Entering the Digital and Sustainable World of Trade and Supply Chain Finance

Trade and supply chain finance are undergoing a significant transformation in the wake of the Covid pandemic and the ongoing war in Ukraine. But technology is also accelerating positive change in these areas. Here, two experts from BNP Paribas discuss the challenges confronting their industry and explain how banks, fintechs, industry bodies, and corporates, are successfully deploying technology and innovation to overcome any obstacles.

The past several years have been tumultuous for trade and supply chain finance (SCF), with the pandemic, geopolitical tensions, the Russian invasion of Ukraine, and worldwide economic uncertainty causing considerable upheaval globally. Optimism is, therefore, high that re-engineering both trade finance and SCF through technology will help ensure these tools are fit for purpose going forward – and can deliver even greater working capital benefits for corporate treasurers.

Transitioning supply chains to being low carbon has become a major objective for BNP Paribas’ large corporate clients

Laying the groundwork

While the desire to digitalise trade finance may be strong, progress has thus far been mixed as this traditionally paper- based discipline requires the alignment of multiple different stakeholders – many of whom are pushing for standards before digital solutions become the norm. As such, regulation and guidance in the trade finance space are top of mind.

Indeed, Bruno François, Deputy Global Head of Trade Finance, BNP Paribas, believes that by far the most important and positive development on the trade finance front recently has been of a regulatory nature rather than technological innovation, specifically the EU’s proposed Basel III reforms.

The European Commission had originally wanted, as part of the proposal, to revise some prudential elements linked to trade finance, the most significant one being the increase of the credit conversion factor (CCF) – a measure of how much a bank might have to pay out and therefore its exposure risk – from 20% to 50% for certain off-balance- sheet products. The proposed hike seemed heavy-handed to banks and corporates alike. As a result, many have been mobilised against this change, under the umbrella of the International Chamber of Commerce (ICC).

François explains the reasons for the concern: “The products the EU have in mind include, all technical guarantees, warranties, and standby letters of credit. They are mostly low risk and exhibit generally high rates of recovery in the event of defaults. Supported by a strong set of data, we have been explaining to the EU co-legislator bodies that they hardly ever develop into a significant balance-sheet exposure and the huge increase in CCF is incongruous and unjustified. It would also have unintended consequences in terms of pricing and accessibility of these instruments in the future especially for SME’s.”

Illustrating this point, Airbus, Alstom and Siemens Energy are among the corporates that have joined the coalition citing a fear that it could lead to a significant increase in their own costs and create difficulties in accessing guarantees across the whole value chain affecting the EU competitiveness

The ICC supported by GCD ( Global Credit Data), for its part, provided some pertinent data to back up the campaign. In 2022, it published an analysis with data from more than 50 banks showing that the historical average CCF for Trade related guarantees over a period of 20 years for defaulted customers was around 10%, half the level required under the existing rules.

“We held more than 70 meetings with the Commission and member state representatives, so significant effort over more than a year has gone into the discussions. Having so many banks and corporates speak with one voice on this issue helped enormously, and we were backed up by some powerful data from the ICC. Of course, the final proposal still has to be adopted by the European Parliament as per the EU legislative process , but we are optimistic as all our recommendations have been taken into account in the final version of the text.”

While not an innovation per se, François is clear about the importance of convincing the EU to drop its Basel III CCF proposal and keep the factor at 20%. “In terms of milestones for the trade finance industry, I believe it is hugely important, not least as it comes during a period where the trade finance industry is still trying to recover its poise in supporting
global trade, as well as modernising its modus operandi through digitalisation.”

ESG gains pace in trade finance and SCF

Away from Basel III reforms, regulatory initiatives such as the European Union’s Corporate Sustainability Reporting Directive (CSRD) are also driving organisations to focus on transitioning their supply chains to low carbon. Indeed, CSRD requires Scope 3 emissions reporting, which includes the collection of sustainability information across a company’s value chain.

Meanwhile, in June 2023, the EU Deforestation Regulation was also adopted. This requires extensive due diligence and reporting on the value chain for all operators and traders dealing with certain products derived from cattle, cocoa, coffee, oil palm, rubber, soya, and wood.

Despite the challenges associated with complying with these regulations, these significant shifts are also creating opportunities for innovation within both trade and supply chain finance.

François says: “These regulations are very consequential in terms of how ESG impacts our clients – and this is being reflected in the RFPs we receive as well as day-to-day client conversations. Transitioning supply chains to being low carbon has become a major objective for BNP Paribas’ large corporate clients and many now have a dedicated Scope 3 reduction target and a roadmap to achieving it with participation of their suppliers – given that up to 90% of emissions can arise in the value chain.”

Francois believes banks have a huge role to play in helping large corporates to transition their supply chains, which is why BNP Paribas has been an early innovator around solutions such as green guarantees [see box 1]. Working capital financing products also have a major role to play in supporting sustainability initiatives, he says. “Significant investments are required in almost all sectors towards net zero, and working capital financing is required at every step of the journey”. As an example, he points to BNP Paribas’ initiatives aimed at providing support for the value chain associated with electric vehicles (EVs).

“With EV we are, for instance, looking at how we can finance stocks of the critical raw materials required to produce batteries. Financing the flows of batteries to the OEMs [original equipment manufacturers] and long-term receivables linked to the installation of charging stations are also of great interest to us.”

Traditional SCF products can also have sustainability built into them to give positive financial incentives to suppliers meeting pre-defined ESG KPIs, thereby supporting their transition. Bruno Lechevalier, Head of Supply Chain Management, BNP Paribas, notes: “We are seeing more and more requests from clients interested in incorporating an ESG angle to their supply chain programmes and improving Scope 3 reporting. Nevertheless, it can be a learning curve for them, as not all corporates are fully aware that they can leverage SCF solutions to improve their ESG metrics – and those of their suppliers.”

To help corporates make their supply chain programmes more sustainable, especially the data gathering and reporting aspects, BNP Paribas has teamed up with CDP, a global non-profit ESG ratings organisation, to accelerate the development of corporate climate and biodiversity reporting metrics.

Lechevalier says: “We attach great importance to the partnership with CDP. Both financial institutions and companies need to better understand how they can make biodiversity-conscious investment decisions based on reliable data and so reward companies that are managing natural resources sustainably. Having an expert, independent organisation like CDP on-hand to effectively assess ESG performance of suppliers also means far less worry for all parties about greenwashing.”

Look ahead, François says the bank is exploring several additional innovations to address ESG pain points for large corporates. These include adding ESG elements into factoring arrangements (see page 43 of this guide for more information) and leveraging SCF transactions to help clients to offer sustainable financing right through the tail of the supply chain, as well as gathering ESG-related data across both tier 1 and 2 suppliers.

Tech jumps to the next level

Aside from regulatory-driven innovation, technology is making significant inroads on the trade and SCF spaces. Lechevalier is particularly upbeat about the impact APIs are having, especially regarding communications between banks and corporates.

He notes: “Used appropriately, APIs are a great way to establish connectivity between organisations in a seamless manner. On the financing side, meanwhile, a business may want to access additional services beyond SCF portals, to connect to credit insurers or an AML tool for guarding against money laundering – and APIs enable that integration to happen with minimal tech budget and upheaval. The easier and faster connectivity becomes, the better for all parties. As such, I believe the deployment of APIs will accelerate globally over the coming years, and BNP Paribas is investing heavily in API innovations to help clients have an even better experience.”

Another technology that looks set to positively impact both the trade and supply chain finance space is artificial intelligence (AI), and its associated disciple, machine learning (ML). While success with leveraging these has been modest to date in the trade arena, François says progress is nonetheless encouraging for the long term. “As the technology continues to evolve, AI and ML, together with optical character recognition [OCR], will undoubtedly help reduce the workload in future around trade finance documentation and lessen the need for manual interventions.”

Likewise, Lechevalier believes AI has enormous potential for supply chain financing too. He elaborates: “To validate an invoice today, for instance, a corporate needs to look at the purchase order and the documents that have been delivered to them to apply the terms of the contract. This includes details of adjustments if, for example, the delivery was late or if there is a default. To an extent, AI and ML technology will enable us to progressively automate all of these types of tasks with less resources mobilised to match purchase order and invoices. And that means companies will be able to finance invoices much sooner in the process. As such, I do fully expect AI and ML to have a massive impact in the future.”

This ability to speed up the financing or punctual payment of invoices to suppliers will also help to improve supply chain stability and relationships. This is even more critical considering the upheaval across supply chains over recent years. “Prior to recent volatility and uncertainty, the main working capital objective of many large buyers was to extend payment terms with the suppliers. But the global shakeout of supply chains in the wake of Covid and the war in Ukraine has led to a shift in corporate priorities as they look to build long-term resilience into their chains. And technology is proving to be a significant enabler towards this goal.”

In fact, he says many fintechs are now operating in the payables financing space. And, true to the bank’s DNA, BNP Paribas is serving his clients by collaborating closely with fintechs and corporates in co-creating payables solutions. “I think we are certainly one of the most active banks in partnering with fintechs in the payables space. Several years ago, some large banks decided not to work with third-party platforms as they saw them as competitors. But BNP Paribas embraces this collaboration and is ahead of the curve in that respect, both in terms of client experience and achievements.”

After all, as Lechevalier notes, “Bringing additional services to clients, offering them more flexible solutions, helping them gain more visibility and connectivity, these activities are always top of mind for us. We don’t see why we cannot offer that through collaborating and innovating with fintechs, especially as we now work so well with so many of them across all our services, not least supply chain financing.”