While the BPO marks a new, exciting era for international trade, companies are advised to think carefully about when to make use of it.
The bank payment obligation (BPO) is a clear sign of the overall direction international trade finance is taking – more automation leading to greater efficiency. The International Chamber of Commerce (ICC) and global financial messaging giant Swift believe it will play a key role in supporting the future development of international trade.
It is essentially a payment obligation between banks that involves exchanging data electronically. It enables faster, cheaper payments and better capital management, and can be used to cover the underlying risk or finance the amount owed.
Businesses started looking at the BPO more closely as an alternative means of trade settlement last year when it was endorsed by the ICC, which issued a set of rules – the uniform rules for bank payment obligation (URBPO).
Companies and industries with advanced supply chains – strong links between buyer and seller and technology systems in place – have already started thinking carefully about BPOs. Early indicators show interest mounting in the energy and commodities sectors in particular.
But Manoj Menon, global head of trade services, innovation and customer proposition at RBS, says: “BPOs are just one trade payment mechanism or trade finance tool among many, including letters of credit (LCs) and guarantees. How useful they are depends heavily on the relationship between the buyer and seller.
“Their main advantage is that they are based on the exchange of data rather than documents, which underpin the majority of today’s largely paper-based trade.
He adds: “They therefore might be right when there is a long-standing relationship between trading partners – so they trust each other – and they want to move away from the time-consuming process of ploughing through documents. On the other hand, less documentation means more risk if anything goes wrong.”
Beatrice Dubroca, global head of product development and delivery platforms at BNP Paribas, agrees. “BPOs still need to find their place between the traditional trade finance tools such as LCs and the open account space.”
“Corporates are starting to show interest in BPOs and are now trying to understand where and how BPOs could be a solution to service their trade flows. It’s too soon to say if this new trade instrument is the next big thing.”
She adds: “A number of clients in different geographies want to do pilot transactions with BNP Paribas to test BPOs as a first step. Yet this can take time as you need to ensure all counterparties are willing to take part – the buyer or seller you’re trading with and their banks.”
Making it work LCs and open account trade were the traditional tools for conducting international trade until about 10 years ago when companies moved towards a direct open account system. This involved buyers agreeing terms and paying when they received the goods, with no banks taken on to cover any shortfall if a problem arose.
Fiercely competitive export markets meant foreign buyers pressed exporters for this form of financing because it was so straightforward. But the financial crisis exposed the inherent risks involved when a payment could not be made. Corporates operating in the open account space moved back to more secure instruments such as LCs and guarantees. Swift set up BPOs as a more secure form of open account trade that could still streamline the process.
When using a BPO, a buyer’s bank commits to paying a specific amount to the seller’s bank if the trade data they submit to a central platform successfully matches up.
That platform is the transaction matching application (TMA) set up by Swift. Banks need to subscribe to this to offer BPO services.
It matches data between banks to the pre-agreed rules automatically, with consistency ensured through the use of a “dictionary” of common data. It is based on the XML ISO 20022 trade services management message type (TSMT).
Dubroca at BNP Paribas comments: “It takes time for banks to invest in their operational set-up to ensure they can deliver BPOs in a straight through processing manner as expected by our corporate clients. Although interest in BPOs is likely to keep growing over the coming months, it’s going to take a little longer before they can be considered an established instrument for trade settlements.”
Businesses should ensure they understand the rules and carefully consider the pros and cons of BPOs alongside the wider mix of trade financing options available. Menon agrees: “Banks will play a critical role in educating customers as to when BPOs can be used as a trade settlement instrument and the benefits of doing so. The onus still remains with the corporate to decide when to adopt them.”
When to use a BPO
Companies might want to use a BPO for their domestic or international trade transactions when they:
Trade with long-term partners using letters of credit and want to switch to something more efficient.
Conduct open account transactions today but want to cover the risk or arrange financing.
Want to extend credit terms so they can try to create new business, or take better advantage of terms such as rebates or discounts.
Deal with trading partners who are moving away from paper or proprietary systems.
Work with new partners and therefore face a greater risk of non-payment – they can use the BPO to cover that risk if they don’t want to use a letter of credit.
The benefits of the BPO
For the seller:
Faster release of buyer’s funds once it’s shown that the seller has shipped the goods. This means faster payments, accelerated cash flow and fewer days sales outstanding.
Less expensive than letters of credit thanks to reduced banking
and handling fees.
No presentation of physical documents required; it takes less
time and resources.
Provides collateral for accessing pre-shipment and post-shipment finance.
Can extend credit terms to a buyer since their bank is now guaranteeing their payment obligation.
Possibility to spread the risk with multiple buyers.
Improved customer offering with more flexible options, which could lead to winning additional business.
For the buyer:
Better payment terms can be negotiated by providing a payment assurance to suppliers.
Achieve early payment to the supplier to make use of discounts or rebates.
Free up banking credit lines thanks to shorter, automated transaction cycles.
Make payments on time and avoid physical supply disruption or judicial proceedings.
Cut confirmation, vetting, presentation and discrepancy fees.
Increase business opportunities with suppliers.