ROLE OF

LETTER OF CREDIT
IN INTERNATIONAL TRADE FINANCE

Prepared By

Muhammad Yasir
MTO (HR) National Bank of Pakistan

What is a Letter of Credit?
• Document and undertaking issued by a bank • At the request of the applicant (buyer, importer) • In favor of a beneficiary (seller, exporter) • Substitutes the bank’s name and credit risk for that of the applicant (buyer, importer) • Guarantees payment of a customer’s draft up to a stated amount for a specified period if certain conditions are met

Letter of Credit
Summary of a contract between seller and buyer with the bank(s) as referee.

Governed by UCP 600

WHY HA VE A L ETT ER OF CREDIT?
IF I SHIP GOODS, WILL YOU PAY? IF I PAY, WILL YOU SHIP THE GOODS?

SOLVES ISSUES OF MUTUAL MISTRUST BY USING BANKS AS ARBITERS
NEGOTIATE L/C TERMS BEFORE ENTERING A CONTRACT

TRADE FINANCE IMPORT LETTER OF CREDIT
1) NBP ISSUES ITS LETTER OF CREDIT TO THE EXPORTER’S BANK ABROAD 2) EXPORTER SUBMITS SHIPPING DOCUMENTS TO THE FOREIGN BANK 3) FOREIGN BANK REVIEWS AND SENDS DOCUMENTS TO NBP 4) NBP REVIEWS THE DOCUMENTS AND IF DOCUMENTS COMPLY WITH THE L/C, NBP PAYS THE PROCESS LOOKS LIKE THIS. . . . . . . . . . . . . . .

LETTERS OF CREDIT WHO ARE THE PLAYERS? NBP’s CUSTOMER IMPORTER (Buyer) FGN BANK CUSTOMER EXPORTER (Seller)

CONTRACT

NBP
(ISSUING BANK)

FOREIGN BANK L/C
(ADVISING BANK)
(MAY CONFIRM)

IMPORT L/C PROCESSING DOCUMENT FLOW NBP’s CUSTOMER IMPORTER (Buyer) FGN BANK CUSTOMER EXPORTER (Seller)

CONTRACT

NBP
(ISSUING BANK)

FOREIGN BANK L/C
(ADVISING BANK)

D O C U M E N T S

PAYS

documents

Export Letter of Credit Process
NATIONAL BANK located in the Pakistan
Letter of Credit (Sight/Time) Documents

Application

Documents

Issuing / Opening Bank located overseas

Advising / Confirming Bank Documents
Beneficiary Seller Goods Exporter

L/C

Applicant / Buyer Importer

Contrac t

TRADE FINANCE LETTER OF CREDIT DOCUMENTS
BANKS DO NOT DEAL IN THE MERCHANDISE WHICH THE LETTER OF CREDIT COVERS

BANKS DEAL ONLY IN

THE BANK’S COMMITMENT IN THE LETTER OF CREDIT
THE L/C SAYS WHAT IT MEANS & MEANS WHAT IT SAYS

KEY ELEMENTS
• AMOUNT • EXPIRY • LATEST SHIPMENT DATE • DOCUMENTS REQUIRED

PAYMENT WILL BE MADE ONLY WHEN ALL TERMS AND CONDITIONS ARE MET
RESOLVE UNCLEAR ITEMS PRIOR TO SHIPMENT

THE DOCUMENTS REQUIRED BY THE LETTER OF CREDIT
ALL DOCUMENTS MUST CONFORM TO THE LETTER OF CREDIT AND BE CONSISTENT WITH EACH OTHER THREE FORMS OF DOCUMENTS:

1 2 3

FINANCIAL DOCUMENTS TRANSPORT DOCUMENTS COMMERCIAL DOCUMENTS

1

FINANCIAL DOCUMENTS:
• Bill of Exchange • Promissory Note • Trust Receipt • Delivery Order

2

TRANSPORT DOCUMENTS:
• Bill of Lading • Airway Bill • Air Consignment Note • Postal Parcel Receipt • Truck Receipt • Railway Receipt

INVOICE

PKG. LIST

INSURANCE

ORIGIN CERT.

3

COMMERCIAL DOCUMENTS:
• • • • • • • • COMMERCIAL INVOICE PACKING LIST INSURANCE CERTIFICATE CERTIFICATE OF ORIGIN INSPECTION CERTIFICATE WEIGHT NOTE CERTIFICATE OF ANALYSIS BLACK LIST CERTIFICATE etc.

Importance of L/C for Exporter
• Dependence on Credit worthiness of a bank instead of importer • If the credit is confirmed by a bank in the exporter’s country, the exporter is neither subject to commercial not to country risk • If the credit is irrevocable, it can’t be cancelled without the exporter’s consent and notice of revocation can be rejected by the exporter if received after shipment • The documents and therefore the goods will not be released until payment or commitment to payment is made (In terms of L/C) • Where credit has been allowed the accepted bill of exchange can be used to obtain the finances

Importance of L/C for Importer
• The importer can negotiate better terms as the exporter is assured of payment • Importer is assured that no funds will be released unless title documents and received correct and in order • Protection is provided under UCP for documentary Credit

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