If working capital is the lifeblood of a business, then trapped capital is the bane of corporate financial executives around the world.
When a business expands into a new market they are often required to pre-fund a destination bank account in order to make transactions in that market—otherwise known as trapped capital. Businesses have unfortunately accepted this process as the status quo, but the knowledge that this cash could otherwise be used to pay down debt, fund investment opportunities or expand into new markets is widespread amongst corporate financial executives—particularly small- to medium-sized enterprises (SMEs) that face challenges with liquidity sourcing.
Traditional payment rails and antiquated pre-funding requirements are an enormous but hidden economic drain on emerging markets and SMEs that severely impact business expansion, throttle competition, and inhibit regional economic growth and financial inclusion efforts.
As global growth slows and bank lending and services scale back, freeing trapped capital through crypto-enabled payments solutions is one compelling way for SMEs to increase liquidity and fund expansion.
Trapped Capital in Foreign Accounts
Cross-border payments can be facilitated by a small group of correspondent banks that operate within popular transaction corridors. These banks require corporate customers to pre-fund accounts in local currencies on each side of a payment to provide the liquidity necessary for a transaction to vendors, suppliers, employees, etc.
This practice is not only expensive and time consuming, but tying up cash abroad can significantly harm an SME’s ability to operate and grow. Yet it has been an accepted pain point for businesses for decades – with little-to-no modernization.
Beyond this opportunity cost, these accounts carry other hidden costs and obligations, such as the human capital needed to manage them which can also sap an SME’s growth potential.
Burdens of Complex Cash Management
Constant forecasting and shifting of liquidity between accounts across multiple markets necessitates an intimate, up-to-the-minute understanding of local economies and compliance requirements; various fees, taxes and exchange rates; even local holidays and languages. This complex balancing game requires the oversight of entire departments throughout the business.
Most SMEs cannot afford to employ dedicated teams with this type of expertise and instead must cobble together resources, which can lead to mistakes and suboptimal performance. Worse, internal teams—even those at large companies—often still rely on manual solutions to track cash movement and the flow of funds across their operations, resulting in more errors and expenses.
Lack of Credit Limits SME Expansion
Working capital helps fuel business expansion, but rising inflation rates and supply chain shortages are all negatively impacting companies’ ability to access the liquidity necessary for growth.
Outside of cash flow and owner investment, a C2FO 2022 survey found that a line of credit or term loan from a bank is the top source of working capital for a business. Yet affordable access to credit is drying up in today’s economic environment, with 46% of respondents saying that interest rates were a concern for sourcing new financing.
This is even more critical for SMEs, who are, in today’s climate, more sensitive to higher interest rates as they deal with impaired cash flows, price fluctuations and supply chain challenges.
To access liquidity in a destination market, a business may turn to a regional liquidity provider for notional cash pooling. However, this leaves businesses at the mercy of regional banks to fund their international expansion efforts, especially those in emerging markets. But many banks are under pressure from Basel III requirements that dictate how much cash they must keep on hand. This has resulted in a lending preference for larger businesses—leaving SMEs behind and paving the way for monopolistic forces in developing economies.
Without access to bank credit and facing revenue challenges amidst a global slowdown, SMEs looking to expand must instead find ways to free up trapped capital. Cross-border transactions and the traditional system of correspondent banking that supports them are definite areas of opportunity and improvement.
Shrinking Number of Correspondent Banks
Even for those businesses that can handle the expense and opportunity cost of managing foreign bank accounts, access to correspondent banks is dwindling. Despite growing cross-border payment volumes, the number of correspondent banks is steadily declining and becoming more concentrated. This retreat is especially acute in emerging markets because of low margins and perceived risk.
Reduced access to the global banking system can cause the overall cost of cross-border payments in these regions to skyrocket and prohibits SMEs that would otherwise be primed for expansion from breaking into or out of these emerging markets.
The cumulative effect of this limited access can be devastating, suppressing economic growth and development, stifling competition and causing significant negative impacts to local financial inclusion efforts.
Freeing Trapped Capital with Crypto Solutions
In a time of slower growth and restricted lending, freeing trapped capital is critical for SMEs in search of growth and the emerging markets they benefit.
Technical innovation is the key to making this happen. In particular, Economist Intelligence says “new payment methods, some pioneered by fintech firms, will drive the proliferation of digital transfer channels” in markets underserved by banks.
Ripple’s On-Demand Liquidity (ODL) solution helps free trapped capital for SMEs by leveraging crypto-enabled payments for faster, more reliable cross-border capital flows. Available 24/7, global transactions settle in seconds, not days, which dramatically reduces costs, increases transparency and reduces pre-funding requirements.
Tranglo—a leading cross-border payments specialist in Asia—has eliminated pre-funding requirements for partners in more than 20 countries with ODL. Group CEO Jacky Lee states, “By partnering closely with Ripple and introducing On-Demand Liquidity to new markets, we aim to further that ambition to provide accessible and equitable financial services to the masses.”
Additionally, Ripple’s global payments network is available even in challenging corridors like Mexico and Brazil, and companies using ODL can quickly and easily secure seven days of interest-free flexible credit to counter the limited or slow access to credit from traditional banks.
This crypto solution combines improvements in speed, savings and working capital to prime SMEs to fuel expansion efforts in an era of uncertainty, economic struggle and suppressed global growth.
To learn more about using ODL to free up trapped capital, contact our team today.