The end-to-end trade processes of the financial supply chain (FSC) play a huge role in a corporate’s liquidity and working capital strategy. In his article,
head of trade and supply chain from RBS, defines the financial supply chain as, “all financial activity in the purchase to pay cycle.” How treasury manages this process, in conjunction with other corporate departments and its banking partners, can greatly effect the company’s bottom line.
This is one of the reasons why interest in the FSC and a desire for knowledge on how to best manage it have dramatically increased in recent years. In his article, The Keys to Effective Financial Supply Chain Management, Fritz Philipps,
director in Deutsche Bank’s global transaction banking division, identifies some of the key drivers in this growth of interest. “Interest has been driven by banks seeking to adapt their transaction banking product offerings to new market conditions, as well as buying corporates looking to squeeze added value from their existing procurement arrangements.”
As a result of this interest, treasurers are taking increasing control of their company’s supply chain. Treasury departments already have influence over key processes outside of their traditional remit that affect working capital and cash flow, by working in a consultative capacity to reshape payables and receivables processes, for example. The supply chain is the next logical step, as commercial open account and commercial trade transactions are also payables and receivables.
Mo Virani, senior vice president, treasury sales manager from Bank of America, refers to this phenomenon in his article, A Shared Vision of Supply Chain Integration. “The convergence of supply chain and treasury management and treasury’s increased stake also reflect the recognition that all flows within an ecosystem-including the physical supply chain-have inherent financial risk and therefore can impact financial performance.”
As part of their increased role in managing all areas of the supply chain, treasuries are increasingly being brought into contact with the procurement department within their organisation. In his article, RBS’s Taylor provides a list of ways that treasury and procurement can work together to generate supply chain efficiencies and savings. These include:
- The adoption of global sourcing strategies. Many have realised, however, that there is a balance to be struck between price, quality and logistics. Getting it wrong can have disastrous results in their ability to service their own customer base.
- Administrative cost reduction through the adoption of electronic procurement and document management platforms that reduce the use of paper in the transaction cycle, provide more immediate visibility to their trading partners and a level of document reconciliation platforms and reducing transactional costs.
- Transactional cost reduction through a shift from letters of credit to open account trading. For some this creates a challenge with their supplier relationships that, especially in developing markets, relied on the LC for access to pre-sales financing.
As with all areas in a treasurer’s life, new technology and automation help create efficiencies and cost savings in the FSC. One example of this is e-invoicing. In his article, SEPA’s Impact on the Financial Supply Chain, Arjeh van Oijen, pre-sales manager payment solutions at TietoEnator, highlights research from the European Commission, which found that e-invoicing alone (which is just one element in the FSC) could save enterprises and government organisations in the EU in excess of €250bn a year. This research only considers Europe, so you can imagine the potential if this were to be applied on a global scale.
A change in payments regulation can also benefit FSC efficiencies. The introduction of the single euro payments area (SEPA) aims to make cross-border payments within the eurozone as easy, fast and economic as making a domestic payment. One of the instruments to allow this to happen is convergence to a single standardised payments messaging structure. Companies such as TWIST, SWIFT and IFX, have come together and merged their various messaging initiatives into one common standard, ISO 20022, also known as UNIFI. This is excellent news for all those who are involved in the FSC, which has previously had to handle an inefficient variety of different messaging standards.
With standardised messaging, the extra functionality can bring efficiencies to the FSC. At the originating side, for example, the new initiation messages can make a distinction between the debtor, the initiating party and the ultimate debtor. At the receiving end, a distinction can be made between the creditor and the ultimate creditor. “In the case of a direct debit, the sides of these roles are reversed,” notes TietoEnator’s van Oijen.
The SEPA Direct Debit is an interesting case, as it enables the settlement of cross-border trades within the SEPA zone via a direct debit instead of a credit transfer. This had previously not been possible. “In combination with e-invoicing, the direct debit can become a very useful and efficient payment instrument for trades within the EU,” says van Oijen. This instrument may be particularly relevant to SMEs that have not integrated their ERP systems in the financial supply chain to the same degree as large enterprises.
Clearly treasuries are becoming more sophisticated in managing the FSC, and many are already using the new initiatives mentioned earlier to have a positive impact on their bottom line. However, as Deutsche Bank’s Philipps points out, when it comes to offering solutions to corporates, banks should not forget that not all treasury departments are at the same stage. “Many corporates-in both the developed and developing world-will still be operating paper based systems for commercial documents such as purchase orders and invoices, and will be unable or unwilling to switch to electronic systems in the short term.” If banks only offer SCF packages on an electronic basis, they will be excluding large numbers of SMEs that would benefit from financing opportunities. Flexibility is going to be key when enhancing FSC processes, both by corporates and banks.
Risk management is an area of the FSC that should not be overlooked, particularly at a time when interest and activity in the FSC is rising so quickly. In his article, Deutsche Bank’s Philipps notes that documentary supported trade (i.e. letters of credit) has been increasing at about 3% a year, which means that the majority of the increase in trade is occurring on an open account basis. This may be at a lower financial cost to corporates, but it can marginalise the banks and also increase the inherent risk of the trade. This growth means that there is a need for new approaches to mitigating risk and financing suppliers. Philipps explains that one way to address this is by, “taking an approach that looks beyond the strength of an individual supplier’s balance sheet and any associated country risk, and instead considers the strength and depth of the relationship between buyer and supplier, and buyer and bank.”
The rush to do trade finance on open account has in some cases seen banks relegated to being a corporate’s payment partner. There is also increased risk as the bank’s visibility of transactions usually associated with letters of credit no longer exists. In a bid to counter this problem, SWIFT established the Trade Services Utility (TSU). The TSU enables banks to offer supply chain finance solutions on a bank neutral basis. As Tony Duggan, chief executive of Tradocs, notes in his article, Keeping Up to Date With Financial Metrics, the TSU “provides a vital document checking role within the supply chain, ensuring that the corporate’s exposure to delays and costs caused by erroneous documents is minimised.”
Clearly it is not just treasurers that have become more sophisticated in managing the FSC, banks have to be just as flexible and responsive. The next generation of solutions for the FSC embrace the use of large volumes of data to reduce risk and, as Tradocs’ Duggan points out, new metrics are being introduced that add value to the supply chain. “The opportunity to embrace new value metrics such as CO2 emissions and elements of corporate and social responsibility provide a key insight into how trade finance metrics can and will change in the years ahead.”
As banks begin to generate solutions for today’s sophisticated FSC, they will need to bear in mind the huge variety of legal and regulatory frameworks around the world. This is a subject that Sanjay Dalmia and Sujit Chitale, CEO and project manager for CashTech respectively, cover in their article, Legal Aspects of the Electronic Financial Supply Chain: “While in some circumstances these laws may not be different from the underlying legal framework for offering the typical electronic banking services there are other aspects, specific to the trade business, which need to be considered while offering such services for the e-financial supply chain.”
Dalmia and Chitale highlight the following main legal areas that banks should pay particular attention to as being:
- Laws pertaining to electronic commerce.
- Contract act.
- Laws related to electronic evidence.
- Banker’s book of evidence act.
- Negotiable instruments act.
- Law of jurisdiction.
And these are only the main areas! Other areas that banks will need to have their legal teams investigating thoroughly, on a country by country basis, also include:
- Contract of carriage act.
- Banking regulations act.
- Sale of goods act.
- Assignment of receivables.
- Islamic laws.
- Insurance act.
- Customs and excise acts.
- Revenue and stamp duty acts, etc.
While, from one perspective, managing the FSC is becoming easier, there are still a number of areas where both banks and corporates need to be prepared to put in the time and money make sure they are operating within the law.
Today’s FSC offers corporate treasurers the chance to create efficiencies and increase bottom line profits. A flexible approach to this is vital for success. Treasurers will need to work closely with other departments in their organisation to ensure that the company has a cohesive strategy in this area. They also need to weigh up the preferences between the style of business they conduct within the FSC, balancing the need to enhance the bottom line against potential risks that these may entail. Banks and other financial service providers can offer good advice in these areas, especially those that have a global reach, as they are likely to have experience of specific legal environments. New technology is also aiding treasurers in the FSC, through developments such as e-invoicing. With a flexible approach to the tools they use and the partnerships they make, treasurers can have a positive impact on their company’s FSC and all the rewards that this brings.
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