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Trade loans are flexible, short-term borrowing facilities, linked to specific import or export transactions.

They are available for firms regardless of the method they use to trade, whether open account, collections or documentary credit basis. Trade loans help fund trade transactions throughout a firm’s trading cycle, improving its cashflow.

Trade loans work as fully revolving credit facilities, which help fund a business between the time it has to pay for the purchased goods, and the time when the firm receives the funds from the sale of those goods. Once the facility is agreed and put in place, the borrower presents his drawdown documentation. Any drawdown documentation is agreed in advance and stipulated in the facility agreement. This normally includes invoices and transport documents.

Depending on the type of agreement, the lender may or may not have control over the transport documents.

Common use
Trade loans are an important and well-established trade finance technique. Particularly suited to wholesalers and manufacturers, they can be used for regular or one-off purchases of goods and raw materials.

Costs

There are three main costs that need to be considered:

  • the main cost is generally interest on the owed amount. Interest is charged and will vary depending on the risk of default. Other fees and charges may be applicable, depending on the type of loan, tenor and lender
  • arrangement fees are commitment or administration charges payable to the lender to reserve the funds and cover opening costs. Fees will vary depending on the complexity of the business, its size and risk
  • trade loans are normally provided in conjunction with other trade products (such as documentary credits), and the cost of these needs to be taken into account when considering affordability.

Timeframe
The timeframe for arranging a trade loan will vary, depending on the complexity of the deal. Typically it takes between one to four weeks.

Advantages

  • allows firms to pay suppliers on time while receiving extended credit terms
  • is structured to suit a firm’s trading cycle
  • allows firms to accept quick payment terms from suppliers, enhancing reputation
  • if customers require funding for their working capital needs, trade loans offer transaction-specific financing and may reduce their overall borrowing costs
  • customers can use trade loans to pay import collections and import letters of credit at sight while extending their working capital
  • normally available in all major currencies.

Disadvantages

  • due to their short-term nature, interest charged can be higher than for business loans or commercial mortgages
  • as with other types of debt, if the loan is secured on the goods being purchased or on other security, and the business fails to repay, the lender may take action to seize the security provided for the loan
  • defaults on loan repayments can lead to a fall in credit score, increased interest rates for existing and future loans, collateral being seized and legal proceedings against the company. Company directors may also be personally affected, depending on how the loan was structured.

Other options
The right finance for your business section gives examples of financial structures that are suitable for different trading types and sizes of business.

There are a range of trade services and products that are offered by banks and other financial services providers. Trade loans are a well-established form of plugging the gap in a trade cycle, but there are other alternatives, such as cashflow finance/invoice factoring and business overdrafts.

Import letters of credit and documentary collections can be instrumental in helping firms manage their trade cycle, particularly when trading abroad. 

Last updated: 28 Jun 2012