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EXPORTERS OUTSOURCE CREDIT RISK
BY AMENA BAKR
Like many small and medium-sized exporters, Egypt
Fruit Export (EFE) must carefully consider its liquidity before
agreeing to ship its products. If one of its importers delays or
is unable to make payment, the company could face a critical cash
flow problem. And with its 800 feddans of grapes ripening on the
vine, the company has only a narrow window to secure a solvent buyer
for its crop.
To minimize its credit exposure, EFE ships most of its 200-ton grape
crop to one company, Grapes Direct, a UK-based grape wholesaler
with a track record for timely payment. “We are a small company
and we simply cannot afford any hard blows or loss of revenues,
so we cannot take any big risks with our importers,” explains
Tarek F. Rasheed, EFE’s general manager.
While Rasheed often contemplates diversifying his client base, this
would generally require EFE either to conduct shipments on open
account terms and incur all risk, or seek a bank to act as an intermediary,
an “expensive” option. “If I let the banks handle
the export procedure the interest taken would be something like
20 percent, and in my case the return on investment would not be
worth it,” he says.
But another trade financing option exists, and one where payments
are secured without costly bank fees, says Ola Gadallah, managing
director of the Export Credit Guarantee Company of Egypt (ECGE),
a financial institution that insures exporters against commercial
risks. Two years ago, ECGE became the first company in Egypt to
offer factoring – a commercial finance tool that bundles together
capital financing, protection against bad debts, accounts receivable
bookkeeping and collection services. “We help small companies
increase their exports by eliminating the risk factor of not receiving
their payments from the foreign party,” she explains.
In factoring, a business sells its accounts receivable to a factor
(factoring company), which proceeds to collect payment from the
buyer according to the terms of the sale. The factor advances all
or a portion of the invoice value to the seller when the goods are
shipped; the remainder of the balance is transferred when the factor
collects payment from the buyer.
Factors establish secure open accounts between buyers and sellers,
obviating the time expenditure and administrative fees associated
with letters of credit, and providing sellers with immediate cash.
“Companies will have more liquidity since we buy their receivables
before the due date of the actual collection,” says Bernard
Arnebold, managing director of Egypt Factors, a joint venture between
Commercial International Bank (CIB), Malta’s FIMBank and the
International Finance Cooperation (IFC).
He explains that when an exporter approaches a factoring company
and requests to sell its goods to a buyer overseas, the local factor
corresponds with an associate factor in the importer’s country,
which investigates the credit standing of the buyer. The initial
credit check may take up to eight weeks, but once approved, subsequent
shipments can be made with little delay.
If approved, the export factor finances the shipment and takes charge
of managing the sales ledger accounting, while the import factor
– which has the benefit of operating in the same country,
language and legal framework as the buyer – proceeds to collect
the full invoice value and transfers the balance to the exporter’s
account. The time allotted to collect payment varies according to
the contract, usually 30- or 90-day terms, though factors build
their reputation on swift payment.
While factoring comes in many flavors, in the non-recourse model
currently available in Egypt, the factor assumes full responsibility
for the buyer’s financial obligations. If the buyer is unable
to pay the debt within the allotted timeframe, the factor is required
to pay the face value of the shipment to the seller. “We take
the risk of bad debts,” explains Gadallah. “So if an
importer does not pay [within the contracted timeframe] we’re
the ones to go after them and handle the costs of legal action.”
Even if the buyer goes bankrupt or refuses to pay the factoring
company, the seller still gets paid.
In this model, the factor makes its profit in two ways, first by
charging a commission for managing the collection – usually
between 1.25 and 2 percent of the shipment’s value –
and second by levying an interest rate of approximately 2 to 4 percent
per month on any cash advanced. Interest is assessed from the time
the goods are delivered until the importer pays the full value of
the shipment. “So the longer that gap is, the more interest
we get from the exporter,” Arnebold explains.
While it might seem in the factor’s best interest to delay
collection as long as possible and collect more interest, Arnebold
points out that to do so would be self-destructive. If payments
are late or interest charges mount, the advantages of factoring
are eroded away and exporters will return to using letters of credit
or open accounts. And as exporters usually pass on the factoring
costs to their importers, buyers could be discouraged. “We
have to be very careful not to jeopardize the relationship between
the exporter and the importer since it’s a very delicate one
in the first place,” he says.
Factoring is often the only source of finance that new or undercapitalized
companies can get for their export shipments. While banks tend to
finance large organizations, factors are primarily geared for companies
with an annual turnover of less than $1.5 million. “Unlike
banks, we are eager to offer our services to SMEs, [whereas] banks
might find that a bit [too much] of a risk,” says Arnebold.
“Banks just don’t have the time to chase after small
importers and make sure that they pay, while factoring companies
work with a more widespread network and can cope with this easily.”
According to Factors Chain International, a global network of 219
factors in 62 countries, the volume of cross-border factoring transactions
reached E73.2 billion in 2006, a 32-percent increase over the previous
year. Yet in Egypt, the commercial financial tool is relatively
unknown, accounting for just E3 million, or about 0.03 percent of
total exports. “Like any new service, it needs time to be
known and awareness campaigns don’t just work overnight,”
says Nada Shousha, country officer at the IFC. “Besides, at
some point mortgage financing and leasing were also new to the Egyptian
market, but now people know what they are.”
ECGE’s Gadallah sees enormous opportunities. With an estimated
5,000 SMEs seeking a low-cost trade finance solution, Egypt is a
“virgin market” for factoring companies. “The
service is still very new and there is plenty of room for other
factoring companies to enter the market, and that in turn will increase
the competition and provide better service overall.”
While admitting to have only a basic knowledge of factoring, EFE’s
Rasheed says he is looking into what it can do for his grape export
business. “We [often] run short of cash, so this service would
not only help us in that respect, but could also help us work with
a wider range of importers without having to carry the risk burden,”
he says. By reducing cash flow constraints, factoring could give
his company the liquidity it needs to expand its export production,
he adds.
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