Maytee Aspuro, C.P.M.
Maytee Aspuro, C.P.M., Assistant Administrator, Wisconsin Department of Revenue, P.O. Box 8933, Madison, WI 53708-8933, 608/264-6879.
Introduction. The completion of a financial analysis prior to contracting is a procurement best practice. The importance of this practice increases under the concept of partnering whereby long term strategic contracts are created. The goal of a financial analysis is to mitigate risk. As a result of a financial analysis the following may result:
In the completion of significant procurements, it is standard to include within a request for bid (RFB) or request for proposal (RFP) a requirement for the provision of financial information. However, uniform application of a methodology for the completion of a supplier financial analysis is often absent from the procurement process.
Supplier Financial Analysis Protocol.
Risk Assessment: A financial analysis is not required for all procurements. A risk assessment must be completed during the drafting of a solicitation document (RFB or RFP). In consultation with procurement professionals, the program/product managers need to determine the following:
Solicitation Language: If the program/product managers designate the contract for a financial analysis, the solicitation document will include language establishing the buyer's expectations. The buyer may choose to request financial information by any of the following methods prior to contracting:
The choice of when to request information must consider the availability of comparative industry data. If no comparative industry data is available, it will be to the buyer's advantage to request financial information from all respondents in order to establish a comparative analysis.
The solicitation document must clearly outline:
Independent Information Resources: Independent financial information may be obtained. Fee based information providers such as Dunn and Bradstreet are available. Additional resources include the supplier's internet home page and fee free internet information providers. The Dunn and Bradstreet (D&B) Supplier Evaluation Report may be obtained through NAPM ($65). D&B also provides a more thorough Comprehensive Report (CR). Note: (1.) CR includes a Financial Stress Class similar to a the Supplier Evaluation Report's score, but it also includes a detailed Credit Score Class, Credit Score Norms and Credit Score Summary . (2.) CR includes a financial stress summary which compares of the firm to that of the industry. (3.) CR includes detailed Financial Stress Norms which rates supplier to companies in the same Region, Industry, Employee Range, and Years in Business. (4.) CR includes a public filings summary and detail. (5.) CR shows banking relations. (5.) CR includes Key Business Ratios and Industry Norms.
Completion of Financial Analysis Assignment: A financial analysis may be completed by either a:
Training in the financial analysis methodology is required prior to assignment. An assessment of existing personnel knowledge and skills will determine the appropriate assignment.
It is recommended that a financial complete the financial analysis. Purchasing managers should receive training in the financial analysis methodology. The potential use of a RFP evaluation team or a program specialist to complete a financial analysis will be a secondary option exerciseable when expertise is present among the parties. A private financial consultant should be utilized only when specialized knowledge, unavailable within the department, is required.
Financial Analysis Application: The intent of the analysis is generally a pass/fail determination. A financial analysis would not be awarded points in the completion of an RFP evaluation. The financial analyst will profile the strengths and weakness found in the completion of the respondent's financial analysis, formulate a recommendation based on the findings and brief the RFP evaluation team or the RFB program manager(s). Based on the analyst's findings/recommendation, if reasonable concerns regarding the supplier's viability exists, the evaluation team/program manager(s) may reject the supplier, or place the supplier on special financial surveillance via periodic reviews conducted during contract performance.
If deemed appropriate the Financial Analysis may be used as an evaluation factor of an RFP, however care must be taken to benchmark scoring and to brief evaluators accordingly.
Crisis Management Action Plan: Upon designation of a contract as subject to risk management, the responsible program/product manager must file, upon completion of contract negotiations, an action plan with the purchasing unit.
The action plan must address the following:
Upon execution of the contract, the crisis manager will provide the purchasing manager with the following information:
Financial Analysis Report Distribution/Data Management: It is expected that financial information provided by suppliers will be designated as confidential in whole or in part. In order to ensure proper management of this data, financial analysis reports should be held to the highest standard of control.
Paper Documents: The financial analyst may hold copies of suppliers financial documents and their own working papers during the completion of an analysis and during a supplier's placement on a financial monitoring program. Upon conclusion of an analysis or the termination of a monitoring program all related documentation should be forwarded to purchasing central files.
Reports related to suppliers who were not awarded a contract should be incorporated into the bid file. Reports related to suppliers who were awarded a contract should be incorporated into the official contract. The contract file documents will not be sealed given the reasonable expectation that the information will be referred to throughout the life of the contract.
Electronic Documents: All electronic reports (text and spreadsheet) should be kept under password protection by purchasing.
Supplier Financial Analysis Model/Report Format: Professional literature consistently denotes combinations of financial ratios that may be used to evaluate the financial strength of a supplier. The measurements of liquidity, activity, solvency and profitability within the context of industry averages are useful analytical tools. Caution must be exercised in relying solely on financial ratios in completing an analysis. Though there is no one-size-fits-all model, Attachment A provides a report format which documents significant measurements and points of concern which should be addressed in the completion of a supplier financial analysis.
The following points should be consideration in the completion of a financial analysis:
Report Presentation: The financial analyst should assume that her/his customer (RFP team member or RFB program manager) is a novice in the realm of financial analysis. Graphs should be used to communicate significant issues including financial trends and industry comparisons. Ultimately, the quality of the analysis will be dependent upon the quality of input data, the thoroughness of the analyst and the ability of the analyst to communicate findings.
Financial Ratios. Ratio analysis involves the method of calculating and interpreting financial ratios in order to assess a firm's performance and status. The basic inputs are the profit and loss statement, balance sheet, statement of retained earnings, statement of cash flow and notes to the financial statements. A cross sectional analysis where a firm's ratios are compared to industry averages at a fixed period of time should be supplemented with a time-series analysis where current and past performance is evaluated. Trends developed using multi-year comparisons provides insight to the firm's progress. Deviations to either side of the industry standard should be investigated.
Financial ratios will address:
The application of all the listed ratios may not be necessary to ascertain the financial strength of a firm. The financial analysis of a service provider will differ from a distributor, retailer or manufacturer.
Profit margins reveal information on price negotiability and the effectiveness of the supplier's cost management at various levels. The gross profit margin may be used to determine the pricing structure, or markup, of products. With this ratio the spread between the direct cost of the product and the price is revealed. Comparing the margin to the industry norm reveals how well the supplier is controlling product costs.
Detail financial ratio information will be provided at the workshop session.
Independent Information Resources. The following information is available in order to assist in the completion of a financial analysis:
Internet Search Engines:
Chandler, Jamie P., "Mining the Internet for Supplier Financial Information" Purchasing Today, November 1996, 14-15.
Griffin, Michael P. Fundamentals of Finance and Accounting for Nonfinancial Managers 3rd ed. Massachusetts. American Management Association, 1993
Griffin, Michael P. How to Read and Interpret Financial Statements, Massachusetts. American Management Association, 1992.
Gitman, Lawrence J. Principles of Managerial Finance 5th ed. New York: HarperCollins, 1988.
LaFaro, Lydia E., "Under the Magnifying Glass, NAPM Article database.
Reeds, James D., "Adding it All Up" NAPM Insights, November 1995, 12-13.
Shim, Jae K., Siegel, Joel G. and Simon, Abraham J. The Vest-Pocket MBA. 2nd ed. New Jersey: Prentice Hall, 1997.
White, Jeffrey A., "Supplier Financial Management for Purchasing Professionals" National Association of Purchasing Managers 82nd Annual International Purchasing Conference Proceedings, (1997) 385-388.
The author wishes to recognize the following individuals for their contribution to the development of this document:
Kelly J. Shisler, Senior Auditor, Wisconsin Department of Workforce Development and Jeffrey A. White, JA White & Assoc., 240 Newpark Place, Columbia, SC 29212
(1) Extraordinary cases may exist, such as a sole source procurement, in which the buyer may still choose to contract with a supplier in spite of their refusal to provide financial information. In such a case, an analyst would rely on independent third party information.