The financial crisis is blocking traditional trade finance channels, straining both cashflow and trading relationships in the textile industry. And it's a problem that is not one-sided, with both retailers and suppliers increasingly checking up on each other's financial health, as Dominique Patton reports.

Chinese garment makers say some customers can no longer provide letters of credit (LC) to guarantee payment, forcing them to ask for large down payments instead. 

"For Eastern Europe, LC payment is not good. It is difficult for them to get LCs," said Luo Bin Hu from Zhejiang Tianma Textile Company. "The banks trusted everybody before, now they trust no-one."

Tight liquidity in financial markets is anyway making LCs more expensive.

A recent survey by the International Monetary Fund (IMF) found that 70% of banks had increased the costs associated with LCs as the spreads expanded.

Meanwhile Chinese banks have become more reluctant to accept LCs from certain countries. JP Morgan says it has seen a strong increase in demand for confirmation of LCs.

"Exporters are increasingly demanding incoming letters of credit be confirmed prior to the loading of goods," said Yung Sheng Lee, head of the bank's trade finance sales for North Asia.

Letters of credit options
The alternatives to LCs are limited.

Hu said he asks for down payments of up to 50% from his customers in Russia and Ukraine.

But this also carries risks. Suit maker Shandong Ruyi group shipped an order to a small British company after receiving a down payment but the customer was unable to pay the rest, said general manager Ben Zhuang.

Other garment makers have had orders cancelled after completing production, according to anecdotal evidence.

Stories like this are making even large producers with trusted customers step up due diligence.

"We always check customers' stock price, sales and performance," said Edward Kang, chief executive of the textile and garment producer Ever-Glory. "But we need to pay more attention to this now."

He stopped doing business with one customer recently after its revenues dropped without the number of suppliers going down too.

Risk consulting firm Kroll is seeing growing business from Chinese firms checking up on the financial health of their buyers.

But the firm is getting even more business from the purchasing side, worried about Chinese suppliers running into cashflow problems and unable to complete an order.

"Companies are under pressure to get products on the shelf. They want to know if suppliers can meet their contractual obligations. And if not, who will be their replacement?" said Violet Ho, Kroll's China managing director.

Supply chain pressure
With an estimated 200,000 textile companies closing down in recent months, the credit crunch has put real pressure on China's previously fast and flexible supply chain. 

"Overall there's a lack of trust in the whole supply chain. We can't trust our customers and our suppliers don't trust us," added Willy Lin, managing director at Hong Kong-based Milo's Knitwear, and chairman of the Hong Kong knitwear manufacturers' association. 

Lin says most Hong Kong-based exporters use the Hong Kong Export Credit Insurance Corporation (HKECIC) to insure their shipments against non-payment. Hong Kong doesn't have an Exim bank.

But the insurance does not offer enough protection in the current environment.

"From the time the customer places an order to the time when the goods are delivered, it could be another six months. If the buyer shuts down in that time, you're stuck with tonnes of raw material," explained Lin.

Hong Kong exporters are now asking HKECIC to cover raw materials too and the organisation is understood to be working on some test cases. 

But this still leaves demand for new trade finance services, says Karl Alomar, chief executive of China Export Finance, a company that pays exporters at the point of shipment and then guarantees up to 120 days credit to buyers.

Later payment terms
Western buyers coping with uncertain economies are pushing for later payment terms and some suppliers faced with lower order volumes are keen to comply, despite being nervous about the risks.

"It's quite a recent phenomenon in textiles. But the reinstatement of tax rebates, the currency issue, the reduction in shipping and fuel costs, have all allowed more room for negotiation on finance," said Alomar.

He counts an increasing number of garment companies among his clients.

"Chinese exporters would love to stick to deposits, with the minimum risk. The reality though is that buyers are not willing to continue paying on those terms. The larger buyers are all demanding credit terms." 

Ho believes however that growing demands and expectations for trade financing services don't match the reality of the current economic environment, caused, after all, by a shortage of credit.

Companies may get round the restrictions on trade financing by simply being more open with each other, though this is hard for many Chinese businesses.

"The idea of due diligence is very foreign. To indicate that you suspect someone's financial stability is an insult. But better transparency about the challenges suppliers are facing might help." 

She added: "Some buyers are thinking outside the box and just need to know what's going on. Maybe they can sweeten the deal, perhaps with a bigger deposit, as long as they know that the cash crisis is short-term." 

Lin also believes that more can be done to remedy the loss of trust.

"We're looking within the industry to see if we can work with trade associations to supply a list of trustworthy suppliers so we slowly go back to the way it was before."

By Dominique Patton.