Banking Trade Finance 2 — Questions and Answers
Question 1: What is 'factoring' in trade finance?
- The sale of accounts receivable to a third party at a discount for immediate cash (Correct answer)
- The process of setting foreign exchange rates for trade invoices
- A method for calculating import duties
- A bank loan secured by warehouse inventory
Correct answer: The sale of accounts receivable to a third party at a discount for immediate cash
Factoring involves selling outstanding invoices to a factor (financial institution) at a discount, giving the seller immediate liquidity without waiting for the buyer to pay.
Question 2: What does 'forfaiting' refer to in trade finance?
- The purchase of medium- to long-term export receivables at a fixed discount on a non-recourse basis (Correct answer)
- The cancellation of an import Letter of Credit before shipment
- Forfeiture of a trade bond by a defaulting buyer
- A bank's writeoff of uncollectable trade debt
Correct answer: The purchase of medium- to long-term export receivables at a fixed discount on a non-recourse basis
Forfaiting is when an exporter sells its medium-to-long-term receivables (typically bills of exchange or promissory notes) to a forfaiter at a discount without recourse, eliminating credit risk.
Question 3: In Incoterms, what does 'CIF' (Cost, Insurance, and Freight) mean?
- The seller pays for shipping and insurance to the destination port; risk transfers when goods are loaded onto the vessel (Correct answer)
- The buyer pays all costs from the seller's warehouse to destination
- The seller delivers goods at the buyer's warehouse, all costs included
- Risk and cost transfer at the seller's factory gate
Correct answer: The seller pays for shipping and insurance to the destination port; risk transfers when goods are loaded onto the vessel
Under CIF, the seller arranges and pays for freight and insurance to the named destination port, but risk transfers to the buyer once goods are loaded on the ship at the origin port.
Question 4: What is a 'Standby Letter of Credit' (SBLC)?
- A payment guarantee that is drawn upon only if the buyer defaults on a contractual obligation (Correct answer)
- A standard LC used for all routine trade shipments
- An LC that automatically renews each year
- A line of credit for import duties
Correct answer: A payment guarantee that is drawn upon only if the buyer defaults on a contractual obligation
A Standby LC is a bank guarantee of last resort — it is only drawn on if the buyer fails to fulfill their contractual obligations, making it a contingent payment instrument.
Question 5: What is 'supply chain finance' (reverse factoring)?
- A program where a buyer's bank pays suppliers early at a discounted rate based on the buyer's credit rating (Correct answer)
- A method for buyers to delay payment beyond standard terms without penalty
- An insurance product protecting against supply chain disruption
- A central bank program supporting export industries
Correct answer: A program where a buyer's bank pays suppliers early at a discounted rate based on the buyer's credit rating
In reverse factoring, a buyer arranges for a bank to pay its suppliers early — at a lower rate based on the buyer's strong credit — while the buyer repays the bank on the normal due date.
Question 6: What is an 'irrevocable' Letter of Credit?
- An LC that cannot be amended or cancelled without the consent of all parties (Correct answer)
- An LC that automatically cancels if goods are not shipped on time
- An LC that can be cancelled by the issuing bank at any time
- An LC that is transferable to a second beneficiary
Correct answer: An LC that cannot be amended or cancelled without the consent of all parties
An irrevocable LC provides the exporter with strong assurance because it cannot be modified or cancelled without the agreement of the beneficiary, issuing bank, and confirming bank.
Banking Trade Finance 2
What is 'factoring' in trade finance?