Reverse factoring could potentially provide between $255 billion to $280 billion of cross-border trade financing, or 20 to 25 percent of an industry’s accounts payable. That’s according to a new study from the UK’s Association of Chartered Certified Accountants (ACCA).
Reverse factoring — in which a seller accepts a discounted payment of an invoice early, financed by the buyer’s bank, which will then be paid the full amount of the invoice on its due date — has major business potential for cross-border trade financing. As the study puts it, “Reverse factoring reduces costs across the supply chain by letting suppliers ‘borrow’ against their customers’ creditworthiness instead of their own.” With global trade often involving large multinational corporations on the buying side and smaller manufacturers on the selling side, that can make a major difference in financing costs.
However, while there are many estimates for just how big the potential is for cutting costs through reverse factoring, there’s usually little information available on exactly how those numbers are calculated.
The ACCA study tried to change that. ACCA hired Enrico Camerinelli, a senior analyst at Aite Group, to develop a way of calculating the financing approach’s vale in global trade, so the model could be made public. Camerinelli came up with two different models.
One model focused on the value of Accounts Payable for each industry sector and how that would be affected by a shift to reverse factoring. The second model focused on the effect of late payments on suppliers, and how that financial pain would be relieved if they were paid on time using reverse factoring.
The study then used market statistics and interviews with supply chain finance industry experts in banking (from Barclays, Citi, and two other unnamed global banks), non-bank finance (Greensill Capital), solution providers (GTNexus, Misys, Premium Technology, Primerevenue, and unnamed consultants) and corporate users (Heineken and Volvo) to develop data that could be plugged into the models.
The results for both models were in the same ballpark: The first model estimated the actual market size for reverse factoring at $255 billion, while the second model estimated the market at $280 billion. Those numbers line up with the black-box estimates of at least some other industry experts.
“Based on the two alternative calculation methods, the business potential of reverse factoring is best estimated as between 20 percent and 25 percent of an industry’s accounts payable,” the report added.
Then Camerinelli applied each of the models to the seven industry sector that use supply chain financing most heavily: aerospace, automotive, chemicals, consumer packaged goods (CPG), pharmaceuticals, retail and telecommunications. That generated the potential value of reverse factoring for each sector.
Industry: Model 1 : Model 2
Aerospace: 20.1 : 15.1
Automotive: 8.4 : 30.8
Chemicals: 27.7 : 16.1
CPG: 38.9 : 44.5
Pharma: 4.4 : 20.8
Retail: 23.7 : 22.0
Telco: 38.9 : 55.4
(values in US$ billion)
While the overall value calcuated from both models was about the same, the breakdown by industry was not. Under both models, telcos and CPG businesses were at the top of the list for the opportunity to benefit from reverse factoring, with a $40 to $55 billion in opportunity.
But for the rest, the two models gave some dramatically different results. For example, the first model estimated that the automotive sector could only use reverse factoring to finance $8.4 billion in business, while the second model said it would be $30.8 billion. And while the first model showed an $4.4 billion financing opportunity for pharma, the second model calculated that at $20.8 billion. The report didn’t comment on those differences.
Camerinelli also calculated how the benefits of reverse factoring would be distributed among suppliers, buyers, banks and other service providers. His conclusion: “On average, 80 percent of the resulting value is shared between the suppliers and the buyer, depending on whether the buyer wants to facilitate its key suppliers’ financials (i.e. the largest share goes to the supplier) or, instead, take all the benefits by extending payment terms.”
He determined that typically the buyer captures 35 to 50 percent of all savings, while suppliers will get 25 to 45 percent. Another 15 to 18 percent goes to the financial provider, while the remaining 2 to 5 percent of the savings is for the service provider.
Though the numbers that count up the benefits of reverse factoring are the most interesting part of the ACCA study — and the part most likely to trigger both debate and experimentation with the models — the study also includes lengthy checklists of the other issues associated with a shift in supply chain financing. That includes breakdowns of fee structures, legal issues, the limits on what kinds of payables can be financed with reverse factoring, payment conditions, the dates that different elements of the financing agreement will require, risks, and the tangible and intangible benefits, along with the actual financial costs.
Like all models, the ones in the ACCA report are a starting point. But while they indicate that as much as 25 percent of trade finance could be reverse factoring, that still leaves plenty of room for other forms of trade financing — including new approaches from both conventional banks and trade-finance innovators.