International Trade Finance: Types Available For The Indian Market
Business growth can be measured in multiple ways. Expansion to the international markets is one of the most evident indicators of success. No matter the nature of the business, the goal is to gain revenue as well as recognition through expansion.
In the export sector, taking your business beyond boundaries requires you to ensure that buyers put you on top of their priority lists when it comes to importing products. This is where international trade finance becomes significant. How so? It enables exporters and importers to conduct business across the globe, and seamlessly so. Let’s take a closer look at what international trade finance means, how it works, and what are the key types available.
What Is International Trade Finance?
International trade finance refers to the financial aid provided by banks or financial institutions to companies who aspire to expand their business on a global scale. It plays a key role in simplifying trade between importers and exporters who work collaboratively from different corners of the world.
A key benefit of trade finance is that it reduces the payment and supply risks between exporters and importers by introducing a third party such as banks or NBFCs. Exporters receive payments as per the contract, whereas importers can extend credit to complete the delivery of goods.
How Does It Work?
International trade finance involves adding a third party that covers financial activities like issuance of letters of credit, bank guarantees, lending, forfeiting, export credit, factoring, and such. These financial tools help exporters conduct international business transactions, reducing the hassles or risks that usually accompany them like currency fluctuations, political instability, issues of non-payment, or the creditworthiness of one of the parties involved.
What is the difference between conventional financial aid and trade finance? Exporters can manage solvency or liquidity with loans or credit issuance provided by banks as well. However, this lack of funds is documented. The key differentiator here is that trade financing does not necessarily indicate a buyer's lack of funds or liquidity – it’s just a matter of getting payment to the exporter quicker.
Global trade finance is leveraged by both buyers and sellers to accelerate business growth as it facilitates the hassle-free delivery of goods and services internationally. It allows exporters to keep up with the changing buyer trends and patterns, outpacing their competitors by being ready for any and every opportunity that comes their way. The parties usually involved are importers, exporters, banks, trade financial institutions, and insurers. The importance of export finance in India is rising by the hour. Today, there are several trade finance instruments that companies can bank on.
Types of International Trade Finance
Trade finance is primarily categorized as import finance and export finance.
Import finance paves the way for hassle-free importing of goods and services from global suppliers for companies who wish to introduce new products, while also making the most of exchange rates and low production costs. It is generally secured against various documentation such as invoices, bills of exchange, promissory notes, bills of lading, letters of credit, and such.
Export finance involves providing financial aid for both the pre-shipment and post-shipment activities. Excellent export finance with expertise can provide financial support throughout the entire lifecycle, right from manufacturing to production to delivery of goods to the buyer. It ensures that all processes are executed as planned, even before the payments roll in from the importer.
The classification of global trade finance is more nuanced when we explore it through various financial instruments. Here are some of the main types of tools that are designed to facilitate international trade finance:
1. Letter of Credit:
A letter of credit is issued by a bank on the behalf of the buyers. It guarantees that the seller will receive payment in exchange for the goods and services delivered to the buyers. Under unwarranted circumstances, if the buyers are unable to make the payment, the bank or the financial institution will step up. It will pay the seller by the terms and conditions stated in the letter of credit.
2. Bank Guarantee:
As the name suggests, this guarantee is also issued by a bank. The bank serves the role of a third-party guarantor in case the importer or exporter fails to make the payments as per the contract.
Forfaiting is a post-export trade finance tool associated with receivables. In this case, the exporter sells all their accounts to a forfaiter at a discounted rate in an exchange for cash. The supplier does not have any recourse in forfaiting. Once the receivables are sold, the supplier cannot be held accountable in instances of non-payment from the buyer. As the forfaiter is exposed to additional risks, forfaiting can prove to involve more costs for the supplier as compared to factoring.
Goods are often exported internationally via contracts featuring payment terms that do not require the buyer to pay for the goods for multiple months. Waiting for 6+ months to receive payment is not an ideal situation for suppliers who must clear bills monthly. This is where factoring companies in India come to the rescue. They represent another type of post-export finance. Here, a financial institution buys the receivables of the supplier for a discount. Once the invoice is ready, the buyer must pay the factor instead of the supplier.
5. Payment in Advance:
This is a type of pre-export trade finance wherein the supplier receives an advance payment amount or the full payment from the buyer before the delivery of the goods. This gives more leeway to suppliers in terms of maintaining a consistent cash flow. However, it can be risky for the buyers in case of delayed or failed delivery.
Go Global with Tradewind
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Our services bring you the best of both worlds – Fintech and Banking, minus the complications. Representatives at Tradewind are multicultural and fluent in over 15 languages, serving clients in more than 30 countries. We provide flexible financing solutions to companies belonging to diverse sectors – Automobile, Apparel and Textile, Industrial and Mechanical, Food and Beverage including Seafood, Electronics, Gaming & Media, and more.