A Complete Guide to Trade Finance When Engaging in International Transactions

Global expansion for your business is necessary nowadays. To ensure the success of your export business, you must offer flexible payment terms to your clients. But you also need to make sure that you get paid fully and on time. It is for this reason that the decision on what type of financing method is appropriate for an export sale is crucial to your business.


International transaction processes must be attractive for the importer but should also come with minimal risks of non-payment for you as the exporter.


4 Primary Methods of Payment

1. Cash-in-advance

With the cash-in-advance method of payment, the exporter receives payment before the goods ownership is transferred so credit risk is avoided. The most commonly used cash-in-advance options available to exporters are corporate credit cards and wire transfers.

However, the cash-in-advance payment term is the least attractive option for buyers as it creates cash flow problems. Also, most foreign buyers are concerned that the goods might not be sent when payment has already been made.

As an exporter, insisting on this payment method as your only way of doing business can lead to you losing business to your competitors who may offer better payment alternatives.

2. Documentary collection

A documentary collection is a transaction wherein the remitting bank collects the payment on behalf of the exporter. The same bank sends the documents to the importer’s bank, along with crucial instructions for payment. The funds are received from the importer and transferred to the exporter through a bank.

A documentary collection involves the use of a draft that will require the importer to pay a certain amount at sight or on a specific date. The draft informs the importer about the required documents for the transfer of title to the goods.

Though banks act as facilitators for the exporter or importer, documentary collections offer limited recourse and no verification process in the event of non-payment.

3. Letters of credit

A letter of credit is a secure financing instrument used in international transactions. It is a commitment by a bank in lieu of the buyer that payment will be given to the exporter, provided, though, that the terms stated in the document have been met. The buyer must pay his or her bank to render this service.

When it is quite difficult to obtain a buyer’s credit information and the exporter is satisfied with the creditworthiness of the foreign bank of the buyer, letters of credit can be your best option. Buyers are also protected by letters of credit because no payment obligation arises until the goods have been delivered or shipped.

4. Open account

An open account transaction allows the shipment or delivery of goods even before the payment is due, which is from 30 to 90 days. This is the best option for importers when it comes to cost and cash flow, but it the highest risk option for exporters like you.

Due to the fierce competition in the export markets, most foreign buyers ask exporters for open account terms. Therefore, exporters who are hesitant to extend credit might lose sales to their competitors.

As an exporter whose aim is to keep and develop more business, you may want to look into offering more competitive open account terms whilst significantly minimizing the risk of non-payment by adopting some trade finance techniques like export credit insurance.

3 Effective Solutions for Risk Mitigation

1. Export credit insurance

With the right export credit insurance policy, the exporter will be protected against buyer default, buyer insolvency, fluctuations in currency, and political risks like acts of terrorism, war, and civil unrest.

Export credit insurance may be taken out on a single policy basis or may be a general policy that can cover multiple export deals. Policies can cover short-term transactions for up to one year and medium-term payment options that last for up to five years.

2. Export factoring

Export factoring is an all-in-one solution for exporters like you as it combines credit protection, working capital financing, the collection of accounts receivables, and foreign accounts receivable bookkeeping.

There are two main types – discount factoring and collection factoring. In a discount factoring arrangement, the factor will pay the exporter an advance of funds against foreign receivables until the cash is received from the importer. On the other hand, in a collection factoring arrangement, the exporter will be paid with the value of the sale if receivables fall due.

3. Forfaiting

Forfaiting is like export factoring wherein the foreign receivables are sold to a third party. Receivables are often guaranteed by the bank of the importer.

Engaging in international trade presents many risks. But with the right trade finance solution, the conflicting needs of both the exporter and importer can be settled or met halfway.

The main function of trade finance is to act as the third party to eradicate the supply risk and the payment risk while giving you, the exporter, accelerated receivables, and the importer extended credit.