152 What do you know about trade finance?

Trade finance includes such activities as lending, issuing letters of credit, factoring, export credit and insurance. Companies involved with trade finance include importers and exporters, banks and financiers, insurers and export credit agencies, as well as other service providers. Trade finance is of vital importance to the global economy, with the World Trade Organization estimating that 80 to 90% of global trade is reliant on this method of financing.In its simplest form, trade form works by reconciling the divergent needs of an exporter and importer.

The role of bank-intermediated trade finance. Bank-intermediated trade finance (or trade finance, in short) performs two vital roles: providing working capital tied to and in support of international trade transactions, and/or providing means to reduce payment risk. The principal alternative to bank-intermediated products is inter-firm trade credit. Firms’ ability to directly extend credit is supported by possibilities to discount their receivables and the availability of financing not directly tied to trade transactions, as well as possibilities to mitigate payment risk by purchasing trade credit insurance.

Size and composition of the trade finance market. Trade finance directly supports about one-third of global trade, with letters of credit (L/Cs) covering about one-sixth of total trade.

We use the following main forms of international payments[5]:

1. Letter of credit - a credit institution instructed one another make payment consignment documents by the reserved funds. This form is the most complex and costly.

2. Collection - a form of payment for foreign trade, which is that the exporter instructs his bank to receive from importing certain amount of currency in the transmission of the last relevant shipping documents.

3. Bank transfer is estimated banking operations carried out because of a telegraph, mail or electronic orders one bank to another.

4. Advance payments - a form of calculation, for which payment is made importer of goods for shipment, and sometimes even to the production of goods. It is most advantageous to the exporter.

5. Payments to open account reduced to periodic payments importer exporter after receiving the goods. They are used for long-term regular supplies at trade connections. These calculations are favorable for importing and exporting unprofitable for (slow capital turnover, increase the risk).

6. Foreign Exchange Clearing - an agreement between the management of two or more of the mandatory mutual credit requirements and international obligations. This form of international payments used to reduce cash requirements and to facilitate the exchange of payment messages. In the presence of clearing transactions between exporters and importers have no right to evade payments clearing.

153. What do you know about forfeiting?

The concept of “forfeiting" was originally developed in Switzerland in mid 1960s and became important after the end of second world war with the objective of helping to finance the west German exports to eastern block countries. The growing importance of trade with developing countries in Africa, Asia and Latin America boosted the forfaiting market to an international level.

Forfeiting is the term generally used to denote the purchase of obligations falling due at some future date, arising from deliveries of goods and services - mostly export transactions - without recourse to any previous holder of the obligation. The forfeiter will deduct interest (discount) in advance for the whole period of credit and disburse the net proceeds immediately. The exporter thus virtually converts his credit based sale into a cash transaction.

Advantages of Forfeiting

1) 100 % Risk Cover

- Country Risk (Political & Transfer Risk)(war, revolution, invasion or civil unrest,)

- Currency Risk (Floating exchange rates can have the effect of changing the contract value)

- Commercial Risk (Inability or unwillingness of the obligor or guarantor to fulfil its obligations on due date)

- Interest Rate Risk (All forfeiting cost (discount, days of grace, commission) are binding and remain)

2) Instant Cash (Your credit sale is transformed into a cash sale which relieves your balance sheet and improves your liquidity)

3) Flexibility and Simplicity (Simple documentation)

Repayments / Amounts (periodic installments, usually at six-month intervals)

Currency (debt is normally denominated in US $, German Marks or Swiss Francs)

Discounting (the interest will be deducted from the face value (nominal) of the drafts and the resulting net proceeds will be paid out immediately

Type of Instrument (promissory note / bill of exchange)

Forms of Bank Security (guarantee / aval)

Ex: 1. Forfeiter commits to purchase deal from the Exporter Forfeiting agreement

2. Commercial contract between Exporter and Importer

3. Delivery of goods from Exporter to Importer

4. Bank gives guarantee

5. Importer hands over documents (drafts against shipping) to Exporter

6. Exporter delivers documents to the Forfeiter (endorsement of drafts according to forfaiting agreement along with shipping and trade documents (e.g. invoice)

7. Forfeiter pays cash ‘without recourse to the Exporter (the total amount of all drafts less discount and fees, if any)

8. Forfeiter presents documents (drafts for collection) to Bank at maturity for payment.

9. Importer repays drafts to bank at maturity

10. Bank repays drafts to Forfeiter at maturity