Bankers' Acceptance Financing

A banker's acceptance is a method of financing that banks can use to provide their customers with short-term (six months or shorter) financing for trade transactions. Acceptances may be less expensive than more traditional trade financing methods. A banker's acceptance is a time draft drawn on, and accepted by a bank. By accepting the draft, the bank indicates its commitment to pay the stated amount of the draft on a specified future date. The draft may then be sold to an investor for a money market rate of return based on the credit risk of the bank.

The acceptance financing has been used for decades as a form of bank loan. The ability to fix rates for periods of up to 180 days protects the borrower from adverse movements in interest rates up to six months. Banks offer bankers' acceptances in a wide range of maturities to match their customers sales cycles and payment terms. Traditionally, importers used bankers' acceptances to finance imports into the United States. Today, acceptance financing is used to finance a wide range of activity such as imports, exports, domestic shipments, domestic purchases, and commodity warehousing of readily marketable products.

What is a Bankers' Acceptance?

A bankers' acceptance begins with a financial instrument issued in negotiable form, commonly called a "time draft" or "usance draft." This is a draft drawn on a bank usually by an importer or exporter for a certain sum of money payable in the future. The drawee bank thereupon signifies their acceptance of the obligation by stamping the word "accepted" across the face of the draft. The draft is dated and an official signature is added. The draft then becomes a "bankers' acceptance."

A bankers' acceptance is a negotiable instrument which may be used to obtain immediate funds by discount selling to the drawee bank or an investor. The instrument's marketability is limited only by the reputation of the accepting bank and market demand.

The net proceeds of the sale are obtained by deducting the following two items from the face amount of the acceptance: (1) the discount rate (Interest Rate x Days to Maturity x Face Amount) and (2 ) the bank's acceptance commission. The combination of these is referred to as the "all-in" rate.

For example:

Discount Rate (rate earned by investor) -- 5.13 % p.a.
Bank Commission -- 1.50 % p.a.
All-in Rate -- 6.63 % p.a.

When the bankers' acceptance matures, the bank pays the face amount to the holder (investor) at the same time debiting the account of their customer. The debit to the account stems from a repayment agreement called an "acceptance agreement" between the accepting bank and their customer, and is the consideration for accepting the time draft.

Who can finance with bankers' acceptances?

Bankers' acceptance When a drawee acknowledges in writing on the face of the draft that the buyer will pay the draft at maturity. financing may be used by exporters, importers, domestic buyers and sellers, traders, shippers, manufacturers, processors, distributors, or almost anyone involved in international or domestic trade.

The need for financing can arise out of open account, cash in advance, collection, or letter of credit transactions. For instance, many sellers grant time terms to buyers; this could be under an open account transaction or under a letter of credit transaction. A letter of credit transaction could cause a seller to accept a time draft letter of credit. The seller would then have a choice of waiting until maturity for payment or requesting discount from the accepting bank or an investor. On the other hand, a buyer of an immediate payment letter of credit demand by a seller could open a time draft letter of credit, adding a special condition, stipulating that discount charges would be for buyer's account. Alternately, a buyer could simply open a sight payment letter of credit and finance the payment by drawing a time draft on the bank under an acceptance financing line of credit.

Besides letter of credit transactions, incoming or outgoing domestic or international shipments may be discount financed regardless of the background payment method established between buyers and sellers. The financing bank need not hold the discounted acceptance within its portfolio (bank's own acceptances purchased) but rediscount the acceptance to a dealer or investor in the market. The bank also anticipates that the rediscount rate would be equal or better than the rate quoted. Thus, bankers' acceptances enable a bank to close the finance loop by receiving immediate funding.

The creation of "eligible" bankers' acceptances is governed by Federal Regulation, and must meet various requirements summarized as follows:

• Maximum tenor (maturity) is 180 days.
• Domestic shipments must travel a minimum of 25 miles or across state lines.
• Must be used to finance a "current" shipment (goods that are still in the shipping cycle, and have not "come to rest" as a part of inventory for more than 30 days). Drafts must be created no more than 30 days prior to shipment, and cannot mature more than 30 days after delivery to their final destination with a maximum maturity of 180 days.
• No more than one financing of a specific shipment can be in place at any one time. For example, an importer of goods owes $250,000 to their overseas supplier. The importer obtains financing under a bankers' acceptance. The importer must use the proceeds to pay the supplier. The importer cannot use the funds for another purpose, and still keep the $250,000 account payable open.
  

Edited by Michael Dennis, author of "Credit and Collection Handbook" available at the NACM Bookstore.