The business sector faces a finance gap worth $2 trillion, while businesses around the world are looking to borrow the same amount. But financing companies aren’t helping them. With blockchain, businesses can reach those companies willing to support them, and the technology ensures that everything is transparent and simple. Inês Bragança Gaspar examines how blockchain is moving financing forward.
Almost half the world’s businesses face a credit crunch at any one time. Often an overlooked problem at the very core of the global economy, businesses around the world are typically owed or missing out on $2 trillion to grow and further develop their companies.
Businesses solve these types of trade financing problems with innovative solutions. One of the most common is invoice financing, when a business sells its outstanding invoices to a financing company, like a bank, at a discounted rate, in exchange for immediate cash, or uses the invoice as collateral to receive a loan. Both parties win. The business receives funds quickly, instead of waiting for their customer to pay the invoice. The bank makes a profit on the difference between what they pay for the invoice and what the invoice is worth, which they collect from the customer.
“A range of issues could be addressed by bringing trade into the digital world.”
— Steven Beck, Head of Trade and Supply Chain Finance at the Asian Development Bank
In being tied to an asset with a very clear market value — the value of the invoice — trade financing is one of the safest forms of lending in the world. According to the World Economic Forum, the sector has low default rates compared to traditional commercial loans, credit cards, or student or car loans. Meanwhile, in the rare event that companies do default, there is a “lower time to recovery,” reflecting how it is far easier for the bank to collect the invoice than to sell the assets of a collapsed business or a car, if a car loan never gets paid back.
This method does not, however, solve all the financing issues that companies are confronted with. The business sector still faces a finance gap worth $2 trillion, despite the existence of an industry designed to eliminate the gap. Meanwhile, businesses around the world are looking to borrow a further $2 trillion, but financing companies remain unwilling to grant it, despite the opportunities.
That’s because much of the industry operates on paper, which makes it hard to get information out to every possible financing company who might want to support a business. In the industry today, financing companies still document every invoice manually, which is a slow and highly mistake-prone process. Introducing an intermediary can help, but that can disrupt customer relationships and even be misinterpreted as a sign that a business is facing challenges, which is undesirable at the best of times and unacceptable when the economy isn’t running smoothly.
Emphasising the importance of “transparency and a flow of data,” Steven Beck argues that “there is an urgent need to digitise trade.” Head of Trade and Supply Chain Finance at the Asian Development Bank, which distributes $40 billion in financing per annum across Asia, he suggests that “a range of issues could be addressed by bringing trade into the digital world.”
He affirms that bringing invoices onto the blockchain can help businesses fill the $2 trillion financing gap. Representing paper invoices on blockchain can fully digitise the invoice financing process, making information like how much is owed and by when available to and verifiable by anyone. More broadly, it gives financiers a better understanding of how stable the business is, and a better way to understand the risks. Sharing information can be done seamlessly without blockchain: what blockchain enables is a way to cut out intermediaries that fracture the financing market into multiple fragments. With the information on the blockchain, every company and every financier can know that they are on the same page.
Beyond sharing information in the market, blockchain enables the assets themselves to be transferred with far less friction than traditional processes, by transferring a token that represents legal entitlement to those assets, rather than a traditional contract. In particular, smart contracts can automate the parts of the financing process which can be expressed digitally. For example, compliance procedures and interest payments can be automated, which reduces counterparty risks in the case that other parties in a deal may not fulfil their obligations. This presents a new opportunity to eliminate the trade finance gap, which financing startups like Defactor Labs and XinFin have set up shop to achieve.
Defactor Labs, for example, has facilitated over $30 million in transactions since launching in December 2021. The company is prioritising the development of common standards for real assets on the blockchain with the 2Tokens Foundation. International Token Standardization Association, which counts over 200 financial companies amongst its members, including Deutsche Börse, which operates Germany’s largest stock exchange, is also pursuing efforts to create new token standards. Today, the blockchain financing industry operates on a range of standards and asset types, which makes it harder to create a global, frictionless pool of borrowing and lending opportunities. Defining common rules is critical for the industry to grow.
Meanwhile, other blockchain financing companies have brought their technology to traditional financiers at the heart of the financial system. XinFin defines itself as a “third generation” blockchain, and it’s built for global trade financing. Created in 2017 by Indian entrepreneurs Atul Khekade and Ritesh Kakkad, the blockchain partnered with Tradeteq, a financial marketplace for $46 billion in real assets like private debt and invoices, to integrate their network into the marketplace. “The partnership aligns with Tradeteq’s mission to speed up the distribution of trade finance assets to a broad range of investors,” Christoph Gugelmann, CEO of Tradeteq, said at the time. “Trade finance is undergoing a revolution and decentralised finance will have a key role to play in the future.”
With blockchain, every company and financier can know that they are on the same page.
With the invoice financing company Accelerated Payments, the partnership completed their first blockchain transaction in September 2021. Accelerated Payments CEO Ian Duffy said “this important step completes the chain from investor right through to the recipient with complete transparency, accountability, and liquidity. It paves the way to providing access to a much wider range of funders and beneficiaries, providing a platform that can truly scale globally.”
Ultimately, their vision is to make it easy for any business to use their assets as collateral to receive cash upfront, whether those assets are invoices, inventory, or equity. As the World Economic Forum notes, bringing those assets onto the blockchain gives businesses “access to the capital they need much faster than they would traditionally.” A simple goal, but one that could have a transformative impact for entrepreneurs and businesses in every corner of the globe.
“Trade finance is undergoing a revolution and decentralised finance will have a key role to play in the future.”
— Christoph Gugelmann, CEO of Tradeteq
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