The Role of Trade Finance in Working CapitalIt is increasingly possible to automate
core processes, often with the support of
banks and other providers, so less manual
intervention is required to manage the day-
to-day traditional treasury activities. This has
freed time for treasurers to become more
involved in the work of the wider company,
and especially in the management of
working capital.
Why integrate cash and trade?
For the international company, in particular,
there are significant potential benefits from
taking an overarching view of working capital.
Improve liquidity.
From the perspective of liquidity, funding
lines can be made more efficient by
looking at the trade cycle as a whole.
Where external finance is needed,
companies can avoid having unused
bank lines to support letters of credit and
separate unused working capital lines.
In all cases, a more integrated cash flow
forecast can ensure any external financing
is minimised. A forecast can also help
to ensure any surplus funds generated
in one part of the business are made
available to other entities with a funding
requirement. It may also be worth creating
letter of credit forecasts in the same way.
Manage risk.
From the perspective of risk management,
identifying natural hedges across a
company can reduce the need for costly
external hedges to be put in place.
Any improvement here will benefit
the company’s overall liquidity and
reduce the cost of arranging expensive
insurance against discrete events. Better
interaction between sales and treasury,
allowing information to be shared on, for
example, counterparty payment practices,
will improve the company’s ability to
assess its exposure to counterparty risk.
Companies can also use data generated
across the business to support their
own internal credit analysis. The skill set
resident in the treasury department can
be used to understand these exposures
better, and to take more appropriate, often
longer-term, action.
Enhance sales.
Making the working capital cycle more
efficient will reduce the need for external
and internal financing, and therefore
the total cost of production, allowing the
company to offer a more competitive price
to its customers.Financing working capital
By looking at cash and trade under the
working capital umbrella, treasurers can
help to improve the efficiency of funding
across the business. It is possible to take
a more strategic approach to funding over
all time periods, whilst simultaneously
ensuring that funds are available to meet
short-term requirements, support letters of
credit programmes, and for more permanent
working capital requirements.
At the same time, a working capital
perspective helps to ensure that each
stage in the production process is financed
appropriately, with finance costs matched
to the elements they are supporting and the
risks being assumed. In this scenario it is
appropriate, for instance, for companies to
see trade finance as an extension of other
working capital finance. That is not the
same as disbanding any traditional trade
financing structures, such as the use of
letters of credit. However, treasurers are
increasingly able to view cash and trade
from the same position.
There is no single correct way to establish
the most appropriate technique for financing
a company’s activities. There is a wide range
of alternative sources of finance, to which
companies may or may not have access.
This varies from traditional bank finance,
in the form of loans and overdrafts, to debt
instruments, such as commercial paper, trade
documents and bond issues, to pure equity
financing. Access to these sources of finance,
and others, will depend on circumstance, the
appetite of the market, and the size of the
operations. (There is more detail on individual
financing techniques in Chapter 7.)
These funding decisions have to be
taken in the context of the company’s wider
activities. Whilst the cheapest funding source
might be appropriate for a company, the
funding cost is not the only factor in this