INTERNATIONAL TRADE

FINANCE
• Topics to be Discussed in Chapter
– Letter of Credit
• Uniform Customary and Practices for Documentary Credits
– Standby Letters of Credit
– Alternative Methods of Guaranteeing Performance
– Alternative Methods of Financing
• Seller
• Buyer
• Government Programs
 LETTERS OF CREDIT
• Letters of Credit a commercial bank
guarantee of either payment by the buyer or
performance by the seller.
– Purposes
• Guarantees payment by the buyer (letter of credit) or
to guarantee performance by seller (standby letter of
credit.
• Once letter of credit is issued, the seller can use
instrument to finance production of goods.
 LETTERS OF CREDIT
• Functions of Letters of Credit
– Payment Instrument
• In absence of letter of credit, sight or time drafts used. No
Guarantee of Payment.
– Letters of Credit Involves Bank in Transaction.
– Performance Guarantee
• In Documentary Transaction no guarantee of performance.
– Payment by bank would not be released until goods and
document conforms to specifications on letter of credit.
– Finance Instrument
• Seller can use letter of credit as collateral to finance
production and exportation of good.
 LETTERS OF CREDIT
• Types of Letters of Credit
– Irrevocable Letter of Credit-bank cannot revoke letter
of credit. To change letter of credit, must get written
agreement.
• Most Popular in International Commercial Transaction
– Revocable Letter of Credit-bank can revoke letter of
credit.
• Very Seldom Used.
 LETTERS OF CREDIT
• Letter of Credit Transaction
• After formation of contract, buyer arranges for bank to open
letter of credit.
• Buyer’s bank prepares irrevocable letter of credit.
• Buyer’s bank sends irrevocable letter of credit to a US bank for
confirmation.
• US bank prepares a letter of confirmation to exporter along with
irrevocable letter of credit
• Exporter arranges for freight forwarded to deliver goods. Freight
Forwarder prepares documents.
• Exporter presents document to Bank indicating full compliance.
Bank bound by “rule of strict compliance”
• Bank reviews documents and authorizes payment
 UNIFORM CUSTOMS AND PRACTICES
FOR DOCUMENTARY CREDITS
• Uniform Customs and Practices for Documentary
Credits are rules and procedure published by
International Chamber of Commerce
– Provisions
• Care should be taken in specifying expiration dates
• The applicant must specify if the letter of credit is transferable.
• The applicant must specify that the letter be confirmed
• The currency of the letter of credit should be designated using
ISO currency code.
• The applicant should designate the nominating bank
 UNIFORM CUSTOMS AND PRACTICES FOR
DOCUMENTARY CREDITS

• Uniform Customs and Practices for Documentary

Credits-provisions continued.
– Applicant must specify clearly whether the letter of
credit will be available for partial shipment.
– The letter of credit should provide transport details
– Under “rule of strict compliance”, banks are authorized
to reject documents if there are any discrepancies.
• Facial Compliance Rule-bank only required to review
documents.
• Banks are not required to investigate trade customs or usage
 UNIFORM CUSTOMS AND PRACTICES
FOR DOCUMENTARY CREDITS
• Uniform Customs and Practices for Documentary
Credits-provisions continued
– Description of the Goods should be clear and brief as
possible.
– In the listing of documents, should list the contents of
each document.
– Transportation Documents must be clear.
– Insurance Documents must be clear.
– Time periods for presentation of documents must be
specified.
– Title of Letter of Credit should specify irrevocable.
STANBY LETTER OF CREDIT
• Standby Letter of Credit is a letter of credit
that represents an obligation to the
beneficiary on the part of the issuer
– International Standby Practices
– Standby Letters of Credit secures contractual
obligations in construction contracts, service
contracts, warranties, counter-trade trade
obligations, secures international loans and
supplies.
 ALTERNATIVE METHODS OF
GUARANTEEING PERFORMANCE

• Alternative Methods of Guaranteeing

Performance
– Types
• Performance Bond-a guarantee from an insurance
company to pay insured in case of default.
• Bid Bond-insure against the risk that a bidder may
not honor its bid.
• Credit Surety-guarantees the repayment to a bank or
lender who finances an export transaction or
development project. Exim Bank of World Bank
 ALTERNATIVE METHODS OF
GUARANTEEING PERFORMANCE

• Types-Continued
– Retention Fund-in large or government
projects, a percentage is deducted from each
payment due to the supplier or contractor and is
retained in a fund pending completion of
project.
– Demand Guarantee secures performance of a
non-monetary obligation.
 SOURCES OF TRADE
FINANCE
• Commercial Banks
– Export Financing
• Borrowing against trade documents
• Factoring-exporter transfers title to its account receivable to a
factoring company at a discount.
• Forfaithing-selling at a discount, of longer term receivables or
promissory notes to a foreign buyer.
• Transferable Credit-suppliers accept part of the letter of credit
that seller receives from buyer in export transaction.
• Back to Back Letter of Credit-buyer makes arrangements with
third bank to make loan.
 SOURCES OF TRADE FINANCE

• Government Assistance Programs

– Eximbank in United States-
– Arranges loans, guarantees, working capital and insurance
– Foreign Corporation Insurance Agency
– Protects against default on exports sold under open
accounts
– Overseas Private Insurance Corporation
– Offers performance bonds
– Small Business Administration
– Revolving line of credit