Trade Finance & Factoring
Külli Paap
October 23 2014
OUTLINE
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Documentary credits
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Documentary collections
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Bank guarantees
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Factoring
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DOCUMENTARY CREDIT (letter of credit)
Obligation of the bank to make the payment to the beneficiary provided the latter submits all
requested documents within the time schedule indicated under the conditions of the letter of
credit.
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LETTER OF CREDIT SCHEME 1/2
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LETTER OF CREDIT SCHEME 2/2
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ADVANTAGES TO THE BUYER
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Elimination of risks arising from advance payment.
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Possibility of accurately determining the shipping time and
price for the goods.
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More flexible cash flow planning .
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Possibility of purchasing goods on credit.
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ADVANTAGES TO THE SELLER
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Elimination of risks related to the solvency and payment
discipline of the buyer.
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Elimination of delivery risks.
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Possibility of eliminating political risks of the buyer's
country.
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More flexible cash flow planning.
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DOCUMENTARY COLLECTION
In this case the documents submitted by the seller are released by the bank to the buyer against
the buyer’s payment or payment obligation.
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DOCUMENTARY COLLECTION SCHEME
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L/C AND D/C MAIN DIFFERENCES
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In case of collection the seller makes the first step, shipping
the goods without having a security for payment.
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In case of L/C the terms for payment are known before the
shipment.
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In case of collection there is no guarantee that the payment
shall be made (when and whether at all).
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Collection fees are smaller than of L/C.
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BANK GUARANTEES
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Bank guarantee is an irrevocable obligation of the bank to pay an amount of money, not exceeding
the guarantee amount, when the beneficiary presents its written claim.
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Payment guarantee is issued by the bank in favour of the seller of the goods. If the buyer fails to
pay for the goods in due time, the seller is entitled to claim the unpaid amount from the bank.
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Advance payment guarantee is issued by the bank in favour of the buyer of the goods. This
guarantee secures the buyer the refund of the advance payment in case the seller fails to deliver
the goods.
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THE NATURE OF FACTORING
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Factoring is a credit facility that is meant for the sellers of goods or services.
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It is a method of financing of trade debts where a company sells the invoices to a financial
institution.
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Seller shall assign the receivables to the bank.
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SCHEME OF FACTORING
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FACTORING PROCEDURE
1.
Upon sales of the goods or rendering services the seller issues invoice to the buyer.
2.
The seller submits the invoice to the bank for factoring after the buyer has accepted it.
3.
The bank effects an advance payment to the seller up to 90% of the value of the invoice.
4.
The bank shall monitor and collect the payment of the invoice.
5.
The buyer shall pay directly to the bank at the invoice due date.
6.
After receipt of the payment, the bank will transfer the unpaid part of the invoice to the seller.
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PRECONDITIONS FOR FACTORING
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The goods have been delivered to the buyer (shipped in case of export) or services
rendered.
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Seller has granted payment term and that has not become due.
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Seller and buyer are not related parties.
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There are no options to set off the accounts.
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The invoices are not disputed by the buyer.
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TYPES OF FACTORING
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With recourse
Without recourse
The seller is obliged to return the advance payment to the bank in case
the buyer does not pay the invoices within certain period (for example 30
days) after the payment maturity date.
The seller is not obliged to refund the advance payment in case of nonpayment by the buyer.
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FACTORING WITHOUT RECOURSE
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The bank insures the buyer’s credit risk in the insurance company or takes the risk itself
(mainly state institutions or state-owned companies).
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Credit insurance covers ONLY buyer’s long-term default or bankruptcy, this means that
all the rest is seller’s liability and not covered by credit insurance. For example quality and
quantity issues, credit notes, countertrade, disputed invoices.
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Insurance cover is 75-90% depending on the seller’s country.
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ADVANTAGES OF FACTORING
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Quick way of financing – enables the company to increase its sales.
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Longer terms of payment for buyers – improves the competitiveness of the company.
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Flexible financial resource – the factoring limit can be raised as the company increases its
sales.
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Bank scans all buyers and incoming payments – a good way to discipline the buyers.
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Possibility to mitigate the buyer’s credit risk.
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