ADB-OECD Workshop on Enhancing Financial Accessibility for SMEs

2013/3/7 Session 4

The Role of Factoring for SMEs: Benefits and Challenges

The First ADB-OECD Workshop on Enhancing Financial Accessibility for SMEs Session 4, 7 March 2013, ADB HQ, Manila

Shigehiro Shinozaki
Financial Sector Specialist (SME Finance) Office of Regional Economic Integration (OREI) Asian Development Bank
This presentation was prepared under the authors responsibility. The views expressed here do not necessarily reflect the views or policies of ADB, its Board of Directors, or the governments they represent. ADB does not guarantee the accuracy of the data included in this presentation and accepts no responsibility for any consequences of their use.

Agenda
I. Trade Finance, Supply Chain Finance, and Factoring

II. Factoring Industry in Asia III. Factoring for SMEs: Benefits & Challenges IV. Potential for Factoring in Asia V. Brainstorming on Possible Support VI. Conclusion

ADB-OECD Workshop on Enhancing Financial Accessibility for SMEs

2013/3/7 Session 4

Trade Finance, Supply Chain Finance, and Factoring

Trade finance:
Documentary credit, documentary collection, forfaiting, etc.

Supply chain finance:

A combination of trade finance and a technological platform which connects trading partners and financial institutions and provides various services related to some supply chain events (IFG).

Factoring:
A short-term supplier financing where firms sell their accounts receivable to the factor with/without recourse and in return receive cash-in-advance at a discount from the factor. domestic factoring & international factoring

Trade Finance & Supply Chain Finance

Trade finance is expected to stimulate business expansion. SCF is expected to fill the trade finance gap (42% of banks surveyed). Factoring is a promising SCF instrument for SME suppliers.
Trade Finance & Business Expansion
50 40 30 20 10
Trade finance decrease (%) (%)

Demand on Supply Chain Finance

0% 20% 40% 60% 80% 100%

SCF as a tool for filling trade finance gap

13.0%

29.0%

38.0%

21.0%

0 -50 -10 -20 -30 0 50 100

Trade finance increase (%)

-100

Insufficiency of SCF

8.0%

42.0%

33.0%

13.0% 4.0%

yes somewhat no
Employment Salaries

somewhat yes no

neutral

Valid data: 24 banks

Exports

Imports

Production

Valid data: 95 firms

Source: ADB Trade Finance Program Survey 2012

ADB-OECD Workshop on Enhancing Financial Accessibility for SMEs

2013/3/7 Session 4

Trade Finance & Factoring

fast slow low

Payment Risk

high

Cash-in-advance
Cash Flow

Factoring

Cash-in-advance at a discount

L/C (documentary credit)

D/C (documentary collection)

Exporter

Credit insurance Export guarantee

Open account (deferred payment)

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Factoring Industry in Asia

Growing industry in Asia but small in scale (25.2% of total, 2011)
mil.

Total Factoring Volume

80% 70% 60% 50% 40%

2,500,000

2,000,000

60.4%

1,500,000

1,000,000

25.2%

30% 20% 10%

500,000

2000 2001 2002 2003 2004 2005 2006 2007 2008 2009 2010 2011 World Share of Europe (%)
Source: FCI Annual Review

0% Europe Share of Asia (%) Asia

ADB-OECD Workshop on Enhancing Financial Accessibility for SMEs

2013/3/7 Session 4

Factoring Industry in Asia

Relatively small scale international factoring (12.6% of total, 2011) with decreasing trend in Asia
Domestic & International Factoring
mil. mil.

2,000,000

16%

500,000

30%

1,600,000

World-domestic World-international Share of int. (%)

15%

400,000

Asia-domestic Asia-international Share of int. (%)

25%

20%

1,200,000

14%

300,000
15%

13.6%
800,000 13% 200,000

12.6%
10%

400,000

12%

100,000

5%

11%

0%

2008

2009

2010

2011

2008

2009

2010

2011

Source: FCI Annual Review

Factoring Industry in Asia

Factoring volume & share of intl. factoring different by country Small number of factors in Asia (430, 2011)
mil.

Selected Asian Countries

Domestic International No. of Companies

number

1,000,000

35

100,000

30

25 10,000 20
1,000 15

100 10

10

1
Singapore 2008 Singapore 2009 Singapore 2010 Singapore 2011

Hong Kong 2008 Hong Kong 2009 Hong Kong 2010 Hong Kong 2011

Thailand 2008 Thailand 2009 Thailand 2010 Thailand 2011

Korea 2008 Korea 2009 Korea 2010 Korea 2011

India 2008 India 2009 India 2010 India 2011

Source: FCI Annual Review

Viet Nam 2008 Viet Nam 2009 Viet Nam 2010 Viet Nam 2011

PRC 2008 PRC 2009 PRC 2010 PRC 2011

Taiwan 2008 Taiwan 2009 Taiwan 2010 Taiwan 2011

Japan 2008 Japan 2009 Japan 2010 Japan 2011

Malaysia 2008 Malaysia 2009 Malaysia 2010 Malaysia 2011

ADB-OECD Workshop on Enhancing Financial Accessibility for SMEs

2013/3/7 Session 4

Factoring for SMEs: Benefits & Challenges

Mechanism (domestic factoring):
Traditional Factoring (Recourse/Non-recourse)
S1 A/R B1 S1 A/R B2 S1 A/R B3

Factor A
Advance Sales of goods Payment obligation

SME Seller 1 (S1) SME Seller 2 (S2) SME Seller 3 (S3)

Buyer 1 (B1) Buyer 2 (B2) Buyer 3 (B3)*

Advance S1 A/R B3 S2 A/R B3 S3 A/R B3 Payment obligation

* High quality buyers (large enterprises)

Factor B Reverse Factoring

Factoring for SMEs: Benefits & Challenges

Benefits (domestic factoring):
- Factoring enables SMEs to improve their business efficiency and risk management through; i) cash flow improvement; ii) off-balance transaction; and iii) payment & settlement risk transfer. - Factors do not see SMEs as an underwriting risk due to factorings nature of individual-transaction-based financing. - Beneficial for start-ups, rapidly growing SMEs with weak credit history & no collateral, and SMEs in the emerging economies with less developed commercial laws & regulations.

- Reverse Factoring enables factors to reduce information costs and to finance even risky SMEs (subcontractors).

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ADB-OECD Workshop on Enhancing Financial Accessibility for SMEs

2013/3/7 Session 4

Factoring for SMEs: Benefits & Challenges

Challenges (domestic factoring):
- Factoring is not a universal solution for SME finance.
Short-term working capital financing for enterprises with constant sales to reliable buyers Difficult to fit SMEs long-term funding & capital investment needs Difficult to finance seed-stage entrepreneurs with no sales network

- Factoring takes a catalytic role of leading growth-oriented SMEs to the growth & graduation cycle of enterprises.
Develop a niche market for growing SMEs (targeting)

- Financial infrastructure, e.g., credit risk database, to reduce information cost for factors
Establish an SME credit & business data sharing platform at the national level

- Legal infrastructure for factoring industry

Regulatory framework for independent factors (new entrants)

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Factoring for SMEs: Benefits & Challenges

Mechanism (international factoring):
Trade Finance (documentary credit)
Confirming Bank
Payment obligation/ Confirm L/C Shipping doc. Shipping goods Payment obligation/ Issue L/C Shipping doc.

Issuing Bank
Apply L/C

Shipping doc./ payment

SME Exporter
(seller)
A/R Advance

Importer
(buyer)

Payment obligation

Investigation/ Credit lines

Export Factor

Payment obligation A/R reassigned

Import Factor

International factoring network (IFG, FCI) Electronic trade data exchange platform

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ADB-OECD Workshop on Enhancing Financial Accessibility for SMEs

2013/3/7 Session 4

Factoring for SMEs: Benefits & Challenges

Benefits (international factoring):
- Factoring complements trade finance for SMEs through guaranteeing; i) cross-border payment & settlement (credit protection); ii) individual transactions (SMEs have no disadvantage); and iii) non-L/C based trade.

- SME exporters increase business opportunities, rationalizing the process of supplier financing in terms of time & cost.
- Factoring facilitates SMEs (new entrants) to participate in trade in goods & services (promotion of intraregional trade).

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Factoring for SMEs: Benefits & Challenges

Challenges (international factoring):
- International factoring network
Develop networking of factors so as to match more export factors with import factors (two-factor system)

- Standard-setting on international factoring proportionate to the regional & country context

Different regional & country context, e.g., financial & currency systems, taxation, legal environment, social & political conditions, etc. Harmonize rules with flexibility to meet the regional/country context

- IT infrastructure
Sophisticated electronic trade data exchange (documentation matching) Cross-border SME credit & business data transfer (for one-factor system)

- Risk control mechanism (e.g., A/R securitization) - Fostering factoring professionals (capacity building) - Factoring literacy for SMEs
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ADB-OECD Workshop on Enhancing Financial Accessibility for SMEs

2013/3/7 Session 4

Potential for Factoring in Asia

National Level
Growing further with
Efficiency of Bank Lending
innovation & competitiveness
Financial education

Global Level
SMEs internationalization & promotion of intraregional trade
Trade Finance

-SME informatization -Legal infrastructure -Innovative instruments, e.g., ABL -Credit enhancement, e.g., scoring, guarantee & ABS

Banking Sector Growing SME

SME
Exporter

Importer

Capital Markets VC
Supporting professionals

Non-bank Sector
Factors

Confirming Bank

Issuing Bank

Export Factor

Import Factor

Diversified Financing Mechanism Domestic Factoring International Factoring

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Brainstorming on Possible Support*

For Vitalizing International Factoring for SMEs in Asia Complement of trade finance for SMEs Infrastructure support:
i) Legal infrastructure
- Regulatory framework for new entrants (independent factors) - Standard setting on intl. factoring for SMEs to meet the Asian context - Preferential taxation, etc.

ii) Financial/IT infrastructure

- Sophisticated electronic trade documentation exchange platform - Cross-border SME credit & business data exchange platform (given the harmonized national regulations on data protection in participating countries)

Capacity development:
i) Training for professional factors ii) Factoring literacy for SMEs
* The discussion here is just for brainstorming and does not make any commitments by ADB.

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ADB-OECD Workshop on Enhancing Financial Accessibility for SMEs

2013/3/7 Session 4

Conclusion
Increasing trend of trade in Asia creates more business opportunities for the factoring industry.
mil. $ mil.

6,000,000
5,000,000

2,400,000
2,000,000

4,000,000
3,000,000 2,000,000 1,000,000 2000 2001 2002 2003 2004 2005 2006 2007 2008 2009 2010 2011
World Factoring Turnover (mil ) Merchandise Exports (mil $)

1,600,000
1,200,000 800,000 400,000 Merchandise Imports (mil $)

Source: ADB Key Indicators 2012 and FCI Annual Review * Exports & imports in DMCs (Asia and the Pacific region)

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Conclusion
The majority of enterprises belong to SMEs. Their contribution to export is not so small (e.g., 19-31% of total export values in ASEAN). The more SMEs are internationalized, the more intraregional trade is encouraged. The factoring industry is expected to promote SMEs internationalization & intraregional trade. The more SMEs savings are mobilized through intraregional trade, the more global rebalance is promoted.

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ADB-OECD Workshop on Enhancing Financial Accessibility for SMEs

2013/3/7 Session 4

Thank you for your attention.

For further questions: Shigehiro Shinozaki Financial Sector Specialist (SME Finance) Office of Regional Economic Integration Asian Development Bank Email: sshinozaki@adb.org

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Annex
About ADB:
The Asian Development Bank (ADB) is dedicated to reducing poverty in the Asia and Pacific region through pro-poor sustainable economic growth, social development, and good governance. Established in 1966, it is owned by 67 member nations48 from the regionwho have committed $167.1 billion in loans to the vision of a region free of poverty. With headquarters in Manila, ADB has 30 offices around the world with 2,833 staff from 59 members as of 31 December 2010. ( As of end 2010)

About OREI:
OREI traces its roots to the Regional Economic Monitoring Unit (REMU)established in the aftermath of the 1997/98 Asian financial crisis. It was upgraded and renamed OREI in April 2005, as ADB expanded its role in promoting regional cooperation and integration (RCI) throughout Asia and the Pacific. OREI assists its developing member countries in pursuing open regionalism that serves as a building block to global integration. OREI works toward building a regionally integrated and globally connected Asia and the Pacific by Promoting regional economic policy dialogue in Asia and the Pacific and providing policy advice; Supporting capacity building and institutional strengthening to help ADB member countries integrate both within the region and with the rest of the world; Conducting research and serving as a knowledge and information center on RCI; and Acting as ADBs focal point for regional infrastructure and financial sector development and developing partnerships with regional forums and international institutions. 20

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