3 Common Types of Trade Finance Products Explained

There are several definitions of trade finance available online, and the terminology employed is intriguing. It is characterised as a "science" and "an imprecise term covering a variety of different activities." Both are correct, as is the nature of these things. Managing the money required for international trade is a precise science. However, within this science, Trade Finance Service has access to a vast range of tools that affect how cash, credit, investments, and other assets can be used for trade.

Common Types of Trade Finance Products:

1. Letter of Credit

A letter of credit is a payment pledge provided by a bank on behalf of the importing client. It's a common trade finance document that you should be familiar with.  Essentially, it is a commitment by the bank to pay the exporter the money within a specified time frame and under the terms and circumstances agreed upon.

It enables sellers and buyers to mitigate some of the inherent hazards of international trade, including currency fluctuations, non-payment, and economic instability.

2. Purchase Order (PO) Finance

Purchase Order (PO) financing is intended for SMEs that are experiencing inefficiency in their cash flow.  To put it simply, it gives funds to pay suppliers with the validated purchase order in order to ensure seamless cash flow.  It enables firms to accept a huge volume of orders while adjusting the lending basis to match their specific requirements.

This is especially true for SMEs, who frequently get a significant amount of orders but lack the necessary working capital to process them. That is exactly what it does.  Even if the volume of orders reduces, there are no ties, so you can quit using it whenever you want. 

Originally published at https://www.emeriobanque.com.

How do specialised Trade Finance companies differ from Banks?

Exporters are increasingly running into cash flow issues as payment cycles lengthen and more importers seek credit terms on payment. If your funds are held up, you won't be able to pay your vendors on time or stock up on materials for future orders. This could stifle expansion and potential, ultimately detrimental to your export business's success.

Exporters often use bank loans to bridge this funding gap. However, bank lines are unsuitable for Trade Finance Service due to the following reasons:

Collateralized:

When you apply for a loan from a bank, they will want you to provide tangible collateral, such as a piece of property or some machinery. You won't be able to have access to bank lines if you don't have any collateral to put up.

Limited:

There is a direct correlation between the value of your fixed assets and the quantity of financing you may get from a bank. However, companies often have sales that are much beyond their fixed assets and need more capital to export their surplus through traditional banking channels. In addition, you'll need access to your locked-up working capital during peak seasons when you may be experiencing additional demand, but banks will only extend your facility.

Recourse-based:

Banks will still look to you, the exporter, for payment if your importer defaults or declares bankruptcy. You would have to make payments directly from your capital, or the banks could seize your possessions. Exporters are exposed to a significant amount of risk as a result, as the default of a single importer might completely wipe out their profits for the year.

Originally published at https://www.emeriobanque.com.

What is a Transferable Letter of Credit and How Does it Work?

What is a Transferable Letter of Credit?

A Transferable Letter of Credit is a letter of credit facility where the first beneficiary can transfer some or all of the credit to another party, known as the second beneficiary. This type of letter of credit gives the seller/exporter the authority to instruct the bank to pay or make the credit available completely or partly to one or more secondary beneficiaries. 

Transferable Letter of Credit Definition  

Let’s understand the meaning of Transferable LC in simple words. A transferable letter of credit is a trade finance instrument that allows the first or original beneficiary to transfer some or all the right of payment to another party, which creates a second beneficiary. 

The party that initially accepts the transferable letter of credit issued by the importer’s bank is referred to as the first, or primary beneficiary. A transferable LC is often used in international trade transactions to ensure timely payment to the supplier or manufacturer.

Key Takeaways:

1. The ultimate agenda of a transferable Letter of credit is to enable the original or initial beneficiary to transfer the right of payment to another beneficiary which they owe. 

2. The first beneficiary is authorized to transfer part or all of the right of payment to  a second beneficiary.

3. Since applying for a letter of credit is a much more detailed process and can lead to payment delays and additional fees, issuance of a transferable LC ensures sound cash flow for third-party manufacturers.

4. The parties involved in a transferable letter of credit, in addition to the bank, include the applicant (the buyer of goods/service), the first beneficiary (A retailer or broker), and the second beneficiary (A supplier or manufacturer).

Originally published at https://www.emeriobanque.com.