 Trade

credit is the credit extended by one business firm to another as incidental to sale or purchase of goods and services.  It is also known as mercantile credit.
DEFINITION- it may be defined as credit extended by sellers to buyers at all levels of the production and distribution process down to the seller.

 It

does not include consumer credit or installment credit,  Arises out of transfer of goods,  Is unsecured,  Granted for periods ranging from 15 days to 3 months,  Buying firm receives supplies without paying immediately.

 Reflects

the buyer’s power to purchase now and pay later,  Indicates the seller’s faith in the buyer,  Is available in the ordinary course of business,  No securities required for getting trade credit.



and co. purchases goods on credit from B and co. for Rs. 50000 on 3 months credit. This means A and co. requirement for working capital for 3 months is reduced to the extent of Rs. 50000. additional credit can be generated by increasing purchase volume and extending the credit period.

The amount and terms of credit available depends on :
       

Due date(net date), Cash discount, Financial strength, Goodwill of the buyer, Custom of trade, Financial resources of the supplier, Amt and frequency of purchases, Nature of products.


Trade credit insurance protects against non-payments of receivables by the customers due to insolvency, creditors protection arrangement, or protracted defaults. In case of export sales, the insurance can protect against non-payment due to certain political events beyond the customers control. Trade credit is not for corporations that have poor credit management or are seeking high levels of bad debt to an insurer. It compliments credit management and can add significant resources and intelligence to prevent losses and aid decision-making through access to insurer’s buyers database.


Borrowing from commercial banks represents the traditional channel of acquiring funds. The financial institutions may not be accurately able to evaluate the risk associated with lending to businesses, especially small and mid – sized. On the other hand, suppliers may be better placed to understand the dynamics of business, evaluate and control the credit risk of their buyers. Trade credit creates a win – win proposition for both – buyers and suppliers. While buyers have the advantages, suppliers also have assured buyers for their products.


Net 30 accounts  Net 10 accounts

These net terms specify payment is expected to be made in full 30(net 30) or 10(net 10) days after the goods are delivered to the retailer. Some vendors offer cash discounts and the retailer may notice the notation "1/10, Net 30" on their invoice. This refers to a 1% discount to the retailer if payment is received within 10 days of the delivery of goods, and full payment is expected within 30 days. If an invoice is $5000 and "1/10 Net 30" is noted, the retailer can take a 1% discount ($5000 x .01 = $50) and make a payment of $4950 within 10 days.

 Simple,  Convenient

method of raising short term

finance,  No formalities involved,  Credit readily available to reputed firms,  Flexible source,  Economical than bank loans.  Second most liquid asset after cash.

 Prices

charged for credit sales are usually

higher,  Supplier has to bear a loss of bad debts,  Supplier has to bear cost of administering credit accounts,  Requires a large working capital to supply goods on credit.  Buyer looses cash discounts.


Letter of Credit often termed as Documentary Credit (DC) is an instrument issued by a financial institution mostly a Bank on behalf of its client (Buyer/Importer) to provide an irrevocable guarantee to the beneficiary of LC (Seller/Exporter) against the complying documents as stated. It is the most secured form of instrument for trade transaction of both domestic and foreign in nature. LC is a trade credit mechanism through which the importer/buyers provide secure terms of payment to seller/exporter. In lay man term it an indemnity issued by the bank on behalf of its customer to act upon in the event of his default.


BASIC DOCUMENTS IN LC  Commercial Invoice : This is the most

essential document requested in the LC. This instrument made by the seller/exporter of the goods and contains details of goods (Quantity, amount and total price), details of buyer and taxes as applicable.

Transportation document : This is an instrument

that transfers the ownership of goods and is a mandatory document. This is a document issued by the agency responsible for carrying the goods from buyer to seller. In case the goods are send through sea the transportation document would be Bill of Lading , in case of air it would be Air Way Bill and in case of by road it would be Lorry receipt.

 Insurance

Document: Insurance document is

the insurance policy of the goods, securing both the buyer as well as seller from the losses to the goods on account of transit or natural hazard.
 Certificate

of Origin : This is a certificate which

informs as to from where the goods are being originally shipped and also mentions the destination as well.

This instrument is generally asked in case of foreign transaction, whereby it is not feasible for the buyer to inspect the goods at the site before they are shipped. In this case the buyer allocate this responsibility to a local inspection agency and in turn asks for a certificate issued by them to be part of document of LC, to ensure that the goods being shipped are as per his needs and specifications.



Irrevocable LC : An irrevocable LC is the one in which

the terms and condition cannot be changed without the consent of both the parties i.e. buyer and seller. Almost all trade transaction are done through this form of LC as it secure both the buyer and supplier

Revocable LC: In contrary to irrevocable LC the
contents of this form of LC can be easily change on the request of the applicant.

Sight LC : This LC means that the payment to the
beneficiary is to made immediately on the day of presentation of correct documents in due course of time.

 Usance LC : This LC means that the payment of the LC would be made on a day as stated in the LC . Such an instrument is used when the seller wants to offer some credit period to his client along with an interest to assure his payments.


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