Eric Lemmens, Global Head of Trade Finance and Supply Chain Finance at RBS UK, and Anil Walia, Head Trade Finance and Supply Chain Advisory at RBS UK, provide an overview of supply chain finance in the United Kingdom for the 2011/2012 edition of the Supply Chain Finance Yearbook.

Introduction
There is no doubt that the economic challenges of the last year have changed the face of commerce in the UK. But as companies look to diversify and take advantage of the potential profits international markets can offer, they must also balance the risks and supply costs involved. This means that supply chain finance (SCF) has been enjoying healthy growth in the UK throughout 2010-2011, with the leading banks, third party providers and consultants continuing to educate clients on the benefits and specifics of financing their supply chains.

Industry Environment
Domestically, markets work primarily on an open account basis. As in certain industries, credit terms have been extended up to 90 days in the post-crisis period, and, as a result, receivables-based solutions are growing in popularity among UK businesses.

The latest report on 250 UK-based corporates by the Economist Intelligence Unit, prepared in association with RBS, shows that a majority of them see cutting costs with suppliers as a key strategy for increasing revenues and preserving margins:  some 63 per cent of respondents negotiated lower prices in 2009 and 41 per cent hoped to do so in 2010*. However, one of the lessons of the recent crisis learnt by companies is that you can squeeze your suppliers too far – and this can result in putting your own production lines at risk if a crucial parts-supplier goes under. With the corporate buyers starting to change their attitude to strategic suppliers, we can see several tendencies in supply chain management (SCM) that have emerged in recent years:

• switching sourcing to cheaper countries;
• reduction in the number of suppliers and supply chain staff;
• relations between corporates and their remaining suppliers are becoming more cooperative than before the recession.

With companies becoming heavily reliant on their selection of suppliers and close cooperation with them, UK businesses are starting to see SCM well beyond pure price cutting tactics. The survey respondents listed specialist expertise as the second most important consideration when choosing a supplier, after cost. Though financial stability is just the third most important consideration when selecting a supplier, after selection, its financial accounts tend to become the top concern for ongoing monitoring by the buyer. In the past year, UK businesses have seen improvement in collaboration within supply chains and, probably as a result, more accurate demand forecasting and continuity planning then in pre-recession times.

As a company’s national and international operations develop the complexity in the supply chain increases exponentially, with broader geography, more complex products and components, different manufacturing and distribution centres. Yet, we see that frequently supply chains remain decentralised, with no single head, which has a negative effect on their optimisation.

Where international supply chains are concerned, following  natural disasters such as the recent earthquake in Japan, companies have learned the hard way that a predictable supply  with the minimum of disruptions is key to their businesses. We also see big UK businesses being less enthusiastic about sourcing from China than before. Despite output continuing to rise in China, growing wages are threatening the benefit of cheaper labour costs. Also, the competitive advantage that China has because of its undervalued currency may not be available for much longer. This could raise the importance of India as a sourcing channel for UK businesses. Studies show that businesses also expect to source less from North America in the near future.

Though its importance will continue to decrease, local sourcing is likely to remain a highly important channel for UK businesses of various sizes in the next three years.

Market Performance and Supply
Though the concept of supply chain finance was known to the UK market back in 2000, it has started to develop meaningfully since 2005. In fact, for the past six years SCF programmes have taken off considerably. In 2010 – 2011 we have continued to see the market growing as more corporates are becoming aware and recognise that with SCF, it is not only the provision or pricing of a facility that counts, but also the capabilities for both delivery (channel) and supplier on-boarding (programme management). As some of the longer term credit facilities are running off, clients can take advantage of more intelligent re-financing. Though our market is primarily FTSE 350 customers, we are starting to see more demand for solutions by smaller clients.

Some major trade finance banks, including RBS, have been very proactive in having the service ready for clients, even before a client might have realised a need for it. We are now in a situation where companies have been forced by the recession to make their assets ‘work harder’ by focusing more on working capital and creation of liquidity from within the balance sheet. These companies are benefiting from consultative work provided by banks two to three years ago in the development of SCF solutions.

The education process is also reaping results and an increasing number of successful programmes are being implemented by companies now waiting to take the plunge into SCF.

As globalisation on both the supply and market side increases, the complexity of supply chains also grows. A few banks, like RBS, are willing to take the lead to move into the more implementation-intensive structures by going cross-region. Our latest successes have been supplier finance programmes for UK buyers sourcing from Asia. At the same time the importance of local market as a sourcing channel for UK businesses cannot be underestimated. For this reason, some of the larger domestic banks tend to re-engineer their invoice finance (factoring) businesses to process domestic SCF solutions. At RBS, we offer a structurally different approach to SCF, as we can scale domestic receivables finance solutions to a specific country when required.

2010 saw new entrants into the UK SCF market. Although, with the new SCF providers trying to grow their market share, the service’s pricing has come under pressure, and an ability for the financier to make the programme work well (i.e. providing the right facility size, the optimal structure, the easy suppliers on-boarding, superior technological support and flexibility around a client’s needs) remains a vital competitive advantage for the major market players. In fact, we see the flexibility of SCF programmes as key to their success in the current market. Supply chain finance should be easily adapted to the buyer’s set procure-to-pay process, as well as considering the main drivers of the client’s decision to set-up an SCF programme. In this sense, we can say that all successful SCF programmes are ‘tailor-made’.

Non-bank third-party platform providers are also slowly establishing themselves in this space. Banks are still split in their views on IT outsourcing and some will insist on using their own platforms. We believe, however, that the market is diversifying – cooperation will be the name of the game, looking ahead. As such, RBS’ own platform (MaxTrad) is multi-bank enabled and we are running several successful transactions involving the use of third-party technology.

In 2010-2011, we have implemented a number of large SCF transactions for the retail, consumer products, telecommunications, aeronautics, defense and even the software industries. Programmes have ranged from £25 million to £200 million and on-boarded up to 500 suppliers in one chain. For large scale transactions, when the Bank’s risk appetite was near its limit, we have acted as lead arranger, sharing risks with partner banks.
In terms of the client’s priorities, post-shipment financing (including reverse factoring) takes the leading role followed by distribution finance.

Since we are aiming to provide receivables finance solutions for the whole supply chain of a corporate client, the proportion between supplier-centric and buyer-centric solutions offered is roughly 50/50. Though the popularity of buyer-centric SCF programmes is growing each day, they can take some time to start to generate revenue. Supplier-centric solutions are often more attractive as utilisation can hit 100 per cent shortly after launching. As such we see increased activity in that field.

As to the geography of SCF programmes, domestic SCF remains a very important part of RBS business. That share accounts for forty per cent of total SCF volume. Domestic with international solutions (UK corporates with foreign suppliers and distributors) has the same share as domestic SCF (40 per cent). The remaining twenty per cent of turnover is solely international. Though China remains the main source of suppliers, we see markets of origin varying depending on the industry sector. Retailers tend to source from suppliers across south Asia, while the hi-tech sector obtains supplies from European and other Asian markets.

While technology will drive simplicity, ultimately, reducing the complexity in the end-to-end process is key. Typically the buyer will have dozens or hundreds of suppliers. The suppliers may be located in a region where internet connectivity is limited, or they may simply not be interested in utilising technology and demand an ‘easier’ way to receive their funds. As such, a successful SCF application should contain an appropriate mix of hi-tech and grass roots. While the buyer will typically provide online data to the financing bank’s systems, on the supplier side, there will often have to be flexibility to allow for both straight-through-processing (STP) as well as paper interfaces.

Future Trends
We expect the market to continue to grow as a result of both credit refinancing, which frees up capacity for corporates, and a greater awareness of SCF solutions. Additionally, as working capital remains an important part of a client’s financial composition, SCF solutions will continue to be in demand.

As more providers launch SCF offerings, we expect price competition to increase, while at the same time quality of service should remain the key determinant of the customers’ choice.

There is much talk on the market about multi-bank supplier financing programmes, but few banks have fronted models. At RBS, we do have some programmes which are processed by third party providers where more than one bank is the funding provider: In these cases the corporates have opted to mandate two banks simultaneously to cover suppliers in different regions or countries. The thought process behind this is that the better bank gets additional business in the future as the scope of the programme increases.

Article contributed by: BCR Factorscan