Why digital supply chain finance under TReDS is a force multiplier

Visualise this. A small supplier from a remote Indian town discounts an invoice for supplies made to a corporate, and within a day, money for the invoice is realised in their bank account—all of this flowing digitally without visiting a bank or dealing with documents.

This is not a futuristic portrayal of an ideal scenario but a reality today. Thousands of MSMEs in India are discounting their sales invoices at large scale using the TReDS platforms.

TReDS marketplace

Small businesses have long felt the need for hassle-free financing, lower interest rates, prompt realisation of sales, and predictability of cash flows. The Reserve Bank of India (RBI) found a solution to these challenges with Trade Receivables Discounting System (TReDS).

Sound foundation elements acting for the TReDS solutions include an enabling legal and payment framework, including legal acceptability of digital documents, digital signatures made valid under the IT Act, Factoring Act laying ground rules, MSME Bill discounting scheme of SIDBI, the Payment and Settlement Systems Act, and NPCI’s robust payment system.

Three TReDS platforms or exchanges—M1xchange, Invoicemart, and RXIL—are used by MSMEs to benefit from invoice discounting and getting early payments at competitive interest rates. This helps corporates to streamline and digitise payments to MSMEs and pay them on time.

Large corporates and MSMEs have magnanimously embraced TReDS in recent years, and its adoption is rising.

Multiple advantages

Some attractive rare propositions include a single platform for MSME sellers, corporate buyers, and banks/NBFCs, transparent pricing, funds pulled by one time NACH mechanism, settlement using NPCI clearing infrastructure, ultra-low operational cost, convenience of anytime access, strong legal protection under Factoring Act, Payment and Settlement Systems Act, IT Act, standardised practices of platform regulated by RBI, end-to-end digital transaction flow, high productivity, reduced errors, paperless process, integration to ERP systems of corporates, integration with banks and NBFCs, and high predictability.

Paperless

Traditionally banks are used to handling a lot of physical documents, especially in trade finance and bill discounting. These bulky paper-based transactions take a lot of time to process, and they are prone to manual errors and high fraud risk. The digital platform eliminates most of the manual process.

Easy access to funds

MSME invoices are accepted by corporate buyers and funded at market-determined interest rates using an auction method, where multiple financial institutions participate and bid.

Funds in the form of discounting proceeds move from banks to MSME sellers on T+1 day, while the repayment on the invoice's due date from corporate buyers to banks moves with help of NPCI.

End-to-end digital flow

It is possible to have technology integration invoices flown from the corporates’ ERP systems to the TReDS platform for initiating transactions. After discounting the data, it flows to the trade finance systems of banks/NBFCs, facilitating transactions without anyone having to manually enter the details.

Financier interest recorded with the repository

To register the assignment of receivables from MSME vendors to financiers, TReDS platforms digitally file the factoring transactions with the Central Registry of Securitization Asset Reconstruction and Security Interest of India (CERSAI).

It files these on behalf of financiers at the time of discounting and as a satisfaction at the time of repayment, eliminating the operational task banks/NBFCs would have otherwise carried out.

Lower delinquency

Increased transparency is provided for all participants involved—banks, corporate buyers, and MSME vendors. The result of transparency is a reduced operational risk and credit risk reflecting in relatively low overdue or NPA.

Cash forecasting

Predictable cash flows leading to accurate forecasting are feasible with TReDS, leading to better allocation of working capital, reduced idle cash, better profitability, improved operating leverage, and higher return on investment.

Bottomline

Notably, many banks globally tried to digitise trade and supply chains and had limited success. Digital innovation in corporate and commercial banking is in its infancy, and TReDS is a leading example of a successful digital supply chain and digital commercial finance.

MSMEs are faced with challenges, and this platform enables a level playing field for small businesses in providing access to finance, thereby positively impacting thousands of small businesses that provide most of the employment opportunities.

When embraced by more corporates and MSMEs in the coming years, this will lead to a transformation of working capital and supply chain finance in the country.

Rajesh Parthasarathy is the Senior Director of Financial Institution at M1xchange.