As the UAE expands its trade volumes at a much higher clip than the global average, one area that is attracting higher focus from banks and fintechs is supply chain finance, or SCF.
Ignored for years as the poorer cousin of trade finance, interest in SCF has spiked in recent years led by the rise of technology, focus on SME financing, rising interest rates and growing cross-border trade.
The supply chain finance covers financing needs of suppliers originated by large buyers. The bank or funder makes an immediate payment to suppliers against their invoice and collects repayments from the large buyer or anchor on the due date, say 90 days from the invoice date.
The supplier pays an upfront fee to the funder, typically a haircut, for the convenience of receiving funding without waiting. As an example, if the invoice amount is Dh100, the funder pays the supplier Dh96 on Day 0 and collects Dh100 from the buyer on 90th day, translating to a 4 per cent haircut, or a 16 per cent effective interest rate per annum.
Win-win for all
Since SCF underwrites a trusted large buyer and relies on their timely payments, the interest rate applied is lower than receivables discounting where the supplier directly approaches the bank. The advantages are many.
For the supplier, the interest rate is lower and the receivables are removed from the balance-sheet. For the anchor buyer, the inventory is secured and working capital is managed better. They can even leverage the early payment solution and negotiate better prices with suppliers.
And for the funder, it is better risk management with recurring business volumes and fee income.
The SCF is normally funded by a bank or a non-bank funder. However, there is also the emergence of ‘dynamic discounting’ solutions, where the anchor buyer themselves use surplus funds to carry this program and earn higher yields on the same compared to placement in deposits or investments.
The bank or fintech that provides the platform to enable this earns a small share of the fee.
Supply chain finance as a concept is not new. It is an age-old need, covering trade exchanges in early Mesopotamia to receivables credit in the Industrial Revolution last century. It became popular with the auto industry in the 1980s, Fiat in Italy being one of the pioneers. This then spread to the retail industry, with Carrefour in France and Metro in Germany adopting its benefits. The Covid pandemic gave SCF a further fillip as sales and supply chains got badly impacted.
Growing market, new players
The SCF market, defined as the volume of assets financed annually, is estimated to be around $2 trillion. According to a McKinsey estimate, 80 per cent of eligible SCF assets globally do not get working capital financing, and the remaining 20 per cent are inefficiently funded. Challenges in trade finance include fragmented process flows, limited data sharing and slow credit decision-making.
With the global revenue pool from SCF at over $26 billion, a number of non-banks have entered the fray and control up to 25 per cent of the market already. Mastercard has tied up with Demica, an SCF platform provider.
SAP is integrating SCF solutions within their ERP platform. Fintechs like Invoice Bazaar, Monimove and Finverity have evolved in UAE on business models that focus on SCF.
Promising future
Banks are stepping up their game too. The Asian Development Bank provides SCF support in developing economies. Closer home in the UAE, Emirates NBD, FAB, HSBC, Mashreq and Emirates Development Bank provide SCF solutions along with digital platforms.
The neo-bank Wio has also rolled out a fully end-to-end SCF platform that provides instant disbursals to suppliers and paperless app-based onboarding.
With growing global supply chains, the future for SCF looks promising. Less than 1 per cent of trade documentation is currently digitized, and leading economies are working to digitize this, spurring the growth of SCF. The UK Electronic Trade Documents Act is one such example.
New reporting regulations are emerging in US and EU that will make it mandatory for companies to report details of their SCF program, making them more transparent and - more appealing - for investments. We can expect to see more collaboration between banks and fintechs and the emergence of SCF marketplaces. And finally, AI and machine learning will make SCF more efficient and seamless.
