Trade finance and working capital finance are easy to confuse, because both put cash into a business at the point it is needed. The difference is what they fund and when. Trade finance is tied to a specific transaction, usually an import or export order, while working capital finance keeps the whole operation liquid from day to day. This guide explains each, how they compare, and where each tends to fit, for importers and growing businesses. It is part of our wider guide to business finance and currency. Medlock & Thames is a finance broker and a currency broker, so this is general information rather than advice or a recommendation of a particular facility.
What is trade finance?
Trade finance is funding tied to a specific trade transaction, designed to bridge the gap between placing an order and receiving payment for the goods. It includes letters of credit, which give an overseas supplier the assurance of payment once agreed conditions are met, stock or inventory finance, which funds goods while they sit in transit or storage, and supply chain facilities that support the wider chain of buyers and suppliers. Because it is built around international trade, it is most relevant to businesses importing or exporting, where the supplier wants certainty of payment and the buyer needs time to sell the goods before the cash comes back.
What is working capital finance?
Working capital finance funds the ongoing gap between money going out and money coming in, rather than a single deal. It covers facilities such as invoice finance, overdraft replacements, revolving credit lines and revenue based lending. The purpose is to keep the operation moving while receivables catch up, covering payroll, suppliers and seasonal swings. It is not tied to one transaction, so it flexes with the rhythm of the business as a whole.
How do trade finance and working capital finance compare?
They differ on four points that tend to decide which fits. On purpose, trade finance funds a specific order, while working capital finance funds general liquidity. On what secures it, trade finance is often supported by the goods or the underlying transaction, whereas working capital finance is commonly secured against the sales ledger or revenue. On duration, trade finance usually runs for the length of a single trade cycle and then closes, while working capital finance tends to revolve and stay in place. And on what triggers it, trade finance starts with a particular order, whereas working capital finance is there to be drawn whenever the everyday gap appears. In short, one finances a deal, the other finances the business.
When does trade finance tend to fit?
Trade finance comes into its own when a business places a large order it must pay for before it can sell the goods on. An importer buying stock from an overseas supplier, who wants payment up front or on shipment, can use a letter of credit to reassure the supplier and stock finance to fund the goods until they are sold. The facility opens for the transaction and closes when it completes, so the cost is tied to that specific deal rather than carried continuously.
When does working capital finance tend to fit?
Working capital finance fits the everyday gap rather than a one off order. A business with long customer payment terms, seasonal peaks, or steady growth that keeps outrunning its cash often uses it to smooth the operation, meet payroll and pay suppliers on time. Because it revolves, it suits a recurring need rather than a single event, and it can sit alongside trade finance rather than replacing it.
Can a business use both?
Often, yes. A common pattern is a revolving working capital facility for day to day liquidity, with trade finance opened for specific import orders as they arise. The two address different needs and can complement each other, which is one reason placing a requirement across a panel of lenders helps, because the right answer is sometimes a combination rather than a single product. The structure is a matter for the business and the lender.
Where does currency come in?
Trade finance is inherently cross border, so currency is rarely far away. The facility funds the payment to an overseas supplier, but the cost of that payment in pounds still depends on the exchange rate at the time. Financing the order solves the timing; it does not fix the currency. A business can fund the purchase and separately fix the rate on the supplier payment, so the sterling cost is known when the order is placed rather than discovered when it settles. We explain the currency side in FX hedging for finance directors and how a rate is fixed in how a forward contract works.
According to Medlock & Thames
In our experience, importers most often ask for trade finance and stop there, treating the supplier payment as a fixed number when it is really a moving one until the currency is converted. The order is funded, but the cost in pounds is still open to the market. The businesses that come out ahead are the ones that lock the funding and the rate together, so the margin they planned on the deal is the margin they actually keep.
Frequently asked questions
Which is cheaper, trade finance or working capital finance?
They are not directly comparable, because they fund different things. The cost of each depends on the lender, the structure, the security and the risk involved, so the useful question is which fits the need rather than which carries the lower headline rate. Placing the requirement across a panel of lenders lets the terms be compared properly.
Is a letter of credit the same as trade finance?
A letter of credit is one instrument within trade finance, not the whole of it. It is a guarantee of payment to a supplier once agreed conditions are met. Trade finance also covers stock finance, supply chain facilities and other tools that support a trade transaction.
Can a smaller importer use trade finance?
Yes, subject to the lender's criteria and the nature of the transaction. Trade finance is not only for large corporates, and a panel of lenders means facilities can be matched to smaller import orders as well as larger ones.
Does Medlock & Thames lend or advise?
Neither. Medlock & Thames is a finance broker that places your requirement across a panel of lenders, and the facility is provided by the lender. We explain how the options work but do not provide regulated financial advice, so the decision rests with you and the lender.
Related articles
This guide is part of our Business Finance series. For the overview, read our guide to business finance and currency. For one of the most common working capital tools, see invoice finance explained. For the currency side, read FX hedging for finance directors and how a forward contract works. To speak to a dealer, visit our business finance page.
