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Alternative Trade Finance Options
Massachusetts Export Expo
December 11, 2012
International Risks
Discounted Letters of Credit
Why We’re Here
Standby Letters of Credit
Documentary Collections
Forfaiting
International Risk
International Risks
• Commercial risk (credit risk)
Risk associated with the individual or institution responsible for
payment (risk factors such as poor profitability, lack of sales,
cash flow problems, insolvency, etc.)
• Political risk (country risk)
Inability of your customer to pay the receivable in full or on time
due to government action (risk factors such as, war or military
actions, revolution, changes in export- import laws, currency
inconvertibility)
• Foreign exchange risk
Transaction, translation and economic exposure
Questions to Ask Before Selecting Method of Payment
• What’s our leverage with this buyer?
• Can the business afford the loss if it is not paid?
• Will extending credit and the possibility of waiting
several months still make the sale profitable?
• Can the sale only be made by extending credit?
• If the shipment is made and not accepted can an
alternative buyer be found?
International Methods of Payment
Intl Methods of Payment: Risk Assessment
Seller
Exporter
High Risk
Relies completely
on buyer to pay as
previously agreed
Relies on buyer to pay
draft on presentation
or upon maturity
Risk of his own nonperformance in
adhering to all the
requirements in the LC
No risk
Low Risk
Open
Account
Buyer
Importer
No Risk
Documentary
Collections
Relies on exporter
to ship goods as
described in
documents
Letter of Credit
Relies on seller to ship
goods as described
in the documents
Cash in
Advance
Relies completely
on exporter to ship
goods as ordered
Low Risk
High Risk
Letter of Credit Usage
Country/Continent
L/C Usage
Japan
Rare
Asia (not including Japan)
Yes
South America
Yes
Europe
No, but may use
Bankers Guarantee
Eastern Europe
Yes
Middle East
Yes
Commercial Letters of Credit
Commercial Letter of Credit
• An Irrevocable commitment by a bank to pay a seller of merchandise
when documents evidencing shipment are presented to the
issuing bank.
• The issuing bank substitutes its credit for that of the buyer, thus
assuring the seller that payment will be made by the bank provided
that the terms and conditions of the L/C are met.
• If the L/C is “confirmed” by a U.S. bank, the U.S bank undertakes to
pay seller, thus eliminating the foreign bank and country risk
associated with an unconfirmed L/C.
Benefits to Exporter
• Issuing Bank’s credit replaces the buyer’s credit.
• Eliminates foreign bank and country risk if confirmed a U.S Bank.
• Protects seller against order cancellation.
• Provides seller with the highest degree of protection, short of cash in
advance.
• Seller receives payment as quickly as possible.
• Time LCs or usance credits offer a built-in financing mechanism.
The Draft
• Also know as “Bill of Exchange”
• An unconditional obligation of the drawee to pay it at maturity
• A draft is a demand for payment
• Draw on and accepted by a bank
• For payment at a future specific date
Sample Draft:
No. 12345
August 15, 2012
At 60 Days from Sight
ORDER OF
THE SUM OF
OF THIS SOLE BILL OF EXCHANGE PAY TO THE
XYC, Inc.
$1,000,000.00 ------------------- U.S. DOLLARS
One Hundred Thousand and 00/100 United States Dollars
TO:
Korea Bank
ABC, Inc.
Seoul, Korea
AUTHORIZED SIGNATURE
Acceptance and Deferred Payment
• Acceptance:
A time draft, or a bill of exchange, on which the drawee has written
the word "Accepted" and affixed a signature. It is an unconditional
obligation of the drawee to pay it at maturity.
Banker's Acceptance: A draft drawn on and accepted by a bank (drawee).
Trade Acceptance: A draft drawn on and accepted by a buyer (drawee).
• Deferred Payment:
Paid at some future date without requirement of bill of exchange or
draft (high stamp duty in certain countries)
Letter of Credit Financing Solutions
What is L/C Discounting?
• Bank purchases the draft under an L/C from the client at discount
of the face value on a non-recourse basis, then SVB collects the
proceeds of the L/C at maturity.
• Utilize Commercial Letters of Credit to obtain extended payment
terms from suppliers
• Eliminate Country and Commercial Risk
• Discounting allows access to cash tied up in Letters of Credit that
have yet to pay
• Source of Cash beyond Traditional Lines of Credit or Equity
Letters of Credit Discounting - Calculation
Discounting of $1,000,000 L/C for 180 days
Formula: Amount of L/C X Discount Rate X No. of Days / 360
$1,000,000 X 4.11% (0.61% [6Mo Libor] + 3.5%) X 180 / 360 =
$20,550.00
Net proceeds = $979,450
Pricing Considerations:
• Credit worthiness of Issuing Bank of the L/C
• Country Risk
• Tenor of Draft
• Party responsible for discount fee
Potential Benefits
Benefits to Seller
• Accelerates Cash Flow and provides Non-recourse Financing
• Mitigates Foreign Risk and Vendor Performance Risk
• Competitive advantage – allows seller to offer financing to buyer
• Reduces DSO
• Finance AR that may be Ineligible under client’s Line
Standby Letters of Credit
Standby Letters of Credit
• A Irrevocable undertaking of the issuing bank to honor, by payment, the beneficiary’s
draft/documents when properly presented under the terms of the standby letter of
credit
• Supports applicant’s obligation under a contract or agreement by adding bank’s
undertaking
• In the event that the applicant fails to comply with the terms of the underlying
agreement, the bank is obligated to pay the beneficiary upon presentation of
documents in compliance with the terms and conditions of the letter of credit.
• Secondary mechanism of payment – because the letter of credit should be drawn on
only if the applicant fails to fulfill his obligation covered in the underlying contract.
• In merchandise trade transactions, they are commonly used for invoice support,
advance payments, performance bonds or to guarantee payment to a supplier
Standby Letters of Credit
Standby Letters of Credit are often used to support a variety of
transactions. Frequent uses include:
Invoice Support Standby
can be used in conjunction with Open Account payment terms. As
supplier may be willing to ship on Open Account terms but only if it has
received a separate assurance from a bank, that the buyer will pay
those invoices. The Invoice Support Standby serves the purpose, and
provides the buyer with a bank undertaking that the invoice will be
promptly paid.
Standby Letters of Credit
Standby Letters of Credit are often used to support a variety of
transactions. Frequent uses include:
Performance Standby
can be used when a supplier is required to provide a Performance
Standby to a buyer. The performance Standby serves to assure the
buyer that the supplier will perform in accordance with the terms of the
contract and in fact supply the goods, etc.
Advance Payment Standby
can be used when a buyer is required to make an up-front payment to
the supplier, in advance of the actual supply of goods. In such
circumstances, the buyer may require a separate assurance, issued by
the supplier’s bank, that the advance payment will be refunded in the
event that the supplier fails to perform under the contract.
Standby Letters of Credit
Standby Letters of Credit are often used to support a variety of
transactions. Frequent uses include:
Guarantee – Federal Reserve Regulations prevent nationally chartered banks in the
United States from issuing Guarantees. That is the reason why U.S. banks generally
issue Standby Letters of Credit in lieu of Guarantees.
Counter Standby Guarantees – Some international contracts require that a Standby
Letter of Credit or Guarantee be issued in a specific foreign country and under the laws
or in the language of, that foreign country. When a U.S. bank cannot issue its own
Standby Letter of Credit or Guarantee under the required term, they will instead issue a
Counter Standby to a correspondent bank in the foreign country. The correspondent bank
will then use the U.S. bank’s counter Standby Guarantee as security for its issuance of
the local Guarantee in the required format.
Documentary Collections
Documentary Collections
• Documents controlling merchandise forwarded through banking
channels
• Documents surrendered when buyer:
o
o
Pays, or
Accepts seller’s draft
• Not a guarantee of payment
• A seller will usually agree to receive payment on a documentary
collection basis when the buyer’s creditworthiness and country of
domicile represent acceptable risks
Documentary Collections - Tenor
• Sight or Documents Against Payment:
The payment is made when the documents are received by the
buyer’s bank and the buyer agrees to pay.
• Tenor or Documents Against Acceptance (30, 60, 90 etc. days):
The documents are received by the buyer’s bank, the buyer signs
draft or bill of exchange and agrees to pay at a specific future date.
o Risk: The seller is counting on the buyer’s ability to pay on the
maturity date. Remember, the buyer has possession of the
merchandise before payment is due. If the buyer’s bank adds their
Aval, which is their unconditional obligation to pay at maturity, the
draft can be discounted for immediate funds.
Documentary Collections – Benefits to Exporter
• More competitive sales terms - gives exporter advantage over
other sellers that are offering Cash in Advance or LC terms
• Banks monitor the collection and automatically send out
periodic tracers
• Slightly more secure for the seller than an open account.
Documents are controlled by agent banks until payment is
obtained or the draft is accepted by buyer.
• Less costly than an LC.
International Credit Products - Forfaiting
Alternative Financing Solutions
What is Forfaiting?
• It’s an international trade finance practice, where a bank purchases, at a
discount, larger dollar amount, longer-term receivables from exporters. It
could be a one-off deal or a series of on-going transactions.
• Forfaiting is a non-recourse transaction
• Ideally, amount is $500,000 or more and the term is 6 months or longer, up to
5-8 years.
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Potential Benefits
Benefits to Seller
• Accelerates Cash Flow and provides Non-recourse Financing
• Mitigates against all Foreign Risk of non-payment.
• Competitive advantage – allows seller to offer financing to
buyer under open account payment terms.
• Reduces DSO
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Questions?