Supply chain finance is one of the fastest-growing segments of the financial world but now it’s time to add depth to the equation. We need to extend supply chain finance to the outer reaches of supply chains, to the small companies that provide the bulk of jobs and growth in the developing world.
Supply chain finance comes in a variety of forms but in essence it’s a simple concept: use the credit standing and mutual dependence of supplier inputs of a company at the top of a supply chain to enable financing for companies lower down the chain. In that way, suppliers to large corporate buyers can get the cash flow they need to run continuous operations and expand, rather than wait to be paid by buyers, which stunts growth and productivity.
Although the idea was first initiated in the 1980s, supply chain finance has only really taken off in recent years. Global supply chain finance volumes have grown from US$330 billion in 2015 to US$1.8 trillion in 2021, with 2021 seeing 38% growth on 2020 volumes. The Americas have traditionally claimed the largest share of financing volume each year. However, 2021 saw the most substantial growth in Asia and Africa, which reported 43% and 40% annual growth respectively.
Supply chains are deep, complex, global networks, with the tier-1 supplier (the supplier at the top of the chain) relying on several lower tiers to deliver a finished good to the end buyer. The lower down the chain, the more likely that tiers will be mostly comprised of small and medium-sized enterprises (SMEs). This is particularly true for larger and more geographically dispersed supply chains which are said to have “long tails,” such as the construction, electronics, automobile, and apparel industries.
Although supply chain finance has been growing fast in recent years, the evidence suggests it has mostly benefitted tier 1 suppliers.
Enter deep-tier supply chain finance, which potentially extends financing access down the chain to even the smallest suppliers. That’s important, especially in Asia’s developing countries, where SMEs account for most jobs and growth. It is also essential for the supply chains themselves. As recent disruptions have shown, production difficulties at the smallest companies well down the chain can cause shortages and delays to products offered by some of the world’s largest companies.
In addition to closing financing gaps for smaller companies which will generate growth, jobs, and development, deep-tier supply chain finance opens the potential to make supply chains more transparent.
Large companies at the top of supply chains often have little or no information about the SMEs down at the further end of the chain.
The data flow created through linking up the financing of players in the supply chain will mean greater knowledge of who is in the chain and how they do their work. At the moment large companies at the top of supply chains often have little or no information about the SMEs down at the further end of the chain. Those large companies may have pledged to protect the environment in their operations, and to run production without damaging labour exploitation. Still, promises are difficult to keep without full knowledge of who is in their supply chain. A greater understanding of supply chains will make it easier to monitor and incentivise companies when it comes to the environmental and social standards, we want them to meet.
Of course, if implementing deep-tier supply chain finance were easy, it would already be in wide use. There are hurdles to its full implementation.
Those hurdles are similar to the issues that impede the adoption of digital technology throughout the trading world. Although supply chains and global trade often use cutting-edge technology to run their operations, much of global trade is still conducted in analog fashion, with stacks of paper documents exchanged by hand in every transaction.
Countries must agree on what deep-tier supply chain finance entails and define its use in legislation. That legislation must work across borders, since supply chains are cross-border entities. Industry also needs to work out preferred deep-tier supply chain finance methods to narrow the range of what governments and regulators need to approve.
Our team at the ADB trade and supply chain finance group has reached out to governments and industry leaders to move this innovative form of finance forward, with a white paper on the subject released in October 2022 and a working group formed in partnership with the Bankers Association for Finance and Trade.
It’s difficult to think of another sector that has had such a hard time accessing credit. Some market segments–think consumer credit, perhaps real estate–have arguably received too much credit and we have all paid the price for that. The lack of credit for SMEs to participate in global trade stifles growth and makes supply chains more vulnerable.
With some effort and attention, we can close that funding gap and drive transparency through supply chains to make them more resilient, green, and socially responsible; deep-tier supply chain finance offers us a promising way forward.
Steven Beck
Steven has managed the exponential growth of ADB’s Trade Finance Program, and implemented its first supply chain finance business. Prior to joining ADB, he worked for the Canadian Imperial Bank of Commerce and was an advisor to the Canadian Minister of Finance. He played a key role in the startup of the Black Sea Trade and Development Bank, and was a consultant for USAID in Southern Africa and for a startup financial institution in Armenia. Steven is on the Advisory Board of the International Chamber of Commerce Banking Commission, and a member of the WTO Working Group for Trade Finance.
