It is a widely held view that banks are reluctant to assist businesses who require financial support in order to trade internationally. But how fair and accurate is this?
The continued growth in International Trade over recent years has led to an increase in demand from UK importers and exporters for banks and financiers to provide banking facilities to help support this vitally important element of their business.
Without doubt the most obvious method of finance, which was the cornerstone of the mainstream UK banking offering to support their internationally trading customers for many years – was the basic overdraft. Simple and convenient for customers to use, merely overdrawing an account to an agreed limit, was the norm for most small to medium and even larger businesses. The account was replenished when payment was received for the goods or services and the bank’s Credit function was familiar with, and very used to approving facilities for this most basic finance option.
However with the introduction of stringent financial liquidity regulations on banks following the introduction of Basel II and Basel III, there has been a dramatic shift in their policies regarding the type and form of facilities offered to their customers.
A traditional overdraft is no longer a favoured facility to offer to support a customer’s importing and exporting activities. In simple terms, as an overdraft is unstructured and the customer could, in theory, use those funds for any purpose, it is deemed to carry with it significant risk for the lender. This in turn, means that the bank/financier has to deposit more capital, centrally, to secure an overdraft facility, compared to other “structured” trade facilities. From the bank’s/financier’s perspective it is therefore a far less capital efficient facility to offer to its customers.
Companies state that one of their most important requirements is the provision of working capital. Clearly every company has different needs as their working capital requirement will fluctuate continually. When a company is heavily involved in importing and exporting that working capital requirement can be complicated by having to offer long credit periods to win export contracts, or to pay suppliers early to secure vital component parts imported from global manufacturers. Being paid or paying in foreign currency can further exacerbate the challenges.
Most banks/financiers will employ trade specialists who will discuss a customer’s current importing and exporting activities, together with their forecasts for trading over the forthcoming year. The trade specialist should then map out the customer’s trade cycle/s, highlighting time lines starting when goods are ordered (from an overseas supplier) and potentially a pre-payment is required by that supplier, right through to goods being shipped, received and taken into stock (or perhaps sold immediately) and then sold by the importer, which may involve exporting the goods.
This whole procedure can take a very significant period of time, and on average it is common practice for a UK importer to have to pay a supplier in the Far East, 30% of the value of the goods with order (often 60 days before shipment), and then the remaining 70% on proof of shipment. If the goods then take a further 30 days transit time until customs clearance has occurred in the UK, an average 60 days stocking time, and then 60 days offered to debtors, it is not unusual for a trader to effectively be out of funds for 200+ days.
Banks and financiers term this hole in a company’s cash flow as the Funding Gap.
However there are a wide variety of “structured” trade finance solutions on offer from banks and financiers for importers and exporters, and these are generically referred to as “Trade Finance”.
Unfortunately Trade Finance often has a kind of mystique wrapped around it and is certainly misunderstood by many companies, who fail to acknowledge the potential benefits that it can potentially provide to that company.
It should be emphasised that although Trade Finance can be a great help to companies both large and small in helping to fund their importing and exporting businesses, as with any form of finance, there will be an entity (usually a bank or a financier) who has spent a considerable amount of time assessing the risks involved in providing the finance.
Banks will generally insist that their Credit sanction team are assisted in the understanding of these risks (and any potential mitigants) by careful scrutiny of their trade specialist’s findings regarding the trade cycles / time lines which will assist in the consideration of the size of facilities required.
Clearly there are many risks associated with International Trade and the actual financing of the transaction is pivotal, but in some cases it is to a degree sidelined and not given the priority it deserves.
For the Importer these other concerns will often include worries about their supplier’s ability to perform (produce the goods), quality issues, and meeting strict deadlines for receipt of goods.
Exporters have an overriding priority to securing payment in the first instance, with logistical concerns, country/economic worries also featuring. However, the financing of the trade remains absolutely key to ensure that the business prevails and is able to grow sustainably.
It is important that an importer/exporter recognises the Funding Gaps in their trade cycles and having fully identified and appreciated the level of funding required, engages fully with their bank/financier to explore all the possibilities available to support the trade. These may include;
Structured Pre Shipment Trade Loans – helping support the 30% (of the goods value) paid with order, which is so commonly required by Far Eastern suppliers.
On Shipment Structured Trade Loans – helping to support the 70% (of the goods value) commonly required by Far Eastern suppliers.
Import Documentary Letter of Credit Facilities, which can be repaid by a Trade Loan, rather than debiting the importer. The Trade Loan can be a helpful bridge facility, often covering the stocking period, until an invoice is raised by the importer for the sale of the goods. The following period covering credit offered to debtors can potentially be financed using a variety of sales financing solutions.
Import Documentary Collections – can be similarly settled by a Trade Loan, rather than debiting the importer. Again these loans can be themselves repaid by a sales financing solution when invoices are raised on debtors.
Pre-shipment facilities supported by an Export Documentary Letter of Credit – Some banks will consider these facilities, subject to a number of considerations. Typically between 50% – 70% of the value of the Letter of Credit may be advanced.
Manufacturer’s Advances – usually granted without the support of an Export Letter of Credit, but traditionally against confirmed orders.
Documentary Letters of Credit – Discounting usance bills of exchange, or negotiating documents are popular methods of providing “just” post shipment finance.
Advances against Documentary Collections – again “just” post shipment finance.
These are a few of the trade finance solutions available to traders, and it should be stressed that all these options provide the bank/financier with a number of key benefits.
The bank/financier is clear on exactly what it is financing, it will usually know how long that finance will be made available, and the repayment of the funds is identifiable. The banks will deem this to be “self-liquidating”. The bank may even be able to take the actual goods into consideration, especially if the documents handled by the bank includes a full set of Bills of Lading, allowing the bank to maintain control of the goods, and in a worst case scenario, to arrange the forced sale of the goods to realise cash to repay the facility.
From a trader’s perspective, these structured facilities, should allow them to negotiate with their banking provider, with the objective of achieving potentially larger facilities and at an improved lending margin, compared to that levied on the old fashioned, unstructured overdraft.
It should be emphasised that there has never been greater appetite within the financial sector to support International Trade with most banks appointing more international trade specialists hoping to win a greater share of this very lucrative market. Banks are well aware that businesses that trade internationally are statistically proven to be worth far more to them in income terms than businesses which confine themselves to purely domestic trade.
The challenge for an importer/exporter is to evaluate which bank/financier is truly able to differentiate themselves by being able to offer excellent relationship skills, value for money, a global network, world class trade operational centres and informed, proactive and local international specialists.
Mind that funding gap! – but take advantage of potential savings on improved interest rate margins and potentially larger facilities as the bank’s/financier’s risk profile regarding the lending is significantly improved, by a the use of a structured trade facility.
Related article – Tips for Importers – How to Ask your Bank for Finance