What’s next in Working Capital? Receivables Finance Gains Momentum

Adoniro Cestari

Adoniro Cestari,
Global Head of Trade Finance,

Sanjeev Ganjoo

Sanjeev Ganjoo,
Global Head of Trade Receivable Finance,

As trade finance evolves, the focus seems to be shifting to receivables finance, opening up potential new opportunities for corporate clients and banks to help increase volumes, reach a wider range of buyers and improve working capital efficiency, according to Citi’s Adoniro Cestari, Global Head of Trade Finance and Sanjeev Ganjoo, Global Head of Trade Receivable Finance.

We have seen receivables and sales finance transformed in the past decade and can expect further significant growth and evolution in the 2020s. While geopolitical tensions and a cautious global economy appear to have slowed the pace of trade growth, the value of merchandise trade was up 10% to $19.48 trillion in 2018 while services trade rose 8% to $5.80 trillion1. Trade receivables volumes, on the other hand, are estimated to total just $3 trillion – the opportunities for growth therefore could be considerable.

Currently, around half of receivables finance volumes are derived from Europe. Supply chains in Europe tend to be more concentrated than in other regions, with a smaller number of large sellers and distributors and a large number of regional and local banks focused on the area, which can make receivables finance programs easier to structure and manage.

However, changes in the way both corporates and banks approach receivables finance could mean that Asia and Latin America may enjoy the fastest growth in the coming years. With the trade tariff negotiations ongoing between the US, China and other key major economic blocks (and to a lesser extent Brexit) there may already be key factors accelerating the shift of buying centers and supply chain strategies; especially as some business previously transacted in China may be redirected to countries like Vietnam and to new corridors between and Asia and LATAM, for example. This could push corporates to look for a more dynamic and flexible approach towards supply chain financing schemes.

Corporate priorities have changed

The growth of receivables finance seems to be influenced by a fundamental shift in the role it plays for corporates and the way that banks approach it. In the past, many companies tended to view receivables finance primarily as a risk mitigation tool, while many banks seemed to approach it on a bilateral basis. This was generally conducted on a more transactional level by banks through an individual credit assessment and by corporates on a more opportunistic, or inconsistent basis through several programs which can lag in scale and relevance.

Now, receivables finance may be viewed by many corporates as a means of potentially improving working capital metrics while enhancing commercial terms to increase sales. This change – combined with greater awareness of the benefits of receivables finance – has the potential to enable clients to take a more considered approach to their receivables. At the same time, receivables seems to be rising on the corporate agenda, largely in what appears to be a response to the greater focus on working capital in the post-crisis period.

ROIC (Return on Invested Capital) seems to have gained attention of most CEOs and analysts, and the key component behind the metric is free-cash flow. Therefore days sales outstanding (DSO), working capital efficiency and receivables turnover (which reflect the pace at which receivables are converted to cash) seem to be prioritized as key metrics from the treasury, CFO and CEO. Wall Street and institutional investors seem to be increasingly using working capital as a proxy for companies’ resilience: receivables therefore may have an impact on a company’s valuation and share price performance.

For some other companies and industries, receivables finance or what is often referred to in the industry as distribution finance may be used mainly as a tool to increase competitiveness and help grow sales. Often distributors’ or agents’ ability to sell can be constrained by their access to credit. The agrochemical industry can be a great example where the ability to offer credit for the distributor or the producer to go through the crop season can be critical for the level of sales and margin across the supply chain.

Bank tech and risk distribution can be key

Leading banks are embracing new technology to change how they offer receivables finance. Innovative, robust and scalable technology platforms – that can both onboard and manage buyers via automated online portals – may be essential if banks are to accommodate growth in volumes and the number of buyers. Banks platforms may now potentially integrate seamlessly with corporates’ enterprise resource planning systems, aiding to increase corporates’ comfort with receivables finance. While such functionality may have been common in relation to supplier finance programs for years, it has only started to develop in the receivables finance industry relatively recently.

Most importantly, many banks appear to have shifted from a bilateral approach to risk, where they essentially tend to screen a corporate’s largest and strongest buyers and consequently often leave out weaker and smaller companies, to a portfolio approach. By adopting a more broad-based portfolio approach, banks may potentially expand the range of counterparties that can be reached by the receivables solution and work to capture a far greater proportion of the corporate’s buyer universe, helping maximize the working capital and sales benefits that can coincide with receivables finance.

Many banks have been able to grow the receivables finance market and have shifted to a portfolio approach not just because of new technology but also because they have nurtured a new investor base for receivables assets. By distributing risk, banks may dramatically increase the volume of receivables finance available: Citi now distributes around 50% of the receivables generated by its clients’ programs – potentially doubling the total market of receivables finance available.

At the forefront of receivables finance

Citi has long supported companies’ receivables finance programs and has invested heavily on the transformation of the solution in recent years, working towards building a powerful digital platform to help act as a bridge between fragmented receivables and investors. In 2018, Citi financed and structured a total of $100 billion of receivables, reaching a total of 3,500 buyers (many of which were small and medium-sized enterprises that are often most in need of cost-effective finance).

While some banks operate a similar model, Citi’s crossborder and multi-currency capabilities can help align with corporates’ international buyers across 75 jurisdictions. In addition, many national or regional banks often utilize credit insurance to support their clients’ programs, increasing cost and complexity. While Citi strives to explore working with insurance providers to expand the scope of a solution to more challenging jurisdictions or credit ratings, the bank’s large balance sheet and distribution capacity can help minimize the need for this. This could create the potential to support larger programs for clients to help more effectively monetize their balance sheets and reach a wider range of buyers.

Citi has spent many years working with a wide range of investors, which it usually operates with in the backoffice behind its platform. Now, Citi has helped support more than 70 financial institutional active investors in our programs while also working to secure some complex deals, which include private equity firms and hedge funds as well as investors. Trade receivables are more and more becoming an asset class that seems to attract attention from investors. The increasing demand for receivables may be driven largely by their short duration (typically 30-60 days though some seasonal sectors, such as agri-chemicals, which can extend to one year), and the potential to link to high-quality counterparty risks and structural credit enhancements. Citi, when necessary, aims to structure receivables using different kinds of techniques including multiple tranches of risks such as senior, mezzanine and equity, to help provide the customer with programs, which should be sustainable and scalable.

The scale, efficiency and diversification benefits Citi aims to deliver with this portfolio approach and the consequent potential increase in receivables volume have been instrumental to our efforts to help create a diversified pool of investors. Around 50% of the receivables generated by Citi clients’ programs are now distributed to investors; significantly more than a few years ago. Distribution matched with technology not only helps free up Citi’s balance sheet capacity and enables the bank to support more clients’ receivables goals, but in several cases, also may allow our customers to invite other relationship banks to participate on their Receivables program fronted by Citi.