Global Supply Chain Finance First Edition

Transcription

1 Global Supply Chain Finance First Edition Empowering CFO s and Treasurers around Emerging Global Supply Chain Finance Issues and Solutions Download Provided by: July 2007 Produced by Global Business Intelligence Vancouver, British Columbia 1

2 Global Supply Chain Finance - First 2007 Global Business Intelligence Phone: Fax: info@globalbanking.com The information, concepts and analysis contained herein are provided to you on a confidential basis and are considered proprietary to Global Business Intelligence (GBI). The facts of this Directory are believed to be correct at the time of publication but cannot be guaranteed. The information herein reflects prevailing market conditions, listing Sponsor input, and our judgment as of this date, both of which are subject to change. As such, Global Business Intelligence cannot accept any liability whatsoever for actions taken based on any information that may subsequently prove to be incorrect. This directory is intended as a basis for discussion and thought provoking ideas and does not constitute recommendations by GBI. 2

3 Abbreviations In a Guide such as this, many abbreviations are used. Below we provide the description for many of the abbreviations used throughout this report. 4PL, 3PL: A/P: A/R: AML: B/E: B/L: BRIC: BU: CM: C-TPAT: DC: D/C: DPO: DSO: EDI: EIPP: ERP: FCIB: FCR: IOR IT: KYC: 4th and 3rd-party logistics provider Accounts Payable Accounts Receivable Anti Money Laundering Bill of Exchange Bill of Lading Brazil, Russia, India, China Business unit or operating company Contract Manufacturer Customs-Trade Partnership Against Terrorism Distribution Center Documentary Collections Days Payables Outstanding Days Sales Outstanding Electronic Data Interchange Electronic Invoice presentment & Payment Enterprise Resource Planning system Finance, Credit & International Business Forwarders Cargo Receipt Importer of Record Information Technology Know Your Customer L/C: Letter of Credit M: abbreviation for millions MNC: Multi National Corporation OA: Open Account OFAC: Office of Foreign Asset Control PO: Purchase Order POD: Proof of Delivery RFQ: Request for Quote RM: Relationship Manager SBLC: Standby Letter of Credit SC: Supply Chain SCF: Supply Chain Finance SMEs: Small Medium enterprises SOX: Sarbanes-Oxley SSC: Shared Service Center STP: Straight-through Processing TSP: Trade Service Partner VMI: Vendor Managed Inventory 3

4 I. Introduction to GSCF Guide Why we produced the Global Supply Chain Finance Report, Edition : Supply Chain Finance has become an industry buzzword. CFOs and Treasurers of corporations are increasingly becoming responsible for Supply Chain finance solutions, yet there is a general confusion as to how SCF works and the role of different players. For example, today's buzz words include reverse factoring, vendor financing, payables financing, receivables purchasing and trade payables backed financing, which all tend to be variations on the theme of the umbrella term supply chain finance. These all refer to post-shipment finance programs. As the corporate business model becomes more globally distributed, we believe a Guide targeted at corporate end-users will be helpful to better understand the application of SCF in a global environment. Background This guide seeks to empower CFOs and treasurers dealing with the myriad of issues around implementing a supply chain finance program and introduce them to key solution providers in this space. Global Supply Chain Finance (GSCF) technology and bank providers are developing new models for trade finance. New technologies and financing approaches are emerging. In this report, you will find profiles of the leading global supply chain finance solution providers split in the following Buyer (Payable) and Vendor (Receivable) Platform providers Transaction risk managers Risk Carriers and Liquidity Providers Section A of this Guide provides an overview of the Global Supply Chain finance space, segments the space, and provides key trends and evaluation criteria. Section B provides a detailed, independent write-up of example solution providers. Each supplier entry includes a concise history, an overview of the business model, its current situation and vision, contact person(s), and key business functionality. There is no hidden agenda in this Guide. It is an independent source for anyone determining how their company should proceed with global supply chain finance and working capital solutions. Whether you are simply assessing what is available on the market today or just trying to understand what this space is about, this report will help keep you informed about developments in this important sector. 4

5 I. Introduction to GSCF Guide There is an evolving blurring of traditional trade finance and SCF with some banks, as they seem to be bundling all trade finance as supply chain finance. End to end financing options such as raw material or, production financing, need to be done across the supply chain. Today, the market focus is around post shipment finance done when goods have been shipped and invoices have been presented. What is Global Supply Chain Finance? We see GSCF as four things: First, the Supply Chain Finance (SCF) solution is a combination of technology solutions and services that links buyers, their suppliers, and financing providers optimizing the visibility, financing cost, availability, and delivery of cash. Because of the extension of the supply chain, the increase in purchase to pay cycle time, etc. companies are hedging their inventory with cash. Automating the Financial supply chain and employing networked financial services can reduce cost of capital and create an advantaged ecosystem. The opportunity is less about just reducing the cost of finance within the buying organization and more about reducing the cost of finance across the supply chain for all players particularly suppliers that don t have readily available sources of financing. Second SCF ties logistics and tracking of goods into finance decisions. A growing number of trade platform technology providers have emerged that enable container or cargo movements to be tracked by track and trace software. Third, risk retention in its many forms ends up being one of the most significant aspects of the SCF process. Providing secure logistic and financial information paths to third-party liquidity providers and risk carriers enables liquidity to be injected into the Global Supply Chain through the use of sophisticated credit and pricing models. Finally, Trade Receivables, unlike Commercial Paper that is due on a specific date, may be paid late or may not be paid in full for a variety of reasons. Trading in trade receivables requires the management of disputes and other discrepancies, whether the payment instrument is an invoice or a letter of credit. 5

6 I. Introduction to GSCF Guide Corporates are becoming increasingly aware of the need for, and availability of, new SCF techniques. What s driving the Growth of Global Supply Chain Finance? Globalization and the lengthening of the supply chain are the game changers shaping the new ground rules of business. Companies are outsourcing capital intensive plant, property and equipment and labor intensive activities to global partners down the value chain. In a relatively short period of time, companies have transitioned from manufacturers to managing a complex web of third parties to make, store and distribute their products and brands. No longer is the majority of capital deployed to finance property, plant and equipment but to finance working capital (inventory, receivables, etc.). While the supply chain is lengthening as a result of globalization, direct sourcing, offshore production and distribution, many companies have experienced challenges in capital availability. For example: Traditional international financing vehicles are in relative decline, like the use of the Letter of Credit for both pre shipment and post shipment finance. Most of these suppliers are Small /Medium enterprises (commonly called SMEs), growing rapidly but having limited access to capital. Capital constrained SMEs are forced to raise capital through traditional A/R factoring or indigenous local banks. Non OECD suppliers face pressure from large buyers in the form of extended payment terms. A day extension to existing terms would have a very positive impact on the P&L and balance sheet of a buyer spending over 1bn with suppliers, but it could put serious pressure on contractors, sub-suppliers, etc. throughout the overall chain, and potentially disrupt production and goods flow. It is increasingly becoming a problem for manufacturers who have established offshore manufacturing (for example, moving production of low-value brands to China from the USA or Germany) to find financing solutions. A key challenge comes from programs which require local content, such as various ECA programs. A growing and larger percentage of receivables are international (globalization, offshore, and in a separate legal jurisdiction) and those receivables themselves have longer terms-- a double hit. Many banks do not include these receivables are part of an eligible base for lending. 6

7 In financing cross border transactions, it is imperative to understand that Non Related v. Related Party (or intra company) trade has significant differences and impact on Supply Chain Finance. Related Party Non Related Party (NRP) Payment Finance Accounting Credit Admin Much of this trade is financed through intra company netting and internal funding. The market is segmented by those that are able to issue Commercial paper and those that are not. Many larger firms set up in-house banks to finance various subsidiary trading. Transfer pricing and intra-company reconciliations are major issues. Limited to minority subsidiaries The logistics process initiates the payment mechanism. For example, the two principal documents key to payment and finance are the Bill of Lading and the Bill of Exchange (B/E). The biggest financial difference with Open account and Letters of Credit and Documentary Collections is the Bill of Exchange. The B/E is a future date certain, amount certain, payment order. When passing between countries, a B/E must be a paper document. Terms can be from confirmed L/C to extended open account with just a commercial invoice. Corporates fund cross-border trade by: using their own balance sheet by extending buyer terms Invoice discounting and factoring (with and without insurance) Transactional finance using instruments such as the B/E or promissory notes to sell for cash Supply chain finance Usance L/C discounting Purchase Order / Invoice / Shipment reconciliation Dispute Management reconciliation Open account sales to dealers, distributors, resellers, etc. requires extensive credit application and analysis process to provide customer credit lines. Letter of credit sales are sales to issuing banks (not buyers) or confirming banks if confirmed. 7

8 TABLE OF CONTENTS Introduction to this Guide Section A Overview I. The Problem Defined and the Current Environment II. III. IV. Market Segmentation Import and Export solutions Data triggered Supply Chain Finance V. Key CFO Evaluation Criteria Section B: Key SCF players I. Supply Chain Finance Platform Providers II. III. Transactional Risk Managers Liquidity Providers and Risk Takers 8

9 Section A I. The Problem Defined & the Current Environment 9

10 Companies that focus solely on their own balance sheet and P&L statement look to maximize DPO and minimize DSO and CCP. Understanding the relationship between DSO, DPO, DIH, and CCP Order Placed Inventory Received Sale Cash Received DIH Time Accounts Payable DPO DSO Accounts Receivable cash paid Cash conversion period Days Inventory Held (DIH) = Inventory/(Cost of Sales/365) Days Sales Outstanding (DSO) = Receivables/(Sales/365) Days Payable Outstanding (DPO) = Payables/(Cost of Sales/365) Cash Conversion Period (CCP) = DSO + DIH - DPO CCP measures the time between inventories and cash from sales 10

11 In order to achieve better Balance Sheet and P&L ratios, companies apply traditional payment practices, often resulting in a zero sum game or worse. Traditional Payment Practices Don t Solve Problem Strategy Example Why Flawed Unilateral Term Extension With Overseas Vendors Early Payment Discount Program Seeking supplier compliance to extend payment terms from 30 to 60 days. Aggressive management of early discount programs (2% 10 net 30 - buyer takes a 2% ad valorem discount if invoice paid within 10 days of submission) Cost shifting vs. cost reduction Increased finance cost to supplier returned to buyer in form of higher prices Financially destabilizing for suppliers, potentially harming flow of goods Those most vulnerable forced to accept due to reduced bargaining power Suppliers not competing on production or quality capabilities, rather financial access Discount costed into supplier price regardless of whether discount taken may result in higher price to buyer Could involve additional back office work with cross border trade, as custom entry valuation must equal what overseas vendor was paid. Other Source: PrimeRevenue Vendor management of in-transit inventory Letter of Credit to Open Account There are several challenges in VMI programs that will limit their wide scale roll-out. Examples include C-TPAT, consignment law, accounting costs in warehouse transfers, and accounting for who owns the inventory. Cost shifting vs. cost reduction Increased finance cost to supplier returned to buyer in form of higher prices 11

12 Supply Chain Financing Overview of Problem Increasingly done in multiple countries Domestic Commodity Supplier Manufacturer Processor Distributors Retailer Consumer In the USA, the Federal Reserve data indicates there are 6 Trillion in payables outstanding (US), which correlates to 4% of finished goods cost relates to financing. Supply chains are complex groupings of different types of companies that ultimately deliver a product to a consumer. One goal of each company within the chain is to increase sales, which can be accomplished by offering their customer payment options to make the purchase easier. Raw materials are purchased from the commodity source by processors that fabricate them into parts used by component suppliers. Components are assembled by suppliers and shipped to the manufacturer for use in producing the final product. The product is sold to distributors or direct to retailers who in turn sell it to consumers. Sales within the chain can be increased by providing the customer with better payment terms and straightforward payment options (eg. No letters of credits). However, providing these options creates challenges for the seller depending on their size relative to their customer. Cost Problem: Larger companies selling to smaller entities have large costs associated with credit, billing, collection and bad debt associated with extending flexible payment options to their customers. When this is done on a cross border, non related party basis, it adds further costs in terms of customs, compliance, risk management, etc. Fortunately, large companies tend to have ready access to plenty of reasonably priced capital to fund these options. Capital Problem: Smaller companies selling to larger ones have less process cost, but generally use very expensive and limited capital to finance extended customer payment terms, creating cash and cash flow problems. 12

13 Supply Chain Financing Overview of Capital Constraint Problems Areas of Capital Constraints Top 20 Retailer Commodity 1 Processor Supplier 2 Manufacturer Distributors Retailer Consumer The cost problem is most severely felt in two areas the commodity and processor flow and the manufacturer to distributor/retailer flow Commodities: Providing processors with payment terms is still predominantly done by allowing limits. The processor is faced with credit limits that can disrupt the manufacturing process. A processor that can t get enough credit disrupts production, from their shop 1 and all the way up to the manufacturer. Manufactures attempt to solve the problem by directly purchasing commodities and deducting the cost from supplier payments. This adds inventory to the manufacturer s balance sheet and creates extra accounting cost. Processors: The capital problem in this group is the most severe. Their customers are demanding extended payment terms because of the demands of the manufacturer. The commodity companies are reticent to extend credit because of the poor financial health of most processors. Capital within this group is very high priced and difficult to get. This is becoming an even greater problem as processing moves to developing regions where banking is well behind the developed regions. Supplier: Providing manufacturers with payment options involves receivables. Suppliers that sell to larger companies up a supply chain generally have tens of customers with readily available credit information, which means that their financial cost problem is minimal. The problem is that the capital tied up in these receivables is costly and not readily available for the supplier. Depending on 2 the type of lender utilized by the Supplier, the cost of financing these receivables is generally 3% to 20% higher than the capital cost of their large customers. Early payment programs implemented by the manufacturer/retailer are a way to lower capital cost and increase liquidity for their supply chain. Some Retailers, like Wal-mart, have shifted the typical supply chain and have become manufacturers themselves, developing extensive private label product direct through overseas suppliers. These retailers create a Capital Problem for their vendors, which might be either manufactures or distributors. Some retailers attempt to solve the capital problem providing early payment options to their vendors. However, these programs rely on confirmation of payment amount and date, making them ineffective for solving the main problem: vendor managed inventory In an open account environment, many overseas suppliers only source of finance is likely to be working capital loans from local banks 13

14 Supply Chain Financing Lean manufacturing supply chains are putting pressure on suppliers (tier 1, 2, etc.) downstream. Vendor Managed Inventory Example Blanket PO Offshore / Overseas Entry Domestic Factory Finished Goods Inventory Manufacturing Buffer Inventory Mexico warehouse Customs Entry Finished Goods Inventory Buyer Inventory call Title used to transfer on FOB terms at the port Under VMI, title does not transfer until inventory called, an additional x days to finance inventory Who holds the inventory? Suppliers with lean manufacturing chains have another problem in that manufacturers want to pay for components when used, but require suppliers to have a ready supply on hand under the manufacturer s control. An example is a supplier that ships components to a manufacturer warehouse in Mexico. These components are treated as inventory of the supplier until used by the manufacturer, at which time they become a receivable. Financing for this inventory is difficult for the supplier to obtain because their bank s collateral is inventory under someone else s control in a jurisdiction where the bank has little rights to recover it. Logistics infrastructure creating additional complexities. Many companies have a major issue with port congestion, rail and truck capacity and will attempt to solve it by having their supply chain hold inventory (usually in their domestic locations close to their Distribution Centers or even in bonded warehouses in offshore. Bonded warehouse do not pay customs duty. The goods could not be removed until the supplier agrees to let the Customer have them. Goods can be delivered to the Customer in a certain amount of time depending on location and customs clearance, or if domestic, 1 to 3 days from the time the warehouse is notified. Only after the goods are removed from the warehouse does duty have to be paid. The need for inventory remains because demand forecasting is not an exact science. 14

15 Supply Chain Financing Overview of Capital Problem Sub- Suppliers Suppliers Client (Anchor) Distributors Customers Spokes A Supply Chain Finance model must be built around financing transactions and not companies. Just as the physical supply chain made big inroads in visibility, SCF players need to on financial side. Supply Chain Finance (SCF) improves the twin challenges of visibility and certainty. It improves the confidence of third-party financial institutions and banks (FI s), decreasing risk reducing cost and increasing availability of cash in supply chain. The Selection Problem - Most risk capital and liquidity providers only finance companies that have good balance sheets they deal with distributors or suppliers of anchor clients and deal with their distributors but in order to deal with them, must have recourse on the anchor client. Risk providers will only want good risks. Large Buyers are also often unable to manage smaller and/or weaker suppliers, leaving the most in need of SCF without a solution. The Collateral problem - When Bank A and Bank B go back two stages in the manufacturing process with Anchor customer A and B respectively, who gets priority? The Anchor client as the guarantor problem If an Anchor client tells their bank they have suppliers and distributors that are struggling with working capital, the bank will ask why don t you just guarantee the transaction and take the production risk. Now you are putting the Anchor client in the position in order to make financing work for their direct suppliers or sub supplier they are now in position to take production risk. If you go one-step down and it s the sub supplier that has the problem, not the integrator. Lack of adequate information problem - The challenge banks have found is that for many of the Anchor client s clients, they may not have adequate information to bank them. In essence, unless the bank gets involved in the transactional side of the anchor s business flow, it will not have enough quality information to make good credit decisions with suppliers / buyers located overseas (who are typically small and medium enterprises where good credit data is lacking). While hedge funds and insurance companies are well experienced in assuming credit risk for capital market instruments such as asset-backed commercial paper to finance receivables, these institutions struggle when business performance risk must be separate from credit risk. 15

16 With more open account trade occurring for global trade, the use of Letter of Credit to supply transactional finance has declined, hence both import and export flows could benefit by GSCF solutions. There has been a significant shift away from the use of the L/C since GBI s importer survey in Only 17% of those surveyed have L/C use of 75% or greater compared to 51% in 2004; we also found about the same use of Documentary Collections, but the average use is much higher now. Import View This is a substantial shift from our 2004 study. Given the fact that both China and India trade have grown at faster rates than world trade over this timeframe, the results are even more remarkable. 100% 90% 80% 70% 60% 50% 40% 30% 20% 10% 0% 15% 2% Percent of trade that is done on Letters of Credit: 39% 12% 0% Less than 25% 12% 27% 17% 7% 12% 29% 25 to 49% 50 to 74% 75 to 99.9% Source: GBI 2006 Import study of 100 importers 17% of companies 5% 22% 100% Buying agents may be picking up more of the financial intermediary role (i.e., helping buyers go open account but still providing financial services to suppliers). Some companies also mentioned providing financial incentives to their vendors to change terms (i.e., getting vendors paid faster for moving to open terms). Export View With L/Cs coming down, what are the replacements, how do people take a portfolio and mitigate that risk. Insurance has some capability to mitigate default risk and facilitate financing. 16

17 Section A II. Market Segmentation 17

18 In addition to Buyers whose main focus is Payables and Vendors/Suppliers whose main focus is Receivables, there are essentially three very big plays around the GSCF space SCF Platform Providers SCF Support Service Providers SCF Platform providers facilitate the process of exchanging purchase orders, invoices, payments and related documents and help integrate this information between buyers, sellers and Financial Institutions. SCF is both automation and access to trade finance / credit. The solution could be sold to banks directly or to corporates directly. There are specialized systems (sold for factoring, or for L/C administration), there are generic open account platforms as part of this space, there are solutions focused on EIPP functionality, etc. Everyone does some type of processing, but with a different focus. Today, this is either done manually (eg. Spreadsheets), via a custom developed application or part of an ERP solution. A few companies have moved to demand hosted SCF solutions. The three biggest areas of investment are: Buyer centric payable programs Factor houses (egs. Codix, William Stuckey) In reaction to the threat from banks and non bank providers with reverse factoring initiatives, factor houses have looked to develop new products, around factoring and invoice discounting. Open account platforms: Using data from the Purchase order, and provide some form of pre shipment or production financing SCF Support Service providers offer services such as SCF program design, supplier, buyer and financial institution enablement, and the legal infrastructure to companies. They are usually a subset of platform providers. Transactional Risk Manager The transactional risk manager takes physical move data, pulls together, merges the data and gives investors a better set of data to make underwriting decisions. The risk manager brings various parties together logistics, banks, buyers, sellers and understands the needs of each party. The purpose is to verify data, aggregate, analyze and present in a way that can facilitate the authorization of funding. UPS is an example. In essence, they acts as a Data Translator and provide the Risk Takers with the data they need to make solid underwriting decisions as well as help intermediate capital in the supply chain when it is needed. SCF Platform providers can play this role as well, or Transactional risk managers could also be SCF platform providers. Risk Taker / Liquidity Provider The Risk Taker and Liquidity providers - Banks, Investment banks, finance companies, insurance companies and hedge funds are major players here. They have skin in the game. Credit insurers look at global exposure to the exporter and within that, specific exposure to one transaction from an exporter which all gets back to credit lines. This is further split into Recourse/ Non Recourse financing options. Risk takers will vary wildly in their financial offerings. For example, GMAC may not lend to foreign companies, so they do through bank partners overseas. Just because Risk Takers now have platforms in place does not mean they can throw out their underwriting standards, credit polices, legal infrastructure, use of risk tools, etc. If we can provide visibility around the Purchase order or if we can match a PO from a supplier with a buyer or post a bunch of invoices and see what a bank will lend off of them, we can create an application in an afternoon, the technology is the easy part, having the ability to underwrite and mitigate risk is the tough part. Who has skin in the game. International Trade Banker 18

19 Below are examples of the Global Supply Chain Finance market segment. Platform Providers Transaction Risk Managers Risk Takers Recourse/Non Recourse SCF technology facilitators sold to banks, buyers Logistic Providers Banks Examples: GSCF, PrimeRevenue, Orbian UPS SCF technology facilitators sold to Financial Institutions Examples: Premium Technologies, Misys, William Stuckey, TradeFinance Systems, XPCapital Global Trade Management SC visibility firms Examples: EZD Global, TradeBeam Non Banks Examples: CIT Financial, GE Commercial Finance Letter of credit and Open account platforms Examples: Banks, TradeCard, SWIFT s TSU initiative Buyers and their partners Examples: Wal-Mart, Home Depot Hedge Funds / Specialized Investors Examples: Rosemount, Octagon EIPP Platforms SCF Credit Data Processors Credit Insurers Examples: Xign, ERP systems Examples: Instream, First Data for credit cards Examples: AIG, Atradius 19

20 Platform providers provide the necessary applications (payables, receivables, EIPP, etc.) to help feed key liquidity and risk providers. SCF Platform Components Presentment SCF Risk Takers and Liquidity Providers EIPP Finance Buyers Letter of Credit Processing Purchase Orders Banks Accounting Reporting Credit Risk Mgmt. Trans. Risk Mgmt. Credit Insurers Sellers Data Translation Pmt. Processing Investment Banks Products Hedge Funds Receivables Purchase Orders Inventory Technology Platform Providers SCF technology facilitators EIPP Platform Providers Open account platforms ERP Vendors 20

21 Platform Providers Key Supply Chain Finance Components SCF Components Presentment EIPP Payable Files Letter of Credit Purchase Orders Processing Accounting Credit Risk Mgmt. Reporting Trans. Risk Mgmt. Data Translation Pmt. Processing Documentation Presentment: The various parties to the relationship need a way to interact with the solution. Best of breed leverages the presentment capabilities of an EIPP platform for Buyers and Suppliers, dispute resolution, etc and the GSCF platform required for banks and risk managers. Presentment could include functionality around: EIPP (Invoice) Letter of credit data Purchase orders Payable files Processing: Invoicing, matching, reconciliation, payment processing, cash application, Letter of Credit processing, documentation platforms are all part of processing. Two of the critical sub-components are discussed below: Credit Risk Management: The risk of Buyer insolvency and the risk thereon is well managed by banks, insurance companies and specialized investors. The challenge is having a good way of pricing and tracking transactions within GSCF solutions, which is the interface between Presentment & Processing solutions. The best of breed solution would have multiple funding sources, tapping the lowest price source until capacity was filled before tapping the next higher priced source. Transaction Risk Management: GSCF solutions also need to manage transactional risk, including supplier fraud, payment errors and over-payments. This area also covers tapping into logistic information (eg. 3rd party, UPS) to perform transactional risk management and intermediate capital when necessary. 21

22 Transactional Risk Management Transactional Risk Management (TRM) can involve many components but the key one is merging logistics with finance. Risk Components Integrating logistic data Description The management and tracking of the physical movement of cargo is critical to track movement of goods. The logistic provider collects information about goods movement and provides this data to the transaction risk manager (which could be one and the same). The TRMs job is to verify, aggregate, and analyze data and provide it to the risk takers. The bill of lading is typically the critical document to secure custody. Logistics expertise becomes critical to manage problems whenever they inevitably arise (ie, rejected goods, buyer insolvency during shipment, etc.) Information Technology Information technology is an essential component in the management of the integrated finance and logistics process. The risk takers receives information from TRMs in order to authorize financial transactions. Transaction risk managers will typically have some risk management system to share data. Insurance Transaction and Credit There is some form of Risk management done through the use of trade credit insurance to mitigate trade risk through cargo, credit and transaction dispute insurance. For receivable solutions, Insurers have started to work with banks tracking the insured nature of the receivables they are lending against. What is required is a very clear picture of the state of the insurance, the buyers, and the limits that are in place. Funding One of the most exciting aspects of the merging of physical and financial supply chains is the ability to trigger liquidity off a set of milestone events. Transactional risk managers may also take a proportional share of funding risk so the Risk Takers feel they have some skin in the game as well. 22

23 Transaction Risk Management Example Situation: An emerging market seller in Turkey is selling on 90 day terms to an OECD buyer in the United Kingdom. The minimum commitment is 250 TEUs annually. Seller seeks cash flow and through funding partners and a transactional risk manager, is able to take advantage of the physical supply chain triggers of in-transit inventory and finance on a full nonrecourse basis. Transaction Risk Management example components Funding Line Transaction Insurance Bill of Lading Credit & Collections Risk Management System Logistics Expertise Credit Insurance Interbank Debt All Risk Insurance Secure Custody Risk Mitigation Fully Managed Service Example of how the Model Works: The Collecting Bank in the United Kingdom agrees to collection and credit worthiness at contract completion. The funding bank agrees to a $5million funding line. Coface issues a transactional insurance wrap. The Collecting Bank insures against bankruptcy of receiver and the transactional insurance wrap covers dispute. The key part of the process is writing the logistic plan into a risk monitoring system that gives everyone concerned visibility into container movement. Under the Service Agreement, all parties to moving inventory from A to B agree an event process for tracking from cargo pick-up, loading, inland haulage, FOB, shipping, ETA, and actual arrival. Upon the shipping date, 70% of the money is moved from to seller, and all parties have visibility of shipping details. In the event of a problem, a logistic team is alerted and can take the necessary value judgments on the inventory. Once inventory is delivered at destination, the full value of the contract terms is collected and released to the funding bank. There is now an inter-bank debt scenario, insurance wrap and funding to pay for the B/L and begin the process of risk mitigation. 23

24 Risk Takers GSCF impacts Risk Takers traditional credit role in some significant ways; below we look at three major credit processes and the impact. Loan Origination / Credit Enhancement Loan Origination can involve: Underwriting standards: it s the whole relationship management model. When it comes to trade, the challenge the banking industry has is that most companies, especially manufacturers and brand companies, no longer make their products, but use a web of 3rd party relationships, many offshore. Banks have a difficult time with offshore collateral. The challenge banks have found is that for many of the supply chain partners of their customers, they may not have adequate information to bank them. In essence, unless the bank gets involved in the transactional side of the clients business flow, it will not have enough quality information to make good credit decisions with suppliers / buyers located overseas (who are typically small and medium enterprises where good credit data is lacking). Manage the conflict between transactional finance and Asset Based Lending -Banks need to take the export receivable business and find ways to work the transactional nature of trade finance and the balance sheet lending of Asset Based Lending (ABL). Back Office Administration \ Risk Management Back office Administration can involve: Managing the Paperwork: Take the Letter of Credit, you have the UCP500 soon to be UCP600, which are guidelines governing the instrument and are held up in court. With Open account, what defines it? What triggers a payment? What most people call straight wires is a convoluted process involving consolidators sending packing list details and scanned images of documents, banks overseas office (or an overseas agent or again the consolidator) doing a check to make sure documents are present and conform, etc. Integration with Credit and other risk management players - Insurers have started to explore with banks tracking the insured nature of the receivables they are lending against, so that it is actually asset based lending, or factoring or an invoice discounting operation. What is required is a very clear picture of the state of the insurance, the buyers, and the limits that are in place. Funding Funding can involve: Advance rates - Credit intermediation is the principal role of the banking sector and is its core competency. For Supply chain finance, advance rates can be a function of certain triggers or milestones that are met. In order to have this information, data around cargo movement is critical. Basel II s impact on credit pricing: In Europe banks have a focus on Basel 2, where they are trying to relate financing with the client trade cycles and establish trade-facilities which are self liquidating. Upon the completion of the trade cycle, the funding bank gets cash out of customers trade cycle. The credit facility will be separate which from risk is lower than conventional and pricing wise should be more attractive. 24

25 Risk Takers Many major trade banks are focused on developing an integrated working capital platform to meet this new world of technology melding with the needs of the physical and financial supply chain. Corporate Customers Working Capital Management / Integrated Platform 3 rd Party Services Logistics Compliance Documentation, etc. Web-enabled Banking Trade and Treasury Document / Data Services Preparation / Archiving Matching / Compliance / Connectivity Supply Chain Finance Secure, multi-party interactions event tracking better terms, cycle time and flexible finance Key Point: As large banks develop an integrated working capital platform, there will be big differences in execution capabilities. For example: Ability to work with Logistics providers and offer value added services such as in-transit inventory financing Compliance and the ability to do integrated processing of invoices, automatic compliance matching, etc. SCF technology deployed (eg. white labeled through various platform providers, built by themselves, use of ASP hosted solution, etc.) Credit risk policies eg, What can you do beyond leveraging buyer credit quality, such as financing off of PO or non recourse v. recourse SC finance. Move financial products away from paper finance structures. Securitization services how to make liquid 25

26 Risk Takers At the moment, many of the hedge funds are only involved in Supply Chain Financing as a buyer of trade paper. Today s Hedge Fund Tomorrow s - Hedge Fund - SPV Many of the Hedge Funds don t originate deals, but have a fund that buys trade paper. Non-bank money can provide a much-needed alternative source of liquidity for the trade finance market. According to one market observer there are now at least six pure-play trade finance funds such as the two new models in existence, as well as a number of fund of funds (FoFs) that invest in trade finance funds as part of their investment activity. (source: TF Review) Big banks have tried to increase the depth of their secondary distribution by selling trade finance assets to bond funds and insurance companies, but there was always a lack of familiarity with documentation as well as inherent documentation clearing obstacles that hindered marking to market activity and liquidity. A handful of funds have been established, including The LH Asian Trade Finance Fund invests in asset backed trade and structured trade finance transactions ranging from traditional warehousing and collateral-backed transactions; Rosemount Capital Management which has established a hedge fund dedicated to trade finance globally; Tricon Forfaiting Fund Limited (Bermuda); Eden Rock Capital Management capitalizes on the returns available from factoring and other asset-based forms of finance; International Investment Group s (IIG) main IIG Trade Opportunities Fund (TOF), which invests in global commodity trade finance transactions; Octave-1 Fund, which invests in inventory finance, trade finance, and asset-backed securities. Buyer Maturity Payment Invoices Approvals Working Capital SPV Investors Tier 1 Suppliers Assignment Tier 2 Suppliers Tier 3 Suppliers Key Advantage of Capital Markets in Trade Financing: When banks underwrite a program they underwrite credit risk to a particular name and have limited capacity to that name based on their credit policies. Price is based on a chunky rating, like BBB- or A. If you look at credit pricing in the capital markets, there is a huge range, you could be a AAA issuer, and there is a range of credit spreads. This is one of the chief advantages of the capital markets. Second, through the use of derivatives, when a downgrade to a buyer occurs, there is not a sudden drop in the portfolio value. 26

27 Section A III. A. Example Import solutions 27

28 Import GSCF Overview What are some solutions for financing Imports around the Global Supply Chain? Import GSCF examples Pre-Shipment finance (eg. Finance overseas suppliers) Leverage buyers credit rating for Pre Shipment finance and manage the production and shipping risk Purchase of raw materials and production financing now that the Letter of credit is being used less on a relative basis for trade. Guaranteed PO Financing In-transit inventory Vendor Managed Inventory Inventory finance Post-Shipment finance- extend payables Buyer Centric Vendor Finance Early payment to suppliers, as part of the supply chain finance program. Extend payment terms by providing finance at the normal maturity of the invoices. 28

29 In the PRE-SHIPMENT FINANCE area, there are two major risk categories to address with buyer banks doing SC financing off the Purchase Order. Risk Categories Supplier Performance Risks The key question is there a way to leverage buyers credit rating for Pre Shipment finance and manage the production and shipping risk? When the L/C existed, it made it quite simple for a local vendor to get financing. That s come out of equation. Now varying levels of purchase orders and commitments have replaced the L/C, anywhere from a Non Cancelable PO which is almost as good as an LC (but not quite because an LC the credit is the issuing bank, not the end buyer) to a forecast, and you have to trust the buyer on what they say they will buy. Banks lack information on supplier performance how will they get reliable information on credit and performance risk? Importers are unwilling to share scorecard data (and still are in the very early stages of setting up scorecard programs with overseas vendors). In prior work that we have done, we did not find strong interest in companies sharing some details from vendor scorecards for banks to provide supply chain finance. We know more importers are developing metrics for a Vendor Scorecard with things like on time deliveries, cycle time for orders, % loss / damage / short / not saleable, etc. This data is a strong indicator of vendor performance and hence risk. Suppliers may be able to double dip, using the PO financing, which is a very transactional form of financing, plus access to local bank working capital. PO Change Management Purchase Orders may be amended multiple times based on industry and good type. The changeable nature, lack of guarantee features and control elements like time for shipment make this a fluid document. Goods at this point have not been manufactured, matched to specification or quality inspected, and therefore, buyer-led facilities rely heavily on suppliers historic performance. More and more importers that we spoke to are going to shorter order cycles, which puts additional pressure on suppliers, especially if buyers do not share forecast data or use Master POs and drawdown from them. Most banks lack a complete end to end electronic document or data feed visibility to manage this process. Without an ability to see logistics, warehousing, goods movement, etc. and have access to goods inspections, the banks are at risk from the time when no invoices are presented until the time invoices are presented and paid. Scan-pack solutions tied to document preparation give rise to quality documents and provide access to data; we are just in the very early stages with these solutions. 29

30 Post Shipment Finance Model Buyer Centric Payables Backed Supplier Finance High Level Payables Backed Supplier Finance Business Model Seller 3. Immediate Finance 4. Finance before maturity Discount Receivables 2. Log onto system 5. Pay supplier Platform or Bank (FI) Hold to Value Date Buyer 1. Electronic Payable information Payable date Amount Vendor Receive Cash up until maturity Date Buyer Initiated Confirms payment obligation Provides payment data -The buyer sends to the bank a Confirmed Payables file specifying the dates on which invoice payments are to be made. Data presented to Suppliers -Suppliers are advised by the bank of the amounts and dates on which payments are to be settled on behalf of the buyer. Supplier Value Visibility Into payment details Certainty of payment (Forecasting) Ability to sell the receivable for cash At maturity of each invoice the bank either makes settlement to the supplier on behalf of the buyer (if no finance has been taken by the supplier) or is reimbursed for its financing using the buyer s funds in those cases where supplier finance has been drawn down. This structure works equally well for both domestic and international trade. 30

31 Post Shipment Finance Model Buyer Centric Example Consider the example of a Supplier (exporter) who negotiated a 30-day term with its Buyer. On Day 0, the Buyer receives the goods to its satisfaction and posts the approved receivable to the Supplier (exporter) and to the Financial Institution on Day 1. The Supplier then has the option to receive cash for that receivable at anytime up until Day 30. However, if the Supplier (exporter) chooses to hold the receivable to Day 45, it receives full payment and pays no fees. BUYER Purchase Goods & Services Goods Received \ Invoice Received Invoice approved Fund Payment Original Term Negotiate extension Day 0 Day 1 Day 1 Day 45 Discount to Cash Sell Goods & Services Ship Goods \ Invoice View Payment Notification Receive Cash if No Discount 31

32 Post Shipment Finance Model Solution Impact Buyer Centric Solution Impact No Impact Financial Impact Low Impact Medium Impact High Impact BENEFITS FOR SUPPLIERS Financial Impact Reduction in Inventory Interest Cost Savings Reduce Overhead / Admin costs Revenue Growth Terms Negotiation Credit Insurance cost reduction Faster inbound cash flow, due to early settlement of invoices. Off balance sheet, non-recourse finance, potentially enabling an improved credit rating. Where the supplier is a SME and the buyer is a large credit-worthy corporate, the cost of finance will often be lower than the SME might normally achieve on a standalone basis. No longer necessary to take credit insurance against insolvency, further lowering the cost of sales. Operational Impact Visibility into invoices Regulatory Compliance Supplier Management Cash Flow Forecasting Operational Impact Free supplier payments for the buyer. Cuts the cost of processing and reconciling supplier payments and gives the buyer improved visibility of outbound cash flow. The bank takes on the administration of distributing funds to suppliers using the most efficient and cost effective means. Easy set-up, done through a web-portal 32

33 Import GSCF in action Today and tomorrow Pre Shipment Finance GSCF in action today: Pre-shipment finance via cash advances to facilitate pre production A leading global supplier of resins asked a new customer in Italy to give cash in advance for an order but the customer offered to have their bank give them a guarantee instead. In this situation, it is very important to determine whether the guarantee is a demand guarantee or an accessory guarantee. Although they are both called bank guarantees, they are very different and are even subject to different laws. In other words, if there is a dispute, the accessory guarantor does not have to pay as they are essentially a co-signer on the contract and therefore can assert the same dispute. GSCF in action today: Leveraging Purchasing for overseas suppliers A large apparel manufacturer has many smaller suppliers that perform cut, trim and make operations. In order to leverage their size, the company purchased 10,000 yards of Gore-Tex at a favorable price compared to their suppliers and warehoused the product close to their suppliers using a logistics company. The logistics company would receive pick orders from the suppliers for certain fabric amounts and would cut and forward to the supplier. Providing this form of pre-shipment financing not only saved material costs, but saved their suppliers expensive working capital to procure themselves. GSCF in action tomorrow: Pre Shipment finance for overseas suppliers A transaction risk manager or platform provider can provide the hooks from the exporter factory floor to a banks processing center to see logistics, warehousing, and goods movement. The transaction risk manager can organize and manage the peripherals like goods inspections and most trigger events creating electronic messaging and alerts. Data can be warehoused and mined to show vendor performance data both in history and in current outstandings (egs. order fill rates, amount financed of a PO). Finance can be one global bank or pre shipment to the export bank and post shipment to the buyer bank and all data builds back to the buyer and his bank. In order to get this to work in emerging markets like India and China, local banks and or exporter must move to some type of Web interface for this data, whether that is done for them by a service provider or they do themselves. 33