Trade finance helps to make international supply chains work smoothly and efficiently.
Finance costs in the supply chain can be material. As a general principle, supply chains are most efficient when supplier-side risks (production, shipment) are separated from buyer-side risks (payment). Trade finance allows this to be achieved.
With some variations, usually the supplier receives either (a) a discountable guarantee of payment or (b) actual payment, in both cases against documents that are available at shipment.
- The documents involved are usually determined by the buyer as being sufficient to demonstrate that the supplier has fully performed his tasks
- The standard list of documents might include a bill of lading (confirming that the goods have been shipped), a packing list (what has been shipped), an inspection report (confirming that the quality of the goods matches required standards), a commercial invoice (what is being charged), and other documents required to enable the goods to be landed and imported by the buyer
- This arrangement takes the payment risk away from the supplier, but only at the point when the buyer is satisfied that the supplier has done his job
- Crucially, this can all be achieved before delivery and before the supplier hands over control over the goods to the buyer.
Financing the Supply Chain
Source: Tim Nicolle, PrimaDollar
There are two types of trade finance: supplier-centric and buyer-centric – or “receivables-side” for the supplier / “payables-side” for the buyer.
The main types of supplier-centric financing include:
- inventory finance
- pre-shipment financing:
- for letters of credit, acceptances, bills, evidentiary, e.g. bills of lading
- payment guarantees
- purchase order finance
- in-transit/warehouse financing
- receivables finance including forfaiting and export factoring – which are based upon discounting the invoice obligation of the buyer for cash
- post-shipment financing – where, with the invoice approved for payment by the buyer, suppliers discount the invoice with their local bank – typically only available for high quality international buyers whose credit is not difficult to assess, or supported by credit insurance.
Many governments also offer programmes that guarantee export working capital facilities to their exporters, sometimes via government export finance banks, and sometimes by providing insurance. These can provide exporters with lower cost financing than would normally be available, and / or to access financing that would not otherwise be available in the market.
The main types of buyer-centric finance include:
- provision of a letter of credit or documentary credit facility to the supplier which has a built-in deferred payment option for the buyer; these are called “usance” facilities allowing the buyer to pay later himself, but generating a discount-able claim for the supplier supported by the buyer’s bank; this is also sometimes called UPAS;
- early payment based upon an approved invoice – or “supply chain finance”/ “SCF”. These are usually buyer-arranged early payment facilities that allow suppliers to get paid after delivery; this is not necessarily the most efficient model for exporting suppliers as the payment comes late, and some supply chain finance programs are set up with invoice approval earlier to address this
- early payment based upon acceptable documents – or “supply chain trade finance”; this is the trade finance version of SCF, replicating the scope and reach of the LC but with the convenience, standardisation and cost savings available from an SCF platform; this is fully buyer-initiated to provide early payment to suppliers at shipment and pre-shipment guarantees should these be needed
- distributor finance programmes to ensure that distributors can purchase the exporter's goods.