CHAPTER 6

TRADE FINANCE
CONTENTS
• Overview of Trade Finance

• Supplier credit & Buyer credit

• Bank Financing

o Bank financing under a sale contract.

o Bank financing under collection

o Bank financing under letter of credit

o Factoring

o Forfaiting
OVERVIEW OF TRADE FINANCE

- “Trade finance” means financing the funds required for the performance of an
international trade transaction. It exists to mitigate, or reduce, the risks involved in
an international trade transaction.

- Trade finance includes such activities as lending, issuing letters of credit, factoring,
export credit and insurance. Companies involved with trade finance include
importers and exporters, banks and financiers, insurers and export credit agencies,
and other service providers.

- Trade finance is used when financing is required by buyers and sellers to assist
them with the trade cycle funding gap.
 SUPPLIER CREDITS BUYER CREDITS

• The importer obtains financing from

• The supplier acts as the financier,
a financial institution (Banks) to pay
offering credit terms to the buyer,
the exporter. The financial institution
allowing them to delay payment for a
directly pays the exporter on behalf
predetermined period (credit sales).
of the buyer.
• => the supplier (exporter) is
• => the buyer (importer) is
responsible for providing the funds
responsible for providing the funds.
• Exporters have to manage the cash
• Buyer credit often involves the use of
flow dilemma or commercial risk
financial instruments like L/C or bank
caused by these long term contract.
guarantees to ensure secure
payment for the exporter.
BANK FINANCING

ü Bank financing refers to the provision of funds by banks or financial institutions to both

exporters and importers to support their international trade activities.

ü Bank financing options available to exporters and importers:

o Bank financing under a sale contract.

o Bank financing under collection

o Bank financing under letter of credit

o Factoring

o Forfaiting
 BANK FINANCING UNDER A SALE CONTRACT

• For Exporter: Export contract-based loans

• Banks may consider providing loans to exporters based on the confirmed export
contracts or purchase orders they have received. Loans application includes the export
contract.
• Bank will assess the creditworthiness of the exporter and the reliability of the contract
terms to determine the loan amount, prime rate and preferential terms.
• When a contract is signed, especially when L/C is issued, with a certain future foreign
currency receivable, the bank can finance the exporter in domestic or foreign currency
(for example, forward transaction for selling/buying foreign currency..)
• Banks can also use some special financing techniques to support exporters.
 BANK FINANCING UNDER A SALE CONTRACT

• For Importer:
• If the exporter requires the importer to make advance payment, the importer can
request a loan from the bank.

• If the payment method is L/C, the importer will prepare a deposit and will then receive
"credit" support from the bank in issuing the L/C to the exporter.
 BANK FINANCING UNDER COLLECTION

• For Exporter:
• Negotiation or advance the documents under documentary collection.

• Negotiation of Bill of exchange under D/A collection.

NEGOTIATION OR ADVANCE THE DOCUMENTS UNDER DOCUMENTARY COLLECTION

• After the delivery of goods, the principal (the seller) entrusts the collection of the payment to the
remitting bank (the seller’s bank) by providing collection documents and a collection form. The
exporter may request the bank to negotiate (discount) or advance the shipping documents.

• For negotiation documents under documentary collection, bank will purchase the shipping
documents at the face value less discount and any fees. As the drawee is a business firm
(importer), bank will negotiate the documents with full recourse to the exporter.

• For advancing documents, banks may accept collection documents as collateral for loans. This
type of financing involves using the collection documents, such as B/L or invoices, as security for
the loan.
NEGOTIATION OF BILL OF EXCHANGE UNDER D/A COLLECTION

• Negotiation of bills under D/A collection means the purchase of an accepted draft with
recourse by a bank from an exporter.
• This a trade finance technique commonly used by exporters to obtain financing before the
payment due date.
• For D/A collection, bank may advance a percentage of the bill's value to the exporter, minus
the discount rate and any fees.
• As the draft is drawn on and accepted by a business firm, bank will negotiate with full
recourse to the drawer.
 BANK FINANCING UNDER COLLECTION

• For Importer:
• Bank loan secured by consignment.

• Avalisation of Bill of exchange.

• Shipping guarantee

• Bill of lading endorsement

BANK FINANCING UNDER COLLECTION:
BANK LOAN SECURED BY CONSIGNMENT

• For D/P at sight, the importer is expected to make immediate payment on presentation of the
shipping documents. If the importer does not have the necessary funds to make payment,
he can use the consignment or the goods themselves as collateral to request importer’s
bank loan.

• Risk for bank: delayed debt collection if the importer fails to sell the goods or sell the goods
at a low price.

• Risk for importer: bank refuses to finance the importer

BANK FINANCING UNDER COLLECTION:
AVALISATION OF B/E

• In a D/A transaction, the importer may request their bank to issue an avalised bill of
exchange. An avalised bill of exchange is a payment instrument that carries the guarantee of
the importer's bank to pay the exporter in case the drawee (importer) fails to make payment
on the maturity date.

• In order to obtain an aval on the bill of exchange, the importer has to prove its
creditworthiness to the bank.
BANK FINANCING UNDER COLLECTION:
SHIPPING GUARANTEE

• In documentary collection, if the goods have arrived at the destination, but the collection
documents are not yet available to be presented, the importer may request the collecting
bank to issue shipping guarantee instructing the shipping company to release the goods to
the importer without the need for the collection documents.

• In order to obtain shipping guarantee from the bank, importer has to pay immediately or
undertake to pay in a determinable future time.

• Once the collection documents are available, bank presents documents to the shipping
company to recover the guarantee.
BANK FINANCING UNDER COLLECTION:
B/L ENDORSEMENT

• In some case of documentary collection, exporter may specify “to order of collecting bank”
B/L. Base on the creditworthiness of the importer, the collecting bank can endorse B/L to the
importer, who can then take possession of the goods.

• If goods is shipped by air or multimodal transport, the collecting bank issues a shipping
guarantee rather than endorsed B/L
 BANK FINANCING UNDER LETTER OF CREDIT

• For Exporter:
• Issuing bank undertaking to irrevocably honour a complying presentation.

• Financing with L/C collateralization.

• Negotiation of documents under an L/C.

• Negotiation of accepted bill of exchange under an L/C.

• Confirming an L/C
BANK FINANCING UNDER LETTER OF CREDIT:
Issuing bank undertaking to irrevocably honour a complying presentation

• The undertaking to irrevocably honour a complying presentation made by the issuing bank
can be understood as a conditional credit commitment in favour of the exporter. Receiving a
Letter of Credit (L/C) provides the exporter with a conditional payment guarantee, which is
considered safer compared to other methods of payment.

Financing with L/C collateralization

• After L/C is advised to the exporter, the exporter presents the L/C received from the
importer's bank to their own bank as collateral for financing.

• Risk for bank: exporter cancels the contract, non-complying presentation

BANK FINANCING UNDER LETTER OF CREDIT:
Negotiation of Documents

• This is a means of bank financing/funding the beneficiary of documents (exporter) under a

letter of credit payable abroad.

• The nominated bank, under a complying presentation, may agree to advance funds to the
beneficiary of an L/C (exporter).

• According to UCP600, unless a nominated bank is the confirming bank, an authorization to

honour or negotiate does not impose any obligation on that nominated bank to honour or
negotiate.

• Normally, bank negotiation is with rescourse. In the event of non-payment or delayed

payment, the negotiating bank exercises the right of recourse to its customer.
BANK FINANCING UNDER LETTER OF CREDIT:
Negotiation of accepted bill of exchange

• This is a means of bank financing/funding the payee of a draft (exporter) under an L/C
payable abroad.

• In case of usance L/C, with comlying presentation, issuing bank will accept the draft. When a
draft is drawn on and accepted by a bank, it becomes a bankers’ acceptance.

• Bankers’ acceptance is the unconditional promise of that bank to make payment on the draft
when it matures => easily to be negotiated without recourse => by negotiating a bankers’
acceptance, bank will provide immediate financing to the exporter based on the value of B/E.
BANK FINANCING UNDER LETTER OF CREDIT:
Confirming L/C

• If the exporter has concerns about the issuing bank's ability to fulfill payment obligations,
they may opt for a confirmed L/C arrangement with the importer.

• Issuing bank issues an L/C, and the confirming bank adds its confirmation to the L/C

=> the exporter receives an additional payment guarantee

• In some cases, a confirming bank may offer financing options to the exporter based on the
confirmed L/C. This can provide working capital or liquidity to the exporter, allowing them to
fulfill their production or operational requirements.
 BANK FINANCING UNDER LETTER OF CREDIT

• For Importer:
• Issuing an L/C.

• Low deposit requirement or Unsecured loan

• Bank loan.

• Banker’s Acceptance.

• B/L endorsement.

• Shipping guarantee
 FACTORING

• Definition:
ü Factoring is a special form of short-term finance where a finance company (the factor)
purchases the seller’s receivables and assumes the credit risk, either with or without
recourse to the seller. (Grath, 2016).

ü Factoring is a form of credit extension by a credit institution to the selling party through
the purchase of receivables which have arisen from the purchase, sale of goods as
agreed in the goods purchase and sale contract between the selling party and the
buying party. (Decision No. 1096/QD-NHNN of The State Bank of Vietnam).
 FACTORING

• Services that sellers typically receive in factoring :

ü Short-term financing

ü Invoice Processing and Collection

ü Accounts Receivable Management

ü Credit Protection
 FACTORING

• Characteristics of factoring :
ü Factoring involves the sale of accounts receivable by a seller to a factor. The factor
purchases these receivables at a discounted value.
ü Factoring provides the seller with immediate access to cash. Instead of waiting for
buyers to pay their invoices, the seller receives an upfront cash advance from the
factor.
ü When a seller engages in factoring, it transfers the responsibility of collecting payment
to the factor.
ü Factoring can offer risk mitigation for the seller. Depending on the type of factoring
arrangement, the factor may assume the risk of customer non-payment. With non-
recourse factoring, if a customer fails to pay a valid invoice, the loss is absorbed by the
factor.
 FACTORING

• Types of factoring :
ü Recourse Factoring vs Non-Recourse Factoring
ü Informed vs Non-informed Factoring

ü Domestic Factoring vs International Factoring.

 INTERNATIONAL FACTORING

(1) Export contract

Exporter Importer
(2) Invoice

(6) Pay on (5) Advice

(2) Invoice (3) Advance (8) Pay
due date of payment
Copy up to 80-95% remaining
invoice value balance

Export Factor Import Factor

(4) Invoice Copy
INTERNATIONAL FACTORING

(1) The exporter (seller) and the importer (buyer) enter into a contract.

(2) The exporter enters into a factoring agreement sells the receivables to the export factor. The exporter
raises an invoice on the importer, with instructions to on how payment is to be made directly to the
factor. The exporter also sends copies of the invoices and the shipping documents to the export factor.

(3) The export factor pays an agreed percentage of the invoice amount to the seller (up to 80-95%)

(4) The export factor assigns copies of the invoices to the import factor (the foreign factor).

(5) The import factor request the importer to pay the invoice.

(6) The importer makes payment of the full amount of the invoice to the import factor as per agreed
terms on due date

(7) The import factor transfers the payment the export factor

(8) The export factor pays the remaining balance to the exporter minus fee
COST IN FACTORING

Factoring involves several costs and fees that are typically charged by the factor:

ü Discount or Factoring Fee: The fee is typically calculated as a percentage of the face
value of the invoices and is deducted from the cash advance provided to the
business,1.5%-3%/month.

ü Administrative or Service Fee: This fee can cover expenses related to invoice
verification, credit monitoring, collections, and providing financial reports to the
business (0.5- 2.5% annually).

ü Recourse Factoring has higher cost than Non-Recourse Factoring.

 ADVANTAGES OF INTERNATIONAL FACTORING

• For Exporter:
ü Allow exporter to sell with Open account or D/A payment term => increases export
capacity.

ü Without recourse factoring eliminates the non-payment risk by the buyer => increase
ability to expand to new markets.

ü The factor provides a quick boost to cash flow within a short time => increase the
seller’s total liquidity and provide smoother financial planning.

ü The seller can often make use of additional administrative systems to reduce workload.

ü Reduce bad receivables.

ü Language and legal issues are handled by professional Factor experts.

 ADVANTAGES OF INTERNATIONAL FACTORING

• For Importer:
ü The importer can negotiate better terms with suppliers (open account, D/A).

ü Less time and expensive than L/C.

ü No deposit.

ü Get consulting services related to international trade from Factor.

Typically, the factor are often a division or subsidiary of a commercial bank, and they
also register as members of Factors Chain International (FCI).
 FORFAITING

• Forfaiting is a type of medium- and long-term financing in international trade where a financial
institution, known as a forfaiter, purchases the exporter's receivables at a discount. The forfaiter
provides upfront cash payment to the exporter, typically a percentage of the total invoice value
without recourse. In forfaiting, the forfaiter assumes the risk of non-payment by the importer and
bears responsibility for all associated risks. The percentage of the invoice value to be paid by
the forfaiter is agreed upon by both parties, and it can be up to 100%.

• In forfaiting, the exporter transitions from selling on credit to selling on a cash basis. The
forfaiter holds the trade receivables until maturity, treating them as an investment, or may
choose to sell them as a portfolio to other investors.

• Forfaiting is very popular in Eastern Europe: Swiss, German, and Austrian banks are the largest
Forfaiting service providers.

• Recently, British and American Forfaiting services have also begun to develop
 CHARACTERISTICS OF FORFAITING
• Forfaiting allows exporters to convert their deferred export revenues into immediate cash
payments. This improves their payment capacity and cash flow, providing them with immediate
liquidity.
• By transferring the trade receivables to the forfaiter, exporters can avoid national and market
risks associated with the collection of receivables.
• Forfaiting does not appear as a debt on the exporter's balance sheet => helps exporters
maintain favorable financial ratios and criteria
• Forfaiting typically involves a fixed interest rate => eliminating the risk associated with
fluctuating interest rates and exchange rate risk
• Exporters are freed from the administrative work and risks associated with credit management.
• Forfaiting provides exporters with access to medium- and long-term export credit, enabling
them to expand their sales market share.
• Exporters can reduce their reliance on export credit insurance => reduce insurance costs.
 FORFAITING FOR B/E

(1) contract

(3) Goods delivery

Exporter Importer
(4) Aval B/E

(4) Aval B/E

(2) (5) Aval B/E (6) Cash
Forfaiting payment
contract

(8) Payment
Avalising Bank /
Forfaiter Importer’s Bank
(7) Present aval B/E
FORFAITING FOR B/E

1. Commercial contract between exporter and importer

2. Forfaiting contract between exporter and the forfaiter.

3. Delivery of goods by the exporter to the importer

4. Bank gives guarantee, Importer hands over aval B/E to Exporter

5. Exporter delivers documents to the Forfaiter

6. Forfaiter pays cash ‘without recourse’ to the Exporter

7. Forfaiter presents documents to Bank at maturity for payment

8. Payment made by the avalising bank to the forfeiter.

FORFAITING FOR L/C
(2) Contract
Exporter Importer
(4) Goods delivery

(7a) (3b) (5) Present (3) L/C

(8a) Payment
payment advice L/C docs application

(3a) issue L/C

Advising Bank Issuing Bank
(5a) Docs delivery
(7) n
egot
iate fo rm
(6) In
fa i t i ng
o u t for
(5b) present other docs ab
Forfaiter
(1) Fortfaiting contract (8) Payment
FORFAITING FOR L/C

1. Forfaiter commits to purchase the b. The exporter presents other documents

receivables that Forfaiter requires to receive the discount
2. Commercial contract between exporter 6. Forfaiter informs about the forfating
and importer
7. Foifaiter negotiate
3. The importer applies to the issuing bank
a. Payment from advising bank
to issue L/C
8. Payment from the issuing bank on the
a) Bank issues L/C
maturity date
b) Bank advices L/C a. Payment from importer on the maturity
4. Delivery of goods by the exporter to the date
importer
5 Exporter presents documents
a. Advising bank sends docs to Issuing bank
ADVANTAGES OF FORFAITING
For small and medium-sized exporter:
• Reducing their assets tied up in receivables and liabilities
• Enhance payment ability
• A high level of financial support
• Reduce risk
• Fixed discount rate
• Reduce administrative costs
• Reduce insurance costs
• Giảm chi phí bảo hiểm
• Security
For importer:
• Documentation procedures are simple and easy to follow
• Enjoy a longer credit term with fixed interest rates
So sánh giữa Forfaiting và Factoring

Forfaiting Factoring
Medium- and long-term financing (up to 5 Short-term financing (90 – 180 days)
years)
Up to 100% invoice value 70% to 90% of the invoice value
Applicable to most types of firms, especially Applicable to firms with large revenue
small firms
The forfaiter primarily considers the credit The factor assesses the creditworthiness of
risk of the avalisation bank or issuing bank the buyer (debtor)
Often include a range of additional services Not include additional services
beyond financing
Much higher cost Lower cost