The amendments in Ind AS 7 emanate from similar amendments in IAS 7 by the IASB, made in May 2023, which itself is the culmination of a project that was initiated in 2020.
The amendments related to Supply Chain Financing (SCF) or reverse factoring arrangements. Globally, the SCF volumes increased by 8% to USD 2,462bn by the end of 2024.
Read our article explaining the Supply Chain Finance here.
The key features of a supply chain finance arrangement to require specific disclosure under the revised Standard are:
The trade payables of the entity are paid by a financial institution; the entity then pays to the financial institution.
The entity either gets extended payment terms, or the suppliers get earlier payment terms, than the terms as contained in the relevant supply invoices/agreements.
Examples: X Ltd acquires goods/services from vendors with a 90 days’ credit. It organises a supply chain financing arrangement where Bank A discounts the receivables and pays off the vendor within 30 days, whereas the Bank will collect payment from X on 90 days of the invoice. The arrangement is covered.
Same facts as above; but X is required to pay to the Bank in 180 days, whereas the Vendor is paid in 90 days. The arrangement is covered.
If the due date of payment to the Bank is the same as the due date of payment to the vendor, the arrangement has no economic value, and does not impact either party’s cashflows – hence, does not require any specific disclosures.
Note that the amendments do not affect asset side financing arrangements, that is to say, receivables financing or forward factoring.
https://vinodkothari.com/wp-content/uploads/2023/06/vinod-kothari-logo.png00Team Finservhttps://vinodkothari.com/wp-content/uploads/2023/06/vinod-kothari-logo.pngTeam Finserv2025-08-21 17:03:552025-08-21 18:27:30From Trade Payables to Financial Liabilities: Ind AS Disclosure Reforms for Supply Chain Finance arrangements
Financing needs of MSMEs in India: Working capital constitutes a major part of SMEs’ funding requirements
There are considerable gaps in funding for SMEs: In India, the total addressable demand for external credit is estimated to be USD 173 billion[1] while the overall supply of finance from formal sources is estimated to be USD 441 trillion. The Expert Committee on Micro, Small and Medium Enterprises, constituted by Reserve Bank of India in December, 2018 has estimated the overall gap in India to be USD 238 – 298 billion[2].
Traditional sources of funding are working capital facilities with banks; however, given their unorganised nature, lack of formal financial statements, etc., many SMEs find it difficult to have formal lines of credit from banks.
The marketplace is trying alternative sources of working capital for SME. The avenues tried based on the different components of the working capital:
Accounts receivables
Inventory
Trade Receivables Discounting System (TREDS) Factoring/ supply chain financing
Credit period for accounts payable, funded by way of reverse factoring/ supply chain financing
Trade Receivables Discounting System (TReDS/TREDS)
TREDS is almost India’s own innovation, though it was inspired by Mexico’s NAFIN Cadenas Productivas Program. TREDS as a mechanism for discounting and unitisation of trade receivables was launched in 2014. Currently, there are 4 of them – RXIL, M3, InvoiceMart and C2FO Factoring Solutions Private Limited. The first one is the largest.
Limited number of funding participants. However, given that there are quite a limited number of funding participants in the TREDS ecosystem currently (as informed by some of the participants in the TREDS platform(s), only 5-6 banks are currently actively bidding), there is very little competitive bidding for invoices currently. The cost of funding, we were given to understand, is about 0.25% – 0.40% higher than bank finance, if the buyer happens to be a BBB rated entity.
Supply chain financing is growing, as present-day trade needs to move fast; working capital availability is key to achieving turnover with low spreads, to service the ultimate consumer affordably and efficiently. Supply chain finance is a key mode of financing for upstream procurements as well as downstream supplies by an entity with a good credit standing, say Anchor. Usually, the financing is done by setting a limit based on the Anchor’s credit standing, with a bank or NBFC. Both banks and NBFCs are active in the space. Financing may be done by discounting of supply bills, either accepted by the Anchor as due for payment, or drawn by the Anchor on the dealers/ customers of the Anchor.
Most supply chain financing programs work on first loss guarantee by the Anchor. For the downstream supplies, Anchor usually has to provide a first loss guarantee support, to the extent of 5% to 10% of the pool of receivables funded by a lender under the facility.
Factoring
Factoring law, intended to encourage factoring, has not lived to its purpose due to regulatory overtone. The Factoring Regulation Act was enacted to facilitate and encourage factoring; however, its regulatory stance has served to stifle factoring. Only a handful of NBFCs are currently registered as factors, while banks are not required to register[4]. As a result, the volume of factoring in India is trivial, as compared to global jurisdictions.
Potentialfor securitisation of SME receivables
Direct securitisation by SMEs is not feasible. There are 2 ways in which securitisation of MSME receivables can take place: securitisation of trade receivables by SME itself; and secondly, receivables are funded by intermediaries (banks, NBFCs), aggregated by intermediaries, and securitised by them.
Securitisation by SMEs directly is not feasible, as volumes are not sufficient. Plus, it requires direct access to investors, which is unviable. Hence, the discussion below focuses on securitisation of receivables funded by intermediaries.
Intermediated securitisation is the way the world does it. However, regulations in India have scuttled the possibility. Acquisition of receivables by intermediaries (either on their balance sheet, or in the balance sheets of trade finance conduits) is quite common world-over[5]. However, this activity has not picked up in India, for several reasons:
There is a bar on securitisation of revolving credit facilities in the RBI SSA Directions. Naturally, a trade receivable funding program has to be structured as a revolving facility, to allow the SME continued and assured access to working capital. Issuance of asset backed commercial paper is also barred under the same Directions.
Regulated financial lenders cannot do a securitisation transaction outside of SSA Directions. If unregulated entities (not regulated by the RBI, say, a conduit vehicle) does a securitisation outside of SSA Directions, no regulated lender can invest in such a transaction, as any investment so made will be a full charge against regulatory capital.
As a result, securitisation of trade receivables is currently a near impossibility under the regulatory regime.
Will trade receivables securitisation help?
Table below compares securitisation with TREDS, supply chain financing and securitisation:
TREDS
Supply Chain Financing
Securitisation
Consistent availability of funding
While the funding limits are established based on the rating and credit of the buyer, the funding happens on invoice-by-invoice basis. There is no assurance as to either availability or the cost of funding
As limits are assigned for each vendor/ dealer, there is an assured availability at a pre-agreed cost of funding
As limits are assigned for each vendor/ dealer, there is an assured availability at a pre-agreed cost of funding by the intermediary, who, in turn may take receivables to capital markets
Disintermediation
Involves financial intermediaries
Involves financial intermediaries
Involves intermediaries at the inception, but eventually, the intermediaries offload the receivables to capital market
Burden on banks’ balance sheets
Receivables are on the balance sheet of the lender
Receivables are on the balance sheet of the lender
Receivables are off the balance sheet for regulatory capital purposes
Pricing
While pricing is primarily done on the strength of the Anchor, at times, SME gets good pricing based on the liquidity in the banking system
Pricing is done based on the FLDG support provided by the Anchor; hence, priced based on achor’s credit rating
Availability of capital market access, coupled with credit enhancements may bring down the cost of funding
Policymakers need to enable alternative instruments, and leave the choice to the marketplace. The Table above makes a case for securitisation of trade receivables. Such securitisation does not conflict with TREDS; TREDS may continue as an option, leaving the choice to SMEs /lenders the benefit of choice.
Role of credit enhancements in trade receivables securitisation
The potential structure of securitisation of trade receivables, as it commonly works in global jurisdictions, is as follows:
Figure: Structure of Trade Receivable Securitisation
In essence, there are two levels of credit support – one, at the level of each SME (seller), which sells receivables to the Intermediary/conduit. This is typically by way of over-collateralisation or a first loss facility.
Having thus acquired credit enhanced receivables from the SMEs, the intermediary arranges a program-wide credit enhancement. This enhancement essentially becomes a mezzanine support.
The entire program works as a revolving facility, such that the SME sellers continue to sell receivables on an ongoing basis. On the other hand, the securised paper has a fixed maturity, subject to roll-over at the discretion of the paper holders. Hence, there needs to be liquidity support provided to the conduit, typically by a bank.
Providers of credit enhancement:
SIDBI, as credit enhancer for SME funding, may provide the program credit support.
SIDBI, in turn, may be counter-guaranteed by MDBs
Policy/regulatory changes required:
The bar on securitisation of revolving credit facilities, introduced looking at the experience during GFC, needs to be withdrawn. There is an inherent liquidity risk on the part of the intermediary that does securitisation (the risk that early amortisation triggers may cause the facility to wind down, while the committed funding still will have to be continued by the intermediary), but this may be addressed by appropriate capital charge. Note that there is no bar on revolving credit securitisation either in the EU Capital Directions, or in Basel Securitisation Framework.
Likewise, the bar on issuance of asset backed commercial paper needs to be removed. The provider of liquidity facility needs an appropriate capital charge for the maximum value of the facility.
https://vinodkothari.com/wp-content/uploads/2023/06/vinod-kothari-logo.png00Team Finservhttps://vinodkothari.com/wp-content/uploads/2023/06/vinod-kothari-logo.pngTeam Finserv2024-11-27 16:15:362024-11-27 16:20:09Securitisation of MSME receivables in India
