The Treasurer’s Guide to Trade Finance

The Role of Trade Finance in Working Capital

been received and inspected, whereby the
seller would assume a significant risk to its
business. The seller would be concerned with
the cash flow implications, as there may be
a significant delay in the collection of cash
from the buyer. (Shipping may take time,
extending the payment term, and the buyer
would be under less internal pressure to pay,
as the goods would already be in the buyer’s
possession.) This assumes the buyer does
indeed pay – after inspection of the goods,
the buyer may choose not to.
The position is similar in the case of the

provision of a service. However, once the

service has been performed, the supplier

might have greater difficulty in reclaiming

payment from a customer who is unable to

pay. Where physical goods are involved,

the supplier may have legal recourse to

the supplied goods, in the event of the

customer’s failure to pay.

In essence there are four main terms of

payment in trade, each of which represents

a slightly different balance of risk between

importer and exporter. This is often shown

diagrammatically as a ‘payment risk ladder’.

A payment risk ladder

The following table outlines how the different types of payment term affect the main
participating parties.

Payment term Importer Exporter Role of bank

Open account No risk to importer
as goods or
services are
received before
payment is made.

Riskiest term of

payment for exporter,

as they could ship

goods or deliver service

but receive no payment

in return.

None.

Documentary
collection
delivery against
payment

Shipping

documents are

only released on

payment. Importer

may be able to

arrange inspection

of goods before

making payment.

This method of

documentary

collection requires

shipping documents

to be exchanged for

payment.

The importer can refuse

to accept the goods.

The exporter’s and

importer’s banks act as

intermediaries for the

transmission of documents.

Neither bank offers a

guarantee of payment.

The importer’s bank will

release documents to the

importer when payment is

made.

IMPORTER’S RISK EXPORTER’S RISK

Paying and not getting the goods Sending the goods and not getting paid

Advance payment

Documentary credit

Documentary collections

Open account

Increasing risk

Increasing risk