Trade finance corresponds to monetary activities related to international and commercial trade. Since 1983, the concept has been under constant review and monitoring. The constituents of international trade finance goes from lending to insurance of letters of credits, insurance, export credit, to highly structured debt ECA financing and bonds.
Companies involved in international trade finance include banks and financiers, importers and exporters, export credit agencies, insurers and other service providers.
Defining Trade Finance
There are many definitions of trade finance online. It is often described as both science and a vague term that covers myriads of activities. Both are accurate, but only up to a certain extent. In one way, trade finance providers manage capital needed for international trade flow. However, in this science, there are many tools for financiers to use which determines how investments, cash, credit and assets can be utilised for the purpose of international trade.
In simple terms, international trade finance requires an exporter and an exporter to prepay for the goods. The importer, obviously, wants to reduce risks of trade by asking exporters to document that all goods are shipped. The importer’s bank assists the exporter by providing the letter of credit for payment upon presentation of specified documents like bills of lading. Thereafter, the exporter’s bank may request for a loan to the exporter depending on the contract. Documents used in this process depend entirely on the nature of transaction and evidence of performance, such as bill of lading.
Trade Finance Providers
Trade finance providers finance when both buyers and sellers assist them with trade cycle funding gap. Both buyers and sellers can choose trade finance as a type of risk mitigation. However, in order to make this effective, financiers require:
- Controlled use of funds, goods and sources of repayment
- Trade cycle visibility and monitoring through the transaction
- Security of goods and receivables
Trade finance providers help settle all conflicts between the importer and the exporter. An exporter has to mitigate payment risks from importer. It is also crucial to accelerate receivables. Contrarily, importer would want to mitigate risk of supply from the exporter and have the benefit of extending credit on payment.
International Trade Finance
Trade finance in banking works by integrating the divergent needs of exporters and importers. Exporters prefer that importers pay upfront for export shipment in order to avoid risks that importers take the shipment but deny paying for the same. However, if an importer pays upfront, the exporter may accept it but deny shipping the goods.
The only solution to this problem is that the importer’s bank provides a letter of credit to the exporter’s bank, which provides payment once exporter presents all the necessary documents proving that the shipment occurred, such as a bill of lading. Here, letter of credit guarantees that when the issuing bank receives a proof of the shipped goods, it would issue payment to the exporter.
Although international trade finance has existed for centuries, trade finance providers ensure advancement. The prevalence of trade finance in banking contributes to massive growth in international trade.
Trade finance is an opportunity to mitigate risks throughout the lifecycle of a certain transaction. The best trade finance banks in the world provide trade finance to cover the risks of non-payment of buyers with documentary credit issued by the bank. Exporters receive funds in advance upon presenting the documents fulfilling terms of credit.
Global trade finance involves the use of standby documentary credits that act as a guarantee. Such credits are only activated in case of non-payment. Banks also use guaranteed to stand behind contracts. Documentary credits like a letter of credit issued for facilitating trade across borders.
To ensure cross-border relationship and global trade finance, some bonds are used, such as bid bonds. They support up to 5 percent of customer’s tender. If such a tender is successful and suppliers accept it, a performance bond is created. This is to make sure the contract you have entered into is performed and the bond may have a contract value of up to 20 percent.
Some contracts lay down advance payment rules to be made prior to goods delivery. In such cases, an advance payment bond is created to make sure repayment of advance is done if any clause of the agreement is unfulfilled. When it concerns machinery or plant purchase, the purchaser may have to hold back 10 percent per year. Nevertheless, if sellers require 100 percent value, a retention bond may be provided to cover the shortfall. Hence, retention bond is provided by the bank of the exporter in favour of the buyer.
Payment guarantee is used to ensure exporter receives payment if payment obligations are unfulfilled.
Documentary Collections for Global Trade Finance
Best trade finance banks usually refer to documentary collections – payment service where exporters and importers transact using a banking channel. Using this, banks control goods and title documents. Once the correspondent bank feels satisfied with the trade in a different jurisdiction, they may choose to release those documents.
Seller’s financier releases documents only when the bill of exchange is accepted or payment is done. The advantage of collection type payment is the commitment to pay upon the receipt of all necessary documents managed through the banking system.
Technology has brought major reforms in the medical, aerospace as well as the automotive industry. However, the combined changes in all these industries still cannot match the scale of use of technology in the baking and financial sectors. The trade services in the banking sector have seen some of the most technology-driven changes in the past couple of years.
Here are some of the most common technologies currently used in the trade finance sector across the globe.
Key Trade Documentation
Documentation is an important part of the trade financing practices. Flawless and consistent documentation is a must for all the companies that wish to grow in this sector. The documentation practices help the companies file their taxes as well as keep a trail of the money that goes into different accounts within the organization. The documentation of standby letter of credit both at the importer’s and exporter’s end plays a key role in the whole process.
A reliable trade finance company will help you establish a new bank account or link your private bank account to the trade financing practices effectively. Modern-day trade finance companies use automatic document generation tools to generate as well as keep track of the most important documents in the process.
Invoice/Purchase Order Finalization
Without the necessary documents on invoice/purchase order finalization, the entire process of trade financing can come to a halt. Today, computers can store vast amounts of data in a highly organized fashion so that you can effectively track all the flow of money from one account to the other.
These tools can provide regular updates of the deal to the owner with regular reminders as well as automating the mailer processes. The tools help as an active calendar that can take actions on its own instead of a passive one that just marks a process/date on your timeline.
Efficient Verification Via Maker-Checker Mechanisms
The verification process of documents takes up a large amount of time in trade finance practices. Conventionally, the banks employed a large taskforce only for this mechanism. The shift of one decimal point in a critical document can cost a loss in millions of dollars. This is why banks invested heavily in such a task force. However, the modern-day trade finance banks do not have to invest in such practices anymore. Instead of investing heavily in the inefficiency of the human taskforce, they employ a highly advanced maker-checker mechanism. This mechanism keeps track of the consistency of information that is flowing through the system.
RPA (Robotic Process Automation) technologies have taken the world by a storm today. This technology is capable of mimicking human actions millions of times in a completely error-free manner. The RPA technologies are helping modern-day banking individuals perform more logical and thought-related operations instead of plain repetitive and mundane tasks such as filling up an invoice sheet.
AI (Artificial Intelligence) in sync with the RPA technologies has significantly reduced human efforts. Now, the computers can think just like humans and take logical decisions based on strict data points. AI does not bring the inefficiency of human emotions into the picture, thereby increasing the statistics of usability more in its favor.
Cognitive and Machine Learning Technologies
AI + RPA + ML (Machine Learning) technologies with cognitive abilities are the perfect combo that is revolutionizing the banking industry today. These technologies come together to minimize errors, increase efficiency, and productivity as well as reduce the cost for banks.
Employment of these technologies is the first step towards true digital transformation. The banks that are actively employing these technologies are already ahead of the banks that are not.
If you plan to buy a property, invest in a project or wish to establish financial credibility in the eyes of the seller, proof of funds is the perfect documentary evidence. SUISSE BANK PLC is your go to source for arranging PoF which represents that you as a buyer have enough financial sources to pay to the seller and are financially sound. As experts in banking and trade finance services, we offer customized solutions to meet your fund based and non-fund based requirements