Trade Finance

1
Trade Finance

• When an exporter sells goods to an importer and
  has to allow the buyer a credit period before
  having the payment for the goods, the seller may
  suffer a cash shortage.
• When an importer buys goods from an exporter and
  has to pay the seller immediately on receipt of
  the documents or goods, the importer may
  encounter a cash flow problem.

2
Trade Finance

• Therefore, banks and finance companies offer
  different kinds to facilities to importers and
  exporters in order to solve their problems of
  insolvency. The cash granted in forms of loans
  and advances assists the liquidity position of an
  importer or an exporter.

3
Export Facilities - Overdraft

• The overdraft facility for the current account
  might be unsecured or secured by the accountees
  property or personal guarantee. Overdraft is
  used as a short-term finance to assist cash flow
  because the interest rate is high. There is a
  limited amount provided over a period of time
  which is subject to review annually. Overdraft
  interest is charged only on the actual amount
  overdrawn on a daily basis. Therefore, overdraft
  is suitable for customers with temporary
  liquidity needs and is very flexible.

4
Export Facilities - Packing loan

• Packing loan is offered by a banker to an
  exporter to finance the purchase of raw materials
  for producing the goods to be exported or the
  goods for resale. So it is a pre-shipment
  finance. The exporter must provide information
  required like the Sales Contract (for D/P or D/A)
  or the Documentary Credit for the transaction in
  order to apply for the packing loan. A packing
  loan may be granted against the deposit of the
  documentary credit as the collateral. Under the
  packing loan agreement, the customer must present
  the shipping documents to the bank granting the
  loan before the latest shipment date and expiry
  date of the documentary credit.

5
Export Facilities - Advance against collection

• It is a post-shipment finance. The remitting
  bank agrees to advance a certain percentage of
  the value of the goods under a D/P or D/A
  collection to the exporter before obtaining
  payment from the importer. The interest might be
  deducted from the amount if the payment date is
  known.

6
Export Facilities - Negotiation of Documentary
Credit documents

• (with or without recourse)
• The negotiating bank offers advance to the
  exporter on the basis of the documents sent for
  payment under an irrevocable letter of credit and
  obtains reimbursement from the paying bank or
  issuing bank. The advance may be a certain
  percentage of the amount of the bill of exchange.
  For negotiation with recourse, if payment is not
  ultimately obtained from the issuing bank or
  paying bank, the negotiating bank will be able to
  claim repayment from the beneficiary of the
  advance plus interest.

7
Export Facilities - Negotiation of Documentary
Credit documents

• If the documents are presented for negotiation
  without recourse, it is the responsibility of the
  negotiating bank to check the documents and to
  make the judgment that the documents are complied
  with the terms and conditions of the documentary
  credit. Because once it has paid the bill, it
  has no right of recourse to the exporter.

8
Export Facilities - Bills discounted under
documentary credit available by acceptance

• An acceptance credit requires the bills of
  exchange to be drawn on the issuing bank or a
  paying bank in the beneficiarys country. The
  beneficiary presents the draft and the shipping
  documents for acceptance. After checking the
  documents and accepting the bill of exchange, the
  beneficiary may ask his bank to discount the bill
  of exchange in order to get immediate fund to
  assist his liquidity. The discounted bill of
  exchange will be kept by the bank until maturity
  to obtain payment from the issuing bank or the
  paying bank.

9
Export Facilities - Acceptance credit facility
under documentary collection

• Similar to documentary acceptance credit, when
  the exporter engages in a series of transactions
  with the importer, he may apply for an acceptance
  credit line from his bank with the documents
  under documentary collection as security. Then
  the exporter is authorized to draw a term bill on
  his bank, acting as the acceptance house, which
  is processing the documentary collection for him.
  This bill of exchange is separate from the
  underlying trade bill of exchange which is drawn
  on the importer. When the bill has been accepted
  by his bank, it becomes an eligible bill.

10
Export Facilities - Acceptance credit facility
under documentary collection

• The exporter will discount it with a discount
  house, which can be another commercial bank, a
  merchant bank or a finance company, at a fine
  rate of interest. Then his account will be
  credited with the face value of the bill less
  discount charges and acceptance commission.

11
Export Facilities - Acceptance credit facility
under documentary collection

• At the maturity date, the discount house will
  present the eligible bill to the acceptance house
  for payment. By this time, the exporters bank
  (i.e. the acceptance house) should have obtained
  the reimbursement from the importer under the
  trade bill. An acceptance credit is usually
  granted on a with-recourse condition. The bill
  of exchange drawn by the exporter on his bank
  must have an expiry date later than that of the
  trade bill of exchange under the documentary
  collection.

12
Export Facilities - Factoring

• Factoring is the purchase of trade debts
  (accounts receivables) by a finance company, with
  or without recourse, after deducting the finance
  companys administration fee and the interest of
  the advance. The seller obtains immediate cash
  before the buyers payment for the goods sold on
  Open Account. Some factoring companies also
  provide their clients with a sales ledger
  accounting service and bad debt protection.

13
Export Facilities - Factoring

• Factoring serves young growing companies in the
  early stage of development to obtain finance when
  their owners have few tangible personal assets to
  support the companies for expansion. Instead of
  undertaking the credit control function, they can
  concentrate their effort in production and
  marketing.

14
Export Facilities - Factoring

• Firstly, the seller prepares an invoice to the
  factor to have an assignment stamp on the invoice
  which details that the debt has been assigned to
  the factor. Secondly, the invoice is sent to the
  buyer. The factor releases the agreed percentage
  of the invoice value, usually up to 80, with the
  customer after charging an administration fee for
  the credit control and a discount rate which is
  the equivalent of bank interest. When the
  invoice is due, the factor receives the payment
  from the buyer. The unfinanced portion of the
  invoice value 20 is returned to the customer.

15
Export Facilities - Factoring

• With a recourse factoring, if the factor is not
  paid by the buyer when the invoice is due, the
  customer has to return the advance to the factor.
  With a non-recourse factoring, the customer
  receives the added benefit of protection against
  bad debts. But the customer has to pay the
  factor a bad debt protection premium.

16
Import Facilities - Import loan

• Import loan is offered by a banker to an importer
  for D/P or D/A transactions, which might be
  secured by the importers property or by the
  imported goods only. The bank will pay the
  exporter immediately under D/P at sight or at
  maturity of the draft under D/A on behalf of the
  importer. Then the importer will repay the bank
  at maturity of the loan.

17
Import Facilities - Shipping Guarantee

• The importers bank gives a guarantee to the
  carrier that the responsibility for the goods can
  be transferred to the bank, which enables the
  importer to obtain delivery of the goods without
  presentation of the bill of lading. Shipping
  Guarantee is often used when the goods arrive at
  the destination before the receipt of the
  shipping documents. A shipping guarantee is
  usually a pre-printed form provided by the
  shipping company signed by the importer and
  countersigned by the importers bank.

18
Import Facilities - Shipping Guarantee

• Because the bank will lose physical control of
  the goods upon signing a shipping guarantee, it
  requires protection such as full margin of
  deposit or a trust receipt line.

19
Import Facilities - Trust Receipt (T/R)

• The bank pays the seller for the goods on behalf
  of the buyer and obtain repayment of the amount
  plus interest from the buyer at the maturity of
  the T/R. By the trust receipt, the customer
  agrees to hold the proceeds of sale of the goods
  as the bankers security in place of the goods
  themselves. A trust receipt should only be used
  in the case where the goods were previously in
  the actual or constructive possession of the
  banker and were duly pledged to the banker.

20
Import Facilities - Trust Receipt (T/R)

• Trust Receipt is usually granted with the
  documentary credit line. The importer who takes
  delivery of goods against a T/R agrees to hold
  the goods in trust for his bank and acknowledges
  the banks interest in the goods. He also
  undertakes to repay the bank from the sales
  proceeds.

21
Import Facilities - Hire purchase

• Hire purchase is also called instalment finance.
  The seller receives payment immediately from the
  bank or finance company while the buyer obtains
  the goods immediately and pays for the goods by
  instalments. The ownership of the goods will
  conditionally passed to the buyer after the
  payment of the last instalment.

22
Import Facilities - Forfaiting

• Forfaiting is a method of providing medium-term
  finance to the importer for capital goods by
  banks or finance companies.
• Firstly, the exporter negotiate with the importer
  who wants medium-term finance for the purchase of
  the machinery or equipment.

23
Import Facilities - Forfaiting

• Secondly, the importer must make a down-payment
  (deposit) for the purchase, and balance is to be
  paid by regular instalments within a period of 5
  years to 7 years. Thirdly, the importer has to
  issue a series of promissory notes to the
  exporter, or accept a series of bills of exchange
  drawn by the exporter. Fourthly, the exporters
  bank acts as the forfaiter who discounts the
  series of promissory notes or bills of exchange
  at a fixed or floating interest rate. So that
  the exporter receives cash immediately from the
  forfaiter while the importer can obtain the
  machinery or equipment immediately. Finally, the
  importer pays for the promissory notes or bills
  of exchange on their maturity dates.

24
Import Facilities - Leasing

• Leasing is used for capital goods including
  aircrafts, ships, industrial equipment,
  construction equipment, etc. A lease is a
  contract of hiring of goods whereby the owner of
  the goods, the leasor, delivers the goods to its
  customer, the leasee, who obtains possession of
  and the right to use the goods but not the
  ownership in consideration of the payment of
  rental.

25
Import Facilities - Leasing

• Firstly, the customer signs a Lease Contract with
  a leasing company for the capital goods.
  Secondly, the leasing company pays the seller for
  the goods immediately after delivery. Then, the
  leasee pays rentals to the leasing company
  periodically for the use of the capital goods
  which is still owned by the leasing company.
  Lastly, the leasing company will usually sell the
  capital goods to the leasee after a certain
  period of time or to another party who wants to
  buy the capital goods second-handed.

26
Import Facilities - Leasing

• There are some advantages of leasing. Firstly,
  leasing provides up to 100 of the cost of the
  capital goods and no deposits are required from
  the leasee. Secondly, the lease rentals are tax
  deductible. Thirdly, lease is not a borrowing
  and does not use up the customers capital or
  credit lines. Lastly, if there are tax allowance
  to the lessor arising from the ownership of the
  capital goods, the costs of leasing can even be
  reduced as compared to the hire purchase.

27
Export Credit Insurance

• In today's increasingly competitive trading
  environment, the offer of credit payment terms
  seems inevitable if exporters seek to grow their
  business. Therefore, export credit insurance
  helps to safeguard an exporter's interests while
  promising wider access to trade financing.
  Export credit insurance provides protection
  against the risks of non-payment involved when
  offering credit terms to overseas buyers.

28
Hong Kong Export Credit Insurance Corporation

• In Hong Kong, the Export Credit Insurance
  Corporation (ECIC) has made focused efforts to
  enhance the professional standards of its credit
  risk assessment to increase the confidence of the
  banking community in accepting ECIC policies as
  valid collateral discounted against export bills.
  In fact, most banks in Hong Kong have always been
  willing to accept ECIC policies as secondary
  collateral for export loans.

29
Hong Kong Export Credit Insurance Corporation

• The Hong Kong Export Credit Insurance Corporation
  (ECIC) was created by statute in 1966 to
  encourage and support export trade though the
  provision of insurance protection for Hong Kong
  exporters against non-payment risks arising from
  commercial and political events. Its capital is
  wholly-owned by the Government of the Hong Kong
  Special Administrative Region which also
  guarantees its contingent liability, currently
  standing at 12.5 billion.

30
Hong Kong Export Credit Insurance Corporation

• ECIC was established under the Hong Kong Export
  Credit Insurance Corporation Ordinance (Chapter
  1115). The Corporation provides a wide range of
  insurance facilities to Hong Kong exporters of
  both goods and services who trade with overseas
  buyers on credit terms, usually of up to 180
  days. The facilities cover two main types of
  non-payment risks for goods exported and services
  rendered arising from buyer risks and country
  risks.

31
Hong Kong Export Credit Insurance Corporation

• When an exporter is engaged in export trading on
  credit payment terms, such as Document against
  Payment (D/P), Documents against Acceptance (D/A)
  and Open Account (O/A), he is exposed to
  "non-payment" risks. Unforeseeable political,
  social and commercial factors can also prevent
  payments from the importer to the exporter.

32
Hong Kong Export Credit Insurance Corporation

• Risks covered can be classified as buyer risks
  and country risks. Buyer risks include
• Insolvency and bankruptcy
• Default in payment
• Failure or refusal to take delivery of goods

33
Hong Kong Export Credit Insurance Corporation

• Country risks include
• Blockage or delay in foreign exchange
  remittance
• Cancellation of import licences
• Import bans
• Payment moratorium
• War, revolution, riot and natural
  disaster

34
Hong Kong Export Credit Insurance Corporation

• ECIC facilities cover not only exports shipped
  and re-exported from Hong Kong, but also those
  transported directly from suppliers' countries to
  their destination without passing through Hong
  Kong. The indemnity provided is normally 90 of
  the loss incurred.

35
Comprehensive Cover Policy

• The most popular ECIC product is the
  Comprehensive Cover Policy, which applies to the
  export and re-export of goods from Hong Kong, and
  to the external trade of goods manufactured
  outside Hong Kong, on credit periods of up to 180
  days. Tailor made facilities or variations on the
  standard cover are available. Medium and long
  term cover may also be offered to cover exports
  of capital goods for credit periods of up to 5
  years or even longer if required.

36
Comprehensive Cover Policy

• All protection commences from the date of
  shipment. The CCP covers both your domestic
  exports and re-exports from Hong Kong or from the
  following countries or areas
• China Singapore
• Indonesia South Korea
• Macau Sri Lanka
• Malaysia Taiwan
• Philippines Thailand

37
Comprehensive Cover Policy

• For all events of loss, the maximum percentage of
  indemnity is 90.
• For insolvency or bankruptcy of the buyer,
  claims are settled as soon as all relevant
  documents are submitted.
• Where the buyer fails to pay for goods he has
  taken delivery of, claims are settled 4 months
  from the due date of payment.
• Where the buyer fails or refuses to take
  delivery of the goods, claims are settled
  immediately after the resale of goods.
• For any other event of loss, claims are settled 4
  months after the occurrence of the event.

38
Comprehensive Cover Policy

• Premium rates are calculated on the basis of the
  volume of insurable business, the spread of
  risks, the destination and the terms of payment.
  In general, the riskier the country and the
  longer the credit periods, the higher the premium
  rates.

39
Cover on Sales to Oversea Buying Office in Hong
Kong

• There has been a tendency for overseas buying
  offices in Hong Kong to act as the principals in
  their own right in transactions with local
  manufacturers or suppliers. Where credit sales
  are involved, the local manufacturer is exposed
  to the risks of non-payment and has no legal
  right to pursue payment from the parent company
  of the buying office.

40
Cover on Sales to Oversea Buying Office in Hong
Kong

• To protect the exporters, ECIC has created a
  facility to cover the credit risks arising from
  sales by Hong Kong manufacturers and suppliers to
  buying offices set up in Hong Kong. To be
  eligible for cover, the goods involved in the
  transaction must be intended for export to the
  parent company of the buying office or the
  parent's designated consignees. Documentary
  evidence such as contracts, transport documents,
  export declarations, etc. is normally sufficient
  for this purpose.

41
Cover on Sales to Local Exporters

• It is a common practice for Hong Kong
  manufacturers to supply goods to local exporters
  who in turn sell the goods to overseas buyers.
  Where credit sales are involved, the local
  manufacturer is exposed to the risks of
  non-payment in the event the local exporter
  defaults or becomes insolvent. Therefore ECIC
  has created a facility to cover the credit risks
  arising from sales by Hong Kong manufactures to
  exporters in Hong Kong.

42
Small and Medium Enterprises Policy

• Hong Kong owes much of its success to the
  flexibility and agility of the small and medium
  enterprises (SMEs) which make up most of the
  firms in the services sector. SMEs in general
  however are lack of manpower. Whilst devoting
  their main energy towards new business
  acquisition, they tend to overlook the risks
  inherent. The Small and Medium Enterprises
  Policy gives the SMEs a comprehensive protection
  over accounts receivable from exported goods or
  services.

43
Cover on Export of Services

• Services are tradable internationally and
  increasingly so. To keep up the momentum of
  growth, Hong Kong also needs to promote and
  support the export of services in order to
  enhance its position as an international
  commercial and financial centre

44
Cover on Export of Services

• ECIC provides comprehensive protection to the
  Hong Kong service sector when rendering services
  to overseas clients on credit terms. Tailor-made
  policies will now be available to cater for the
  unique requirements of the service industry.
  Cover usually starts on the date of rendering
  services.

45
Other functions of ECIC

• Apart from insurance cover, ECIC provides a
  credit advisory service to exporters, offering
  advice on the extent of credit which it is
  prudent of them to offer their buyers. The
  service draws on a computerized worldwide
  database that includes some 70,000 buyers, whose
  credit-worthiness is regularly monitored by
  ECICs underwriters. The credit information is
  derived from an international network made up of
  credit information agencies, banks and other
  credit insurers.

46
Other functions of ECIC

• Insurance policies issued by ECIC are accepted by
  the banking community as useful collateral for
  discounting export bills. The protection accorded
  to a policyholder may be extended to the
  policyholder's bank by a letter of authority,
  which enables claims to be paid directly to the
  bank and can be instrumental in helping
  policyholders obtain the banking facilities they
  need.

47
Other functions of ECIC

• With a worldwide network of lawyers and
  debt-collectors available to call on, the ECIC is
  in strong position to assist in solving payment
  problems and advising policyholders on practical
  actions for preventing or minimizing losses
  wherever they trade.

48
Tutorial Exercise

• Distinguish between short-term and long-term
  trade finance from the chapter.
• Discuss the advantages and disadvantages of the
  following import facilities
• Factoring
• Trust Receipt
• Shipping Guarantee

49
Short-term Trade Finance

• Overdraft
• Packing Loan
• Advance against collection
• Negotiation of Documentary Credit documents
• Discounting Bill of Exchange
• Acceptance Credit Facility
• Factoring

50
Short-term Trade Finance

• Overdraft
• Import Loan
• Shipping Guarantee
• Trust Receipt

51
Long-term Trade Finance

• Hire purchase
• Forfaiting
• Leasing

52
Advantages of Factoring to the Seller

• Factoring service allows the seller to be more
  competitive in the market by granting credit
  terms to the buyers.
• Factoring service enhance the sellers cash flow.
• Factoring service leads to a gain in controlling
  administrative costs and improvement in debt
  management. The exporter can concentrate on
  manufacturing, marketing, etc.

53
Disadvantages of Factoring to the Seller

• The factoring charges and interests are expensive
  to the seller which reduce the profit margin.
• There may be adverse effect on the sellers image
  because the factor deals with the overseas buyer
  in debt collection. Therefore, invoice
  discounting is preferred because the overseas
  buyer may be unaware that the documents are
  purchased by the finance company.

54
Advantages of Trust Receipt

• T/R allows the importer to take delivery of the
  goods for further processing or sale before
  paying for the goods, which enhances the
  importers liquidity.
• This trade finance is self-liquidating in the
  sense that the customers repay the bank from the
  sales proceeds.

55
Disadvantages of Trust Receipt

• T/R is granted to customers of high integrity or
  against adequate collateral.
• T/R is a short-term trade finance, overdue
  interest is high.
• The bank loses physical control of the goods.
• The customers credit-worthiness may worsen or
  the goods may be obsolete, so the security
  dependent on the goods may be risky to the bank.

56
Advantages of Shipping Guarantee

• The importers can possess the goods immediately
  upon arrival.
• The importers can avoid paying demurrage charges.

57
Disadvantages of Shipping Guarantee

• The importer must pay the bill even there are
  discrepancies in the documents.
• Margin deposit or Trust Receipt may be required
  to support the shipping guarantee.