Many UK businesses exporting goods abroad use forfaiting to improve cash flow, mitigate risks and eliminate the burden of managing international receivables by ‘selling’ them to a provider at a reduced rate, similar to how invoice finance works. 

In this article, we break down what forfaiting means, the different types of forfaiting, and the pros, cons and considerations for business owners seeking trade finance.

What is forfaiting?

Forfaiting is a form of trade finance that enables exporters to receive immediate payment for goods as an advance of their accounts receivables (the invoices owed to them by importers), minus a small proportion of their value. This is done through an intermediary, known as a forfaiter, such as a trade finance firm, specialist lender or bank that deals with international trade.

The forfaiter essentially buys the receivables from you, taking a small fee for the privilege, whilst collecting the money from those receiving the goods at a later date.

How does forfaiting work?

Forfaiting works in a similar way to invoice financing, with your business unlocking working capital from pending invoices by getting an advance of the vast majority of their value ahead of their due date, supporting cash flow management. In forfaiting, the method is specifically for exporters, but it delivers the same benefits. 

As an exporter, you may want to ease pressure on your cash flow by getting faster payment for medium or long-term receivables, for various operational needs. You can use a forfaiting provider, which purchases your receivables at a discount, advancing the funds to you in a matter of hours or days. The company importing your goods then pays the full value of the receivables to the forfaiter on the due date.

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Recourse and non-recourse forfaiting methods

Like invoice finance arrangements, forfaiting agreements have ‘recourse’ and ‘non-recourse’ options. With non-recourse forfaiting, you’re not liable if the importer defaults on payments for your goods. The forfaiter accepts the risk of non-payment, having assessed the creditworthiness of your customers.

A recourse debt is where you are held liable in the event of non-payment and can be pursued for the debt. This is more common in invoice factoring, with forfaiting usually being a non-resource financing method.

Factoring vs forfaiting

While forfaiting and factoring in trade finance both allow you to get advanced access to funds from your receivables, they have slightly different conditions. Here are the main differences between forfaiting and factoring solutions:

• Factoring applies to domestic and international trade, whereas forfaiting is limited to international trade.
• While factoring focuses on invoicing/accounts receivables, forfaiting also covers negotiable instruments, such as promissory notes and bills of exchange.
• Factoring deals with short-term receivables, whereas forfaiting is for medium- to long-term receivables.
• Forfaiting is typically without recourse, while factoring often offers both recourse and non-recourse options.
• Factoring usually provides 80–90% of the accounts receivable, whereas forfaiting is usually nearer 100%, minus the discount. 
• The cheaper option is factoring, due to lower lender risk, which is more commonly used for ongoing transactions, while forfaiting is more suited to larger and more complex export arrangements.

Pros and cons of forfaiting for businesses to consider

You can see the role of forfaiting in international trade, allowing you to get access to funds in advance for goods exported. However, there are various benefits and drawbacks to consider. Let’s explore the main forfaiting pros and cons:

Key benefits of forfaiting in international trade

• Enabling exporters to receive immediate cash ahead of payment due dates.
• Reducing risks for exporters, such as cash flow problems, late-paying (or defaulting) clients, political issues and changing foreign exchange rates.
• Near-100% advances, minus small discounts taken by the forfaiter.
• Beyond invoices, forfaiting can be used for promissory notes, bills of exchange or letters of credit.
• Once receivables are resold, the exporter typically has no further liability

The main drawbacks and risks of forfaiting

• Forfaiting is usually more expensive than other forms of commercial financing, due to higher lender risks and legal costs involved.
• There are often minimum transaction values and certain currency/regional restrictions.
• The method typically applies to capital goods (non-consumer items).
• It can take a while to arrange, due to numerous documentation requirements.

Types of forfaiting instruments that can be purchased from your business

There are several types of financial agreements that a forfaiter can purchase and convert into debt instruments, including:

• Promissory notes – issued by importers, providing a written promise to pay the exporter.
• Bills of exchange – similar to promissory notes, these are written orders that bind an importer to pay an exporter a fixed sum.
• Account receivables – the amount of money owing, listed as yet to be paid on the current balance sheet
• Letters of credit – issued by banks, providing a guarantee that a debt will be paid even if the importer defaults.

Costs and fees involved in forfaiting

We’ve outlined the pros and cons of forfaiting for exporters and the types of instruments forfaiters can buy from you in the financing agreement, but what about the costs involved?

Here are the main costs and fees to expect when using forfaiting:

• A commitment fee – charged by the lender for agreeing to set aside funds to lend to the exporter before receivables are formally issued (usually between 0.5 and 1.5%).
• A discount fee – the discounted rate for purchasing your receivables upfront before their maturity, taking into account risks and margins (ranging from 1.5% to 6% per year).
• Legal and documentation fees – applied if the transaction requires extensive paperwork (usually under 1%).
• Optional bank guarantee fee – if the importer’s bank charges to guarantee bills of exchange or promissory notes (often between 0.5 and 2%).
• Regional risk premiums – in certain countries, you’ll pay a premium for regional volatility of political risks (up to 3%).

How to choose a forfaiting provider 

When looking for a forfaiter, a good starting point is the International Trade and Forfaiting Association. Based in Switzerland, the IFTA is the global trade body for businesses engaged in trade and forfaiting. It includes a wide number of forfaiting banks and financial institutions that can help with export finance.

For UK businesses exporting goods abroad, there are various sources of forfaiting and factoring agreements, from high street banks, like HSBC, Barclays and NatWest, to finance lenders specialising in trade finance, like Bibby Financial Services, Berkeley Trade Finance and Ebury. Your choice of provider depends on various factors, such as speed of funding, costs, eligibility criteria and more, so research different providers, comparing their fees, requirements and stipulations.

Also, explore the UK Export Finance website, home of the UK’s official export credit agency, which offers guarantees to commercial lenders and export insurance, plus guidance for businesses seeking finance for trading internationally.

Example of a forfaiting transaction

Here is an example of the key stages involved in a typical forfaiting transaction:  

1. The exporter and forfaiter draft an agreement based on expected receivables or invoice payments.
2. The exporter and importer form a sales contract.  
3. The exporter delivers the goods to the importer.
4. The importer’s bank provides a payment guarantee.
5. Trade documents are exchanged between the importer and the exporter.
6. The exporter and forfaiter exchange trade documents.
7. The forfaiter pays the exporter the value of the receivables, minus their fees.
8. The forfaiter presents documents for payment to the importer’s bank.
9. The importer’s bank pays the forfaiter.

More resources on funding receivables and trade finance

Forfaiting is just one of several forms of finance that support companies exporting goods and those with lengthy payment schedules. Explore some of iwoca’s handy resources on financing for exporting and advancing invoices/accounts receivable:

• Everything You Need to Know About Trade Finance
• What Is Export Finance and How Does It Help UK Businesses?
• Invoice Discounting: An In-Depth Guide
• Understanding Accounts Receivable Financing
• Invoice Finance Explained

Iwoca is a leading UK finance lender, offering fast and flexible business loans for SMEs to support cash flow management, provide short-term working capital for various operational needs and fuel business growth.