Which Type Of Trade Finance Instrument To Use, In Which Situation

Which Type Of Trade Finance Instrument To Use, In Which Situation

Which Type Of Trade Finance Instrument To Use, In Which Situation

Choose the instrument that fits the risk you actually have. If the seller needs certainty of payment, use a documentary Letter of Credit with clear wording and, where necessary, a confirmation. If the buyer needs protection against non-performance, use a Standby Letter of Credit or a demand guarantee with precise draw conditions. If the business needs liquidity, release cash from receivables, inventory, or bank-avalised paper. If the corridor is stable and the counterparty is known, a documentary collection or insured open account can be sufficient. The wrong choice raises cost and does not reduce real risk.

Decision Matrix: Situation, Objective, Instrument

Situation Primary Objective Instrument To Prioritise
Seller requires certainty of payment on shipment Assured settlement against documents Letter of Credit under Uniform Customs and Practice for Documentary Credits Publication Number 600; add confirmation where issuer or country risk is high; enable discounting for deferred terms
Buyer requires protection against non-delivery or non-performance Refund or performance support on demand Standby Letter of Credit under International Standby Practices Publication Number 98 or demand guarantee under Uniform Rules for Demand Guarantees Publication Number 758 with precise draw language
Buyer needs tenor and the seller wants cash at shipment Sight payment to seller and deferred payment by buyer Usance Payable At Sight structure or usance Letter of Credit with confirmed discount at sight
Known counterparty and stable route Lower cost with basic control Documentary collection documents against payment or documents against acceptance; or insured open account with export credit insurance
Cash locked in receivables and stock Liquidity without waiting for customer payment Receivables finance or factoring; borrowing base on receivables and inventory under collateral management
Exporter holds bank-avalised paper or receivables under a Letter of Credit Immediate cash and risk transfer Forfaiting on a non-recourse basis
Project or supply contract with deposits and milestones Refund or performance protection and orderly release Advance payment guarantee, performance guarantee, retention guarantee; or a Standby Letter of Credit
Currency mismatch between payables and receivables Protect cash flows from exchange rate swings Forward contracts and options aligned to shipment and maturity dates; present the hedge in the credit file

Instrument Profiles And When To Use Them

Letter Of Credit Under Uniform Customs And Practice For Documentary Credits Publication Number 600

Suitable when the seller needs certainty of payment and the buyer wishes to keep control through documents. We align goods description, Incoterms, latest shipment, presentation period, and document counts with the contract and logistics. Confirmation is placed where issuer or country risk is outside policy.

  • Forms include sight, usance, and transferable. Usance and Usance Payable At Sight can be discounted at sight.
  • Strengths include high payment assurance and bank-driven checks on documents.
  • Constraints include documentary discipline and bank charges that must be priced in.
Standby Letter Of Credit Under International Standby Practices Publication Number 98

Appropriate when the buyer needs a simple, on-demand undertaking for payment or performance. We set precise drawing events, documentary evidence, and expiry rules.

  • Use for advance payment refund, performance, capacity payments, and warranty obligations.
  • Strengths include clarity and speed at time of claim.
  • Constraints include the need for accurate wording and issuer limits.
Demand Guarantees Under Uniform Rules For Demand Guarantees Publication Number 758

Used in projects and supply contracts. We arrange bid, performance, advance payment, and retention guarantees. Text is aligned with governing law and claim mechanics are clear.

  • Strengths include enforceability and defined triggers.
  • Constraints include local legal context and issuer acceptance by the beneficiary.
Documentary Collections: Documents Against Payment Or Acceptance

Used with known counterparties in stable corridors. Banks handle documents and release them against payment or time draft acceptance. Lower cost than a documentary credit and higher delivery risk.

  • Prefer documents against payment for immediate settlement.
  • Apply documents against acceptance only with comfort on buyer strength and country risk.
Receivables Finance And Factoring

Releases cash against approved invoices. We set eligibility rules, concentration caps, aging limits, dilution reserves, notice of assignment, and controlled collection accounts.

  • Works well for suppliers to strong buyers on open account terms.
  • Consider credit insurance to improve advance rates and pricing.
Borrowing Base On Receivables And Inventory

Provides a revolving line based on availability formulas. We arrange collateral management, inspection rights, haircuts by commodity and location, and stop-fund triggers.

  • Fit for commodity flows and manufacturing with controlled storage.
  • Requires disciplined reporting and verifiable stock.
Forfaiting On A Non-Recourse Basis

Sells bank-avalised bills, promissory notes, or receivables supported by a Letter of Credit at a discount. The exporter receives cash and removes the exposure.

  • Best with bank or sovereign risk and medium tenors.
Export Credit Insurance And Currency Risk Hedging

We coordinate short-term credit insurance and political risk cover to support discounting and availability. We align forward and option hedges with shipment and receivable maturity dates, and we document the hedge in the credit pack.

Scenario Playbook

  1. New buyer in a higher-risk country. Use a confirmed Letter of Credit. If confirmation capacity is limited, pair a Letter of Credit with credit insurance or a guarantee. Avoid open account until there is performance history.
  2. Supplier demands a deposit before production. Replace cash with an advance payment guarantee or a Standby Letter of Credit. If cash is unavoidable, arrange a loan secured by receivables or controlled inventory and hold funds in a pledged account with milestone releases.
  3. Buyer requests one hundred twenty to one hundred eighty days to sell down inventory. Use usance or Usance Payable At Sight with discount at sight for the seller. Fix the discount agreement at the start, not after shipment.
  4. Exporter needs cash at shipment on repeated flows. Use a documentary Letter of Credit or insured open account paired with receivables finance. Keep wording and invoice data consistent so discounting is predictable.
  5. Project performance with liquidated damages risk. Use performance and retention guarantees with defined claim events, cure periods, and law. Combine with a Standby Letter of Credit only when the beneficiary requires both.
  6. Distributor model with many small invoices. Use export credit insurance and a receivables facility with clear eligibility and dilution controls. Avoid complex Letters of Credit that do not scale operationally.

Wording And Control Discipline That Reduces Cost

  • Match goods description, Incoterms, shipment windows, presentation period, and original document counts to the commercial and logistics plan.
  • Nominate banks with proven authentication times and clear Society for Worldwide Interbank Financial Telecommunication message routing for issuance and reimbursement.
  • Set inspection and certificate issuers by name where practicable. Avoid vague phrases such as “as per pro forma.”
  • Use notice of assignment and controlled accounts for receivables structures. Keep reserves explicit and tested.
  • Document the currency hedge so that lenders can see exposure and coverage on one page.

Frequent Errors That Lead To Delays Or Declines

  • Choosing a documentary collection where title and delivery risk are material.
  • Requesting confirmation late, after issuance, when capacity is already constrained.
  • Setting presentation periods that do not match real transit times.
  • Using open-ended drawing language in a Standby Letter of Credit or guarantee.
  • Submitting receivables pools with weak debtor data, missing assignments, or inconsistent aging.

How We Structure, Place, And Execute

  1. Assessment. Contract, Incoterms, transport and insurance plan, counterparties, and country limits.
  2. Selection. Instrument choice, wording, bank and insurer route, reimbursement map, and control framework.
  3. Underwriting Pack. Cash flow model, shipment or milestone schedule, collateral narrative, discrepancy playbook, and a concise data room that credit teams can review quickly.
  4. Distribution And Pricing. Targeted placement with banks, insurers, and funds that hold appetite for the named corridor and product. We seek comparable proposals and remove non-essential fees.
  5. Execution. Conditions precedent, account control, issuance or availability, and monitoring to first draw or first presentation.

Request A Structured Commodity Finance Proposal

Share your contract pack, the shipment or milestone plan, and the target timeline. We will return with the instrument mix, the bank and insurer route, and a delivery plan to first draw.

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