Micro, Small, and Medium Enterprises (MSMEs) are often considered the backbone of the Indian economy, and they account for approximately 30% of India’s GDP and employ close to 111 million individuals.
The COVID-19 pandemic posed many challenges across industries and disrupted supply chains. The current Russia-Ukraine war and periodic lockdowns in China have added to the woes of MSMEs, which also struggle to be a part of the traditional financial ecosystem.
Supply Chain Finance (SCF) offers a lifeline to this sector in these difficult times. In this blog post, let us discover how it can benefit the stakeholders and explore ways to improve its efficiency.
What Is Supply Chain Finance and How Does It Work?
SCF is a short-term working capital arrangement where an enterprise gets its supplier payments financed by an external financier. Supply Chain Finance involves three stakeholders: the supplier or the seller, the buyer and the bank or the financial institution (FI) that offers finance.
The business owners or suppliers sell their high-value invoices to a financial institution at a discounted rate to avail of short-term credit for meeting their working capital requirements. Buyers agree to approve their suppliers’ invoices for a lender to finance the operational capital requirements of a business.
SCF is available both in online and offline modes. Therefore, suppliers can raise invoices online on the dealers to avail credit instantaneously. The supplier and buyer benefit from this arrangement; the supplier gets faster access to funds owed to them, while the buyer gets more time to repay the dues.
On the due date, the buyer pays the financier the total price, and the FI gains from the difference between the discounted price paid to the seller and the total price received from the buyer.
How Supply Chain Finance Benefits All Stakeholders?
Supply Chain Finance benefits all three players of the ecosystem. The lenders are bullish about this mode of financing owing to the benefits it offers to all three participants paving the way for greater acceptance across the MSME sector.
1. Advantage To Suppliers
Here are some advantages Suppliers can avail of from SCF:
- Suppliers receive immediate cash in hand against their unpaid invoices. Even though, at a discount, suppliers gain from instant liquidity.
- SCF also results in reduced Days Payment Outstanding (DPO) for the supplier and eliminates the need for follow-ups for collecting payment.
- They receive funds before the invoice due date and can utilise them for their working capital needs or pay other liabilities.
- The supplier can use this process with other buyers to rotate funds more times within a year and increase their business turnover.
- SCF offers them credit at lower rates compared to working capital loans, thereby reducing their finance costs.
- Automation of systems helps them reduce operational costs.
- The cash flow is streamlined, smooth and becomes certain.
2. Benefits to Buyers
Supply Chain Finance can help buyers in the following ways:
- The buyer is relieved from the pressure of paying within 30 days as he gets an additional 30 days to make the payment.
- A longer time for invoice payment gives the buyer more flexibility to use the available working capital till the payment due date.
- SCF offers the benefit of reduced cost of goods purchased.
- As payment is not an issue, suppliers are willing to provide a regular supply of goods, which ensures smooth operations.
- It also fosters a stronger supplier relationship by providing a smooth working capital flow.
3. Helping the Lenders
Lenders can avail of a few benefits, such as:
- Supply Chain Finance allows lenders to diversify their risk.
- Lenders can utilise their underused funds to generate income through interest.
- Their collaboration between sellers and buyers helps them increase their customer base and improves the opportunities for cross-selling products.
Why Are Lenders Bullish On Supply Chain Finance?
In light of adverse geo-political situations, businesses have been forced to look for innovative solutions to deal with rapidly changing market dynamics. Lenders have spotted a viable growth potential in the SCF model. It has helped organisations overcome their working capital woes while benefitting suppliers and assisting the FIs to diversify their risks and expand their operations.
The Supply Chain Finance sector is poised for a paradigm shift owing to digital adoption and technological advancements. Cash, as we understand, is the lifeline for any business and the working capital finance gap is a concern for most organisations. Automated cash inflows and outflows would help enterprises preempt and manage working capital gaps more efficiently.
Role of Technology in Supply Chain Finance
1. Leveraging AI and ML-enabled Fintech Solutions
Artificial intelligence (AI) and Machine Learning (ML) provide real-time projections on changes in payment patterns which helps businesses take timely action to avoid a cash flow crunch.
Fintechs are offering cost-effective finance to MSMEs by leveraging technology. Customised ML models and alternate data points for assessing creditworthiness are helping NBFCs, and banks gain better insights into repayment patterns and predict defaults. AI and ML algorithms offer dual benefits: indicate defaults and identify potential financing prospects.
2. Deploying LMS
Innovative solutions like a Loan Management System can help lenders manage multiple loan types and varying repayment frequencies and assist in non-performing asset (NPA) management.
Emerging technologies like blockchain can promote the spread of supply chain finance to cross-border trades. As multiple players are involved in such transactions, the validity of shipments becomes a cumbersome task. Blockchain can help do away with a central authority to help make the process seamless and increase transparency for all players.
As Supply Chain Finance emerges as an alternative financing model, the contribution of MSMEs to the economy will rise further and drive India’s inclusive growth story.
Few Opportunities In Supply Chain Finance
- E-commerce can help lenders support multiple supply chains.
- FIs can fund backwards and forward integration along the value chain by adopting an integrated approach.
- Underserved market segments like consumer durables, commodities, electricals, FMCG, and agro-industries hold great potential to fund their supply chains.
- Digital platforms and automation allow FIs and stakeholders better system integration and information sharing.
- Implementing a digital SCF platform offers benefits like automation, risk mitigation, tracking, and monitoring the end-to-end supply chain.
With Supply Chain financing, MSMEs can access working capital at a lower cost and reduce their dependence on informal channels. It stimulates the growth and development of the sector by providing uncomplicated access to finance.
Finezza’s intuitive product suite comprising Loan Origination Software and Loan Management Software focuses on facilitating faster and more efficient loan management to assist financial institutions and other lending ecosystem stakeholders in monitoring and managing credit applications, processing KYC documents more quickly, and streamlining the entire lending process.
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