The Treasurer’s Guide to Trade Finance

Chapter 6 The use of documents in trade

There are a number of different types of

letter of credit:

Terms of payment

ƒ Sight payment.

Under these circumstances, the documents

are exchanged for immediate (sight)

payment. In some cases, payment will be

made against a bill of exchange, although

this will depend on the agreement between

the parties. This provides relative security

of payment for the seller, as long as the

required documents are in order, and

allows the seller to predict the timing of the

collection of payment.

ƒ Payment at term.

Payment will be made at a specified date

in the future. This is usually calculated

from the date the documents are

presented to the issuing bank or the date

on the bill of lading, depending on the

terms on the letter of credit.

ƒ Acceptance.

Payment will be made at a future date, as

described in the L/C, against an accepted

bill of exchange.

ƒ Negotiation.

Payment will be made to the beneficiary

by the seller’s bank when it receives the

appropriate documents from the seller.

However, the bank will be able to charge

the seller interest on the advanced funds

until such time as it receives payment

from the buyer’s bank. Unless the L/C is

confirmed by the seller’s bank, it will also

be able to reclaim funds from the seller

in the event that funds are not received

from the buyer’s bank.

Revocable or irrevocable

Any letter of credit issued under the terms

of UCP 600 (the Uniform Customs and

Practice for Documentary Credits, issued by

the International Chamber of Commerce)

is assumed to be irrevocable. This means

the bank issuing the L/C must pay the seller

according to the terms of the L/C, as long as

the buyer presents the required documents.

Changes can only be made to these terms

with the consent of all participants.

An issuing bank (or the buyer) can

change the terms of a revocable L/C without

the consent of the other party. This clearly

weakens the effect of the guarantee of

payment for the supplier. For this reason

revocable letters of credit are usually only used

between companies within the same group.

Confirmed or unconfirmed

A confirmed letter of credit is one in which

payment is guaranteed by a second bank (i.e.

in addition to the commitment to pay from the

issuing bank). An exporter may ask its bank (or

another bank in its own jurisdiction) to confirm

an L/C, to help to manage the risk of non-

payment by the original issuing bank. This is

most common where the exporter is concerned

over the creditworthiness of the original issuing

bank, or lacks confidence in the ability of the

legal system in the issuing bank’s jurisdiction to

ensure an unconfirmed L/C will be honoured.

The company now has a single central

framework agreement with its bank.

As well as the core products this also

covers contingent liabilities, and offers

standard terms and conditions. The

treasurer no longer has to negotiate

with multiple local banks around the

world. The margin has been agreed

centrally, so any deal is the same,

whether it is initiated in Shanghai or

Singapore.

The bank provides a single consolidated

bank guarantee facility and a personalised

trade finance portal for the company and

its subsidiaries worldwide. As part of the

move, the company has created a new

trade finance support organisation, with

national co-ordinators in major countries

and a central desk assisting smaller

markets. This is important, because trade

and project finance is tied closely to local

contracts and local businesses.