DEEP-TIERSUPPLYCHAINFINANCE

UNLOCKINGTHEPOTENTIAL

MAY2024

DEEP-TIERSUPPLY

CHAINFINANCE

UNLOCKINGTHEPOTENTIAL

MAY2024

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?2024AsianDevelopmentBankandBAFT(BankersAssociationforFinanceandTrade)

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CoverdesignbyMikeCortes

iii

CONTENTS

TablesandFigures

iv

Acknowledgmentsv

Abbreviationsvi

ExecutiveSummaryvii

I.Introduction1

A.Imperative1

B.Challenges2

C.ImportanceofDefinitionsandFundamentals3

II.BuildingtheFrameworkforDTSCF4

A.WhatIsDTSCF?4

B.BenefitsbyStakeholder5

C.HowtoEfficientlyImplementDTSCF6

III.ChallengestoImplementation8

A.LegalConsiderations8

B.CurrencyConsiderations8

C.OperationalandTechnicalConsiderations9

IV.Technology12

V.DTSCFasanESGEnabler13

VI.Conclusion1

5

A.CalltoActionandNextSteps1

5

B.SummaryandConclusions1

5

Appendixes

1

7

1

LegalAgreementsandDocumentation1

7

2

LegalStructures21

3

SummaryofChallengesforDTSCFImplementation2

4

iv

TABLESANDFIGURES

Tables

PotentialBenefitsofDeep-TierSupplyChainFinance5

A1RiskMitigants20

A2SummaryofLegalStructures21

A3SummaryofChallengesforImplementation24

Figures

GeneralFlowchart—Deep-TierSupplyChainFinance5

A2.1LegalModel1—RetentionofPartofPurchaseConsideration22

A2.2LegalModel2—AssignmentofPartoftheRightstotheReceivable22

A2.3LegalModel3—NegotiationofNegotiableInstrument23

A2.4LegalModel4—Tokens23

v

ACKNOWLEDGMENTS

Authors:

AngeliaChia,Partner,Simmons&SimmonsJWSPte.Ltd.

BenjaminJ.Sandstad,SeniorCounsel,OfficeoftheGeneralCounsel,AsianDevelopmentBank

CarmenMariaRamirezOrtiz,RelationshipManager,TradeandSupplyChainDivision,

AsianDevelopmentBank(Consultant)

SunilW.Mascarenhas,SupplyChainFinanceLead,TradeandSupplyChainDivision,

AsianDevelopmentBank

T.S.Shankar,AsianRepresentative,BAFT(BankersAssociationforFinanceandTrade)

Thisguidancenoteistheculminationofextensivediscussionandinputfromvariousstakeholders.Specifically,itdrawsoninsightsfromtheworkinggroupformedbytheAsianDevelopmentBank(ADB)andBAFT(BankersAssociationforFinanceandTrade)composedofAnirudhaPanse(FirstAbuDhabiBank),AnshumanRao(J.P.Morgan),FauziahBintiAhmad(Maybank),GinnieChin(Maybank),GregoireChauliac(BNPParibas),HendrikMialaner(Visa),OlamideOlaofe(LloydsBank),PramodVuppalapanchu(J.P.Morgan),RajaDebnath(CogenceLabs),RajatKhurana(Citi),RiteshAjmani(Mizuho),RuchitaTandale(BankofAmerica),SamikaBiswasroy(DBS),SivakumarKuriyakkattil(FirstAbuDhabiBank),ThiruMutusamy(StandardBank)and,VinayKubatoor(StandardChartered).

Section5ofthisnoteisbasedonananalysisconductedbyShinLiWee,Associate,Simmons&SimmonsJWSPte.Ltd.ThenotehasalsobenefitedfromcontributionsfromfintechssuchasLinklogis,Skuchain,andVeefin,aswellasreviewinputsfromStevenBeck,director,TradeandSupplyChainDivision,HeadofTradeandSupplyChainFinanceProgram(TSCFP),AsianDevelopmentBank,andAlexanderMalaket,seniorspecialprojectsadvisor(consultant)atTSCFPandShinLiWee,Associate,Simmons&SimmonsJWSPte.Ltd.

vi

ABBREVIATIONS

AML

anti-moneylaundering

DTSCF

deep-tiersupplychainfinance

ESG

environmental,social,andgovernance

fintech

financialtechnology

KYC

know-your-customer

MLETR

ModelLawonElectronicTransferableRecords

SCF

supplychainfinance

SMEs

smallandmedium-sizedenterprises

UNCITRAL

UnitedNationsCommissiononInternationalTradeLaw

vii

EXECUTIVESUMMARY

WhyIsDTSCFPotentiallyImportant?

Deep-tiersupplychainfinance(DTSCF)notonlyunlocksfinanceatfavorableratesfordeepertiersinasupplychain,butitpromotesanecosystemoffinancialstability,riskmanagement,andsustainabilitythroughouttheentiresupplychain.DTSCFhasthepotentialtoreshapeandstrengthentraditionalrelationshipsbyfosteringmoreresilient;transparent;andenvironmental,social,andgovernance(ESG)-alignedtraderelationships.

WhyThisGuidanceNote?

Inthisguidancenote,theAsianDevelopmentBank(ADB)andBAFT(BankersAssociationforFinanceandTrade)offerperspectivesonDTSCF,outliningitsfeaturesasanewtechniqueinfinancingtradeandsupplychains.ThenotealsodistinguisheswhatDTSCFisanddoesnotaimtobewhilefocusingonthenecessarydefinitionsandlegalframeworkstoenableitssuccessatscale.ThenotehighlightsthepotentialofDTSCFtobridgethetradefinancegap,driveliquiditytothemostunderservedsegmentsofthetrademarket,andenhancevisibilitywithinglobalsupplychains.

WhatIsDTSCF?

DTSCFisaninnovativefinancialsolutionthathasthepotentialtounlockfinancingfordeepertiersupplierswheresmallandmedium-sizedenterprises(SMEs)areprevalent,asitallowsaccesstofinancebyleveragingthecreditriskoftheanchorbuyer.Atthesametime,DTSCFfosterstransparency,helpsstakeholderstounderstandtheirsupplychains,andsupportsESGinitiativesandfinancingneeds.

ThenoteproposesthefollowingoverarchingDTSCFrequirements:

(i)Financing:mustbefinancingrelatedtoatrade,i.e.,tradefinance.

(ii)Financingmethod:basedonanirrevocablepaymentobligationoftheanchorbuyer.

(iii)Structure:post-shipmenttradefinance.

(iv)Anchorbuyer’ssupplychainlink:goodsorservicesrelatedtotheanchorbuyer’ssupplychain.

ExecutiveSummary

viii

HowCanDTSCFBeScaled?

DTSCFstakeholders,includingbanks,nonbanks,andfinancialtechnology(fintech)companiesadheretoacommoncharacteristic:aplatform-centricsolutionthatfacilitatesconnectivityandtransparencyovertheanchorbuyer’sentiresupplychain,alongwiththegenerationandprocessingofdata.

SeveralfactorsrequirecarefulconsiderationwhendesigningascalableDTSCFsolution,particularlyinthecontextofcross-bordertrade.Theseincludelegalandregulatoryaspects,currencyconsiderations,andimplementationchallenges,suchaslimitedadoptionoftechnologybySMEsandtheneedforproactiveengagementbytheentiresupplychaintofullyunlockthepotentialofDTSCF.

ThisnoteprovidesguidelinesonindustrydefinitionsandlegalframeworksthatcanunderpinsuccessinscalingDTSCF.Itaddressesthreekeychallengestoscaling:(i)increasingawarenessandknowledge,(ii)fosteringinnovationandinvestingintechnology,and(iii)promotingalegalframeworkforDTSCF.

1

I.INTRODUCTION

Deep-tiersupplychainfinance(DTSCF)notonlyunlocksfinanceatfavorableratesfordeepertiersinasupplychain,butpromotesanecosystemoffinancialstability,riskmanagement,andsustainabilitythroughouttheentiresupplychain.DTSCFhasthepotentialtoreshapeandstrengthentraditionalrelationshipsbyfosteringmoreresilient;transparent;andenvironmental,social,andgovernance(ESG)-alignedtraderelationships.

Inthisguidancenote,theAsianDevelopmentBank(ADB)andBAFT(BankersAssociationforFinanceandTrade)outlinethefeaturesofDTSCFasanewtechniqueinfinancingtradeandsupplychains.TheguidancenotedistinguisheswhatDTSCFisanddoesnotaimtobe,whilesettingthenecessarydefinitionsandlegalframeworkstoenableitssuccessatscale.ThenotehighlightsthepotentialofDTSCFtobridgethetradefinancegapanddriveliquiditytothemostunderservedsegmentsofthetrademarket,whileenhancingvisibilitywithinglobalsupplychains.

RecognizingthepotentialforDTSCFtobridgethetradefinancegap,ADBpublishedabriefonDTSCF—thefirstofitskind—in2022atGlobalTradeReview(GTR)Asia,followingwhichADBandBAFTcommissioneddedicatedworkinggroupstoexploreandproviderecommendationsonhowtoscaleDTSCF.1BuildinguponADB’sbriefandoutputsfromtheworkinggroups,thisnotedelvesdeeperintotheintricaciesofDTSCFandprovidesindustryguidanceonwhatisDTSCF(andwhatitisnot),alongwiththenecessarydefinitionsandlegalframeworkstomakeitasuccessatscale.

Thisnoteisnotintendedtoprecludethedevelopmentofotherformsofdeep-tierfinance,includingtheuseofdigitalassetsissuedbyfinancialinstitutions.Theobjectiveistodemarcatethevariousproductsforclarityamongbuyers,sellers,accountingandlegalprofessionals,financialinstitutions,fintechcompanies,regulatoryauthorities,andotherstakeholdersininternationalsupplychains.

A.Imperative

Thecoronavirusdiseasepandemicexposedthefragilityandinefficiencyofsupplychainsthatspanbordersandindustries.Recentmacroeconomicdevelopmentsandgeopoliticaltensionshaveexacerbatedthesevulnerabilities,addingtothecomplexityandfragilityofglobalsupplychains.Moreover,environmentalimpact,unequaldistributionofeconomicbenefits,humantraffickingandexploitation,andthepresenceofhumanslaveryandchildlaborinsupplychains,havebeenbroughtintofocus.Inthisevolvingenvironment,innovativefinancialsolutionsfortheoftenoverlookedandvulnerableinsocietyareessentialtoenhanceoverallsupplychainresiliency.Thisincludesanabilitytorespondeffectivelytounexpecteddevelopmentsandcrises.Supplychainsrundeeperthanjustdirectsuppliers;thesupplierswhooperateinthedeepertiersofsupplychainsarecriticaltotheexistenceof

1ADB.2022.

Deep-TierSupplyChainFinance.

ADBBriefs.No.129.Manila.

Deep-TierSupplyChainFinance

2

thesupplychainandtheproductionanddeliveryoffinalgoods.Moreover,deeper-tiersuppliersarenowundermorescrutinyasbuyersarebeingheldaccountablebyregulators,investors,andconsumersforsocialandgovernancefactorsrelatedtotheirentiresupplychain.Supplierslocatedinthedeepertiersofthesupplychaingettheleastfinancialsupportandareseldomthebeneficiariesoftraditionalsupplychainfinance(SCF).

Financialinnovationisimportanttoaddressfinancinggaps,especiallyforsmallandmedium-sizedenterprises(SMEs).ADB’s2023TradeFinanceGaps,Growth,andJobsSurveyestimatesthattheglobaltradefinancegapreached$2.5trillionin2022,upfrom$1.7trillionin2020.2Althoughthebackboneofmosteconomies,SMEsaredisproportionatelyaffectedbythetradefinancegap,facingmajorchallengesinobtainingthefinancingrequiredtosupporttheiroperationsandgrowtopursueopportunitiesininternationalmarkets.

ThereceivablepurchasecategoryofproductswithinthedomainofSCF,asdefinedbytheGlobalSupplyChainFinanceForum,hasreceivedattentionasatoolforimprovingaccesstofinanceatalowercost,includingforSMEs.Thisisdonebyshiftingcreditriskfromthesuppliertotheanchorbuyer.3Overtheyears,thebenefitsforbothbuyersandsuppliershavebeenevident;itenhancescashflowmanagement,mitigatesfinancialrisks,andoffersmoreaffordablefinancingoptionstosuppliers.Thisnurturesamoreresilientsupplychainecosystem.

B.Challenges

Althoughthereceivablepurchasecategoryofproducts,especiallypayablesfinance,inSCFisfrequentlypresentedastheidealsolutiontobridgeSMEfinancinggaps,ithasnotentirelyfulfilledtheseexpectations.MostglobalsupplychainsinvolvefewerSMEsinthefirstlayer,aslargebuyerstypicallydealwithmoreestablishednames.tier-1suppliers,whichoftenbeganlifeasSMEs,havethemselvesgrown,furtherreducingthepresenceofSMEsamongdirectsupplierstolargeglobalbuyers.SMEsuppliers,duetotheirsmallerscaleandspecializedrole,areoftenfoundinthedeepertiersandarefrequentlyoverlooked.Therefore,SCF’sreceivablepurchasecategoryofproductfallsshortinreachingSMEs.Thechallengesinovercomingtheseshortfallsareduetothefollowing:

(i)Thefocusondirectortier-1suppliers.TheseareoftenrelativelylargefirmswithmorerobustfinancialsandaccesstocapitalcomparedtoSMEs.

(ii)Cumbersomeonboardingprocesses.Scalabilityofsellerorsupplier-ledofferings,suchasfactoring,areoftenhinderedbyonerousonboardingprocedures.Thecostandeffortrequiredtoonboardsuppliers,especiallySMEs,canbeprohibitiveforlenders.

(iii)Legaldocumentation.TheinvolvementofnumerousstakeholdersindifferentjurisdictionsandthevarietyofregulationsapplicabletovariousSCFtechniquesaddcomplexity,especiallyonperfectionofassignmentofreceivables.

2

3

ADB.2023.

2023TradeFinanceGaps,Growth,andJobsSurvey

.ADBBriefs.No.256.Manila.

TheGlobalSupplyChainFinanceForumreceivablepurchasecategory,asdefinedinthe

TechniquesofSupplyChainFinance

,includesreceivablesdiscounting,forfaiting,factoring,and

StandardDefinitionsfor

payablesfinance.

Introduction

3

WhiletheSCFofferinghasevolvedovertheyears,unlockingfinancialsupportfordeepertiersofsuppliersremainsachallenge.DTSCFisonepossiblesolutiontoaddressthesechallengesandunclogtheflowoffinancialsupporttoSMEsinsupplychains.

C.ImportanceofDefinitionsandFundamentals

Aswithanyinnovation,therehasbeenabuzzinthemarketandaraceamongplayerstopresentabreakthroughinDTSCF.AvarietyofproductswithdifferingriskprofilesarenowbeingpresentedasDTSCF.Arudimentaryscrutinyoftheseproductsshowsthatinmanycases,thefundamentalsofDTSCF,asdefinedbythisnote,arenotpresent.Thismeansthecreditriskdeterioratesasonepenetratesthedeeperlayers.4

MostofferingsinappropriatelycategorizedasDTSCFareacollectionoftraditionaltradefinanceofferingsateachlayerofthesupplychain,i.e.,thedirectsuppliertotheanchorbuyer,whobecomesthebuyerforthenextlayerinthesupplychain,andsoon.Thisstructureleadstothecreditriskmovingfromentitytoentity,becomingprogressivelyworseateachdeeperlayerofthesupplychain.Similarly,someotherofferingsprovidetraditionalpurchaseorderfinanceproducts,i.e.,apurchaseorderissuedbyabuyeratthetopofthechainispresentedasalowpaymentriskinstrumentthroughthesupplychainbasedonhistoricalpaymenttrendsinthesupplychain.

Adherencetofundamentaldefinitionsandcharacteristics,asoutlinedinthisnote,iscriticalforsuccessfulDTSCFimplementationandtolockthecreditriskoftheanchorbuyeracrosstiers.Categorizingvariousdeep-tierfinanceofferingswithmarkedlydifferentriskprofilesleadstoconfusion,andpotentiallyhigherdefaultrates,resultingfromaworseningcreditprofiledeeperinthesupplychain.Therefore,differencesbetweenDTSCFandotherdeep-tierfinanceofferingsshouldbeclearlyidentified,understood,andcommunicatedtoavoidanyreputationalrisk,whichwouldimpedeDTSCFscaling.

TheDTSCFframeworkinthisnotewillguidethemarketindevelopingsuccessfulsolutions,especiallyasitmovestocross-bordertransactions,notyetdeployedasfarastheauthorsareaware.Clearandstandardizeddefinitionsandfundamentalswillensurethatallstakeholdersfrombusinesses,financialinstitutions,andregulatorshaveacommonunderstanding,therebyreducingthepotentialforconfusionandmiscommunication.ThismayhelpregulatorsandpolicymakerscreateeffectiveregulatoryguidelinestoensureDTSCFisdeliveredinalegallysoundandtransparentmanner.Thisiscriticaltomaintainthestabilityandintegrityoffinancialmarkets,andtoscaleDTSCFasanimportantinnovationtobridgethetradefinancegapanddriveliquiditytothemostunderservedsegmentsofthemarket,whileenhancingvisibilitywithinglobalsupplychains.

4DTSCFfundamentalsarepresentedinsection2.2.1(DTSCFMechanism).

4

II.BUILDINGTHEFRAMEWORK

FORDTSCF

A.WhatIsDTSCF?

DTSCFreferstotheseriesofpost-shipmentfinanceprovidedbytheanchorbuyertoitstier-1supplierandbetweeneachconsecutivetier,providedbythesupplier(initscapacityasabuyer)toitscorrespondingsupplier(e.g.,atier-2supplierprovidingfinancetoatier-3supplier).Thefinancingarrangementspertaindirectlytothesupplychainandrelatedgoodsandservicesoftheanchorbuyer.Itallowsanchorbuyerstooptimizetheirworkingcapitalbyleveragingtheirpayablesfinancingprogramstoprovidefinancingoptionsfortheirtier-1andnon-tier-1suppliers.5Onthesupplierside,itallowssupplierswithinthebuyer’ssupplychaintoreceivethediscountedvalueofreceivablespriortotheirduedateandtypicallyatafinancingcostalignedwiththecreditriskoftheanchorbuyer,whichisoftenbetter.Thisenablessupplierstoaccessaffordablefinancing,improvecashflow,andincreasetransparencyandefficiencythroughoutthesupplychain(Figure).

DTSCFispremisedonpost-shipmentfinancetofocusthecreditriskontheanchorbuyer,whichusuallyhasabettercreditstandingthanitssuppliers.Inpre-shipmentfinance,considerationshouldbegiventotheperformanceriskofthesupplierandsuchconsiderationislikelytoaffectthepricingofthefinancing.ThisfallsoutsideDTSCF’scoreparameters,asproposedinthisnoteandshouldbepredicatedontheanchorbuyer’srisk,notthesupplier’srisk.AsoneoftheobjectivesoftheworkinggroupwastoclarifywhatDTSCFis(andwhatitisnot),itwasfeltthatpost-shipmentisanimportantparameter.Again,thisisnotinanywaymeanttobeanimpedimenttoinnovationforpre-shipmentfinancing.Buttofullyunderstandandappreciatethenuancesbetweenthedifferenttradefinancingoptions,thedifferentiationofpost-shipmentfinancingisimportant.Infact,theinformationonSMEsprovidedbyDTSCFcouldbeusedbybankstoofferpre-shipmentproductstoSMEs.Theenhancedvisibility,aswellasperformanceinformationprovidedthroughDTSCF,couldhelpfosteradditionalassuranceandconfidencewhentakingonSMEriskunderapre-shipmentfinancingarrangement.

5PayablesfinanceisdescribedinGSCFF.

StandardDefinitionsforTechniquesofSupplyChainFinance

.

BuildingtheFrameworkforDTSCF

5

GeneralFlowchart—Deep-TierSupplyChainFinance

ANCHORBUYER’SSUPPLYCHAIN

Tier-Nsupplier

AnchorBuyer’sIPO

Receivesthebene?tofthe

?nancingabasedonthe

AnchorBuyer’sIPO

IPO=irrevocablepaymentobligation.

aPricedbasedontheAnchorBuyer’screditrisk.

Note:Allpartiesenterintoplatformtermsandconditions.

Source:AsianDevelopmentBank,theBankersAssociationforFinanceandTrade,andSimmons&SimmonsJWSPte.Ltd.

Bank/Financier

Deep-TierSupplyChainFinancingPlatform

Bank:

Partial

paymenttoTier-1

Bank:

Partial

paymenttoTier-2

Bank:

Partial

paymenttoTier-N

Instructionto:

1.Discountpartofthebene?tof

?nancingarisingfromReceivable1

2.Transferpartofthebene?tto

Tier-N

Instructionto:

1.Discountpartofthebene?tof

?nancingarisingfromReceivable1

partofof

arisingReceivable1

partof

to

AGREEMENT

GrantCreditLimit

Paymentatmaturity

Instructionto:

1.Discount

thebene?t?nancingfrom

2.Transfer

thebene?tTier-2

Receivable1

DataonacceptedTier-1

invoices

IPO

Receivable2

partiallyorfullypaid

bydiscountof

bene?tof

Receivable1

AnchorBuyer

Receivable3

partiallyorfullypaid

bydiscountofbene?t

ofReceivable1

Tier-1supplier

Receivesthebene?tof

the?nancingabasedon

theAnchorBuyer’sIPO

Tier-2supplier

Receivesthebene?tofthe

?nancingabasedonthe

B.BenefitsbyStakeholder

ThefollowingtablesummarizesDTSCF’spotentialbenefitsperstakeholder.

PotentialBenefitsofDeep-TierSupplyChainFinance

AnchorBuyerDTSCFhasthepotentialtotransformtheanchorbuyer’srelationshipwithitssuppliers

andtobecomeitspreferredbuyer

?Enhanceresilienceandtransparencyofsupplychains

?EnhancevisibilitytoimprovereportingandmeetingESGtargets

?Possiblyextendfinancingtermswithsuppliersandimprovecashflow

?Improvesupplychainresiliencebyrelievingfinancialpressureonsuppliers,providingaccesstofinanceatafinancingcostalignedwithanchorbuyer’scredit

?Potentiallyreducecostofgoodssoldwithcompetitivefundingrates

?Reducefraudandnonperformanceriskfromsuppliers

?Reduceoperationalcosts

SuppliersDTSCFprovidesalifelineoffinancialstability

?Accesstofinanceatacostalignedwiththeanchorbuyer’screditrisk

?Reduceoperationalcosts

?FacilitateverificationofcompliancewithESGobjectives

continuedonnextpage

Deep-TierSupplyChainFinance

6

Tablecontinued

FinanciersDTSCFhasthepotentialtounlocknewbusinessopportunities

?Expandclientbasebycreatinganewfinancialecosystem

?Mitigatecreditriskinsmallandmedium-sizedenterpriseofferingsbytransferringthepaymentcommitmentandcreditexposuretotheanchorbuyer

?GeneratedatathatmayhelpwithfinancialandESGriskassessmentandmanagement,mitigateotherrisks(suchasfraudordoublefinancing),andreduceoperationalcostsandrisko