It is early afternoon in the late days of summer at UPS Capital headquarters, in suburban Atlanta. Outside, the creek bed winding through the lushly wooded corporate campus runs dry, evidence of the multi-year draught plaguing the southeast. Inside, Bob Bernabucci, the President of UPS Capital, seems oblivious to the weather as he chats with a visitor in his unexpectedly spartan office (although, upon further reflection, I decide that within UPS Capital culture ‘utilitarian’ is probably the supreme compliment).

We’re discussing the long awaited, much heralded Cargo Finance service that UPS Capital has been launching-admittedly in fits-and-starts-over the past year. “How important is it to UPS Capital?” I ask. Without pausing to consider his answer, he responds decisively: “It’s the Holy Grail!”

In evolving from the American Messenger Company into a $50 billion global giant, UPS morphed into its current iteration a while back. While the company continued to make its money delivering packages, it was re-positioning itself to be in the business of ‘synchronizing’ the supply chain. “As UPS management saw it,” reads the official history for the decade of the ‘90s, “the company’s expertise in shipping and tracking positioned it to become an enabler of global commerce, and a facilitator of the three flows that make up commerce: goods, information, and capital.” One result of this strategic vision was the formation of UPS Capital, founded in 1998 with a mission to provide a comprehensive menu of integrated financial products and services that enable customers to grow their business (and thus ship more). With global commerce continuing to expand exponentially-and with it, UPS international shipments-trade finance plays an increasingly important role in the mix.

Which is why I’ve come to Atlanta, to spend ‘a day in the life of a trade finance banker’ at UPS Capital in the trade finance space.

The thing you pick up quickly, getting a guided tour of the UPS corporate headquarters elegant stone-and-glass corporate lobby complete with a model of the founder’s original Model T, is that UPS is a company that puts a huge stake in its history. In self-conscious contrast to the glitz of razzle-dazzle branding that distinguishes most corporate marketing these days, the image projected here is as stolid as the signature brown of their package delivery cars. The future, as it were, is made up here not of quantum leaps but rather steady, incremental, measured steps.  

Cargo Finance, on the other hand, is nothing if not a radical proposition. In its essence, it offers UPS customers the possibility of a unique trade finance solution in return for (what UPS hopes will prove) a sustained relationship in which shipping transportation becomes, instead of a price-driven commodity, the cornerstone in a collaborative ‘ecology’ of vendor, buyer and UPS.

“What we really believe is that global trade has been optimized to the physical movement of goods. It’s gotten better and better.” Chris Vukas is speaking, Sr. Managing Director of Global Supply Chain Finance, the man responsible for launching Cargo Finance. A New Jersey-based banker before transplanting to UPS Capital in Atlanta some half-dozen years ago, Vukas presides over a multi-disciplinary team-sales, legal, credit, IT-charged with taking the service from concept to market. “But there’s a huge opportunity on the finance side. Why is that? We think that when a financial institution looks at its customers, they look only to the borrower of the funds.”

Translation: in the matrix of trade, there is an inextricable connection throughout the entire supply chain. Buyer and seller are linked into that commercial eco-system wherein each not only needs the other, but has a vested interest in their on-going success. Moreover, this heightened relationship of mutual dependency is creating a space for a new approach to trade finance.

“Say we have an importer in the U.S. that’s procuring goods in Asia,” explains Vukas, elaborating on his point. In pricing risk, American banks are typically invoking the same formulae they have historically used. “They will just look at the landed goods in the U.S., they have to be domiciled here and even then they’ll say ‘how does that inventory translate to receivables and how then to cash?’”

UPS sees a different way to structure the deal; one which incorporates into the equation how physical shipments actually flow and the value of managing the entire shipment of the goods being financed. Which generates a different, lesser calculation of risk. “We believe that what needs to happen is that we need to synchronize funds across the world so that if we, UPS, manage the shipment of goods from pick up in China, into a warehouse in China, on as a non-vessel operating carrier, and put those goods on a ship destined for Long Beach, we have visibility into the movement of those goods and are able to release funds earlier because there is less risk.”

Vukas and his colleagues regard their opportunity as bringing ‘full optimization’ to the trade finance process in a way available to no other player. “The components are goods, information and funds,” he says, sounding much like a business school professor. “What many of the banks have done is partner with technology companies. The bank has the funds; the tech companies have the information. What they are typically missing is the ‘goods’ side. Meanwhile, the physical mover of goods has the goods and information. When you look to optimize, you find that the information is redundant, the physical side is creating it and the banks are duplicating it. What if you partnered with the banks and said ‘we only have to manage information once as long as we’re able to rely on each other in partnership!’ That’s the stuff we’re trying to do.”

“Our strategy is to collaborate with financial channel partners and participate in the entire cash conversion cycle.”

Vukas’ enthusiasm and excitement fills the room but, even so, it takes a ‘mere mortal’ reporter a while to get his brain around the idea.

The stripped down version of Cargo Finance goes like this. UPS Capital fronts 50 percent of a buyer’s overseas purchase (the buyer putting up the other half). The buyer then repays UPS Capital according to the agreed upon payment terms. These terms will be established on a deal-by-deal basis and presumably those terms will be better than otherwise obtainable.

So what’s in it for UPS? A stronger core business with less churn of profitable customers. “Annuity customers” is how Vukas’ refers to these targets, customers for whom UPS Capital-through its trade financing-becomes a critical asset. 

This should be particularly the case with small businesses (under $50 million) and, to a slightly lesser degree, mid-sized ones ($50 million to $1 billion). “In the small business market,” notes Vukas, “shipping exit and entry is pretty simple but when you combine the physical movement of goods with financing  the relationship becomes pretty sticky.” The challenge for Vukas’ sales team (which currently numbers six in the product’s ‘beta’ phase, selling to North America and soon Europe) is convincing customers to view financing cost as a component of their entire supply chain cost. Vukas makes the value proposition sound compelling.

“When you’re a small business, you usually don’t have many options around getting debt so you usually have to go into your pocket to support that elongated supply chain. So essentially, you are financing trade at your weighted average cost of capital.”

What is it worth to use trade finance vs. average weighted cost of capital? “It could be as much as a thousand basis points, the difference between 8 percent debt rate and 18 percent averaged weighted cost of capital,” says Vukas. “We show this as the value proposition and ask ‘what does it cost you to put money into your business?’ Then we say, for example, ‘okay, if we can save you thousands of dollars on financing, this should be considered when selecting who manages the shipment of your goods.’”

Then there’s the matter of being able to negotiate better terms with suppliers.

“A strong importer in the U.S. can force the Asia supplier to bring product in and keep it in the Asian company’s warehouse until they pull it, obliging the supplier to finance those goods all the way through. A small guy, who’s going global because they’re forced to get their prices down, is in the opposite situation. A small importer goes looking for a supplier in China and China has all the leverage, it can dictate terms. The buyer has to take ownership at the port in China.

“What we’re saying is that if we manage the transportation of those goods, why can’t we step in, provide the visibility and shipping management services and provide the associated information to help financial institutions? We know that we’ve got information regarding the location of the goods-they exist-so there’s less of an issue with fraud. So if you bring in an intermediary that can provide financing at debt rates rather than weighted average cost of capital, you can have the small importer say to the supplier, ‘I just had my partner UPS Capital provide you with earlier financing so now I would like you to provide me with a discounted price.’”

The buyer, of course, is vital to the program but equally so is the channel partner, the financial institutions, since the business model is based on them providing the bulk of the financing. UPS is putting up the seed capital to launch the service. The idea is to demonstrate the effectiveness of the program to financial institutions, which will provide a significant portion of the on-going funding as channel partners. But, getting banks to come on line has proven challenging.

“We don’t see ourselves as competing against the banks,” says George Knittel, a Senior Credit Officer, himself a former banker, who has joined us around the table in Vukas’ office. From the sound of his average day, it sounds like the focus of Knittel’s work is to line up some global banks. Before the sun rose today, around 6:00 a.m., he was at the office to confer with his key Asia agent (stranded overnight in Hong Kong) about the progress of talks with a world-class Asian-based bank UPS is looking to line up as a ‘marquee’ partner. There was also work on how to launch in Europe (“we find that because of the nature of the market in Europe and more available credit, we’ll have to be able to offer up to 100 percent financing”). Later, he’d be talking to Mexico (“we’re working with a Mexican financial institution, they see value in somebody physically delivering the goods to, and also factoring the receivables of U.S. buyers”).

At the regular every two week meeting of Vukas’ executive team, with his half-dozen key lieutenants gathered around a conference room table, there was discussion about banks accepting the model of reduced risk UPS is proposing. “Lenders have to be educated to a new paradigm,” explained John Holloway, whose focus is on supply chain finance solutions for middle market companies. “We’re asking people to step out and take some risk, leaving the traditional secured protection for enhanced visibility and management of the shipping process. There’s still not a lot of inventory-in-transit lending going on; it has crept into the market, lenders say they’re willing to lend on inventory in transit, but they mostly don’t have a clue to the actual physical side of the process.”

With the security of shipping each step along the way so critical to securing bank cooperation, the first order of business at the meeting is an update on the status of the new technology platform being developed to provide sophisticated visibility into the physical side of the process (there was reference during the presentation that upwards of sixty discrete stages in the shipment cycle could eventually be monitored in real time). Humberto Castillo, Managing Director for the Large (Global) Enterprise segment directs the project, which kicked off in July 2007 as the largest tech initiative started at UPS Capital. “Phase One is scheduled to go live January ’09 with traditional factoring components. The next stage will be receivables and automation of cargo finance data. This is scheduled to go live in April. A major effort is underway into electronic signatures.” 

Jim Fortsch, who arrived some seven years ago when UPS Capital purchased a small Hartford, Connecticut bank with an active export credit agency book of business, reported on developments in his sector. “Last year we did deals in 12 different countries, right now we’re working on transactions in more than 20 countries.” He described one of the recent transactions: “An Argentine hospital needed state-of-the-art medical equipment for minimally invasive laser surgery and had identified a California company as having the technology they needed. But they needed financing on longer terms than the local banks could offer. And, they needed the technology immediately. The combination of being able to provide the financing to the hospital and UPS ability to fly the machines down as soon as they were manufactured was compelling and resulted in a win for everyone involved.”

Throughout the meeting one could sense an undercurrent of renewed determination and focus. “We went after big companies,” explains Vukas, “and that turned out to be the wrong market. In global companies you have multiple decision makers so you typically have a logistics manager, a CFO, a CEO, you may even have a procurement manager. What we try to tell them is that you need to look at your supply chain as if the entire thing is strategic; don’t look, for instance, just at procurement and say, ‘I want to get my procurement costs down.’ But they don’t get it. They’re running departments. What they don’t get is that by bringing down procurement costs they may be bringing up their inventory costs by holding it longer.”

So the strategic sales focus for Global Supply Chain Finance has shifted now to smaller businesses. “We’re saying ‘why not get to those customers who really need us?’ They care about the cash conversion cycle, how do you move inventory to receivables to cash and how do you optimize how many days it takes for that to occur. We bring in the physical side along with the financing side, we show these customers how you can have visibility around your goods-so you won’t be told two days before you expect to receive your shipment that it hasn’t even gotten on the boat yet. Think about what that means for a small business, they were going to sell the product immediately and now they have to wait another 30 days before it physically arrives.”

The small market, so they figure at UPS Capital, is the ideal market for Cargo Finance. “It’s the combined value proposition,” argues Vukas: the price of transportation may itself be higher with UPS but that factor shrinks in significance with the savings realized in financing as well as the benefits of an integrated shipping solution.

“Prospects will complain about price (‘you’re 20 to 30 percent more expensive than going to forwarders’) but our proposal and model is to take negotiating a commodity out of the picture. Financing gets them interested. But in many cases, we’ve got a huge ‘home run’ for them: think time in transit and freeing up cash. With their first shipment they are impressed with the cut in time in transit; by the second shipment they’re excited about how suddenly they’re able to introduce new product because of the cash that is freed up.” Wt

Sidebar: Customer #1: Pedors Orthopedic Shoes

John O’Hare arrived in Atlanta from England some ten years ago looking for a business to start. What emerged was Pedors Shoes, stretch versions of classics (and even clogs) designed for people with severe foot ailments, a product line considerably less expensive than the custom-molded leather shoes previously being offered to that market.

At the beginning he manufactured out of several factories in the Pearl River Delta region of eastern China, using freight brokers for shipping and UPS small package for delivery to customers. 

The business grew (today it’s at $2.5 million, expanding at 8 percent). Today, he ships on average a container-and-a-half per month, eighteen a year.

Some 15 months ago, O’Hare agreed to participate in the pilot of Cargo Finance (indeed, as Customer #1). A typical transaction runs around $60,000 (although he’s financed as much as $200,000), split 50-50 with UPS (O’Hare gets some 60-plus days to repay his outstanding half plus interest). 

How’s it going? So far, so good!

“Dollar-wise, I’d hate to put a number on how much I’m saving, but day-wise I can tell you I’m saving some nine days a shipment (which means nine days less of financing). I’m also saving money because I don’t have to put up 100 percent when goods leave China (as used to be the case).

“I get much better terms from the vendor. Before, it would take 90-115 days to get a dock leaving date. The vendor would want to make sure he was going to get paid. And as a small business, I had to wait until my order fit his production schedule. Now, with UPS paying 100 percent the day the shoes leave the factory irregardless of what my financial condition is, it puts me on a level playing field with the big guys in getting orders promptly filled.”

Any reservations about Cargo Finance?  “I’m 100 percent satisfied. I can’t see any reason why I wouldn’t continue. I pay one vendor-UPS-the simplicity is great.”