Building the apparatus to manage international credit exposure
I had the privilege of working for and with Gene Perry, a long-time FCIB board member, and I consider him a mentor. He opened my eyes to the deep dynamics of credit, international credit and financial analysis.
What is Different About International Credit or Selling Internationally?
If your focus is domestic credit, you take certain aspects of the environment for granted. I'll contrast them here:
Jurisdiction
We are used to the laws of the United States and the protections we are afforded.
If a Customer defaults, we collect, place for collections, bring suit and have rulings enforced. As a foreign entity in another country, we are not necessarily afforded recourse, or recourse could be costly.
We can set up UCC filings for consignment or bailment to protect your company's interest in property (title not changed) situated at the Customer.
Bankruptcy laws are established with navigable paths that are established by creditors and lawyers. Yes it can be frustrating, but it is generally predictable. You might have to look at circuit court decisions to anticipate where decisions on reclamation and preference may fall. You have the option to set terms and require adherence to terms to mitigate your exposure risk.
What about other jurisdictions? Assume less protections will be employed for your business. First, will a multi-country, multi-jurisdictional filing involving US entities, fall under under Chapter 15, be adjudicated in the US? Well, some countries have modeled US bankruptcy law, but with varying degrees of compliance and enforcement to key points, or with out them at all. Some countries facilitate 'schemes' to restructure businesses to ensure survival but with varying degrees of consideration for creditors.
Reporting
We multiple paths for getting information on public companies, including international entities. The Securities and Exchange Commission requires domestic and foreign companies to report quarterly, if they hold public debt or are on a domestic exchange. This does not mitigate country risk.
Reporting on private businesses is moderately effective if you have a cocktail of services. I'd argue the value of these agencies are only to obtain UCC filings, financials, jurisdictional and entity/ownership information.
These reports are weak and costly for companies outside the US and Canada. There are good services for European businesses. So what about private business es in other countries? Consider direct contact for audited financials, or talking to trade insurers, who will sell financials.
Country Risk
The US was downgraded but still has a A-1 business climate.
I include under country risk, sanctions risk.
Sanctions are restrictions on business by a sovereign nation against countries, businesses, and individuals. transacting business with any, can have punitive or financial cost.
All countries are rated for risk, based on several factors. These factors may include: political stability, risk of war or civil war, climate, resources, infrastructure and education.
Building a Strategy to Mitigate Risk
I started working with international companies over 20 years ago, and have not had a significant loss. The only losses that come to mind, were sales of low valued by-products of manufacturing processes.
Know the Country Risk Rating
In building a simple country risk model and matrix, I categorize those countries as those we a) do not, or cannot sell, b) sell only wire in advance, c) sell under a confirming irrevocable letter of credit payable by a prime USA bank, or d) open terms but subject to approval based on financials.
Financials Required
We should always require audited financials. I have been told on several occasions that audited financials were not an option, but knowing the governments require annual audited financials.
Financials help validate decisions or give the business information to make exceptions to the model. Financials on businesses covered by insurance are often for sale.
Know How Your Customer Gets Paid
If you plan to sell on open terms, financials will tell you AR and AP turns, and based on this, you will have an indication how you can expect to be paid. If I have standard Net 60 Day terms for the Americas, outside the US and Canada, but the financials indicate the Customer gets paid and pays in 160 days, that's an issue. I can expect slow payment, then push back from the Customer.
Know the Central Banks and Availability to Get USDs
What if a central bank cannot convert their currency for lack of dollars? There are new platforms that could allow a debtor to wire local currencies to an intermediary that has dollars. While restrictive governments will still influence local currencies' wired out, once sent, dollars are available to pay creditors.
Credit Insurance
If you are looking to saturate a market and need to take more risk, credit insurance is an option. You need to be savvy, for a good rate, but also for flexibility in terms and options. You will want flexibility on terms so they match the markets, and 60 day notice of cancellation of coverage. I will get into more depth on credit insurance in another blog.
Letters of Credit
With the use of letters of credit, you need to understand INCOTERMS and the transfer of ownership. I will have a blog on the practical use of LC's. In general, you can mitigate risk and delayed payments with certain requirements. You also want to build or have an LC cost matrix by region.
Some basic requirements to mitigate risk are: a) UCP600 format, b) irrevocable, c) advising and confirming by a prime USA bank, d) your business as sole beneficiary, e) payable in USD, and f) minimum 21 days after 'latest date' for presentment. You want the option to discount your balance owed with 'confirming'.
Other Bank Instruments
Bills of Exchange and Documentary Acceptances have varying degrees of security, and may rely on the sending bank or moral suasion. Factoring may be available by industry.
Non-Bank Instruments
I mentioned the digital currency transactions platform that by-passes banking. You need to know the intermediaries are credit worthy. A case in point on vetting: I negotiated a $10M letter of credit with a CCC- Negatively rated business, but the originating bank was a B-rated entity. Default risk was being mitigated by a risky institution. The solution was confirming with a prime bank.