BD Trade Finance Insight (Feb 23 2023)

SA’s trade performance ‘robust’, with imports expected to grow

• Global supply chains may start to operate more fluidly this year, writes

Lynette Dicey

Over the past three years, the global economy has undergone significant shocks including Covid-19 lockdowns, supply chain disruptions and geopolitical events in Europe. These shocks have filtered into the South African economy and been complemented by additional shocks, most notably in the form of domestic electricity supply constraints. Despite these challenges, SAs international trade performance has been robust, says Justin Milo, head of trade for SA at Standard Bank.

Strong trade growth was initially led by the export sector and then followed by strong import growth in 2022, he says. SAs exports expanded by

11% in 2022 year on year,

according to statistics published by the South African Revenue Services (Sars). These exports were largely driven by the cross-border sale of mined commodities such as coal, precious metals, iron and manganese ore, as well as certain manufactured goods including iron, steel and motor vehicles.

Contrary to trends observed in recent years, export growth was trumped by a significant increase in imports, which grew by 31.8% year on year in 2022, with key import drivers being

oil and petroleum products, vehicles, electrical goods and pharmaceuticals. The country s trade balance, while still reflecting a surplus of R193bn in 2022, is significantly down from the trade surplus of R431bn recorded in 2021.

Various headwinds and tailwinds will undoubtedly impact imports and exports in the year ahead, predicts Milo, explaining that potential export tailwinds include the relatively weak rand relative to the dollar, the performance of the domestic automotive export sector and increasing global demand for mineral products. In addition, exports may be negatively affected by the anticipated peak in global inflation and consequent reduction in commodity prices, electricity supply constraints affecting domestic production, reduced rail and port efficiency and muted growth in global economic output. The IMF s World Economic Outlook report expects 2.9% year-on-year growth in 2023.

Despite low GDP growth expectations, SAs imports are expected to grow, largely due to increased demand for diesel and other petroleum products,

increasing private sector electricity generation, robust domestic demand for manufactured goods and the progressive normalisation in global supply chains.

The relative fortunes of SAs importers and exporters will therefore depend on specific industry factors, as well as broad macroeconomic factors, both of which may present opportunities and risks for trading counterparties, says Milo.

Importers turn to banks for credit

The past 18 months have represented a turbulent period for importers, exporters and those providing funding for supply chains.

The key risk faced by exporters, he believes, is payment risk, while the anticipated normalisation of global supply chains represents a key opportunity for SAs importers and the ecosystem of suppliers supporting them. Trading counterparties are often exposed to several risks

involved in cross-border trade from exchange rate risk to payment risk, transit risk and performance risk, he explains. Heightened risk awareness and a recalibration in perceived risk has encouraged a movement back towards the use of letters of credit and letters of credit confirmations to mitigate buyer payment risk, financial institution payment risk and country risk.

SWIFT data for the South African market suggests that demand for letters of credit confirmations increased by 36% in 2022 while export letter of credit transaction values have grown by 15% and SAs exports grew by 11% over the same period. This, says Milo, is evidence of the shift in risk aversion among exporters. Standard Bank, which was recently named the best bank for trade finance in SA and Africa for 2023 by Global Finance Magazine, is a leading provider of letters of credit and letters of credit confirmations. The bank has played an active role in facilitating these transactions on behalf of multinational corporations, local corporates and SMEs, bolstered by a vast network of financial institution relationships and the adoption of digital technology. Turbulent times not only mean significant risks to manage, but also greater opportunities says Milo.

Financial institutions, as a key player in the international trade ecosystem, are uniquely positioned to assist importers and exporters to take advantage

of the opportunities by providing uniquely designed trade finance solutions.

There is an expectation, says Milo, that global supply chains may start to operate more fluidly this year.

Supply chain disruptions over the past three years have forced businesses to reconsider their procurement strategies. As a result, businesses are now increasingly focusing on diversifying their procurement by increasing the contribution of regional and local suppliers.

Milo says while the alleviation of these supply chain constraints should translate into increased imports into SA, local manufacturers are likely to be circumspect and will be looking to balance the risks associated with both cross-border and local procurement.

This bodes well for the ecosystem of local and regional suppliers who support SA importers and exporters, he says, adding that local suppliers often have a common need working capital. He defines working capital as short-term funding to procure production inputs, pay salaries and bridge future cash flows from debtors. Financial institutions, he points out, have a role to play in assisting local suppliers with working capital financing solutions to enable them to pursue opportunities arising from increased local procurement.

Supplier financing programmes have become increasingly popular in the South African market, providing local suppliers with the opportunity to receive early payment on their sales to an anchor buyer typically multinationals or large local corporates at financing rates aligned to the financial standing of the anchor buyer.

“Cross-border trade has had to deal with rising prices, persistent load-shedding, climate change driven events and lower GDP growth expectations, the latter which has resulted difficult economic times, says Dr Greg Cline, head of corporate accounts at Investec for Business.

He says many importers, still suffering the after-effects of constrained supply chains that occurred during the pandemic, moved to overstocked positions. Rising interest rates and higher inflation, however, have led to reduced consumer demand leaving importers in the challenging position of having significant amounts of working capital tied up in stock.

Although trade in the last two months of 2022 was reasonably good, it was less than expected. At the same time, capacity has eased as more shipping lanes have opened, freight costs have reduced and freight forwarding capacity has improved,” says Cline.

Exacerbating the situation, he says, is post the pandemic, countries such as China now require more exacting payment terms. However, because so much of their working capital is tied up in stock, importers are struggling to meet these new requirements, particularly as

debtors books are being pushed out.

Overstocked positions are not unique to SA with the European manufacturing sector experiencing an oversupply. Trading cycles, says Cline, are more erratic than prior to the pandemic with many businesses experiencing a lag between the time stock arrives in the country to when that stock translates into a sale. As a result, importers are increasingly turning to banks for lines of credit to finance working capital. The trade environment is highly dependent on the macroeconomic climate. In SA, the biggest challenge to most businesses is persistently high levels of load-shedding. Anything beyond stage 5 is highly limiting for local manufacturers, says Cline.

‘Greatest challenge is rising costs’: suppliers

Trade, which is a major driver of global economic growth and commerce, accounts for 52% of global GDP, according to the World Bank.

A Citi report says recent geopolitical events have

demonstrated the fragility of supply chains with companies now looking for resiliency wherever they can get it.

46% of suppliers in a global survey revealed that they are passing on costs directly to customers

Businesses are now focusing on inventory management strategy, diverse and longerterm partnerships with producers and a deeper investment in digital tools. While physical supply chain disruptions have eased, the Citi report says this has given way to a new challenge: high inflation and rising interest rates which isputting pressure on physical supply chains and exacerbating concern for the health of supply chain finance. In a global survey of corporate suppliers participating in Citi-managed supply chain finance programmes, respondents identified rising costs as their greatest challenge with 46% of suppliers globally revealing that they are passing on costs directly to customers. Higher costs are taking a toll on suppliers profit margins as they are financing inventory at their own cost of capital and in an inflationary environment.

34% of respondents in the same survey said they were looking at longer lead times to produce goods

To counter supply chain disruptions, suppliers said they were pursuing a number of strategies. More than 60% said they were expanding secondtier supplier networks to increase their resilience; 41% said they were looking for financing earlier in the commercial cycle; and 34% said they were looking at longer lead times to produce goods. Many have increased the amount of inventory they hold, switching from a just-in-time to a just-incase approach. The challenge, however, is that carrying higher stocks of inventory comes at a cost, tying up working capital and reducing capital efficiency.

Citi says it expects that businesses will move to make their supply chains more efficient, easier to monitor and manage, and more robust to disruptions in any one part of the production process. They will also aim to become more geographically diverse with increased redundancy of supply.

Justin Milo awareness.

MANUFACTURERS WILL BE LOOKING TO BALANCE THE RISKS ASSOCIATED WITH BOTH CROSS-BORDER AND LOCAL PROCUREMENT

Dr Greg Cline exacting terms.

SUPPLIER FINANCING PROGRAMMES HAVE BECOME INCREASINGLY POPULAR IN SA

Opportunities for intra-African trade

• Scope for the continent and its trading partners to reap economic benefits

Trade finance is a critical aspect of trade and, according to Akinwumi Adesina, president of the African Development Bank (AfDB), an important instrument for influencing Africa’s long-term economic development and structural transformation

A report by the AfDB and the African Export-Import Bank (Afreximbank), Trade Finance in

Africa: Trends Over the Past Decade and Opportunities

Ahead, says that in the past decade Africa’s trade growth has been one of the worst among the major regions of the world, as a result of a number of factors including falling commodity prices, competition, inadequate foreign exchange liquidity, regulatory challenges and access to trade finance, as banks have gradually scaled back activities from riskier markets.

The study showed that although trade finance remains a popular activity among banks in Africa, the participation rates continue to decrease, falling by 16% between 2013 and 2019. In December 2022, the AfDB noted that Africa s annual trade finance gap is about $81bn. Trade uncertainty in Africa has been exacerbated by the impact of the pandemic and global geopolitical challenges.

KEY PLAYER

Michael Foundethakis, global head of projects and trade & export finance and Africa

Steering Committee chair at Baker McKenzie, explains that Afreximbank is a key player in the finance and promotion of African trade and one of the architects of the AfCFTA, but there is still a substantial gap in trade finance in Africa.

This is chiefly as a result of a drop in trade finance participation rates among international and African commercial lenders, he says, adding that Afreximbank and several other development banks have increasingly tried to bridge this gap through increased lending and alternative products to support market participants.

Foundethakis points out that despite the persistently large trade finance gap, trade remains

a key driver of Africa s social and economic development.

Which is why banks such as the Afreximbank and AfDB have tried to stay on top of market developments and provide solutions to boost intra-Africa trade.

According to a Baker McKenzie research report conducted with Oxford Economics, AfCFTAs $3-trillion Opportunity, there are now unprecedented opportunities for Africa, and its trading partners, to reap economic benefits following the possible improvements in transport infrastructure, reduction of red tape for cross-border dealings, renewed funding and improved liquidity

If successful, AfCFTA will provide the opportunity for African countries to diversify their economies, scale production capacity and widen the range of products made in Africa, in particular boosting the production of manufactured goods and the potential for multinational companies to set up manufacturing plants on the continent. Closer integration of neighbouring economies is a potential avenue for creating scale and competitiveness through domestic market enlargement, thereby promoting development and boosting foreign investment through greater efficiency.

In July 2021, the AfDB, through its Financial Sector Development s Trade Finance operations, launched a transaction guarantee instrument as a means to increase trade finance on the continent. The AfDB says the new instrument will help local

financial institutions build relationships with international banks, in the process increasing their network of global trade finance partners. It will also improve access to finance for African small and medium enterprises, for example. The transaction guarantee instrument will provide regional and international banks with up to 100% nonpayment risk coverage for trade transactions initiated by local banks in Africa. The guarantee will cover various trade finance instruments, including confirmed letters of credit, trade loans, irrevocable reimbursement undertakings, avalised bills and promissory notes Efforts to increase intraAfrican trade received another boost in early February 2022 when Afreximbank and AfCFTA signed an agreement relating to the management of the Base Fund of the AfCFTA Adjustment Fund. The fund will support African countries and the private sector to effectively participate in the new trading environment established under the AfCFTA. The fund consists of a base fund, made up of contributions from states, grants and technical assistance funds to address tariff revenue losses as tariffs are progressively eliminated; a general fund to mobilise concessional funding; and a credit fund to mobilise commercial funding to support both public and private sectors.

GRANT FUNDING

In July 2022, Afreximbank announced it had renewed approval of a $1bn facility to operationalise the AfCFTA Adjustment Funds. It also approved grant funding valued at $10m to seed the Base Fund of the AfCFTA Adjustment Fund.

The Adjustment Fund follows the Pan African Payment and Settlement System (PAPSS), which was launched by Afreximbank and the AfCFTA Secretariat in January 2022. PAPSS is a centralised payment and settlement system for intra-African trade and commerce payments. Wamkele Mene, secretary-general of AfCFTA, says PAPSS is critical to the promotion of intra-African trade, as its establishment

Banks need to better meet client needs: report

Demand for trade finance is growing with rising interest rates increasing profitability for trade finance providers.

But, many banks globally are struggling to meet trade finance clients changing requirements in a time of higher inflation and rising interest rates, according to a report by Accenture. The report is based on the findings of an online survey aimed at uncovering the challenges banks are facing both in retaining trade finance partners as well as how well they are holding up against competition from fintechs.

The survey was conducted with trade finance executives at companies with an estimated average $534m in turnover in trade, supply chain and structured trade finance in 15 countries across North America, Europe, the UK, Asia-Pacific and the Middle East.

Open account trading is responsible for about 80% of all international trade transactions.

However, globally, banks play a minimal role beyond clearing payments. The report found that there is still plenty of opportunity for banks to grow their trade finance businesses, provided they upgrade their digital strategies and go to market with the products clients are looking for.

AfCFTA’s initiative aims to develop regional value chains

The latest development designed to boost trade in Africa s continent-wide free trade zone is AfCFTAs Guided Trade Initiative (GTI).

means African countries no longer need to use third-party currencies during trade transactions among themselves.

In September 2022, the Afreximbank Trade Payment Services (AfPAY) was launched. AfPAY facilitates the settlement of international trade on open account terms on behalf of identified African financial institutions and their clients and was developed specifically to address African banking challenges, exacerbated by the withdrawal of international banks, but due mainly due to stringent regulatory and compliance requirements but also due to rising costs.

DEVELOPMENTS

Since the establishment of AfCFTA, there have been significant developments for intra-African trade with the launch of Transaction Guarantee instrument, PAPSS and the Base Fund of the AfCFTA Adjustment Fund, says Foundethakis. Increased investment, both within Africa and internationally, will ensure a continued decrease in the trade finance gap and a consistent boost to social and economic growth in Africa.

Launched in October 2022, it aims to test meaningful, continuous trade under AfCFTA and assist in the development of regional value chains to allow for more climate-friendly, sustainable trade across the continent.

Virusha Subban, a partner specialising in customs and trade and head of Tax at Baker McKenzie, Johannesburg, says the GTI will test AfCFTAs policies, legal framework and operational and institutional environments.

There are eight countries participating in the GTI that have all met the minimum requirements in terms of AfCTA’s tariff book and rules of origin Cameroon, Egypt, Ghana, Kenya, Mauritius, Rwanda, Tanzania and Tunisia. The GTI will allow the shipment of goods from these countries through customs clearance, including ceramic tiles, sisal fibre, batteries and beverages and foodstuffs, including tea, coffee, processed meat products, corn starch, sugar, pasta, glucose syrup and dried fruits.

African countries receiving these goods, she adds, will benefit from reduced tariff treatment and possibly eventually from zero tariffs. The GTI will also focus on

increasing opportunities for small and medium enterprises, youth and women in trade.

AfCFTA hopes to boost intraAfrican trade from 14.4% of total African exports to more than 30%. In addition to making it easier to trade, Subban explains that the aim of the free trade area is also to eliminate tariffs on intra-African trade, reduce unemployment, increase infrastructure development and create a more competitive and sustainable environment for cross-border trade. The challenge, however, is

A BOOST IN LOCAL PRODUCTION AND REGIONAL TRADE WILL MAKE AFRICA MORE COMPETITIVE

the continent s huge gaps in infrastructure, especially its utilities and transport infrastructure, which have hampered the ability of African countries to trade.

“Transport challenges in African countries, made worse by the issues in global supply chains in the past few years, have caused significant trade blockages, especially with regard to transporting goods to, and out of, the continent s ports.

Other issues, such as severe weather events, are also affecting trade supply chains in Africa says Subban. For Africa to make the most of free trade, the continent must address these challenges, she says. Encouragingly, there are projects already in progress to boost the development of continent-wide infrastructure

such as Tanzania s construction of the Standard Gauge Railway to provide a safe and reliable means for efficiently transporting people and cargo to and from the existing Dar-esSalaam port, among others. The continent also needs to address supply chain challenges by boosting manufacturing capacity and reducing its reliance on global suppliers and shortening its supply chains to make them more sustainable, says Subban. She adds that facilitating sustainable trade under AfCFTA requires a drastic increase in climate financing for continentwide major investments in infrastructure, manufacturing capacity, clean energy and climate change adaptation. A boost in local production and regional trade the latter which is currently being developed through initiatives such as the GTI as well as the development of climate resilient infrastructure and manufacturing, will make Africa more competitive globally, says Subban. If the continent s gaps in infrastructure and manufacturing can be developed in a sustainable way, such as investments in renewable energy projects, food security initiatives, shortened supply chains and projects that assist SME, women and youth traders, Africa s free trade successes will benefit the whole planet.

FINTECHS ARE POSITIONING THEMSELVES TO ADDRESS THE GAPS

CURRENTLY NOT MET BY BANKS

The Accenture research revealed there is a mismatch between banks trade finance offerings and client needs. As a result, corporate clients are actively reviewing their roster and number of trade finance partners. The survey revealed that 67% of clients are planning to change their roster of trade finance partners in the next 12 months, 72% say they will change the number of partners on their current roster, while 62% say they already have five or more trade partners.

It found the product most clients wanted was inventory financing with growing demand for pre-shipment finance. In addition, there is a need for purchase order financing for small to medium buyers and payable finance for multinational corporations. Respondents said they wanted more efficiency and faster turnaround times, more

competitive pricing, easier access to credit facilities and improved access to international markets.

The biggest threat to banks trade finance offerings are innovative new fintechs which are ready to supplement or displace banks if they fail to meet the needs of clients. The Accenture report highlights that fintechs are positioning themselves to address the gaps currently not met by banks by offering clients flexible access to liquidity and technology-driven due diligence as well as digital processes that enable them to trade internationally. The report advises banks to invest in digitalisation and automation to help corporate customers address their manual, error-prone pain points; forge technology partnerships which include leveraging strategic partnerships with big tech, fintechs, ERP software vendors and other platforms to create interconnected solutions; and to offer sustainable products and ESG advice to help clients navigate the challenges of reducing emissions and reporting on ESG emissions.

The banks that get this right, says Accenture, will enjoy new revenue opportunities and expanded market share.

Michael Foundethakis.