But globalization and the new credit environment have changed the rules of the game. Long regarded by corporates as more myth than reality, supply chain finance (SCF) today offers banks a practical way to meet buyers’ and suppliers’ liquidity needs within a tighter regulatory framework. This article examines the evolution of supply chain finance and discusses the strategic options available to banks seeking to play a role in this new model of trade and cash management services.

Challenges facing traditional trade finance services

Trade finance revenues amount to barely four to five percent of corporate banking revenues. As small and medium size enterprises (SMEs) have become increasingly active in international trade, the average value of transactions has decreased, but the documentary burden has stayed the same. Putting additional pressure on margins, more profitable large corporate customers have been shifting from letters of credit (L/Cs) and letters of guarantee (L/Gs) to open accounts, assuming the counterparty risk of their strategic trading partners. Despite a surge in L/Cs following the crisis, the trend toward open account trade continues, particularly among OECD countries. According to SWIFT, open accounts now make up more than 85 percent of cross-border trade transaction volume. Furthermore, Basel II guidelines do not recognize the short-term self-liquidating nature of traditional trade finance instruments, resulting in disproportionately high capital costs.

Trade finance is vital to economic prosperity

While banks struggle to protect trade finance margins, trade services play a vital role in economic growth. The inability to finance trade contributed significantly to the unprecedented 25 percent drop in international trade in 2009, as demonstrated by the $250 billion G20 support package of April 2009. Today, access to liquidity is still restricted. As a global head of trade finance observed recently, “Despite some corporates now having full access to liquidity, others are still in a difficult situation because of banks’ continuing credit policy restrictions.” Going forward, the implementation of Basel III and post-crisis regulatory reforms will raise the capital costs of asset-based strategies for banks, and consequently, the cost of trade finance will remain a top strategic concern for businesses of all sizes. Several SME owners have told us they now personally look at trade finance issues and carefully consider the quality of trade services when choosing a bank partner. Large corporates, meanwhile, have come to view the financial health of their strategic partners as a primary operational risk but at the same time want to improve liquidity by delaying payment to these same suppliers as long as reasonably possible.

In light of these new economic realities, supply chain finance may enable banks both to increase the value of their trade (and treasury) services and improve corporate liquidity. SCF, however, poses significant competitive threats as well as potentially huge opportunities for banks, large and small. The ongoing transition toward open source networks makes it possible to procure almost any good or service, including financial services, from anywhere in the world, and banks need to set a clear strategy to secure and optimize the value of their trade and treasury services on the basis of a more complex and integrated delivery platform.

The evolution of supply chain finance Corporates may be excused for once dismissing SCF as little more than myth, and bankers freely admit that each institution has its own definition of SCF. However, the various SCF programs available today reflect one of three models, which have developed since the concept of SCF first appeared in supply chain literature in the early 1990s .........

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