Trade finance has shifted from a fairly esoteric, focused and niche element of global trade to become an integral part of the most fundamental aspect of international trade: the global supply chain.
A slow but inexorable shift away from traditional trade finance instruments, such as documentary letters of credit, has motivated banks and other providers to seek ways to stay engaged in, and critical to, the conduct of trade and the provision of trade finance.
Adapting to the new era of supply chain management
Settlement of international trade transactions on an open account basis—in effect, settlement of an invoice by cheque—has eliminated historically attractive margins for trade finance providers, and has removed several lucrative risk-mitigation features that were available under traditional instruments.
Banks and trade finance providers have been working for several years to devise product and service offerings that could usefully and credibly be offered to the market while generating acceptable returns for the providers.
Enter SCF, or supply chain finance.
Trade financiers’ interest in supply chain finance comes at a time when global sourcing patterns are changing drastically and becoming concentrated in Asia, which for many importing nations means supply chains become extended—geographically, and in terms of the time required for transactions to complete.
Similarly, payment cycles extended for some time, with key metrics such as days sales outstanding (DSO) on the rise.
Out with transactions, in with solutions
Trade finance specialists have taken a markedly greater solution orientation in responding to the needs of their customers, and have become very directly involved in efforts to optimize the financial efficiency of global supply chains for their clients and for their clients’ business partners in the supply chain.
This contrasts sharply with the much more transaction-oriented view that prevailed only a few years ago, and likely better serves the efficient conduct of international trade across the globe.
An often-quoted analogy is the idea that trade bankers are now much more interested in designing and building a structure, rather than simply providing a “brick” when a trade client needs help.
As indicated, trade finance providers are becoming active earlier in the life of a trade transaction, now providing solutions, such as financing based on purchase orders, and remaining engaged beyond the traditional point of financial settlement.
By engaging closely with importers and exporters, banks have learned significantly more about their clients’ businesses, and leading trade financiers have been able to develop event-triggered financing solutions across the transaction lifecycle and across the supply chain.
Innovation led online trading platforms into the mainstream
The future of international trade—and therefore, trade finance—promises more change and innovation than the industry has seen in its entire history to date.
As online trading platforms become increasingly mainstream and able to credibly handle a wider range of products and services, the financing of exchange (trade) on such forums will start to gather momentum.
Clearly, this will be limited to smaller items, generally for small businesses, yet it is often noted that small businesses are the drivers of leading global economies.
eBay, the pioneering—and leading—online marketplace has taken some acquisition steps that line up interestingly with the core value propositions in trade finance. eBay provides a rough process for assessing the risk of trading with a potential importer or exporter (the user’s “Feedback Profile,” which is a collection of comments provided by others who have transacted with the individual or company).
The platform provides customized software to assist with inventory management, including a dispute resolution mechanism, and identifies its top exporters through tiered “levels” based on monthly volumes.
eBay acquired online payments provider PayPal in October 2002, adding payment facilitation on a global basis to its trade-finance-type capabilities. Most of PayPal’s major competitors have since shut down—similar Internet-based payment systems from Citibank, Yahoo! Inc. and even Western Union could not compete against the PayPal brand.
Relative newcomers like Paypal are challenging traditional providers
PayPal now has more than 169 million active accounts in 190 markets and 25 currencies around the world
As much as trade finance has been a conservative line of business, in keeping with its banking DNA, the changing realities and dynamics of global commerce are demanding—and will continue to demand—innovation and responsiveness from leading providers of trade finance.
Traditional providers of financing and payment solutions to international trade are being challenged by numerous entrants to the market, including courier companies (now logistics solution providers) with trade finance units such as UPS Capital, specialized hedge funds supporting trade, investment bankers such as Merrill Lynch, and even the finance arms of global companies such as GE Capital.
From a technology perspective, the variety of providers increases the likelihood that “out of the box” thinking will add to the dynamics of innovation.
These new players will help shape the application of technology to the development of additional solutions and value propositions in trade finance.
These new and emerging providers of trade finance are noted to raise awareness: while UPS Capital has provided trade finance to their logistics customer base for over a decade, a number of the new providers, including those from the investment finance arena (as opposed to banking), are still working to carve out unique and sustainable offerings in trade finance.
Some new players, such as London or New York–based hedge funds, may focus on enabling trade with higher-risk emerging markets, in hopes of generating higher returns for their financing activities.
An appreciation for the technology options and solutions in the market can help international traders determine their approach to the conduct of international trade and global business, tailoring the solution to specific requirements.
As more companies go global, and do so earlier in their lifecycle (as evidenced by the expression “the global start-up”), trade finance solutions will need to be creative, flexible and responsive—all facilitated and enabled through technology.
How do you see supply chain finance changing over the years? Are you enjoying the advantages of a more solution-based approach to trade finance?