Trade Finance Operations A Solutions View on Traditional Trade Products Beirut, Lebanon, March 2010 Alexander R. Malaket, CITP, President OPUS Advisory Services International Inc.
Summary Trade finance is often “lost” in a bank, and trade operations is undervalued in the trade finance value proposition Innovations in trade finance, coupled with the profile gained since September 2008, have highlighted the importance to global business Traditional products still add value: Even more so, as part of a business solution! A holistic view of the trade finance business, within banks, together with a solutions view of client needs, will set a constructive way forward Trade Ops Staff: Look Beyond the Documents to the Business Solution!
We could say this today, too…! “Short-term credit/trade finance has been associated with the expansion of international trade in the past century, and has in general been considered as a routine operation, providing fluidity and security to the movement of goods and services. Short-term finance is the true life-line of international trade. ” Improving the Availability of Trade Finance During Financial Crises WTO Publications, 2003 The current crisis has generated unprecedented profile for Trade Finance
Yet, Trade Finance is often “Lost” in a Bank… “We have excellent profile in the Bank: our division head reports directly to the vice-chair, and often helps us make the case for trade finance” “…support from the Bank’s executive? Well, the Board will leave us alone as long as we are making money…” “Our chairman recently briefed the CEO of a major global client on what we believe is a key trend in trade finance. That kind of senior-level communication is invaluable..” …and Trade Finance Operations even more so!
Trade Finance as a Business Mature business, established product offerings and shared practices across the globe. Some innovation Credit-driven, with four main pillars: payments, financing, risk mitigation and information Highly commoditized despite complexity and expertise High fixed-cost business, increasing margin and profitability compression Value & profitability to banks – P&L – is very poorly understood Increasing demands related to compliance, globally Internally fragmented: Sales & Operations rarely in optimal alignment
Trade Operations: Undervalued Asset “I don’t care if you have a bunch of hamsters in the back-office processing the transactions, as long as the client-facing system looks good and we bring in the business” - Senior Trade Executive, New York, circa 1998 “Whenever I ask a bit deeper question about the operational side of the issue, people are stuck…from the operational side, their know-how is very poor. Reporting & booking is very, very important. You might end up with a very bad working capital structure, or a worsening of return on invested capital. This is a point which blocks the deal, where we end up with no transaction at all.” - AGM Finance, Istanbul, 2010
Trade Operations: Linking Product & Relationship Relationship Relationship OBSOLETE? OBSOLETE? Proven Proven Open Account Open Account Collections Collections Evolving Evolving L/C L/C New New Expertise Expertise Low Low Medium Medium High High New relationship, low expertise in trade, New relationship, low expertise in trade, represents highest risk, all else being equal represents highest risk, all else being equal This model looked obsolete, but traditional products/features are back
Every Trade Finance Product… …Provides some combination of: Payment Facilitation Financing Risk Mitigation Information Including the emerging Supply Chain Finance & Working Capital Solutions
To Illustrate: Documentary Credits Sales Contract and Delivery of Goods Exporter Importer (Seller/Beneficiary) (Buyer/Applicant) Exporter Importer Documents, Payment, Exchange for Exchange for Payment Documents Verification & Transmission of Documents, Remittance of Funds Issuing Bank Advising Bank (Confirming Bank)
Documentary Credits Documentary Credits are typically used between trading partners wishing to ensure mutual security in a transaction They may also be required as the basis for financing; Banks will often discount or advance funds due under a Letter of Credit. The need to use L/C’s may arise out of financial arrangements independent of the buyer/seller relationship (to access FX, for example) Banks have extensive and well-established roles and obligations to ensure that the terms and conditions of these instruments are met The Issuing Bank structures and issues the Letter of Credit on behalf of the Applicant, but the Credit, once issued, represents a "promise to pay" by the Issuing Bank
Documentary Credits The Advising Bank receives, authenticates and verifies the L/C, then “Advises" it to the exporter Documentary Credits may include a separate payment undertaking by a Confirming Bank, which may be sought by the exporter Discrepancies in the Shipping Documents against the L/C terms can cause the transaction to fail, or they may be waived to permit conclusion of the transaction. 60-70% of documents tendered by exporters under L/C's have some type of discrepancy Governed by the Uniform Customs and Practice for Documentary Credits (UCP 600), International Chamber of Commerce, Paris, and periodic revisions thereto
Documentary Credits: Back-to-Back Master = Collateral Back- Back- Master to Master to L/C Back L/C Back L/C L/C Sales Contract and Sales Contract and Exporter Delivery of Goods Delivery of Goods (Seller/Beneficiary) Becomes Exporter Exporter Importer Importer (Seller/Beneficiary) (Seller/Beneficiary) Importer/Applicant (Buyer/Applicant) (Buyer/Applicant) Exporter Exporter Importer Importer Documents, Documents, Payment, Payment, Exchange for Exchange for Exchange for Exchange for Payment Payment Documents Documents Verification & Transmission of Verification & Transmission of Documents, Remittance of Funds Documents, Remittance of Funds Issuing Bank Issuing Bank Advising Bank Advising Bank (Confirming Bank) (Confirming Bank) …which also offer some uniquely useful & flexible features
Trade Products & Operations: A Solution View Trade financiers – including Operations Specialists – need to look beyond the flow of documents and the processing of transactions This is a business solution for trade clients Once such a view is adopted, it is much easier to take an integrated approach to trade finance – where sales/relationship specialists AND operations specialists work together Look to the future: if you process documents, you shuffle paper. If you provide a client solution, you create value
The L/C as a Risk Mitigation Solution Commercial Risk Commercial Risk Political/Country Political/Country Risk Risk Importer Importer Exporter Exporter (Buyer/Applicant) (Buyer/Applicant) (Seller/Beneficiary) (Seller/Beneficiary) Issuing Bank Issuing Bank Advising Bank Advising Bank (Confirming Bank) (Confirming Bank) Bank Risk Bank Risk
The L/C as a Risk Mitigation Solution ECA Cover ECA Cover Importer Importer Importer Importer (Buyer/Applicant) (Buyer/Applicant) (Buyer/Applicant) (Buyer/Applicant) Payment type/timing Payment type/timing Exporter Exporter Exporter Exporter Incoterm Incoterm (Seller/Beneficiary) (Seller/Beneficiary) (Seller/Beneficiary) (Seller/Beneficiary) L/C L/C Issuing Bank Issuing Bank Issuing Bank Issuing Bank Confirmed L/C Confirmed L/C Guarantee/IFI Programs Guarantee/IFI Programs Advising Bank Advising Bank Advising Bank Advising Bank (Confirming Bank) (Confirming Bank) (Confirming Bank) (Confirming Bank) Confirmed L/C Confirmed L/C Confirmed L/C Confirmed L/C Payment Terms Payment Terms Country 1 Country 1 Country 2 Country 2 ECA Cover ECA Cover
The L/C as a Financing Solution ECA Cover ECA Cover ECA Cover ECA Cover UCP UCP Document Document Negotiations Negotiations Contracting Contracting L/C Issuance L/C Issuance Shipment Shipment Settlement Settlement Preparation Preparation Bank Re-Finance Bank Re-Finance Payment Terms Payment Terms Pre-shipment Pre-shipment TF as a competitive TF as a competitive Buyer Credit Buyer Credit Finance Finance Invoice Financing/ Invoice Financing/ advantage advantage Factoring Factoring Financing shifts the timing of Financial Flows & Risks between parties Financing shifts the timing of Financial Flows & Risks between parties Importer/Buyer Importer/Buyer Exporter/Seller Exporter/Seller
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