All the tools and resources you need to export your goods across the world
To succeed in today’s global marketplace and win sales against foreign competitors, exporters must offer their customers attractive sales terms supported by appropriate payment methods. Because getting paid in full and on time is the ultimate goal for each export sale, an appropriate payment method must be chosen carefully to minimize the payment risk while also accommodating the needs of the buyer.
With cash-in-advance payment terms, the exporter can avoid credit risk because payment is received before the ownership of the goods is transferred. Wire transfers and credit cards are the most commonly used cash-in-advance options available to exporters. However, requiring payment in advance is the least attractive option for the buyer, because it creates cash-flow problems. Foreign buyers are also concerned that the goods may not be sent if payment is made in advance. Thus, exporters who insist on this payment method as their sole manner of doing business may lose to competitors who offer more attractive payment terms.
Letters of credit (LCs) are one of the most secure instruments available to international traders. An LC is a commitment by a bank on behalf of the buyer that payment will be made to the exporter, provided that the terms and conditions stated in the LC have been met, as verified through the presentation of all required documents. The buyer pays his or her bank to render this service. An LC is useful when reliable credit information about a foreign buyer is difficult to obtain, but the exporter is satisfied with the creditworthiness of the buyer’s foreign bank. An LC also protects the buyer because no payment obligation arises until the goods have been shipped or delivered as promised.
Types of Letter of Credit
There are various types of Letter of Credit used in international transactions.
DA (Usance) or DP LC - A DA LC is a type of letter of credit wherein the payment is to be made on the maturity date in terms of the credit. The documents of title to goods are delivered to the buyer merely on acceptance of documents for payment. The buyer would then make the payment on the due date of the maturity of the LC. DP LCs are types of letter of credit wherein payment is made against documents on presentation.
Irrevocable & Revocable LC - Irrevocable letter of credit is a type of LC which can be cancelled or amended only with consent of the beneficiary, applicant and confirming bank. A revocable LC can be cancelled or amended at any time without prior intimation to the beneficiary. LCs are normally irrevocable.
LC With or Without Recourse - If the beneficiary holds itself liable to the holder of the bill if dishonored, then the LC is considered with recourse. Where the beneficiary doesn’t hold itself liable, the credit is said to be without-recourse.
Restricted LC - A restricted LC is one wherein a specific bank is designated to pay, accept or negotiate the LC.
Confirmed LC - A confirmed LC is a type of letter of credit in which the advising bank at the request of the issuing bank adds confirmation that payment will be made. The confirming bank’s liability is similar to the issuing bank. The confirming bank has to honor the payment if tendered by the beneficiary.
Transferable LC - If a LC can be transferred by the beneficiary in whole or in part to a second beneficiary (usually a supplier to the seller) then the LC is a transferable LC. The 2nd beneficiary however, cannot transfer the LC further.
Back to Back LC - In a back to back LC, a 2nd LC is opened by the original beneficiary in favor of the 2nd beneficiary against the security of the original LC. A back to back LC is usually opened for suppliers.
Standby LC - A standby LC is similar to performance bond or guarantee, but issued in the form of a LC. The beneficiary of a standby LC can submit a claim by means of documentary evidence, as stipulated in the LC document.
Revolving LC: In a revolving LC, the applicant would be allowed to use the LC facility again based on drawings made and payment made against the LCs.
Steps in Obtaining L/C
A documentary collection (D/C) is a transaction whereby the exporter entrusts the collection of a payment to the remitting bank (exporter’s bank), which sends documents to a collecting bank (importer’s bank), along with instructions for payment. Funds are received from the importer and remitted to the exporter through the banks involved in the collection in exchange for those documents. D/Cs involve using a draft that requires the importer to pay the face amount either at sight (document against payment) or on a specified date (document against acceptance). The draft gives instructions that specify the documents required for the transfer of title to the goods. Although banks do act as facilitators for their clients, D/Cs offer no verification process and limited recourse in the event of non-payment. Drafts are generally less expensive than LCs.
Documentary sight collection
The importer pays the exporter after the exporter ships the goods.
The importer needs the shipping documents to clear goods on arrival. The bank holds the documents until the importer pays for the goods.
This is called a "sight" payment, sometimes known as "Documents against Payment" or "D/P".
Air freight companies usually release goods to the importer immediately, even though they may not have paid.
Documentary term collection
The importer pays the exporter after the exporter ships the goods.
The importer needs the shipping documents to clear goods on arrival. The bank holds the documents until the importer undertakes to pay for the goods at a later date.
This is called a "term" payment, sometimes known a "Documents against Acceptance" or "D/A".
An open account transaction is a sale where the goods are shipped and delivered before payment is due, which is usually in 30 to 90 days. Obviously, this option is the most advantageous option to the importer in terms of cash flow and cost, but it is consequently the highest risk option for an exporter. Because of intense competition in export markets, foreign buyers often press exporters for open account terms since the extension of credit by the seller to the buyer is more common abroad. Therefore, exporters who are reluctant to extend credit may lose a sale to their competitors. However, the exporter can offer competitive open account terms while substantially mitigating the risk of non-payment by using of one or more of the appropriate trade finance techniques, such as export credit insurance.
|Cash in Advance||Open Account||Documentary Collections||Letter of Credit|
|Time of Payment||Payment received prior to the transfer of ownership of the goods||Goods are shipped and delivered 30-90 days before payment is due||Funds are received from importer upon collection of documents from exporter's bank||When all terms and conditions, as verified by the presentation of documents , have been met|
|Goods available to Buyer||After payment||After payment||After payment||Before payment|
|Risk to Exporter||None||Very little to none||Disposal of unpaid goods||Relies on buyer to pay as agreed upon|
|Risk to Importer||Relies on exporter to ship goods as ordered||Relies on exporter to ship goods as agreed||Relies on exporter to ship goods as described in documents||None|
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