The 'network of networks' will be the next big thing to hit supply chain relationships, with non-bank financiers and fintechs threatening to better place themselves to meet the needs of an increasingly complex global supply chain
There were recurring debates in the pre-crisis context about whether supply chain finance (SCF) represented a substantive evolution and progression in the financing of international trade, beyond the long-established traditional mechanisms of the industry. Senior specialists and practitioners argued, understandably, that SCF was little more that the repackaging of a set of long-familiar financing products such as factoring, forfaiting and various forms of receivables finance. Others believed, just as energetically, that SCF presented a real advance in the business of trade financing.
All other arguments aside, one observable reality in the global shift to trade on open account terms, and the related development of SCF propositions and solutions, has been a broadening of views about the nature of international trade.
The evolution of technology related to physical and financial flows and maturing of emerging markets like China has contributed to this global shift, as has the proliferation of bilateral and multilateral trade agreements successfully ratified over the last two decades or more.
Despite current downturns in trade activity and recent inversions in the relative growth rates of trade versus global GDP, the conduct of commerce across borders remains a force of economic activity and value creation, as well as being a driver for growth, development and poverty alleviation.
The understanding of trade as facilitated by or flowing through global arteries of commerce called supply chains or value chains, has become increasingly common, with the breadth and reach of these arteries, and the trade corridors through which they flow becoming increasingly appreciated. It has also become clear to a wider audience beyond industry experts and practitioners, that financing (and risk mitigation) is an indispensable enabler of commercial activity flowing through global supply chains.
Trade is no longer viewed mainly as business conducted across borders between one buyer and one seller, or even facilitated through a well-connected broker.
International commerce is viewed increasingly through the lens of global supply chains, integrated commercial relationships, complex webs and linkages of business activity, increasingly enabled by technology and conducted through various global platforms. Trade is, in short, about ecosystems of commercial and personal relationships, and it is increasingly important to take the widest possible view of these ecosystems, some of which can encompass several thousand commercial relationships, with suppliers and buyers of all sizes, often domiciled in high-growth developing and emerging markets.
Though the historical drivers in cross border supply chains were primarily around cost control and inventory assurance, commonly on the basis of leverage and market power, current dynamics (in leading supply chains) are far more strategic, partnership-oriented and encompassing. They include segmented treatment of suppliers, focus on financial metrics in addition to operational efficiency, cost and inventory, and a generally far more holistic approach to supply chain optimisation.
Just as the process of trade is no longer best viewed as taking place through discreet sets of paired relationships, the financing and risk mitigation solutions aiming to enable trade flows must be envisioned, developed and deployed within a wider, programmatic and holistic framework, such as the one proposed by the Global Supply Chain Finance Forum1.
These developments around the nature of trade, the importance of global supply chains and the evolution of supply chain-centered financing and risk mitigation propositions have the potential to transform the way trade is viewed, managed and conducted, and indeed, the way in which policy related to international commerce is developed and deployed.
Supply chains often comprise one buying "anchor client" with perhaps several large first- tier suppliers and aggregators, followed by a large number of widely-dispersed suppliers, often small and medium-sized enterprises, or even micro-enterprises, frequently based in emerging markets. As supply chain management (SCM) practices have evolved over the last several decades in particular, it has become increasingly compelling to view these relationships as complementary and symbiotic rather than defined by leverage, competition and a zero-sum dynamic. These are indeed ecosystems, where notions of collaboration and "strategic suppliers" as well as the importance of the health and sustainability of supply chains are increasingly accepted as self-evident.
Such a perspective, and the thinking which evolves around it, implies several things about entities aiming to finance supply chain flows:
SCF can and should aim to finance multiple parties and stakeholders in a given supply chain, and ought to do so to the extent feasible, on an end-to-end basis as relates to transaction flow, covering pre-and post-shipment, procure-to-pay and order-to-cash;
Traditional segmentation techniques and methodologies are less relevant to the extent that they rely on differentiation based on size, financial wherewithal or distinctions such as "investment grade" and "sub-investment grade"; and
Financiers limited by constraints on geographic reach and/or risk based on market/region will be disadvantaged, to the extent that supply chains remain rooted at one end in developing and emerging markets.
You purchase from the whole supply chain, not one company
Just as it was noted in an earlier article2 that internal company relationships must evolve beyond current siloed structures and often misaligned incentives and key performance indicators, it is equally true that relationships between a company and its (one or more) supply chain communities must evolve beyond the historical competitive postures and win/lose dynamics.
Supply chains, be they domestic or global in reach and scope, are organic communities bringing together complementary competencies and capabilities to create economic value to bring products and services to market. It has been suggested in various ways that an end-customer does not purchase from a single company, but from an entire supply chain - and that competition today is as much inter-supply chain as it is inter-company.
With such a perspective in mind, the notion of supply chain communities and ecosystems comes sharply into focus, and the advantages of structuring, managing and financing such ecosystems on a holistic basis, with an eye to the health and sustainability of the supply chain - as opposed to a single 'member' company - starts to make intuitive sense. Specifically, the importance of optimising DSO (days sales outstanding) and DPO (days payable outstanding) as an evolution to previous focus on inventory management, then becomes part of a natural process of evolution.
Once the concept of a relationship approach to supply chain management and finance is well internalised and adopted, it is possible to take a more strategic view of enabling capabilities such as various forms of technology, including RFID-based container tracking, advanced logistics and warehousing, predictive analytics as well as the digitization of trade documentation and financial flows.
How much transparency is too much transparency?
Supply chain and SCF-related visibility and transparency are critically important to inventory planning and optimisation, working capital management, demand and cash flow forecasting, and a wide range of related commercial and financial considerations. These enhanced capabilities and visibility have a direct bearing on risk analysis, assessment and mitigation, particularly critical in the context of trade that involves high-risk markets or untested commercial relationships.
The interplay of capabilities - technical and technological - together with those of relationships across global supply chains, combine to determine the degree to which a supply chain is a mechanistic assembly and transport tool, versus an information-rich, physically and financially optimised, highly adaptable ecosystem that serves its members as a competitive differentiator, bringing game-changing value and quality to markets around the world. This is far from hyperbole; it is well-known that advanced global supply chains can rival the most modern military forces in terms of execution, even in highly complex and challenging environments.
The perennial challenge of "supplier onboarding" in the context of payables finance programs is one area where the issue of ecosystem relationships is of fundamental importance. Such SCF techniques involve the increasingly common scenario where a large anchor/buyer client uses its credit standing and borrowing capacity to provide affordable liquidity (typically) to an invited subset of suppliers.
In the context of this relatively popular and growing technique of supply chain finance, practitioners frequently note that there are challenges in convincing suppliers to participate, due to a perception among some members of supplier communities - mostly SMEs - that they would expose too much about their financial status to their buyer client. The risk that is perceived is in giving away too much about cash flow and working capital needs and weaknesses, and thereby exposing suppliers to "strong-arm" negotiation tactics.
Although well-structured programs can allow suppliers to collect payment more quickly on approved invoices, while simultaneously permitting buyers to delay disbursement (an apparent win for both parties) a significant part of the supplier onboarding challenges relates to the above concern, coming down to a fundamental distrust between buyer and supplier. It is a matter of the nature and health of commercial relationships within a supply chain, with these relationship issues directly impacting the financial health, robustness and competitiveness of the entire supply chain, and therefore of the products and services associated to it.
Mature, complex and global supply chains, such as those enabling the automotive sector, or the aircraft manufacturing sector among others, have evolved further down a relationship-based view of supply chain ecosystems than others, with the result that supplier/manufacturer co-location, highly integrated assembly capabilities and joint forecasting and demand planning are largely a matter of standard industry practice, certainly among leading companies and their ecosystems.
Financiers with appropriate levels of technical competency can alleviate this concern by assisting anchor clients and suppliers to put in place the process and contractual checks to ensure that supplier-level information is not fully visible to the buyer, and this is a matter of market practice for some providers of SCF, however, this approach does not get at the core relationship issue which, once resolved, could help an entire supply chain ecosystem to reach a next level of excellence in execution and delivery.
The complexity of global supply chains, coupled with the pace of growth and evolution of SCF and the significant regulatory pressure around customer and counterparty due diligence, AML and other considerations will make it difficult for all but the most global of trade banks to provide comprehensive propositions across supply chains, across markets and across financing techniques. Even the most committed and global of institutions will likely deem it wise and commercially compelling to partner with other banks, non-bank institutions and complementary service providers, to arrive collectively at a broad proposition in support of cross border trade.
Just as SCF and SCM practices have evolved over time, and SCF-related client dialogue has been effective in advancing key internal relationships for example between finance, logistics, procurement and other areas that would have had little motivation to interact and align in the past, it is worth considering that SCM and SCF disciplines can combine to raise the level of effectiveness of cross-company relationships in a supply chain ecosystem.
This is no longer a holistic provider's patch
Mirroring this dynamic, it is already possible to observe an increase in intra-company collaboration within leading international banks, with various banking units and lines of business collaborating to deliver "whole of customer" solutions. Where trade banking was long an esoteric, specialist and often ignored area of activity, it is now an integral part of holistic deal teams, engaging more and more with commercial and SME banking units and corporate lenders, with the objective of reaching more clients with a broader set of value propositions.
It is no longer an option for trade bankers to rely exclusively - even materially - on traditional offerings in trade finance. An SCF proposition is a must for any financier seeking a meaningful presence in the financing of international commerce. Likewise, attempts by a single institution to cover geographies globally, or provide full suites of solutions, are increasingly impractical for a variety of commercial, regulatory and balance sheet reasons.
Single banks, perhaps even banks as a group, will be unable to respond to expectations from the market for holistic solutions across complex SCF ecosystems and the numerous clients and client segments involved.
Leading institutions have already internalised the importance of alliances and partnerships, and in fact, the notion of participating in - and facilitating access to - "networks of networks" as a means of providing comprehensive SCF solutions is one compelling way forward. It is also a path that will naturally cut through traditional industry/sector boundaries, with the explicit objective of reaching a significant portion of global supply chain ecosystems.
Just as corporates have been driven to dismantle internal organisational silos (see article cited above), and members of supply chain ecosystems are learning to work closely together in increasingly collaborative and symbiotic ways, it is clear that the next phase of evolution will relate to the development of differentiated, non-traditional alliances and partnerships among organisations focused on the financing of international commerce and cross-border supply chains.
The "network of networks" approach will be an important, perhaps the central, building block of next-generation SCF, and it will bring together banks, non-bank financiers, fintechs and a broadly representative community of supply chain participants to enable trade across the globe. Success in the conception and deployment of such a model will demand a nuanced understanding of the importance of relationships, and an increasingly sophisticated understanding by banks and their partners, about the nature and requirements of complex global supply chains.
Michael Vrontamitis, head of trade, transaction banking at Standard Chartered