Trade Finance: Pre-Shipment and Post-Shipment Financing

Trade finance for exporters: packing credit, discounting under LCs and collections, factoring, forfaiting and supply chain finance, with costs and examples.

An export order is good news that costs money. You buy raw materials, pay workers, packaging and inland transport, often pay freight, and then wait: for the voyage, for the documents to reach the buyer's bank, for the credit period you granted. Between your first expense and the buyer's payment, three to six months can pass. Without financing, a growing exporter can run out of cash precisely because it is winning orders.

Trade finance is the set of bank and non-bank techniques that fill that gap, and its logic is simple: the more secure your future payment, the easier and cheaper it is to borrow against it. A confirmed letter of credit or an insured receivable is excellent collateral; an unsecured open account invoice to an unknown buyer is not.

This lesson walks through the cash cycle of an export deal, then the main pre-shipment and post-shipment techniques, with their costs, the recourse question, and three worked examples: packing credit, factoring and forfaiting.

The cash gap of an export deal

Picture a typical cycle for a manufacturer selling on 60 days from the bill of lading date:

1. Day 0: order received; raw materials bought, often paid within 30 days.
2. Days 0 to 45: production and packing; wages and overheads paid.
3. Day 50: shipment; inland transport, port costs and possibly freight paid.
4. Day 110: buyer pays, 60 days after the B/L date.

Your costs are paid from day 30 to day 50, your money comes in on day 110: two months or more of financing on the full cost of the order. Pre-shipment finance covers the first part, post-shipment finance the second.

Pre-shipment finance

A packing credit is usually limited to a percentage of the order value, for example 60 to 80%, and the bank will want the export proceeds to flow through its own books. A letter of credit, especially a confirmed one, makes the bank far more comfortable, because it knows where repayment comes from. See cash in advance for buyer advances, and the kinds of letters of credit for red clause credits.

Post-shipment finance

Once the goods are shipped, you hold a claim on the buyer, or better, on a bank. Post-shipment techniques turn that claim into cash before it falls due.

Under letters of credit

• Negotiation: under a credit available by negotiation, the nominated bank purchases the drafts or documents, advancing funds to you before it is reimbursed.
• Discounting a deferred payment undertaking or an accepted draft: under UCP 600 article 12, a nominated bank is authorised to prepay or purchase its own deferred payment undertaking or accepted draft. If that bank confirmed the credit, you are paid early, usually without recourse.
• Banker's acceptance: under an acceptance credit, the draft accepted by a bank can be discounted in the money market at a rate reflecting that bank's risk.

Under documentary collections

Your bank may advance part of the value of the documents sent for collection, or discount a bill of exchange accepted by the buyer under D/A terms. This is normally with recourse: if the buyer does not pay at maturity, the bank debits you. A bank aval on the accepted bill changes the picture, because the risk is then a bank's. See documentary collection.

Factoring and invoice discounting

Factoring means selling your receivables to a factor, which advances usually 70 to 90% of each approved invoice, collects payment from the buyer and pays you the balance minus its charges.

• With recourse: you bear the buyer's credit risk; the factor finances and collects.
• Without recourse: the factor also takes the credit risk on approved buyers, within limits, often backed by credit insurance.
• Invoice discounting: the same financing, but you keep collection and the buyer is often not informed.
• Two-factor export factoring: your export factor works with an import factor in the buyer's country, which assesses and collects from the buyer; the industry framework for this is the FCI's General Rules for International Factoring.

Factoring fits regular open account sales to many buyers in markets where factors operate. Its cost is a service fee, often in the region of 0.5 to 2% of invoice value, plus interest on the funds advanced.

Forfaiting

Forfaiting is the purchase, without recourse to the exporter, of receivables due at a future date, usually evidenced by bills of exchange or promissory notes avalised by a bank, or by a bank's deferred payment undertaking under a letter of credit. The forfaiter takes the risk of the debtor, its guarantor bank and the country; the exporter warrants only that the claim exists and is valid. The ICC's Uniform Rules for Forfaiting (URF 800), in force since 1 January 2013, provide a standard framework for these transactions when the parties adopt them.

Forfaiting suits larger amounts and longer terms, from a few months to several years, especially for capital goods. The price is a discount rate made of a reference rate plus a margin for the guarantor and country risk, sometimes with a commitment fee from the date the forfaiter agrees to buy, and grace days for the expected delay in payment.

Supply chain finance

In payables finance, often called reverse factoring, a large buyer arranges with its bank a programme under which its suppliers can sell their approved invoices early at a rate based on the buyer's credit, which is usually better than the supplier's own. If you sell to a large retailer or industrial group, ask whether it has such a programme.

Which technique for which situation?

How to prepare a financing request

1. Present the deal: buyer, country, goods, amount, Incoterms® 2020 rule, payment method, dates.
2. Attach the evidence: signed contract or purchase order, letter of credit, insurance policy and credit limit.
3. Show your track record with this buyer and in this market: past shipments, payment history.
4. Show the cash-flow plan: what you need, when, and from which receipt it is repaid.
5. Ask for the full cost: interest rate and basis, fees, commitment fees, collateral, and whether it is with or without recourse.

In countries with exchange controls, the availability of each technique, and who may finance export receivables payable in foreign currency, depends on local regulation and on your bank's products. In Algeria, for example, export operations are domiciled with a bank and proceeds must be repatriated within set deadlines, which shapes how receivables can be financed or sold: discuss the options with your bank before you commit to a structure.

Common mistakes

• Waiting until cash is short to ask for financing: banks lend against good deals, prepared early.
• Comparing interest rates without fees, grace days, day-count basis and recourse.
• Believing discounting "with recourse" removes the risk: it only advances the money.
• Accepting a deferred payment credit without asking in advance whether a bank will discount it, and at what price.
• Forgetting that financing in a foreign currency adds currency risk if your costs are in another one, or removes it if it matches your receivable.