The proliferation of trade finance solutions means new ways for members of a global supply chain to access capital. Considering today’s cash flow challenges like credit crunches and late payments, that’s certainly a good thing. But between factoring and reverse factoring, and everything in between, there are trade finance products that each have their own sets of risks and challenges for buyers, suppliers and financiers.
FCI, formerly known as Factors Chain International, recently partnered with Demica, a facilitator of supply chain finance tools. Together, the companies will launch FCIreverse, combining their collective resources to offer global traders access to supply chain finance.
Supply chain finance, otherwise known as reverse factoring, has its pros and cons like any financing product. Where factoring sees lenders providing cash to the supplier for unpaid invoices (and getting repaid by the supplier once invoices are settled), reverse factoring involves lenders providing financing to suppliers but getting repaid straight from the buyer. Both are types of receivables financing that can accelerate cash flow down the supply chain, explained Demica CEO Matt Wreford.
With factoring, he recently explained to PYMNTS, the risk is shifted, so if a buyer doesn't pay, or if the supplier fails to deliver the appropriate goods, there may be a problem. Lenders mitigate that risk by not financing the entire invoice. Reverse factoring, however, sees the entire value of the invoice paid, and because lenders are working direct with the buy-side organization, they confirm directly they’ll pay the amount owed.
“It's very attractive, relative to other working capital products, being low cost and simple to access,” Wreford said of supply chain finance.
But on a stage of global trade, it has its roadblocks. Managing regulations like AML and KYC across borders is tricky, the executive explained.
“And the really big challenge in supply chain finance is on boarding the suppliers," he continued. "Lenders have to approach 100, or even 1000 companies for whom they only have a limited introduction. They usually have no relationship.”
Wreford is referring to the process by which a supply chain financing program gets established. It’s the buy-side organization that works with the banks, but those financiers still have to on-board suppliers into the program and convince them to partake – even though those suppliers aren’t the direct customer of the lender. And when those suppliers are based across jurisdictions, each with their own regulatory requirements, this process is cumbersome, to say the least.
Further, for companies that aren’t receiving electronic invoices, it’s very difficult for financiers in any trade finance program to efficiently assess and analyze companies’ accounts payable.
Traditionally, Wreford said, that’s why Demica has focused on serving large, multinational companies.
“Reverse factoring relies on the buyer providing our platform an approved invoice. They confirm they are going to pay that amount on-time," he said. "When the buyer has an electronic invoice, they can get to this point eight days after receiving an invoice, or sometimes quicker. If they're due to pay an invoice at day 60, that leaves 52 days for our bank partners to finance it.
“But if the buyer is receiving paper invoices, it might take 30 days to approve the invoice," he continued. "Therefore the supplier will be waiting longer before they can be funded. So this product is really only successful with supply chains that run using electronic invoicing."
According to Wreford, large MNCs long ago understood the importance of electronic invoicing.
The global nature of trade, too, means that only the largest buy-side companies with well-established names and banking relationships are able to access supply chain financing. Wreford offered one example of a client based in France, a well-known name in its domestic market. But in China and Malaysia, where its suppliers are based, its name has no relationship to local banks there that would be working with the company to facilitate supply chain finance.
“The Chinese banks have no relationship with the French retailer and so have no credit line approval," he explained. "In a normal situation, that program would not get funded. It's too small for a global bank like Citigroup, who can work anywhere in the world.”
This is where the partnership with FCI steps in, the executive said.
FCI will deploy its existing relationship with hundreds of banks and factoring companies to allow FIs across the globe to vouch for their own clients. In this example, the French bank that knows this mid-market retailer can provide a credit guarantee to the bank in China where suppliers are based.
“So the bank in China will take part of the revenue for going through the effort of on boarding suppliers, buying the receivables and making payments, and the French bank will take part of the revenue for finding the French buyer and providing the credit guarantee," the CEO explained.
According to Wreford, this type of collaboration tackles one of the largest hurdles of supply chain finance: Traditionally, it’s a solution only made for the largest of conglomerates. But the partnership between Demica and FCI wants to open it up to the mid-market.
“This way of partnering regional banks with each other is going to transform the industry over the long-term," he said. "It will enable supply chain finance to go into the mid-market, where global banks aren't interested in operating. And it will provide a lot more financing to SMEs, because regional banks will run smaller programs and onboard smaller suppliers.”
According to Wreford, Demica estimates there is $3 trillion in untapped potential from the mid-market to access supply chain finance.
“How much of that gets financed, who knows?” the CEO said. “But that’s Demica’s analysis of the mid-market space that’s currently not addressed.”