Alexander Hamilton had the genius idea to sponsor a government with investor funds, al’a joint stock corporation. He changed the world. We’ve come along way since then, and as US bonds price the US government’s ability to service debt, but the founding fathers missed an important component of procuring activities - which is what governments are, in effect: procurement organizations. What they failed to control for was the working capital costs of the government. What does that mean? What is working capital? Working capital is the difference between current liabilities and current assets. But more importantly, is what working capital measures, an entity’s operational efficiency. Traditionally known as trade finance, transaction banking has a long history, with instruments such as Bills of Exchange, Bills of Lading, Letters of Credit; these notes acted as currencies during the early 1500s and secondary markets for them were created and became the basis for “merchant banks”. Well after 1980s savings and loan crisis, the largest institutions bought up the major merchant banks, which effectively deprioritized transaction banking against more lucrative forms of finance. More ad-hoc forms emerged, factoring, invoice discounting, PO-financing, these usually came with exorbitant financing fees (and still do). The APR on these products create a “steal from Paul to pay Peter” situation for small and cash poor businesses.
In the world of B2B commerce, there grew a different set of challenges. When it comes to B2B electronic messaging, EDI vendors (electronic data interchange, think EDI for payment = SWIFT, “pre-internet” tech), teamed with large corporations to develop “standards” for certain industries, and certain buyers within. For those unfamiliar, most commerce still runs on EDI technology. Any company older than 30 years, has most of its supplier base using EDI. Purchase orders, confirmation receipts, delivery messages, good receipt notes, and payment notifications. But guess what is missing? Invoice issuance and acceptance/approval.
Late 90s saw the rise of “e-invoicing” vendors to address this gap. In parallel Walmart had enough of EDI vendors collecting huge rents from Walmart and their supplier base, and created the AS2 standard. But alas, we can thank Kmart for establishing “EDI over the internet” to save itself and other retailers who had defensive investments during their competition with Walmart. Regardless of the buyer communication standards, the invoicing gap remained within the EDI data standard, creating ad-hoc, fragmentation to its solution. And like all software products, margins eroded, and e-invoicing vendors needed to expand their capabilities or sell adjacent products. Some went the path of Ariba, and became procure-to-pay platforms. While others, partnered with banking institutions to sell, guess what? Invoices. They called these platforms supply chain finance, where they could segment supplier bases and offer different products. Strategic suppliers could get access to reverse factoring products (meaning buy-side/investors would buy the supplier receivables based on the buyer’s credit rating). The middle of the supplier base would be offered dynamic discounting. And the tail would be offered P-cards. The first major bank & corporate program like this was Citigroup and the Mars Corporation. And guess what happened? They pushed supplier DPO out 90 days, created a liquidity vacuum and told suppliers they had to take a haircut if they wanted the cash at the same time as their original terms. This highly exploitative behavior would, in effect, become industry standard. Small businesses who are domiciled locally, supporting the profits of shareholders to the largest banks, corporates and consulting organizations who implement these technologies; all of whom domicile in the most tax advantageous jurisdictions.
SAP purchased an company called Orbian Supply Chain which offered “Orbian credits” where the investors who bought these reverse factored notes, could get access to credits “down” the supply chain. So 2nd tier and 3rd tier suppliers could benefit, however, what they failed to do is achieve an accounting determination for these credits as short term receivables (90 days or less), that would have made them cash equivalent (or assets). Fast forward, and there now are lots of competitive players trying to build the vision as the central source for working capital solutions (C2FO, Oxygen Finance, TradeShift, Taulia, and many others). They all compete in a fragmented, illiquid market.
Here is the policy opportunity:
There is no rationalized, global exchange in the market place to price government invoices, good receipt notes, or purchase orders.
The federal government is the largest procurement organization in the the world, it would be the market maker for and exchange it could sponsor itself.
The financial & fairness benefits would be tremendous. The one thing that binds us all together is government debt, it makes NO SENSE for the financial industry to profit simply because they have federal reserve accounts…their arbitrage is found by being first in line to cash, to then lend to those willing to take the cash at the highest cost.
With some small adjustments to the Anti-reassignment Act, the federal government can sponsor an exchange for federal payables (and eventually all payables). A new asset class which represents reverse factored instruments (i.e. government risk), and its implementation is not complicated. Simply offer buy-side risk from DoD Wide Area Workflow. Send a daily file of approved invoices (assuming the suppliers are on the exchange), Encrypt/redact necessary information; buy-side bid/ask starts. This would provide sovereign grade risk to investors, at a yield multiple times greater than money market offerings.
The instrument itself is a digital representation of an invoice, good receipt note, or purchase order. Native to the internet, improves the balance sheets of holders (vs cash), lowers the working capital cost to businesses, and exposes the inefficiencies of the buyer: ability to pay on time and accurately (invoice), ability to verify its deliveries and order the correct goods (goods receipt notes), and purchase the right things, at the right time, with the right vendors (PO finance). This works not only for the government, but with this exchange other buyer’s can join (like the largest contractors), and now capital markets will price them…and all the IG policing that currently goes on to ensure prime contractors are paying their subcontractors no longer is needed (or the meek non-binding “Supplier Pay Pledge” Obama set up) → because you have visibility of the transaction behavior. In addition, as a digital instrument, you now can expand its capabilities beyond tagging it with credit rating, compliance goals can be achieved (green requirements, fair labor, no terrorists on your payroll, or in your supplier chain etc ). It’s money with a memory, yield, and programmatic (force supplier to prove compliant behavior via data publication to this debt channel). The effective would a honey pot of virtuous cycles like the world has never seen. Rather than government, corporate, and charitable bureaucracies silo data (operational inefficiencies), data practices become optimized as there is now a mechanism by which capital markets properly price behaviors against all others.
I tried for 3 years to get someone to listen to me while I worked at the Pentagon, without any luck. If there is anyone out there that would like additional detail, please let me know.