Banks! Don’t Wait for Corporates to Ask about Bank Payment Obligation

SMALL- AND MEDIUM-SIZED BANKS generally prefer to market their traditional trade offerings – products like letters of credit – while larger banks often aim at fulfilling the supply chain finance demands of their corporate customers. As a result, there is a remarkable lack of focus in marketing one of the most exciting innovations in Trade Finance: the Bank Payment Obligation (BPO). Why is this?

Thanks to mandatory compliance and due diligence requirements, letter of credit (LC) pricing has been on the rise and is expected to be driven even higher by the impact of Basel III. Banks have struggled to stay competitive due to the high cost of managing these required checks thanks to the physical nature of LC documentation, which causes delays and increases complexity for traditional letters of credit. This also adds considerable strain to corporate customers' operating processes and inhibits their suppliers' access to working capital. As a result, many banks are watching their LC business shrink as customers move to alternative – yet riskier – processes such as open account. This strain will also be felt more by the small and medium-sized banks that will struggle to find ways to combat the client drain.

BPO to the rescue
The BPO offers a solution that could potentially counteract the impact of this shift. The BPO occupies the sweet spot between the LC and open account/ supply chain finance arrangements. Specifically, it provides the risk mitigation and access to liquidity typically associated with a LC, yet it also brings many of the operational efficiencies of open account. The BPO can potentially help buyers and sellers increase their transactional volume and improve processing speed while reducing transaction cost. BPO is a natural choice for those clients looking to venture from letters of credit towards open account structures without the complexities of establishing a full-fledged supply chain finance program.

Despite this, many banks are on the fence about whether or not to adopt the BPO, waiting for their customers to start asking about the BPO before making the strategic decision to invest in this new wave solution. In many cases, this hesitancy is not driven by a lack of client demand, but rather by internal concerns that the BPO will cannibalize their existing trade business. It undoubtedly will – but the alternative is to lose that customer to a riskier, "bankless" open account process, or to another bank already offering the BPO – and once that happens, it is already too late.

More than 50 banks have adopted BPO, according SWIFT1, but industry observers expect that number to rise – sooner than you may think. In April 2013, the International Chamber of Commerce (ICC) Banking Commission published the first version of the Uniform Rules for Bank Payment Obligations. Although the supporting technology and accompanying rule book have been in existence for several years, the ICC BPO rule book brings a new level of standardization and clarity, and a new drive for broad industry acceptance.

Latent adoption
The business case for banks to adopt BPO is compelling: it allows them to better compete to retain their LC clients who are looking for cheaper and more efficient ways of facilitating their cross-border trade business. SWIFT – owner of the technological backbone on which BPO functions – has actively marketed BPO to the banking sector, and had assumed that demand for the required technology and BPO would rise rapidly and justify the expense that banks incur in BPO adoption. But this uptick in demand has not happened, meaning that many banks aren't adopting it or even talking to their customers about it – and there are reasons for this foot-dragging besides the wait for published standards.

Many banks struggle to identify the members of their customer base already using open account. Others are afraid to mention BPO to their LC customers at all until they've created the infrastructure necessary to support it. They don't want to go out of their way to move those customers away from LCs, even though they may already be considering it – a classic chicken/egg dilemma which ultimately slows the development of the BPO product and network.

Leading the future
Regardless of these concerns, it is crucial that banks initiate the BPO conversation by suggesting a possible move towards open account with their most important trade customers. The benefits to the banks themselves are great. BPO and the required technology bring a level of technological streamlining and efficiency that many banks lack today. BPO allows customers to move away from labor intensive LCs, and toward a risk mitigating, liquidity enhancing, lowmaintenance trade solution that is less expensive for the bank to provide. BPO also makes trade finance options available to those already trading on open account terms, yet for one reason or another are not a suitable match for a supply chain finance program. Most importantly, BPO allows a bank to retain clients that might otherwise go elsewhere – making it crucial for banks to engage their customers in conversations about the future of trade.

Bank executives should work to get a picture of the appetite for BPO within their local market. First, they should evaluate and analyze the open account activity within their universe of clients. Next, they should engage LC customers in conversations about whether they're planning to move to open account, and they should explain the benefits that BPO could bring. By gauging the level of interest, banks can quantify the evidence to support a compelling business case that fits their particular business model, with the confidence that they'll have a customer base waiting for it.

By overcoming the internal roadblocks to BPO adoption, banks can incorporate this tool into their product mix and begin to actively reach out to clients as an advisor, providing a truly comprehensive set of Trade Finance options and offering a beneficial path forward for both the corporate client and the bank itself.

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