Importer case study 4
Importer needs to safeguard cash flow
while trading internationally!!
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An importer was negotiating with
a new local customer in relation to signing a large contract. In order to
secure the
contract the company had to grant credit terms of 30 days from invoice date
to the buyer. Before production could
begin on the order, certain components needed to be imported from abroad.
The importer used a regular foreign
supplier who they dealt with on a ‘documents against payment’
collection basis. That is the importer made payment
as soon as relevant shipping documentation was presented to their bank.
The foreign supplier shipped the
relevant components, and the appropriate documents were received and paid for
by the importer. This allowed production to begin and the goods were made and
delivered to the local customer.
The invoice was sent to the local customer and payment was due to be made 30
days from the Invoice date as
agreed. However, the domestic customer was satisfied with the goods they received
and placed another order
before the first consignment had been paid for.
In order to pay the foreign supplier for the components
for the second order, the importer had to make use of their
overdraft facility at a rate of 9.3% while waiting to be paid by their local
customer for the first order. This increased
costs for the importer, and placed them in a negative cash flow cycle that could
ultimately hamper their ability to
grow this business opportunity.
How to break the negative
cash flow cycle!
In order to break the negative cash flow cycle;
the importer needed to obtain a longer credit period from their
supplier than they were granting to their customer. The importer could initially
seek extended trade terms from
his supplier by requesting that payment be
made against acceptance of a Bill of Exchange (Click
here to see
section on Bills of Exchange). The supplier may resist such a method of payment,
as it is less secure than
Documents against Payment Collections.
In order to increase the payment security provided
to their foreign supplier the importer could then offer to set up a
Letter of Credit. This would act as a conditional pre-shipment guarantee of
payment for the supplier, increasing the
supplier’s confidence in the importer's financial standing. It could also
give the importer greater bargaining power and
enable them to look for extended credit terms
e.g. payment to be made 120 days from shipment date.
Receiving extended credit terms would ensure that payment would not be made
to the supplier before the local
contract had been completed and paid. The importer’s overdraft would therefore
not have to be used.
The benefits of using Letters of Credit
for Importers
- Letters of Credit can help obtain longer credit
terms from suppliers around the guarantee of the payment
obligation by the importer's bank.
- Letters of Credit ensure that an importer’s
payment to their supplier are linked to the receipt of the shipping
documents.
- The importer can link contractual requirements
to the payment process through requesting specific
documents e.g. Inspection certificate indicating goods meet industry standard
no. XXX.
Conclusion
The ability to generate a positive cash flow is
the key to financial survival for most companies. Whilst suppliers
can be reluctant to provide extended credit terms, a Letter of Credit provides
them with the additional security of a
guaranteed payment. Therefore the Letter of Credit is a useful tool to an importer
as it can persuade a supplier to
allow extended credit terms that can improve the importer's cashflow. The importer
could also have emphasised the
possibility that the supplier could gain access to non-recourse financing for
the credit period from their own bank
under the Letter of Credit.
For further information on Letters of Credit visit
our Diagrams and Product/Services section on this website.
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