This article was written in collaboration with OCBC Business Banking. All views expressed in this article are the independent opinion of DollarsAndSense.sg. You can refer to our Editorial Policy here.
The Fortitude Budget, delivered last month by Deputy Prime Minister & Finance Minister Heng Swee Keat, was Singapore’s Fourth Budget in 2020. As expected, this budget mostly centred around the Singapore government’s support to help Singapore SMEs survive the COVID-19 recession. This is a national priority so as to keep as many people employed as possible.
In all four budgets, it was initiatives such as the Jobs Support Scheme that grabbed most of the headlines, since it provides immediate cash relief for companies in Singapore. However, we shouldn’t neglect the myriad of other ways the government supports SMEs, such as providing easier (and cheaper) access to credit.
In a previous article, we wrote about how the Temporary Bridging Loan, a government-assisted term loan, can help Singapore companies get access to working capital at a low cost to ease their cash flow challenges.
Similarly, another important initiative introduced to support SMEs in Singapore is the Loan Insurance Scheme, which reduces the cost for companies to secure trade financing support.
Buying (And Selling) On Trade Credit
Before explaining how the Loan Insurance Scheme (“LIS”) reduces the cost for SMEs to get trade financing support, we first need to understand why trade financing is vital for businesses.
When we buy goods as a consumer, we typically pay at the point of transaction. For example, when doing our weekly grocery shopping, we pay the supermarket at the checkout counter before we are allowed to leave with our products.
However, when businesses buy goods from their suppliers, this is not always the case. Many businesses rely on trade credit to purchase their goods first and to pay at a later time. This helps ease their cash flow since it takes some time before businesses can use the materials to make products and sell to customers.
The problem with trade credit is that it requires a high level of trust between suppliers and companies that buy from them. This trust is not always easy to establish, especially if you are a first-time buyer or buying goods from international suppliers who do not know your company well.
Many suppliers may be stricter with their credit policy to protect themselves from defaults on payments during this uncertain period. For example, they may be reluctant to grant credit terms to companies that they are not familiar with or may shorten their credit terms even for companies that they have worked with before.
While these are prudent measures that suppliers take to safeguard their business interests, it also perpetuates an already challenging business environment. If even good and sustainable companies cannot obtain the usual credit terms that they were able to get in the past, it makes it harder for them to continue functioning in what is already a difficult period.
How Trade Financing Helps
Besides having to pay cash on delivery, another option SMEs can turn to is trade financing solutions. Trade financing is a service that involves the use of a third-party, usually a bank or a financing institution, to help bridge the working capital gap for both buyers and sellers.
For example, if DollarsAndSense wants to import goods worth $1 million from a supplier in Japan, it’s unlikely that we will be able to buy it on credit terms – even though we will argue that we can afford it and are creditworthy enough!
However, if we do not wish to pay cash on delivery, we can seek trade finance solutions instead. This can be done by getting a bank like OCBC to provide us with trade finance facilities such as a letter of credit.
Besides using trade credit to finance your purchases, trade credit can also be used by sellers to help with their cash flow. For example, a supplier may want to give a longer credit term (e.g. 90 days) to a loyal long-time customer. However, such decisions may also create short-term cash flow challenges for the company. Rather than to shorten the credit terms and to risk making their customers unhappy, companies can tap on trade finance solutions such as invoice financing to give them the working capital required.
How Loan Insurance Scheme Helps Singapore SMEs
While banks are the entities providing these trade finance facilities, they may sometimes transfer some of the trade financing risk to other entities such as commercial insurers. In exchange for co-sharing the risk of loan default with the banks, the insurers charge a premium. This premium is partially paid for by the businesses applying for these trade financing solutions. The amount of premium charged is also dependent on the trade finance facility size required and the risk profile of the applicants.
It is worth noting that banks do not offload the trade financing risk to commercial insurers entirely. Part of the credit risk remains with the banks, so it is in their interests to do the proper due diligence. For example, if a trade finance facility of $1 million is given and the borrower defaults, the bank’s exposure could be up to $250,000, with the remaining $750,000 borne by the commercial insurers.
Loan Insurance Scheme Premium Subsidy To Increase From 50% to 80%
In recognition that trade financing support is essential for SMEs during this period, the government announced in the supplementary budget that it would expand support for SMEs through the LIS.
With the LIS, the government covers a portion of the insurance premiums needed to cover trade finance facilities. From now till 31 March 2021, support for LIS premiums will be increased from 50% to 80%. This reduces the borrowing costs incurred by SMEs seeking for trade financing solutions.
Eligibility For The Loan Insurance Scheme
Similar to other schemes that have been introduced by the government to help companies, your company will need to meet certain eligibility criteria to apply for the LIS. This being: :
– Borrower must be incorporated and operating in Singapore;
– Borrower must have at least 30% local shareholdings;
– Borrower’s group annual sales turnover must not be more than S$100 million; or
– Borrower’s group employment size must not be more than 200 workers.
Trade finance products that are eligible for the LIS include Letter of Credit, Trust Receipt, Invoice Financing and certain types of Banker’s Guarantees.
If you’re eligible, your company can apply for the LIS through participating Financial Institutions such as OCBC.
Where applicable, OCBC will apply for insurance coverage under the LIS as part of the trade finance facility application process. Once approved, OCBC can extend trade finance facilities to your company under the LIS.
You can find out more details about the various trade finance facilities offered by the OCBC and the LIS on OCBC’s Business Banking website.
Need Financing Support During This Period?
SMEs can enjoy extra financing support of up to $3 million through the Temporary Bridging Loan Programme when you apply online with OCBC. Terms and conditions apply.
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