4 Jul 2021
Sanjay Vallabh is a Trade Finance Advisory Consultant and founder of Vallabh Associates Ltd. In this article, together with Funding Options’ Head of Advisory Thomas Boyd, he aims to demystify the dark art of trade finance for SMEs, mid-corporates, manufacturers, importers, exporters and advisors.
It’s safe to say the last 18-24 months have brought a whirlwind of disruption and change for UK businesses. From the impact of the global COVID-19 pandemic to general elections and Brexit, the repercussions have been far-reaching.
These changes have had a massive impact on how businesses interact with customers and supply chains, especially when it comes to international trade. The lasting impacts of these recent events will no doubt bring further challenges.
We’ve seen the cost of undertaking international trade rise through higher shipping costs, increased customs procedures from Brexit (which are complex to navigate, taking time and resources to manage), and a shortage of supply in raw materials, from cotton to copper.
Brexit in particular has reduced trade to the EU by over £60m since 2016 (Aston University Report) and up to £3.5bn of British exports to the EU have paid tariffs they didn’t have to. Clearly, we have some way to go in understanding what’s required.
Analysis of EU statistics by the University of Sussex’s Trade Policy Observatory (TPO) has found that about 10% of British exports to the EU paid tariffs unnecessarily, the BBC reports.
These are all additional costs for a business, whether that be cash flow tied up in tariffs and shipping or loss of trade with the EU and finding alternative markets for growth.
Let's also not forget about the UK’s largest sector: Services. The sector has shrunk by more than £110bn due to Brexit, according to research by Aston University, reported in the FT.
In the short term the Government-supported schemes via the BBLS & CBILS have played a significant role in helping business through this period. The Recovery Loan Scheme (RLS) is also providing affected businesses with a financial boost.
However, the RLS isn’t the only option, and some businesses aren’t eligible. Others may also be able to find business finance with better terms outside of the scheme.
Let’s take a look at how Trade Finance can help.
Trade Finance is a broad term used to describe business finance facilities that are used by companies to facilitate international trade and commerce. It’s an umbrella term, so it covers a range of financial products and solutions available from a variety of lenders.
Trade Finance plays a vital role when the conflicting needs of a buyer and seller can not be brought together by negotiation of commercial terms or due to a lack of finance.
With businesses taking on increased costs and debt over the last 12 months, Trade Finance could be the perfect solution for businesses looking to fund working capital.
Trade Finance focuses on the transaction as much as the balance sheet, so if sound structure with control over goods/services can be found, it can help inject much needed working capital into a transaction to help it reach completion.
With projects that were put on hold in 2020 due to COVID-19 getting the go-ahead, we’re seeing an increased demand for working capital. Trade Finance can help plug the gap.
We’ve seen increased supply chain pressures from suppliers wanting larger payments on orders or a more timely balance payment, together with increased goods transit times.
This puts pressure on the supply chain and has a large impact on working capital, with any potential terms being absorbed on the transit period or goods on the water.
Documentary credits can support your working capital need (and thus reduce your need to part with cash upfront), while helping to facilitate a timely and controlled transaction through the use of letters of credit, for example.
These credits can also support your payment profile from customers.
As businesses move outside the EU to find new customers, how do you ensure you get paid? With increased costs of credit insurance and more non-EU trading partners, traditional methods to secure payment (open account) may not be suitable.
A Letter of Credit can help mitigate this impact and also provide you with a mechanism to support your working capital needs.
Ok, you’ve done the hard part and won an order. It’s great news, but how are you going to fund the upfront working capital needs before you ship and invoice?
Pre-shipment finance and/or supply chain financing solutions could help.
Trade Loans & Pre-shipment Funding
Once you’ve won your order from your customer, you can apply for finance to help you fund the production of your goods and cover overheads, supply chain and project/shipment costs.
A short-term loan can support the costs associated with the importation of raw materials and overheads, until the point you’re paid by your customer (without the need for re-payment). This could be administered on a one-off or revolving basis.
Supply Chain Finance
Supply Chain Finance can support your payment profiles to your supply chain (both domestically and internationally). It can help extend credit terms with your suppliers in line with your cash collection cycle and provide a much-needed working capital boost.
Supply Chain Finance can also help with margins.
For example, say your supplier offers 30 days and your transaction profile is 55 days end to end. By using a suitable Supply Chain Finance facility, your supplier can receive the funds on day 1.
In terms of shipment, you could agree to an early payment discount and the funder could offer you 60 days credit. You re-pay once you’ve been paid and generate a cash neutral working capital position.
Financial guarantees in the form of Bid, Performance, Advanced Payment and Warranty are commonplace in the international market. These Guarantees offer the transacting parties cover over a financial aspect.
For example, you obtain a deposit from your customer, however, your customer wants protection in case you cease trading or can not undertake the work.
Or a Performance aspect such as performance of the contract (for example if your customer wants a financial compensation mechanism in place in case you can’t undertake the contracted work).
Whilst these sound practical in nature, the ability to issue and arrange guarantees can be complex, and without the correct structure and set up, could result in you not winning the work or getting into obligations that could have a detrimental effect on your business.
If the funder provides these facilities, they’ll typically want some form of security to cover their liability. As these are on demand – if the beneficiary claims, the funder pays!
On the other hand, if used correctly, they can help your business from a working capital and risk perspective, despite being complex in nature and to set up.
A HMRC guarantee could be used to defer VAT and Tariff costs to aid working capital too.
Invoice finance lets you use your receivables/debtor monies to finance your business.
You can use it to receive payment for most of the value of your invoice(s) quickly, instead of having to wait weeks or months for domestic or international customers to pay.
The lender will advance you a large percentage of the value of the invoice immediately – usually up to 80-90 per cent. Once your customer finally pays the invoice, the lender releases the final amount (minus any fees or charges).
This facility secures itself on the business and receivables and reduces any security required to release cash.
You can also look at an Asset Based Solution that takes into account inventory, receivables, plant and machinery and land/buildings, and affords you funding against these.
As you can see, there are a number of ways businesses can prosper and grow their international trade footprint using business finance designed for cash flow and growth.
The forthcoming articles in this series will explore solutions such as inventory funding, government support of international growth and cash flow solutions.
Reliance, being agile, adapting to change and embracing new working practices are becoming the norm for businesses and their leaders.
Do you know where to find creative trade finance options which help you and your clients grow? Do you lack the working capital capacity to innovate and differentiate?
Vallabh Associates have a great deal of experience supporting business with international trade and are adept at demystifying the dark art of trade finance. We work closely with them to help your clients trade, plan and grow with confidence.
Let's plant those seeds for growth!
Head of Advisory
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