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Financing Foreign Trade

International Financial Management


Dr.A.DeMaskey

Learning Objectives
What are the key elements of an import or
export transaction?
What are the three key documents in import
or export transactions?
What are some private sector export financing
sources?
What are some public sector export financing
sources?

International Trade Finance

Trade financing shares a number of common


characteristics with traditional value chain
activities conducted by all firms.
All companies must search out suppliers for
goods and services.
Must determine if supplier can provide products
at required specifications and quality.
All must be at an acceptable price and delivered
in a timely manner.

Elements of an Import/Export
Transaction

Every export sales transaction covers three basic


elements:
Contracts
contractual exchange between parties in two countries
description of goods

Prices
price quotations and terms in the contract should conform to
published catalogues.

Documents
provides shipping and delivery instructions

Documentations in
Import/Export Transactions

Bills of lading (B/L)

issued in the exporting


country by the consulate of
the importing country

issued to the exporter by a


common carrier transporting the
merchandise

Commercial invoice
issued by the exporter and contains
a precise description of the
merchandise.

Insurance documents
must be as specified in the contract
of sale and must be issued by
insurance companies or their
agents.

Consular invoices

Packing lists
may be required so that the
contents of containers can
be identified

International Trade Risks


The Trade Transaction Timeline

Time and Events

Price

Export

Goods

Documents

Goods

Cash

Quote

contract

are

are

are

settlement

request

signed

shipped

accepted

received

of the
transaction

Negotiation

Backlog

Documents are
presented

Financing Period

Documentation of Foreign
Trade Transactions

Key Documents
Letter of Credit
Bill of Lading
Draft

Function
Risk of noncompletion
Foreign exchange rate
risk
Financing foreign trade

Letter of Credit (L/C)

A letter of credit is a banks conditional promise to pay


issued by a bank at the request of an importer in which the
bank promises to pay an exporter upon presentation of
documents specified in the L/C.
The essence of a L/C is the promise of the issuing bank to
pay against specific documents.

Issuing bank must receive a fee for issuing L/C


Banks L/C must contain specified maturity date
Banks commitment must have stated maximum amount
Banks obligation must arise only on presentation of specific
documents and bank cannot be called on for disputed items
Banks customer must have unqualified obligation to reimburse
bank on same condition of banks payment

Letter of Credit (L/C)

Commercial L/Cs are classified as:


Irrevocable vs. Revocable
irrevocable letters of credit are non-cancelable while its opposite can
be cancelled at any time

Confirmed vs. Unconfirmed


issued by one bank and confirmed by another bank

Advantages of L/Cs:
it reduces risk of default
a confirmed L/C helps secure financing

Disadvantages of L/Cs:
the fees charged
reduces the available credit of the importer

Relationships Among the Three


Parties to a Letter of Credit
Issuing Bank
The relationship between
the issuing bank and the
exporter is governed by the
terms of the letter of credit,
issued by that bank

The relationship between


the importer and the issuing
bank is governed by the
terms of the application and
agreement for the letter of
credit

Beneficiary
(exporter)

The relationship between the importer and the exporter


is governed by the sales contract

Applicant
(importer)

Bill of Exchange

A draft, or bill of exchange (B/E), is a written


order by an exporter instructing an importer or its
agent to pay a specified amount at a specified
time.
The party initiating the draft is the maker, drawer,
or originator while the counterpart is the drawee.
Trade draft
Buyer is drawee of draft

Bank draft
Buyers bank is drawee of draft

Negotiable Instruments

If properly drawn, drafts can become negotiable


instruments.
As such they provide a convenient instrument for
financing the international movement of merchandise.
To become a negotiable instrument, there are four
requirements:

Must be written and signed by buyer


Must contain unconditional promise to pay
Must be payable on demand or at a fixed date
Must be payable to bearer

Types of Drafts

Sight drafts
which is payable on presentation to the drawee.

Time drafts
which allows a delay in payment.
it is presented to the drawee who accepts it with a
promise to pay at some later date.
When a time draft is drawn on a bank, it becomes a
bankers acceptance.
When drawn on a business firm it becomes a trade
acceptance.

Bankers Acceptance
When

a draft is accepted by a bank, it becomes a bankers


acceptance.
Example: Acceptance of $100,000 for exporter
Face amount of acceptance
Less 1.5% p.a. commission for 6 months
Amount received by exporter in 6 months
Less 7% p.a. discount rate for 6 months
Amount received by exporter at once

Exporter

may discount the acceptance note in


order to receive the funds up-front.

Bill of Lading

Bill of Lading (B/L) is issued to the exporter


by a common carrier transporting the merchandise.
It serves the purpose of being a receipt, a contract and a
document of title
As a receipt the B/L indicates that the carrier has received the
merchandise
As a contract the B/L indicates the obligation of the carrier to
provide certain transportation
As a document of title, the B/L is used to obtain payment or
written promise of payment before the merchandise is released to
the importer

Characteristics of the Bill of Lading

A straight B/L
provides that the carrier deliver the merchandise to the
designated consignee only.

An order B/L
directs the carrier to deliver the goods to the order of a
designated party, usually the shipper.

A B/L is usually made payable to the order of the


exporter.

Additional Financing Techniques


Used in International Trade

Discounting
Converting a trade draft into cash.

Factoring
Selling export receivables at a discount to a factor.
Expensive but may be of great value to the occasional
exporter.

Forfaiting
Discounting at a fixed rate without recourse of mediumterm export receivables denominated in fully convertible
currencies.

Government Programs for


Export Financing

Export Credit Insurance


Provides assurance to the exporter or the exporters bank
that an insurer will pay should the foreign customer
default.
In the US the Foreign Credit Insurance Association (FCIA)
provides this type of insurance.

Export-Import Bank
Known as the Eximbank, it facilitates the financing of US
exports through various loan guarantee and insurance
programs.