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Blockchain sets the Future of Deep-Tier Finance

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By Arun Poojari, Co-Founder & CEO, Cashinvoice

In 2008, blockchain, a revolutionary technology, reshaped transaction, and digital record-keeping paradigms. Originating with Bitcoin, it has now broadened its applications, displaying significant potential across industries. Blockchain is a decentralised, distributed digital ledger ensuring immutable records, requiring network-wide consensus for retroactive alterations. The global blockchain technology market, valued at $11.14 billion in 2022, is expected to surge from $17.57 billion in 2023 to a remarkable $469.49 billion by 2030. This robust growth represents a CAGR of 59.9% over the forecast period.

Blockchain emerges as an optimal remedy for challenges faced by Small and Medium-sized Enterprises (SMEs). The World Economic Forum asserts that blockchain can bridge the global trade financing gap, offering SMEs a tool to enhance their global supply chain operations.

How Blockchain Technology Improves Deep-Tier Financing

Blockchain technology significantly improves deep-tier supply chain finance (SCF), offering smart contracts, immutability, transparency, and traceability. It has transformed SCF by streamlining processes and enhancing trust among stakeholders. Blockchain’s decentralised and secure nature has led to widespread adoption by financial institutions and banks. This adoption aims to reduce operational costs, manage risks more effectively, and promote the growth of small and medium-sized enterprises (SMEs).

In deep-tier finance, smaller suppliers often struggle to secure finance due to limited collateral and complex supply chain relationships. Blockchain’s advantage lies in its ability to tokenise payment obligations, offering SMEs lower interest rates and improved access to financial support. Moreover, industry pioneers are exploring blockchain’s potential, highlighting its transformative role in SCF.

Let’s consider the case of South Korea’s tech giant Samsung Electronics Co. as an example, which has used blockchain technology in its deep-tier financing process. The company has established a $450 million fund with local banks to facilitate tier-1 suppliers in borrowing the necessary funds to make payments to tier-2 suppliers. Tier-1 suppliers can borrow an amount equivalent to their monthly payment to tier-2 suppliers, with the option of an interest-free loan for up to one year, extendable to two years. This technology aims to enable tier-1 suppliers to pay tier-2 suppliers within 30 days of receiving the delivery without incurring financing costs for tier-1 suppliers.

Benefits of Blockchain Technology in Deep-Tier Financing

In a standard supply chain, the challenge of securing finance increases as the size of suppliers gets smaller within the system. Banks typically prefer working with Tier 1 suppliers due to their larger scale, availability of comprehensive information, and robust financial liquidity. Conversely, Tier N suppliers situated further down the supply chain encounter difficulties in accessing financial support. These smaller suppliers hold limited collateral, and establishing a direct link with the anchor buyer is complex.

Financial institutions use digitalisation to address this issue by converting the anchor buyer’s accounts payable into a digital payment obligation. When Tier N supplier receives the digital payment obligation, they get three options: they can retain it until it matures, allowing the anchor buyer to make the payment as scheduled; alternatively, they can pass it on either entirely or partially to the next-tier supplier; or they can choose to discount it at a bank for immediate financing.

Blockchain’s advantage lies in its divisibility. When Tier N suppliers receive split digital payment obligations, they still benefit from the anchor buyer’s high-quality credit. SMEs receiving these digital payment obligations can access finance with lower interest rates and enhanced accessibility. This solution particularly helps SMEs in the second or third tier of the supply chain who may struggle to qualify for individual financing. Their participation in the deep-tier financing model enables them to secure finance swiftly, greatly improving their financial availability.

Blockchain and Smart Contracts Tokenise Payments in Deep-Tier Financing

Things become intriguing with the integration of technologies like blockchain and smart contracts. Smart contracts are lines of code on a blockchain that run automatically and have set rules. In simple terms, they guarantee that everyone gets paid as promised. Smart contracts and blockchain technology combine to convert sellers’ receivables from creditworthy buyers into digital tokens. These tokens are collateral, empowering funders to finance companies throughout the supply chain. This means sellers can access financing at attractive rates, often costing less than 10%.

Numerous FinTech platforms have adopted tokenisation, wherein financial assets like invoices, purchase orders, or inventory items are transformed into non-fungible tokens (NFTs). Subsequently, suppliers receive a substantial portion of the asset’s value, typically from 80% to 90% for invoices, in the form of stablecoins or native tokens. Once the buyer’s payment is successfully processed, the supplier obtains the remaining value, with the platform charging its fee. Furthermore, some platforms enable finance to settle payments to upstream suppliers instead of opting for direct payments.

While this process may resemble traditional factoring mechanisms, including blockchain technology, it offers significant advantages. Firstly, the decentralised finance (DeFi) platform is substantially cheaper than traditional lenders due to its lower labor and operational expenses, resulting in affordable fees for suppliers, according to an International Monetary Fund (IMF) study. Secondly, buyers benefit from real-time visibility into their deep-tier supply chains, enabling early detection of an issue to enhance security. Lastly, blockchain expedites the entire transaction process with lower friction. Undoubtedly, blockchain technologies are reshaping the landscape of trade credit, with transformative potential already evident in various sectors.

To Encapsulate

Integrating Blockchain Technology (BCT) within the Supply Chain Finance (SCF) ecosystem is driving significant improvements. It enhances transparency, enables more accurate credit risk assessment, encourages buyer-supplier relationships, and introduces various financial instruments suitable for suppliers at all tiers. Furthermore, it streamlines Working Capital management through automated, cost-effective processes. As blockchain technology continues to evolve, businesses seeking competitiveness and innovation in the ever-changing landscape of supply chain operations must embrace its potential in supply chain financing. This fusion of BCT and SCF elevates overall supply chain performance and fuels individual participants’ growth. The ongoing development of BCT holds the promise of global trade standardisation, expanding the SCF processes.

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