JP Morgan warns of growing amount of trapped liquidity in supply chains

The amount of working capital held up between corporates and their suppliers has risen by 8% as companies look to hold onto inventory amid uncertain times, according to the latest JP Morgan Working Capital Index.

The 2020 edition of the report provides an assessment of working capital metrics across the S&P 1500 for 2019. By analysing cash conversion cycles, or the number of days it takes to convert inventory purchases into cash flows from sales, the index found that there is as much as US$497bn in cash held up between corporates and their suppliers – up from US$460bn last year.

“The US-China trade tensions that escalated in 2019 prompted companies to hold more inventory to mitigate the impact from supply chain disruptions, resulting in more trapped working capital,” says Vikrant Verma, advisor with JP Morgan’s Asia Pacific wholesale payments solutions team.

As a result, the cash conversion cycle of the companies studied increased by 5.7 days on average in 2019. Meanwhile, inventory levels reached nine-year highs, with companies carrying an average of 3.5 more days of inventory to alleviate supply chain shocks.

At the same time, companies began offering better payment terms to customers impacted by increased tariffs to help them adjust and adapt to the rise in levies, resulting in an average increase in days sales outstanding (DSO) of 1.5 days.

Not all sectors have done badly. The report calls out the chemicals, utilities and consumer staples industries as having shown the most improvement in optimising working capital in 2019, while sectors that have been challenged over the same period include pharmaceuticals, semiconductors and apparel and accessories.

While the index does not include data for this year, preliminary figures show a worsening situation, says Gourang Shah, the bank’s head of treasury services solutions for Asia Pacific. He tells GTR: “The levels appeared to have risen further this year based on initial 2020 data, as Covid-19 caused businesses to shut and consumers to cut back on spending, locking more inventory in place.”

According to JP Morgan, the sectors most at risk of liquidity stress in the current environment include oil and gas, automotive and entertainment, while those least at risk include semiconductors, logistics and technology software.

The bank says that, given the uncertainty caused by the pandemic, corporates should move quickly to deploy working capital tools in order to free up liquidity to manage contingencies. “Supply chain finance (SCF) remains a compelling solution for corporates to free up working capital, whereby banks take on the financing of working capital rather than the corporates involved in the goods trade. It’s a win-win outcome for both the parties involved in the trade, provided that the borrowing costs of suppliers are higher than those of their customers,” says Shah. “We have seen great successes among clients who have released substantial amounts of trapped working capital as a result of SCF programmes, especially in recent months where manufacturers are looking to increase internal sources of funding while stabilising their supply chains.”

Source: Global Trade Review