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Export & Import Financing. Chapter Twenty Eiteman, Stonehill, & Moffett. Trade payment terms. cash in advance draft bill of exchange letter of credit (L/C) bankers acceptance consignment open account. Cash in advance. Advantages least risky alternative

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export import financing

Export & Import Financing

Chapter Twenty

Eiteman, Stonehill, & Moffett

Chapter 20 - Trade financing

trade payment terms
Trade payment terms
  • cash in advance
  • draft
    • bill of exchange
  • letter of credit (L/C)
    • bankers acceptance
  • consignment
  • open account

Chapter 20 - Trade financing

cash in advance
Cash in advance
  • Advantages
    • least risky alternative
    • risk is shifted entirely to the importer
  • Disadvantages
    • may be non-competitive, lose business
  • preferred if goods made to order
    • for purpose of financing the production

Chapter 20 - Trade financing

draft bill of exchange
Draft - bill of exchange
  • issued and signed by the exporter (drawer)
    • unconditional orders to pay (for the importer)
      • on demand (sight draft)
      • at a specified time in the future (time draft)
    • fixes the amount of manner of payment
  • time draft becomes an acceptance
    • when accepted by drawee (exporter)
  • L/C (promise of banker’s acceptance)
    • draft (bill of exchange) accepted by bank

Chapter 20 - Trade financing

draft types of drafts
Draft - types of drafts
  • documentary drafts
    • drafts which require supporting documentation
      • bills of lading, invoices, etc.
    • drafts accompanying trades are documentary
  • non documentary (clean)
    • non-commercial transactions

Chapter 20 - Trade financing

drafts mechanics
Drafts - mechanics
  • a draft extends credit
    • receivable to the exporter
    • payable to the importer
  • exporter gives control of goods to importer
    • for the signature on draft
  • contract between exporter and importer only
  • transferable (usually banker’s acceptances)
    • at discount to bank, acceptance dealer
    • rate lower than prime

Chapter 20 - Trade financing

l c terms
L/C - terms
  • promise of payment issued by the importer’s bank
    • binds the importer’s bank to pay determining
      • currency of payment
      • timing of payment
      • amount of payment
    • binds the exporter to deliver a certain product
      • quantity of goods
      • quality of goods
      • delivery date for goods

Chapter 20 - Trade financing

l c advantages exporter
L/C - advantages exporter
  • reduces credit risk
    • the bank’s reputation is on line
  • reduces political risk
    • banking system is tied into the political system
  • reduces pre-shipment risk
    • contracted terms for delivery of goods

Chapter 20 - Trade financing

l c advantages importer
L/C - advantages importer
  • reduces delivery risk
    • contract stipulates delivery terms
  • bank oversees custom’s procedures
  • importer can contract for better terms
    • exporter’s risk substantially reduced
  • prepayment by importer goes to bank
    • if the shipment is not satisfactory easier for importer to recover payment

Chapter 20 - Trade financing

l c types of l cs
L/C - types of L/Cs
  • documentary L/Cs
    • L/Cs which require supporting documentation
      • bills of lading, invoices, etc.
    • majority of L/Cs are documentary
  • non documentary (clean)
    • non-commercial transactions
  • irrevocable L/C
    • cannot be revoked except by mutual consent
  • revocable (rarely used) better than nothing

Chapter 20 - Trade financing

l c types of l cs con t
L/C - types of L/Cs con’t
  • confirmed L/C by an other bank
    • usually a bank in the exporter’s country
    • obligates both banks to honor the obligation
  • unconfirmed L/C- obligates issuing bank
  • transferable L/C
    • right to transfer, must be contracted
    • transfer of L/C and supporting documents
  • assignment
    • assigning part of the proceeds to another party

Chapter 20 - Trade financing

banker s acceptance
Banker’s acceptance
  • acceptance of the draft by a bank
    • bank substitutes its credit for importer’s credit
    • if transferable - creates a negotiable instrument
      • may discount this to the exporter
      • resell in secondary markets
  • terms
    • maturities 30, 60, 90 days
  • bank profits from
    • fee on L/O, discount on acceptance

Chapter 20 - Trade financing

banker s acceptance hold
Banker’s acceptance - hold
  • PV of 1,000,000 usd
    • less 2% annual commission
    • less 9.7% wacc
  • exporter gets BA and holds to term
  • exporter hedges transaction exposure

Chapter 20 - Trade financing

banker s acceptance discount
Banker’s acceptance - discount
  • PV of 1,000,000 usd
    • less 2% commission per annum
    • less 10.4% discount per annum
  • exporter gets BA and discounts
  • exporter gets into exchange market now

Chapter 20 - Trade financing

mechanics of a trade
Mechanics of a trade
  • few weeks after contract
    • goods, price, quantity, quality
    • production of goods financed by
      • increase in input inventories, by payables
      • labor inputs by accruals
    • result an increase in output inventories
      • payables, accruals must be paid
      • payment financed by short-term financing

Chapter 20 - Trade financing

mechanics of a trade con t
Mechanics of a trade - con’t
  • goods shipped
    • output inventories still carried as assets
    • goods, bill of lading, draft sent
    • L/C sent to exporter
  • delivery of goods
    • goods, bill of lading, draft at customs
    • time draft accepted
      • by importer (acceptance)
      • by importer’s bank (bankers acceptance)
    • output inventories now change to receivables

Chapter 20 - Trade financing

mechanics of a trade con t1
Mechanics of a trade con’t
  • Banker’s acceptance may be transferable
    • can be held by exporter for payment
      • receivable stays on exporters books
      • payable stays on importers books
    • must hedge transaction exposure if it exists
  • Banker’s acceptance if transferable
    • can be discounted
      • sold at discount to a bank or broker
        • then receivable becomes cash
        • payable still on importers books

Chapter 20 - Trade financing

mechanics of a trade con t2
Mechanics of a trade con’t
  • Risk if BA discounted
    • foreign exchange exposure exists
      • from time contract agreed to
      • until draft is accepted by the importer’s bank
        • BA signed
    • credit risk
      • higher until draft accepted (BA signed)
      • lower until BA discounted

Chapter 20 - Trade financing

mechanics of a trade con t3
Mechanics of a trade con’t
  • Risk if L/C held to maturity
    • foreign exchange exposure exists
      • from time contract agreed to
      • L/C matures
    • credit risk
      • higher until draft accepted (L/C issued)
      • lower until L/C matures

Chapter 20 - Trade financing

consignment
Consignment
  • exporter retains title to good shipped
    • importer gains possession, but not title
  • very risky
    • easy for importer to default on this type of arrangement
  • terms
    • whatever the importer sells is paid for
    • goods not sold returned

Chapter 20 - Trade financing

open account
open account
  • most flexible
    • importer receives goods - a payable
    • acceptance by importer sufficient
    • reduces bank charges
  • risky - no bank guarantee on payment
    • importer and exporter need to have a good stable relationship

Chapter 20 - Trade financing

documents of trade
Documents of trade
  • bill of lading B/L
    • contract between exporter and carrier
    • straight B/L - consigns good to importer
    • order B/L - transferable
      • often serves as collateral for L/C
    • on board B/L - on board being shipped
    • received-for-shipment B/L
      • received, but not shipped
    • clean B/L - goods(externally) look undamaged

Chapter 20 - Trade financing

other documents
Other documents
  • commercial invoice
    • full description of merchandise
  • insurance
    • open (floating) prearrangement with insurer to cover shipments made
      • requires an insurance certificate which must conform to information on B/L
  • consular invoice

Chapter 20 - Trade financing

factoring
Factoring
  • firms that buy a firm’s receivables at discount
    • non-recourse basis - factor assumes all risk
    • recourse - exporter assumes risk
  • factoring fees can run from 1.75 to 2 % per month
    • compounded from 23.14 to 26.82 % per year
    • on top of this non-recourse fees can add to this

Chapter 20 - Trade financing

export financing
Export financing
  • export-import banks
    • finance exports of goods and services
    • subsidy to try to create new markets for exports
    • these are not market driven
      • very bureaucratic & often political
  • export-credit insurance
    • low cost credit insurance
    • lowers the cost of borrowing by reducing risk

Chapter 20 - Trade financing

countertrade
Countertrade
  • barter
    • direct exchange of goods between two parties
  • counter purchase - parallel barter
    • continued sale and purchase of goods
      • Finland frequently sold manufactured goods for raw materials (oil) with the former Soviet Union
  • buyback
    • repayment of exports made by the sale of related product

Chapter 20 - Trade financing

payment terms
Payment terms
  • evolving instruments of international trade
    • these instruments and methods are used to
      • facilitate trade by exploiting comparative advantage
      • reduce risk
        • who
        • how much
        • its cost

Chapter 20 - Trade financing