288 Corporate Finance
amount of money only to or to the order of a certain person or to the bearer of the instrument. The maker of
the bill is the drawer and the person on whose name the bill is drawn is the drawee, who has to discharge his
liability under the bill.
Demand/Usuance Bills Bills are mainly of two types, namely, demand and usuance. Demand bills are
payable at sight and usuance bills are payable after a certain period. Other forms of lending cash credit are
documentary/clean bills, which provide for an advance against bills, commercial paper, short-term loans,
FCNR(B) loans, export finance, advances against receivable from government, etc.
Non-fund Based
Letters of credit and bank guarantees are the two ways that a bank offers non-fund based credit facilities
to banks.
(b) Letters of Credit
It is a banker’s undertaking on behalf of a constituent to pay to a third party against compliance of stipulated
conditions. A letter of credit (L/C) facilitates settlement of trade payments and is used for both local and
international trade. The seller is promised payments in his own country and the buyer is assured that the seller
makes the payment against submission of universally acceptable title to goods.
Types of Letters of Credit
Revocable Letter of Credit It is a credit that can be revoked. That is, cancelled or amended by the bank
issuing the credit; without the notice of other parties. A revocable letter of credit is rarely used.
Irrevocable Letter of Credit It is a firm undertaking on the part of the issuing bank and cannot be cancelled
or amended without the consent of the parties to the L/C, particularly the beneficiary.
Confirmed Letter of Credit It is an L/C to which another bank has added its confirmation or guarantee.
Thus, there is a double guarantee in such credit and it is more favorable to the beneficiary.
Sight Credit and Acceptance Credit It is a demand draft drawn by the exporter, and paid on presentation to
the negotiating bank—provided all the terms of the credit have been strictly adhered to. In case of an acceptance
credit, drafts are drawn on the issuing bank or the correspondent bank at a specific usuance period.
Red Clause Letter of Credit It is also called countervailing credit. When an L/C is opened with the security
of another L/C, the credit thus opened is called ‘back-to-back letter of credit’. The practical purpose is that
when an L/C is opened by the ultimate buyer in favor of a particular beneficiary who may or may not be the
actual supplier or manufacturer, the beneficiary may open another L/C with near identical terms in favor of
the actual supplier/manufacturer offering the main credit opened in his favor, as security and will be able to
obtain reimbursement by presenting the documents received under back-to-back credit under the main L/C.
Transferable Letter of Credit The original beneficiary in favor of a second beneficiary or several second
beneficiaries can transfer this type of credit.