Raising finance to grow any type of business can be hard, especially if the business is new. With commodity trading it gets even trickier since it’s a high-volume low-margin business. This means that it takes a lot of money to make a little profit.
For instance, if you’re trying to export crude oil from Nigeria and you’re selling at say a discount of $2 to also make a profit of $4 per barrel, using $78 per barrel as the sample OPEC price, it would mean you’re purchasing the crude oil locally at $72 per barrel. If you’re now planning to export one million barrels to your international buyer, you’d be expected to spend $72 million dollars with the expectation of just making a margin of around $3 to $4 million dollars, which is literally just around 4 to 5% profit.
To execute the crude oil export example mentioned above, you’d need to secure commodity finance to make the transaction a reality. With the average buyer seeking to purchase up to 2 million barrels and above, the cost of financing the trade rises quickly, springing up the importance of securing commodity trade finance under the right conditions for any type of commodity you plan to trade.
How Can Commodity Traders Secure Commodity Trade Finance?
Before diving into the types of commodity finance commodity traders can secure for their import/export business, it is important to know that some or all of these requirements below must be met.
- Commodity traders are expected to have a proof of past performance either as a broker or as the direct seller to enable them to secure commodity trade finance.
- Commodity traders are expected to have a team of experienced individuals who have been operating in the industry they want to venture into.
- Commodity traders are expected to have a great understanding of how to successfully source and deliver the commodities they’re seeking trade finance for.
- In some cases, commodity traders are expected to have 30% of the total commodity trade finance they need to execute the purchase and supply of the commodity.
These criteria are key to securing commodity finance, but not all are workable in many scenarios because most companies seeking commodity trade finance are new, and so don’t have the track record required, but have a great understanding of how the trade completely works. For some commodity trade financiers, having a great understanding of the industry you’re operating in could be enough to get them to finance your shipment, but for many other financiers, they’d require you have proofs of past performances or the assets to back the required finance.
How Commodity Traders Can Secure Commodity Finance?
There are various types of financiers that can provide commodity trade finance for your business. Some of them are:
These are the most common commodity financiers in the world. they offer the most flexible packages and can provide the most finance for proven companies with a good track record.
Some ways banks provide commodity finance are:
i). Bilateral Trade Finance: Here, banks could issue a letter of credit on behalf of their client to the seller to enable the seller ship the goods under the guarantee of expected payment upon passing QnQ tests and submission of required documents. The letter of credit can come in any form, and if the client seeking commodity finance from the bank is a local supplier, the supplier’s bank could issue a payment guarantee to the other exit suppliers the bank’s client sources from for export, to enable them bring the goods to the bank’s client’s warehouse for inspection and payment, before the goods are further re-exported to the international buyer. To secure bilateral trade finance, the bank would usually require that you have 30% of the funds.
As an exporter, if you receive a confirmed and irrevocable letter of credit from a buyer, your bank will likely be able to fund your transaction provided you have a track record and that the local supplier you’d be using will be willing to take a payment guarantee till the product has passed QnQ at the port of origin. While not all banks work with this model, many banks do all over the world as a way of providing export finance to their clients.
ii). Collateral: When a commodity trading firm has a wide collateral pool, the bank can open up a credit line for them that will enable them to have easy access to funds to make purchases on any scale without the need to issue a payment guarantee or Letter of Credit.
iii). Repurchase Agreement: In a repurchase agreement, the commodity trading firm sells the minerals to the bank and repurchases it a week later. Here, banks prefer to own the commodity than to finance it, and as such, this operation could go on week by week in LME based transactions. Generally, under a repurchase agreement, the purchase price paid by the bank for the commodity is equal to the principal advanced under a commercial loan.
iv). Invoice Discounting: Here the bank could be willing to fund a shipment for its client to another buyer if the client has an outstanding invoice that has not been paid for by a current buyer with a good credit rating.
2). Private Investors:
These are companies that either finance commodity trades for a percentage of the profits or that invest in the commodity trading firm for a percentage of the business. They could be hedge funds, angel investors, individuals, and much more.
3). Asset Sales:
Successful commodity trading firms usually acquire a lot of assets along the way and can go on to sell underperforming assets in a bid to raise money for other high-value projects. Asset sales as a way to raise commodity finance is best applicable to successful commodity trading firms that have been in the business for a while and have made enough money to acquire valuable assets.
The buyer can sometimes release part-payment to the exporter to enable them to finance the export of the commodity to them. This can be done by either making direct payment to the exporter’s bank account ahead or by issuing a red-or-green-claused DLC, where the exporter can have access to part-payment upon maybe just sending an invoice to the importer.
To Sum It Up
Trade finance is difficult to get, but not impossible. Most firms who need trade finance are new organisations who haven’t made a delivery yet but have an in-depth knowledge of how everything works. If your company falls into this category and can create a 100% safe procedure a private financier may work with, you may be able to secure trade finance, else, everything gets more complicated.
If your company, on the other hand, has in-depth experience and can meet the requirements of most financiers, then securing commodity finance for your import/export business will be easy to achieve.
About The Author
This is an article written by Stan Edom, the Editor In Chief of Startuptipsdaily.com and the founder of Globexia Limited, a global commodity trading firm that exports solid minerals & agricultural products from Nigeria, and facilitates the global trade of oil & gas commodities.
This article along with others are written to help exporters and importers around the world to have a better understanding of the commodity trading business and to improve their chances of becoming successful in the industry.
A Key Point To Note
Globexia Limited, as a commodity trading firm, is open to commodity finance from private financiers for oil & gas trade. If your organisation provides commodity finance, Globexia Limited will be willing to work with you in financing its commodity trading operations for oil & gas products.
If you’ll like to contact Stan Edom for questions or inquiries, you can reach him directly on +2348080888162 or via email at [email protected].
What are your thoughts on this guide on how to secure commodity finance for your import/export business? Let me know by leaving a comment below?
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