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Unit 4: Trade Settlement Methods, Export
Finance, International Sources of Finance
International Finance
Trade Settlement Methods
2 Mrs. Charu Rastogi, Asst. Professor
Methods of payment in international trade
 To succeed in today‟s global marketplace and win
sales against International t...
Methods of payment in international trade :
Cash in Advance / Prepayments
 With cash-in-advance payment terms, the export...
Methods of payment in international trade:
Letters of Credit
 Letters of credit (LCs) are one of the most secure
instrume...
Letter of credit: Procedure
Buyer (Importer) Seller (Exporter)
Exporter‟s bank
(Advising Bank)
Importer‟s bank
(Issuing Ba...
Types of Letter of Credit
 Irrevocable and revocable letters of credit
 A revocable letter of credit can be changed or c...
Types of Letter of Credit
 Transferable letters of credit
 A transferable letter of credit can be passed from one
'benef...
Types of Letter of Credit
 Revolving LC
 The revolving credit is used for regular shipments of the same commodity to the...
Methods of payment in international trade:
Documentary Collections/Drafts/Bills of Exchange)
 A documentary collection (D...
Methods of payment in international trade:
Open Account
 An open account transaction is a sale where the goods are
shippe...
Comparison
12 Mrs. Charu Rastogi, Asst. Professor
Comparison
Cash in
Advance
Letter of Credit DC/BoE Open Account
Time of
Payment
Before
Shipment
When shipment is
made
On p...
Export Finance
14 Mrs. Charu Rastogi, Asst. Professor
Export Finance Classification
 Export finance can be:
 Pre-shipment finance
 Post shipment finance
15 Mrs. Charu Rastog...
 Pre-shipment finance refers to finance extended to purchase,
processing or packing of goods meant for exports.
 Pre-shi...
 Pre-shipment finance refers to finance extended to purchase,
processing or packing of goods meant for exports.
 Pre-shi...
Export Finance Methods
 Accounts Receivable Financing
 An exporter that needs funds immediately may obtain a bank loan t...
Export and Import Finance Methods
 Banker‟s Acceptance (BA)
 This is a time draft that is drawn on and accepted by a ban...
Export and Import Finance Methods
 Medium-Term Capital Goods Financing (Forfaiting)
 The importer issues a promissory no...
Factoring V/s Forfaiting
On going arrangement Single transaction based
Open account sale LC or bank acceptance required
...
Buyer‟s Credit and Supplier‟s
Credit
22 Mrs. Charu Rastogi, Asst. Professor
Buyer‟s Credit
 A financial arrangement in which a bank or financial
institution, or an export credit agency in the expor...
Benefits of Buyer‟s Credit
 The exporter gets paid on due date; whereas importer
gets extended date for making an import ...
Buyer‟s Credit Process Flow
 Indian customer imports the goods either under DC / LC, DA /
DP
 Indian customer requests t...
Regulatory Framework
 Amount and Maturity
 Maximum Amount Per transaction : $20 Million
 Maximum Maturity in case of im...
Costs Involved
 Foreign bank interest cost
 Foreign Bank LC Confirmation Cost (Case to
Case basis)
 LC advising and or ...
Suppliers Credit
 Supplier‟s Credit relates to credit for imports into
India extended by the overseas suppliers or
financ...
Buyer’s Credit Supplier’s Credit
 importer of goods applies
for buyers credit
 buyers credits can be
arranged Sight LC,
...
International Receivables and
Cash Management
Working Capital Management
30 Mrs. Charu Rastogi, Asst. Professor
International Receivables
Management
 Receivables management involves converting
receivables to cash and facilitating :
...
International Cash Management
 Cash management can be broadly defined to
mean optimization of cash flows and
investment o...
Cash flows of a subsidiary
Subsidiary
Parent Long term
projects and
investments
Accounts
Payable
Raw
material and
supplies...
Centralized cash management
 While each subsidiary is managing its own
working capital, a centralized cash management
gro...
Centralized Cash Flow
35 Mrs. Charu Rastogi, Asst. Professor
Techniques to optimize cash
flows
 Accelerating Cash inflows
 The more quickly the cash inflows are received, the
more q...
Techniques to optimize cash
flows
 Minimizing currency conversion costs
 Netting reduces administrative and transaction
...
38 Mrs. Charu Rastogi, Asst. Professor
Techniques to optimize cash
flows
 Managing blocked funds
 A government may require that funds remain within
the country...
Techniques to optimize cash
flows
 Implementing inter-subsidiary cash transfers
 A subsidiary with excess funds can prov...
Complications in Optimizing Cash Flows
 Company related characteristics
 Delay in payment from one subsidiary to another...
Investing Excess Cash
 Excess funds can be invested in domestic or foreign short-
term securities, such as Eurocurrency d...
Investing excess cash
 Diversifying Cash Across Currencies
 If an MNC is not sure of how exchange rates will
change over...
International Sources of Funds
Sources of funds-
•ECBs
•FCCBs
•ADRs
•GDRs
•FDI
•Syndicated Loans
44 Mrs. Charu Rastogi, As...
External Commercial Borrowings
45 Mrs. Charu Rastogi, Asst. Professor
Indian Companies can borrow from
sources outside India through:
 ECBs: Bank Loans, Buyer‟s Credit, Supplier‟s Credit,
Sec...
Need for ECB
 Underdeveloped and the developing economies
require external assistance due to the shortage of
capital with...
 Under the ECB window, companies in India are
allowed to borrow from overseas, under certain
conditions, through differen...
 ECB is allowed through both direct and approval
routes. Under the direct route, companies in
businesses, such as hotel, ...
Forms of External Commercial
Borrowings
 ECB may be in the form of:
 Commercial bank loans
 Buyers‟ credit
 Suppliers‟...
Automatic Route
 Amount
 Corporates in Industrial Sector or Infrastructure Sector-USD
750 mn per annum
 Corporates in s...
Automatic Route
 Eligible lenders
 International banks,
 International capital markets,
 Multilateral financial instit...
Automatic Route : End use
 ECBs are supposed to be utilized for meeting foreign
exchange cost of capital goods and servic...
Approval Route
 Eligible borrowers
 Borrowers in eligible in automatic category
intending to raise more than the amount ...
Approval Route
 Eligible borrowers
 Cases falling outside the purview of the automatic route
limit
 ECB with minimum av...
Approval Route
 Additional end use permitted under approval route
 Repayment of Rupee loans availed from domestic
bankin...
Approval Route
 Additional end use permitted under approval
route
 Refinancing of Rupee loans raised by Telecom
companie...
Benefits of ECBs
 ECBs are very economical source of raising funds,
since the interest rate is far less as compared to th...
The down side of ECBs
 The borrower can be in trouble if the position is not
hedged properly and the currency depreciates...
FCCBs
60 Mrs. Charu Rastogi, Asst. Professor
Foreign Currency Convertible Bonds
 FCCB is a quasi-debt instrument that is issued in a
currency different the issuer‟s d...
Foreign Currency Convertible Bonds
 They carry a fixed interest or coupon rate and are
convertible into a certain number ...
Process of Issuing FCCB
 Obtain prior permission of the Department of
Economic Affairs, Ministry of Finance, Government o...
Process of Issuing FCCB
 When an issuing company issues ordinary shares or
bonds under this Scheme, to a Domestic Custodi...
Advantages of FCCBs
 It is a low cost debt as the interest rates given to FCC
Bonds are normally 30-50 per cent lower tha...
Disadvantages of FCCBs
 FCC Bonds are ideal for the bull market scenario as
the conversion occurs at a premium price lowe...
Disadvantages of FCCBs
 If the stock price goes below the conversion price, then the
issuer loses an opportunity to dilut...
FCCBs in India
 Following the sustained liberalisation programme undertaken by
the Indian Government to integrate with th...
FCCBs in India
 Most of the FCCBs that will mature in 2012 were issued in the
years 2007–2008, when the foreign exchange ...
FCCBs in News for wrong
reasons
 Wind turbine manufacturer Suzlon Energy has
defaulted on $221 million worth of foreign
c...
American Depository Receipt
71 Mrs. Charu Rastogi, Asst. Professor
American Depository Receipt
 An American Depositary Receipt (or ADR) represents ownership
in the shares of a non- U. S. c...
Benefits of ADRs
Benefits to the Issuing Company :
 An ADR programme can stimulate investor
interest, enhance a company‟s...
Benefits of ADRs
Benefits to the Investors:
 Increasingly investors aim to diversify their portfolios internationally.
 ...
Global Depository Receipt
75 Mrs. Charu Rastogi, Asst. Professor
Global Depository Receipt
 It is global finance vehicle that allows an issuer to raise
capital simultaneously in two or m...
Global Depository Receipt
 GDRs have become synonymous with selling equity in the
Euromarkets.
 This is so because fresh...
 A GDR gives its holder the right to get equity shares
of the issuer company against the GDR as per the
term of the offer...
Benefits
 Access to capital markets outside the home market.
 Enhancement of company visibility.
 Increases potential l...
FDI
80 Mrs. Charu Rastogi, Asst. Professor
Foreign Direct Investment
 The United Nation‟s World Investment Report
(UNCTAD,1999) defines FDI as “an investment
involv...
Types of FDI
 Horizontal
 It refers to FDI in the same industry in which the organization
operates in the home nation.
...
Types of FDI
 Green field Investments
 It is the direct investment in new facilities or the
expansion of existing facili...
Benefits of FDI
 To Host Country
 Availability of Scarce Factors of Production: FDI helps attain a
proper balance among ...
Benefits of FDI
To host country (contd.)
 Building of Economic and Social Infrastructure:
 When the foreign investors in...
Benefits of FDI
 To Home Country
 Improvement in Balance of payment : inflow of foreign
currencies in the form of divide...
Costs of FDI
 To host country
 Adverse Effects on Competition: The new foreign subsidiaries
may grow to have more econom...
Costs of FDI
 To home country
 Undesired outflow of factor of production
 The cost accruing to the home country is only...
Loan Syndication
89 Mrs. Charu Rastogi, Asst. Professor
Loan Syndication
 When the size of the lending is huge running into a few
hundred millions or billions, a few banks join ...
Loan Syndication
 Syndicated Loan involves many banks coming
together to meet debt requirement of a client.
 It typicall...
Players in Syndicated Loan
 Managing Bank/Mandated Lead Manager:
 Managing bank is appointed by the borrower to arrange ...
Advantages
 Advantages
 Allows raising of large amount even running into billions of
dollars.
 Better visibility for bo...
Disadvantages
 Disadvantages
 Generally take longer than bilateral loans
 Documentation is more complex.
 Generally co...
95 Mrs. Charu Rastogi, Asst. Professor
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Unit 4  Trade Settlement Methods, Export Finance, International Sources of Finance Slide 1 Unit 4  Trade Settlement Methods, Export Finance, International Sources of Finance Slide 2 Unit 4  Trade Settlement Methods, Export Finance, International Sources of Finance Slide 3 Unit 4  Trade Settlement Methods, Export Finance, International Sources of Finance Slide 4 Unit 4  Trade Settlement Methods, Export Finance, International Sources of Finance Slide 5 Unit 4  Trade Settlement Methods, Export Finance, International Sources of Finance Slide 6 Unit 4  Trade Settlement Methods, Export Finance, International Sources of Finance Slide 7 Unit 4  Trade Settlement Methods, Export Finance, International Sources of Finance Slide 8 Unit 4  Trade Settlement Methods, Export Finance, International Sources of Finance Slide 9 Unit 4  Trade Settlement Methods, Export Finance, International Sources of Finance Slide 10 Unit 4  Trade Settlement Methods, Export Finance, International Sources of Finance Slide 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Settlement Methods, Export Finance, International Sources of Finance Slide 66 Unit 4  Trade Settlement Methods, Export Finance, International Sources of Finance Slide 67 Unit 4  Trade Settlement Methods, Export Finance, International Sources of Finance Slide 68 Unit 4  Trade Settlement Methods, Export Finance, International Sources of Finance Slide 69 Unit 4  Trade Settlement Methods, Export Finance, International Sources of Finance Slide 70 Unit 4  Trade Settlement Methods, Export Finance, International Sources of Finance Slide 71 Unit 4  Trade Settlement Methods, Export Finance, International Sources of Finance Slide 72 Unit 4  Trade Settlement Methods, Export Finance, International Sources of Finance Slide 73 Unit 4  Trade Settlement Methods, Export Finance, International Sources of Finance Slide 74 Unit 4  Trade Settlement Methods, Export Finance, International Sources of Finance Slide 75 Unit 4  Trade Settlement Methods, Export Finance, International Sources of Finance Slide 76 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Unit 4 Trade Settlement Methods, Export Finance, International Sources of Finance

This presentation covers Trade Settlement Methods, Export Finance, Buyers credit and supplier’s credit, International receivables and cash management, and International Sources of Finance such as ECB, FCCB, ADR, GDR, FDI, Loan Syndication.

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Unit 4 Trade Settlement Methods, Export Finance, International Sources of Finance

  1. 1. Unit 4: Trade Settlement Methods, Export Finance, International Sources of Finance International Finance
  2. 2. Trade Settlement Methods 2 Mrs. Charu Rastogi, Asst. Professor
  3. 3. Methods of payment in international trade  To succeed in today‟s global marketplace and win sales against International trade presents a spectrum of risk, which causes uncertainty over the timing of payments between the exporter (seller) and importer (foreign buyer).  For exporters, any sale is a gift until payment is received.  Therefore, exporters want to receive payment as soon as possible, preferably as soon as an order is placed or before the goods are sent to the importer.  For importers, any payment is a donation until the goods are received.  Therefore, importers want to receive the goods as soon as possible but to delay payment as long as possible, preferably until after the goods are resold to generate enough income to pay the exporter.3 Mrs. Charu Rastogi, Asst. Professor
  4. 4. Methods of payment in international trade : Cash in Advance / Prepayments  With cash-in-advance payment terms, the exporter can avoid credit risk because payment is received before the ownership of the goods is transferred.  Wire transfers and credit cards are the most commonly used cash-in-advance options available to exporters.  However, requiring payment in advance is the least attractive option for the buyer, because it creates cash-flow problems. Foreign buyers are also concerned that the goods may not be sent if payment is made in advance.  Thus, exporters who insist on this payment method as their sole manner of doing business may lose to competitors who offer more attractive payment terms. 4 Mrs. Charu Rastogi, Asst. Professor
  5. 5. Methods of payment in international trade: Letters of Credit  Letters of credit (LCs) are one of the most secure instruments available to international traders.  An LC is a commitment by a bank on behalf of the buyer that payment will be made to the exporter, provided that the terms and conditions stated in the LC have been met, as verified through the presentation of all required documents.  The buyer pays his or her bank to render this service.  An LC is useful when reliable credit information about a foreign buyer is difficult to obtain, but the exporter is satisfied with the creditworthiness of the buyer‟s foreign bank.  An LC also protects the buyer because no payment obligation arises until the goods have been shipped or delivered as promised. 5 Mrs. Charu Rastogi, Asst. Professor
  6. 6. Letter of credit: Procedure Buyer (Importer) Seller (Exporter) Exporter‟s bank (Advising Bank) Importer‟s bank (Issuing Bank) 1. Sale Contract 3. Send Credit 4. Deliver Letter of Credit 2. Request for Credit 5. Deliver Goods 7. Present Documents 6. Present Documents 8. Documents and claim for payments 6 Mrs. Charu Rastogi, Asst. Professor
  7. 7. Types of Letter of Credit  Irrevocable and revocable letters of credit  A revocable letter of credit can be changed or cancelled by the bank that issued it at any time and for any reason.  An irrevocable letter of credit cannot be changed or cancelled unless everyone involved agrees. Irrevocable letters of credit provide more security than revocable ones.  Confirmed and unconfirmed/Advised letters of credit  When a buyer arranges a letter of credit they usually do so with their own bank, known as the issuing bank. The seller will usually want a bank in their country to check that the letter of credit is valid.  For extra security, the seller may require the letter of credit to be 'confirmed' by the bank that checks it. By confirming the letter of credit, the second bank agrees to guarantee payment even if the issuing bank fails to make it. So a confirmed letter of credit provides more security than an unconfirmed one.  In case of unconfirmed LC, the advising bank forwards an unconfirmed letter of credit directly to the exporter without adding its own undertaking to make payment or accept responsibility for payment at a future date, but confirming its authenticity. 7 Mrs. Charu Rastogi, Asst. Professor
  8. 8. Types of Letter of Credit  Transferable letters of credit  A transferable letter of credit can be passed from one 'beneficiary' (person receiving payment) to others. They're commonly used when intermediaries are involved in a transaction.  Stand-by LC  A standby letter of credit is like a guarantee that is used as support where an alternative, less secure, method of payment has been agreed.  It is an assurance from a bank that a buyer is able to pay a seller. The seller doesn't expect to have to draw on the letter of credit to get paid. 8 Mrs. Charu Rastogi, Asst. Professor
  9. 9. Types of Letter of Credit  Revolving LC  The revolving credit is used for regular shipments of the same commodity to the same importer. It can revolve in relation to time or value. If the credit is utilised it is re-instated for further regular shipments until the credit is fully drawn. If the credit revolves in relation to value once utilised and paid the value can be reinstated for further drawings.  Revolving letters of credit are useful to avoid the need for repetitious arrangements for opening or amending letters of credit.  Back to Back LC  A back-to-back letter of credit can be used as an alternative to the transferable letter of credit. Rather than transferring the original letter of credit to the supplier, once the letter of credit is received by the exporter from the opening bank, that letter of credit is used as security to establish a second letter of credit drawn on the exporter in favour of his importer.  Many banks are reluctant to issue back-to-back letters of credit due to the level of risk to which they are exposed, whereas a transferable credit will not expose them to higher risk than under the original credit. 9 Mrs. Charu Rastogi, Asst. Professor
  10. 10. Methods of payment in international trade: Documentary Collections/Drafts/Bills of Exchange)  A documentary collection (D/C) is a transaction whereby the exporter entrusts the collection of a payment to the remitting bank (exporter‟s bank), which sends documents to a collecting bank (importer‟s bank), along with instructions for payment.  Funds are received from the importer and remitted to the exporter through the banks involved in the collection in exchange for those documents.  D/Cs involve using a draft that requires the importer to pay the face amount either at sight (document against payment) or on a specified date (document against acceptance).  The draft gives instructions that specify the documents required for the transfer of title to the goods. Although banks do act as facilitators for their clients, D/Cs offer no verification process and limited recourse in the event of non-payment.  Drafts are generally less expensive than LCs.10 Mrs. Charu Rastogi, Asst. Professor
  11. 11. Methods of payment in international trade: Open Account  An open account transaction is a sale where the goods are shipped and delivered before payment is due, which is usually in 30 to 90 days.  Obviously, this option is the most advantageous option to the importer in terms of cash flow and cost, but it is consequently the highest risk option for an exporter.  Because of intense competition in export markets, foreign buyers often press exporters for open account terms since the extension of credit by the seller to the buyer is more common abroad. Therefore, exporters who are reluctant to extend credit may lose a sale to their competitors.  However, the exporter can offer competitive open account terms while substantially mitigating the risk of non-payment by using of one or more of the appropriate trade finance techniques, such as export credit insurance. 11 Mrs. Charu Rastogi, Asst. Professor
  12. 12. Comparison 12 Mrs. Charu Rastogi, Asst. Professor
  13. 13. Comparison Cash in Advance Letter of Credit DC/BoE Open Account Time of Payment Before Shipment When shipment is made On presentation of draft As agreed upon Goods available to buyers After payment After payment After payment Before payment Risk to exporter None Very little - None Disposal of unpaid goods Relies on buyer to pay as agreed upon Risk to importer Relies on exporter to ship goods as ordered Assured shipment but relies on exporter to ship goods as described in the documents Relies on exporter to ship goods as described in the documents None 13 Mrs. Charu Rastogi, Asst. Professor
  14. 14. Export Finance 14 Mrs. Charu Rastogi, Asst. Professor
  15. 15. Export Finance Classification  Export finance can be:  Pre-shipment finance  Post shipment finance 15 Mrs. Charu Rastogi, Asst. Professor
  16. 16.  Pre-shipment finance refers to finance extended to purchase, processing or packing of goods meant for exports.  Pre-shipment credit also known as „Packing credit”. Packing credit can also be extended as working capital assistance to meet expenses such as wages, utility payments, travel expenses etc; to companies engaged in export or services.  The main objectives behind pre-shipment finance or pre export finance is to enable exporter to:  Procure raw materials.  Carry out manufacturing process.  Provide a secure warehouse for goods and raw materials.  Process and pack the goods.  Ship the goods to the buyers.  Meet other financial cost of the business. Pre-Shipment Finance 16 Mrs. Charu Rastogi, Asst. Professor
  17. 17.  Pre-shipment finance refers to finance extended to purchase, processing or packing of goods meant for exports.  Pre-shipment credit also known as „Packing credit”. Packing credit can also be extended as working capital assistance to meet expenses such as wages, utility payments, travel expenses etc; to companies engaged in export or services.  The main objectives behind pre-shipment finance or pre export finance is to enable exporter to:  Procure raw materials.  Carry out manufacturing process.  Provide a secure warehouse for goods and raw materials.  Process and pack the goods.  Ship the goods to the buyers.  Meet other financial cost of the business. Pre-Shipment Finance 17 Mrs. Charu Rastogi, Asst. Professor
  18. 18. Export Finance Methods  Accounts Receivable Financing  An exporter that needs funds immediately may obtain a bank loan that is secured by an assignment of the account receivable  Factoring (Cross-Border Factoring)  The accounts receivable are sold to a third party (the factor), that then assumes all the responsibilities and exposure associated with collecting from the buyer.  Letters of Credit (L/C)  These are issued by a bank on behalf of the importer promising to pay the exporter upon presentation of the shipping documents.  The importer pays the issuing bank the amount of the L/C plus associated fees.  Commercial or import/export L/Cs are usually irrevocable.  The required documents typically include a draft (sight or time), a commercial invoice, and a bill of lading (receipt for shipment).  Sometimes, the exporter may request that a local bank confirm (guarantee) the L/C.  Variations include  standby L/Cs : funded only if the buyer does not pay the seller as agreed upon  transferable L/Cs : the first beneficiary can transfer all or part of the original L/C to a third party  assignments of proceeds under an L/C : the original beneficiary assigns the proceeds to the end supplier 18 Mrs. Charu Rastogi, Asst. Professor
  19. 19. Export and Import Finance Methods  Banker‟s Acceptance (BA)  This is a time draft that is drawn on and accepted by a bank (the importer‟s bank). The accepting bank is obliged to pay the holder of the draft at maturity.  If the exporter does not want to wait for payment, it can request that the BA be sold in the money market. Trade financing is provided by the holder of the BA.  The bank accepting the drafts charges an all-in-rate (interest rate) that consists of the discount rate plus the acceptance commission.  In general, all-in-rates are lower than bank loan rates. They usually fall between the rates of short-term Treasury bills and commercial papers.  Working Capital Financing  Banks may provide short-term loans that finance the working capital cycle, from the purchase of inventory until the eventual 19 Mrs. Charu Rastogi, Asst. Professor
  20. 20. Export and Import Finance Methods  Medium-Term Capital Goods Financing (Forfaiting)  The importer issues a promissory note to the exporter to pay for its imported capital goods over a period that generally ranges from three to seven years.  The exporter then sells the note, without recourse, to a bank (the forfaiting bank).  Countertrade  These are foreign trade transactions in which the sale of goods to one country is linked to the purchase or exchange of goods from that same country.  Common countertrade types include barter, compensation (product buy-back), and counter purchase.  The primary participants are governments and multinationals. 20 Mrs. Charu Rastogi, Asst. Professor
  21. 21. Factoring V/s Forfaiting On going arrangement Single transaction based Open account sale LC or bank acceptance required Provides other than financing Primarily a financing service services Used for offering short term credit For medium / long term transaction to regular buyers (up to 180 days) which could be “one-off” (90 days to 7years) Both with and without recourse Is without recourse For domestic and export receivables Usually for export receivables No minimum size Transaction should be minimum USD 100,000 21 Mrs. Charu Rastogi, Asst. Professor
  22. 22. Buyer‟s Credit and Supplier‟s Credit 22 Mrs. Charu Rastogi, Asst. Professor
  23. 23. Buyer‟s Credit  A financial arrangement in which a bank or financial institution, or an export credit agency in the exporting country, extends a loan directly to a foreign buyer or to a bank in the importing country to pay for the purchase of goods and services from the exporting country.  This term does not refer to credit extended directly from the buyer to the seller (for example, through advance payment for goods and services).  Buyer‟s Credit also refers to loans for payment of imports into India arranged on behalf of the importer through an overseas bank. The offshore branch credits the nostro of the bank in India and the Indian bank uses the funds and makes the payment to the exporter‟ bank as an import bill payment on due date. The importer reflects the buyers credit as a loan on the balance sheet.23 Mrs. Charu Rastogi, Asst. Professor
  24. 24. Benefits of Buyer‟s Credit  The exporter gets paid on due date; whereas importer gets extended date for making an import payment as per the cash flows  The importer can deal with exporter on sight basis, negotiate a better discount and use the buyers credit route to avail financing.  The funding currency can be in any FCY (USD, GBP, EURO, JPY etc.) depending on the choice of the customer.  The importer can use this financing for any form of trade viz. open account, collections, or LCs.  The currency of imports can be different from the funding currency, which enables importers to take a favourable view of a particular currency. 24 Mrs. Charu Rastogi, Asst. Professor
  25. 25. Buyer‟s Credit Process Flow  Indian customer imports the goods either under DC / LC, DA / DP  Indian customer requests the Buyer‟s Credit Consultant before the due date of the bill to avail buyers credit finance.  Consultant approaches overseas bank for indicative pricing, which is further quoted to Importer.  If pricing is acceptable to importer, overseas bank issue‟s offer letter in the name of the Importer.  Importer approaches his existing bank to get letter of undertaking / comfort (LOU / LOC) issued in favour of overseas bank via swift.  On receipt of LOU / LOC, Overseas Bank as per instruction provided in LOU, will either funds existing bank‟s Nostro account or pays the supplier‟s bank directly  Existing bank to make import bill payment by utilizing the amount credited (  On due date existing bank to recover the principal and Interest amount from the importer and remit the same to Overseas Bank on due date.25 Mrs. Charu Rastogi, Asst. Professor
  26. 26. Regulatory Framework  Amount and Maturity  Maximum Amount Per transaction : $20 Million  Maximum Maturity in case of import of non capital goods: upto 1 year from the date of shipment  Maximum Maturity in case of import of capital goods : upto 3 years from the date of shipment  Maximum Maturity in case of import of capital goods for companies classified as Infrastructure sector: Upto 5 years from the date of shipment  All-in-cost Ceilings  Upto 1 year : 6 Month Libor + 350 bps  Upto 3 years : 6 Month Libor + 350 bps  Upto 5 years: 6 Month Libor + 350 bps  All applications for short-term credit exceeding $20 million for any import transaction are to be forwarded to the Chief General Manager, Exchange Control Department, Reserve Bank of India, Central Office, External commercial Borrowing (ECB) Division, Mumbai 26 Mrs. Charu Rastogi, Asst. Professor
  27. 27. Costs Involved  Foreign bank interest cost  Foreign Bank LC Confirmation Cost (Case to Case basis)  LC advising and or Amendment cost  Negotiation cost (normally in range of 0.10%)  Postage and Swift Charges  Reimbursement Charges  Cost for the usance (credit) tenure. (Indian Bank Cost) 27 Mrs. Charu Rastogi, Asst. Professor
  28. 28. Suppliers Credit  Supplier‟s Credit relates to credit for imports into India extended by the overseas suppliers or financial institutions outside India. 28 Mrs. Charu Rastogi, Asst. Professor
  29. 29. Buyer’s Credit Supplier’s Credit  importer of goods applies for buyers credit  buyers credits can be arranged Sight LC, Usance LC, DA & DP excluding Advance Payment uyers credit  Buyers Credit quote is arranged for after opening of the LC  Withholding Tax may be applicable in certain cases in a buyers credit but it is not applicable in suppliers credit.  Letter of Undertaking(LOU) issuance charges are applicable in case of  exporter of goods applies for suppliers credit  Suppliers credit can only be arranged against LC backed transaction  suppliers credit quote is tied up before opening of the LC. LC is then opened as per the terms of the funding bank in case of suppliers credit. However, when the LC is opened before tying up for the funds in a suppliers credit, it might need amendment as per the funding bank.  suppliers credit is an LC based transaction, no Letter of Undertaking(LOU) charges are applicable. 29 Mrs. Charu Rastogi, Asst. Professor
  30. 30. International Receivables and Cash Management Working Capital Management 30 Mrs. Charu Rastogi, Asst. Professor
  31. 31. International Receivables Management  Receivables management involves converting receivables to cash and facilitating :  Cash flow forecasting  Long-term funding and investment decisions  Reduced risk of bad debts  Stronger liquidity  Stronger balance sheet ratios 31 Mrs. Charu Rastogi, Asst. Professor
  32. 32. International Cash Management  Cash management can be broadly defined to mean optimization of cash flows and investment of excess cash.  Cash management refers to the effective planning, monitoring and management of liquid / near liquid resources including:  Day-to-day cash control  Money at the bank  Receipts  Payments  Short Term investments and borrowings  Foreign exchange 32 Mrs. Charu Rastogi, Asst. Professor
  33. 33. Cash flows of a subsidiary Subsidiary Parent Long term projects and investments Accounts Payable Raw material and supplies Inventories Accounts receivable Source of debt 33 Mrs. Charu Rastogi, Asst. Professor
  34. 34. Centralized cash management  While each subsidiary is managing its own working capital, a centralized cash management group is needed to monitor, and possibly manage, the parent subsidiary and inter subsidiary cash  International cash management can be segmented into two functions:  optimizing cash flow movements, and  investing excess cashflows. 34 Mrs. Charu Rastogi, Asst. Professor
  35. 35. Centralized Cash Flow 35 Mrs. Charu Rastogi, Asst. Professor
  36. 36. Techniques to optimize cash flows  Accelerating Cash inflows  The more quickly the cash inflows are received, the more quickly they can be invested or used for other purposes  Common methods include the establishment of lockboxes around the world (to reduce mail float) and preauthorized payments(charging a customer‟s bank account directly).  Lockboxes are a service provided by a bank, whereby the bank receives, processes, and deposits all of a company's receivables. Lockbox services are sometimes called 'Remittance Services' or 'Remittance Processing‘  One benefit of the lockbox service to the commercial customer is that it can maintain special mailboxes in different locations around the country and a customer sends payment to the closest lockbox. The company then authorizes a bank to check these mailboxes as often as is reasonable, given the number of payments that will be received. Because the bank is making the collection, the funds that have been received are immediately deposited into the company’s account without first 36 Mrs. Charu Rastogi, Asst. Professor
  37. 37. Techniques to optimize cash flows  Minimizing currency conversion costs  Netting reduces administrative and transaction costs through the accounting of all transactions that occur over a period to determine one net payment.  A bilateral netting system involves transactions between two units, while a multilateral netting system usually involves more complex interchanges  Netting involves settling mutual obligations at the net value of a contract as opposed to its gross dollar value. It leads to reducing the transfer of funds between subsidiaries to a net amount. 37 Mrs. Charu Rastogi, Asst. Professor
  38. 38. 38 Mrs. Charu Rastogi, Asst. Professor
  39. 39. Techniques to optimize cash flows  Managing blocked funds  A government may require that funds remain within the country in order to create jobs and reduce unemployment.  An MNC can shift cost-incurring activities (like R&D) to the host country, adjust the transfer pricing policy (such that higher fees have to be paid to the parent), borrow locally rather than from the parent, etc 39 Mrs. Charu Rastogi, Asst. Professor
  40. 40. Techniques to optimize cash flows  Implementing inter-subsidiary cash transfers  A subsidiary with excess funds can provide financing by paying for its supplies earlier than is necessary. This technique is called leading.  Alternatively, a subsidiary in need of funds can be allowed to lag its payments. This technique is called lagging. 40 Mrs. Charu Rastogi, Asst. Professor
  41. 41. Complications in Optimizing Cash Flows  Company related characteristics  Delay in payment from one subsidiary to another for supplies received  Government restrictions  Prohibition of use of netting  Restrictions on transfer of cash  Characteristics of banking systems  Banking system in advanced countries offer a wider variety of services  Non-uniformity of banking systems in different countries 41 Mrs. Charu Rastogi, Asst. Professor
  42. 42. Investing Excess Cash  Excess funds can be invested in domestic or foreign short- term securities, such as Eurocurrency deposits, Treasury bills, and commercial papers.  Sometimes, foreign short-term securities have higher interest rates. However, firms must also account for the possible exchange rate movements  Centralized cash management allows for more efficient usage of funds and possibly higher returns.  When multiple currencies are involved, a separate pool may be formed for each currency. Funds can also be invested in securities that are denominated in the currencies needed in the future  Given the current online technology, MNCs should be able to efficiently create a multinational communications network among their subsidiaries to ensure that information about their cash positions is continually updated 42 Mrs. Charu Rastogi, Asst. Professor
  43. 43. Investing excess cash  Diversifying Cash Across Currencies  If an MNC is not sure of how exchange rates will change over time, it may prefer to diversify its cash among securities that are denominated in different currencies.  The degree to which such a portfolio will reduce risk depends on the correlations among the currencies  Use of Dynamic Hedging to Manage Cash  Dynamic hedging refers to the strategy of hedging when the currencies held are expected to depreciate, and not hedging when they are expected to appreciate.  •The overall performance is dependent on the firm‟s ability to accurately forecast the direction of exchange rate movements 43 Mrs. Charu Rastogi, Asst. Professor
  44. 44. International Sources of Funds Sources of funds- •ECBs •FCCBs •ADRs •GDRs •FDI •Syndicated Loans 44 Mrs. Charu Rastogi, Asst. Professor
  45. 45. External Commercial Borrowings 45 Mrs. Charu Rastogi, Asst. Professor
  46. 46. Indian Companies can borrow from sources outside India through:  ECBs: Bank Loans, Buyer‟s Credit, Supplier‟s Credit, Securitized instruments (e.g. floating rate notes and fixed rate bonds)  Foreign Currency Convertible Bonds (FCCBs)  Preference Shares (non-convertible or partially/optionally convertible)  Foreign Currency Exchangeable Bonds (FCEBs)  All above instruments are required to conform to RBI‟s ECB policy norms ECB Policy norms define:  Automatic or Approval Route  Eligible Borrowers  Recognized Lenders  Amount & All-in cost  Average Maturity  End-use Stipulations46 Mrs. Charu Rastogi, Asst. Professor
  47. 47. Need for ECB  Underdeveloped and the developing economies require external assistance due to the shortage of capital within the country.  The saving generated by the citizens and tax revenues collected by the government of capital are too meager compared to the funds requirement for the development of the infrastructure sector, the industry and various other developmental activities .  Scarcity of foreign exchange also plays an important role as most of the developing economies are characterized by an adverse balance of payment . Generally the country‟s exports are not sufficient to cover the large imports of machinery, components ,spare parts, materials, and related services.  The government of these economies, therefore, generally encourage the inflow of external funds into the country47 Mrs. Charu Rastogi, Asst. Professor
  48. 48.  Under the ECB window, companies in India are allowed to borrow from overseas, under certain conditions, through different instruments.  The Reserve Bank of India (RBI), in its master circular on external commercial borrowing and trade credits (January 2012), defined ECB as “commercial loans in the form of bank loans, buyers‟ credit, suppliers‟ credit, securitized instruments (e.g. floating rate notes and fixed rate bonds, non-convertible, optionally convertible or partially convertible preference shares) availed of from non-resident lenders with a minimum average maturity of three years”.48 Mrs. Charu Rastogi, Asst. Professor
  49. 49.  ECB is allowed through both direct and approval routes. Under the direct route, companies in businesses, such as hotel, hospitals and software, can access the international market for raising debt up to a limit.  Special economic zones and non-government organizations engaged in micro finance activities are also allowed to access the ECB window.  Companies of industries that can apply through the direct route can also take the approval route if they need to borrow more than the allowed limit under the direct route. 49 Mrs. Charu Rastogi, Asst. Professor
  50. 50. Forms of External Commercial Borrowings  ECB may be in the form of:  Commercial bank loans  Buyers‟ credit  Suppliers‟ credit  Securitized instruments  Credit from official sector, e.g., window of multilateral financial institutions, such as International Finance Corporation (Washington),  Various forms of Euro bonds and syndicated loans 50 Mrs. Charu Rastogi, Asst. Professor
  51. 51. Automatic Route  Amount  Corporates in Industrial Sector or Infrastructure Sector-USD 750 mn per annum  Corporates in specified Service Sector-USD 200 mn per annum  Maturity  ECBs up to USD 20 million – 3 years  ECBs between USD 20 million and USD 750 million –5 years  Eligible Borrowers  Corporates in manufacturing sector, infrastructure sector and service companies in the hotel, hospital, software sectors (registered under the Companies Act, 1956)  Infrastructure Finance Companies (IFCs).  Units in Special Economic Zones( SEZ)  NGOs engaged in micro finance activities  Micro Finance Institutions (MFIs). 51 Mrs. Charu Rastogi, Asst. Professor
  52. 52. Automatic Route  Eligible lenders  International banks,  International capital markets,  Multilateral financial institutions (such as IFC, ADB, etc.)  Export credit agencies,  Suppliers of equipments,  Foreign collaborators and  Foreign equity holders.  A "foreign equity holder" to be eligible as “recognized lender” under the automatic route would require minimum holding of paid-up equity in the borrower company as set out below:  For ECB up to USD 5 million - minimum paid-up equity of 25 per cent held directly by the lender,  For ECB more than USD 5 million - minimum paid-up equity of 25 per cent held directly by the lender and ECB liability-equity ratio not exceeding 4:1 52 Mrs. Charu Rastogi, Asst. Professor
  53. 53. Automatic Route : End use  ECBs are supposed to be utilized for meeting foreign exchange cost of capital goods and services and also for project-related rupee expenditure up to certain limits  The end use to which funds can be put can be categorized into:  Forex cost of capital goods and services  For project-related rupee expenditure in infrastructure projects in power, telecom, and railways  For telecom sector license fee, payments are approved use of ECB  For project-related rupee expenditure subject to terms and conditions specified in schemes  Not to be used in investment in stock markets and speculation in real estate53 Mrs. Charu Rastogi, Asst. Professor
  54. 54. Approval Route  Eligible borrowers  Borrowers in eligible in automatic category intending to raise more than the amount allowed under Automatic Route  Service sector units, other than those in hotels, hospitals and software, subject to the condition that the loan is obtained from foreign equity holders.  Corporates which are under investigation by the Reserve Bank and / or Directorate of Enforcement.  Developers of National Manufacturing Investment Zones (NMIZs) can avail of ECB for providing infrastructure facilities within NMIZs., 54 Mrs. Charu Rastogi, Asst. Professor
  55. 55. Approval Route  Eligible borrowers  Cases falling outside the purview of the automatic route limit  ECB with minimum average maturity of 5 years by Non- Banking Financial Companies (NBFCs) for leasing to infrastructure projects.  Infrastructure Finance Companies (IFCs) beyond 50 per cent of their owned funds, for on-lending to the infrastructure sector as defined under the ECB policy.  Foreign Currency Convertible Bonds (FCCBs) by Housing Finance Companies satisfying the following minimum criteria: (i) the minimum net worth not be less than Rs. 500 crore, (ii) a listing on the BSE or NSE, (iii) minimum size of FCCB is USD 100 million and Multi- State Co-operative Societies engaged in manufacturing 55 Mrs. Charu Rastogi, Asst. Professor
  56. 56. Approval Route  Additional end use permitted under approval route  Repayment of Rupee loans availed from domestic banking system  Companies which are in the infrastructure sector(except power companies), as defined under the extant ECB guidelines , are permitted to utilise 25 per cent of the fresh ECB raised by them towards refinancing of the Rupee loan/s availed by them from the domestic banking system.  Power companies are allowed to utilize 40% of the fresh ECB for repayment of Rupee  Loans availed form domestic banks.  Bridge Finance  Companies which are in the infrastructure sector, are permitted to import capital goods by availing of short term credit (including buyers‟ / suppliers‟ credit) in the nature of 'bridge finance„. The bridge finance can be replaced with a long term ECB. 56 Mrs. Charu Rastogi, Asst. Professor
  57. 57. Approval Route  Additional end use permitted under approval route  Refinancing of Rupee loans raised by Telecom companies to pay spectrum allocation fees.  Working capital for aviation sector  Repayment of Rupee loans and/or fresh Rupee capital expenditure for companies with forex earnings  Take out Financing  Companies in infrastructure project should have a tripartite agreement with domestic banks and overseas recognized lenders for either conditional or unconditional take-out of the loan within three years of the scheduled Commercial Operation Date (COD). The scheduled date of occurrence57 Mrs. Charu Rastogi, Asst. Professor
  58. 58. Benefits of ECBs  ECBs are very economical source of raising funds, since the interest rate is far less as compared to the interest rate on the debt raised in India.  ECBs provide foreign currency funds to the corporate sector that are necessary for import of capital goods etc.  There is no need for credit rating. Moreover, ECBs carry fewer covenants as compared to the debt raised from Financial Institutions/Banks in India.  Helps broad base borrowers  Larger amounts can be raised 58 Mrs. Charu Rastogi, Asst. Professor
  59. 59. The down side of ECBs  The borrower can be in trouble if the position is not hedged properly and the currency depreciates sharply, which will lead to increase in the company‟s liability.  Also, at the macro level, higher level of borrowing from overseas may push the currency to appreciate, which makes exports uncompetitive in the international market.  Access to overseas market and cheaper credit is an advantage for bigger companies that can borrow abroad, while smaller companies have to deal with higher cost of capital in the domestic market.  Dependence of the country on short-term debt flow, such as ECB, is rising to fund the current account deficit and can have negative consequences. 59 Mrs. Charu Rastogi, Asst. Professor
  60. 60. FCCBs 60 Mrs. Charu Rastogi, Asst. Professor
  61. 61. Foreign Currency Convertible Bonds  FCCB is a quasi-debt instrument that is issued in a currency different the issuer‟s domestic currency with options to either redeem it at maturity or convert it into issuing company‟s stock  It gives two options. One is, to get the regular interest and principal and the other is to convert the bond in to equities. It is a hybrid between bond and stock  In other words, the money being raised by the issuing company is in the form of a foreign currency.  A convertible bond is a mix between a debt and equity instrument.  It acts like a bond by making regular coupon and principal payments, but these bonds also give the bondholder the option to convert the bond into stock.61 Mrs. Charu Rastogi, Asst. Professor
  62. 62. Foreign Currency Convertible Bonds  They carry a fixed interest or coupon rate and are convertible into a certain number of ordinary shares at a preferred price  They are convertible into ordinary shares of the issuing company either in whole, or in part, on the basis of any equity-related warrants attached to the debt instruments.  These bonds are listed and traded abroad. Till conversion, the company has to pay interest in dollars , and if the conversion option is not exercised, the redemption is also made in dollars.  Thus, foreign investors prefer convertible bonds whereas Indian companies prefer to issue GDRs.62 Mrs. Charu Rastogi, Asst. Professor
  63. 63. Process of Issuing FCCB  Obtain prior permission of the Department of Economic Affairs, Ministry of Finance, Government of India.  An issuing company shall have a consistent track record of good performance (financial or otherwise) for a minimum period of three years.  On the completion of finalization of issue structure the issuing company shall obtain the final approval for proceeding ahead with the issue from the Department of Economic Affairs.  The Foreign Currency Convertible Bonds shall be denominated in any freely convertible foreign currency and the ordinary shall be denominated in Indian rupees . 63 Mrs. Charu Rastogi, Asst. Professor
  64. 64. Process of Issuing FCCB  When an issuing company issues ordinary shares or bonds under this Scheme, to a Domestic Custodian Bank who will, in terms of agreement, instruct the Overseas Depositary Bank to issue bonds held by the Domestic Custodian Bank  The provisions of any law relating to issue of capital by an Indian company shall apply in relation to the issue of Foreign Currency Convertible Bonds.  Provisions relating to end-use of FCCB proceeds, repatriation of proceeds, etc., would be altered by the government from time to time depending on inflow and outflow in to forex reserves 64 Mrs. Charu Rastogi, Asst. Professor
  65. 65. Advantages of FCCBs  It is a low cost debt as the interest rates given to FCC Bonds are normally 30-50 per cent lower than the market rate because of its equity component.  Conversion of bonds into stocks takes place at a premium price to market price.  Conversion price is fixed when the bond is issued So, lower dilution of the company stocks  Simple regulatory process 65 Mrs. Charu Rastogi, Asst. Professor
  66. 66. Disadvantages of FCCBs  FCC Bonds are ideal for the bull market scenario as the conversion occurs at a premium price lowering the dilution.  But if the stock price plummet like what we are witnessing right now due to the economic downturn, then investors will not go for conversion, and they go for redemption at maturity value.  So companies have to re-finance to fulfill the redemption promise  Earnings will get hit because of the redemptions.  If the investors do not go for conversion, then companies will be forced to lower the conversion price (previously fixed) to entice the investors to go for conversion which will lead to higher dilution.66 Mrs. Charu Rastogi, Asst. Professor
  67. 67. Disadvantages of FCCBs  If the stock price goes below the conversion price, then the issuer loses an opportunity to dilute at a higher price.  Exchange risk is more in FCCBs as interest on bond would be payable in foreign currency.  If the exchange rate goes-up, then the issuer has to pay more to the investors  Thus companies with low debt equity ratios, large forex earnings potential only opt for FCCBs.  FCCB means creation of more debt and a forex outflow in terms of interest which is in foreign exchange  In case of convertible bond the interest rate is low (around 3 to 4%) but there is exchange risk on interest as well as principal if the bond is not converted in to equity. 67 Mrs. Charu Rastogi, Asst. Professor
  68. 68. FCCBs in India  Following the sustained liberalisation programme undertaken by the Indian Government to integrate with the global economy, the foreign currency convertible bond (FCCB) market took a quantum leap during the bull run of 2005– 2008. Reports state that 201 Indian companies raised approximately US$16bn through FCCBs during that period  Companies issued FCCBs to reduce their borrowing costs. They issued the bonds at very low coupon rates; some were even zero coupon. However, they fixed the conversion prices between 25 per cent and 150 per cent higher than the prevailing market prices in expectation of an increase in share prices. This theory fell flat with the subsequent crash in global equity markets. It is estimated that two thirds of the FCCBs due to mature before March 2013 will not be converted into equity shares. 68 Mrs. Charu Rastogi, Asst. Professor
  69. 69. FCCBs in India  Most of the FCCBs that will mature in 2012 were issued in the years 2007–2008, when the foreign exchange rate was approximately 42 Indian rupees (INR) to a US dollar. The INR has since lost more than 30 per cent against the US dollar. This has added approximately US$2bn to the value of FCCB maturities in 2012.  In cases where the current price is trading at a significant discount to the conversion price, it appears that the companies will need to adopt other alternatives to pay back their investors. Although a number of companies have managed to convert their FCCBs to equity, low investor appetite and the expensive debt market are making it difficult for further conversions to take place. In the present market, companies have the following options 69 Mrs. Charu Rastogi, Asst. Professor
  70. 70. FCCBs in News for wrong reasons  Wind turbine manufacturer Suzlon Energy has defaulted on $221 million worth of foreign currency convertible bonds (FCCBs) maturing on October 11, 2012, after it failed to get an extension from bondholders.  This is the biggest FCCB default by an Indian corporate, topping Sterling Biotech‟s $184-million delinquency in May and takes the quantum of defaults on convertibles to $664 million this year, according to data compiled by Bloomberg.  More on FCCBs  And more70 Mrs. Charu Rastogi, Asst. Professor
  71. 71. American Depository Receipt 71 Mrs. Charu Rastogi, Asst. Professor
  72. 72. American Depository Receipt  An American Depositary Receipt (or ADR) represents ownership in the shares of a non- U. S. company and trades in U.S. financial markets . The stock of many non-U. S. companies trade on U.S. stock exchanges through the use of ADRs.  ADRs enable U. S. investors to buy shares in foreign companies without the hazards or inconvenience of cross-border and cross – currency transactions. ADRs carry prices in U.S. dollars, pay dividends in U. S. dollars, and can be traded like the shares of U. S. based companies.  Each ADR is issued by a U. S. Depositary bank and can represent a fraction of a share , a single share, or multiple shares of the foreign stock .  An owner of an ADR has the right to obtain the foreign stock it represents, but US investors usually find it more convenient simple to own the ADR.  For meeting large requirements of funds, raising funds through ADR is the solution72 Mrs. Charu Rastogi, Asst. Professor
  73. 73. Benefits of ADRs Benefits to the Issuing Company :  An ADR programme can stimulate investor interest, enhance a company‟s visibility, broaden its shareholder base, and increase liquidity.  By enabling a company to tap US equity markets, the ADR offers a new avenue for raising capital ,often at highly competitive costs.  For companies with a desire to build a stronger presence in the United States, an ADR programme can help finance US initiatives or facilitate US acquisitions.  ADRs provide an easy way for us employees of non-US companies to invest in their companies ‟ employee stock purchase plans .  May increase local prices as a result of global demand / trading through a more broadened and a more diversified 73 Mrs. Charu Rastogi, Asst. Professor
  74. 74. Benefits of ADRs Benefits to the Investors:  Increasingly investors aim to diversify their portfolios internationally.  Obstacles, however, such as undependable settlements, costly currency conversions, unreliable custodial services, poor information flow, unfamiliar market practices , confusing tax convention and internal investment policy may discourage institutions and private investors from venturing outside their local market.  As negotiable securities, ADRs are quoted in US dollars and pay dividend or interest in US dollars .  They overcome the obstacles that mutual funds, pension funds and other institutions may have in purchasing and holding securities outside the local market .  Depository Receipts are easy to Buy and Sell:  Investors purchase and sell depository receipts through their US brokers in exactly the same way as they purchase or sell securities of US companies.  Many regional NASD brokers/dealers, and virtually all New York brokers/dealers, make market in and know how to create depository receipts.  Depository Receipts are Liquid : Depository receipts are as liquid as their 74 Mrs. Charu Rastogi, Asst. Professor
  75. 75. Global Depository Receipt 75 Mrs. Charu Rastogi, Asst. Professor
  76. 76. Global Depository Receipt  It is global finance vehicle that allows an issuer to raise capital simultaneously in two or more markets through a global offering  They are marketed internationally, mainly to financial institutions.  Global Depository Receipt (GDR) –certificate issued by international bank, which can be subject of worldwide circulation on capital markets.  For example, a European investor wanting an exposure in Indian securities could do so via two routes:  Enter the Indian stock market and buy the company‟s stock on one of the Indian markets.  But this would also expose the investor to exchange risks and statutory rules and regulations governing purchase and sale of securities in the Indian markets.  Through GDRs which would give the investor ownership of the Indian company‟s stock without being subject to Indian stock market regulations to a great extent. 76 Mrs. Charu Rastogi, Asst. Professor
  77. 77. Global Depository Receipt  GDRs have become synonymous with selling equity in the Euromarkets.  This is so because fresh shares are issued by the company which is raising money from the markets, and transferred to a depository which , in turn, issues a receipt which is quoted and traded at any stock exchange where it is listed.  Thus, a GDR is a negotiable instrument denominated in dollars or some other freely convertible currency.  It is used as a funding vehicle for raising capital  The GDR structure allows for simultaneous issuance of securities in multiple markets .  This facilitates greater liquidity trough cross border trading GDRs can be issued in either public or private markets in the US other countries. 77 Mrs. Charu Rastogi, Asst. Professor
  78. 78.  A GDR gives its holder the right to get equity shares of the issuer company against the GDR as per the term of the offer.  Till such exchange or conversion takes place, the GDR does not carry any voting rights. The shares represented by a GDR are identical to other equity shares in all respects.  Once a GDR is issued, it can be traded freely among international investors. GDRs are freely tradable in the overseas market like any other dollar denominated security either on a foreign stock exchange or in the OTC market. 78 Mrs. Charu Rastogi, Asst. Professor
  79. 79. Benefits  Access to capital markets outside the home market.  Enhancement of company visibility.  Increases potential liquidity by enlarging the market for the company‟s shares.  It helps the issuing company to extend its research base to foreign countries Benefits to Investors:  They facilitate diversification into foreign securities.  Eliminate custody charges.  Can be easily compared to securities of similar companies.  Permit prompt dividend payments and corporate action notifications.  GDRs offer most of the same corporate rights, especially voting rights, to the holders of GDRs. 79 Mrs. Charu Rastogi, Asst. Professor
  80. 80. FDI 80 Mrs. Charu Rastogi, Asst. Professor
  81. 81. Foreign Direct Investment  The United Nation‟s World Investment Report (UNCTAD,1999) defines FDI as “an investment involving a long – term relationship and reflecting a lasting interest and control of a resident entity in one economy (foreign direct investor or parent‟ enterprise) in an enterprise resident in an economy other than that of the foreign direct investor (FDI ) enterprise, affiliate enterprise or foreign affiliate).”  The term “long-term” used in the last definition in order to distinguish FDI from portfolio investment; FDI does not have the portfolio investment characteristic of being short – term in nature, involving a high turnover of securities. 81 Mrs. Charu Rastogi, Asst. Professor
  82. 82. Types of FDI  Horizontal  It refers to FDI in the same industry in which the organization operates in the home nation.  For example, Cemex, Mexico‟s largest cement manufacturer, embarked upon its international expansion strategy by acquiring established cement makers in Venezuela, Colombia, Indonesia and Egypt. In 2000, it acquired Houston based Southland, a large cement company of the United States of America, by paying 2.5 billion dollars .  Vertical  It refers to the FDI by an organization in order to sell the outputs of domestic firms or it refers to the investment which provides inputs to the domestic organization  For example, in 2001, Russia‟s largest oil company , LU Koil, acquired the Getty Petroleum of U.S.A., which provided it a retail network of about 1300 gasoline staions.  The firms such as Shell, British Petroleum ,RTZ, Acoa and so on , have gone for FDI in oil extractive industry ,in order to get a regular and stable supply of the inputs 82 Mrs. Charu Rastogi, Asst. Professor
  83. 83. Types of FDI  Green field Investments  It is the direct investment in new facilities or the expansion of existing facilities.  It is the principal mode of investing in developing counters.  Mergers & Acquisitions  It occurs when a transfer of existing assets from local firms takes place 83 Mrs. Charu Rastogi, Asst. Professor
  84. 84. Benefits of FDI  To Host Country  Availability of Scarce Factors of Production: FDI helps attain a proper balance among different factors of production through the supply of scarce factors and fosters the pace of economic development.  FDI brings in capital and supplements the domestic capital. This is a significant contribution where the domestic savings rate is too low to match the warranted rate of investment.  It brings in scarce foreign exchange that activates the domestic savings that would not have been put into investment in absence of the availability of foreign exchange .  Improvement in the Balance of Payments: FDI helps improve the balance of payments of the host country.  The inflow of investment is credited to the capital account.  At the same time, the current account improves because FDI helps either import substitution or export promotion.  The host country is able to produce those items that were being imported earlier. 84 Mrs. Charu Rastogi, Asst. Professor
  85. 85. Benefits of FDI To host country (contd.)  Building of Economic and Social Infrastructure:  When the foreign investors invest in sectors such as the basic economic infrastructure, social infrastructure, financial markets and the marketing system, the host country is able to develop a support system that is necessary for rapid industrialization.  Even if there is no investment in these sectors, the very presence of foreign investors in the host country creates a multiplier effect and the support system develops automatically.  Fostering of Economic Linkages :  Foreign firms have forward and backward linkages. They make demand for various inputs that in turn helps develop the input-supplying industries which is known as crowding – in effect.  They employ labor force and so help raises the income of the employed people that in turn raises the demand and industrial production in the country.  Strengthening of Government Budget :  The foreign firms are a source of tax income for the government .  They pay not only income tax , but tariff on their import as well .  At the same time , help reduce the governmental expenditure requirements through supplementing the government‟s investment activities . All this eases the burden on the national budget. 85 Mrs. Charu Rastogi, Asst. Professor
  86. 86. Benefits of FDI  To Home Country  Improvement in Balance of payment : inflow of foreign currencies in the form of dividend , interests etc.  Industrial Activity:  FDI increases export of machinery , equipment, technology etc from the home country to host country .  This is enhances the industrial activity of the home country. Employment Generation The increased industrial activity in the home country enhances employment opportunities.  Learning Skills : The firm and other country firms can learn skills from its exposure to the host country and transfer those skill to the industry in the home country .  Improved Political relations: FDI is complement to foreign aid; it helps develop closer political ties between the home country and the host country which is beneficial for both the countries. 86 Mrs. Charu Rastogi, Asst. Professor
  87. 87. Costs of FDI  To host country  Adverse Effects on Competition: The new foreign subsidiaries may grow to have more economic power and more attractively priced products than the host country companies .  Adverse Effects on Balance-of –Payments : If the foreign subsidiary imports large quantities – this contributes to the home country having a balance-of-payments deficit.  Adverse Effects on Natural Resources: Raw materials are exploited keeping in view the interest of the home country that is sometimes detrimental to the interest of the host country.  No Employment Opportunities: As far as employment of locals is concerned, the MNCs normally show reluctance to train the local people .  Technology being normally capital-intensive does not assure larger employment . 87 Mrs. Charu Rastogi, Asst. Professor
  88. 88. Costs of FDI  To home country  Undesired outflow of factor of production  The cost accruing to the home country is only little,  However, it cannot be denied that making investment abroad takes away capital ,skilled manpower & managerial professional from the country.  Sometimes the outflow of these factors of production is so large that it hampers the home country‟s interest  Possibility of conflict with the host –country government  The MNCs operates in different countries in order to maximize their overall profit .  To this end, they adopt various techniques that may not be in the interest of the host country.  This leads to a tussle between the host government & the home government which may have a deleterious effect on bilateral relations 88 Mrs. Charu Rastogi, Asst. Professor
  89. 89. Loan Syndication 89 Mrs. Charu Rastogi, Asst. Professor
  90. 90. Loan Syndication  When the size of the lending is huge running into a few hundred millions or billions, a few banks join together and provided the loan.  It owes its evolution to U.S. laws, which fixed certain limits on lending exposure of a single bank on a single borrower.  A syndicate credit is the agreement between two or more lending institutions to provide a borrower a credit facility utilizing common loan documentation.  A syndicated loan is defined as:  “International syndicated credit are managed and underwritten by one or more financial institutional normally from a location other than domicile of the borrower to include lenders from differing banking geographic which provide the borrower access to more than its own currency of domicile”. 90 Mrs. Charu Rastogi, Asst. Professor
  91. 91. Loan Syndication  Syndicated Loan involves many banks coming together to meet debt requirement of a client.  It typically involves one or more banks underwriting the loan and acting as Mandated Lead Arrangers (MLAs).  Minimum amount of syndicated loan raised is normally 50 millions U.S. dollar and the maximum is normally 5 billion U.S. dollar and are given for a period ranging from 365 days to 20 years. 91 Mrs. Charu Rastogi, Asst. Professor
  92. 92. Players in Syndicated Loan  Managing Bank/Mandated Lead Manager:  Managing bank is appointed by the borrower to arrange the credit. The managing bank helps the borrower to draw up the loan application, it negotiates the terms and conditions with other banks and arranges the syndicate.  The managing bank‟s role come to an end with the signing of loan agreement by the borrower and the participating banks.  Lead Bank :  Lead bank is the bank which provides the major chunk of the loan.  Agent Bank :  Agent bank is the bank appointed by the lenders to look after their interest once the loan agreement is signed. They take over from the managing bank.  Participating Bank:  The participating in a syndicated loan fall into the following segments.  The wholesale large commercial banks, who arrange the credits, take lion‟s shares.  The retail sector small banks take whatever share is given to them and take a participation in the loan syndication. 92 Mrs. Charu Rastogi, Asst. Professor
  93. 93. Advantages  Advantages  Allows raising of large amount even running into billions of dollars.  Better visibility for both banks as well the company as these transactions are typically accompanied by news coverage as well as road shows in which many banks not present in the country are invited.  Common Documentation as well as facility agents ensure that transactions are smooth.  Banks are able to distribute credit risk on a client.  Credit risk is spread / distributed among many banks . In view of exposure limit and higher capital, adequacy ratio not considered prudent for one bank to undertake such lending.  Syndicated loan facility strengthens the relationship between the borrowers and a bank , thereby providing opportunity to enter into new market segments of high net worth borrowers  There is a secondary market for the syndicated loan –any bank can at a later stage sell its share to other takers 93 Mrs. Charu Rastogi, Asst. Professor
  94. 94. Disadvantages  Disadvantages  Generally take longer than bilateral loans  Documentation is more complex.  Generally costlier than bilateral loans.  Generally borrowers with credit profile in upper bracket are able to raise through this route  If borrowing countries are unable to meet their obligations on time, the banks will be forced to roll over their loans indefinitely. 94 Mrs. Charu Rastogi, Asst. Professor
  95. 95. 95 Mrs. Charu Rastogi, Asst. Professor
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This presentation covers Trade Settlement Methods, Export Finance, Buyers credit and supplier’s credit, International receivables and cash management, and International Sources of Finance such as ECB, FCCB, ADR, GDR, FDI, Loan Syndication.

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