structured Trade Finance

Structured Trade Finance

The expression ‘structured trade finance’ is used in many different situations and is not generally defined. However, it may connote a prearranged or tailor-made trade financial techniques/structures designed for individual transactions/projects, arranged by, or in cooperation with, specialized financial institutions.

International Leasing

Leasing in its simplest form is a means of delivering finance, broadly defined as ‘a contract between two parties where one party (the lessor) provides an asset (mostly equipment) for usage to another party (the lessee) for a specified period of time, in return for specified payments.

 Leasing is a medium-term form of finance for machinery, vehicles and equipment, with the legal right to use the goods for a defined period of time but without owning or having title to them. The lease is normally divided into two categories:

1.      The operating lease: This is where the lessee is using the equipment but the risk of ownership with all its corresponding rights and responsibilities is borne by the lessor, who also buys insurance and undertakes responsibility for maintenance. Furthermore, the duration of an operating lease is usually much shorter than the useful life of the equipment. The present value of all lease payments is therefore significantly less than the full equipment value. In most respects, the operating lease is equivalent to rental and, under most jurisdictions, the equipment consequently remains in the books of the lessor.

2.     The financial lease: This is where all practical risks of ownership are borne by the lessee who uses the equipment for most of its economic life with or without the ultimate goal of acquiring it at the expiry of the lease, at an agreed and often nominal cost. From the outset, the lessor therefore expects to recover the capital cost of the investment from the lessee alongside interest and profit during the period of the lease (often called a ‘full payout lease’). In most cases under the tax laws of most countries, the equipment has to stay on the books of the lessee.

Cross-border Leasing

When the lessor and the lessee are located in separate countries, ‘cross-border leasing’ or ‘structured leasing’ are often used. This type of lease may be structured to take maximum advantage of differences in tax and depreciation rules between countries. This may produce a most competitive solution, often generating an effective total cost for the lessee lower than the best commercial interest rates. To produce such results, the lease agreements are sometimes structured to involve more parties than the original ones. For example, an investor in a third country might legally, and from a tax perspective, also be the formal owner of the equipment, thereby creating depreciation in several countries on the same equipment. Such leases are frequently used in connection with big ticket deals such as aircraft, large computers, ships, railway carriages and other rolling transport vehicles.

Export Leasing Insurance

Many Export Credit Agencies (ECAs) offer cover for export leasing transactions to facilitate this form of export finance adapted to the structure, product and size of the deal, sometimes in the following two forms reflecting the basic lease structure:

1.      Operating lease policy is predominantly based on a less than full payout. Here, there is no transfer of title at the end of the lease period, together with a value depreciation cover to be borne by the lessor. The insurance may cover both periodic and fluctuating lease payments as well as most political risks after a repossession period due to government actions, including expropriation, confiscation and licence cancellations, with coverage of up to 95 percent (depending on the nature of the transaction and risks covered).

2.     Financing lease policy is mainly based on a non-existing residual value at the end of the lease period. It is therefore quite similar to a policy covering an ordinary medium-term credit, requiring a 15 percent advance payment from the lessee with equal (plus interest) or annuity-based repayments and with coverage of up to 95 percent of each lease payment as they fall due.

Project Finance and Joint Venture

Project Finance

Project finance in its original meaning is normally related to larger individual private or public sector projects. For example, factories, power plants, larger construction or infrastructure projects, sometimes of national interest in the buyer’s country. They are generally to a high degree based on the revenues of the project itself, mostly secured on its assets and less on the creditworthiness of the buyer, as this party is frequently only a single-purpose company or a partnership with limited equity.

Such projects can take years until signed contract and effective loan agreement stage is reached, sometimes because of internal political or local controversy as to its real or alleged social, economic or environmental consequences. Such projects also incur more pre-contract costs than ordinary export contracts, not only because of their length but also through feasibility studies and appraisals, legal and technical costs and necessary approvals by a number of local authorities.

Owing to the cost and work involved, such projects usually have a high minimum support value, and the credit periods may be up to 15–20 years with flexible loan structures and amortization periods reflecting the structure of the project. Other requirements are mostly that support (at least from the commercial banks) should be given as senior debt and risk sharing on an equal basis with other lenders.

Joint Ventures

In many developing countries and/or emerging market countries, the seller could be asked to participate as co-owner of the project, or even be required to do so in order to secure the contract. The buyer may have many reasons for such a request and local authorities may even have it as a requirement of the successful bidder before giving import licences or currency approvals. In other cases, it could be advantageous for the seller and their future business prospects with a particular buyer, or for the long-term goal of establishing a permanent base and a competitive advantage in the country or region.

The local partner may hope that a joint venture will not only offer capital or equity advantages, but also the benefits of technical knowledge and management along with the international marketing expertise that an international partner can provide. The authorities can also look for potential advantages in the form of a widened infrastructure, additional exports and the creation of new jobs

 Development Finance Institutions (DFIs)

DFIs are private sector development finance vehicles, generally directly or indirectly owned and funded by governments. Although their charters and their project focus may differ, depending on the trade marketing or investment profile of the home country, they also have many similarities.

DFIs normally operate in developing or emerging market countries with a low or middle per capita income eligible for such investments according to international agreements (the OECD’s DAC list). Their objectives are to support economic development in the country of investment while at the same time supporting co-investors from their home country to the benefit of their own country.

The projects are mostly based on cooperation between reputable local partners and the foreign co-investor in order to strengthen the viability of the joint venture, particularly in smaller or medium-sized production, trade or marketing set-ups. This occurs especially when this combination of local and foreign knowhow may be a precondition for its success. Participation by the DFIs can however take different forms.