The financial tools needed to help ensure payment
Based on our discussions with executives—from start-ups to multi-generational businesses—we have found that many are hesitant to enter the exporting business. Despite the potential benefits, there are concerned about the complexities and risks associated with getting paid. These tips can help you reduce risk, improve speed to market and profitability, and build the confidence needed to succeed.
To begin with, it is critical that exporters offer attractive sales terms supported by appropriate payment methods to be competitive in today’s international marketplace. The goal is to be paid in full and on time for each export sale, while also accommodating the needs of buyers to remain competitive.
To do this, smart exporters take advantage of a variety of financial solutions along the payment risk continuum. As an exporter, you may want to consider the most secure payment methods first, before opting for those that are less secure but may increase attractiveness to potential buyers.
With this option, the exporter essentially eliminates credit risk (or the risk of non-payment) by receiving payment prior to the transfer of goods. Wire transfers and credit cards are the most commonly used cash-in-advance options available to exporters. However, while a relatively secure payment method for sellers, buyers are often faced with a cash-flow problem since it requires payment before shipment, which may cause them to choose competitors with more flexible payment methods.
2. Letters of credit
Considered the most versatile and secure instruments available to international traders, letters of credit (LCs) are essentially a commitment by a bank on behalf of the importer that the payment will be made provided all terms and conditions are met. LCs are useful when reliable credit information about a foreign buyer is difficult to obtain or if the foreign buyer’s credit is unfavorable. Pros to sellers are that payment is made after shipment and that a variety of payment, financing and risk mitigation options are available.
3. Documentary collections
Generally speaking, documentary collections (D/C) are less complicated and less expensive than LCs. Under a D/C transaction, the importer is not obligated to pay for goods before shipment. If handled properly, the exporter retains control over the goods until the importer either pays the draft amount at sight or accepts the draft to incur a legal obligation to pay at a specified later date. While riskier for the exporter, D/C terms are more convenient and cheaper than an LC for the foreign buyer.
4. Open account
Recommended for use in low-risk trading relationships or in competitive markets where winning business may come down to attractive financing for the buyer, an open account transaction is a sale where the goods are shipped and delivered before payment is due. Understandably, the exporter should be confident the importer will accept shipment and pay consistent with agreed upon time and terms.
A variation of the open account method of payment in which payment is sent to the exporter only after the goods have been sold by the foreign exchange distributor. In addition to the payment methods available to exporters, exporters should also consider financing and risk management options.
6. Trade financing
Financing offered by commercial lenders on export inventory and foreign accounts receivable is sometimes not enough to meet the needs of U.S. exporters. Depending on the circumstances, early-stage, small and mid-sized companies may not be eligible for commercial financing without a government guarantee. In this case, two U.S. government agencies – the U.S. Small Business Administration (SBA) and the U.S. Export-Import Bank (Ex-Im Bank), offer loan guarantees to participating lenders for making export loans to U.S. businesses.
7. Foreign exchange contracts and multi-currency accounts
Most foreign buyers generally prefer to trade in their own currencies to avoid foreign exchange (FX) exposure. FX is a risk factor often overlooked by aspiring exporters who wish to enter the international marketplace. To accommodate buyers who demand to pay in their local currencies, FX solutions can be a viable option that allows exporters to remain competitive in the international marketplace.
Regardless of which financial resources and tools you choose to leverage, when choosing a banking partner, look for one who understands all aspects of trading with foreign countries. It is not just about payment methods. Exporters benefit from the expertise and breadth of services a banking partner provides.
UMB has the international services and resources to handle trades, manage currency risk in value to the U.S. dollar, and understand the current international business landscape. For more information on how UMB can assist you with your international needs, visit our website.