Managing export risk

Successful exporting involves a delicate balance between minimising risk and maintaining competitive edge.

Exporting goods or services is a considerably more intricate and complex process than trading domestically. While numerous parts of the selling process are common to both, there are many more issues and risks involved with exporting. 

The two most important moments in any sales transaction occur at the beginning and the end. These are the negotiation of the sales contract and payment terms before goods are shipped or services provided and receipt of payment at the end of the transaction.

The former will materially affect the fulfilment of the latter and, needless to say, without payment there is no profit. So, what are some of the major risks associated with exporting?

* shipping/transport risk–ensuring that the goods are delivered within the contracted time, to the correct location, in the agreed condition

* language barriers

* cultural barriers–local customs

* legal barriers–dealing with foreign legal jurisdictions to be able to enforce the terms of a contract

* credit risk

* currency risk

* sales contracts/commercial risk (disputes)

* repudiation risk

The most straightforward way to mitigate many of these risks is to ask the importer/buyer to either pay cash upfront or provide a Letter of Credit (L/C), which is confirmed by the exporter’s bank and can easily be discounted to obtain finance for that shipment (since payment risk is with the importer’s bank not the importer itself). However, both of these create impositions on the buyer either to come up with cash upfront (and the financing costs involved with that) or incur the costs of setting up an L/C and tie up bank credit lines to do it. It’s a suitable precaution to take when dealing with high-risk countries (poor economic performance or politically unstable), unknown companies where the buyer’s ability to pay is uncertain, or countries with relatively unsophisticated legal systems.

However, increasingly, the trend in international trade is towards exporters providing open account credit terms for up to 120 days. This does involve a higher risk of non-payment since there isn’t a bank underwriting the payment, so the exporter’s bank will find it difficult to provide finance without the security of an L/C or property security.

On the other hand, with more and more companies offering open account terms, exporters risk missing out on business if they don’t offer open account terms when requested by their buyers.

While there are situations where a bank may advance funds against open account sales, this may be only between 50 to 70 percent of the invoice value and only if underwritten by the exporter taking out a credit insurance policy (at its own cost and administration) or utilising some existing property security to provide the bank with comfort. This may seem a cheaper form of finance, but the cost of the insurance and of providing other collateral (e.g., stamp duty, opportunity cost of using the security for other purposes) should also be considered.

There are two other options which rely entirely on the quality of the receivable emanating from the sale transaction, and both provide various risk mitigants as well as higher levels of funding.