Chapter 18

FINANCING FOREIGN TRADE

Types of Risk

Preshipment - Shipment - Postshipment

7

The Trade Cycle

The Transaction over Time

Contract

Production

Land Transport

Port of Departure Sea Transport

Port of Destination

Customs!

Land Transport and Delivery

Final Payment

Production Process

Transport

To Port

Port Entry

Ex Works FAS

INCOTERMS

EXPORTER’S LOADING DOCK

SHIP

FOB

LOADEDSHIP

Ocean Freight is most common mode

of transport

PERILS OF THE SEA

Shipment Risks

PortOf

Departure

PortOf Arrival

Post-Shipment Risk

PortOf

Arrival

CUSTOMSIMPORTER’SWAREHOUSE

FINALPYMT

Transit to Importer

Initial Contact

Contract

Production Process

Transport

To Port

Port Entry

Pre-shipment Risks

LOADINGSHIP

PORT

EXPORTCUSTOMS

PAYMENT TERMS

I. PAYMENT TERMS

A. Four Principal Means:

1. Cash in advance

2. Letter of Credit

3. Drafts

4. Open Account

PAYMENT TERMS

B. Cash in Advance

1. Minimal risk to exporter

2. Used where there is

a. Political unrest

b. Goods made to order

c. New and unfamiliar customer

PAYMENT TERMS

C. Letter of Credit (L/C)1. A letter addressed to seller

a. written and signed by buyer’s bank

b. promising to honor seller’s drafts. c. Bank substitutes its own

commitmentd. Seller must conform to terms

PAYMENT TERMS

2. Advantages of an L/C to Exporter

a. eliminates credit risk

b. pre-shipment (cancellation of the order) risk protection

PAYMENT TERMS

3. Advantages of L/C to Importer

a. shipment assured

b. documents inspected

c. may allow better sales terms

d. relatively low-cost financing

e. easy cash recovery if discrepanciesdiscrepancies

PAYMENT TERMS

4. Types of L/Cs

a. documentary

b. irrevocable

c. confirmed

PAYMENT TERMS

D. DRAFTS

1. Definition:

- unconditional order in writing

- exporter’s order for importer to pay

- at once (sight draft) or

- in future (time draft)

PAYMENT TERMS

2. Three Functions of Drafts

a. clear evidence of financial obligation

b. reduced financing costs

c. Can be a financial product for investors

(i.e. May be converted to a banker’s acceptance)

PAYMENT TERMS

3. Types of Drafts

a. sight

b. time

PAYMENT TERMS

F. OPEN ACCOUNT

1. Creates a credit sale

2. To importer’s advantage

3. More popular lately because

a. major surge in global trade

b. credit information improved

c. more global familiarity with exporting

PAYMENT TERMS

4. Benefits of Open Accounts:

a. greater flexibility in making a trade

b. lower transactions costs

5. Major disadvantage:

highly vulnerable to government currency controls.

DOCUMENTS

II.DOCUMENTS USED IN INT’L TRADE

A. Three most used documents

1. Bill of Lading (most important)

2. Commercial Invoice

3. Insurance Certificate

DOCUMENTS

B. Bill of Lading

Three functions:

1. Acts as a contract to carry the goods.

2. Acts as a shipper’s receipt

3. Establishes ownership over goods if negotiable type.

DOCUMENTS

C. COMMERCIAL INVOICE

Purpose:

1. Lists full details of goods shipped

2. Names of importer/exporter given

3. Identifies payment terms

4. List charges for transport and insurance.

DOCUMENTS

D. INSURANCE

1. Marine Insurance Policy

covers sea as well as air transport

2. Insurance Certificate issued to show proof of insurance

SHORT-TERM FINANCING TECHNIQUES

III. FINANCING TECHNIQUES

A. Four Types:

1. Bankers’ Acceptances

a. Creation: drafts accepted

b. Terms: Payable at maturity to holder

SHORT-TERM FINANCING TECHNIQUES

2. Discounting

a. Converts exporters’ drafts to cash

minus interest to maturity and

commissions.

b. Low cost financing with few fees

c. May be with (exporter still liable) or without recourse(bank takes

liability for nonpayment).

SHORT-TERM FINANCING TECHNIQUES

3. Factoringfirms sell accounts receivable to another firm known as the factor.a. Discount charged by factorb. Non-recourse basis: Factor assumes

all payment risk.c. When used:

1.)Occasional exporting2.)Clients geographically dispersed.

SHORT-TERM FINANCING TECHNIQUES

4. Forfaiting

a. Definition:

discounting at a fixed rate without recourse for medium-term

accounts receivable

b. Use: Large capital purchases

c. Most popular in W. Europe

GOVERNMENT SOURCES

IV. GOVERNMENT SOURCES OF EXPORT

FINANCING AND CREDIT INSURANCE

A. Export-Import Bank of the U.S.

-known as Ex-Im Bank

-finances and facilitates U.S. exports only.

GOVERNMENT SOURCES

1. Ex-Im Bank Programs:

a. Direct loans to exporters

b. Intermediate loans to exporters

c. Loan guarantees

d. Preliminary commitments

e. Political and commercial insurance

GOVERNMENT SOURCES

Restrictions:

At least 51% U.S. content

No armaments

Must be environmentally friendly

COUNTERTRADE

V. COUNTERTRADEA. Three Specific Forms:

1. Barterdirect exchange in kind

2. Counterpurchasesale/purchase of unrelated goods but with currencies

3. Buybackrepayment of original purchase through sale of a related product

COUNTERTRADE

B. When to Use Countertrade

1. with developing countries with “soft- currency”

2. when tariffs or quotas prevent

trade