Supply chain finance is regarded as a promising area of growth by banks operating in the trade finance arena, but most trade banks are not in a position to offer SCF as a product, according to research by the International Chamber of Commerce ICC Banking Commission in its report, 2017: Rethinking Trade & Finance.
The report included the ICC Global Survey on Trade Finance and Supply Chain Finance 2017, which collated the views of 255 trade banks located in 98 countries – 28% of respondents were based in Asia, 26% in western Europe, 18% in the Middle East and North Africa and just 5% in North America.
SCF a strategic priority
The clearly defined shift from trade on traditional terms to trade on open account – coupled with the maturing of supply chain finance as a market proposition – leads almost 29% of respondents to say that product development in supply chain finance is the most important area of development and strategic focus for the trade finance industry. It outpaces digitisation (25%), fintech or platform development (19%) and product development in traditional trade products (18%).
“The fundamental differentiation (and value) of SCF as an offering distinct from traditional trade finance is now well established, and market demand is clearly present and growing. Under such conditions, it is unremarkable to find that SCF space is now seen as a strategic priority,” the report says.
Despite SCF’s “nascent status” as a comprehensive proposition and “the reality that risk-mitigation elements are still in development”, the report says that “SCF aligns very well with an increasingly holistic view of trade, based upon the structure, global reach and functioning of global supply chains, and their complex ecosystem of commercial relationships.”
It adds, however, that payables financing and distributor financing may be showing the greatest focus by providers and uptake by clients, “but work remains in developing a comprehensive offering across the supply chains, and several layers into the relationships which support the needs of anchor buyer clients.”
Solutions are, it says, being developed in pre-shipment finance, where no invoice has yet been raised, and in “last mile” financial support for complex supply chains.
SCF was, not surprisingly, identified by 38% as the area of greatest potential growth and evolution in the financing of international trade, ahead of evolutionary technology such as online trade platforms (30%). More than 11% said there is a compelling opportunity in financing trade in new sectors. The report says that one such area of focus is the financing of services sector trade. “The need to finance services trade requires flexibility to fund intangible flows where no traditional asset exists to secure the financing, and where the risk of non-delivery is different in character than trade flows that have been financed for hundreds of years or longer,” the report says.
Despite the optimism supporting supply chain finance in international trade, however, the report notes that 65% of the trade banks responding to the survey have operational capability only in traditional trade finance. However, it explains that SCF capabilities may reside in areas outside of trade banking, such as through affiliates that focus on factoring and forfaiting, or by separate asset-based lending units. But only 24% claimed to have “a meaningful level” of integration with other transaction banking activities.
Positioning of SCF within banks
Just over 37% of respondents said that SCF’s position within their bank was “high priority and significant growth”, with just over 21% saying that it was “under analysis and consideration”. There is only limited focus on SCF in 16% of trade banks and only “opportunistic focus” in 11%.
Regulatory obstacle to competition
In a separate section of the ICC report, Sullivan & Worcestor lawyer Geoffrey Wynne noted that larger banks were likely to be protected to some extent from competition from smaller banks because of the EU Capital Reserve Requirements.
Typically, smaller banks use the Standardised Approach to modelling risk while larger banks use the Internal Ratings-Based (IRB) Approach. But banks that use the Standardised Approach are not permitted to take receivables or physical collateral as eligible credit risk mitigants, while those that use the IRB Approach may do so. “This is a significant restriction given that many trade finance structures involve taking security over physical goods that are being financed and/or security over receivables generated by the sale of such goods,” Wynne wrote.
“The approach taken to credit risk mitigation under the CRR fails to recognise the knowledge and expertise that many smaller trade finance institutions have and places them in a disadvantageous position compared to their counterparts who operate under the IRB Approach.”