Trade Finance Operations

Trade Finance Operations

Beirut, Lebanon, March 2010

A Solutions View on Traditional Trade Products

Alexander R. Malaket, CITP, President OPUS Advisory Services International Inc.

Summary

 Trade finance is often “lost” in a bank, and trade operations is undervalued in the trade finance value proposition

 Innovations in trade finance, coupled with the profile gained since September 2008, have highlighted the importance to global business

 Traditional products still add value: Even more so, as part of a business solution!

 A holistic view of the trade finance business, within banks, together with a solutions view of client needs, will set a constructive way forward

“Short-term credit/trade finance has been associated

with the expansion of international trade in the past

century, and has in general been considered as a

routine operation, providing fluidity and security to

the movement of goods and services.

Short-term

finance is the true life-line of international trade.

”

Improving the Availability of Trade Finance During Financial Crises

WTO Publications, 2003

The current crisis has generated unprecedented profile for Trade Finance

“We have excellent profile in the Bank: our division head reports

directly to the vice-chair, and often helps us make the case for trade

finance”

“…support from the Bank’s executive? Well, the Board will leave us

alone as long as we are making money…”

“Our chairman recently briefed the CEO of a major global client on

what we believe is a key trend in trade finance. That kind of senior-level

communication is invaluable..”

Yet, Trade Finance is often “Lost” in a Bank…



Mature business, established product offerings and shared practices

across the globe. Some innovation



Credit-driven, with four main pillars:

payments, financing, risk

mitigation and information



Highly commoditized despite complexity and expertise



High fixed-cost business, increasing margin and profitability

compression



Value & profitability to banks – P&L – is very poorly understood



Increasing demands related to compliance, globally



Internally fragmented: Sales & Operations rarely in optimal

alignment

“I don’t care if you have a bunch of hamsters in the back-office processing the transactions, as long as the client-facing system looks good and we bring in the business”

Trade Operations: Undervalued Asset

- Senior Trade Executive, New York, circa 1998

“Whenever I ask a bit deeper question about the operational side of the issue, people are stuck…from the operational side, their know-how is very poor.

Reporting & booking is very, very important. You might end up with a very bad working capital structure, or a worsening of return on invested capital. This is a point which blocks the deal, where we end up with no transaction at all.”

Low Medium High Relationship Expertise New Proven Evolving L/C Collections Open Account

OB

SO

LE

TE

?

New relationship, low expertise in trade, represents highest risk, all else being equal

Low Medium High

Relationship Expertise New Proven Evolving L/C Collections Open Account

OB

SO

LE

TE

?

New relationship, low expertise in trade, represents highest risk, all else being equal

Trade Operations: Linking Product & Relationship

…Provides some combination of:



Payment Facilitation



Financing



Risk Mitigation



Information

Every Trade Finance Product…

Importer (Buyer/Applicant) Exporter (Seller/Beneficiary) Advising Bank (Confirming Bank) Issuing Bank

Sales Contract and Delivery of Goods

Verification & Transmission of Documents, Remittance of Funds Importer Payment, Exchange for Documents Exporter Documents, Exchange for Payment

 Documentary Credits are typically used between trading partners wishing to ensure mutual security in a transaction

 They may also be required as the basis for financing; Banks will often discount or advance funds due under a Letter of Credit. The need to use L/C’s may arise out of financial arrangements independent of the

buyer/seller relationship (to access FX, for example)

 Banks have extensive and well-established roles and obligations to ensure that the terms and conditions of these instruments are met

 The Issuing Bank structures and issues the Letter of Credit on behalf of the Applicant, but the Credit, once issued, represents a "promise to pay" by the Issuing Bank

 The Advising Bank receives, authenticates and verifies the L/C, then “Advises" it to the exporter

 Documentary Credits may include a separate payment undertaking by a Confirming Bank, which may be sought by the exporter

 Discrepancies in the Shipping Documents against the L/C terms can cause the transaction to fail, or they may be waived to permit conclusion of the transaction. 60-70% of documents tendered by exporters under L/C's have some type of discrepancy

 Governed by the Uniform Customs and Practice for Documentary Credits (UCP 600), International Chamber of Commerce, Paris, and periodic revisions thereto

Importer (Buyer/Applicant) Exporter (Seller/Beneficiary) Advising Bank (Confirming Bank) Issuing Bank

Sales Contract and Delivery of Goods

Verification & Transmission of Documents, Remittance of Funds Importer Payment, Exchange for Documents Exporter Documents, Exchange for Payment Importer (Buyer/Applicant) Exporter (Seller/Beneficiary) Advising Bank (Confirming Bank) Issuing Bank

Sales Contract and Delivery of Goods

Verification & Transmission of Documents, Remittance of Funds Importer Payment, Exchange for Documents Exporter Documents, Exchange for Payment Master L/C Master L/C Back-to Back L/C Back-to Back L/C Exporter (Seller/Beneficiary) Becomes Importer/Applicant Master = Collateral

Documentary Credits: Back-to-Back

 Trade financiers – including Operations Specialists – need to look beyond the flow of documents and the processing of transactions

 This is a business solution for trade clients

 Once such a view is adopted, it is much easier to take an integrated approach to trade finance – where sales/relationship specialists AND operations specialists work together

 Look to the future: if you process documents, you shuffle paper. If you provide a client solution, you create value

The L/C as a Risk Mitigation Solution

The L/C as a Risk Mitigation Solution

ECA Cover Importer

(Buyer/Applicant) Importer (Buyer/Applicant) Exporter (Seller/Beneficiary) Advising Bank (Confirming Bank) Issuing Bank Country 1 Exporter (Seller/Beneficiary) Issuing Bank Country 2 Advising Bank (Confirming Bank) Payment type/timing Confirmed L/C L/C Confirmed L/C Payment Terms Confirmed L/C Incoterm ECA Cover Guarantee/IFI Programs ECA Cover

The L/C as a Financing Solution

Negotiations Contracting L/C Issuance Document

Preparation Shipment Settlement

TF as a competitive advantage

Payment Terms Bank Re-Finance

Invoice Financing/ Factoring

Pre-shipment

Finance Buyer Credit ECA Cover

ECA Cover UCP

Importer/Buyer Exporter/Seller

Financing shifts the timing of Financial Flows & Risks between parties Negotiations Contracting L/C Issuance Document

Preparation Shipment Settlement

TF as a competitive advantage

Payment Terms Bank Re-Finance

Invoice Financing/ Factoring

Pre-shipment

Finance Buyer Credit ECA Cover

ECA Cover UCP

Importer/Buyer Exporter/Seller

 Warehouse receipt financing: Pre-shipment collateralized loan, using goods stored in independent warehouse

 Trust Receipt Financing: Financing of the importer after the release of the Bill of Lading and the goods, on the basis of a trusted relationship and the expectation of repayment after sale

 Financing based on a Banker’s Acceptance: tenor, discount rate – can finance the beneficiary/exporter, or either Bank

 Financing of foreign receivables – transactionally or on a ‘pooled’ basis: advance a percentage of the receivables, with full recourse

 Factoring: purchase of invoices on a non-recourse basis; factors must conduct effective credit assessments, therefore often become very involved in the Exporter’s credit analysis and bookkeeping

 Aval: The act of having a third party (usually a bank) guarantee the obligations of a buyer to a seller per the terms of a contract such as a promissory note or purchase agreement.

‘We take a ten-year view of our trade banking relationships, assess the direction of the Bank and the compatibility of our value systems…’

‘Open Account is increasingly important to us, but the products and services available simply do not meet our needs….

‘We are in a highly competitive and volatile commodity business. If I have to operate 24/7 to meet the needs of my clients across the globe, my trade bank has to keep up’

‘We are not interested in technology for its own sake. If the tool adds value, we will look at it, however, our processes in L/C transactions are optimized to the point where we prefer to use letters of credit than to shift to Open Account, or some other option’

The Client View: Solution, not Product!

Traffic Dept., P.O. Processing Finance, Treasury Functions Supporting International Trade

Trade Bank Client Organization

Sales and/or Structured Trade Trade Services Operations O B J E C T I V E S

Client Supply Chain

Integrated Trade Finance Model Channels for client information, Internal communications and staffing

Service delivery based on client objectives And business solutions

Holistic approach with broad access to Client Organization Business Objectives/Solutions Channels Traffic Dept., P.O. Processing Finance, Treasury Functions Supporting International Trade

Trade Bank Client Organization

Sales and/or Structured Trade Trade Services Operations O B J E C T I V E S

Client Supply Chain

Integrated Trade Finance Model Channels for client information, Internal communications and staffing

Service delivery based on client objectives And business solutions

Holistic approach with broad access to Client Organization

Business Objectives/Solutions Channels

The Solution View Links to TF Ops



Trade operations capabilities are expensive to maintain



IT implementations can cost up to US $30 Million



Technology solutions from TradeCard to TSU are still working to

“virtualize” some or all of the trade transaction flow



Staff shortages have been an issue, though the crisis & resulting

exit of banks from trade finance has mitigated this issue



Staff development is critical: timelines vary from 5-7 YEARS to 6

MONTHS (Consider the CDCS Program)



Productivity among trade banks can vary by 700%



Compliance is a complex and increasingly critical issue in trade

finance

Operations & the Client/Solution Connection

- Senior European Trade Banker, 2006 Foreign Regs T h e B o a rd e r Advising Bank (Confirming Bank) Exporter

(Seller/Beneficiary) Issuing Bank

Importer (Buyer/Applicant)

Bank RegulationsCommercial Regs KYC OFAC BIS Environmental Regs

Insourcing Bank Foreign Regs T h e B o a rd e r Advising Bank (Confirming Bank) Exporter

(Seller/Beneficiary) Issuing Bank

Importer (Buyer/Applicant)

Bank RegulationsCommercial Regs KYC OFAC BIS Environmental Regs

Insourcing Bank T h e B o a rd e r Advising Bank (Confirming Bank) Exporter

(Seller/Beneficiary) Issuing Bank

Importer (Buyer/Applicant)

Bank RegulationsCommercial Regs KYC OFAC BIS Environmental Regs

Insourcing Bank

Client Solutions & Compliance

 Limited understanding of trade

among auditors & compliance specialists

 Lack of clarity about the nature of transactions & their associated risk

 Limited communication & MIS specific compliance issues

Bottom Line?

P & L: Is the Business Profitable?

RM’s & Sales: Does Trade Have the Necessary Profile?

Trade Operations: Is the Model Effective &

Leveraged?

Client Value: Do Clients See a Business Solution? P & L: Is the Business

Profitable?

RM’s & Sales: Does Trade Have the Necessary Profile?

Trade Operations: Is the Model Effective &

Leveraged?

Client Value: Do Clients See a Business Solution?