Forfaiting | Trade Samaritan

Forfaiting

International Forfaiting is gaining rapid popularity in export oriented countries with a global market size of more than US$ 300 billion annually.

In today’s competitive world, cross-border trade transactions usually take place on credit terms, which means the exporters provide a payment arrangement of anywhere between 90-180 days (even beyond) to the importers. Credit terms vary and can go as long as 5 years-8 years for turnkey or power projects/equipment. This extended payment cycle can disrupt the supply chain of the exporter. In order to address these challenges, exporters can support their cash flow by getting a quick access to funds via Forfaiting.

Under a Forfaiting transaction, an exporter surrenders to the bank, the rights to claim the payment on supply of goods/services to an importer in return for a cash payment.

It is important to remember that financing under Forfaiting is on a without recourse basis which means exporter’s credit lines are not occupied by the Forfaiting bank.

Benefits of Forfaiting to the seller/exporter

  1. Liquidity
  2. Increase in business opportunities by providing better payment terms to the buyers
  3. Foreign exchange risk mitigation
  4. Without recourse finance
  5. Transfer of risk to the bank
  6. Fixed interest rate
  7. Reduced borrowing/leverage
  8. Simple documentation

Forfaiting is a form of international supply chain finance and provides finance through banks and financial institutions against numerous trade instruments such as letters of credit (LC), bills of exchange, and letters of guarantee, promissory notes and invoices. Forfaiting transaction can also be done on the basis of a deferred payment documentary letter of credit i.e. without drawing of drafts as in this particular case an LC will be used as the base asset. Forfaiting is commonly availed by businesses for their big ticket sized and extended credit termed transactions such as capital goods, project exports, car manufacturers. Banks also offer Forfaiting programs with a medium term credit on an installment basis anywhere between 5 years to 10 years.

 Forfaiting instruments

Governing Rules

Forfaiting transactions are governed by the ‘Uniform Forfaiting Rules for Forfaiting’ (URF). URF has been devised jointly by International Chamber of Commerce and the International Forfaiting Association. URF came into effect on 1st January 2013. URF provides a set of rules for the sale of instruments used for financing trade such as bills of exchange, promissory notes, documentary credits and invoice purchases; since these rules were launched in 2013 they include some newer instruments supporting the latest structures. URF is adept to facilitate Forfaiting for today’s international trade community. URF can be applied in both primary as well as secondary market and accompanies with a set of model form agreements. These rules provide clarity and guidance to both corporate and the financial institutions engaged in and availing Forfaiting.

Forfaiting process flow/Structure

Since the number of instruments on the basis of which Forfaiting can be availed is relatively large, banks and financial institutions across the countries offer a variety of structures. Forfaiting can be customized to a large extent as long as it is within the URF guidelines. Forfaiting is an exporter oriented credit facility, hence the largest bulk volume of Forfaiting takes place in China. Let us discuss one of the basic structures of a Forfaiting transaction commonly offered to exporters by banks/financial institutions in China.

Forfaiting process flow

 

Please note that in order to avail finance under Forfaiting , the underlying instrument should be clean, valid and accepted for payment.

For example

1. For a deferred payment L/C, confirmed maturity date and acceptance by the issuing bank are required.
2. For a draft under Collection documents (Uniform Rules for Collections), the said draft must be accepted for payment on a confirmed maturity date by the collecting bank.

The inherent nature of Forfaiting is transfer of risk from the seller/exporter to the Forfaiting bank and though the payment is guaranteed by the importer’s bank, Forfaiting banks are required to exercise caution while granting this facility to their customers as this is a without recourse facility.

Export credit insurance corporations offer insurance covers to the banks and financial institutions for their open Forfaiting exposure.

Such an insurance cover is offered against the risk of non-payment by a foreign buyer. Banks and financial institutions can cover themselves up to 100% of the receivables value.

Modern Forfaiting has evolved considerably over the last 20 years and now encompasses many more instruments, structures and concepts than has previously been the case. As a versatile and flexible approach to raising finance for international trade, Forfaiting has considerable benefits for both providers and recipients of finance. It facilitates and enables the provision of finance/liquidity to the international trade community.

Reference

International Chamber of Commerce
Bank of China
Hongkong and Shanghai Banking Corporation

 

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