In the leafy month of June: A blockchain yikes for bank financing of SME trade?
Blockchain was heralded and hyped as a great hope for SMEs accessing trade finance. Now, with a couple of failures of prominent solutions, questions are being asked. Wagons have circled, but will there be wider implications of the We.trade and Serai wind-ups on bank and non-bank finance for trade, and are there bigger long-term problems for financing trade?
“In the leafy month of June,” appears in Samuel Coleridge’s poem, ‘The Rime of the Ancient Mariner,’ as a lull between more challenging events. June has been a difficult month for the image of trade finance blockchain, particularly for bank-led consortiums, especially for solutions touted as an answer to the challenge of funding SMEs who face the chasm of the trade finance gap.
On 7 June, We.trade started insolvency procedures in Dublin. The joint-venture company, owned by 12 banks and IBM, was licensed by 16 banks and was one of the first enterprise blockchain consortiums to offer trade finance. Later the same week, Serai, HSBC’s own subsidiary that operated as an online B2B trade platform for SMEs with a blockchain element (also set up in 2019), folded, a month after its founding CEO Vivek Ramachandran returned to HSBC as head of global trade and receivables finance (more on Serai later).
As one non-founder/shareholder bank adopter of some parts of We.trade told TXF on condition of anonymity: “We went to a lot of effort both to convince our C-level of the use case for trade finance on the blockchain, and to familiarise users. Commitment from banks is not easy to achieve, especially with limited personnel. We were disappointed by the decision, and the insolvency was a surprise for us. It makes us question which blockchain providers would be safe to consider in the future.”
‘Yikes’ for bank financing SMEs?
What has been going wrong, and what are the implications for financing trade for small and mid-sized companies? “It’s a ‘yikes’ for bank financing of SMEs, although others are somehow managing it,” says one North American trade finance consultant. “The economics simply don’t add up for regulated entities with capital cost considerations, and the aspiration to massively reduce costs through automation doesn’t get at the coaching and hand-holding problem we all talk about as relates to SMEs.”
Sean Edwards, chairman and CEO of International Trade & Forfaiting Association (ITFA) is more specific. “My initial thought is that We.trade was trying to service a difficult market for banks (MSMEs) where there are other problems in addition to making that business operationally more efficient,” he says. “One is that the platform didn’t, or couldn’t reduce, onboarding costs which are largely internal. Another is that it didn’t, or couldn’t, reduce credit risk on these sorts of names. Conceivably, the platform could have facilitated an insurance tie-in but that was another level of industry engagement that didn’t happen. I also think that customer buy-in was probably difficult. It’s often the case that small companies don’t have bandwidth to use digital platforms.”
For Alisa di Caprio, chief economist at R3 (a provider of enterprise technology and services), the causes of the fall of We.trade were twofold. First, she agrees about the difficulty of making SME finance profitable as a banking business line, and adds to it the challenges of the very long cost cycle of updating core systems at banks. “On the first one, SMEs have always been a real challenge to finance since they just don't do enough business to be profitable to a bank using the traditional financing operational flow. We.trade didn't really change anything in the flow, they just blockchained it. This was going to be a problem as soon as banks remembered that SMEs don't make them much money.”
The second problem was just as important, maybe even more so, according to Di Caprio. “Replacing legacy infrastructure has costs that ripple out as you have to integrate to every single other piece of legacy infrastructure in a bank and among your clients. This isn't a blockchain problem either, it’s just an upgrading problem. And banks' engineers are in really high demand in the current economy, so how are you going to do this if you can't retain the people that you need to do it?”
Déjà vu all over again – back to the BPO?
So it’s not specifically a blockchain problem? That’s something that Edwards also asserts. “More widely, this has been characterised by some as a conflict between blockchain and other technologies. That is not correct, in my opinion. Any technology is simply a tool and it’s the commercial implementation of the technology that makes the difference between failure and success.” He adds, “There is also a wider debate about consolidation but what happened with We.trade is not particularly reflective of that phenomenon which is slowly starting to happen. We.trade and Serai were simply weak players in what is a tight market at current rates of adoption. That market is also difficult for some of the bigger players who need, and in some cases have, the cross-support and subsidy of multiple markets to make a go of it financially.”
There is a lot of talk about lessons learned, but there’s also a sense of lessons not learned, and of déjà vu. Some are scathing about bank consortiums in general and the way they seem to be working. “Banks dip their toes in multiple initiatives, but real commitment seems to be a problem, and few want to be the ‘first movers’ – in some instances hoping to attract non-founder banks to their solutions when they as founders have not necessarily engaged and gone ‘all in’,” says the North American trade finance consultant. “Remember the Bank Payment Obligation (BPO)? How many times will we go to the same movie?” he asks.
Of the shareholders in We.trade (which included HSBC, UBS, Deutsche, Santander and Societe Generale), only CaixaBank and Nordea ultimately had fully deployed the We.trade solution. Those banks who didn’t go ‘all in’ and were lukewarm at best left the second mover banks in the lurch.
We.trade itself evolved from a project called Digital Trade Chain (which merged with parts of the Batavia Consortium). DTC started with nine banks in 2017 and was rebranded as We.trade in October 2017. In 2019 it became operational with deals run through a digital trade platform based on the Linux Foundation's Hyperledger Fabric and IBM blockchain platform.
The fact that We.trade didn’t amend flows before putting them on the blockchain is important to remember. That lift and shift came almost straight out of the failed BPO playbook. Indeed, the ‘closed’ membership group-style model that required users to sign up to We.trade’s rulebook and use its contracts has been criticised as being anachronistic and another inefficiency that deterred smaller users who prefer single bank interfaces (often with their main bank) rather than having to run parallel systems. The combination of a smart-contract-based product with its own proprietary blockchain solution created a closed-loop system and impeded interoperability.
Others had a similar sense of déjà vu about the technology. "You’ve got to start with the customer experience and work backward for the technology." That quote from Apple founder Steve Jobs [which I received as a meme in relation to this story] is apposite given the recurrent issue of solutions looking for problems.
No blockchain panaceas
Blockchain is still an emerging technology. “We are now past the stage where people are assuming that blockchain will solve all the issues in trade and eliminate paper on its own,” says Michael Vrontamitis, lead industry principal, lending business at Finastra. “When building a business it is always about the problem you are solving and experience you want to deliver to your target market and then working back into what the solution looks like and what technology is fit for purpose. There is no doubt that blockchain will have significant impact in finance, the question is when and which problems it will be best to solve given its current pros and cons.”
Circling the wagons
Those other blockchain trade finance platforms backed by banks include Marco Polo, Contour and Komgo. Wagons have circled. Contour, for instance, is a blockchain platform with 17 banks (which in an earlier life was a consortium called ‘Voltron’). It released a statement after the We.trade collapse, and CEO Carl Wegner tells TXF: “We remain committed to our goal of solving some of the biggest pain points in trade finance and have a strong pipeline of new products under development to address this. With the strong support from our banks and investors, we are confident in our ability to continue scaling our network and product range.”
Contour (which runs on Corda Enterprise and its own IP) also benefits from having had a funding round recently and having industry information security certification from ISO 270001. “We are confident in our approach as we solve the biggest problems in trade finance and here’s why,” Wegner says in a statement. “Firstly, from the very beginning, we have looked to solve a pain point in an existing trade product using existing ICC standards, and tested the market fit extensively through our pilots and Beta launch. This significantly reduces the challenge of building and evangelising a new payment standard for trade (BPO, BPU [Bank Payment Undertakings], etc).“
“Secondly, we can build scalability as our network is open and bank agnostic. We do not limit corporate access to the network to a single bank, making trade possible for small and medium-sized enterprises. Thirdly, Contour has taken a global approach to support both sides of trade transactions including both developed and developing countries.” In May, Contour set out a collaboration with TradeLens in electronic bills of lading (eBL), helping merge direct access to ocean carriers with an established trade finance network.
Scale matters – and time too
Trying to scale is the ultimate issue for all the technologies – whether they be on blockchain or cloud. Time is, unfortunately, not on anyone’s side. Questions still remain. Is anything truly scalable (in terms of trade digitisation solutions)? Is it down to the funding models of the platform providers themselves?
“The reality is that many of the Fintechs in the trade finance space – consortiums or otherwise – are start-ups and their success will be based on the ability to deliver on their investors’ goals – investment returns or otherwise,” says Vrontamitis. “I would expect that Fintechs focused on reducing friction and increasing availability of financing to SMEs will continue to grow as there is a huge prize in closing the $1.6 trillion trade finance gap.” Finastra itself is working with the International Chamber of Commerce (ICC) on ICC TradeComm which it intends to pilot in Ecuador before expanding to help with that challenge [a project first announced last March].
Will regulations such as UNCITRAL’s Model Law on Electronic Transferable Records (MLETR), etc be the solve-all for SME and MSME finance needs? MLETR promotes the use of a digital equivalent of an original trade document. Given how slow adoption of MLETR remains (UK trade digitisation regulation plans and international promises notwithstanding), the jury is still out on this.
Nonetheless, it is not vital. “When it comes to closing the MSME funding gap digital trade is an enabler, however given most financing requires an invoice this doesn’t require MLETR to be in place,” says Vrontamitis, who remains optimistic about the opportunity. “Banking as a Service (BaaS) or embedded finance is growing at a clip where data from ERP platforms or market places can be used to enable financing decisions at source.”
Vrontamitis adds: “When it comes to digitising trade there were always three pillars to the ICC digital trade roadmap we published in 2017 – the first two being legal infrastructure where MLETR comes in and standards where ICC DSI and the standards bodies come in. As an industry we have made terrific progress in these two areas. The third pillar was about business adoption – this requires focus on business models, liability of transferring information/records between platforms. ICC UK has recently set up the Digital Centre for Trade and Innovation based in Middlesbrough which is looking to test how we can deliver interoperability across platforms. It’s not a panacea, but the industry is making good progress.”
The leafy month of June
Back to the ‘The Rime of the Ancient Mariner’. For trade digitisation, closed ecosystems are ultimately probably not ideal, investor impatience is bad but inevitable (if you think bank investors in platforms are impatient, non-bank investors have short timelines too and cash burns awfully quickly), but luck is essential.
The ‘leafy month of June’ marks a temporary lull before other events Coleridge’s poem. I’m not sure whether this is too gloomy an analogy for the long twists and turns in trade digitisation – think albatrosses around necks and “water, water everywhere, nor any drop to drink”. There is going to be more consolidation and deconsolidation before this story ends.
“It ceased; yet still the sails made on
A pleasant noise till noon,
A noise like of a hidden brook
In the leafy month of June,
That to the sleeping woods all night
Singeth a quiet tune.”
Meanwhile, a short word, a footnote if you prefer, on the end of HSBC’s Serai, the mainly-Hong Kong based platform for smaller companies and their suppliers which never managed to reach its desired targets. An albatross?
It was confounded by events, COVID and other things that shall not be mentioned. Does it impact HSBC’s strategy on trade digitisation? TXF received a statement: “The decision to wind down Serai follows a thorough business review and is a purely commercial decision. We continually review our commercial investments to ensure we have the right strategic approach for the long term. We remain committed to advancing the digitisation of trade for the benefit of our customers.”
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