keep changing. During the recent recurring credit crisis, the lack of liquidity

and unsound working capital position of channel partners has threatened

the supply chains. This has made the companies to look for more tangible

source of financing their business. With the competition no longer among

individual companies but among the entire supply chains, every area of

end-to-end cost reduction is being explored.

Considering this, innovations in working capital solutions are more

vital than ever before.

On this background, the approach of Channel Financing has become

more prevalent.

2. Channel Financing – mode of working capital finance

Channel Financing, which is also known as ‘Supply chain finance’; is

a relatively new concept in the field of working capital finance. Here the

Original Equipment Manufacturers provides working capital support to

their chosen channel partners at negotiated rate of interest through bank/
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financial institution. It is different from traditional practice of standalone

risk evaluation which was focused only on channel partners financial strength

& historic financial performance. This facility of working capital finance

enables small channel partners to effectively transfer their credit risk to

their high-quality customer.

3. Review of literature

Under the review of literature extensive literature survey was carried

out by the researcher. During this it was observed that good number of

research studies which pioneered work in the area of Channel Financing

have been conducted abroad ( Ralf W. Seifert 2009 and Hofman & Berlin2011).

There are few Indian experts who have written articles on the concept of

Channel Financing (Mahankali Krishna 2003 & Sharma Shaveta 2007) but

there is no quantified evidence about the cost savings and other potential

benefits of Channel Financing. The present study aims at filling these research

gaps.

4. Need and scope of the study

Channel Financing, being an innovative tool of working capital finance,

researcher thought and found it important to study and evaluate this facility

of working capital finance, with special reference to supplier finance.

Measuring the impact of Channel Financing as a tool of working

capital finance is of crucial importance to determine its success and ability

to strengthen the capacity of industrial units.

The present study has highlighted the significance of Channel Financing

to the participants of supply chain. The study has also explored the key
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drivers that are responsible for recent growth in both availability and

adoption of Channel Financing solutions.

India has a strong engineering and capital goods base. The engineering

sector is considered as a largest segment of Indian industry. India’s

engineering sector has the capabilities to manufacture varied range of

machines required by different user sectors like power, mining, oil, gas,

steel, consumer durables, etc. The Engineering sector has been growing.

The sector is well supported by many vendors who regularly supply vital

components, spare parts as well as other intermediate goods or finished

raw materials to engineering companies. Thus there are enormous backward

and forward linkages.

In view of the above mentioned facts, the researcher has targeted the

large scale engineering companies and their supplier firms in and around

Pune city in this study of Channel Financing.

5. Objectives of the study

The main objectives of the study are :

• To study Channel Financing as a facility of working capital finance.

• To evaluate the determinants that contributes to the success of Channel

Financing.

• To identify the key indicators that show how adequate the facility of

Channel Financing is, how effective the facility of Channel Financing

is, how comprehensive the facility of Channel Financing is and how

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consistently the facility of Channel Financing is used by the supplier

firms under study.

• To provide suggestions to overcome the challenges/constraints posed

by Channel Financing.

6. Hypothesis of the study

In order to have an in-depth study of channel financing the following

hypotheses have been formulated:-

• Channel Financing leads to effective management of working capital

of supplier firms by cutting short the working capital cycle.

• Channel Financing improves inventory management of Original

Equipment Manufacturers.

7. Research Methodology

a. Sample frame:- The data collection has been done from the following

participants of the facility of Channel Finance:-

Ø Large scale engineering companies having registered office in Pune

and having turnover above 500 crores.

Ø Banks providing the facility of Channel Finance to the channel partners

of large scale engineering companies under study.

Ø Supplier firms of the large scale engineering companies under study

that have availed the facility of Channel Finance.

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b. Data collection:- The data collection had been done by using both

primary as well as secondary sources.

c. Testing of hypotheses:- To test the hypotheses, the researcher adopted

a combination of tools available for research. In this process, where

the information available was not quantifiable, the validity of

hypothesis was tested qualitatively and where information collected

was quantitative in nature, the validity of hypothesis was tested

quantitatively.

The tools used for data analysis were as follows :

• Mean

• Mode

• Median

• Percentages

• Standard deviation

• Co-efficient of variation

• Weighted totals

• ‘Z’ test

8. Data Analysis and Hypotheses Testing

Hypothesis No. 1 :

“Channel Financing leads to effective management of

working capital of supplier firms by cutting short the

working capital cycle.”
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The effectiveness of the working capital management has been judged on

the following parameters :

• Interest cost savings

• Reduction in receivable period

• Reduction in working capital cycle

• Reduction in borrowings

The researcher has made following observations in this regard:

1. The facility of Channel Finance gives an opportunity to the channel

partners to get an access to lower cost of capital as the working

capital finance is provided by the banks at negotiated rate of interest.

This enables them to lower their borrowing cost.

The analysis of the data shows that 87.5% supplier firms under study

are saving 2 to 3 % interest cost under the facility of Channel Finance.

The supplier firms under study are of the opinion that interest

difference of 2 to 3 % has positive effect on financials of the company

over a long period of time.

2. Cash flows can be significantly enhanced if the amounts owing to

the business are collected faster. Generally the slow payments have

a crippling effect on the financial health of business. It is clear from

the data analysis that the facility of Channel Finance has helped the

supplier firms under study to have an improvement in conversion

of credit sales into cash. The analysis of the data shows that with the
facility of Channel Finance, the maximum receivable period is 10
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days and before availing the facility of Channel Finance no supplier

firm under study was having receivable period less than 30 days.

The supplier firms under study are of the opinion that the facility

of Channel Finance has helped them in reducing the uncertainty

and unsynchronized cash flows and has improved their liquidity

position.

3. It has been observed from the data analysis that average period for

working capital cycle has been decreased from 62.21 days to 20.53

days. The standard deviation is decreased from 19.30 to 11. The

researcher has further observed the median for working capital

cycle. It is 63 days before availing the facility of Channel Finance

and 17 days after availing the facility of Channel Finance. ‘Z’ test

analysis and its findings indicate that the Z calculus > Z table

value. Thus the facility of Channel Finance has a positive impact

on the working capital cycle of the supplier firms under study. The

working capital cycle of the supplier firms has been shortened and

the operating liquidity available to the supplier firms has been

improved.

4. It has been observed from the collected data that the facility of

Channel Finance has reduced the borrowings of the supplier firms

under study. Out of 32 supplier firms under study, the facility has

helped 10 firms to become debt free companies. Whereas in case of

remaining 22 supplier firms under study, none of them has increased

the Cash Credit limit in last 3 to 5 years, none of the firm has

availed overdraft in last 5 years from their banks and none of the
supplier firms under study has used their Cash Credit limit fully.
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On the basis of the above observations it is concluded that the

postulated hypothesis stands proved and accepted.

Hypothesis No. 2 :

“Channel Financing improves inventory management of

Original Equipment Manufacturers.”

The improvement in inventory management has been judged on the

following parameters:-

• Improvement in fill rate, product availability, lead time, material

documentation and on time delivery of products by the supplier

firms recommended for the facility.

• Reduction in material cost

• Payment term extension

• Reduction in supply chain disruptions

• Fast rolling in and rolling out of material

• No overstocking of material

The researcher has made following observations in this regard :

1. All large engineering companies under study that had availed the

facility of Channel Finance are of the opinion that the fill rate, product

availability, lead time, material documentation and on time delivery

of products by the supplier firms recommended for the facility have

been improved.

2. According to the companies under study, under the facility of Channel

Finance, the Original Equipment Manufacturers are well positioned

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to negotiate better rates, terms and conditions with channel partners.

All large engineering companies that had availed the facility of Channel

Finance for their suppliers have received 2 to 5 % discount from

recommended suppliers under the facility of Channel Finance. In

today’s competitive business environment material cost reduction is

considered as a major performance indicator of inventory management.

Thus the facility of Channel Finance has given an opportunity to

Original Equipment Manufacturers to procure the material at

negotiated rate.

3. With an intention of conserving cash, the companies under study are

looking for Channel Finance options to extend the payment terms

without affecting suppliers’ cash flow.

The analysis of the data shows that in case of 4 large scale engineering

companies out of 7 large engineering companies that had availed

the facility of Channel Finance have said that for them the payable

period has improved and for remaining 3 large scale engineering

companies there is no change.

4. The analysis of data shows that as the facility of Channel Financing

positively affects the performance of selected suppliers which leads

to improvement in the inventory management of the Original

Equipment Manufacturers. Supply chain disruptions are considered

as one of the biggest risk to business continuity. Failure to assess

and manage this risk can have negative impact on product quality,

reliability as well as company’s market share; reputation etc. For the

engineering companies under study Channel Financing is a mechanism

to avoid possible interruptions and problems that may arise due to
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shortage of funds. According to the engineering companies under

study suppliers are the most critical links deserve to be supported

through the facility of Channel Finance.

5. According to the large engineering companies under study, the

following factors lead to better cash management under the facility

of Channel Finance and indirectly positively affects the inventory

cost of the company:-

• Single payment to bank rather than several payments to many

suppliers.

• Better utilization of working capital limits.

• Concession in annual fees by the bank providing the facility.

• Early payment discounts

• No advances against orders

6. The companies that have availed both, supplier and dealer financing

solutions for their channel partners strongly agree with the fact that

the facility helps in fast rolling in and rolling out of the material.

7. The companies that have availed the facility are also of the opinion

that irrespective of growth in their turnover, there is no change in

their stock levels. This shows that there is no overstocking of material

due to smooth material supply.

On the basis of the above observations it is concluded that the

postulated hypothesis stands proved and accepted.

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9. Conclusions

In the course of study, certain additional observations have been

made and conclusions were arrived at. These conclusions have been

highlighted in four parts:

A. Conclusions : based on Original Equipment Manufacture data analysis

B. Conclusions : based on Supplier firm data analysis

C. Conclusions : based on bank data analysis

D. Conclusions : General in nature

A. Conclusions : based on Original Equipment Manufacture data

analysis

a. There is a high level of awareness and interest about the facility of

Channel Finance amongst the large scale engineering companies under

study.

b. The demand for supplier finance is more than dealer finance amongst

the large engineering companies under study as majority of the

companies under study do manufacture the teller-made products

against the purchase order.

c. There are different factors that play an important role in successful

implementation of the facility of Channel Finance. According to the

large scale engineering companies under study these factors are:

• Choosing the right banking partner.

• Involve suppliers in the meetings with the bank partners to have a

customized facility based on their peculiar needs.

• Critically assess and choose the suppliers to include in the facility.

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d. According to mean ranking scores and their Standard Deviations,

while choosing the channel partners for the facility of Channel Finance,

the Original Equipment Manufacturers tend to place more weight

on economic factors like Business volume with supplier, Business

dependence of parties, Payable period, Individual financial strength

of supplier etc. than behavioral and other factors.

e. The facility of Channel Finance helps the Original Equipment

Manufacturers in striking the most profitable balance among inventory

optimization, cash flow management, risks, inventory costs and

supplier performance management. The large engineering companies

under study have shown keen interest and given favorable response

to the facility of Channel Finance because the facility has the potential

to :

§ Reduce the cost of goods purchased

§ Reduce working capital requirements through improved Days Payable

Outstanding (DPO)

§ Enjoy a more stable and reliable supply base

§ Improve relationships with sellers

§ Minimize the procurement disruptions

B. Conclusions : based on Supplier firm data analysis

a. The researcher has developed a set of criterion factors against which

the supplier firms assess the facility of Channel Finance before they

accept or reject the facility. According to average of ranks and their

Standard Deviations the first 4 most important factors considered by
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supplier firms are certainty of finance, reduction in receivable period,

interest cost savings and credit period allowed.

b. The facility of Channel Finance has multiplier effect on business of

supplier firms under study. The synchronized and well predictable

cash flows have positively affected the payables of the supplier firms

as well.

c. The supplier firms under study were asked whether they felt any

need for additional source to satisfy their working capital needs

while availing the facility of Channel Finance and it has been observed

that none of the supplier firm under study felt this need.

C. Conclusions : based on bank data analysis

a. A bank that is the official banker of an Original Equipment

Manufacturer has a competitive advantage of being associated with

large industry and can use this association to reach the channel partners

of large companies while providing the facility of Channel Finance.

b. Today banks are looking at the facility of Channel Finance as an

attractive business model.

c. The facility of channel finance is highly specialized and customized

product that comes under corporate banking and trade finance.

d. According to banks under study, there is high level of awareness

about the facility of Channel Finance among large industries.

• Channel Financing is different from traditional practice of standalone

risk evaluation which was focused only on channel partner’s individual

financial strength and historic financial performance. Based on ranking

analysis and weighted totals ,the influential parameters that are

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considered by the banks for providing the facility of Channel Finance

to the recommended channel partners can be arranged according to

their importance to banks as follows:

• Track record of business between & Original Equipment Manufacturer

Channel partner

• Duration of association between Original Equipment Manufacturer

& Channel partner

• Credit rating of channel partner

• Turnover of channel partner

• % of business of channel partner with Original Equipment

Manufacturer

• Whether channel partner is from SME category

• Individual financial strength of channel partner

e. Ranking analysis and weighted totals indicate following factors driving

banks’ desire to offer the facility of Channel Finance. In other words

these are the reasons of the growing bank interest in the facility of

Channel Finance :-

• Opportunity to exploit scale effects, synergies & large industry client’s

linkages with

• Better insights into industry businesses

• Perception of risk-adjusted business growth

• Growing trend of outsourcing & supply chains

• Competition in the segment

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f. Average yearly growth in Channel Financing is 17% p.a. for banks

under study.

g. The facility of Channel Finance has been perceived by banks as better

tool of credit risk management due to low probability of financial

losses and 0% associated bad debts.

h. All the banks under study specifically said that majority of channel

partners that are availing the facility of Channel Financing are from

SME segment. It is interesting to note here that nearly 80% channel

partners that are availing the facility from banks under study are

SMEs. This shows that Channel Financing helps the banks to reach

‘good’ SMEs.

i. Banks are optimistic about the future growth in Channel Financing.

They are proponents of this model because :

• It mitigates the credit risk;

• The lending periods are short,

• It provides an alternative revenue stream,

• Opens the door to potential new business,

• Increases their customer base

• Extends their SME reach.

The researcher had identified the key indicators in the process of

evaluation of the facility of Channel Finance considering the

following 4 parameters : (Please refer Table on the Next Page)

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Sr. Comprehen-
Effectiveness Adequacy Consistency
No. siveness

1 Reduction in Reduction in % of Availing

receivable period bank funding/ business the facility
loan with for period
Original more than
Equipment 5 years.
Manufacturer

2 Improved cash flows Desire to

continue with
the facility in
future.

3 No use of overdrafts, No Need for

no increase in cash additional
credit limit and assistance to
underutilization of satisfy working
cash credit limit. capital needs

4 Reduction in
borrowing cost.

5 Reduction in working
capital cycle

6 Improvements in
payments to
suppliers

7 Predicted and
synchronized cash
flows in business

8 Reduction in cost of
collection

9 No follow up for
payment and no bad
debts
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D. Conclusions : General in nature

a. The facility of Channel Financing is a powerful tool that brings benefits

to multiple parties across the supply chain.

b. It is a win-win solution for banks, Original Equipment Manufacturers

and their supplier firms.

10. Suggestions :

Based on the analysis of the data collected, the researcher now proceeds

to make following operative suggestions:-.

1. Original Equipment Manufacturers should make conscious efforts

and maintain the data to find out the effects of the facility of Channel

Finance on factors like lead time, stock levels etc.

2. Even though the Original Equipment Manufacturers have shown

interest in the facility of Channel Finance, the number of their channel

partners availing the facility is limited at least in the first phase of

implementation of Channel Finance. As the Original Equipment

Manufacturers have intentions to add more channel partners in the

second phase, they need adopt a long term strategy with higher

commitment to get the financial benefits of efficiently managing and

lowering end-to-end supply chain costs.

3. Original Equipment Manufacturers have strong credit rating relative

to their channel partners. They should negotiate hard with the banks

and try to get a better rate of interest while availing the facility of

Channel Finance for their channel partners.

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4. Channel partners need to have an open approach while evaluating

the facility of Channel Finance. No doubt the facility will be

advantageous to banks as well as to the Original Equipment

Manufacturers but at the same time it has potential to offer the benefits

to the small channel partners as well.

5. Cash flows in a cycle – in and out of business. Cost of providing

credit to major customers and holding stocks can represent substantial

portion of firm’s total profits. For understanding and realizing the

financial implications of the facility of Channel Finance, the channel

partners should avail the facility for considerably long period of

time.

6. Banks should undertake the collaborative measures with Original

Equipment Manufacturers for promotion of the facility of Channel

Finance. Banks approach should be strategic, specifically targeted

and not general in nature.

7. Banks should take initiative and educate the small channel partners

to put finance to good use and avail all the benefits that can accrue

out of the facility of Channel Finance.

8. Banks need to study the trends in industry and economy while

providing the facility of Channel Finance. This will help them to

decide the exposure limit for the industry sector.

9. The facility of Channel Finance offers huge business potential to the

banks. But most of the banks either provide dealer finance or supplier

finance or they have strong presence in one of the two that come
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under the facility of Channel Finance. But then banks may not get

the opportunity to finance the entire supply chain. So necessary efforts

should be taken by the banks to get the opportunity of providing

the Channel Finance to the entire supply chain.

10. For the success of the Channel Finance yearly negotiations and regular

meetings of banks, Original Equipment Manufacturers and their

channel partners should be organized. These meetings should be

looked as an appropriate forum to discuss the problems, needs of

industries and the changes taking place in the economy. This will

promote better understanding and co-operation between banks and

the industries.

11. Limitations of the study

• The study is confined to the large scale engineering companies only.

• Information about the history and evolution of facility of Channel

Financing in India is not available.

• The study was hampered by the lack of quantitative data showing

effects of the facility of Channel Finance on inventory management

of large scale engineering companies under study. Availability of

this data would have enabled the researcher to use more sophisticated

statistical tools for analysis.

12. Scope for further research

Based on the study, the researcher has identified the following areas

for further studies:-

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§ Similar research study may be undertaken in industries like

Automobile, Agriculture, Pharmaceutical, chemical etc.

§ A research study may be undertaken with a focus on dealer finance

under the facility of Channel Financing.

§ A research work may be carried out to study the financial implications

of the facility of Channel Finance on the entire supply chain.

§ A research study may be undertaken to study the effect of the facility

of Channel Finance on working capital management of Original

Equipment Manufacturers.

(Dr. N. M. Vechalekar) (Mrs. Yogini Chiplunkar)

Research Guide Research Student