In 2017, the UAE saw about $158.4bn of non-oil exports and re-exports and $258bn of non-oil imports. This level of activity has been enabled by investment in trade-associated infrastructure and logistics-oriented free zones, establishing a globally competitive environment for business. But, just as critical for trade, is easy access to finance.

“Trade finance is a major cog in the wheel that facilitates seamless cross-border business operations,” says Noor bank CEO John Iossifidis in the foreword of The Evolving Landscape of Trade Finance in the UAE, a white paper published by Noor Bank in collaboration with MEED. “In this context, the ethical financing options Islamic banks offer go a long way to supporting sustainable trade and enterprise.”

Dubai has been relatively successful in establishing a well-regulated financial sector. But there are many challenges still to be addressed, particularly for small and medium-sized enterprises (SMEs).

Noor Bank launched its white paper on 1 October at its second Noor Business Council, the bank’s thought-leadership platform for companies involved in trade through the UAE. The event examined the opportunities and challenges facing trade finance in the country.

Transparency issues

According to the Noor Bank report, the Middle East and North Africa region has the world’s second-highest trade finance rejection rate – 18 per cent of all transactions – due to the risk profile of clients and the quality of applications. Indeed, issues surrounding information-gathering, transparency and trust were a prominent focus of the discussions at the Noor Business Council, especially with respect to the SME market segment.

“Seven per cent of corporate applications for trade finance get rejected, in comparison to 50 per cent of SME trade finance applications,” said senior strategist at Xische & Co, Rafi Yachoua, speaking at the Noor Business Council event. “The problem of transparency, the need to know an SME’s financial standing and their trading history in order to allow banks and financial institutions to assess them accurately, is a big one.”

Noor Bank global head of trade Rahul Jayakar said: “Lack of transparency or lack of information have clearly impacted on the availability of trade finance for corporates and SMEs alike. The unmet financing demand globally is approximately $1.6tn, and that is unfortunate.”

Jayakar says that from a bank’s perspective, the most important aspect of trade finance is “whether the risk is financeable or not”. This, he says, depends on whether a bank has the right information and can assess whether the client has properly considered the risk. This can prove especially problematic for SMEs, which are characterised by lower turnover and, often, shorter trading histories. And yet, the segment is also a key source of growth for any economy, and accounts for approximately 40 per cent of GDP and about 42 per cent of employment in the UAE.

The high rejection rate for SME trade finance applications is therefore simultaneously both a weakness for the sector and a potentially serious inhibitor of growth for the private sector and non-oil economy.

Another trend that has developed in 2018 is the extension of credit cycles to accommodate the introduction of VAT. More than one third of attendees at the Noor Business Council said that VAT had been the most significant impact on their business in 2018.

Cash flow

One of the challenges is the time lag between suppliers making VAT payments to the government, which must be done within 30-45 days, and collecting VAT from customers, which can take 120-150 days. “It is a question of managing those cash flows,” says Asim Siddiqui, managing director of steel producer Age Group.

Longer credit cycles also broadly exacerbate risk within the segment, so while a large corporation financing fast-moving consumer goods over 90 days would likely present little risk, an SME looking to finance the purchase of capital goods over five years would demand a greater degree of trust.

“By simply looking at the financials, a bank might see a client has a turnover below $100m and is highly leveraged,” Puneet Saraf, director of project development & structured finance at Philips Capital, told delegates. “But it might not see that the CEO has been trading for the past 20 years, and that 60-70 per cent of the company’s revenue is coming from large corporates that are very credit-worthy and have a very stable income profile.”

Mismatched expectations

Jayaker said that trust between the buyer and seller is extremely important, but that changes in the business landscape have led to a “mismatch” between the expectations of buyers and suppliers. This has resulted in payments being delayed and credit cycles being extended despite there being no change in underlying contractual obligations.

“Both sides, buyers and suppliers, agree that this is not a sustainable model,” said Jayaker. “On the one side, you have the buyer’s debt rating coming down, while on the other side, the supplier is suffering. If it is a strategic supplier to the business, it causes a supply chain problem that needs to be addressed.”

Jayaker said he has seen increased collaboration to address the situation. “What we have seen in the last year is both buyers and suppliers coming to the table and putting their requests in front of the bank.

“That collaboration is now visible, and it is very comforting. But we need this to become a common phenomenon to make it a sustainable ecosystem.”

Industry disruptors

Technology is set to play an increasing role in data collection and risk assessment within the trade finance sphere. “Blockchain, AI and other nascent technologies will be key to unlocking and rethinking the space of trade finance and credit risk in order to bring down that 50 per cent [SME] rejection rate,” said Yachoua.

Some 40 per cent of attendees at the Noor Business Council event also said that Islamic finance mechanisms have an advantage over conventional banking in trade finance.

Age Group’s Siddiqui said that 50 per cent of its trade finance in Saudi Arabia is now sharia-compliant, and that regional and Western businesses alike increasingly appreciate Islamic products for technical reasons, including the locking in of rates, and the pushing back of repayment to the moment goods arrive. With rising interest rates, this locking in of rates represents an opportunity for Islamic trade finance products.