International Financial

Management
• International Financial Management is the art of managing money on a
global scale.

• The main objective of international financial management is to “maximize

shareholder wealth”.

• IFM- is a popular concept which means management of finance in an

international business environment, it implies, doing of trade and making
money through the exchange of foreign currency.

• The international financial activities help the organizations to connect

with international dealings with overseas business partners- customers,
suppliers, lenders. It is also used by government organization and non-
profit institutions.
• International Financial Management came into existence when the
countries of the world started opening their doors for each other.
This phenomenon is well known by the name of “liberalization”. 

• Due to the open environment and freedom to conduct business in

any corner of the world, entrepreneurs started looking for
opportunities even outside their country boundaries.

• Apart from everything else, we cannot forget the contribution of

financial innovations such as currency derivatives; cross-border
stock listings, multi-currency bonds and international mutual
funds.
• IFM- is a popular concept which means
management of finance in an international business
environment, it implies, doing of trade and making
money through the exchange of foreign currency.
• The international financial activities help the
organizations to connect with international dealings
with overseas business partners- customers,
suppliers, lenders. It is also used by government
organization and non-profit institutions.
 Liberalization

•  Liberalization is the process of liberating the

economy from various regulatory and control
mechanisms of the state and of giving greater
freedom to private enterprise.
• Liberalization can be defined as, “Unilateral or
multilateral reductions in tariffs and other
measures that restrict trade”
 NEED FOR LIBERALISATION

• Bring flexibility in the operations of business

organizations.
• Paves the way for globalization
• Helps companies to compete with other companies at
international level.
• Enrich time, efforts and money of business enterprises.
• reduces cost of production and distribution
• Increase efficiency, productivity and profitability of
business organizations. 
 Globalization
• Globalization is a process of interaction and
integration among the people, companies, and
governments of different nations, a process
driven by international trade and investment and
aided by information technology. This process
has effects on the environment, on culture, on
political systems, on economic development and
prosperity, and on human physical well-being in
societies around the world.
 Basic Functions
• Acquisition of funds (financing decision)
– This function involves generating funds from internal as well
as external sources.
– The effort is to get funds at the lowest cost possible.
• Investment decision
– It is concerned with deployment of the acquired funds in a
manner so as to maximize shareholder wealth.
– Other decisions relate to dividend payment, working capital
and capital structure etc.
– In addition, risk management involves both financing and
investment decision.
International financial manager will involve
the study of
• exchange rate and currency markets
• theory and practice of estimating future exchange rate
• various risks such as political/country risk, exchange rate
risk and interest rate risk
• various risk management techniques
• cost of capital and capital budgeting in international
context
• working capital management
• balance of payment, and
• international financial institutions etc.
 Features of International Finance
• Foreign exchange risk
• Political risk
• Expanded opportunity sets
• Market imperfections
 Foreign exchange risk

• In a domestic economy this risk is generally

ignored because a single national currency
serves as the main medium of exchange
within a country.
• When different national currencies are
exchanged for each other, there is a definite
risk of volatility in foreign exchange rates.
 Political risk
• Political risk ranges from the risk of loss (or
gain) from unforeseen government actions or
other events of a political character such as
acts of terrorism to outright expropriation of
assets held by foreigners.
 Expanded Opportunity Sets
• When firms go global, they also tend to
benefit from expanded opportunities which
are available now.
• They can raise funds in capital markets where
cost of capital is the lowest.
 Market Imperfections
• domestic finance is that world markets today
are highly imperfect
• differences among nations’ laws, tax systems,
business practices and general cultural
environments
 SOURCES OF INTERNATIONAL
FINANCIAL MANAGEMENT
• Licensing
• Franchising
• Subsidiaries and Acquisitions
• Strategic Alliances
• Exporting
 Licensing
• License -means to give permission. A license may be
granted by a party ("licensor") to another party
("licensee") as an element of an agreement between
those parties.

• A license may be issued by authorities, to allow an

activity that would otherwise be forbidden. It may
require paying a fee and/or proving a capability. The
requirement may also serve to keep the authorities
informed on a type of activity, and to give them the
opportunity to set conditions and limitations.
 Franchising
• Franchising is the practice of selling the right to use a
firm's successful business model. For the franchisor, the
franchise is an alternative to building 'chain stores' to
distribute goods that avoids the investments and liability
of a chain. The franchisor's success depends on the
success of the franchisees. The franchisee is said to have a
greater incentive than a direct employee because he or she
has a direct stake in the business.
• The franchisor is a supplier who allows an operator, or a
franchisee, to use the supplier's trademark and distribute
the supplier's goods. In return, the operator pays the
supplier a fee.
 Subsidiaries and Acquisition
• A subsidiary is a company that is completely or partly owned by
another corporation that owns more than half of the subsidiary's
stock, and which normally acts as a holding corporation which at
least partly or a parent corporation, wholly controls the activities
and policies of the daughter corporation.

• Mergers and acquisitions are both aspects of corporate strategy,

corporate finance and management dealing with the buying,
selling, dividing and combining of different companies and
similar entities that can help an enterprise grow rapidly in its
sector or location of origin, or a new field or new location,
without creating a subsidiary, other child entity or using a joint
venture.
 Strategic Alliances
• A strategic alliance is an agreement between two or more
parties to pursue a set of agreed upon objectives needed while
remaining independent organizations. This form of cooperation
lies between Mergers & Acquisition M&A and organic growth.
• Partners may provide the strategic alliance with resources such
as products, distribution channels, manufacturing capability,
project funding, capital equipment, knowledge, expertise, or
intellectual property. The alliance is a cooperation or
collaboration which aims for a synergy where each partner
hopes that the benefits from the alliance will be greater than
those from individual efforts.
 Exporting
• To send goods or services across national borders for
the purpose of selling and realizing foreign exchange.
• If you can get a better offer from someone overseas it
may be worthwhile to export your product if shipping
costs aren't to high.
• Expanding market.
• Identifying purchasing power.
Following are the major differences
1. Exposure to foreign exchange
2. Macro business environment
3. Legal & tax environment
4. Different group of stake holders
5. Foreign exchange derivatives
6. Different standards of reporting
7. Capital management
 Exposure to foreign exchange
• Exchange to foreign exchange: the most significant
difference is of foreign currency exposure,
currency exposure impacts almost all the areas of
an international business / starting from your
purchase from suppliers, selling from customers,
investing in plant& machinery, fund raising etc.
Wherever you need money , currency exposure
will come into play and as we know it well that
there is no business transaction without money.
 Macro business environment
• Macro business environment: an international
business is exposure to altogether a different
economic and political environment. All trade
policies are different in different countries.
Financial manager has to critically analyse the
policies to make out the feasibility and
profitability of their business propositions.
One country may have business friendly
policies and other may not
 Legal & tax environment
• The other important aspect to look at is the
legal and tax front of a country. Tax impacts
directly to your product costs or net profits i.e.
the bottom line for which the where story is
written. International finance manger will look
at the taxation structure to find out whether
the business which is feasible in his home
country is workable in the foreign country or
not.
 Different group of stake holders
• It is not only the money which along matters, there are
other thing which carry greater importance viz. the
group of suppliers, customers, lenders, shareholders etc.
.
• It because they carry altogether a different culture , a
different set of values and most importantly the
language also may able different. When you are dealing
with those stake holders , you have no clue about their
likes and dislikes . A business is driven by these
stakeholders and keeping them happy is all you need.
 Foreign exchange derivatives
• Since it is inevitable to expose to the risk of
foreign exchange in a multinational business.
Knowledge of forwards, futures options and
swaps is invariably required. A financial
manger has to be strong enough to calculate
the cost impact of hedging the risk with the
help of different derivatives instruments while
taking any financial decisions.
 Different standards of reporting:
• If the business has presence in say US & India ,
the books of accounts need to be maintained
in US GAAP & IGAAP.
• It is not surprising to know that the booking of
assets has a different treatment in one country
compared to other. Managing the reporting
another big different . The financial manger or
his team needs to be familiar with accounting
standards of different countries.
 Capital management
• In an MNC, the financial managers have ample
options of raising the capital . More number of
options creates more challenges with respect
to selection of right source of capital to ensure
the lowest possible cost of capital.
 Reason for cross- border investing
• Labor cost,
• Transport cost,
• Diversification,
• Operational constrain,
• Special incentives,
• Market consideration,
• Factor advantage.
General directions of International Financial Management
• Capital Budgeting
• Foreign Portfolio Investment
• Working Capital Management
• Trade Finance
 Capital Budgeting
• It is the planning process used to determine whether an
organization's long term investments such as new
machinery, replacement machinery, new plants, new
products, and research development projects are worth
the funding of cash through the firm's capitalization
structure.
• It is the process of allocating resources for major capital,
or investment, expenditures.
• One of the primary goals of capital budgeting investments
is to increase the value of the firm to the shareholders.
 Methods of capital Budgeting
These methods use the incremental cash flows from each
potential investment, or project

• Accounting rate of return

• Payback period
• Net present value
• Profitability index
• Internal rate of return
• Modified internal rate of return
• Equivalent annuity
• Real options valuation
• Accounting rate of return
Accounting rate of return (also known as
simple rate of return) is the ratio of estimated
accounting profit of a project to the average
investment made in the project. ARR is used in
investment appraisal.
Average
Accounting
ARR =  Profit
Average
Investment
Advantages
• This method of investment appraisal is easy to calculate.
• It recognizes the profitability factor of investment.
Disadvantages
• It ignores time value of money. Suppose, if we use ARR to compare
two projects having equal initial investments. The project which has
higher annual income in the latter years of its useful life may rank
higher than the one having higher annual income in the beginning
years, even if the present value of the income generated by the latter
project is higher.
• It can be calculated in different ways. Thus there is problem of
consistency.
• It uses accounting income rather than cash flow information. Thus it is
not suitable for projects which having high maintenance costs because
their viability also depends upon timely cash inflows.
• Example 1: An initial investment of $130,000 is expected to
generate annual cash inflow of $32,000 for 6 years.
Depreciation is allowed on the straight line basis. It is
estimated that the project will generate scrap value of
$10,500 at end of the 6th year. Calculate its accounting rate
of return assuming that there are no other expenses on the
project.
• Solution
Annual Depreciation = (Initial Investment − Scrap Value) ÷
Useful Life in Years
Annual Depreciation = ($130,000 − $10,500) ÷ 6 ≈ $19,917
Average Accounting Income = $32,000 − $19,917 = $12,083
Accounting Rate of Return = $12,083 ÷ $130,000 ≈ 9.3%
• Ex:2 BlueMan, Inc. wants to purchase of a
new ice cream truck with a cost of $58,000.
The acquisition is proposed for January 1,
2018. It expects can sell the new truck for
$10,000 at end of its useful life of 4
years. BlueMan predicts the new truck will
generate net income of $6,000. with an
increase of $500 each subsequent year.
Calculate the accounting rate of return.
• Ex : 3 : Compare the following two mutually exclusive projects on the basis
of ARR. Cash flows and salvage values are in thousands of dollars. Use the 
straight line depreciation method.
• Project A:
• Year 0 1 2 3
• Cash Outflow -220
• Cash Inflow 91 130 105
• Salvage Value 10
• Project B:
• Year 0 1 2 3
• Cash Outflow -198
• Cash Inflow 87 110 84
• Salvage Value 18
 Project A
• Step 1: Annual Depreciation = ( 220 − 10 ) / 3 = 70
• Step 2: Year 1 2 3
Cash Inflow 91 130 105
Salvage Value 10
Depreciation* -70 -70 -70
A/c ing Income 21 60 45 
• Step 3: Average Accounting Income =
( 21 + 60 + 45 ) / 3 = 42
• Step 4: Accounting Rate of Return = 42 / 220 = 19.1%
 Project B
• Step 1: Annual Depreciation = ( 198 − 18 ) / 3 = 60
• Step 2: Year 1 2 3
• Cash Inflow 87 110 84
• Salvage Value 18
• Depreciation* -60 -60 -60
• A/c ing Income 27 50 42 
• Step 3: Average Accounting Income = ( 27 + 50 + 42 ) / 3
• = 39.666
• Step 4: Accounting Rate of Return = 39.666 / 198 ≈ 20.0%
 Since the ARR of the project B is higher, it is more favorable
than the project A.
• Payback period
Payback period is the time in which the
initial cash outflow of an investment is expected
to be recovered from the cash inflows generated
by the investment. It is one of the simplest
investment appraisal techniques.
Initial
Investment
Payback Period = Net Cash
Inflow per
Period
 Uneven cash flow

cost - Cumulative
Cash Flow
Payback Period  =  (A - 1)  + (A - 1)

Cash Flow A
Advantages of payback period are:
• Payback period is very simple to calculate.
• It can be a measure of risk inherent in a project. Since cash flows that occur later in a project's
life are considered more uncertain, payback period provides an indication of how certain the
project cash inflows are.
• For companies facing liquidity problems, it provides a good ranking of projects that would
return money early.
• Payback Period allows investors to assess the risk of an investment attributable to the length of
its investment life.
Disadvantages of payback period are:
• Payback period does not take into account the time value of money which is a serious drawback
since it can lead to wrong decisions. A variation of payback method that attempts to remove
this drawback is called discounted payback period method.
• It does not take into account, the cash flows that occur after the payback period.
• Basic payback period can be difficult to calculate where multiple negative cash flows are
incurred during the investment period. This problem can be solved by calculating the modified
payback period as discussed above.
• Payback period does not provide a theoretically absolute decision rule like other appraisal
methods (e.g. all investments with positive NPV should be accepted) and is therefore
susceptible to subjective interpretation.
• Ex 1: Even Cash Flows
Company C is planning to undertake a project requiring initial investment of $105 million. The project is expected
to generate $25 million per year for 7 years. Calculate the payback period of the project.
Solution
Payback Period = Initial Investment ÷ Annual Cash Flow = $105M ÷ $25M = 4.2 years
• Ex 2: Uneven Cash Flows
Company C is planning to undertake another project requiring initial investment of $50 million and is expected to
generate $10 million in Year 1, $13 million in Year 2, $16 million in year 3, $19 million in Year 4 and $22 million in
Year 5. Calculate the payback value of the project.
(cash flows in millions) Cumulative
Year Cash Flow Cash Flow

0 (50) (50)
1 10 (40)
2 13 (27)
3 16 (11)
4 19 8
5 22 30

Solution
Payback Period
= 3 + (|-$11M| ÷ $19M)
= 3 + ($11M ÷ $19M)
≈ 3 + 0.58
≈ 3.58 years
• EX 3 : Due to increased demand, the management of Rani Beverage Company is
considering to purchase a new equipment to increase the production and
revenues. The useful life of the equipment is 10 years and the company’s
maximum desired payback period is 4 years.  The inflow and outflow of cash
associated with the new equipment is given below:
The initial cost of equipment $37,500
Annual cash inflow:
Sales $75,000
Annual cash outflow:
Cost of ingredients $45,000
Salaries expenses $13,500
Maintenance expenses $1,500
Non cash expenses:
Depreciation $5,000

Should Rani Beverage Company purchase the new equipment? Use payback method
• Ex 4: The management of Health
Supplement Inc. wants to reduce its labor cost
by installing a new machine. Two types of
machines are available in the market –
machine X and machine Y. Machine X would
cost $18,000 where as machine Y would cost
$15,000. Both the machines can reduce
annual labor cost by $3,000.
 Which is the best machine to purchase
according to payback method?
An investment of $200,000 is expected to generate the following cash flows in six years:
Required: Compute payback period of the investment. Should the investment be made if
management wants to recover the initial investment in 3 years or less?

Year Net cash flow

1 $30,000
2 $40,000
3 $60,000
4 $70,000
5 $55,000
6 $45,000
 Net present value method
• Net present value method (also known as discounted cash flow
method) is a popular capital budgeting technique that takes into
account the time value of money. 
• It uses net present value of the investment project as the base
to accept or reject a proposed investment in projects like
purchase of new equipment, purchase of inventory, expansion
or addition of existing plant assets and the installation of new
plants etc.
• Net present value is the difference between the present value of
cash inflows and the present value of cash outflows that occur
as a result of undertaking an investment project. It may be
positive, zero or negative.
 Possibilities of net present value
• Positive NPV:
• If present value of cash inflows is greater than the present value of the
cash outflows, the net present value is said to be positive and the
investment proposal is considered to be acceptable.
• Zero NPV:
• If present value of cash inflow is equal to present value of cash outflow,
the net present value is said to be zero and the investment proposal is
considered to be acceptable.
• Negative NPV:
• If present value of cash inflow is less than present value of cash outflow,
the net present value is said to be negative and the investment proposal
is rejected.
• The summary of the concept explained so far is given below:
 Advantages and Disadvantages
• The basic advantage of net present value method
is that it considers the time value of money.
• The disadvantage is that it is more complex than
other methods that do not consider present
value of cash flows. Furthermore, it assumes
immediate reinvestment of the cash generated
by investment projects. This assumption may not
always be reasonable due to changing economic
conditions.
• Ex: 1 cash inflow project:
The management of Fine Electronics Company is considering to purchase an
equipment to be attached with the main manufacturing machine. The equipment will cost
$6,000 and will increase annual cash inflow by $2,200. The useful life of the equipment is 6
years. After 6 years it will have no salvage value. The management wants a 20% return on
all investments.
from present value of an annuity of Re 1.
Solution:
• Ex 2 : Smart Manufacturing Company is planning to
reduce its labor costs by automating a critical task that is
currently performed manually. The automation requires
the installation of a new machine. The cost to purchase
and install a new machine is $15,000. The installation of
machine can reduce annual labor cost by $4,200. The life
of the machine is 15 years. The salvage value of the
machine after fifteen years will be zero. The required rate
of return of Smart Manufacturing Company is 25%.
• Should Smart Manufacturing Company purchase the
machine?
 Profitability Index

Profitability index also known as profit investment ratio (PIR)

and value investment ratio (VIR). It is an investment appraisal
technique calculated by dividing the present value of future cash
flows of a project by the initial investment required for the
project. it allows you to quantify the amount of value created
per unit of investment.
 Internal Rate of Return (IRR)

• IRR represents the intrinsic rate of return that is expected to be derived

from an investment considering the amount and timing of the
associated cash flows.
• Internal rate of return (IRR) is the interest rate at which the net present
value of all the cash flows (both positive and negative) from a project
or investment equal zero

• For example, an IRR of 10% suggests that the proposed investment will
generate an average annual rate of return equal to 10% over the life of
the project taking into consideration the amount and timing of the
expected cash inflows and outflows specific to that investment.
• IRR is derived by extrapolating 2 net present values that have been
calculated using 2 random discount rates.
Advantages
• IRR is expressed in percentage terms which is often easier to understand
for people from non-financial background;
• Helps in the assessment of sensitivity of an investment towards changes
in cost of capital.
Limitations
• May not lead to the optimum decision where multiple investment
options are being considered (e.g. investment with the highest IRR is
selected instead of investment that will generate the highest net present
value). NPV analysis remains the most effective investment appraisal tool
in this regard.
• Multiple IRRs can exist for the same investment where the timing of cash
outflows is unusual. Interpreting IRR can be tricky in such scenarios.
 Steps to calculate IRR
• Step 1: Select 2 discount rates for the calculation of NPVs
• Step 2: Calculate NPVs of the investment using the 2
discount rates
• Step 3: Calculate the IRR
• Step 4: Interpretation

NPV1 x (R2 - R1)

Internal Rate of Return  = R1  
+   (NPV1 - NPV2)
Where:
R1      =   Lower discount rate
R2      =   Higher discount rate
NPV1   =   Higher Net Present Value (derived from R1)
NPV2   =   Lower Net Present Value (derived from R2)
EX: Mr. X is considering investing $250,000 in a business.
• The cost of capital for the investment is 13%.
• Following cash flows are expected from the investment:
Year $
0 (250,000)
1 50,000
2 100,000
3 200,000
Solution
• We can take 10% (R1) and 20% (R2) as our discount rates.
Cash Flow Discount Factor Present Value
A B AxB
(250,000) 1.000 (250,000)
50,000 0.909 45,450
100,000 0.826 82,600
200,000 0.751 150,200
NPV1    28,250
Cash Flow Discount Factor Present Value
A B AxB
(250,000) 1.000 (250,000)
50,000 0.833 41,650
100,000 0.694 69,400
200,000 0.579 115,800
NPV2    -23,150
The investment should be accepted by Mr. A because the cost of capital (i.e.
13%) is lower than the IRR of 15.5%.
The cost of capital will need to increase by more than 19.2%* for the
investment to become financially unviable
*
15.5% - 13%
= 19.2%
13%
• Modified Internal Rate of Return
Modified internal rate of return (MIRR) is an improved version of the internal
rate of return (IRR) approach to capital budgeting decisions. It does not require the
assumption that the project cash flows are reinvested at the IRR; rather, it factors in a
discrete reinvestment rate into the model.
Decision rule: projects with MIRR greater the project's hurdle rate should be
accepted; while in case of mutually exclusive projects, the project with higher MIRR
should be preferred.
• Equivalent annuity
The equivalent annual annuity (EAA)
approach calculates the constant annual cash
flow generated by a project over its lifespan if it
was an annuity.
EAA is used in capital budgeting to find the net
present value of an investment. The present
value of the constant annual cash flow is equal
to the project's net present value.
 Real option valuation
• A real option is a choice made available with business
investment opportunities, referred to as “real” because
it typically references a tangible asset instead
of financial instrument. Real options are choices a
company’s management makes to expand, change or
curtail projects based on changing economic,
technological or market conditions. Factoring in real
options impacts the valuation of potential investments,
although commonly used valuations, such as net present
value (NPV), fail to account for potential benefits
provided by real options.
Factors influencing Capital Budgeting
 Availability of  Lending Policies of  Economic Value of
funds Financial the Project
Institutions
 Structure of capital  Working Capital
 Immediate need of
 Taxation Policy the Project  Accounting
Practice
 Government Policy  Earnings
 Trend of Earning
 Capital Return
 Foreign Portfolio Investment
• Foreign portfolio investment is the entry of funds into a country
where foreigners make purchases in the country’s stock and bond
markets, sometimes for speculation.
• It is a usually short term investment, as opposed to the longer
term Foreign Direct Investment partnership, involving transfer of
technology and "know-how".
• Foreign Portfolio Investment (FPI): passive holdings of securities
and other financial assets, which do NOT entail active
management or control of the securities' issuer. FPI is positively
influenced by high rates of return and reduction of risk through
geographic diversification. The return on FPI is normally in the
form of interest payments or non-voting dividends.
 Working Capital Management
• Working capital management is concerned with the problems that arise in
attempting to manage the current assets, the current liabilities and the
interrelations that exist between them.
• Current assets refer to those assets which in the ordinary course of
business can be, or will be, converted into cash within one year without
undergoing a diminution in value and without disrupting the operations
of the firm.
Examples- cash, marketable securities, accounts receivable and inventory.
• Current liabilities are those liabilities which are intended, at their
inception, to be paid in the ordinary course of business, within a year, out
of the current assets or the earnings of the concern.
Examples- accounts payable, bills payable, bank overdraft and
outstanding expenses
 Goal of Working Capital
Management
• To manage the firm’s current assets and
liabilities in such a way that a satisfactory level
of working capital is maintained.
Concepts and Definitions of Working Capital

There are two concepts of working capital:

Gross and Net
• Gross working capital- means the total current
assets.
• Net working capital- can be defined in two ways-
o The difference between current assets and current
liabilities.
o The portion of current assets which is financed
with long term funds
 Determinants of Working capital
Requirement
 General nature of business  Level of taxes

 Production cycle  Dividend policy

 Business cycle fluctuations  Depreciation policy

 Production policy  Price level changes

 Credit policy  Operating efficiency

 Growth and expansion

 Profit level
 Working capital: Policy and
Management
• The working capital management includes and
refers to the procedures and policies required to
manage the working capital.
There are three types of working capital policies
which a firm may adopt :
• Moderate working capital policy
• Conservative working capital policy
• Aggressive working capital policy.
These policies describe the relationship between
the sales level and the level of current assets.
 Types of working capital needs
• The working capital need can be bifurcated into permanent working
capital and temporary working capital.
• Permanent working capital- There is always a minimum level of
working capital which is continuously required by a firm in order to
maintain its activities like cash, stock and other current assets in
order to meet its business requirements irrespective of the level of
operations.
• Temporary working capital- Over and above the permanent working
capital, the firm may also require additional working capital in order
to meet the requirements arising out of fluctuations in sales volume.
This extra working capital needed to support the increased volume of
sales is known as temporary or fluctuating working capital.
 Trade Finance
• For a trade transaction there should be a Seller to sell
the goods or services and a Buyer who will buy the goods
or use the services. Various intermediaries such as
(banks , Financial Institutions) can facilitate this trade
transaction by financing the trade.
• While a seller (the exporter) can require the purchaser
(an importer) to prepay for goods shipped, the purchaser
(importer) may wish to reduce risk by requiring the seller
to document the goods that have been shipped. Banks
may assist by providing various forms of support.
 The following are the most famous products/services
offered by various Banks and Financial Institutions in
Trade Finance Segment:
• Letter of credit
• Collection and Discounting of Bills
• Bank Guarantee
 Letter of Credit
• It is an undertaking promise given by a
Bank/Financial Institute on behalf of the
Buyer/Importer to the Seller/Exporter, that, if
the Seller/Exporter presents the complying
documents to the Buyer's designated
Bank/Financial Institute as specified by the
Buyer/Importer in the Purchase Agreement
then the Buyer's Bank/Financial Institute will
make payment to the Seller/Exporter
 Contract
1
Buyer Seller
Goods
9 4

2 8 Debit Payment
5
Letter of Credit 7
6

Application Letter of Credit

Documents Documents
Buyer’s Bank 3
 Bank Guarantee
• It is an undertaking promise given by a Bank on
behalf of the Applicant and in favour of the
Beneficiary. Whereas, the Bank has agreed and
undertakes that, if the Applicant failed to fulfill his
obligations either Financial or Performance as per
the Agreement made between the Applicant and
the Beneficiary, then the Guarantor Bank on behalf
of the Applicant will make payment of the
guarantee amount to the Beneficiary upon receipt
of a demand or claim from the Beneficiary.
Collection and Discounting of Bills
• It is a major trade service offered by the Banks.
The Seller's Bank collects the payment
proceeds on behalf of the Seller, from the
Buyer or Buyer's Bank, for the goods sold by
the Seller to the Buyer as per the agreement
made between the Seller and the Buyer.
• While discounting , banks buy the bill before it
is due and credit the value of the bill after a
discount charge to the customer's account
Agencies that Facilitate International Flows
 International Monetary Fund (IMF)

• The IMF is an organization of 183 member countries. Established in 1946,

it aims
– to promote international monetary cooperation and exchange
stability;
– to foster economic growth and high levels of employment; and
– to provide temporary financial assistance to help ease imbalances of
payments.
– Its operations involve surveillance, and financial and technical
assistance.
– In particular, its compensatory financing facility attempts to reduce
the impact of export instability on country economies.
– The IMF uses a quota system, and its unit of account is the SDR
(special drawing right).
 World Bank Group

World Bank Group

• Established in 1944, the Group assists
development with the primary focus of
helping the poorest people and the poorest
countries.
• It has 183 member countries, and is composed
of five organizations - IBRD, IDA, IFC, MIGA
and ICSID
 IBRD:International Bank for Reconstruction
and Development
• Better known as the World Bank, the IBRD provides loans
and development assistance to middle-income countries
and creditworthy poorer countries.
• In particular, its structural adjustment loans are intended to
enhance a country’s long-term economic growth.
• The IBRD is not a profit-maximizing organization.
Nevertheless, it has earned a net income every year since
1948.
• It may spread its funds by entering into co-financing
agreements with official aid agencies, export credit
agencies, as well as commercial banks
IDA: International Development Association

• IDA was set up in 1960 as an agency that lends

to the very poor developing nations on highly
concessional terms.
• IDA lends only to those countries that lack the
financial ability to borrow from IBRD.
• IBRD and IDA are run on the same lines,
sharing the same staff, headquarters and
project evaluation standards.
 IFC: International Finance Corporation

• The IFC was set up in 1956 to promote

sustainable private sector investment in
developing countries, by
– financing private sector projects;
– helping to mobilize financing in the
international financial markets; and
– providing advice and technical assistance to
businesses and governments.
M IGA: Multilateral Investment Guarantee Agency

• The MIGA was created in 1988 to promote FDI in

emerging economies, by
– offering political risk insurance to investors and
lenders; and
– helping developing countries attract and retain
private investment.
ICSID: International Centre for Settlement of
Investment Disputes
• The ICSID was created in 1966 to facilitate the
settlement of investment disputes between
governments and foreign investors, thereby
helping to promote increased flows of
international investment.
 World Trade Organization (WTO)
• Created in 1995, the WTO is the successor to the General
Agreement on Tariffs and Trade (GATT).
• It deals with the global rules of trade between nations to
ensure that trade flows smoothly, predictably and freely.
• At the heart of the WTO's multilateral trading system are its
trade agreements.
• Its functions include:
– administering WTO trade agreements;
– serving as a forum for trade negotiations;
– handling trade disputes;
– monitoring national trading policies;
– providing technical assistance and training for developing countries; and
– cooperating with other international groups
Bank for International Settlements (BIS)
• Set up in 1930, the BIS is an international organization that
fosters cooperation among central banks and other agencies in
pursuit of monetary and financial stability.
• It is the “central banks’ central bank” and “lender of last resort.
• The BIS functions as:
– a forum for international monetary and financial cooperation;
– a bank for central banks;
– a center for monetary and economic research; and
– an agent or trustee in connection with international financial
operations
 Regional Development Agencies
• Agencies with more regional objectives relating to
economic development include
– the Inter-American Development Bank;
– the Asian Development Bank;
– the African Development Bank; and
– the European Bank for Reconstruction and
Development.