Customer financing in Brazil Guide for a Finnish SME exporter

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1 Customer financing in Brazil Guide for a Finnish SME exporter Contents Financial markets 2 Know your customer 3 Prepayments received from the buyer 4 Granting payment terms with invoice 5 Bills of exchange as a financing instrument 5 Letter of credit, documentary credit 6 Medium or long-term credit for the buyer buyer credit agreement 7 1

2 Financial markets There are more than 100 s operating in Brazil. These include governmentowned development s (of which most important is O Banco Nacional do Desenvolvimento Econômico e Social, BNDES), government -owned commercial s, large private universal s and subsidiaries of foreign s. However, almost 90% are medium and small private s, which are often focused on niche market segments. The largest privately owned s in the country are financially sound with strong balance sheets and good profitability, while the large governmentowned s have a reasonable stand-alone financial strength and assumed access to government support in case of need. The s in both of these groups have investment grade ratings from at least one of the three main international credit rating agencies. The group of medium and small private s is more diverse, and some of these s face serious competitive challenges, weakening asset quality and limited access to funding. Bank credit in Brazil has been growing fast. As a proportion of GDP, it has doubled in ten years. After the global financial crisis credit growth has slowed down somewhat, more in the private s than in their government -owned competitors thus increasing the governmentowned s market share. The bond market is not very well developed. Despite the improved access to credit, longterm financing is still heavily dominated by BNDES, although commercial s are gradually stepping into the market. Especially some smaller companies have difficulties getting long-term financing from the commercial s. In general, interest rates have been decreasing. Although the Central Bank has raised the target benchmark interest rate (Selic) in 2013, in the past ten years the Selic rate has come down more than 10 percentage points. Lower inflation rate explains most of the decrease, but real interest rates have come down significantly as well. The Selic rate still stood at 10.0% in January 2014, making foreign currency interest rates attractive at least to companies with revenues in that currency. Increased competition has decreased s lending margins, which, however, still remain high and borrowing from the commercial s is expensive. At the same time BNDES funding is subsidized and offered at low interest rates. Thus companies favor BNDES funding, if it is available for them. BNDES Brazil s National Development Bank (BNDES) is the main financial support system in the country for investments. All companies registered and administered in Brazil are eligible for BNDES financing, including subsidiaries of foreign companies. Its offering is organized in products, which have defined general rules of applicable financial conditions and the operating procedures. The products fall under financing lines and programs. Lines are permanent in nature and aimed at companies operating in various sectors, while programs are temporary and focused on a defined economic segment. Lines and programs have additional and more specific rules than products and these may differ in e.g. maximum maturities and prizing principles. Because BNDES is used as a tool for the government s economic policy, and a part of the s offering is structured as transitional programs, the details of availability, conditions and interest rates are subject to changes and have to be checked with BNDES. The minimum amount for direct financing from BNDES is BRL 10 million. The interest rate of direct financing includes three elements: BNDES financing cost, BNDES basic remuneration and a risk margin, although some lines and programs may have a different cost structure all together. Lines and programs use different bases for 2

3 Know your customer financing cost, however, most often this rate falls below the Selic. The basic remuneration rate is 2.5% at maximum but varies by line, program or even the size of the borrower or the use of the funds borrowed. The risk margin depends on the borrower s credit quality and under most programs can be between 0% and 3.57% p.a. The BNDES cost structure and level result in allin financing costs significantly below the rates at commercial s for much shorter maturities. The majority of BNDES s financing is indirect and channeled through accredited financial institutions. In these cases the borrower contacts his own to negotiate the loan. The analyses the credit risk and sets the terms in compliance with the conditions determined by the BNDES line or program. After making its own credit decision, the contacts BNDES for funding. The cost of the financing may once again vary depending on the line or program, but in principle it is composed of the following factors: BNDES financing cost, BNDES basic remuneration rate, BNDES financing intermediation rate and the fee charged by the financial institution granting the credit. The financing intermediation rate is the fee that BNDES charges to cover the risk of the intermediating commercial financial institution, and the rate is fixed at 0.5% p.a. Loans to companies with annual turnover of less than BRL 90 million are exempted of the rate. BNDES mainly finances locally sourced investments and requires a 60% local content in both value and weight. Under certain conditions, the can also finance imported equipment and machinery up to 60% of the import value. Import financing is only available when there are no alternatives produced locally. The importer has to prove this lack of domestic alternatives with specific certificates, and there are a few exceptions of imported products that cannot be financed. Because of the local content rules, Brazilian companies that want to purchase imported goods do not typically have access to BNDES financing. Because of the high cost of domestic commercial credit, the companies may benefit from international financing arrangements. The exporter has a crucial role in helping the companies to find financing abroad, especially when selling to companies without existing relationships with international s. Below we provide information on the possible financing solutions and what should be taken into account when arranging financing for a customer. As important as it is to know your domestic clients, it is especially important to know your customer abroad even if the payment terms for the customer would not include a credit. Convenient way to check the basic information and the creditworthiness of your customer is to order a credit information report on the buyer. Various financing institutions, such as Finnvera plc, also utilize credit information reports as part of analyzing foreign companies. These reports are provided by for example Suomen Asiakastieto Oy and Dun & Bradstreet. When arranging an export transaction and a credit to a foreign buyer, the exporter should be prepared for that financing institutions require information on the buyer, one of the most important part being recent financials or annual report. If the buyer is not prepared to deliver this information, it is always a negative sign for the financiers. The larger the credit, the more extensive are the requirements on the quality and usually also the quantity of the information. When arranging financing to the buyer via a or simply applying for a guarantee to secure your payments, Finnvera and the conduct an analysis on the buyer to determine the creditworthiness of the counterparty. In a smaller transaction (up to EUR 600,000), a credit information report can be sufficient for Finnvera, but it should not be older than 3 months. In case the report contains enough information (which usually means recent financials) Finnvera can make a decision about granting a guarantee based solely on that. If the information is not sufficient, Finnvera relies on the exporter to deliver more information on the buyer if there is no information publicly available. 3

4 Prepayments received from the buyer When delivering capital intensive goods, usually a prepayment for a part or for the whole value of the transaction is received from the buyer. If a prepayment is received from the customer, one should take into account that the buyer may require a security for the payment for example in the form of a bond/guarantee. If a guarantee is required from a, the first contact point is your own. In case the exporting company is small or medium sized, Finnvera may assist in the process by offering a counter guarantee for the advancing the bond. Finnvera can also cover the exporter from the risk of unfair calling of the bond or calling for political reasons as the bond required is usually on demand, which means that the does not comprehensively look through the validity of the calling before the execution. If the received prepayment does not cover all of the manufacturing costs before the delivery, a quantifiable risk arises for the exporter. What happens if the buyer cancels the deal during the manufacturing period? A letter of credit (documentary credit) can protect the exporter from the risk. If a letter of credit is issued by the buyer s before the manufacturing of the goods has begun, the exporter is on the safe side if for some reason the buyer would want to cancel the deal. The exporter should turn to his house for advice when wishing to use letter of credit as a payment method and security. Letters of credit can also be used to arrange financing for your customer, to which we will address later on in this presentation. The pricing of this product depends for example on the creditworthiness of the issuing (the buyer s ), the length of the manufacturing period and possible credit period. However in Brazil, at least from Finnvera s point of view, the letters of credit in import transactions do not seem to be very popular. If the goods imported are tailor-made and difficult to sell forward due to the initial customer, for reason or another, refusing them, Finnvera can also grant cover for the manufacturing period. Finnvera cover is called a credit risk guarantee for the manufacturing period and it covers the incurred costs, excluding the margin for the exporter if the transaction is cancelled. The cover is usually for 90% of the costs. Manufacturing Costs Manufacturing of goods Guarantee for manufacturing costs (pre-delivery risks) Credit Payment terms granted to a foreign Buyer Guarantee for postdelivery credit risks 4

5 Granting payment terms with invoice Bills of exchange as a financing instrument Exporter may offer its customers postdelivery payment terms with a simple invoice. In the case of consumer goods, often the payment terms granted to the buyer are usually maximum 180 days, depending on the products. In some fields of business they may be even longer. However, it is not advisable to grant unnecessarily long or unconventional terms on a certain business field. Exporter may cover itself from the arising commercial and political risks by insuring its receivables. Finnvera or the private credit insurers (for example Atradius Credit Insurance or Euler Hermes) may grant credit receivable guarantees to Finnish exporters dealing with Brazilian buyers for continuing trade (credit insurance limit) or for a single transaction. In the case of a single transaction, for example in delivering machinery, the payment terms can be longer depending on the equipment and the amount of the transaction. In those cases it is advisable not to have bullet type payment terms. For an exporter it is important to keep in mind that when insuring receivables with Finnvera, the guarantee does not automatically include financing for the amount. In other words the exporter acts as a for the buyer in case that only insurance has been granted. If credit insurance has been acquired to cover the transaction/s, it is possible to negotiate with your about discounting the receivables. These discussions are conducted by the exporter with its. When the trade is continuous in its nature (usually consumables), in many cases it is possible to transfer the rights of the indemnification under the guarantee agreement to the discounting. This way the exporter does not have to wait for the full payment from the buyer. Sometimes this is also possible in the case of a single transaction. Especially with single transactions, it is essential to discuss with your about the possibility to discount the receivables as early as possible. Sometimes when direct discounting is not possible in a single transaction, the exporter has applied for a loan from the and kept it in its own balance sheet to be able to offer more favorable terms for the buyer. Finnveras pricing for the short-term guarantees (payment terms less than 2 years) can be found on our website (www.finnvera.fi/eng). As an example, if the payment term is less than 90 days, the guarantee premium is in the range of 0.4% 0.75% flat counted from the amount of the invoice and the cover is for 90%. Other costs include ordering the credit information report (EUR 150) if Finnvera acquires it, and the handling fee which starts from EUR 150 (for guarantees up to EUR 600,000) to a few thousand euros depending on the size of the transaction. If possible, any costs arising from different variations of granting favorable payment terms for a buyer should be carried by the buyer. Bills of exchange can be a useful instrument in granting payment terms to a buyer in Brazil especially as the shipment can be done by sea. This is important because the delivered equipment stays in the warehouse of the port and the buyer receives the documents that entitle him to acquire the goods only if the buyer has paid or accepted a bill of exchange (or a series of bills) in his own. Your own will advise you about using the bills of exchange in transactions with your customer. The exporter will issue a bill of exchange which the buyer will accept and confirm. The payment terms granted to a buyer can be short (for example 90 days) or very long (several years). If the maturity of the credit is longer and there is a single delivery, the exporter usually issues a series of bills of exchange, which are payable for example semi-annually. The bills of exchange can be discounted, which means that the exporter receives majority of the amount when the equipment is delivered. One of the advantages of bills of exchange is that the documentation is relatively simple, and because of that they can be used in smaller scale transactions as well. Your can be of help when preparing an indication about a financing scheme under bills of exchange and to make sure that the costs from the financing are transferred to the buyer. The bills of exchange can be guaranteed by the buyer s to take care of the obligations under the agreement if the buyer itself will not. Finnvera can also grant a buyer credit guarantee for the discounting (the exporter s ) to guarantee the payment. Usually s require some sort of guarantee on behalf of the buyer if the bills of exchange are to be discounted. If the payment terms granted or a buyer credit arranged to the buyer exceeds two years in maturity, Finnvera has to follow the OECDrules when guaranteeing the transaction. In short this means that for example a bullet repayment cannot be executed with Finnvera s participation. The main rules are that the prepayment should be at least 15% and the credit maximum 85% of the export contract value. Repayments have to be made every 6 months (the period can be shorter as well) and the installments shall be equal. Finnvera s prerequisite for participation in a transaction is so called Finnish interest, which means that generally the Finnish content should be at least one third of the total amount guaranteed when delivery is to Brazil. Local content can be financed up to 30% of the export contract value, if any. In a transaction with maturity of less than two years, a satisfactory level of Finnish interest is usually achieved when the exporter is registered in Finland. 5

6 Letter of credit, documentary credit Letter of credit or documentary credit as a payment method is secure to the exporter if the conditions are set correctly and the exporter is able to deliver the product within the agreed period of time. Letter of credit can be used to hedge against the risk of the buyer s country and the buyer s credit risk, and can be a tool with which to arrange a credit to the purchaser as well. Letter of credit as a method of payment should be agreed already in a sales contract and your can help in defining the terms and conditions of the letter of credit (for example a draft can be included in the trade agreement). The reimbursement to the exporter is done against a set of documents consisting of for example a bill of lading, by the exporter s. The documentation required should be such that the exporter is able to provide it to his without any possibility for the buyer to intervene. Buyer will consult their own about the issuance of the letter of credit on agreed terms and conditions. After reviewing the creditworthiness of the buyer, the buyer s issues the letter of credit on behalf of the buyer, and when this information reaches the exporter s, the exporter will be notified. The exporter s can confirm the issued letter of credit at the exporter s request and review the documents. This is advisable because the s are seasoned with reviewing the documentation, and when a letter of credit is confirmed, the also carries the risk involved with it along with the commercial and political risks from the buyer s and country. If a letter of credit is confirmed by the exporter s, it means that from the exporter s point of view the credit risk is transferred to exporter s own. Letter of credit may be at sight or avista, which means that the buyer s has to pay the agreed amount to the exporter s upon submission of the agreed documents. The buyer s will then recover the funds from the buyer. Letter of credit can also be used as a tool to arrange financing for the buyer (deferred payment L/C), and the exporter s can discount the purchase price to the exporter at delivery. At the request of the exporter s, Finnvera may participate in covering the risk arising from the issuing. Stand-by letter of credit is, in fact, a guarantee in the form of a letter of credit. Often, it is used in a continuous short-term transactions by simply invoicing the customer. If the buyer fails to fulfill its obligations the exporter can notify this to his and receive the payment from the buyer s (on demand). In a stand-by letter of credit scheme the buyer s guarantees the payment on behalf of the buyer the same way as in ordinary letter of credit and the exporter s can guarantee the payment on behalf of the buyer s by confirming the stand-by letter of credit. Confirmation of L/C Letter of Credit Guarantee exporter confirming finnvera Delivery contract with a requirement of irrevocable L/C as a term of payment Request to confirm L/C buyer issuing Request to issue L/C 6

7 Medium or long-term credit for the buyer buyer credit agreement In the case of supplying capital goods, it is possible to arrange an export credit for the buyer. In general, credit agreements are possible instruments only for larger deliveries of capital goods due to the relatively heavy documentation. Usually in these cases the transaction size is around ten million euros or more, depending slightly about the that arranges the documentation. However, there are some options for organizing smaller buyer credits as well. One suitable option in Brazil would be using the services of a financing institution called Northstar Europe S.A., which is of Canadian background and has a branch in Brazil as well. Northstar is able to conclude transactions ranging from EUR 500,000 to EUR 5 million with maturities up to five years. It is important to contact your as early as possible about arranging buyer credits to Brazilian clients. Your can assist in what to do and how the transaction should be organized. Your will also contact Finnvera when needed but in the early stages you as an exporter may do it yourself as well. Northstar has indicated that they prefer exporters to contact them directly. Commencing negotiations with potential financiers should be conducted as early as possible for the analysis of the transaction will take some time, depending usually on the size of the transaction. Also, the preliminary discussions give insight to what type of arrangement would be suitable in each specific case. exporter foreign buyer/ Buyer s Credit funds 85% lender Delivery Cash payment 15% Buyer Credit Buyer Credit Guarantee finnvera 7

8 goods Capital goods Raw materials, consumer goods, spare parts etc. non-capital goods Total sale price At least MEUR 10/20 At most MEUR 10/20 Payment time Over 2 years Aprox. 1-2 years At least approx. 1 years At most approx. 1 year At most 6 months single/ continuous trade Single Continuous Buyer s credit quality Strong Weak Strong Weak Strong Weak financing solutions and first contact points Buyer credit Exporter s Supplier credit / open account transaction Buyer credit + guarantee or re-financing to the buyer s Exporter s Letter of Credit Exporter s All the solutions that work with weak credit quality, are also applicable for strong counterparties. Avalised Bill of Exchange Exporter s Bill of Exchange Exporter s Invoice (open account transaction) Private credit insurer Stand-by Letter of Credit Exporter s Bank guarantee Exporter s 8

9 Finnvera provides domestic small and medium sized enterprises (SMEs) with loans, guarantees and venture capital investments and operates closely together with various Finnish and international s. Finnvera also provides export credit guarantees and financing for export credits. Finnvera plc is a specialized financing company owned by the state of Finland and is the official Export Credit Agency (ECA) of Finland. 9

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