Supply Chain Financing - Can it live up to its potential?

Per the MSME Pulse report, demand for #MSME loans has grown 1.6x times vs pre-pandemic with an increase in utilization of revolving credit (except for structurally strong MSMEs). Supply chain financing (SCF) is a viable alternative mechanism available. It enables improvement in the #cash #cycles and stabilizes #supplychains. Very simply put, SCF is an arrangement between a buyer, a seller and a financial intermediary (and with recent trends, we can now add a platform provider), where the #credit standing of an investment grade entity (often referred to as an anchor) is leveraged to provide financing to others in the supply chain (who may possibly not be #investment?grade at investment grade or close to investment grade financing rates).

Depending upon the duration, anchor, structure, underlying assets and its credit worthiness, recourse or not etc. the variety of SCF products that are available can be summarized as below:

1. Receivable purchase products (e.g. Invoice discounting, factoring, reverse factoring etc.)
2. Loan based products (e.g. loan against receivables, loan against inventory, distributor finance, pre-shipment finance etc.)

SCF is not a new concept, but with globalization and increasing complexity of supply chains, recent disruptions due to Covid, direct sourcing, and increased digitization and automation in the #procuretopay or #ordertocash capabilities have created an opportunity for #innovative #platform led intermediaries to participate and grab share in a traditional #bank led model for SCF.

#Fintechs are increasingly moving from processing to financing and expanding their offerings across the #valuechain. So there is an increasing #convergence. While some started upstream with procurement and invoicing and are moving into financing, others started with a pure play SCF platform but are now moving upstream into invoicing etc, either directly or via #partnerships.

Around a year ago I had written about #embeddedfinance and we are now seeing some of that play out here. With innovative models like dynamic discounting, trigger based SCF, innovative #credit #decisioning #models a range of platform players are trying to simplify the process and capture these flows via a variety of models and banks are not going to be left behind. Today we see multiple models: the traditional model where the bank manages end-to-end, banks partnering with platforms for digital delivery, platform led where platforms bring multiple banks and NBFC financers (either on their platform or via APIs, embedded into other partner software providers), to using #blockchainsolutions to prevent double funding against same invoice etc.

While a conducive #regulatory environment will play a big role on how these models scale (laws regarding assignment of receivables, acceptability of digital signatures, KYC norms, e-invoicing schemes, Basel III, collections etc.) the inherent risks (credit risk, dilution risk, and performance risk) and how the various players mitigate them will be equally important as we see #scale.

Sources: Supply-chain finance: A case of convergent evolution - McKinsey

Understanding Supply Chain Finance - PwC

Supply Chain Finance Knowledge Guide - International Finance Corporation