When it comes to assessing and managing the health of one’s suppliers, anticipating and mitigating risk is crucial to maintaining operational stability.When suppliers experience financial challenges, you may notice a decline in service, larger gaps in communication, contract renegotiations (often involving price increases), contract cancellations, requests for extended deadlines, decreased quality, or even requests for earlier payment or early contract renewal. Many companies rely on news alerts for supplier monitoring in their attempts to stay ahead of disruption, but this only provides part of the picture. Even “real-time” news alerts can be too late with disruption events such as bankruptcy, since the event has already occurred. For a more comprehensive view, it’s essential to monitor both news alerts and changes to a supplier’s key financial and operational metrics on an ongoing basis.Following are 11 red flags that warn of possible problems with suppliers.
One of the first signs of financial volatility in a supplier is delayed payments, or an increase in days payable outstanding (DPO). If a supplier is taking longer to pay its own suppliers and creditors, it could indicate cash flow issues that may affect their ability to maintain operations.
A drop in credit ratings from agencies such as Moody’s, S&P or Fitch signals increasing financial risk and diminished trust from creditors.
Deteriorating financial ratios, such as declining liquidity ratios (current ratio, quick ratio), solvency ratios (debt-to-equity), and profitability ratios (net profit margin), can further indicate financial instability and the potential for future disruptions.
Frequent changes in key personnel, especially in executive or financial management roles, might reflect internal turmoil and financial instability. High turnover can disrupt strategic continuity and operational efficiency, compounding existing financial problems. Sudden layoffs, facility closures, or significant cuts in production output suggest cost-cutting measures driven by financial constraints.
Unexplained delays in deliveries or production might be symptomatic of underlying financial problems affecting the supplier’s ability to maintain operational capacity and meet contractual obligations.
Auditor’s warnings or going concern notices, where auditors question the company’s ability to continue operating, demand immediate attention. These notices often signal underlying financial distress that could affect the supplier’s ability to fulfill contracts.
Declines in revenue or profit margins over consecutive periods may suggest a weakening market position or cost pressures that erode profitability. Negative cash flow trends, particularly persistent negative operating cash flow or reliance on external financing for day-to-day operations, can indicate poor financial health and a lack of internal resources to sustain business activities.
Significant drops in stock prices or high volatility in stock prices reflect market concerns about the company’s financial stability and future prospects.
High levels of debt or increasing debt-to-equity ratios are critical indicators of financial stress, highlighting the company’s difficulty in meeting its obligations.
Increased legal or regulatory issues, such as frequent lawsuits, regulatory fines, or compliance violations, can drain financial resources and indicate underlying problems that affect the company’s operational capabilities.
Market rumors or negative news reports about financial difficulties, layoffs or facility closures can serve as early warnings of trouble, providing external validation of internal financial challenges.
Monitoring these indicators can help procurement and supply chain professionals identify and mitigate risks associated with financially volatile suppliers, ensuring the stability and resilience of the supply chain.
Knowing signals to look for is important, but finding that information can be extremely challenging and time-consuming. It’s essential to not just monitor news alerts, but to also monitor a wide range of financial and operational metrics on an ongoing basis. A supplier risk management tool can provide this visibility into financial risk, as well as risk across categories such as cybersecurity; forced labor; environmental, social and governance (ESG), and regulatory compliance. Beyond just initial due diligence, supplier risk management can help you with ongoing supplier monitoring and risk mitigation to ensure compliance, prevent disruptions and maintain business continuity.
With early risk signals, a major financial services company was able to take action three months before its supplier filed for bankruptcy, minimizing disruption and impact on its business. It identified risk signals with a supplier risk-management platform, which began surfacing early indicators of financial instability well before stories of pending bankruptcy began to hit the news in 2024. Historical trends in the platform showed continually declining EBIT, EBIT margins, and net cash throughout 2022 and 2023, while long-term borrowing and debt-to-equity ratios were increasing quarter over quarter. A significant decline in revenue followed in March, 2023. Soon thereafter, new stories highlighting the resignation of the CEO and a workforce reduction of 13% showed further operational instability. The early signals allowed the financial services company time to investigate new suppliers and create contingency plans enabling it to reduce its potential exposure.
