Wednesday, 1 November 2017
The World Trade Organization estimates that some 80 to 90 percent of world trade relies on trade finance, mostly of a short term nature.
How can companies ensure they will be paid for their goods in a timely manner? And how can companies reassure their international suppliers that they will pay them? Fortunately, a variety of trade finance solutions are available to help companies with everything from making and receiving international payments, improving their working capital, and getting term loans for international sales.
One example of payment risk management would be the use of a Letter of Credit. When U.S. companies sell goods overseas, the buyer's bank can issue a Letter of Credit to ensure payment will be made provided certain conditions are met. By issuing the Letter of Credit, the buyer's bank guarantees the seller will receive its payment on time and for the correct amount.
“The Letter of Credit replaces the credit risk of the foreign party with that of a bank," says Emilio Giliberto, a senior vice president with BBVA Compass' Global Trade Solutions Group.
That extra assurance can be critical for U.S. exporters shipping to an unfamiliar country or a new overseas customer. It also protects the buyer, who only pays if the conditions outlined in the Letter of Credit have been met.
If a U.S. company is looking for a longer-term financial or technical guarantee, it might consider a Standby Letter of Credit.
“A Standby Letter of Credit is generally issued in cases where a party wants assurance related to some form of performance. If the party fails to perform an obligation, whether it be financial or otherwise, the bank will pay the monetary amount associated with the failure," says Giliberto.
Documentary collections are another option available for buyers and sellers that have long standing relationships, but agree that payments will be made upon presentation of documents. Under Documentary Collections, the bank is not offering a payment guarantee, but rather facilitates payments through presentation of documents. Banks will transmit payment documents between buyer and seller and release those documents only when funds are made available for payment. Giliberto notes, “documentary collections allows clients to use the bank's infrastructure to collect or make payments based on delivery of documents."
Cross border sales generally present exporters with financing challenges, whether it be short term working capital needs or assisting purchasers with longer term financing solutions. Relying on supplier credit is very common in international sales transactions, particularly in developing markets where bank credit is generally tighter and more expensive. However, there are a variety of alternative finance solutions, including forfaiting.
Forfaiting is a solution where the bank actually purchases future credit obligations of a foreign buyer (Accounts Receivable, Letter of Credit, Promissory Note, Draft, etc.) from their client that are due to the seller. “When forfaiting, the bank purchases a receivable or financial instrument from the client at a discount and collects the receivable when due. This enables the business to monetize the asset before it is due and provides them with working capital," says Giliberto.
Companies can also finance receivables through specialized working capital lines of credit. Foreign receivables are typically not eligible under standard credit lines. However, specialized credit lines to finance foreign receivables or inventory can be designed using credit insurance policies or government guarantees. Giliberto continues, “Programs through Export Credit Agencies or private insurers can be used to protect sellers from buyer default and allow for financing of foreign receivables."
Companies looking for longer-terms might qualify for export agency finance, which in the U.S. is backed by guarantees from the EX-IM Bank, the Export Credit Agency (ECA) for the federal government. According to EXIM's 2016 annual report, it authorized $5 billion in financing to support $8 billion in exports. Since 2009, EXIM has financed more than $240 billion in U.S. exports.
ECA-guaranteed loans “are there to support exports and are generally open to taking on risks in countries or on deals where private insurers will not. Most notably, they support sales to developing countries or those countries with under-developed banking or financing systems," says Giliberto. ECA-guaranteed loans provide financing for pre-export needs and multi-year terms for purchases of equipment or services.
For U.S. companies, dealing with international customers and suppliers presents a challenge, but also a real opportunity for long-term growth. Together, trade finance tools can help companies access international markets efficiently, serve them effectively, and remain competitive as they expand.
The content provided is for informational purposes only. Neither BBVA Compass, nor any of its affiliates, is providing legal, tax, or investment advice. You should consult your legal, tax, or financial advisor about your personal situation. Opinions expressed are those of the author(s) and do not necessarily represent the opinions of BBVA Compass or any of its affiliates. All accounts and credit are subject to approval, including credit approval. BBVA Compass is a trade name of Compass Bank, a member of the BBVA Group. Compass Bank is a Member FDIC.
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