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LETTER OF CREDIT Kunal Soni K3901

Methods of Payment

Methods of Payment

Cash in Advance
Letters of Credit
L /C

Documentary Collection
Sight/Time Drafts aka D/P, D/A

Open Account
Risk mitigation:
Export Credit Insurance Standby L/Cs

Cash in Advance
Importer pays Exporter prior to shipment

Goods

Exporter

Importer

Exporter has no risk of non-payment or non-acceptance Importer has risk that exporter will not ship the goods as ordered Used occasionally for small amounts, new customers, one-time sales

Letters of Credit
Protects the interests of both the Importer and the Exporter

L/C

Exporter is assured payment provided terms of L/C are met Importer is assured terms of L/C have been met before she is required to pay Used for larger amounts, higher credit risks, sometimes mandated

Documentary Collections
Exporter routes documents through banking channels, where they are held for payment or acceptance
Exporter Exporters Bank Importers Bank Importer

Goods

Less costly than a L/C and avoids tying up Importers line of credit Average of 2 - 4 weeks for exporter to collect on a sight draft Consignment Issues Used for lower risk customers

Open Account
Exporter ships goods and bills the importer for payment at sight or at a future date

Invoice Goods

net 30

Importer has use of funds, no product risk Exporter has risk of non-payment Risk can be shifted through credit insurance, standby L/Cs Used for well-established customers with good credit

Letters of Credit

Types of Letters of Credit


Trade

Import Export
Standby

Definition of a Trade Letter of Credit

A letter addressed to a beneficiary (exporter) by a bank (issuing bank) wherein the bank undertakes, on behalf of an applicant (importer) to effect payment to the beneficiary for merchandise shipped or services performed provided that the beneficiary presents the required documents in compliance with the terms of the letter of credit

Documents Common to an Export L/C


Commercial Invoice Packing List Bills of Lading Certificate of Origin Other Certificates: Quality, Inspection Beneficiary Statements

1. Importer and Exporter enter into a sales agreement


Exporter
Agreement

Importer

2. Importer applies for a letter of credit with the Issuing Bank


Importer

Application

Issuing Bank

3. Issuing Bank advises the letter of credit to HDFC Bank, usually via SWIFT

L/C

SWIFT
Letter of Credit

HDFC

Bank

Issuing Bank

and advises L/C to Beneficiary

Beneficiary

HDFC. Bank

5. Exporter prepares the documents and ships the goods


Goods
Exporter Importer

Goods

6.

Exporter sends shipping documents to HDFC Bank for examination

Exporter

Documents

U.S. Bank

FBM

7.

pays exporter by debiting Issuing Banks account or upon receipt of funds from a separate reimbursing bank. Documents sent to Issuing Bank.

Assuming clean documents,HDFC Bank

Exporter

HDFC Bank

Documents

Issuing Bank

8.

Issuing Bank examines documents and delivers to importer against payment. Importer takes possession of goods by presenting documents.
Importer

Documents

Goods

Issuing Bank

9. The exporter has been paid, the importer has their goods, the banks have been reimbursed, and the cycle is complete!
Goods
Exporter Agreement
Importer

Documents

Letter of Credit

Application

Documents

HDFC Bank

Letter of Credit Documents

Issuing Bank

Special Uses of Letters of Credit

Bankers Acceptances

On a time draft, the bank on whom the draft is drawn commits to pay the face amount at maturity by stamping Accepted across the draft . If the exporter wishes early payment, the accepting bank may discount the draft and pay the exporter at sight. HDFC Bank can offer you very competitive rates for BAs if the draft is drawn on us!

Standby Letter of Credit


Standby L/Cs are an irrevocable commitment issued by a bank for a stated time period to pay a beneficiary a stated amount of money
upon presentation of specified documents stating that the applicant did not fulfill their contractual obligations.

Transferable

Letters of Credit

Often used by an export intermediary to pay a vendor or producer The L/C may be transferred only once, but there may be several partial transferees Vendor controls presentation of documents to bank
Intermediary may substitute his own invoice and draft, but it still may be difficult for the vendor and buyer to remain unknown to each other

Assignment

of Proceeds

Similar to Transferable L/C in that it is commonly used by an export intermediary to pay a producer or vendor Intermediary (beneficiary) controls document presentation, not the vendor, allowing him/her to keep information on the vendor out of the paperwork Vendor relies on intermediary for proper presentation / performance under the terms of the L/C before funds will be remitted to them

Confirmations of Export Letters of Credit

Confirmed - A second bank, usually in the exporters country, guarantees the obligation of the issuing bank, providing an extra layer of protection - especially important if the country or the issuing bank is considered risky.

More on Confirmations ...

Gives the greatest degree of payment protection and an immediate payment source, provided the documents are clean. Added cost, normally to the exporter.

Exporter must instruct the importer to have the L/C issued with a request for confirmation.

The confirming bank makes a credit decision based on the credit of the issuing bank and the country risk. Approval will depend also on availability under an established line of credit.

Adding a confirmation or engagement to purchase documents:


Goods
Exporter Agreement Importer

Letter of Credit Documents

Application

Documents

Advising Bank Confirm. Bank

Letter of Credit

Issuing Bank

Documents

Benefits of Letters of Credit


To the Exporter: To the Importer:

Payment protection Reliance on issuing banks credit rather than buyers Rapid, local source of repayment, if payable at a U.S. bank

Documentary evidence that the ordered goods have been shipped on time Assurance that necessary clearance documents will be provided Payment deferred until goods are shipped and documents presented (use of funds)

Thank You
Kunal Soni, ABC