The $2.5 trillion trade gap
There is a US$2.5 trillion trade gap - a figure widely-quoted based on annual surveys conducted by the Asian Development Bank.
We see two different trade gaps at work here:
Small companies selling to big companies.
Small companies selling to small companies.
It is a "supplier-side" challenge.
Typically big companies selling to any size of customer do not have issues obtaining finance, including trade finance.
The trade gap challenge
Financing small companies is difficult because of economics.
FInance income is lower as less money is put to work; interest rates need to be high to bring in enough cash
Finance costs are higher because it costs more to originate, manage and process transactions with small companies
Small companies selling to big companies
The largest part of the trade gap is where small companies sell to big companies. Most trade in merchandise involves bigger companies.
As long as the buyer is creditworthy, the solution here is to work from the buyer-side.
Arrange supplier finance via the buyer
Supplier finance includes "reverse factoring", "dynamic discounting", "supply chain finance" or "SCF".
Buyers have found it difficult to support SCF for smaller suppliers - but technology now has answers to this challenge.
Prima's platform enables buyers to support supplier finance across their whole enterprise including smaller companies in more difficult locations. Here is how we do it: click here.
So this part of the trade gap is going to get more efficiently financed going forward via new SCF technology, reducing costs and improving access for smaller suppliers.
Small companies selling to small companies
No one has built a magic money tree for cross-border trade entirely involving small companies.
There are answers - and we know them:
Letter of credit: the buyer-side bank provides an assurance to the supplier-side bank that cash will arrive as long as the supplier evidences it has completed its tasks.
Dual-factoring: a buyer-side factoring company provides an assurance to a supplier-side factoring company that cash will arrive as long as the supplier evidences it has completed its tasks - see the FCI.
International factoring: this is provided by companies like Tradewind Finance, Stenn and Modifi (and quite a few others); they underwrite the buyer in one country and on-board the supplier in another using technology to manage their processing costs.
Creditworthy transactions involving smaller companies on both sides can access finance through these routes.
Of course, all three of these SME solutions are significantly more expensive than SCF - so trade involving larger buyers should always use SCF where possible.
Do non-bankable trades make sense?
Whether the buyer is a small company or a big company, there are non-bankable trades that can still make sense for the supplier:
A supplier earning a 10% profit on its sales might easily justify the risk of waiting 90 days for the money - that's roughly a 40% interest rate.
A financier works only for its interest charge and so the return (after costs) for taking buyer risk is many times lower.
So is there a trade finance gap really?
Yes.
Creditworthy transactions generally do find finance - perhaps these are not part of the "trade finance gap".
Some transactions could be more efficiently financed by SCF, especially once it becomes more widely available.
The balance (the "gap"), is likely not-creditworthy transactions, noting that most of these can probably still make sense for rational suppliers.
We think that the market can substantially provide the solutions that are needed.