Digital age

1 July saw the launch of a new trade finance product, the Bank Payment Obligation, or BPO for short.  Product launches in the trade finance arena have come thick and fast in recent years but this one has the potential to hit a particularly sweet spot due to its combination of a tried and tested legal formula coupled with the use of modern technology.

What is it?

A BPO is an irrevocable undertaking given by one bank to another that payment will be made on a specified date after successful electronic matching of data according to an industry-wide set of ICC rules.  In many ways, from the seller’s point of view the BPO can be regarded as an electronic form of confirmed letter of credit. However, instead of dealing in documentation, satisfaction of the conditions for payment is confirmed when the required matching information is entered electronically.

The product uses standard ISO 20022 messages to confirm when events have occurred in the transaction which is being funded.  These can confirm all of the matters which, under letters of credit, require examination of documents.  So, for example, notification of delivery of goods to a port or a vessel will, in the case of a BPO, be given by a digital message rather than by the physical checking of delivery notes or bills of lading.  When matching messages are communicated between both banks, the conditions to payment under the BPO are met and funds will be provided by the buyer’s bank on the date they are due.

What are its advantages?

Potentially use of a BPO has many advantages for an exporter including:

  • Reducing the risk of the buyer cancelling their order.
  • Ensuring that the buyer’s bank takes the credit risk on the transaction.
  • Preventing the buyer from refusing to pay if they have a complaint about the goods.
  • Speedier and simpler processes due to automatic data matching.
  • Removing the need to check documents and the uncertainty this can cause.

Of all of these it is likely that the data matching process is the feature which will produce the greatest practical benefits.  This removes the need to manually check documents so the concept of discrepant documents goes straight out of the window.  As the matching of data is a black or white issue – the electronic data either matches or it doesn’t – no subjectivity can creep into the process.  This should make the whole payment process more automated, which in turn means it is quicker and cheaper than letters of credit.  It should also mean that the scope for disputes and delays to occur is reduced considerably.

From a bank’s point of view, the processes it has to follow should be simpler than with most other trade finance products.  At the same time however, the digital nature of the information flows will give the bank the ability to see events taking place in the supply chain.  This should assist the bank in its reporting and give greater visibility on risk issues.  The system has the potential to allow buyer and seller to view the status of any shipment and make use of end-to-end, straight through processing.

Unresolved issues

So, whilst there are many potential advantages with the use of BPOs, are there any downsides?  Not many it seems.

As with letters of credit, BPOs are a bank-to-bank payment mechanism and, as such, will rely on the banks adopting them.  The fact that they are much more straightforward to operate should make them an attractive proposition for the banks and it is not beyond the realms of possibility that BPOs may, in the future be seen as the payment method of choice.

The attractiveness of BPOs to the banks will be influenced by the accounting and capital adequacy treatment they need to apply.  The current thinking is that for both accounting and capital adequacy purposes BPOs will attract the same treatment as letters of credit.  If this proves to be the case there is no reason to think that the banks won’t embrace them readily.

In conclusion, BPOs can be seen as a logical evolution of letters of credit in which the requirement to check documentation is replaced with on-line confirmations.  They should simplify and de-risk many export finance transactions which is likely to lead to their widespread adoption as the funding method of choice.

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This blog is intended only as a synopsis of certain recent developments. If any matter referred to in this blog is sought to be relied upon, further advice should be obtained.