In recent years, supply chain finance has become a focal point for innovation in financing and payment solutions, attracting significant attention from stakeholders in supply chain management companies, particularly from state-owned enterprises (SOEs). However, amidst this rising trend, the silent risks associated with financed trade activities have emerged, exposing the vulnerabilities inherent within these financial frameworks.

Among the various participants in this domain, certain state-owned enterprises, driven by the pursuit of immediate economic gains, have frequently dabbled in financed trade, leading to a cascade of significant risk eventsA notable example surfaced when a subsidiary of a major state-owned company in Inner Mongolia faced scrutiny due to financing-related trade issues, resulting in several executive dismissalsSimilarly, a provincial state-owned enterprise in Anhui fell victim to a fraud scheme linked to its supply chain operations, incurring economic losses exceeding 5 billion yuan (approximately $750 million).

According to Xiao Jing, an associate researcher at the Institute of Law, Chinese Academy of Social Sciences, the fundamental issue behind these risks and disputes in supply chain finance springs from the nature of financed trade itself

This type of trade often masquerades as genuine commerce while effectively functioning as a conduit for borrowing money or securing financing, pulling multiple stakeholders into a complex web of legal relationshipsWhen the borrowing party fails to meet its debt obligations, it initiates a domino effect of repercussions within the supply chain.

Beijing-based attorney Wang Ying echoes these sentiments, highlighting that the financing activities are further obscured by intricate layers of enhanced credit structures that characterize supply chain financial trading systemsAs the scale of trade expands, companies may resort to issuing commercial notes through various supply chain tiers, using these instruments as a medium for financial circulation and fundingThis maneuver not only disrupts the rational allocation of credit resources but also risks illegal cross-border capital flows, ultimately harming the financial security of the enterprises involved and leading to the potential loss of state assets.

For instance, the Inner Mongolia Transportation Group, the largest state-owned enterprise in the region with a capital base of 100 billion yuan, faced issues with its supply chain management subsidiary, which had recently seen an overhaul of high-level executives due to a series of financing-related controversies

• Global Asset Collapse!
• Market Trends and Returns in Private Equity Investment
• Bretton Woods Collapse Ended Dollar's Gold Standard
• Supply Chain Finance Under Scrutiny
• Threatened Value: Unraveling Growth Challenges

Reports indicate a troubling trend where state-owned enterprises engaged in large-volume trade or resource-intensive industries have inadvertently provided fertile ground for the shadowy operations of financed trade.

In 2023, the public prosecutor's office released a statement detailing a massive fraud case involving Anhui Huawen International Trade CoDuring a commercial relationship from 2008 to 2014, the company was embroiled in a situation where Yunnan Huijia Import and Export Copilfered goods without compensatory payments, inflicting a direct loss of over 3.23 billion yuan and additional indirect losses totaling 2.015 billion yuanThe defense argued that since the transaction between the two companies was misrepresented as a sale but essentially operated as a loan agreement, it led to substantial long-term loss of state assets.

Another prominent player, Shanghai Electric, a leader in high-end equipment manufacturing, revealed in 2021 that overdue accounts receivable at its subsidiaries posed a significant risk, with potential net profit losses estimated at a staggering 8.3 billion yuan

Investigations hinted at underlying issues of financed trade and empty trading practices that often intertwine with the financial scheme.

Why, however, do local state-owned enterprises that primarily engage in bulk transactions consistently emerge from these scenarios with severe risk exposures? According to an unnamed industry expert, bulk commodity trading's characteristics, such as high transaction values, standardized practices, and significant liquidity, position it as an appealing collateral for financingFurthermore, the inherent demand for financing within commodity transactions makes these enterprises prime candidates for participating in financed trade.

A vice-minister of legal compliance at a central enterprise also noted that local state-owned enterprises often capitalize on financing trade initiatives to exploit short-term gainsWhile this strategy may provide momentary financial success, it amplifies systemic risks and disturbs financial order in the long term.

The lack of robust risk management frameworks within these firms exacerbates the situation

Many state-owned enterprises pursue supply chain financial activities or expand into bulk trading without adequate expertise, leading them to overlook vital risk factors such as operational and counterparty risks, which lays the groundwork for potential pitfalls.

In practice, a recurring issue known as "moving paper instead of goods" often arisesA former factoring company employee noted that while documentation and contracts might appear legitimate, the physical goods often remain undispatchedMany corporations go so far as to align with connected companies masked under the auspices of state enterprisesThis façade creates the illusion of normal trade relations; however, much of the accounts receivable are simply internal transactions that enlarge the business scale for enhanced financing benefitsAdditionally, core enterprises sometimes dictate terms to suppliers regarding when to issue invoices, skewing cash returns within the supply chain.

The emergence of unscrupulous entities has contributed to the market's complexity

These actors target the supply chain finance sector, posing as legitimate service providers for bulk commodity tradeThey promise financial facilitation and customer introductions for government platforms, state-owned firms, and publicly listed companies while promoting attractive financing terms and credit ratings enhancement.

At the heart of supply chain finance lies the authenticity of the trade, a principle that is often compromisedWang Ying explains that while the financed trade model appears sound, it is inherently fragileAs trades are conducted through manipulated receivables cycles or other credit enhancement measures, it deceptively extends the periods of outstanding receivablesThough it superficially benefits each participant in the supply chain, once a primary company encounters financial difficulties, the interior circulation of notes becomes worthless, leaving behind uncollectable debts.

Previously, some major banks connected directly with large state-owned and prominent private enterprises' Enterprise Resource Planning (ERP) systems, gaining access to complete transactional data, including invoices and purchase records

These banks are equipped with risk warning systems that leverage data analytics to enhance risk identification capabilities, automatically prompting alerts when anomalous high-value activities, potentially misaligned with core operations, occur.

Xiao Jing elucidated further on the two primary categories of financed trade in supply chain finance: "trading type" and "credit enhancement type." The former typically encompasses transactions structured as sale contracts with payment, whereas the latter relies on various parties to utilize property rights, such as goods and receivables, leveraging trade methods and financial guarantees to secure short-term financing or bolster credit standings.

"In either model, financed trade integrates numerous stakeholders," Xiao continued"During economic upward trends, risks might appear negligible, but during downturns, the default of the borrowing party could sever financial links, triggering a chain reaction