Keeping international exports and imports alive is the purpose of trade financing. Whether it’s a small business that is looking to import a unique product found only overseas or it’s a Fortune 500 company exporting massive quantities of inventory around the world, trade finance minimizes the supply and payment risks.
Most often, small businesses have a harder time accessing loans or securing short-term financing options that could help cover the expense of the goods the company is planning to buy or sell. Even if the business is able to produce confirmation of an order, there are many traditional banks that refuse to issue loans of overdraft protections for these transactions.
With traditional financing denied, both large and small business owners may need to turn to their own capital, yet the dangers of tying up that kind of money for weeks or months are many. Whether exporting or importing shipments across the globe and whether the company is large or small, it is estimated the 80% of global trade relies on trade financing.
The Financing Process
With trade financing, a third party assumes the risks of the transaction between buyer and seller. Trading intermediaries like GBTI Bank or other financial institutions direct and conduct a variety of financial contracts between an importer and exporter. With the opportunities that trade financing presents both globally or domestically, international trade has been able to experience significant growth.
The different activities that can be covered through the trade financing process include factoring, letters of credit, lending, and export financing. While the buyer and seller are the most common parties involved in the process, the trade financier, insurers, and export credit agencies can also be a part of the transactions. There are several benefits of using trading financing for your company’s foreign trade needs.
Reduced Payment Risk
In the early trade exchanges, there was a lot of concern that payments for goods would be made, and in a timely fashion. As global trade expanded, exporters sought ways to reduce or limit the risk of non-payment created by importers. The importers had their own worries, as authorizing payments to an exporter brought the risk that the seller may never send the goods agreed upon.
As a result, trade financing became a way to address these risks, as it provides the payments for the exporter while also assuring the importer that their ordered goods have been shipped. A letter of credit is issued by the importer’s bank to the exporter’s bank once the shipment documents have been presented.
The exporter could also receive a business loan from the bank while waiting on payment from the importer, allowing the supply of goods to remain active until the money comes in. The trade financier recovers the loan the payment exchange between banks it made.
Reduced Exchange Pressure
All across the globe, economies have grown under the help of trade financing. The monetary support during transit has helped to bridge the gap between exporters and importers. There is a reduced fear of importer default, in addition to increased confidence that the ordered goods will be shipped. Trade financiers are third-party accountability partners.
Without the threat of financial loss, more parties are will to engage in global trade. This improves the market in both sending and receiving countries and improves the economic stability of the location.
Several Trade Options
Banks and financial institutions can be trade financiers, and between them all, they offer different services or products to meet the need of companies or transactions all around the globe. There are two products most commonly sought after, although the specifics of each will vary according to the circumstances and types of transactions.
- Letter of Credit. This contract is a promise from the importer’s bank issued to the exporter. It outlines the importer’s purchase agreement and the conditions required before the bank will issue the payment to the exporter. Usually the requirements deal with the receipt of shipping documents.
- Bank Guarantee: Acting as a back-up plan, an issuing bank becomes the guarantor in the event that an exporter or importer is unable to fulfill the terms of the agreed-upon contract. The bank is liable for paying an established sum of money to the beneficiary.
Exporters who need to improve their cash flow often use factoring. Through this process, an exporter will sell open invoices to a trade financier or factor for a discounted rate. The factor then collects the needed payment directly from the importer. This process keeps the exporter from the risk of bad debts and provides an influx of working capital to keep their trading operations going.
The factor is able to make a profit from the exchange, as the importer is still required to pay the agreed-upon price through the original contract with the exporter. The factor, however, was able to purchase the invoices for a discounted amount.
Without trade financing options, global trade might have come to a slow halt. The risk of international shipping and financial transactions has been reduced through the interjections of third-party financiers.