The sustainable growth of one company can’t be imagined without a stable and fail-proof cash flow. If we take a look at the recent US Bank study, we will see that as many as 82% of surveyed companies that had to eventually shut their doors cited the cash flow problems as one of the important contributing factors to their failure.
With that in mind, sustaining a stable cash flow was a great challenge even in the times before the outbreak of COVID-19. The current post-pandemic economy only makes this task even more complex.
Fortunately, all these challenges don’t have to be figured out from scratch and these days we have a plethora of options that should help us to keep our companies running without obstacles. Today, we are going to cover Trade Finance – one of the most popular options on this list.
The definition of Trade Finance
Let us start this breakdown by making sure we all have a clear idea about what Trade Finance actually represents. So, according to the definition by Investopedia, Trade Finance represents any sort of product or instrument the companies can use to facilitate international trade and finance. In other words, Trade Finance represents an umbrella term for financial products issued by banks the companies use to make the trade transactions feasible.
How does Trade Finance work in real life?
For instance, some sellers may require their clients to prepay the goods they are buying. In this case, the buyer may want to reduce the risk of such transaction (e.g., shipping delays, political instability, currency fluctuations…) so both parties may refer to a third-party service provider to mitigate or reduce supply and payment risks.
In the case we have described above, the bank or some other service provider may send a line of credit to the seller providing the funds for payment upon receiving certain assurances like, for example, a bill of landing. Accordingly, Trade Finance services can be divided into two main branches:
- Letter of credit – Best described as a promise given by a service provider on behalf of the buyer that if the seller presents the document to the designated bank, the bank will make payment to the seller.
- Bank guarantee – A promise given by the bank on behalf of the applicant that if the applicant fails to fulfill its financial obligation to the beneficiary the bank will cover the expense and make the payment to the beneficiary upon receiving the transaction receipt.
So, we can see that the main role of Trade finance products is to keep all the parties involved in the transaction assured that the transaction will be completed even in spite of eventual obstacles. The list of these products includes the mentions like a letter of credit (LC), advance payment, bills for collection (BC), and open accounts.
How can using Trade Finance services benefit your company?
Now that we’ve got these important issues off the table, let us take a quick look at some of the specific situations in which the Trade Finance products can benefit your company in real-life scenarios to understand this issue even further.
Financing the vendors
Whenever some company is taking off or experiencing tangible growth, the current revenue doesn’t always provide enough funds for re-stocking the inventory and keeping the momentum of this growth going. What’s even worse, the overseas supplies will often require the payments to be made before the shipping even starts. Trade Finance serves as an excellent way to facilitate these issues without forcing you to engage in less flexible long-term loans you may not even be eligible for.
Financing the inventory
The goal of every successful company is to improve sales on a year-on-year basis. Stacking the inventory for such growth usually involves long-term obligations to the retailers that, in the case of sudden demand growth, can stretch the financial resources of one business too thin and make keeping up with new orders impossible. Since reducing the terms and cutting the ties with vendors is not an option, a solution to this problem can be found in Trade Finance that allows you access to fresh working capital and keep your inventory fully stocked.
Financing the exports
In this scenario, your company is exporting a stable number of products to the retailers that, on the other hand, see seasonal fluctuations in sales. As a result, they are often forced to reduce the prices and they are not always able to keep the stable supply line you need to keep your internal finances in order. In this case, you can ask your Trade Finance service vendor to provide you with a post-finance shipment facility which, in turn, allows you to extend the payment terms to the best retailers and keep everyone happy.
In conclusion
We hope this short breakdown gave you a general idea about what Trade Finance actually is and how these services can benefit your company. The present-day business world is very competitive and hasty and the companies who want to keep up with it need to have a top-notch cash flow and be able to move goods around with as little delay as possible. This problem is too complex to be solved by one singular measure but, it’s hard to deny that Trade Finance represents a good place for untangling this mess.