How much agency financial transparency do marketers really need?

It is common for a tender or RFP to require the respondents to provide details about their financial circumstances. These requirements can include:

• Current ratio (CA/CL)
• CA less inventory/CL less overdraft
• Profitability for last financial year:
• Net profit margin (%) (profit after tax/total revenue)
• Gross profit margin (%)
• Gross profit/total revenues
• ROE (%) (net profit/equity)
• ROA (%) (gross profit/total assets)
• Tax rate (%) (Income tax expense/gross profit)
• Net interest cover ratio (gross profit/net interest)
• Net debt/equity ratio (interest bearing liabilities less cash/equity)
• Provide your annual report for the past three years.
• Provide your latest audited financial statements (including Profit and Loss)

The list of requirements can go on and on and on. For most business people these are simply accounting measures used to measure and monitor the health of the business. But it is also, for private companies, confidential information that is usually only shared with the management of that company and their accountants and financial advisors.

What is the purpose of this transparency?

It is all in regards to managing and mitigating risk. The buyer wants to ensure that when they appoint a supplier to provide goods or services, that the supplier is in sound financial health. After all, the financial failure in the supply chain can be incredibly disruptive to the buyer and can even lead to financial loss for them.

Therefore it is important that the buyer interrogates the potential suppliers to ensure they are in a financial position to provide the goods or services that are being contracted for the term of the contract.

In some highly regulated categories such as banks and government, this is especially important as the requirement for risk management is mandated in legislation for the category and therefore requires an almost forensic investigation of the potential suppliers financial position.

Matching size of risk to size of compliance

If the issue is risk assessment and mitigation, then it would seem that there is also a consideration in regards to the size of the potential risk. We have had some procurement professionals argue that this is a standard approach. But when you quiz them on the details it is a standard approach for contracts in the millions of dollars in value and higher.

But what about in the case of contracts worth tens of thousands or even hundreds of thousands, where the risk is ten or a hundred times smaller? Are the same rigors in approach required? And what about the impact of that risk? Sure the agency may be producing advertising from a multimillion dollar budget. But what is the potential loss if they become insolvent? Is any of this taken into consideration?

Why would agencies / suppliers not provide this information?

In my experience, there are four primary reasons a supplier may not want to provide a completely open and transparent view of their financial position:

1. The information is incredibly sensitive and confidential and they do not want to risk providing this information to a third party, even under the protection of a confidentiality agreement or non-disclosure agreement. Like any agreement, the protection provided under these agreements is only as good as the enforceability of the agreement. In highly competitive categories the damage caused by the leaking of this sensitive and confidential information may not be worth the risk for the supplier.
2. It is the policy of the company not to share this information due to legal compliance regarding their financial reporting such as part of the USA based Sarbane Oxley Act (SOX).
3. The supplier may feel that the buyer is using the financial information to determine the profitability of the company and therefore use this to determine the negotiation strategy with the supplier. This is not unheard of, with some buyers using the information to reduce the suppliers overall profitability by negotiating increasingly higher levels of discounts.
4. Finally the supplier is faced with huge financial risk and they know they will be excluded from the tender process if this is revealed.

All of these are valid reasons to withhold information, but only the last one is a reasonable reason to exclude a supplier from the tender process if they fail to deliver. Especially when there are a number of more reasonable ways to determine the risk.

Is there another way to achieve this?

We have used several ways to determine risk, without requiring full and complete financial disclosure as part of a tender or RFP. These include:

1. Altman Z Score – The Z-Score is a measure of a public and private company’s health and it utilizes several key ratios for its formulation. Edward I. Altman, professor of finance at New York University School of Business, first developed the model in the late 1960’s. The model incorporates five (5) weighted financial ratios into the calculations of the Z-Score based on Altman’s published book entitled “Corporate Financial Distress and Bankruptcy”, 2nd edition Copyright 1993 by John Wiley & Sons, Inc.
2. Letter of financial viability from an authorised financial auditor – Ultimately the risk to financial viability is dependent on the assets versus liabilities. Rather than requesting both a Profit and Loss and a Balance Sheet, it should be acceptable to have a statement of financial viability provided by the company auditor. This is simply a statement, support by key financial metrics that indicates the current viability of the company.
3. Credit risk assessment from a reputable company eg. Dun & Bradstreet – After all this is how debtors insurance is determined, why could the same not be applied to creditors?

Plus there are other ways of determining financial risk and viability, other than a demand for complete transparency. So why are many of the largest companies unwilling to use these?

Do agencies have a choice?

Yes. It is the same choice any company has when tendering for business. You can suggest alternative solutions, but if these fall on deaf ears then your choice is to participate or not.

I recently was asked to tender for a large overseas government project. I was specifically invited to tender. When I looked at the requirements, it meant that I would have to hand over my whole financial reporting for the past five years to comply. I asked if this was mandatory or if they would consider alternatives and received a proforma email in reply saying that failure to provide any of the required information would be considered a default and would make the tender response invalid. I chose then not to submit.

That is my choice and that is the choice of any business. The project in this case was worth less than $50,000 and therefore the onerous nature of the RFP and the lack of consideration for the request made the decision easy.

Only by more people refusing to comply with the unreasonable bullying tactics of some of these large companies, will they be forced to consider change. Until then, if you do not like it, do not do it. But if you do play the game, do not complain about the rules later. Especially if you are unsuccessful. You just sound like a poor loser.

What do you think?