International credit and payment

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Chapter V – International Trade
Finance
Definition
Trade finance means money lent to exporters or
importers
Trade finance has various forms or types:
Importer prepay exporter
Importer bank issue a letter of credit for the benefit of the
exporter
The exporter's bank may make a loan (by advancing funds)
to the exporter on the basis of the export contract.
Export credit insurance
Export factoring
Export forfeiting
Classification
Based on objects of trade credit relationship
Based on duration of trade credit
Based on types of lenders
Based on purpose of borrowing
Special types of trade credits
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Based on objects of trade credit
relationship
Commodity credit
Monetary credits
Commodity credit
Characteristics
Exporter provide goods to importer on credit
Duration of the credit is short
Amount of credit is small, being limited by production capacity
of the
Scope of application: consuming products
Limited within participants of the value chains
Commodity credit
Classifications: 3 types
Lending goods and receiving money (as value of the goods at the date
of paying)
Focus on the use of the goods
Notes
Price of the goods at the time of lending and at the time of returning
Principle to determine the price: domestic price or international price
Lending goods and receiving goods
The quality of the goods unchanged during the lending period
Notes on the how to determine the quality of the goods
The quality of the goods changed during the lending period
Leasing: financial lease and operational lease
Lending goods receiving money by payment (selling on
credit)
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Monetary credits
Usually provided by banks, can be provided by importers as an
advance
Characteristics:
Objects of lending is money
Duration of lending is flexible
Amount of lending can be much larger than commodity credit
Scope of application
Can be applied for various parties outside value chain of an industry
Support commodity credits
Based on duration of trade credit
Short term
Medium term
Long term
Question: Lending to buy a system of computers is long term,
short term or medium term?
Notes on special types of short term loan
Overnight (O/N)
Tomorrow Next (T/N)
Call credit
Based on types of lenders
Private
Government
Combination
Multinational Institutions: IMF, WB, ADB
IMF: loans to help rebalance BOP (in SDR) and loans for
investment (in USD)
WB: Structural Adjustment Loans (SALS)
ADB: Loans on Concessional Terms-LOCTs
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Based on purpose of borrowing
Export credit
Import credit
Special types of trade credits
Export credit insurance protects exporter’s foreign receivables
against virtually all commercial and political risks that could result in
non-payment of your export invoices.
Commercial risks include bankruptcy, receivership, and other kinds
of insolvencies, as well as protracted defaults caused by cash flow
problems, balance sheet issues, bad faith, market demand, currency
fluctuations, natural disasters, or general economic conditions in your
customer's country or abroad.
Political risks include currency inconvertibility, foreign exchange
controls, transfer risks, war, strikes, riots, revolution, confiscation,
expropriation, nationalization, embargoes, trade sanctions, and
changes in import or export regulations.
Factoring
Definition:
Represents the sale of outstanding receivables related to
export of goods by the exporters to overseas buyer
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Factoring
Transfer the risk of default to another party
Seller of receivables receive discounted value
Seller can receive immediate payment after export to
improve their cash flows
Help seller to reduce administration and overhead costs
In case of without recourse factoring, enjoy no risk after
factoring
Factoring - Mechanism
Factor
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3
2
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Seller Buyer
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Factoring - Mechanism
1. Seller raises an invoice on buyer, with instruction to pay the
factor directly, and sends it to the customer
2. Seller sends a copy of the invoice to the factor
3. The factor pays an agreed percentage of the invoice amount
to the seller
4. The factor operate credit control procedures including
maintaining ledger, correspondence and telephoning the
buyer if necessary. The factor sends a statement of account to
the buyer on behalf of the seller
5. The buyer makes payment of the full amount of the invoice
to the factor as per agreed term
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Factoring advantage to exporters
Cash is released to the seller by the factor as soon as invoices
are received by the factor
It can be a cost-effective way of outsourcing sales ledger wile
freeing up owner’s time to manage business
Assists smoother cash flow and financial planning
Businesses may be provided with useful information about
the credit standing of the customers (buyers) if they pay on
time
Can be protected from bad debts if using without recourse
factoring
Factoring disadvantage to exporters
Usually expensive than bank overdraft/loan
Factors may/would like to vet the buyers before a business
sells goods
A business may find it difficult to end factoring at short
notice as it will have to pay off all the money the factor has
advanced on invoices if the customers have not paid them yet
Forfaiting
Forfait: a French word meaning surrendering rights
Is the purchase of a series of credit instruments such as BE,
promissory notes etc on a non-recourse basis
The forfaiter deducts interest in the form of a discount at an
agreed rate for the full credit period covered by the negotiable
instruments
The debt instruments are drawn by the exporter, accepted by the
buyer and will bear an aval or unconditional guarantee normally
issued by the importer’s bank
Forfeiter then takes over responsibility for claiming the debt from
the importer
Forfeiter can sell the instruments before maturity to another
investor on a without recourse basis
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Forfaiting calssification
Fixed rate finance: allow exporter to receive cash instead of
deferred payment
Capital goods sale: exporter selling capital goods of high
value and having to offer export finance for a longer period
such as up to five or more years
Discounted rate is calculated based on cost of fund (eg
LIBOR rate) plus margin
May provided fixed rate and exporter is thus able to lock into
his profit from the outset
Forfaiting - mechanism
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Exporter 2 Importer
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5 4 3
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Avalising bank
Forfaiter 8
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Forfaiting - mechanism
1. Commercial contract between importer and exporter
2. Delivery of goods by the exporter
3. Delivery of BE from importer to the avalizing bank
4. Delivery of avalized BE to the exporter
5. Forfaiting contract between exporter and the forfaiter
6. Delivery of BE by exporter to the forfaiter
7. Forfaiter pay cash to the exporter
8. Presentation of the avalised BE to the avalizing bank on
maturity
9. Payment made by the availizign bank to the forfeiter
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Forfeiting – advantage to exporter
Improves liquidity
No interest rate risk
No risk of inflation in the exchange rate
No risk of changes in the status of the debtor
No credit administration and collection problems and related
risks and costs
Forfeiting – disadvantage to exporter
High cost of financing
Factoring vs. Forfeiting
Factoring Forfeiting
-Suitable for financing -Used for financing
the export of consumer capital goods
goods -Credit terms for
-Credit terms between medium and long
90 to 180 days term
-Can be with recourse -Only on without
or without recourse recourse
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International Interest Rate
LIBOR: London Interbank Offer Rate
Short term interest rate (30 days up to 365 days)
Big banks in London: Barclay Bank, Westminster Bank, Trust
Bank, National Bank, Charter Bank
Base rate for many international finances transactions
Announce at 11 GMT everyday (London time)
International Interest Rate
LIBID -London Interbank Bid Rate
Borrow from other lenders in the economies
LIMEAN average of LIBOR and LIBID
SIBOR
EURIBOR: 11 big banks in Europe
Credit duration
Maturity
From the date of first disbursement to the date of final payback
3 periods:
Disbursement periods
Grace period: Extra time allowed for meeting with a requirement,
satisfaction of an obligation, or implementation of an agreement.
Repayment periods
Average duration is a time measure of a loan's interest-
rate sensitivity, based on the weighted average of the time
periods over which a loan cash flows accrue to the
bondholder
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Maturity
Economic meaning:
Effective duration of loan contract
Deposit duration
Insurance duration
Guaranteed duration
Average duration
Calculation:
Average duration = ∑average duration of each period
Average duration of each period
Balance of each period
Total of the loan
Balance of each periods depending on the time in year the loan is
disbursed or paid:
Disburse from the beginning of the year: balance of the year = loan
disbursed
Disburse in the middle of the year: balance of the year = (beginning
balance + ending balance)/2
Average duration
Depending on the way loan is disbursed or repaid
Disburse and repay once in a time
Average disbursement and repayment: multiple disbursements
and repayments with the same amount per each equal period up
to maturity
Increasing disbursements and repayments
Declining disbursements and repayments
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Average duration
• Increasing disbursements and repayments : longest
• Declining disbursements and repayments : shortest
• Disburse and repay once in a time?
Average duration
Economic meaning
Used to evaluate the effectiveness of the loan
Used to calculate interest expenses
Interest expenses = Loan value x Interest rate x Average
duration
Used to calculate cost of credit
Credit duration example
Periods Year Cash flow Balance
Disbursement period 2001 200 200
2002 200 400
Grace period 2003 0 400
2004 0 400
2005 0 400
Repayment period 2006 -100 400
2007 -100 300
2008 -100 200
2009 -100 100
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Credit duration example
Maturity
Average duration
Assuming the disbursement and is at the beginning of a year and
repayment is at the ending of the year.
Average duration of disbursement period:
(200 + 400)/400 = 1.5
Average duration of repayment period:
(400+300+200+100)/400 = 2.5
Average duration of grace period: ?
Average duration of the loan: ?
Cost of credit
Is the percentage amount of Total Actual cost/Total actual
loan value/Average duration (per annum)
Actual Cost Components:
Interest rate: fixed or floating
Bank fee: Start up fees, Ongoing fees, Fees for breaking a fixed
rate mortgage, Early Exit Fee, Termination fees
Broker commissions
Compulsory Deposit
Others
Actual loan value: Total loan value – Deposit
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