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Export Financing

Trade Finance is a specific topic within the financial services industry. It's much different, for example, than commercial lending, mortgage lending or insurance. A product is sold and shipped overseas, therefore, it takes longer to get paid. Extra time and energy is required to make sure that buyers are reliable and creditworthy. Also, foreign buyers - just like domestic buyers - prefer to delay payment until they receive and resell the goods. Due diligence and careful financial management can mean the difference between profit and loss on each transaction.

All sellers want to get paid as quickly as possible, while buyers usually prefer to delay payment, at least until they have received and resold the goods. This is true in domestic as well as international markets. 

Increasing globalization has created intense competition for export markets. Importers and exporters are looking for any competitive advantage that would help them to increase their sales. Flexible payment terms has become a fundamental part of any sales package.

Selling on open account, which may be best from a marketing and sales standpoint, places all of the risk with the seller. The seller ships and turns over title of the product on a promise to pay from the buyer. 

Cash-in-advance terms place all of the risk with the buyer as they send payment on a promise that the product will be shipped on time and it will work as advertised. 

Today, open account terms with extended dating are becoming more common despite the dangers.Trade finance provides alternative solutions that balance risk and payment.

 

The two broad categories of trade finance:

 

  • Pre-shipment financing to produce or purchase the material and labor necessary to fulfill the sales order; or
  • Post-shipment financing to generate immediate cash while offering payment terms to buyers. 

 

 

Types of Trade Finance

 

Trade Finance, Working Capital Loans and Foreign Buyer Financing 

Trade finance generally refers to the financing of individual transactions or a series of revolving transactions. Also, trade finance loans are often self-liquidating—that is, the lending bank stipulates that all sales proceeds are to be collected, and then applied to payoff the loan. The remainder is credited to the exporter's account.

The self-liquidating feature of trade finance is critical to many small, undercapitalized businesses. Lenders who may otherwise have reached their lending limits for such businesses may nevertheless finance individual export sales, if the lenders are assured that the loan proceeds will be used solely for pre-export production; and any export sale proceeds will first be collected by them before the balance is passed on to the exporter.

Given the extent of control lenders can exercise over such transactions and the existence of guaranteed payment mechanisms unique to or established for international trade, trade finance can be less risky for lenders than general working capital loans.

 

Working Capital Loans

For exporters, working capital loan programs are normally associated with pre-shipment financing. Many small businesses need pre-export financing to cover the operating costs related to a sales order or contract. Loan proceeds are commonly used to finance three different areas:

 

  • Labor: The people needed to build or buy the export product.
  • Materials: The raw materials needed to produce the export product.
  • Inventory: The costs associated with buying the export product.

 

Term Financing for Foreign Buyers

Frequently, foreign buyers don't have the cash on hand to pay for major purchases. So the buyers ask for extended credit terms and/or financing. Few exporters can manage the cash flow dilemma or commercial and political risks caused by these long-term contracts.

Buyer Credit Programs are often an effective solution that benefits the exporter, their buyer and commercial lenders providing the loans. Programs typically provide loan guarantees to commercial lenders. These kinds of programs benefit all the parties involved. The exporter benefits because they’re paid cash on delivery and acceptance of the product or service. The foreign buyer benefits because they get extended credit terms at markets rates or better. The lender benefits because guarantees, many backed by the U.S. Government, mean full repayment of the loan and a reasonable return on funds loaned. 

 

Trade Finance Products

 

Factoring

Once a product has been shipped, that inventory is converted to an Account Receivable (A/R). A list of all Accounts Receivable is maintained on an aging report while the exporter waits for final payment. If there is a need for immediate cash, it's possible to sell the A/R at a discount. This solution is called Factoring.

Factoring is the discounting of foreign accounts receivable that do not involve drafts as the method of payment. A Factor (an organization that specializes in the financing of accounts receivable) takes title for immediate cash at a discount from the face value. Although factoring is often done without recourse to the exporter, verify these specific arrangements.

Factors typically provide 70% of the face value with 3-5 working days, and assume responsibility for collection from the buyer. After final payment, the Factor will pay the remaining 30% - less a service fee of 4% - 5%.

 

Forfaiting

Forfaiting is the selling, at a discount, of longer term accounts receivable or promissory notes of the foreign buyer. These instruments may also carry the guarantee of the foreign government. Both U.S. and European forfaiting houses, which purchase the instruments at a discounted price, are active in the U.S. market. Because forfaiting may be done either with or without recourse, verify all of the specific arrangements.

 
 
http://www.tradeport.org

 

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