CrimeaPRESS reports:
When a company enters a foreign market or conducts international trade, it is possible to use tools that will expand business opportunities. The company may also attract third-party funds to pay off its obligations. Such financial transactions are called trade finance.
What is trade finance
Trade finance is a set of financial instruments that are used in foreign economic activity for settlements of transactions. It allows companies to receive money to purchase goods, services and capital goods. Most often this term is used when talking about international trade.
The main difference from loan agreements is that borrowed funds are transferred not to the buyer of goods or services, but directly to the seller. This allows the seller to receive payment immediately after the terms of the transaction are fulfilled, and the buyer to defer payment and avoid having to take out a loan themselves. In addition, the repayment period for obligations is usually shorter than when borrowing funds.
Types of Trade Finance Methods
Self-financing is not available to all companies. There are several ways to raise money to ensure financial transactions when concluding international transactions:
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Letter of Credit. In this case, the bank undertakes to pay the amount specified in the agreement to the seller if all the terms of the agreement are met. This is a reliable, but expensive and complicated way to get money.
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Factoring. The seller receives money for goods or services immediately after they are delivered. A factor — a third party acting as a financial agent — provides a guarantee to cover costs in the event of non-payment by buyers. For the seller, factoring has a disadvantage — the need to pay a commission, which can be quite high.
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Forfeiting. With it, the bank buys the importer’s debt obligations at a discount. The forfaiter assumes all risks regarding the payment of the debt. This method is usually used when the exporter and importer do not want to take on the risk of non-payment or when the importer is located in a country with an unstable economy.
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Leasing. If a company requires expensive equipment, vehicles or other assets, it can lease them on a long-term basis with a subsequent right to purchase. Leasing allows businesses to renew fixed assets without significant one-time costs. In this case, ownership of the assets remains with the lessor until the end of the contract.
Selecting a Method
The choice of a specific method depends primarily on the nature of the transaction. Thus, leasing is suitable for acquiring assets, and when purchasing goods for subsequent resale, you can choose a letter of credit or factoring. Forfaiting is suitable for large companies with a stable financial position.
Before concluding a contract, it is important to calculate your financial capabilities. When planning income and expenses, it is necessary to take into account the mandatory payments that will need to be transferred to the organization that secured the transaction.
At the same time, there is no need to be afraid of involving third parties to conclude international transactions and limit yourself to self-financing. The use of financial instruments opens up new opportunities for companies to expand their business or purchase raw materials on more favorable terms. If you conduct a competent analysis and choose a reliable agent, this tool will help accelerate business development and earn more profit.
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