Tools & Tips

Analysing a Supplier’s financials? 10 Steps to consider

When analyzing a supplier’s financials as a procurement professional, consider the following steps:

1. Gather financial statements: Obtain the supplier’s financial statements, including their balance sheet, income statement, and cash flow statement. These statements provide a snapshot of the supplier’s financial health and performance.

2. Assess profitability: Evaluate the supplier’s profitability by examining their income statement. Look for indicators such as gross profit margin, operating profit margin, and net profit margin. Compare these figures to industry benchmarks to assess the supplier’s profitability relative to their competitors.

3. Examine liquidity: Review the supplier’s liquidity, which reflects their ability to meet short-term financial obligations. Key indicators to assess include the current ratio (current assets divided by current liabilities). A healthy liquidity position indicates that the supplier can manage their immediate financial obligations.

4. Evaluate solvency: Analyze the supplier’s solvency to assess their long-term financial stability. Examine the debt-to-equity ratio and interest coverage ratio. A lower debt-to-equity ratio and a higher interest coverage ratio generally indicate a supplier with a stronger financial position and the ability to handle debt obligations.

5. Assess cash flow: Review the supplier’s cash flow statement to understand their cash inflows and outflows. Pay attention to operating cash flow, investing cash flow, and financing cash flow. Positive operating cash flow demonstrates the supplier’s ability to generate cash from their core operations.

6. Review financial ratios: Calculate and analyze key financial ratios to gain further insights into the supplier’s financial performance. Common ratios to consider include return on assets (ROA), return on equity (ROE), inventory turnover, and days payable outstanding (DPO). These ratios provide valuable information about the supplier’s efficiency, profitability, and management of working capital.

7. Conduct trend analysis: Compare the supplier’s financial performance over multiple periods to identify any significant trends. Look for consistent growth, stability, or deterioration in financial indicators. Understanding the supplier’s financial trajectory helps assess their future prospects and potential risks.

8. Consider industry context: Take into account the supplier’s financial performance within the broader industry context. Compare their financials to industry averages or competitors to gauge how well they are performing relative to their peers.

9. Identify red flags: Look for warning signs such as declining profitability, excessive debt, or irregularities in financial statements. These red flags may indicate potential financial instability or operational issues that could impact the supplier’s ability to meet contractual obligations.

10. Seek professional advice: If you lack expertise in financial analysis, consider consulting with a finance professional or engaging an external auditor to conduct a more comprehensive review of the supplier’s financials

Want to learn more? Attend our Finance for Procurement Professionals (2 days), Fundamentals of Supply Chain Management (2 days) and Effective Tendering and Supplier Management (2 days) courses.