Export to Exotic Markets: How to Avoid Insolvent Customers?

Export is one of the main engines of the Lithuanian economy. Every year, export performance continues to improve: in 2018 alone, Lithuanian exports grew by 7.3%, and Lithuanian-origin exports grew by 9.8% more than a year ago.

Although the European Union (EU) is the main market for Lithuanian goods and services, export geography is constantly expanding, more and more Lithuanian companies are finding new markets in Asia, South America or Africa. According to Justas Čapskis, Project Manager of the Financing Services Development Department of Šiaulių bankas, the sales of chemical industry and engineering products, for example, lasers, have been increasing lately, namely sales of these products are concentrated outside Europe.

The specialist emphasizes that foreign markets become available not only to large companies, but also to small and medium-sized enterprises (SMEs).

“Even relatively small companies of the country are looking for business opportunities outside the EU, Lithuanian production is in demand because it meets high quality requirements. In addition, Lithuanians are not afraid of exotic markets, they are actively presenting their opportunities at conferences and exhibitions”, says Mr Čapskis.

With increasing export volumes, the issue of settlements with foreign customers, especially from more distant than European countries, is becoming more and more important for Lithuanian entrepreneurs.

According to Mr Čapskis, foreign partners set disadvantages, such as demanding a long delay in payment or paying only after delivery of the full expected amount of production. Often there is little information about the companies from Asia or Africa: it is difficult to obtain data on their creditworthiness and performance. There is a risk that the foreign partner may be unreliable, there may be delays in payments, disruption of the company's cash flow, and sometimes there is no payment for production at all.

“It is important that companies seeking to establish themselves in foreign markets not only see potential opportunities, but also actually assess the possible settlement risks, so different trade financing instruments are used for this”, advises Mr Čapskis.

Companies that export goods and services to developed western markets are exposed to relatively lower risk, because it is easier to find information about European companies and access to the credit history of these companies.

“Therefore, Lithuanian companies tend to agree on a postponed payment term with Western European customers, while balancing cash flows and avoiding “freezing” is helped by factoring, i.e. when factoring service providing bank pays immediately for the goods supplied to the customer. In this way, the exporting company not only avoids shortage of working capital, but also protects itself against the risk of insolvency of the buyer (when factoring is covered with buyer risk insurance), reduces the costs of administering the buyers’ debts”, says Mr Čapskis.

Payment deferral and factoring are often not the best solution for dealing with buyers from distant countries. Other, better risk managed international trade instruments are needed.

“One of such instruments is the letter of credit, the irrevocable obligation of the bank to pay the amount of the letter of credit to the exporter, upon submission of documents corresponding to the terms and conditions of the letter of credit. This means that the Lithuanian exporter has an irrevocable buyer's bank commitment to pay for the goods delivered or services provided”, says Project Manager of the Financing Services Development Department. “When a delayed payment deadline is agreed, for companies that export into more risky markets it is also worth using an export letter of credit discount, which is a letter of credit with a deferred payment term”.

According to Mr Čapskis, a little simpler than the letter of credit, is collection of documents, when the buyer pays for the goods only after the seller has sent them or received them.

“True, collection is also a more risky tool because the seller has no guarantee that the goods will be paid for. For example, the goods will reach the Chinese port, but when the buyer faces solvency problems, the goods will stay in the port until the buyer pays for them”, the interviewer says.

Letters of credit or collection of documents also protect companies against potential threats when supplying to the countries subject to international sanctions.

According to the data of Šiaulių bankas, 80% of all letter of credit agreements are concluded by Lithuanian companies with partners from Asia, mostly Chinese and South Korean companies, with less frequent buyers of Lithuanian products from India, Bangladesh, Taiwan or Singapore. Letter of credit is a popular tool for trading also with companies from Turkey or Chile.

Lithuanian companies also make most of their collection of documents with Chinese companies (40% of all collection contracts), but collection is popular also with the companies in North Africa and the Middle East countries.

According to Mr Čapskis, understanding of international trade instruments requires technical knowledge: it is important to find out the advantages and disadvantages of different ways, to know the order and nuances of filling specific documents. “In large and much exporting companies, this work is often done by specialists working in the company, but for the SMEs it would be a luxury to hire an international trade specialist. Therefore, it is worthwhile for small businesses to contact the bank, whose specialists advise, assess the risks, prepare the necessary documents”, suggests the interviewer.

The representative of Šiaulių bankas advises SMEs to apply to the bank when the agreement with potential trading partner is negotiated or potential client has submitted its terms and conditions.

“The bank will then be able to particularize rather than give a general advice”, says Mr Čapskis.

"It is important that companies seeking to establish themselves in foreign markets not only see potential opportunities, but also actually assess the possible settlement risks."

Justas Čapskis, Project Manager of the Financing Services Development Department of Šiaulių bankas, advises SMEs to apply to the bank when the agreement with potential trading partner is negotiated or potential client has submitted its terms and conditions: the bank then will be able to give particular rather than general advice.