Signpost to the Future

David Hennah explains how SWIFT is helping banks take their first brave steps into a changing world of supply chain.

On a recent visit to Dublin a colleague mistakenly asked the taxi driver if he could take us to Compton Street.

'Compton Street?' the driver replied. 'I've never heard of it'. And so it seemed we had unwittingly ventured on a quest, not only to discover the unknown but also perhaps to reach the unobtainable. Reflecting on the fact that none of us may ever know whether Compton Street actually exists, it occurred to me that it only takes a moment to imagine that it could. Suddenly a whole new world becomes a possibility, if not a reality.

The point of this brief, if somewhat obscure introduction is of course to encourage the reader to read on, not only with an open mind but also thinking about a future that perhaps today does not yet exist. And so it is in the ever-changing world of trade and supply chain finance, where the nature of the business has for some time now been reinventing itself, forcing us to constantly imagine that which does not exist.

A JUST-IN-TIME WORLD

Corporate needs have been progressively evolving for some time now. Banks are finding themselves in uncharted waters, confronted by the double-edged sword of threat and opportunity.

Just as the just-in-time world of supply chain management has gained momentum, so market forces have continued to drive the processes associated with the physical movement of goods towards a tighter convergence with the financial transfer of funds. This in turn has led to the creation of so-called trigger points for the creation and delivery of supply chain business solutions.

The timing of such convergence reflects not only on the evolving needs of a developing world economy, but also on recent advances in new technology. However, delivering such solutions is no longer the exclusive domain of financial institutions. New entrants, such as software vendors, insurance groups, factoring houses, trade management companies and third-party logistics companies, are threatening the banks' traditional business.

Once upon a time, it could almost be taken as read that importers and exporters would automatically invite their banks to issue traditional trade instruments, such as collections, guarantees and letters of credit, in order to service their trade finance business requirements.

These instruments were invented by banks to help corporate customers mitigate the risks associated with international trade and were later offered to support alternative forms of financing. These standard conventions are long established in a world in which exporters have tended to hold the upper hand in trade negotiations.

THE CHANGING FACE OF TRADE

The world of international trade is changing fast. Globalisation has increasingly broken down the barriers to trade, creating an environment in which trading partners have a much clearer understanding of the potential risks involved in trading with far-flung countries. At the same time, harmonisation has removed some of the barriers to cross-border trade.

But perhaps the most significant development of all has been the internet, opening up opportunities for importers to seek out and negotiate with new suppliers in untapped markets, sometimes using new selection techniques such as reverse auctioning.

The legacy of the past has never been challenged so strongly. The mindset of the majority has been radically changed.

THE PAST IS HISTORY

Historically, most countries have traded the majority of cross-border imports and exports with neighbouring states. North America's major trading partners, for example, have been Canada to the north and Mexico to the south. A majority of Asian trade has been intra-Asia while EU countries have traded primarily with one another.

Now, however, we are beginning to see the impact of shifting patterns of trade falling under the influence of the developing markets of Asia and Eastern Europe. China, in particular, may be seen as an emerging force in its own right as it assumes the role of Asia's trading hub.

Brazil, India, Russia and others are becoming bigger players in the world economy, with significant regional purchasing power. Higher commodity prices and investment in exploration have also given rise to a new era of resource nationalism, further empowering the emerging economies with their wealth of natural resources.

THE FUTURE IS NOT WHAT IT USED TO BE

Many of these factors have combined to support a significant shift in the negotiating power of buyers and suppliers. Where the range of suppliers may once have been quite limited, importers now have much wider choice and are thus in a more powerful position to dictate the terms of trade.

The large retailers in particular have been quick to react to these changing market dynamics. At the end of the supply chain and delivering value to end consumers, retailers are seeking ways to improve end-to-end process efficiency and optimise liquidity management, while minimising the cost of borrowing and maximising return on investment.

Historically, it is the risk and financing needs of the exporter that have best been served by the letter of credit. The importer, however, may well take the view that the continued usage of such instruments is neither optimally efficient nor cost-effective.

In the world of the internet, importers can often dictate that payment terms must be on open account. If suppliers refuse, they may find themselves excluded from the supply chain as buyers reduce their active counterparties and source goods on a selective basis, subject to the fulfilment of preferred terms and conditions.

BAD NEWS FOR BANKS

As evidenced by the recent trends in SWIFT message traffic, migration to open account has been sustained to the extent that today's estimates suggest more than 81% of global trade is conducted in this way.

Open account is bad news for banks generally, as they are often only involved in the final settlement. This means they can no longer look into the underlying transaction, limiting the opportunity to offer competitive risk and financing solutions.

Open account can also mean bad news for exporters who are not only forced to take on increased risk and responsibility, but also lose access to finance, threatening a loss of working capital and potential loss of liquidity.

There are serious gaps still to be filled in an open account environment. Exporters need risk and financing solutions while importers are typically looking for end-to-end process efficiency, improved liquidity management and cost containment.

On the face of it, these needs are complementary and can potentially be met by a range of business solutions, favouring a more holistic approach to service development and delivery .Where importers want to cut costs and improve efficiency, exporters want to reduce risk. Reducing discrepancy risks lowers the risk of disputes and delays. Saving time generally translates into saving money.

OPPORTUNITIES TO ADD VALUE

Banks and others have the opportunity to add value in a variety of ways, from automated data checking to cash forecasting to the insourcing of business processes such as document preparation or the reconciliation of accounts payable/receivable.

Combine these services with traditional risk management, currency hedging and more innovative import/export financing options, and you begin to build a supply chain suite, ultimately leading to the desired guarantee of payment.

PARTNERSHIP BANKING

Individual banks are generally not equipped to deliver a comprehensive range of solutions to service the collective needs of the global market. As new trading blocs emerge, the corporate demand for new services is increasing.

The emphasis on global franchise is growing. Not even global banks have universal access to the entire customer base in every market. At the same time, smaller financial institutions are finding it harder to make the required investments in systems infrastructure.

These conditions mean that service quality is becoming more dependent on strategic partnerships driven by global and regional players joining forces with small to medium-sized local service providers.

SWIFT SOLUTIONS

The SWIFTNet Trade Services Utility (TSU) is an industry initiative designed by and for banks as a means of helping them meet the supply chain challenge. It became commercially available on 2 April 2007 when the first live transaction was processed between JPMorgan Chase London and BNP Paribas Hong Kong.

As a data matching and workflow engine, the TSU can help banks authenticate transactions, reducing the risk of discrepancy and facilitating the end-to-end transparency of previously isolated business functions.

By tracking the content of commercial invoices and transport data sets against a baseline purchase order, the TSU helps banks identify the trigger points necessary to develop a phased product portfolio, broadening product lines and generating new sources of revenue.

At the same time, the TSU offers a set of common standards to facilitate straight-through processing and strengthen the interoperability that is critical to enabling banks to work together in partnership.

While standardisation brings value to the banking industry as a whole, individual banks can still deliver value to their corporate customers through their own business solutions. Process efficiency, liquidity management, risk mitigation and financing are core elements of the corporate value proposition.

Perhaps there is a road out there that will one day lead us to Compton Street. For now, the search for a new world and new ways of doing business continues. The launch of the SWIFTNet TSU is a significant step in the right direction.