Cross-Border Financing

What Is Cross-Border Financing?

Cross-border financing—also known as import and export financing—refers to any financing arrangement that occurs outside a country's borders. Cross-border financing helps businesses participate in international trade by providing a source of funding that enables them to compete globally and conduct business beyond their domestic borders.

Cross-border financing sometimes requires the lender or provider to act as an agent between the business, their suppliers, and the end-customers. Cross-border financing comes in many forms and includes cross-border loans, letters of credit, repatriable income, or bankers acceptances (BA).

Key Takeaways

  • Cross-border financing refers to the process of providing funding for business activities that occur outside a country's borders.
  • Companies that seek cross-border financing want to compete globally and expand their business beyond their current domestic borders.
  • While financial institutions such as investment banks provide the major source of cross-border financing, private equity firms also provide a source of funding for international trade.
  • Cross-border factoring enables companies to receive immediate cash flow by selling their receivables to another company.
  • Two types of risk associated with cross-border financing are political risk and currency risk.

Understanding Cross-Border Financing

Cross border financing within corporations can become very complex, mostly because almost every inter-company loan that crosses national borders has tax consequences. This occurs even when the loans or credit are extended by a third party, such as a bank. Large, international corporations have entire teams of accountants, lawyers, and tax experts that evaluate the most tax-efficient ways of financing overseas operations.

While financial institutions retain the lion's share of business for many cross-border loan and debt capital market financing, increasingly private credit borrowers have supported the arrangement and provision of loans globally. U.S. debt and loan capital markets overall have remained remarkably healthy after the 2008 financial crisis and they continue to offer attractive returns for foreign borrowers.

Advantages and Disadvantages of Cross-Border Financing

Advantages

Many companies opt for cross-border financing services when they have global subsidiaries (e.g., a Canadian-based company with one or more subsidiaries located in select countries in Europe and Asia). Opting in for cross-border financing solutions can allow these corporations to maximize their borrowing capacity and access the resources they need for sustained global competition.

Cross-border factoring is a type of cross-border financing that provides businesses with immediate cash flow that can be used to support growth and operations. In this type of financing, businesses will sell their receivables to another company.

This third-party company—also known as the factoring company—collects payments from customers and transfers the payments to the original business owner, minus fees charged for providing the service. The advantage to the business owners is that they receive their money upfront rather than waiting anywhere from 30 to 120 days for payment from their customers.

Disadvantages

In cross-border financing, currency risk and political risk are two potential disadvantages. Currency risk refers to the possibility companies may lose money due to changes in currency rates that occur from conducting international trade. When structuring terms of a loan across nations and currencies, companies may find it challenging to obtain a favorable exchange rate. 

Political risk refers to the risk a company faces when doing business in a foreign country that experiences political instability. Shifting political climates—including elections, social unrest, or coups—could hinder a deal’s completion or turn a profitable investment into an unprofitable one. For this reason, some providers of cross-border financing may restrict doing business in certain regions of the world.

Example of Cross-Border Financing

Computer World agrees to sell its $10 billion semiconductor unit to a consortium led by Private Equity Partners LLC. The group of investors include large American tech companies.

The acquisition requires the U.S.-headquartered companies within the consortium to obtain Japanese yen to complete the deal. Private Equity Partners LLC also requires upwards of $2 billion from a few of the companies to close the negotiation. The advantage to these American companies participating in a cross-border deal is that it helps ensure them continued access to Computer World's prized semiconductor chips for their businesses.

Special Considerations

In recent years, many corporations, along with sponsors, have chosen loan financing over debt financing. This has affected the structure of many cross-border loan financing deals, particularly as covenant-lite (cov-lite) loans allow the borrower significantly more flexibility than some traditional loan terms. Cov-lite loans require fewer restrictions on collateral, repayment terms, and level of income on the part of the borrower.

What Are the Risks in Cross-Border Transactions?

The risk of cross-border transactions is the risk that an entity will not be able to receive payments from its customers due to government measures that put restrictions on the convertibility and transferability of foreign currencies. This risk arises from problems within the foreign currency, such as political risk, as opposed to risks associated with a specific customer.

Why Is Cross-Border Trade Important?

Cross-border trade is important because it allows individuals and companies access to the best services and technologies. This allows for efficiency and a reduction in costs, which benefit the economy overall. Cross-border trade also increases the market size in which individuals and companies can conduct business, leading to higher revenues. The free flow of data across borders lifts up everyone partaking in cross-border trade.

What Is a Cross-Border Product?

When a buyer purchases a good or service from a seller that is located in another country, that good or service is considered to be a cross-border product.

Article Sources
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  1. Bank for International Settlements. "The Outsize Role of Cross-border Financial Centres."