Performing Effective Financial Analysis of Suppliers within the Sourcing Team

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1 Performing Effective Financial Analysis of Suppliers within the Sourcing Team CUNA Mutual Group Jeff Peterson Director - Sourcing & Vendor Management Office

2 Performing Effective Financial Analysis of Suppliers within the Sourcing Team Sourcing Industry Group October 2015 CUNA Mutual Group Proprietary Reproduction, Adaptation or Distribution Prohibited CUNA Mutual Group

3 About CUNA Mutual Group CUNA Mutual Group is a leading provider of financial services to credit unions, their members and valued customers worldwide and was founded in 1935 Corporate Headquarters Madison, WI Operations Waverly, IA Fort Worth, TX Great Bend, KS International Operations Dominican Republic, Jamaica, Puerto Rico, Trinidad/Tobago Approximately 3,700 employees Financial Highlights (in millions) Total Revenue* $3,070 $2,966 GAAP Net Income $206 $162 Statutory Total Adjusted Capital $1,964 $1,795 *Prior period information has been restated to conform to current period presentation for discontinued operations. Total revenue excludes net realized investment gains and losses. 3

4 Presenter Biography Jeff Peterson- CPA, CPSM Director - Sourcing & Vendor Management Office, CUNA Mutual Group B.B.A., Accounting and Management, University of Wisconsin-Madison M.B.A., Management, University of Wisconsin-Madison 20 years of Financial Services experience Background in Accounting and Finance Corporate Audit, Project and Product Management, Sourcing / Supply Management 4

5 Agenda Discuss ways of reviewing your supply base for financial risks Financial Statement Refresher Key Financial Ratios Public Companies Private Companies Audited / un-audited financials Banking relationships Commercial Lending ideologies to consider Non-financial signals Discuss an approach for creating tiers for the financial review of suppliers (primarily risk-based) Level of dependency on supplier / supplier s services Portability Switching costs / time to convert Performance 5

6 Why assess the financial status of suppliers? Revenue Impact - $$ Reputation Impact Credibility Impact Supply Chain dependency Customer-facing Impact Security or privacy exposures 6

7 Why do many individuals avoid financial analysis? Information isn t readily available Detailed, specialized knowledge Accounting rules Financial Analysis Notes to the financials Time-consuming Almost never any immediate benefit 7

8 Financial Statements 101 Source: Investopedia.com Balance Sheet A financial statement that summarizes a company's Assets, Liabilities and Shareholders' Equity at a specific point in time. These three balance sheet segments give investors an idea as to what the company owns and owes, as well as the amount invested / funded by the shareholders. The balance sheet must follow the following formula: Assets = Liabilities + Shareholders' Equity Income Statement A financial statement that measures a company's financial performance over a specific accounting period. Financial performance is assessed by giving a summary of how the business incurs its revenues and expenses through both operating and non-operating activities. It also shows the net profit or loss incurred over a specific accounting period, typically over a fiscal quarter or year. Also known as the "profit and loss statement" or "statement of revenue and expense". 8

9 Financial Statements 101 Source: Investopedia.com Statement of Cash Flows: One of the quarterly financial reports any publicly traded company is required to disclose to the SEC and the public. The document provides aggregate data regarding all cash inflows a company receives from both its ongoing operations and external investment sources, as well as all cash outflows that pay for business activities and investments during a given quarter. Because public companies tend to use accrual accounting, the income statements they release each quarter may not necessarily reflect changes in their cash positions. For example, if a company lands a major contract, this contract would be recognized as revenue (and therefore income), but the company may not yet actually receive the cash from the contract until a later date. 9

10 Key Financial Ratios - Profitability Profitability Ratios are used to assess the ability for a business to generate earnings as compared to its expenses and other related costs over a specific period of time. Generally, if the value is higher than a competitor, the company is performing better. Return On Assets - ROA: Cash Return On Assets: Profit Margin: Return On Equity - ROE: Net Income Total Assets Cash Flows from Operations Total Assets Net Income Revenues Net Income Shareholder's Equity Source: Investopedia.com 10

11 Key Financial Ratios Liquidity* Liquidity Ratios are used to assess the ability for a business to pay off its short-term debt obligations. Generally, a higher value means there is a greater margin of safety the business has in covering its short-term debts. Current Ratio: Quick Ratio: Operating Cash Flow: Working Capital: Current Assets Current Liabilities Current Assets - Inventories Current Liabilities Cash Flows from Operations Current Liabilities Current Assets - Current Liabilities Acid-Test Ratio: (Cash + Accounts Receivable + Short-term Investments) Current Liabilities Source: Investopedia.com 11

12 Key Financial Ratios - Leverage Leverage Ratios are used to understand how a company is using various methods of financing, or to assess its ability to meet financial obligations. Generally, a higher ratio of debt can result in more volatile earnings as a result of the additional interest expense. Debt-to-Equity: Total Liabilities Shareholder's Equity My experience to-date on leverage ratio information is it has importance in order to understand supplier viability, but you generally have to dig into the disclosures and notes within the audited financial statements. Source: Investopedia.com 12

13 Importance of Base lining and Trending Supplier Averages Industry Category A Financial Ratios Example For illustrative purposes only Profitability Ratios Fiscal YE Fiscal Fiscal YE YE Fiscal YE Return On Assets - ROA: 1.29% -0.57% 0.51% Cash Return On Assets: 7.55% 10.20% 8.78% Profit Margin: 1.20% 1.78% 0.66% Return On Equity - ROE: 3.81% 5.22% 3.58% Liquidity Ratios Current Ratio: NOTE: Should be > 1 Quick Ratio: NOTE: Should be > 1 Operating Cash Flow: "Cash is King" Acid-Test Ratio: NOTE: Should be > 1 (Below 1 = extreme caution) Leverage Ratios Debt-to-Equity: NOTE: The higher the number, the worse it is; i.e. more debt/higher leverage 13

14 Public Companies Most companies provide their financial statements on their websites LINK to CUNA Mutual s 2014 financials All U.S. Public companies are required to file various statements with the SEC. Generally, quarterly information can be found in 10-K statements LINK to EDGAR database with the SEC You may also consider comparing organizations with similar NAICS (North American Industrial Classification System) codes 14

15 Privately-Held Companies Data is often unavailable and inconsistent Preference is to negotiate the right to review Audited Financial Statements. If unable to get this right or if unavailable, I would ask for: Unaudited Financial Statements Company Tax Returns Information on Banking relationships Commercial Lending Questionnaire SBA.gov Business Tax Returns 1 Specific Financial ratios Other external sources are sometimes helpful Google or other Alerts Industry newsletters 1 need to understand ownership structure 15

16 Ideas from Commercial Lending principles Questions to ask commercial lending partner: What is the current line of credit? Any credit remaining / available? Any debt? If so, how much? Any missed loan payments or overdrafts? How well established is the relationship? 16

Non-Financial Signals Quality concerns are

in indirect resources / investments Training

17 Non-Financial Signals Quality concerns are increasing Performance metrics have an unfavorable trend Delivery is delayed Increase in issues / performance Reduction in indirect resources / investments Training Older versions of sales collateral Newer technology or investments in plant/ equipment Layoffs Higher Turnover Reduction in Administrative areas Off-cycle or nonseasonal changes Increased changes in account management, production staff 17

attributes require a somewhat detailed understanding of how the relationship works May result in proactive planning to

18 Initial Categorization of Supplier Risk Supplier Tiers using both Quantitative and Qualitative Attributes: Materiality Level of dependency on supplier / supplier s services Portability Switching costs / time to convert Performance Qualitative attributes require a somewhat detailed understanding of how the relationship works May result in proactive planning to understand viable alternatives Contracting or other efforts to have substitutes in place May shape your sourcing strategy as well 18

19 Questions? 19

20 Resources / Contact Information Investopedia: EDGAR (SEC) Database: Contact Information: Jeff Peterson jeff.peterson@cunamutual.com 20

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21 Evaluation How-to: Why? Your feedback drives SIG Event content By signing and submitting your evaluation, you are automatically entered into a prize drawing How? Option 1: App 1. Select Schedule 2. Select Schedule by Day 3. Select Day 4. Select Session 5. Scroll to Description 6. Click on the Evaluation link Option 2: Browser 1. Go to 2. Select Session (#50) COMPLETE & SUBMIT EVAL

22 Session #50 Performing Effective Financial Analysis of Suppliers within the Sourcing Team Jeff Peterson CUNA Mutual Group Download the App: bit.ly/sigcaapp Tweet: #SIGfall15

Risk and Governance: Global Procurement Models, Structures, Practices and Trends. Baker & McKenzie. Adrian Lawrence Partner. Peter George Partner

Risk and Governance: Global Procurement Models, Structures, Practices and Trends Baker & McKenzie Adrian Lawrence Partner Peter George Partner www.sig.org/eval Risk and Governance Global Procurement Models,