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Solving Supply Chain Challenges with Deep-Tier Financing

By Jean-Baptiste Gaudemet
SVP of Data and Analytics

Over the course of the past year, B2B supply chains have been under very cautious observation. The Suez Canal blockage of May 2021 is a clear indicator of how easily global trade can be severely disrupted; when 12% of global trade passes through the canal and an accident with a single container ship is enough to halt $9.6bn of trade per day. Economic and industry observers are expecting new tensions on raw material supply in 2022, as companies stockpile inventory and materials in anticipation of a post-pandemic economic recovery.

Fixing the problem of financing long supply chains will boost trade and support post-COVID economic stimulus policies around the world. The solution lies in the combination of IoT technology and tokenization that is set to revolutionize the provision of financing for the global supply chain.

Problems with Long Supply Chain Finance

Financing the global supply chain has become a major economic problem due to trade globalization and the implementation of industry 4.0 in the industrial ecosystem. The push towards lean management of the supply chain has resulted in the increased financial interdependence of the players within each sectoral ecosystem. As a result, companies large and small are looking for more efficient financing of the supply chain and better management of the associated risks.

All along the supply chain, companies must deal with the common problems of late payment and stretched balance sheets. These issues certainly pre-date the pandemic but they have the potential to impede the much needed, anticipated post-COVID economic recovery. The good news is that the world of supply chain finance is about to be revolutionized by the powerful combination of Internet of Things (IoT) technology and innovative decentralized financing platforms. With an estimated 50 million IoT devices by 2030, the potential already exists to track the movement of goods at each stage in the supply chain. That traceability also offers the opportunity to improve financing along the long supply chains that now characterize so much of global commerce.

Sponsoring a supplier’s credit line and using the invoice as collateral is a well-established way for big companies to help their immediate suppliers. But that reverse factoring approach does not work for a long supply chain, working just-in-time and with the various elements along a very interdependent chain. As a result, many companies remain highly dependent on traditional sources of funding, and their involvement in long supply chains weakens the entire chain and creates greater risk to both buyers and suppliers.

Unlocking Deep-Tier Financing Through NFTs

What is needed is a financing platform that works right along the supply chain, including the SMEs that make up that chain, with the end-buyer providing the ultimate guarantee of payment for all. But this is currently a legal nightmare, involving a mass of separate contracts that make it a non-starter in practice. To solve this, companies need to leverage the power of decentralized finance technology and unlock “deep-tier finance”. Blockchain can achieve this by recording the payment guarantee of the end-buyer in the form of a non-fungible token (NFT). The NFT is passed along the chain, verified at each stage, and allowing the various companies along the chain to prove that they will indeed be paid.

To work, such a solution requires three key elements:

  • A solution to the technical challenge of creating a working NFT
  • A financial mechanism to incentivize suppliers at each stage of the supply chain to pass the NFT on to their own suppliers. That could take the form of a spread coded into the NFT smart contract, for example
  • Effective KYC for all participants at each stage along the chain

The successful introduction of NFTs throughout the supply chain will give buyer companies the opportunity to extend their support from big tier 1 suppliers down to the level of smaller suppliers, deep in the chain, where the benefits of that support are most needed and most apparent.

But it does not stop there. The introduction of tokenization will allow companies to tap new sources of financing once investors see the tokens as a tradeable and therefore investable asset class. At that point, supply chain finance suddenly becomes very interesting to the huge pool of institutional investors, such as pension funds and insurance companies, searching for the spread offered by this alternative asset class. Even though interest rates are forecast to rise in 2022, a credible new asset class in the form of supply chain tokens would be of interest to institutional investors, as evidenced by their rising allocations to private equity and private debt.

As we enter 2022 there are start-ups working on each aspect of a deep-tier supply chain finance solution. Analysts can already discern elements of this new approach in China, which is also leading the pack on the development of a Central Bank Digital Currency (CBDC). This is important because the development of CBDCs will make the management of the invoice token even more efficient. Payment in a CBDC can be self-executed on chain by the invoice smart contract, so reconciliation between the asset custody ledger and the cash ledger will no longer be necessary. These developments represent a genuine revolution in financial technology that will dramatically reduce the cost and accelerate both payment and settlement processing.

First posted on Global Banking & Finance Review:
Solving the problem of deep-tier financing