Trading Places: Trade Finance, Where Backers Agree to Buy Up a Commodity While It Is in Transit, Is Getting a New Lease of Life-As Finance Directors Look for Alternatives to Traditional Forms Lending, Says Alex Hawkes
Hawkes, Alex, Financial Management (UK)
Britain's disillusion with banking grows by the day. As crisis follows crisis, and the banks pull in their horns to deal with piles of bad debt, beaten-up SMEs complain bitterly of a lack of lending and mis-selling of complex financing arrangements.
But, in the midst of the gloom, an opportunity could be emerging. The old-fashioned art of trade financing, along with other forms of alternative finance for businesses, is beginning to flourish again.
Banks are being spurred by regulation towards more tightly-drawn types of finance, including trade finance. New entrants, meanwhile, are hoping to fill the broader gaps left by the banks in financing SMEs that cannot get overdrafts on the terms that they used to. And the broader need to rein in working capital as the downturn bites is opening up further opportunities for innovative financing.
Trade finance is by no means a new concept. William Tebbit, commercial director of Trade Finance Partners (TFP), describes it simply as "old-fashioned merchant banking".
The principle is simple--a customer has an agreed order from a big company, but for whatever reason cannot pay a deposit for the raw materials required.
This is where the trade financier steps in, taking on the financial risk of buying the raw materials with the agreed order as its security.
It is, in one sense, merely greasing the wheels of world trade. But it is also proving to be increasingly popular.
"There's a real squeeze on SMEs. Banks simply aren't lending to small businesses," says Tebbit.
Without overdrafts and bank loans provided in the usual way, trade finance can step into the breach. TFP started providing finance in earnest last year and made a profit in its first year of trading.
It turned over [pounds sterling]12.3m in the year ending March 2012, recording a pre-tax profit of [pounds sterling]103,825.
It is aiming at the SME market. Backed by alternative fund management company The City of London Group and by Australian bank Macquarie, Tebbit and his colleagues aim to finance deals where the solvency of the end customer is not in any doubt.
"One of our clients is a clothing manufacturer. He had a large order to fulfil from Argos to catalogue and online retailer] for a new range of baby clothes, but was unable to pay deposits or to open letters of credit."
"So we placed the orders with the factories, issuing a letter of credit to guarantee that they will get paid," Tebbit says, describing a typical deal.
TFP has put up cash for trades involving pizza boxes for Pizza Hut, car batteries and recycling equipment. It makes its money on a mark-up--buying the goods from the supplier for [pounds sterling]100, say, and selling them to its customer for [pounds sterling]106.
Tebbit also says that while TFP recorded sales of [pounds sterling]12m last year, "it is running a lot hotter this year".
Others agree that they are seeing a resurgence of interest in trade finance, but not always for the same reasons.
Maurice Craft, ex-chair of the Asset Backed Financing Association and managing director of Regency Factors, another trade finance provider, pinpoints new regulation as a key driver: "The banks, since the imposition of the Basel capital rules, have found that provision of overdraft facilities, traditionally the lifeblood for business, has become 'expensive' in capital adequacy terms, and have thus tried to steer their facilities offered to less 'expensive' products, such as invoice finance and leasing for capital equipment."
John Bevan, Barclays head of trade and working capital for the UK and Ireland, agrees that the regulatory changes have driven banks towards trade finance: "From a bank's perspective, trade products are structured. Therefore, they are much more efficient from a capital perspective. We can provide more [of them] and at a better price. …