Chapter 7 Trade financing techniques
It is relatively easy to negotiate trade
documents. As it is a standard practice,
there is no significant legal cost involved.
It is, in practice, a method to accelerate
the collection of cash, allowing it to be
recycled back into the business.
Trade documents can be negotiated as
necessary. The borrower does not need
to enter into any long-term commitment
to negotiate trade documents. As a result,
commitment fees are not payable.
The original accepting party of the
document will provide the cash to repay
the borrower’s source of finance at term.
The original holder of the document plays
no further part in the transaction once its
interests have been transferred. (Only in
the event of some kind of fraud might the
holder have a claim on the original holder
or one of the intermediate holders. This
might apply, for example, if the drawee
could show that value had already been
paid to a previous endorser of the bill.)Disadvantages
As with any form of financing, there are
disadvantages for the borrower.
Financing can be expensive. The bank or
other institution offering the finance will
discount the trade document. The amount
of discount will reflect a variety of factors,including the creditworthiness of the issuer
and the ease with which it expects to be
able to collect payment. If the document is
issued abroad there may be an additional
charge for this process.
It may not always be possible to negotiate
a particular draft. Market conditions and
the identity of the document’s acceptor
may make it difficult for a company to
borrow against it.
Negotiating trade documents can impact
a company’s ability to raise finance
from other sources. For example,
when considering an application from a
company for an overdraft or formal loan
facility, a bank will consider the presence
of any trade documents when assessing
a company’s liquidity and thus its ability to
repay the facilities.Evaluation
Negotiating trade documents can provide
a company with a steady and accelerated
cash flow. Depending on the company’s
financing structure, this can free up other
assets to be used as security for other
income streams (for example, buildings can
be used as security for longer-term bank
loans). However, the treasurer will need to
ensure that negotiating trade documents is
an effective means to raise funds.Case study
Construction needing cash flow acceleration
A company completed a construction project in January 2012. Under the terms
of the contract, the company was not due to be paid until January 2013. As it
was fully entitled to do, the counterparty declined the company’s request to pay
before the due date. The company sought an alternative method of accelerating
cash flow, to avoid cash being tied up for a year.The company used a bill of exchange,
which was backed by a quasi-
governmental organisation, to accelerate
the cash flow. Using the credit status ofthe quasi-governmental organisation, the
bank advanced just under EUR 20 million
to the company by the end of the first half
of 2012.