Recently, the chief executive officer of Dongyuan Winghing Electronic and Science Technology (東莞永興電子), who owed suppliers RMB 8 million (US $1.30 million) for product payments and more than RMB 20 million in bank loans is missing, and believed to be in hiding. This example reflects risks inherent in accounts receivable. A butterfly effect can be triggered when a series of companies are indebted to each other and none has the means to pay back the money it has borrowed.
LEDinside has monitored 16 Chinese LED manufacturers and found while 80 percent of businesses are finally showing growth in both profit and revenue, it is imperative to look closely at the increase of accounts receivable, which reveals the firms’ ostensible success is in fact an illusion.
Manufacturers with high level of accounts receivable
Financial reports for the first half of 2014 showed accounts receivable soared for 14 out of 15 listed Chinese manufacturers, according to data compiled by LEDinside. Eleven companies reported a 20 percent hike in accounts receivable, with LianTronics having increased the most. The company’s accounts receivable increased 50.42 percent from RMB 246 million earlier this year to RMB 371 million in September 2014. Four manufacturers’ accounts receivable even exceeded 20 percent of their assets, with the highest being Leyard Optoelectronics at 30.05 percent, followed by Jufei Electronics, Refond and LianTronics.
It is notable that several manufacturers’ accumulated accounts receivable exceeded their revenues for the first half of 2014, as indicated in the table below:
The data compiled indicates the 16 manufacturers’ total accounts receivable recently reached RMB 6.86 billion, up 24.11 percent (or an increase of RMB 1.33 billion) compared to the RMB 5.53 billion earlier this year.
The jump in accounts receivables, however, did not result in reduced inventory levels for manufacturers. Rather, 15 out of 16 manufacturers’ inventory levels increased. Indeed, the inventory levels of Nationstar and Aoto Electronics inventory levels rose 46 percent.
Taking a further look into each manufacturer’s bad debt reserve and net profit situation, it becomes apparent that bad debts are eating into their profits, as seen inthe table below:
Bad debt reserves on average account for more than 70 percent of revenue in the four listed examples.
The vices of “payment in installments”
“Extremely high levels of accounts receivable can be very dangerous,” said Wang Peng, vice general manager of Chinese LED manufacturer Bons. He added: “The trend for accounts receivable to grow fast in the LED industry is largely related to the overall market environment. Intense market competition has led many manufacturers to tamper with prices and accounts receivable.”
“Payment in installments” has become the standard payment method in the LED display industry, industry insiders say. Under this scenario, a customer pays an initial installment to a LED display manufacturer upon receiving the product. A manufacturer receives the second payment after the display is installed, and the final payment is given after the display passes test trials. “The actual proportion of the payment will vary according to the construction project and clients,” said an industry insider.
Payment in installments can create more business opportunities for manufacturers, but it also has higher financial risks. “It’s not just accounts receivable - the LED display industry has a high proportion of bad debts,” said Wang. “It’s just no one wants to admit it.”
Statistics show 15 out of 16 listed Chinese LED manufacturers’ accounts payable rose significantly in the first half of 2014, with seven manufacturers exceeding 30 percent. Chanfang Lighting’s accounts payable increased 82.08 percent from RMB 144 million at the start of 2014 to RMB 264 million recently. In the LED display sector, four out of five listed manufacturers’ accounts receivable increased, with Ledman Opto and Aoto Electronics accounts receivable ascended the most to an average of over 38 percent.
“Slightly higher levels of accounts receivable is not a problem if the company is in solid financial shape, but, but it is dangerous if the company has high levels of debt, and most of its assets are in the form of debt,” said Wang.
Feasibility of lump-sum payments
Some manufacturers have chosen advance lump-sum payments to alleviate the high risks associated with payment in installments. “Currently, some manufacturers in the LED display industry are using full payment models, but they are still in the minority,” Wang said.
The current full payment method requests clients to pay in a single lump sum, said Wang. “It is possible for manufacturers to request payment ahead of installation,” he explained. Yet, manufacturers using this method tend to sell products at a much lower price than those using installments and profits are also lower. “I think this model is financially healthier,” Wang said. “Bons basically is now using this payment method.”
The industry insider noted full payment could be an issue and lacked a personal touch. “City construction projects have standard processing and application protocols. It is not possible for manufacturers to do whatever they like,” he said. “Additionally, large manufacturers also have their own capital turnover demands, and will not accept full payment methods.”
Wang concurred it is very difficult for companies using lump-sum payment methods to acquire large projects. "(Full payment orders) will be very dispersed, with lower profitability,” said Wang. “Most large enterprises are unwilling to accept this payment method.”
(Author: Sophie Liu, Reporter, LEDinside China//Editors: Judy Lin, Chief Editor, LEDinside; Matt Fulco, Senior Editor, LEDinside )