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Topic 2: International Trade Finance(Reading : Shapiro, Chapter 18)

Principal means of payment in international trade Basic trade-financing instruments and documents Different methods of export financing, both private

and public sector Forms of countertrade, costs and benefits

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The Trade Cycle and Risk

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The Trade CycleImporterExporter

The Transaction over Time

Contract

Production

Land Transport

Port of DepartureSea Transport

Port of Destination

Customs!

Land Transport and Delivery

Final Payment

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Types of Risk: Pre-shipment; Shipment; Post-shipment

PAYMENT TERMS

A. Four Principal Means: 1. Cash in advance 2. Letter of Credit 3. Drafts 4. Open Account

B. Cash in Advance 1. Minimal risk to exporter 2. Used where there is: a. Political unrest b. Goods made to order c. New and unfamiliar customer

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C. Letter of Credit (L/C)

1. A letter addressed to seller a. Written and signed by buyer’s bank b. Promising to honor seller’s drafts. c. Bank substitutes its own commitment d. Seller must conform to terms

2. Advantages of an L/C to Exporter a. Eliminates credit risk b. Pre-shipment risk protection

(See Shapiro, Page 641, Exhibits 18.2 and 18.3)

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3. Advantages of L/C to Importera. Shipment assured.b. Documents inspected.c. May allow better sales terms.d. Relatively low-cost financing.e. Easy cash recovery if discrepancies arise.discrepancies arise.

4. Types of L/Csa. Documentaryb. Irrevocablec. Confirmed

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D. DRAFTS1. Definition:

- Unconditional order in writing- Exporter’s order for importer to pay - At once (sight draft) or- In future (time draft)

2. Three Functions of Draftsa. Clear evidence of financial obligation.b. Reduced financing costs.c. Can be a financial product for investors

(i.e. may be converted to a banker’s acceptance)

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F. OPEN ACCOUNT1. Creates a credit sale2. To importer’s advantage3. More popular lately because

a. Major surge in global trade.b. Credit information improved.c. More global familiarity with exporting.

4. Benefits of Open Accounts:a. Greater flexibility in making a trade.b. Lower transactions costs.

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5. Major disadvantage:- Highly vulnerable to government

currency controls.

DOCUMENTS USED IN INT’L TRADE A. Three most used documents

1. Bill of Lading (most important) 2. Commercial Invoice 3. Insurance Certificate

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B. Bill of LadingThree functions:1. Acts as a contract to carry the goods.2. Acts as a shipper’s receipt3. Establishes ownership over goods if negotiable type.

C. Commercial InvoicePurpose:1. Lists full details of goods shipped2. Names of importer/exporter given3. Identifies payment terms4. List charges for transport and insurance.

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D. Insurance Certificate 1. Two Categories: a. Marine: transport by sea b. Air: transport by air 2. Insurance certificate issued to show

proof of insurance.

SHORT-TERM FINANCING TECHNIQUES

FINANCING TECHNIQUES

A. Four Types: 1. Bankers’ Acceptances

a. Creation: drafts accepted b. Terms: Payable at maturity to holder

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2. Discounting a. Converts exporters’ drafts to cash

minus interest to maturity and commissions.

b. Low cost financing with few fees. c. May be with (exporter still liable) or

without recourse (bank takes liability for nonpayment).

3. Factoring Firms sell accounts receivable to another firm known as the factor.

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a. Discount charged by factorb. Non-recourse basis: Factor assumes all payment risk.c. When used: i. Occasional exporting. ii. Clients geographically dispersed.

4. Forfaitinga. Definition: Discounting at a fixed rate without recourse for medium-term accounts receivable. b. Use: Large capital purchasesc. Most popular in W. Europe

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GOVERNMENT SOURCES OF EXPORTFINANCING AND CREDIT INSURANCE

A. Export-Import Bank of the U.S.- known as Ex-Im Bank- Finances and facilitates U.S. exports only.

1. Ex-Im Bank Programs: a. Direct loans to exporters b. Intermediate loans to exporters c. Loan guarantees d. Preliminary commitments e. Political and commercial insurance

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2. Restrictions: - At least 51% U.S. content - No armaments - Must be environmentally friendly

COUNTER-TRADE: A sophisticated form of barter in which the exporting firm is required to take the countervalue of its sale in local goods or services, instead of cash. (Shapiro, P.660-663)

A. Three Specific Forms:1. Barter: Direct exchange in kind.2. Counter-purchase: Sale/purchase of unrelated goods but with currencies.

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3. Buyback: Repayment of original purchase through sale of a related product.

B. When to Use Counter-trade

1. With “soft-currency” developing countries.

2. When tariffs or quotas prevent trade.