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Fundamentals of Multinational Finance, 6e (Moffett et al.)
Chapter 16 International Trade Finance
16.1 The Trade Relationship
1) The exporter-importer relationship to a corporation of a foreign importer that has not
previously conducted business with the firm would be an:
A) unaffiliated known.
B) affiliated party.
C) unaffiliated unknown.
D) any of the above
2) Which of the following relationships between importing and exporting parties would require
the least detailed contract to conduct business?
A) affiliated party
B) unaffiliated unknown party
C) known unaffiliated party
D) domestic supplier
3) Polaris Corporation has made an agreement to ship goods to a foreign firm with whom they
have not entered into a contract for three years. However, the firms have communicated regularly
since the last sale three years ago. This is an example of an:
A) unaffiliated known party transaction.
B) unaffiliated unknown party transaction.
C) affiliated party transaction.
D) none of the above
4) Which of the following is NOT a financial instrument that may be included in an international
trade transaction?
A) Letter of Credit
B) Sight Draft
C) Order bill of lading
D) Federal funds transaction
5) The combination of a letter of credit, a sight draft, and an order bill of lading protect both
parties in international transactions from which of the following?
A) the risk of noncompletion
B) the risk of foreign exchange risk (when combined with a various hedging techniques)
C) the risk that financing will not be available due to foreign exchange risk
D) All of these risks are reduced when using these trade implements.
6) The risk of noncompletion is most important when:
A) the international trade is recurrent in nature.
B) there is a sustained relationship between the buyer and seller.
C) with an outstanding agreement for recurring shipments.
D) when the relationship is between countries whose currencies are considered strong.
7) From a financial management perspective, all of the following are primary risks associated
with an international trade transaction EXCEPT:
A) currency risk
B) default risk
C) noncompletion risk
D) interest rate risk
8) The risk of default on the part of the importer - risk of noncompletion - is present as soon as:
A) a price quote is given.
B) goods are received.
C) the export contract is signed.
D) the financing period begins.
9) Today, international trade is dominated by transactions between unaffiliated parties (known or
unknown).
10) Because most international transactions are between affiliated parties, international
transaction contracts are less complex, but the management of the total value of the MNE is
more complex.
11) An advantage of trading with an affiliated party for an MNE, compared to an unaffiliated
party, could be reduced contracting costs and less to even no need to protect against nonpayment.
12) The fundamental dilemma of foreign trade is being unwilling to trust a stranger in a foreign
land.
13) If a foreign exchange transaction calls for payment in the importer's currency, the exporter
has the foreign exchange risk.
14) If a foreign exchange transaction calls for payment in the exporter's currency, the importer
has the foreign exchange risk.
15) In the case of international trade, the risk of nonpayment is essentially eliminated with the
use of a letter of credit issued through a trustworthy bank.
16) What is the major difference between "currency risk" and "risk of noncompletion"? How are
these risks handled in a typical international trade transaction?
17) Why might different documentation be used for an export to a nonaffiliated foreign buyer
who is a new customer, as compared with an export to a nonaffiliated foreign buyer to whom the
exporter has been selling for many years?
18) For what reason might an exporter use standard international trade documentation (letter of
credit, draft, order bill of lading) on an intrafirm export to its parent or sister subsidiary?
1) Which of the following is NOT true regarding a letter of credit?
A) The importer and exporter agree on a transaction.
B) The importer applies to its local bank for the issuance of a letter of credit.
C) The exporter applies to its local bank for the issuance of a letter of credit.
D) The importer's bank cuts a sales contract based on its assessment of the creditworthiness of
the importer.
2) A/An ________ letter of credit is intended to serve as a means of arranging payment, but not
as a guarantee of payment.
A) irrevocable
B) revocable
C) confirmed
D) unconfirmed
3) A/An ________ letter of credit is an obligation only of the issuing bank whereas other banks
honor a/an ________ letter of credit.
A) irrevocable; unconfirmed
B) revocable; confirmed
C) confirmed; irrevocable
D) unconfirmed; confirmed
4) A letter of credit that is confirmed in the ________ country has the additional advantage of
eliminating the problem of ________.
A) exporter's; portfolio risk
B) importer's; blocked foreign exchange
C) exporter's; blocked foreign exchange
D) none of the above
5) The draft is the instrument normally used in international commerce to:
A) transfer product.
B) prove ownership.
C) transfer title.
D) initiate the sale.
6) The ________ is the instrument normally used to actually effect payment in international
commerce.
A) banker's acceptance
B) bill of exchange
C) bill of lading
D) letter of credit
7) The person or company initiating the draft or bill of exchange is known as the:
A) maker.
B) drawer.
C) originator.
D) any of the above
8) The person or company to whom the draft or bill of exchange is addressed is the:
A) drawee.
B) drawer.
C) maker.
D) originator.
9) Drafts that have been accepted by banks become:
A) clean drafts.
B) nonmarketable.
C) banker's acceptances.
D) none of the above
10) Which of the following purposes is NOT served by the bill of lading?
A) It acts as a receipt.
B) It acts as a contract.
C) It acts as a document of title.
D) It acts as all of the above.
11) The ________ is issued to the exporter by a common carrier transporting the merchandise.
A) bill of lading
B) draft
C) banker's acceptance
D) line of credit
12) A straight bill of lading is most likely to be used under which of the following
circumstances?
A) when the merchandise has not been paid for in advance
B) when the transaction is being financed by a bank
C) when the shipment is to an affiliate
D) none of the above
13) To become a negotiable instrument, a draft must conform to the following requirements
EXCEPT:
A) it must be in writing and signed by the maker or drawer
B) it must be payable to order or to bearer
C) it must be written in English
D) it must be payable on demand or at a fixed or determinable future date
9
14) In a typical international trade transaction, the order of activity would be which of the
following?
A) The foreign buyer places an order; The domestic manufacturer ships to the buyer; The
manufacturer's bank presents a draft and documents to the buyer's bank for acceptance; The
buyer's bank submits payment to the manufacturer's bank.
B) The domestic manufacturer ships to the buyer; The buyer's bank submits payment to the
manufacturer's bank; The foreign buyer places an order; The domestic manufacturer ships to the
buyer; The manufacturer's bank presents a draft and documents to the buyer's bank for
acceptance.
C) The foreign buyer places an order; The manufacturer's bank presents a draft and documents to
the buyer's bank for acceptance; The domestic manufacturer ships to the buyer; The buyer's bank
submits payment to the manufacturer's bank.
D) The domestic manufacturer ships to the buyer; The manufacturer's bank presents a draft and
documents to the buyer's bank for acceptance; The foreign buyer places an order; The buyer's
bank submits payment to the manufacturer's bank.
15) A letter of credit is an agreement by the bank to pay against documents rather than the actual
merchandise.
16) The primary advantage of a letter of credit is that it reduces risk.
17) The major advantage of a letter of credit to the exporter is that the exporter does not receive
any funds until the documents have arrived at a local port or airfield.
18) To constitute a true letter of credit transaction, the issuing bank must receive a fee or other
valid business consideration for issuing the L/C.
19) To constitute a true letter of credit transaction, the bank's L/C must contain a specified
expiration date or a definite maturity.
20) To constitute a true letter of credit transaction, the bank's commitment must be open-ended
and cannot have a stated maximum amount of money.
21) A revocable L/C is intended to serve as a means of arranging payment but not as a guarantee
of payment.
22) A sight draft is payable on presentation to the drawee; a time draft allows a delay in
payment.
23) A draft is sometimes called a revocable letter of credit.
11
24) A time draft is payable on presentation to the drawee; the drawee must pay at once or
dishonor the draft. A sight draft, allows a delay in payment.
25) The bill of lading is issued to the exporter by a common carrier transporting the merchandise.
It serves three purposes: a receipt, a contract, and a document of title.
26) Because of the risks involved in international trade, most transactions follow conventional
methods and rarely require flexibility or creativity on the part of management.
27) Explain what a letter of credit (L/C) is, who the principle parties are, what the principle
advantage is, and how the L/C facilitates international trade.
Answer: A letter of credit (L/C) is a bank's conditional promise to pay issued by a bank at the
request of an importer. The primary advantage of an L/C is the reduction in risk. This reduction
in risk makes it easier for the exporter to sell goods to the importer because it no longer need rely
on the ability of the importing firm to pay for the goods, but rather it can rely on the bank.
There are three primary parties involved with a letter of credit. Party number one is the exporter,
who makes a sale to the importer in exchange for the bank's L/C. Party number two is the
importer who receives the goods and promises to pay the bank. And third, the bank that contracts
with the importer and agrees to pay the exporter upon presentation of documents as specified in
the L/C.
The advantage to an exporter is the increased likelihood of receiving payment because funds are
due from a known international commercial bank as opposed to a relatively unknown importer.
Furthermore, an exporter with a good reputation for delivery may be able to sell the L/C at a
discount in the secondary market prior to shipping and speed up cash flow.
The importer benefits because it doesn't need to pay for goods purchased until they actually
reach port. The bank benefits from the fees they charge.
Diff: 3
L.O.: 16.2 Key Documents
Skill: Conceptual
AACSB: Application of knowledge
16.3 Government Programs to Help Finance Exports
1) The Export-Import Bank is an independent agency of the U.S. government established in 1934
to:
A) ship money abroad.
B) import agricultural products during the recession.
C) facilitate and stimulate foreign trade of the United States.
D) none of the above
2) In the United States, the Foreign Credit Insurance Corporation:
A) is a subsidiary of the Export-Import Bank.
B) provides letters of credit for U.S. importers.
C) provides letters of credit for U.S. exporters.
D) provides policies that protect U.S. exporters against default by foreign importers.
3) The Eximbank does all of the following EXCEPT:
A) guarantees lease transactions
B) supplies counseling for exporters in finding financing for US goods
C) finances the cost involved in the preparation of feasibility studies for non-US clients
D) provides letters of credit for U.S. exporters.
4) The Foreign Credit Insurance Association is a branch of the U.S. federal government.
5) The Export-Import Bank (also called Eximbank) is an independent agency of the U.S.
government, established in 1934 to stimulate and facilitate the foreign trade of the United States.
6) Essentially, the Eximbank lends dollars to borrowers inside the United States for the purchase
of U.S. goods and services.
7) In the United States, domestic taxpayers bear the cost of export credit insurance and export
financing provided by institutions like the FCIA and Eximbank to foreign buyers in order to
create employment and maintain a technological edge.
8) Export credit insurance provides assurance to the exporter or the exporter's bank that, should
the foreign customer default on payment, the insurance company will pay for a major portion of
the loss.
9) One way a nation can improve its exports is by shortening the period for which credit
transactions can be insured.
10) The European Union recommends maximum credit terms for many items including, for
example, heavy capital goods (five years), light capital goods (three years), and consumer
durable goods (one year).
1) Refer to Instruction 16.1. What is the size of the discount (not including the commission fee)
Cypress must take for receiving the proceeds of the sale today rather than waiting for six
months?
A) $7,000
B) $5,000
C) $12,000
D) $14.000
2) Refer to Instruction 16.1. What is the size of the commission Cypress will pay the bank for the
banker's acceptance?
A) $7,000
B) $5,000
C) $12,000
D) $14,000
3) Refer to Instruction 16.1. What is the total Cypress can expect to receive if the firm takes
payment today?
A) $993,000
B) $995,000
C) $988,000
D) $996,000
4) Refer to Instruction 16.1. ________ is an unsecured promissory note.
A) A banker's acceptance
B) An overdraft
C) A securitized loan
D) Commercial paper
5) Rogue Spices Inc. has a Canadian receivables contract for $200,000 due in 270 days. The firm
has been approached by a factoring firm that offers to purchase the receivables at a 12% per
annum discount plus a 1% charge for a nonrecourse clause. What is the annualized percentage
all-in-cost of this factoring alternative?
A) 14.82%
B) 13.00%
C) 12.00%
D) 9.09%
6) Export receivables are normally sold at a discount. The size of the discount depends on the
following factors EXCEPT:
A) overdraft fees
B) collection risk
C) cost of credit insurance
D) size of financing and services fees
7) Banker's acceptances are used to finance only international trade receivables but not domestic
trade receivables.
8) The first owner of the bankers' acceptance created from an international trade transaction will
be the importer, who receives the endorsed draft back after the bank has stamped it "accepted."
9) An overdraft agreement allows a firm to overdraw its bank account up to the limit of its credit
line.
10) Issuing commercial papers to finance accounts receivable or short term financing needs lies
at the low end of the pecking order of trade financing alternatives.
11) Recourse means that the factor assumes the credit, political, and foreign exchange risk for
the receivables it purchases.
12) The firm selling the recourse receivables avoids the cost of determining the creditworthiness
of its customers.
13) What is a banker's acceptance? How are they initiated? Why are they desirable for the
exporter?
1) ________ is a specialized technique to eliminate the risk of nonpayment by importers in
instances where the importing firm and/or its government is perceived by the exporter to be too
risky for open account credit.
A) Forfeiting
B) Marketable Bank Shares
C) Forfaiting
D) Banker's Acceptances
2) Which of the following is NOT true about forfeiting?
A) The exporter is responsible for the quality of delivered goods.
B) Exporter receives an unconditional cash payment at the time of the transaction.
C) The exporter sells bank-guaranteed promissory notes at its face value.
D) The political and commercial risk is carried by the guaranteeing bank.
3) A typical forfaiting transaction involves the following parties EXCEPT:
A) importer
B) exporter
C) carrier
D) importer's Bank
4) The following parties are usually guarantors in forfaiting EXCEPT:
A) commercial banks
B) government ministries of finance
C) large commercial enterprises
D) government banks
5) In effect, the forfaiter functions both as a money market firm and a specialist in packaging
financial deals involving country risk.
6) Success of the forfaiting technique springs from the belief that the aval can be depended on.
7) The liability of the aval is an "on balance sheet" obligation for the endorsing bank.
