HOW CHANNEL FINANCING IS SPEEDING UP THE PAYMENT PROCESS FOR SHIPPERS
When U.S. tech companies sell their products overseas through far-flung distributors, there’s often a long lag time between the moment they send the product on its merry way and the joyful moments when payments for the goods arrive from these distant sellers.
It’s not that the resellers are trying to evade payment. Often, they are small businesses that don’t have much access to credit and are waiting for their own clients to buy the products from them to in turn pay the vendor. While vendors may understand their predicament, it can be hard to wait for 60 days, 90 days or more to finally get a check from a reseller while facing their own looming bills, like paying rent or making payroll.
Enter channel financing. In this arrangement with a bank, a vendor issues an invoice to a reseller or a buyer and gets paid for it—minus the bank’s charges for financing the transaction—as early as the same day, with the money coming from the financing institution. The bank, as the middleman in the transaction, receives a payment from the reseller or the buyer in an agreed-upon period, such as 60 to 90 days. The idea is to make it possible for vendors to sell their products to distant distributors with little access to credit, whose slow-moving payments might otherwise lead to a cash-flow crunch for the vendor. In some cases, a vendor wants to insulate its network of buyers from local market conditions that could limit their ability to purchase its goods.
“It is really end-to-end financing,” says CPA Bill Braunberger, a partner at Moss Adams, an accounting and business consulting firm headquartered in Seattle, Wash., who has arranged channel financing for his clients.
Channel financing has picked up steam in the past decade, as banks have made a push to offer customers an alternative to letters of credit, which some customers grouse cost them too much.
“Banks are doing this in response to the fact that their letter-of-credit volumes are going down, as customers move to open accounts,” says Michael McDonough, senior vice president and head of Product, Global Trade and Finance Receivables at HSBC Bank USA, N.A. “There is a view in the market that letters of credit carry fees that can be done away with. Banks are looking to re-engage in the space, with a more modern, technically sophisticated solution.”
At Wells Fargo, says Steven Hopkins, senior managing director of Supply Chain Finance at Wells Fargo Capital Finance, “There’s been growth every year.” Some of that uptick in channel financing has come as a result of acquiring two institutions that offered the product: Wachovia Bank and Castle Pines Capital, acquired in 2008 and 2011, respectively.
One advantage of channel financing is that it can be used to simplify a complex web of financial relationships between vendors and their resellers and distributor. Another benefit, notes Braunberger, is that it can help vendors deal with currency risks. Banks employ specially tailored, high-tech systems to keep track of the transactions going on. “This is very much a living and breathing, dynamic financing business, with an awful lot of activity,” says Stephen Elson, managing director, supply-chain finance at Wells Fargo Capital Finance.
That said, channel financing isn’t ideal for every business involved in international trade. It is generally structured to meet the needs of small and midsize companies that work with multiple distributors who can’t pay swiftly for goods purchased. The idea is to make these relationships more sustainable for both parties. “If the vendor chooses to subsidize the resellers, it could represent a very attractive package for the resellers, compared to their own bank line of credit or capital,” says Elson.
Conceivably, some well-capitalized vendors could extend trade financing to their distributors without the added cost of having a bank act as a middleman in the financing. Like other short-term forms of financing, channel financing costs more than, say, a business loan guaranteed by the U.S. Small Business Administration. “It is short-term working capital,” says Elson. As such, it is a little bit more expensive.
Channel financing tends to be best for substantial-sized small businesses and midsized firms. The typical reseller credit line for a vendor sponsored channel financing program at Wells Fargo is $3.5 million to $1 billion, according to Hopkins.
And if slow payments from resellers are not the reason for the cash-flow crunch you are experiencing, this product may not help you resolve your problems. “It gives the buyer more time to make a payment and the seller gets their cash faster,” says McDonough. “Both parties achieve the goal of working capital optimization.”
Is channel financing right for your company? Here are some key factors to consider.
What are your business goals? Banks involved in financing international trade for small and midsize firms typically offer a suite of products aimed at exporters, so it is a good idea to talk with your accountant or banker to find out if channel financing is actually the best option for you. It is generally marketed to companies that want to provide financing to multiple businesses that are important sales channels for a product. Usually, channel financing is tailored to vendors with recurring transactions with their resellers, say experts.
“Banks have tended to try to look for flows of transactions, where there’s a regular flow of business between a buyer and supplier, whether cross-border or in the same country,” says McDonough.
An exporter that needs to finance receivables from overseas customers who fit a different profile might be better served by other options. For instance, in trade receivables financing, an exporter that sells its wares or services to one or two big corporate customers abroad might get an advance from a bank against the value of receivables from those customers. The rates for the advance would be based on the credit profile of the corporate Goliaths, which is generally far better than a small vendor’s.
What is your industry? At Wells Fargo, channel financing is increasingly used by tech firms that rely on networks of distributors. “We identify those vendors we’d like to build a relationship with,” says Hopkins. Typically, the vendor, which becomes the sponsor for the program, will then identify channel partners to which it will be sending invoices it would like to finance through the bank to get quicker payments.
Other banks make channel financing available to businesses trading in a variety of industries. For instance, in one case, Braunberger secured channel financing through a bank for an electrical products maker with joint-venture partners in China. (Channel financing is also available in many cases for domestic transactions.)
Is the price right? Using channel financing requires the vendor to pay a combination of interest and transaction fees, so it is important to figure out if using it ultimately helps you sell enough of your products for it to pay off.
The rates you pay for channel financing vary, but, notes McDonough, “it is all based on the buyer’s credit risk.”
To picture how this plays out, envision that you are a small tech firm selling to value-added resellers overseas and need to finance a $100,000 invoice that you have sent to one of them. The buyer of your products—that is, the resellers—promises it will pay the bank in 90 days. “I might pay the exporter $96,000,” explains McDonough. “The bank would be willing to advance that money to the exporter today. The $4,000 becomes my fee for giving the exporter the money 90 days early.” There would be no cost to the resellers. However, if the resellers did not have excellent credit, the cost of financing could rise. The bank might charge $6,000 or $7,000 for the same-size transaction.
Banks also consider other factors in pricing, such a program size and the size of transactions, notes Hopkins. But bear in mind that the cheapest deal may not always be the best. Channel financing isn’t easy to wrap your mind around at first—and you need to understand its ins and outs to use it successfully.
“If you are new to this vertical financing arrangement, don’t get too caught up on the cost,” advises Braunberger. “Look at the services. There is a huge education process associated with it.”
Settling In Asia