Trade Finance Operations A Solutions View on Traditional Trade Products Beirut, Lebanon, March 2010 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 Trade Ops Staff: Look Beyond the Documents to the Business Solution!
We could say this today, too! 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
Yet, Trade Finance is often Lost in a Bank 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.. and Trade Finance Operations even more so!
Trade Finance as a Business 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
Trade Operations: Undervalued Asset 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 - 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. - AGM Finance, Istanbul, 2010
Trade Operations: Linking Product & Relationship Relationship Proven Evolving OBSOLETE? Collections Open Account New L/C Low Medium High Expertise New relationship, low expertise in trade, represents highest risk, all else being equal This model looked obsolete, but traditional products/features are back
Every Trade Finance Product Provides some combination of: Payment Facilitation Financing Risk Mitigation Information Including the emerging Supply Chain Finance & Working Capital Solutions
To Illustrate: Documentary Credits Sales Contract and Delivery of Goods Importer (Buyer/Applicant) Importer Payment, Exchange for Documents Exporter (Seller/Beneficiary) Exporter Documents, Exchange for Payment Issuing Bank Verification & Transmission of Documents, Remittance of Funds Advising Bank (Confirming Bank)
Documentary Credits 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
Documentary Credits 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
Documentary Credits: Back-to-Back Master = Collateral Master Master L/C L/C Sales Contract and Delivery of Goods Exporter (Seller/Beneficiary) Backto Backto Back Back L/C L/C Sales Contract and Delivery of Goods Importer (Buyer/Applicant) Exporter (Seller/Beneficiary) Becomes Importer/Applicant Importer (Buyer/Applicant) Exporter (Seller/Beneficiary) Importer Payment, Exchange for Documents Exporter Documents, Exchange for Payment Importer Payment, Exchange for Documents Exporter Documents, Exchange for Payment Issuing Bank Verification & Transmission of Documents, Remittance of Funds Advising Bank (Confirming Bank) Issuing Bank Verification & Transmission of Documents, Remittance of Funds Advising Bank (Confirming Bank) which also offer some uniquely useful & flexible features
Trade Products & Operations: A Solution View 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 Commercial Risk Political/Country Risk Importer (Buyer/Applicant) Exporter (Seller/Beneficiary) Issuing Bank Advising Bank (Confirming Bank) Bank Risk
The L/C as a Risk Mitigation Solution Importer (Buyer/Applicant) ECA Cover Importer (Buyer/Applicant) Exporter (Seller/Beneficiary) Incoterm Payment type/timing L/C Exporter (Seller/Beneficiary) Issuing Bank Confirmed L/C Issuing Bank Advising Bank (Confirming Bank) Guarantee/IFI Programs Advising Bank (Confirming Bank) Country 1 Confirmed L/C Confirmed L/C Payment Terms ECA Cover Country 2
The L/C as a Financing Solution UCP ECA Cover ECA Cover 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 Financing shifts the timing of Financial Flows & Risks between parties Importer/Buyer Exporter/Seller
The L/C as a Financing Solution 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.
The Client View: Solution, not Product! 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 last speaker claims to process 20,000 transactions/year with 2 FTEs
The Solution View Links to TF Ops Trade Bank Client Organization Finance, Treasury Sales and/or Structured Trade Channels Trade Services Operations O B J E C T I V E S Functions Supporting International Trade Client Supply Chain Business Objectives/Solutions Traffic Dept., P.O. Processing 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 OPUS Advisory, 2004
Operations & the Client/Solution Connection 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 Response to these issues determines success in client solutioning
Client Solutions & Compliance Bank Regulations Commercial Regs KYC OFAC The Boarder BIS Environmental Regs Foreign Regs Advising Bank (Confirming Bank) Insourcing Bank Exporter (Seller/Beneficiary) Issuing Bank Importer (Buyer/Applicant) 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 The only way we can be fully compliant today, is to turn off the lights, close the door and go home - Senior European Trade Banker, 2006
Bottom Line? P & L: Is the Business Profitable? Trade Operations: Is the Model Effective & Leveraged? RM s & Sales: Does Trade Have the Necessary Profile? Client Value: Do Clients See a Business Solution? Trade Operations is an important piece of the puzzle: Leverage an Undervalued Asset!
Thank You.