How to use local-global bank partnerships?

With many mature economies still struggling to regain ground lost as a result of 2008’s global financial crisis, corporates in the emerging markets are increasingly looking to fellow emerging economies for commercial growth opportunities. As a result, the international trade focus is shifting from the West towards developing economies in Asia, Africa and Latin America – and the Middle East is ideally placed, both geographically and economically, to benefit from this trend.

Bana Akkad Azhari, Head, Relationship Management for the Middle East and North Africa, BNY Mellon Treasury Services

There is no questioning the significance of growing intra-emerging market trade flows to the global economy. According to new figures from the World Bank recently quoted by The Economist, the developing markets’ share of global trade doubled from 16% in 1991 to 32% in 2011 – an average increase of 0.8 percentage points a year. This was accelerated by the global recession: since 2008, the rise has been almost twice as fast, at 1.5 percentage points a year.

This increase in south-south trade is turning established trade patterns and practices on their head. Although a concern for companies (and indeed banks) across the globe, it is perhaps particularly challenging for the Middle East – a historically conservative region that favours a traditional approach. While this mentality has stood the region in good stead – and is fast- becoming the mantra of banks and business worldwide as the benefits of “back-to-basics” are more broadly recognised – its merits must now be combined with innovation in terms of both technology and mind-set.

Of course, this is not to suggest that the Middle East is a region that has failed to keep up with the times – far from it. But there is little denying that major advances in banking technology – as well as plans for expansion and investment opportunities – have tended to centre on the wealthier Gulf States, where there is a higher concentration of global bank providers. As a result, while corporates in these states may have access to products and services designed to meet modern trade demands, others – who are more dependent on local bank provision – may struggle, leading to regional inconsistencies.

This is not to do the region’s domestic banks a disservice. Such institutions have an unrivalled knowledge and understanding of their home markets and historic relationships with their domestic corporate customers that are greatly valued, and add significant value. But from a technology standpoint – technology being the enabler of international trade –rising costs and complexity mean smaller local banks may have found it difficult to meet the increasingly tough operational demands that come as a result of cross-border trade’s rapid evolution.

Addressing new trade challenges While the rising prominence of emerging markets on the international trade stage may be a relatively new development, the Middle East has already emerged as a key player. Indeed, the region’s trade relationship with China is notably strong, with global management consultancy firm McKinsey & Company estimating that, by 2020, bilateral trade flows between the two markets could reach between USD 350 billion and USD 500 billion – with the Gulf Arab states accounting for the lion’s share. A high-profile example of this Middle East-China trade link is the Sinopec (Chinese Petrochemical Corporation) and Saudi Aramco alliance – a joint venture that has helped cement the Middle East’s energy ties with China, and may be seen as a sign of things to come.

Supporting these burgeoning trade flows – now moving beyond oil and commodities to include consumer goods – is a significant challenge for banks, particularly those with a predominately small-medium enterprise (SME) client base. SMEs tend to have more individual business requirements than other commercial tiers, and are therefore likely to find many of today’s transaction banking solutions ill-equipped for their changing needs. This is because the majority of current solutions – encompassing trade finance and working capital management services – are inevitably geared towards established trade patterns centred around the developed markets, and are less suitable for the unique challenges posed by intra-emerging market trade.

The first of these challenges is the increased risk profile. Trade is an industry that depends on counterparty knowledge, trust, and communication – principles that companies will struggle to apply to unfamiliar markets. Second is increased complexity, which comes as a result of intricate and varying regulations and differing degrees of operational sophistication between markets. Both act as barriers to speed and efficiency, making the issue of how to expedite trade settlement – and thereby decrease processing costs and speed up the cash conversion cycle – vital.

The third major challenge is the ability to make and receive payments in new currencies – with the RMB key in this respect. Indeed, corporates could find the ability to settle in RMB a competitive advantage, as it would make all trade with Chinese counterparties single currency transactions, thereby enhancing speed and efficiency and removing FX risk and cost.

Finding new solutions In order to gain a more detailed understanding of changing industry requirements in light of new sector developments – such as the boom in intra-emerging market trade – BNY Mellon commissioned and helped conduct an Attitudes to Transaction Banking survey in late 2012. The results confirm and quantify anecdotal evidence that mitigating risk, optimising working capital management and keeping pace with technology development – in terms of both meeting compliance requirements and investing in innovation – are the prevailing concerns for all cross-border trade players.

When asked about their chief priority in the face of ongoing market uncertainty, 44% of corporates said their primary concern was “mitigating transactional risk”. Broad in scope, minimising such risk requires managing counterparty exposure, meeting compliance requirements and optimally managing the end- to-end process – all of which is complicated by “new-market” unfamiliarity.

Such concerns can be alleviated by a number of factors. The first is enhanced visibility of – and access to – transaction-related data and information. Indeed, 30% of total survey respondents agreed that this was the element that would most enhance their existing treasury function. Accurate data is the foundation of counterparty communication and can be used as a reliable indicator of a company’s financial strength, and a way of highlighting potential concerns before they cause damage and disruption to the supply chain. The real challenge in this respect lies not only in establishing data channels but in ensuring that only the right and relevant data – too much being as problematic as too little – is received. As a result, data management is becoming an increasingly specialised activity.

The second factor is the use of risk-mitigating trade instruments such as letters of credit (LCs). Generally speaking, LCs remain the settlement method of choice for both intra-emerging market trades, and more conservative markets. The only downside to this form of settlement is that it can be inefficient and labour-intensive – a problem that can be rectified if the risk-mitigating qualities are combined with increased automation. Certainly, electronic platforms and solutions can drive down costs, enhance visibility and ease the burden of reporting requirements. Yet levels of automation continue to vary significantly between regions – and even within regions, as in the case of the Middle East.

The third element vital to mitigating counterparty risk is improved visibility over the entirety of the supply chain and transaction cycle. In fact, increased transparency – particularly over cash positions – has the additional benefit of aiding optimal working capital management; revealed by the survey as one of the top three concerns in transaction banking today.

Of course, none of these factors – accurate and up-to-date data, automation-enhanced trade settlement, and greater visibility – are possible without investment in technology development, and the ability to ensure consistency of service across borders. It is in these respects that corporates will increasingly turn to their bank partners for support.

The benefits of local-global bank partnership However, banks – particularly smaller regional institutions – face similar concerns to their corporate customers, with respect to funding pressures, working capital and challenges of expansion. As technology and network development can require considerable investment, many local banks may struggle to independently design, develop, implement and update the sophisticated solutions needed by trade entities to capitalise on expanding south- south trade corridors. Domestic banks may also struggle to provide the global understanding, oversight and connections that corporates increasingly require – a major concern given the importance placed on consistency of service across borders.This presents local banks with the danger of losing domestic business to their larger rivals – global banks operating on the same turf and better able to provide the necessary connections and technology platforms. In fact, 86% of bank respondents to the Attitudes to Transaction Banking Survey rated competition between international banking service providers in local markets as “moderate” or “great”.

The solution for local banks looking to minimise this threat – and retain, or expand, local corporate business – is to partner with a specialist non-compete global provider of trade and transaction banking solutions. While international providers may be able to offer best-in-class capabilities and global consistency, they cannot match local banks in terms of understanding of home markets and domestic clients. So what companies really need is a holistic solution that marries local market knowledge with technology sufficiently strong to achieve operational excellence across multiple geographies.

This is especially true in the light of growing south-south trade, where greater risk-mitigation, cohesion and efficiency can be achieved by having the same provider act as intermediary for local institutions at both ends of the trade flow – just as BNY Mellon does for China and the GCC, for instance.

By leveraging the individual strengths of both parties – free from the threat of local client competition – strategic partnerships with global non-compete providers can cultivate flexible, automated solutions that unite the traditional, relationship aspects of trade with the latest developments in technology. With such support, trade entities in the Middle East – and indeed beyond – could decrease their dependency on external funding and better manage new-market complexities. In brief, it can give them all they need to capitalise on the region’s position as both an international trade hub and a major player in burgeoning intra-emerging market trade.

This article first appeared in ‘Trade and Export Middle East’ magazine, in February 2014.