Worsening global supply chain disruption is one of the conflict’s most significant consequences for businesses. In fact, Moody’s has highlighted that the war in Ukraine has replaced COVID-19 as the most considerable risk confronting the global supply chain. Of course, this comes as no great surprise, considering that approximately 15,000 China-Europe freight train trips were made in 2021, with many of these trade routes running across Russia and Ukraine. 

The disruption and rerouting of these trade routes due to the war is leading to further chaos across the supply chain and this has massive implications for SMEs, which face tremendous supply chain challenges. Even before the war, almost two-thirds of UK SME manufacturers had already reported concerns that material supply shortage could impede their output. The conflict is serving to exacerbate these problems.

The need for supply chain redesign imminent

Tackling crippling supply chain challenges would require businesses to shift away from existing models that relied on lean inventories and just-in-time delivery. With this in mind, many companies are now looking at ways to build up and store inventory reserves to prepare for supply chain shocks in the future. The difficulty, however, is that while this mitigates the impact of disruptions to future production and improves supply chain resilience, it ties up valuable working capital. Moreover, these "safety stocks" can also risk obsolescence due to technological advancements or changing customer demands, which leads to precious resources, waste, and lost revenue, if not managed carefully. 

At the same time, larger organisations have begun to scrutinise their entire network of suppliers to identify potential critical bottlenecks. With the ongoing supply chain disruption, excessive reliance on specialist suppliers or suppliers in the exact locations created a knock-on effect that delayed production down the line. Unfortunately, this puts everyone in the supply chain at greater risk and consequently, these organisations are expected to diversify their network to strengthen their resilience.

The push for diversification presents both an opportunity and a challenge for SMEs.

While more MNCs are expected to decentralise their supply network to mitigate risk exposure, they will also likely set stringent criteria for SMEs to demonstrate strong business and financial fundamentals.

The need for liquidity and risk mitigation through trade financing

To assemble a well-stocked inventory and devise a strategy to sustain production during future disruptions, SMEs need to identify and unlock alternative funding sources to ensure resilient cash flows. 

Many are already suffering from high debt burdens due to the pandemic and, in addition, the war and the subsequent sanctions have caused soaring inflation and surging energy prices, exacerbating their financial challenges. This dramatically raises SMEs’ operational costs and worsens their liquidity crunch. 

The uncertainty of macroeconomic recovery due to the war in Ukraine has also led to investors remaining cautious and banks focusing their funding on more conservative, established relationships. 

The "flight to quality" has left many worthy businesses — particularly SMEs — with limited options for trade finance. Smaller companies are often unable to prove creditworthiness or show additional collateral required by banks to mitigate the risk of SME lending under the traditional banking system. Some may also resort to self-financing, which results in more significant cash flow challenges in a sustained crisis.

A recent survey Asian Development Bank (ADB) showed the global trade finance gap grew to an all-time high of US$1.7 trillion in 2020, a 15% increase from 2018. Despite the universal acknowledgement that SMEs are vital to economic prosperity and macroeconomic growth, they accounted for 40% of rejected trade finance requests. Without the short-term liquidity and risk mitigation provided by trade finance, buyers and sellers will be impeded in their efforts to tap into traded goods for recovery. 

One option SMEs can consider is a non-recourse approach for off-balance-sheet financing, which essentially takes away the burden of loans. Suppliers can leverage platforms, such as Incomlend's global invoice financing marketplace, to ask for early payment from their customers via a third-party financier. In effect, they are selling their invoice and obtaining finance without risk. It reduces the risk of late payments and bad debts – an option that would not be offered with traditional banking.

Buyers can also tap similar options by allowing buyers to optimise their cash conversion cycle and extend their payables due date to suppliers, freeing up working capital that would otherwise be trapped in the supply chain. 

Unlike commercial lending or dynamic discounting, such off-balance-sheet financing options allow SMEs to keep a low debt-to-equity ratio and preserve their borrowing capacity while diversifying their access to funding and reducing their reliance on traditional financial institutions. It also helps them mitigate the risk of their receivables and build up economic resilience in these volatile times. 

Hunkering down for uncertain times

Without an end to the conflict in Ukraine, many SMEs will need to build up their resilience and prepare themselves for prolonged volatility. During this period, SMEs in Europe will be challenged to transform their supply chain to buffer against ongoing disruptions and increase their working capital to remain fiscally agile in these uncertain times. These drivers will increase interest in receivables as an asset class among the SME community. They will look for more ways to manage risk in their trade processes and improve liquidity to weather through the storm.   

About the author: Morgan Terigi is CEO and Co-Founder of Incomlend.