Essential Trade Finance Facts Everyone Should Know About

International Trade Finance

If you are in import-export services running your business in the different corners of the world, you may have heard the term “Trade Finance” or might have felt the need for trade finance in order to run your business successfully, and smoothly. But what are these trade finance services? Before availing any of them, it will be a wiser idea to know everything about it in terms of definition, working, instruments to use as well as crucial facts. Here, we have explained everything you should know about trade finance and facts. Let’s have a look.

What is Trade Finance?

The definition of trade finance typically includes all those typical instruments and products that allow you to trade internationally. In other words, it is the financing of international trade flows to mitigate or reduce the risks involved in an international trade transaction. In simple words, trade finance makes it easy for you to move goods around the world and participate in international business.

These services make import-export transactions possible for every type of business, be it small business importing their products from overseas or multinational corporations importing/exporting the large inventory around the world every year. These services are helpful for business owners who do not want their money to be tucked in the shipment of goods. It bridges the financial gap between the importers and exporters by adding a third party.

Trade Finance Services | What is Trade Finance?

Instruments/Tools of Trade Finance

Trade finance is an umbrella term that covers many financial instruments and products being used by banks and other financial institutions to make the trade transaction easier. It is generally given by a variety of independent institutions like Banks, trade finance companies, insurers, and credit agencies. Here are the different trade finance instruments provided by these institutions.

1. Letters of Credit -A letter of credit is a document issued by the importer/buyer’s bank to the seller where the bank makes a promise on behalf of the buyer that the payment will be made immediately to the seller once the transaction has been completed and in case if the buyer is not able to do so, the entire or remaining portion of the payment will be done by the bank to the seller. You can consult your need of Letter of credit service to any authorized financial service provider like Axios.
2. Export Credit — Also known as “Working capital”, this can be supplied to the exporters for running their international transactions smoothly. This type of credit ensures that the exports would not lack any working capital to finance the upfront cost of business from purchasing raw materials to operational costs and staff costs.
3. Bank Guarantee — This is the instrument where a bank acts as a guarantor in case the importer or exporter fails to fulfill the contractual obligations. Bank Guarantee ensures the financial protection to those beneficiaries who have suffered a loss while conducting these transactions.

How Does Trade Finance Work?

As we have mentioned above, trade finance helps the international businessmen to reduce, remove, or mitigate the risks associated with global trade by introducing a third party to the transactions. But to avail the benefits of these services, it is essential to understand the complexities and procedures of trade finance.

In trade finance, different trade intermediaries such as business banking services or financial institutions initiate different types of financial transactions between the buyer/importer and seller/exporters. It can be domestically or internationally and covers different types of activities including lending, forfaiting, export credit and financing, and factoring, etc.

Trade Finance Facts

1. Reduced Payment Risks — Due to its certainty factor, trade finance has worked wonders in reducing or removing the inherent risk associated with international trade ie. Payment. In the early days of global trade, many exporters were not sure whether or when they would be paid for their goods. On the other hand, there was also no guarantee of receiving the said products on time by the importers. But with trade finance, all these risks have been eliminated by accelerating payments to exporters and assuring importers that their goods have been shipped.
2. Improved Revenue -Today these trade finance services are generating a plethora of opportunities for companies who are willing to increase their revenues and minimize their financial hurdles. For instance, an US based company wishes to produce the particular goods required by a foreign importer. But due to a lack of resources, the company is not in the position to do so. Here, by taking Trade finance, they can easily produce the required goods and send them to the foreign importer. As a result, it generates revenue and earnings for both companies.
3. Factoring in Trade Finance — It is one of the most common methods being used by exporters to accelerate their cash flow. In this concept, the exporters sell their open invoices to a trade financier at the discounted rates. The institution is called “Factor”. The factor waits for the payment by the importer. As a result, the factor makes the profit when the importer pays the said price for the goods since the exporter sold the open invoices and the exporters get instant working capital. It protects the exporters from the risks of bad-debts as well as providing them working capital.
4. Forfaiting in Trade Finance — On the other hand, in Forfaiting, the exporter sells all of his accounts receivables to the forfaiter at certain discount rates in exchange for cash. In return, the forfaiter provides immediate cash to the exporters. By doing so, the exporter transfers the debt he owes to the importer to the forfaiter. However, you should be aware of the fact that the receivables bought by the forfaiter must be guaranteed by the importer’s bank as the importer takes the goods on credit and further sells them before paying any money to the forfaiter.

Pros and Cons of Trade Finance

Trade finance is a process of financing certain transactions that place in any international or global business. It is an important external source of financing working capital. But it has some pros and cons also. Let’s find out:

Pros of Trade Finance

1. It is an easy way to arrange short-term finance
2. It helps businesses to focus on growth activities
3. These finances are typically secure against the goods or backed by an insurance policy.
4. Trade financiers can control and monitor their international trade ventures as well as keep the investments secure

Cons of Trade Finance

1. A global businessman is required to maintain a good track record in terms of operations and repayments. It makes it less accessible for new companies.
2. If payments are not made in time, it is an expensive option.

Is Trade Finance A Correct Option For Your Business?

As the time is changing, the importance of trade finance is likely to undergo a major transformation. If you are in an import-export business or looking for taking offshore banking services, then, you will need to engage in these types of trade finance services. Apart from this, it will also become a medium for minimizing financial hurdles and increasing trade-based revenue. There are other benefits to trade finance such as it could help the businesses to improve the efficiency of their business as well as boost their revenue. As a result, trade finance services ensure fewer delays in payments and shipments as well as allow both importers and exporters to run their businesses and manage their cash flow efficiently.