People often confuse trade finance and export finance as separate forms of funding but in reality, they are all covered under the trade finance umbrella. Whilst this may be the case there are different nuances in the way that the industry uses the term and how businesses perceive it to be.
In this article, we will break down the above and also the key differences between trade finance and export finance, how they service the export import market and more:
Trade Finance definition
Trade finance broadly covers all the financing that companies use to conduct domestic and international trade. The utilisation of these forms of financing helps businesses to transact at a faster pace than they might have otherwise done without the extra cash flow.
By definition, this is an umbrella term that covers a vast range of trade finance products like a letter of credit and also export finance. Other financing products aim to provide liquidy whilst trade finance purely services to help facilitate trade.
How does trade finance work? We break it down in a comprehensive guide here.
Export Finance definition
An export finance service is the funding of goods or services that you are exporting overseas before you are being paid by your customer.
To help win orders sometimes businesses extend long credit terms (when they are due to be paid) to their customers. This can put a strain on a business with these terms sometimes going as far as 180 days.
Funders step in and provide the business with liquidity before they are due to be paid. Similar to factoring they will advance you up to 80% of the value of the order which would then be paid back to the financial institution upon receipt of payment.
A key part of Export Finance is the foreign currency risk you encounter when conducting business abroad. Exchange rates can very easily eat into your profit margins. Protect yourself from downside risk here.
What the industry calls Trade Finance
Even though the term covers a vast range of Trade Finance solutions, financial institutions normally equate the products with the funding of imports. If you go onto most financing websites (including ours) you will see that the range of products available is there to purely serve imports.
The industry likes to segregate import and export financing for several reasons. The first being it is easier for the customers to distinguish between the two products and secondly it is easier for the financier to convey to the customer.
Whilst this is sometimes confusing the real only thing that you need to focus on when looking for a product is how to industry calls and sells that given financing facility.
We go into detail on the different products available under the trade finance umbrella here.
Export financing products
Like Trade Finance export finance is not just limited to one product. Many different products can service exporters and provide funding at different stages of your export.
Financing through Letter of Credit
This would be where the importer of your products or services would raise a letter of credit through their bank which would guarantee payment to you normally on a bill of lading being issued.
Once this is supplied you can take the Letter of Credit to your bank which would give you funding and charge you an interest rate until they receive payment from you. There are different types of letters of credit like a standby letter of credit, we look in-depth on the subject here.
Invoice Finance and Invoice Discounting
This form of export financing is where funders will advance you up to 90% of the value of your order that you are exporting. Normally your suppliers will have to pay directly into the financier’s bank accounts which will be held under your name.
The most noticeable difference between invoice finance and invoice discounting is with the latter you would handle your credit control, so you would be in charge of collecting customer payments. We go into both products in-depth here (Invoice Finance) and here (Invoice Discounting).
Purchase Order Financing
A purchase order is an agreement between a buyer and a seller, issued by a buyer looking to purchase a product or service in a certain quantity and at a specific price. Once the seller accepts the purchase order it becomes legally binding that they fulfil that order.
Banks and other financial institutions fund off the back of purchase orders and help provide the liquidity needed to process and complete your orders.
Find out more about Purchase order financing here.
Supply Chain Finance
This is a form of Finance where the buyer would upload an invoice from a supplier to their financier. The supplier would then be able to see this once uploaded and have the choice to receive the funds on the date initially agreed or get advanced payment through the funder minus fees applied.
One thing to bear in mind with this form of financing is that the cost is not calculated by taking into account both parties involved. It is formulated by the perceived risk of financing the buyer.
We look further into Supply Chain Finance here.
The export financing products above are not limited to the above but these are the main ones that customers use.
Foreign currency risk when using Export and Trade Finance
When transacting cross border (unless you are paying in your local currency) you will be purchasing foreign currency to pay for goods or services. The charges you encounter when transacting through other currencies can be extensive.
From experience as a previous currency dealer at multiple financial institutions fees per transaction can be as high as 5%. We look at how to decrease the amount you are paying for the long term here.
All in all trade finance does cover a broad range of products but is showcased and advertised by the industry to be a pure import product. Likewise, the flip side of the equation helps export businesses get funding through different products to ease the financial burden of being paid after the production or creation of the product or service they are selling.
Funding Routes deals with clients in the UK and Europe who have needs for both or one of the above products. With an industry-experienced team, we are always happy to help to find the financing product that can be a good fit for you and your business. Get in touch with us here.