Why Bank Originated Supply Chain Finance is Like the 1% Movement (and will it change?)

When it comes to supply chain finance (“SCF”) as many know, the supplier onboarding process for bank originated SCF programs is worse than a root canal.  Why?  We are dealing with banks that have strict internal compliance controls because they are scared shitxxxx of fines!

Think about this – this is an approved invoice of a supplier from someone like Unilever or Nestles in which the banks have to seek documents and register liens. I get the protection of assets and what you own.  What I don’t get is why we make suppliers jump through multiple hoops per bank, with each bank different in their demands.

This goes well beyond onboarding efficiency that use dedicated tools for suppliers onboarding.  Sure its nice to a have a onboarding tool as part of the SCF platform that can provide:

  • e-signature capability
  • Document management capabilities
  • Allow the funder to update during various stages of supplier on boarding process

But what I am talking about is asking companies for Articles of Incorporation, Certificate of Incumbency, Board Resolutions if they are a public company, and individual identity data on key signature authorities.  There is no central repository where companies can keep this documentation – I get it, if the FBI can be hacked, and Equifax hands out Social security numbers like candy, am I really going to trust someone with my passport information, signatures, etc. just so I can get paid early at Libor + 165bps on my Nestles business?  Maybe, but you can see why this is a 1% solution – it costs the banks way too much to gather this information and it is only worthwhile for companies to do this when they are selling millions and there is a real rate arbitrage advantage worth getting a lien release from their lender.

Now remember I am not talking about FinTech / Non Bank propositions that can use regulatory arbitrage.  Vendors have come on the scene to scale technology around their KYC, which has enabled many more suppliers to access finance. For example, some Purchase to Pay (“P2P”) vendors picks up supplier information from the buyer’s SAP or ERP system which is part of their contract with the buyer, although both P2P and ERP systems generally lack supplier documentation.  Most supplier networks check supplier bank details to determine if it is valid bank routing number.  In addition they may require from supplier to attach proof (void cheque) and send into a clients ERP system, and client receives the change request and forwards to SAP Vendor details to update.  In many cases, ERP systems have no supplier bank account data.

Obviously there is a balance between risk controls around money laundering and terrorist financing and  giving more suppliers access to supply chain finance from investment grade companies.  The analogy I like to make is to increase sales as a company via increasing credit limits, you take risks. Yes, you can insure that risk (or some of it), but a zero tolerance risk policy leads to much lower sales.  Here the equivalent is the 1% of suppliers with access to funding.

Until we move from this obsessiveness to a more standardized solution across funders, this will be the situation.  And the problem is no one knows what banks compliance checklists are (top secret) and central bankers give no specific guidance.  I mean seriously, we are talking about an approved invoice from Nestles (or P&G, BP, Exxon, etc.).

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Voices (2)

  1. David Gustin:

    Paul, thanks for the shout out. You are technically correct, RegArb as applied in the post is a conceptual idea that non banks have competitive advantage over banks in this regard, who have to be the Cops for the Regulators around the world. Provides a burden on them and makes them ultra-conservative, to the point its a race to see who can be extra squeaky clean to the chagrin of their business folks, who have to deal with declining margins and additional costs they cant pass on to companies, hence the focus on the 1%. In another post, I will address how banks can become better focused here, and as you guessed it, it starts with tech. Cheers, David

  2. Paul Christensen, CEO Previse:

    Terrific piece from David Gustin – this is an important, and not well understood, issue. Traditional SCF typically only gets to 1% of suppliers (with 50% of volume). When SCF is used to extend terms, the 99% of suppliers who miss out, are severely disadvantaged. Carillion is the perfect case study – terms were extended to 120 days and while the largest suppliers were paid on approval (30 days), 99% of suppliers had to wait to 120 days and got stung by the bankruptcy.

    One point I would clarify though is the use of the term “regulatory arbitrage”, which isn’t right. Regulatory arbitrage is when a regulated firm capitalises on loopholes in regulatory systems in order to circumvent unfavourable regulation. Actually what we’re talking about is 2 completely different types of firms: regulated banks (such as Citi, HSBC and Greensill) and unregulated non-banks (such as Orbian, C2FO and Previse). Banks have benefits – they have the privilege of conducting business, with government guarantees, that others may not do. With that privilege comes certain burdens. A non-bank is disadvantaged because it cannot do bank activity like taking deposits, but it is advantaged because it doesn’t have the burden of the banks. The government sets the rules as to what the privileges and burdens are. Banks are well suited to certain activities, and poorly suited to others. The fact that a non-bank does not have the same AML/KYC obligations as a bank is not regulatory arbitrage, it’s simply the fact that it isn’t a regulated organisation. No arbitrage is involved – simply a competitive advantage for a certain type of business. The fact is, banks are poorly suited to service small suppliers for trade finance.

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