Hsbc Trade Tutorial Through Copy Paste Method

Courtesy: [email protected] Trade tutorial Introduction To International Trade : As natural resources are unevenly distributed in different countries, a country cannot produce everything it needs. Some countries are good at producing dairy products; some are specialized in iron and steel industries. As a result, a country will buy what it needs from countries that are good at producing them and in return will sell its products to countries who require them. The products will be moved from one country to another by means of aircraft, railways, trucks, ships or a combination of two or more modes of transport. This buying and selling of goods is international trade and is participated in by different parties. The Parties Involved • The Buyer, who places orders and imports goods (meaning to bring into the country). • The Seller, who manufactures and exports goods (meaning to ship out of the country) and issues invoices. • The Manufacturer, if the seller does not make his own goods. • The Shipping Company, (or Airline Company) who transport the goods overseas and issue Bills of Lading (or Air Waybills) as receipt of goods. • The Insurance Company which insures the goods against risk. An insurance policy or certificate is issued to this effect. • Governments and Embassies who give permission to import or export specific types of goods by issuing Import and Export Licenses, and Consular Invoices respectively. • The Customs and Excise, who levy import duty and issue Custom’s Invoices. • Various professional bodies, who issue Inspection Certificates certifying that the goods have been inspected and meet certain quality standards. • Lawyers, who draw up contracts of sale. • Agents, who represent either the buyer or seller overseas. • Shipping Registries, who ensure that the carrying ship is seaworthy. • Chambers of Commerce, who issue Certificates of Origin. Banks, who participate in most trade transactions to some extent, from full finance to the processing of simple remittances. Sometimes, alternative names are used instead of the ones we have listed.

Payment Methods There are four main ways for importers to make payment to exporters in international trade: • • •

Advance payment Open account trading Documentary credits

• Documentary collections Advance Payment The buyer agrees a price for goods from an overseas exporter and sends his payment with the firm order i.e. before the goods are shipped:

The importer must be confident of: • •

the reliability of the exporter the stability of the exporter’s country

The risk is borne by the importer. In return the importer may be allowed a discount which is a deduction from the price of goods in consideration of its being paid in advance. This method would be used when: • • •

an importer is unable or unwilling to open a documentary credit an importer has a good cash position and can negotiate a cash discount an individual is buying from a mail order company

Importers can arrange to make advance payment through a bank. Open Account Trading This is basically payment in arrears, the opposite of advance payment and usually covers a regular flow of shipments. The importer usually agrees with the exporter to pay at the end of each month or, say, one month after each shipment. There is usually a long-standing or regular business relationship between the two parties:

The exporter must be confident of: • •

the reliability of the importer the stability of the importer’s country

The risk is borne by the exporter. Governments sometimes support their exporters to protect them against

these risks. Documentary Credit As mentioned in the previous two methods, there are problems of trust and risk for both the buyer and the seller. In fact, trade will be difficult between companies who do not know each other well. Banks act as a trustworthy third party or intermediary between the buyer and the seller. The reasons are: A bank is acceptable to both the buyer and the seller. By issuing a documentary credit, the buyer’s bank guarantees payment to the seller if he presents the correct documents. The buyer has to pay for the documents, but not until his bank receives them. • • •

A bank is a financial institution and therefore has the necessary expertise in handling international trade transactions. A bank is able to supply trade and credit information, which is very important to both buyer and seller. A bank is ready to provide finance to help the buyer and the seller fulfil their commercial obligations.

Documentary credits are covered in detail later. Documentary Collections In the case of a collection, no documentary credit is issued and the bank is not involved in any undertaking to pay the seller. The bank acts as an agent. The collection cycle starts when the seller, having shipped the goods and obtained the necessary documents, presents the documents together with his instructions to his bank (remitting bank). The bank will send these to its branch/correspondent bank (collecting bank) in the buyer’s country for payment. The risk to the importer is little more than in documentary credits: he can inspect the documents before paying for them. The risk to the exporter is much greater because he does not have a bank’s guarantee as in the case of a documentary credit; but he may have control over the goods through the collecting bank. Collections are covered in detail in another session. Government In some developed countries, government or quasi-government organizations are established to help exporters in their export business e.g. Export Credits Guarantee Department (ECGD) in Britain and Export Credit Insurance Corporation (ECIC) in Singapore and Hong Kong.

The primary function is to provide insurance to exporters to cover them against the risks of non-payment they may face when dealing with overseas buyers/countries. For example, the buyer (ie the importer) may refuse to accept the goods and it may then be difficult to dispose of them. Or the importing country may impose import restrictions after the goods have been shipped, so that the importer is unable to pay. The government agency will issue an insurance policy covering the exporter against such risks - this kind of policy can be assigned to a bank will be much happier to finance the export. These organisations also provide the local exporters with trade and credit information on overseas importers and their countries so that they are better informed before they conclude a sales contract with the importer. In carrying out these functions, these organizations are in fact encouraging export business and facilitating international trade. Some countries have schemes designed to assist importers find suitable sources of import commodities from overseas, usually due to trade agreements between particular countries. All governments are keen to increase exports and restrict imports - this is because exports mean that money comes into the country and imports mean that money leaves the country. More and more countries now arrange part of their trade on a “barter” or “counter trade” basis (usually large transactions only) - this means that the two countries exchange goods or services of equivalent value and no money changes hands Finance Often the buyer, or the seller (or manufacturer) will need finance to allow completion of a deal. For example an importer (buyer) may wish to pay for the goods he imports only after he has had a chance to sell some of them. On the other hand the exporter (seller or manufacturer) may need finance to buy the raw materials to produce the goods he is selling. Once the Bank has decided to finance a transaction, it may be able to use the various trade documents that exist in international trade to secure the lending. Banks can finance EXPORTERS by: •

•

PRE-SHIPMENT FINANCE for specific requirements eg Packing Credits, Manufacturing Loans, usually relating to a single order or shipment. These are loans granted to the exporter to enable him to purchase raw materials to manufacture the goods. POST SHIPMENT FINANCE - The Bank may be prepared to PURCHASE or DISCOUNT bills of exchange after shipment but before

•

payment by the importer. This means making an advance to the exporter against the security of the bills representing the goods shipped, pending payment by the importer. Running an OVERDRAFT to cover expenses of any kind.

Banks can finance IMPORTERS by: • •

IMPORT LOANS for specific shipments known as either LOANS AGAINST IMPORTS (LAI) or CLEAN IMPORT LOANS (CIL). running an OVERDRAFT

Later sections cover the types of finance in more detail ICC Rules Documentary credits and collections are processed according to an internationally recognized set of rules. The International Chamber of Commerce (ICC) issues these in booklets from their headquarters in Paris. Publications Numbers 500 and 522 deal with credits and collections respectively. You will notice frequent references to these rules in this program, e.g. ICC 500 Art. 8. Every documentary credit and outward collection should refer to the appropriate ICC Publication signifying that the transaction is subject to the rules of the ICC, so that all parties involved know that the standard international rules are being followed. It is also important to be informed about decisions by the ICC Commission of Banking Practice and Technique on interpretation questions since their opinions could be persuasive in a court of law.

Incoterms When the buyer and the seller conclude a sales contract, they must have agreed upon terms regarding the responsibilities for the costs, insurance and freight covering the goods. These terms have been standardised and are internationally recognised. This avoids misunderstandings when these terms are used; they are known as Incoterms - fully explained in ICC booklet: ICC Incoterms 2000. Normally, the Incoterms will appear on documentary credits and principal documents in standard abbreviation form eg FOB, CIF or CFR. Each shipping term is discussed briefly* below, so you will understand what

each term means, and what obligations it carries. *NB The following is a summary only - for full explanation of the terms, especially for advising customers, please refer to the ICC Incoterms 2000. To start we will list below the 3 most common terms: FOB, CFR and CIF. FREE ON BOARD (FOB) The Seller must deliver goods on board and provide an export license and pay export taxes. The Buyer must contract for carriage, pay freight and pay insurance premium. COST AND FREIGHT (CFR) The Seller must contract for carriage, pay freight to named destination, deliver goods on board and provide buyer with clean on board bill of lading and an invoice, obtain export license and pay export taxes. The Buyer must accept delivery of goods after documents are tendered to him and pay insurance premium. COST, INSURANCE AND FREIGHT (CIF) The Seller must do the same as CFR plus arrangement for insurance of goods, pay insurance premium and provide the buyer with insurance policy. The Buyer must accept delivery of goods on shipment after documents are tendered to him. Listed below are the other Incoterms in order of the exporter's responsibility, where EXW =least responsibility, DDP =most responsibility EX-WORKS (EXW) The Seller must deliver goods at his premises. The Buyer must make all arrangements, at his own cost and risk, to take goods to their destination. FREE CARRIER... AT A NAMED PLACE (FCA) The Seller must provide export license and evidence of delivery of goods to the carrier. The Buyer must contract for carriage, pay freight, nominate carrier and pay

insurance premium. FREE ALONGSIDE SHIP (FAS) The Seller must deliver goods alongside ship, provide an "alongside" receipt. The Buyer must contract for carriage, pay freight, obtain export license, pay any export taxes and insurance premium. FREIGHT/CARRIAGE PAID TO ...(CPT) The Seller must contract for carriage, pay freight to named destination; deliver goods to the carrier, obtain export license and pay any export taxes; provide buyer with invoice and transport documents. The Buyer must after tender of documents, accept delivery of goods when they are delivered to first carrier, arrange and pay insurance premium. FREIGHT/ CARRIAGE & INSURANCE PAID TO ...(CIP) The Seller must do same as CPT plus arrangement of insurance for goods and pay premium, provide buyer with insurance policy. The Buyer must accept delivery of goods after documents are tendered to him. DELIVERED EX-SHIP (DES) The Seller must deliver goods on board at destination; provide buyer with documents for delivery of goods. The Buyer must pay discharge costs, import duties, obtain import license. DELIVERED EX-QUAY (DUTY-PAID) (DEQ) The Seller must make goods available on the quay at destination. Provide buyer with documents to take delivery, obtain import license and pay import duties taxes, unloading costs and insurance. The Buyer must take delivery of goods from the quay. DELIVERED AT FRONTIER (DAF) The Seller must deliver goods to frontier but before the customs border, provide buyer with documents to take delivery.

The Buyer must pay for on-carriage, obtain import license and pay import duties. DELIVERED DUTY UNPAID (DDU) The Seller must obtain import license, arrange and pay insurance, provide documents to buyer to take delivery. The Buyer must take delivery of goods at named destination and pay import duties. DELIVERED DUTY PAID (DDP) The Seller must obtain import license and pay import duties, arrange and pay insurance, provide documents to buyer to take delivery. The Buyer must take delivery of goods at named destination. Documents Almost every party to international trade issues documents. These documents are very important in international trade because they serve as evidence that some actions have been carried out. For example, a Bill of Lading can prove that goods have been shipped on board, an Inspection Certificate can certify that the goods have been inspected and meet certain quality standards. Based on these documents, a seller can prove to the buyer that he has fulfilled his obligations whilst the buyer is assured of his request being carried out by the seller. In brief, the existence of these documents makes international trade possible. These documents may be called for under the terms of a documentary credit, or they may be those which are required for documentary collection. The following is a list of documents often used:

• • • • • •

Air Waybill Bill of Lading Certificate of Origin Combined Transport Document Draft (or Bill of Exchange) Insurance Policy (or Certificate)

•

Packing List/Specification

Air Waybill This is a receipt of goods from an airline company.

Because an air waybill is only a receipt but not a document of title, goods will be delivered to the named consignee without further formality once customs clearance has been obtained. Under a DC the air waybill is usually consigned to the issuing bank; allowing the exporter to maintain control over the goods. In the case of non-DC bills when the exporter wants to retain control of the goods, he will also have them consigned to a bank. Example Of An Air Waybill

The copy marked "Original 3 (For Shipper)" is the copy that would normally be presented under a documentary credit. The principal requirements for an Air Waybill are: •

the correct shipper ("A") and consignee ("B") must be shown

• • • •

•

the airports of departure ("C") and destination ("D") must be shown the goods description ("E") must be consistent with that shown on other documents any weights, measures or shipping marks ("F") must agree with those shown on other documents it must be signed and dated by the actual carrier ("G") or by the named agent of a named carrier it must state whether freight ("H") has been paid or is payable at destination

Bill Of Lading (B/L) This is a receipt given by the shipping company to the shipper for goods accepted for carriage by sea. If in negotiable form it also conveys title to the goods, and the goods will only be released by the shipping company at destination against surrender of a signed original of the bill of lading. It is also evidence for possible insurance claim. It is usually issued in a set of 2 or 3 originals; presentation of 1 original is sufficient to take possession of goods at port of discharge - so, a bank which finances a trade transaction will need to control the complete set. When an original bill of lading is submitted for delivery of goods, the remaining originals become null and void. The bill of lading must be signed by the shipping company or its agent, and must show how many signed originals were issued. It will indicate whether cost of freight/carriage has been paid or not: "FREIGHT PREPAID": paid by the shipper "FREIGHT COLLECT": to be paid by the buyer at the port of discharge The bill of lading also forms the contract of carriage. To be acceptable to the buyer, the B/L should:

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Carry an “On Board” notation to showing the actual date of shipment. (Sometimes, however, the “on board” wording is in small print at the bottom of the B/L, in which case there is no need for a dated “on board” notation to be shown separately with date and signature.)

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Be “clean” i.e. have no notation by the shipping company to the effect that goods/packaging are damaged.

The Parties On A Bill Of Lading The main parties on a bill of lading are: • • •

•

Shipper o the person, usually the exporter, who sends the goods Consignee o the person entitled to take delivery of the goods Notify Party o the person, usually the importer, to whom the shipping company or its agent gives notice of arrival of the goods Carrier o

the person or company who has concluded a contract with the shipper for conveyance of goods

Example Of A Bill Of Lading

The Bill of Lading must meet all the requirements of the credit as well as complying with UCP500. In particular:

• • • • • • • • •

the correct shipper ("A"), consignee ("B") and notify party ("C") must be shown the carrying vessel ("D") and ports of loading ("E") and discharge ("F") must be stated the place of receipt ("G") and place of delivery ("H") must be stated if different from port of loading or port of discharge the goods description ("I") must be consistent with that shown on other documents any weights or measures ("J") must agree with those shown on other documents shipping marks and numbers and/or container numbers ("K") must agree with those shown on other documents it must state whether freight ("L") has been paid or is payable at destination it must be date ("M") on or before the latest date for shipment specified in the credit it must state the actual name of the carrier ("N") or be signed as agents for a named carrier

The Bill of Lading must meet all the requirements of the credit as well as complying with UCP500. In particular: • • • • • • • • •

the correct shipper ("A"), consignee ("B") and notify party ("C") must be shown the carrying vessel ("D") and ports of loading ("E") and discharge ("F") must be stated the place of receipt ("G") and place of delivery ("H") must be stated if different from port of loading or port of discharge the goods description ("I") must be consistent with that shown on other documents any weights or measures ("J") must agree with those shown on other documents shipping marks and numbers and/or container numbers ("K") must agree with those shown on other documents it must state whether freight ("L") has been paid or is payable at destination it must be date ("M") on or before the latest date for shipment specified in the credit it must state the actual name of the carrier ("N") or be signed as agents for a named carrier

Certificate of Origin This is a declaration that goods originated in a particular country. It is always signed (may be signature of selling company official, or of a Chamber of Commerce or other trade organization, or official of importing country specified in DC). Example of a Certificate of Origin

The certificate must provide the information required by the credit and be consistent with all other document. It would normally include:

• • • •

The company name and address as consignor ("A"). Some countries may also require the name and address of the manufacturer if different. The party to whom the goods are addressed, ("B") usually the buyer or the issuing bank. Country of origin of the goods ("C").

•

Optional field which, if completed, must show the details on the transport document ("D"). For example, sea shipments to show carrying vessel, port of loading and port of destination, Package numbers, shipping marks and description of goods ("E") to agree with that on other documents. Any weights or measurements ("F") must agree with those shown on other documents.

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It must be signed ("G") and stamped by the Chamber of Commerce.

The certificate must provide the information required by the credit and be consistent with all other document. It would normally include: •

• • •

• •

The company name and address as consignor ("A"). Some countries may also require the name and address of the manufacturer if different. The party to whom the goods are addressed, ("B") usually the buyer or the issuing bank. Country of origin of the goods ("C"). Optional field which, if completed, must show the details on the transport document ("D"). For example, sea shipments to show carrying vessel, port of loading and port of destination, Package numbers, shipping marks and description of goods ("E") to agree with that on other documents. Any weights or measurements ("F") must agree with those shown on other documents. It must be signed ("G") and stamped by the Chamber of Commerce.

Combined Transport Document This lists the place of receipt, place of delivery and the different modes of transport involved. It is also known as Multimodal Transport Document, Inter-modal Transport Document or Combined Transport Bill of Lading. The contract of carriage is for a combined transport from the place of receipt to the place of delivery. Therefore, it evidences receipt of goods and not shipment on board. It does evidence on board shipment if it complies with ICC 500 Art 26 (a). The liability of the Combined Transport Operator starts at the place of receipt and ends at the place of delivery. The document should be signed, and should show the number of originals in the full set and evidence that transport charges have been paid or prepaid or

payable at destination.

Example of a Combined Transport Document

This is an example of a Multimodal Transport Document. It would normally show: • • • • • •

that the Consignee and Notify Parties ("A") are as the credit the place goods are received, or taken in charge ("B"), and place of final destination ("B") whether freight is prepaid or to be collected ("C") the date of dispatch or taking in charge, and the "On Board" notation, if any, must be dated and signed ("D") how many originals ("E") signature of the carrier, multimodal transport operator or their agents ("F") - the agents must sign and make it clear for whom they are acting

Commercial Invoice This is a statement of goods shipped, and is also a statement of payment due. It describes the goods shipped and lists the price together with details as agreed between the buyer and seller. In documentary credit transactions it must show the description of the goods corresponding with the DC.

Example of a Commercial Invoice

This must include the description of the goods exactly as stated in the

documentary credit. The invoice must: • • • • • • •

•

be issued by the beneficiary ("A") named in the credit (the seller) be addressed to the applicant ("B") of the credit (the buyer) be signed ("C") by the beneficiary (if required) include the description of goods ("D") exactly as detailed in the credit be issued in the stated number of originals (which must be marked "original") and copies include the price ("E") and unit prices ("F") if appropriate state the amount payable ("G") which must not exceed that stated in the credit include the shipping terms ("H")

Draft (or Bill of Exchange) This is a demand for payment issued by the exporter (drawer) to the importer (drawee) - NB in the case of documentary credits the drawee is usually the DC opening bank. Drafts are normally issued in a set of two (... First of Exchange .../... Second of Exchange...) OR singly (... Sola Bill of Exchange ...) The TENOR of a bill shows when it is due to be paid: this is either: • •

at SIGHT or after a fixed TERM or USANCE period

A SIGHT bill/draft is payable when the drawee sees it i.e. on demand, whereas a TERM or USANCE bill/draft is payable at the end of a fixed or determinable period. This period is usually a specified number of days (30, 60, 90 etc.) after either sight or the date of the draft or the date of the bill of lading.

Example of a Draft (or Bill of Exchange) This is an example of a sight Bill of Exchange.

A Bill of Exchange is usually defined as:

• • • • • • •

an unconditional order in writing ("A") addressed by one person ("B") (the drawer) to another ("C") (the drawee) signed by the person giving it ("D") (the drawer) requiring the person to whom it is addressed ("E") to pay on demand, or at a fixed or determinable future time("F") a sum certain in money ("G")

•

to, or to the order of, a specified person or to the bearer ("H") (the payee)

Insurance Policy / Certificate The date on which the insurance becomes effective must be the same as or earlier than the date of issuance of the transport documents. If submitted under a DC, the insured amount must be in the same currency as the credit, and usually for the bill amount plus 10 percent. Insurance Policy This provides actionable evidence of a contract of insurance and shows full details of risks covered. The right to claim from insurers may be assigned by the insured to someone else, usually the overseas buyer or a bank, by endorsement and delivery Insurance Certificate This provides evidence that cover has been taken out under an “open policy” but is not actionable, and only gives brief details of risks covered. Must be countersigned by the insured (exporter for CIF shipments, importer for CFR, FOB etc.) Example of an Insurance Certificate

The requirements for completion of an insurance certificate are as follows: • • •

the name of the party ("A") in whose favour the document has been issued the name of vessel or flight details ("B") the place from where insurance is to commence ("C")- typically the

• • • • • •

sellers warehouse or the port of loading - and the place where insurance ceases - usually the buyer's warehouse or the port of destination insurance value to be that specified in the credit ("D") marks and numbers to agree with those on other documents("E") the description of the goods ("F"), which must be consistent with that in the credit and on the invoice the name and address of the claims settling agent("G"), together with the place where claims are payable countersigned ("H") where necessary date of issue to be no later than the date of transport document ("I"), unless cover is shown to be effective prior to that date.

Packing List / Specification This lists contents of each crate, parcel etc. showing packing materials used and shipping marks placed on the outside. Some include measurements and weight of goods. Example of a Packing List

The packing list must: •

have a description of the goods ("A") consistent with the other documents

•

have details of shipping marks ("B") and numbers consistent with other documents

Collections The concept of collection” as in a Bill for Collection” is a compromise between

two modes of trading, Open Account Trading and Payment in Advance”. Trade settlement by collection Trade settlement by collection reduces: • •

risk to both importer and exporter delay in receipt of payment by exporter

This is because banks are being used as intermediaries to “collect” payment from the importer for goods that the exporter has already sent. The Collection method offers benefits of security and finance. As regards security, the exporter will benefit as, compared to Open Account trading, the collection means that the importer must pay (or promise to pay) before he can take possession of the documents. The importer will benefit as, compared to Advance Payments trading, the collection means that the importer can inspect the documents (but not the goods themselves) before paying for them. As regards finance, Banks are more prepared to finance importers and exporters when they can see what the advance is being used for, and usually charge slightly lower interest rates for Import/Export facilities than for simple overdrafts. This is because import/export transactions cover movement and payment for specific goods and are paid when the buyer pays for the goods. Such transactions are said to be self-liquidating and carry less risk. Banks handle trade bills in two basic forms: • •

bills under Documentary Credits, known as DC BILLS for short collection bills, also known as NON-DC BILLS

Collections are cheaper and simpler for the importer than Documentary Credits: this is because the collecting bank does not have any financial interest or commitment, so there are fewer formalities. An importer will need to have import facilities from his bank if he wants to open Documentary Credits - he does not need any if he imports on a collection basis.

Because of the many different types of goods, transport and documents, and the different requirements of buyers and sellers, there are many alternative ways of handling trade transactions. To help all concerned to understand their position more clearly, the International Chamber of Commerce (ICC) has drawn up rules governing both Documentary Credits and Collections which are followed by almost all countries and banks in the world. For collections they are laid down in: • •

Uniform Rules for Collections ICC Publication No.522

These took effect on 1.1.1996. The Imports/Exports Department should provide copies of ICC 522 for all staff handling collections, and also for any customers who want copies. Clean and Documentary Collections A request for payment can be put forward in different ways - Clean Collection or Documentary Collection. Clean Collection This is a Bill of Exchange/Draft with NO commercial documents attached. The amount of the bill may be: • •

The cost of goods, in which case the documents of title would have been sent direct to the importer The cost of a service, such as the use of a tugboat to bring a ship into harbour, when no documents are required

Ordinary cheques that the bank sends for collection come under this category, and are usually processed by the Remittances Department Documentary Collection This is a Bill of Exchange/Draft with shipping documents etc. The following pages include the document(s) of title (Bill of Lading) which the importer needs to clear the goods with. Documentary Collection without Bill of Exchange This is when there is shipping documents etc but there is no Bill of

Exchange/Draft. Some countries impose stamp duty on Bills of Exchange and this may be avoided by not issuing one! The importer still has to pay against the amount stipulated in the collection order. The importer may have to present a promissory note or post dated cheque in exchange for the documents. Collection order Whichever documents the exporter presents to his bank, he always attaches his instructions on a collection order. These instructions are passed on to the importer telling him how and when to pay. Who is involved? There are a number of different parties involved: • • • •

the Seller/Exporter the Exporter's Bank the Bank in the Importer's Country the Buyer/Importer

Who is involved? There are a number of different parties involved: • • • •

the Seller/Exporter the Exporter's Bank the Bank in the Importer's Country the Buyer/Importer

Exporter's bank The exporter's bank is known as the remitting bank, and they remit the Bill for collection with instructions, What they do is: • •

check that the documents are consistent with each other send the documents to a bank in the buyer's country with instructions on collecting payment

•

pay the exporter when it receives payment from the collecting bank

Bank in importer's country This is a bank in the importer's country: usually a branch or correspondent

bank of the remitting bank but any other bank may be used if the exporter requests it. Known as the collecting/ presenting bank. What they do is: • • •

act as the remitting bank's agent present the bill to the buyer for payment/acceptance release the documents to the buyer when the exporter's instructions have been followed

remit the proceeds of the bill according to the remitting bank's schedule instructions, usually less any charges Buyer / Importer The buyer/importer is known as the drawee (of the Bill). •

What they do is: •

pay the bill (or promises to pay later)

•

take the shipping documents (unless it is a clean bill) and clear his goods

Collection cycle

D/P and D/A terms The exporter will ask the importer to settle the bill in one of two ways, either D/P or D/A.

Documents against payment (D/P) This is sometimes referred to as Cash against Documents/Cash on Delivery. In effect D/P means payable at sight (on demand). The collecting bank hands over the shipping documents only when the importer has paid the bill. The drawee is usually expected to pay within three working days of presentation. This is a sample of 'Release documents against payment'.

Documents against acceptance (D/A) This means that the exporter is allowing credit terms to the importer: the period of credit is the term' of the bill, also known as usance'. The importer/drawee is required to accept the Bill ie to make a signed promise to pay the bill at a set date in the future. When he has signed the bill in acceptance, he can take the documents and clear his goods. The payment date is calculated from the term' of the bill - the term' is usually a multiple of 30 ie 30 days, 60 days, 90 days, 120 days etc and starts either from sight or from the date of shipment, whichever is stated on the bill of exchange. Remember a term bill is not necessarily a D/A bill. This is a sample of 'Release documents against acceptance'

D/P risks Under D/P terms the exporter keeps control of the goods (through the banks) until the importer pays - if the importer cannot pay or refuses to pay, the exporter can: • • •

protest the bill and take him to court (maybe expensive and difficult to control from another country) find another buyer arrange for a sale by auction

With the last two choices, the price obtained may be lower but probably still better than shipping the goods back. Sometimes, the exporter will have a contact or agent in the importer's country that can help with any arrangements: such an agent is often referred to as a case-of-need ie someone who can be contacted in case of need by the collecting bank. If the importer refuses to pay: The collecting bank acts on the exporter's instructions shown in the remitting bank schedule which could include: • •

remove the goods from the port to a warehouse and insure them against fire etc contact the case-of-need' who may negotiate with the importer

protest the bill through the bank’s lawyer D/A risks Under D/A terms the importer can inspect the documents and, if he is satisfied, accept the bill for payment on the due date, take the documents and •

clear the goods: the exporter loses control of them. The exporter runs various risks:

•

the importer might refuse to pay on the due date because: o he finds that the goods are not what he ordered o he has not been able to sell the goods o he is prepared to cheat the exporter

In these cases the exporter can protest the bill and take the importer to court but this can be expensive. •

the importer might have gone bankrupt, in which case the exporter will probably never get his money

Usance D/P Bills A Usance D/P Bill is an arrangement where the buyer accepts the bill payable at a specified future date but does not receive the documents until he has actually paid for them. The reason is that airmailed documents may arrive much earlier than the goods shipped by sea. The buyer is not obliged to pay the bill before its due date, but he may want to do so if the ship arrives before that date. This mode of payment is less usual but offers one more settlement possibility. Remember that these are still D/P terms so there is no extra risk to the exporter or his bank. As an alternative the covering schedule may simply allow acceptance or payment to be deferred awaiting arrival of carrying vessel. There are different types of usance DP bills, some of which do not require acceptance eg those drawn payable at a fixed period after date or drawn payable at a fixed date. Bills requiring acceptance are those drawn at a fixed period after sight, which is necessary to establish the maturity date. If there are problems regarding storage of goods under a Usance D/P bill, the collecting bank should notify the remitting bank without delay for instructions. It should be noted however that the collecting bank does not have to do everything the remitting bank’s schedule says. This is a sample of 'Release documents against payment' or 'payment may

await arrival of carrying vessel'.

How to complete a Collection Order There are three main parties: The drawer, who is the exporter. The consignee, who is the importer or his agent or the collecting bank to whom the goods are to be delivered. (Especially when the goods are airfreighted or airmailed as an air waybill or parcel post receipt is only a receipt and not a document of title and the goods will be delivered to the named consignee.) The drawee (if not consignee), who is the importer (completed where the consignee is the collecting Bank). This is a sample of part of a collection a collection order, showing the names and addresses required.

Instructions found on a Collection Order These are so examples of some of the terms that can be found on a Collection Order. •

Release documents against PAYMENT =D/P

•

Release documents against ACCEPTANCE = D/A o must agree with anything noted under Payment Terms

•

ACCEPTANCE/PAYMENT may await arrival of carrying vessel o an optional clause: if the vessel is likely to arrive a long time after the documents, the exporter may allow the importer to defer payment/acceptance of the bill until the arrival of the vessel

•

CABLE or AIRMAIL o Method of advice re Non-payment and/or Non-acceptance o If neither is specified the collecting bank would normally advise non-payment/ non-acceptance by cable.

•

PROTEST or DO NOT PROTEST for Non-acceptance and/or Nonpayment o Protest is the first step before taking the importer to court for refusing the bill: the Collecting Bank requests its lawyer to demand the importer’s payment/ acceptance or his reasons for

o

refusal. NOTE: if NOT specified the collecting bank will NOT protest.

•

IN CASE OF NEED... o The exporter may have an agent in the importer’s country that can help protect his interests: any special authority that the agent has must be detailed here.

•

STORE AND INSURE GOODS o If there is any delay in payment, the goods may begin to incur demurrage. It is cheaper to warehouse the goods outside the port; new insurance will be needed (for fire risks etc.) as freight insurance usually ends when the goods leave the port of arrival.

•

COLLECT overseas charges from the DRAWEES

•

DEDUCT charges from the PROCEEDS o If neither is specified the Collecting bank will normally DEDUCT - the exporter should be made aware of this.

•

Collect interest o If the exporter allows D/A terms he may want to collect interest from the importer in this way; it is easier and more common to increase the unit price instead.

•

WAIVE (interest and/or collection charges if refused) or DO NOT WAIVE o In the event that the importer refuses to pay charges/interest, the exporter may agree to waive them (i.e. he will bear the cost himself) rather than risk delay in receiving payment.

The rules regarding Collection Charges /Interest are detailed in ICC 522, Article 20 (interest) and Article 21 (collection charges).

Export finance Purchasing a bill means that the bank will advance to the exporter the bill amount. When payment is received from the collecting bank, the bank will charge the exporter’s account with interest for the exact number of days the bill has been outstanding in the process of collection. When an exporter allows his buyer to make payment at a later date or grants credit terms, the exporter can approach his bank for an advance against the collection bill. If the exporter requires such an advance he would complete the box marked 'purchase subject to final payment' on the collection order: This means that the purchasing bank has recourse” to the export customer if the buyer fails to pay the bill - ie the bank can debit the exporter's account in refund without needing the exporter's approval.

Collecting bank's role and obligations The collecting bank acts as the remitting bank's agent and explicitly follows the instructions on the remitting bank's covering schedule. However the collecting bank does not guarantee payment of the bills (except in very unusual circumstances for undoubted customers, which is called Avalising). The collecting bank presents the bill to the importer for payment/acceptance. The collecting bank advises fate of the bill to the remitting bank. ie tells the remitting bank whether the importer has paid or accepted or refused the bill. (See ICC 522 Art. 26 for rules on Advice of Fate.) If the bill is unpaid/unaccepted, the collecting bank: • • •

Arranges storage and insurance for the goods as per remitting bank's instructions on the schedule. (See also ICC 522 Art. 10(b) and Art. 25) Protests on behalf of the remitting bank (if the remitting bank's schedule states protest') (See also ICC 522 Art. 24) Requests further instructions from the remitting bank if there is a problem that is not covered by the instructions in their schedule.

Once payment is received from the importer, the collecting bank remits the proceeds promptly to the Remitting Bank less its charges. (ICC 522 Art. 26 (c) (i))

Processing cycle The collecting bank: 1. Receives the collection through the mail. 2. Advises the importer of receipt of the collection bill, and sends an acknowledgement to the remitting bank that: o It has received the collection and that it will be handled in accordance with ICC 522. o Certain instructions may not be carried out (if such is the case) e.g. storage facilities not available/settlement only after arrival of steamer. If instructions cannot be carried out promptly request fresh instructions or cancellation of those which cannot be carried out. 3. Diarises the date to take action if the importer has not replied or paid the bill. 4. Completes the shipping register - a record of each ship carrying goods for which the bank is handling documents. 5. Sends chasers to the importer if he has not replied or paid the bill by the diarised date.

6. Receives accepted draft from the importer. (D/A Bills), OR collects payment from the importer (if D/P Bills). 7. Delivers documents (duly endorsed) to the importer. 8. Sends “Advice of Fate” to remitting bank showing the due date of the bill, (D/A Bills). 9. Collects payment of the bill on the due date, (D/A Bills). 10. Remits the proceeds to the remitting bank and sends a payment advice. Dishonour If the importer refuses payment/acceptance, and the collecting bank is required to note/protest the bill, then it must do so without delay as stated in URC 522.

Protest Bills When remitting banks or branches give instructions to protest bills against either non-payment, or non-acceptance, or both, particular care must be taken to ensure that such instructions are carried out promptly. In effecting protest instructions the bill should be noted on the day of its dishonour but in any event MUST BE NOTED within local legal timeframe requirements. When a bill has been duly noted, the protest may be subsequently extended as of the date of the noting. It must be remembered that if there are other endorsers to bills, or if advances have been made by the remitting banks/branches, then those parties will only retain rights of recourse to the drawers if the bills are protested. Timing The time of settlement of a collection bill depends on the payment terms of the bill: •

D/P (Documents against Payment) o Settlement is due on presentation, in exchange for the documents.

•

D/A (Documents against Acceptance) o Settlement is due when the bill matures ie the “due date” - of course, the importer is free to pay before the due date (but is not likely to do so!), if he does, the collecting bank must remit the proceeds promptly.

After payment or acceptance of the bill, the bill of lading should be endorsed in favour of the importer by an authorised signatory of your bank to enable you to take delivery of the goods.

Documentary Credits A documentary credit is: • • • •

a written undertaking by a bank (issuing bank) issued on the instructions of the buyer of goods (applicant) to the seller of goods (beneficary) to effect payment under stated conditions: o by making a payment, or o by accepting or negotiating drafts  Up to a stated sum of money  Within a stated time limit  Against stipulated documents

What benefits or disadvantages exist for those involved in documentary credit operations? For the buyer the benefit is that payments are made on his behalf in return for documents that represent the goods and give him ownership of them. The disadvantage is that he may have to provide a marginal deposit when the documentary credit is opened. For the seller the benefit is that he can look to the issuing bank for payment, instead of relying on the ability/willingness of the buyer. The disadvantage is that he cannot obtain payment unless he complies with all documentary credit terms. To summarise, banks: • • • •

assist in the settlement of international commercial transactions provide safeguards for the parties involved ensure payment, provided terms are complied with deal in documents and not in the goods or

•

services involved, and payments are made on this basis

Who Is Involved? • Buyer • Seller The following people may also be involved: • • •

Agents - represent buyer/seller overseas Buyer's bankers Chamber of Commerce - issue certificate of origin

• • • • • • • • •

Customs - check goods and levy duty Governments/Embassies - allow import/export of goods/issue licenses Inspection Company - offers 3rd party or independent inspection of goods Insurance Company - insures goods against risk Lawyers - may draw up sales contract Manufacturer - if seller does not make goods Seller's bankers Shipping Company - whoever transports goods Shipping Registries - verify seaworthiness of ship

Different Names For Major Parties To DC Transactions BUYER requests his bank to open the DC also called

• • •

IMPORTER OPENER APPLICANT

SELLER receives payment under the DC also called • • •

EXPORTER BENEFICIARY CONTRACTOR

BUYER's BANK opens the DC also called OPENING BANK •

ISSUING BANK

BANK(S) in the SELLER's COUNTRY

• •

not necessarily the seller's own bankers not necessarily the same bank o ADVISING BANK  authenticates DC  forwards or notifies the credit to the seller o CONFIRMING BANK (the bank nominated to confirm the DC, usually the Advising Bank - Note: not all DCs are confirmed)  Adds its confirmation to the DC and commits itself to pay the seller if the issuing bank refuses to do so. This means that even if the issuing bank defaults, the confirming bank must pay the seller provided all documents are drawn and presented in strict conformity with the DC terms. o NOMINATED BANK  the Bank authorised to negotiate, pay or accept under the terms of the DC o REIMBURSING BANK 

the bank nominated by the DC issuing bank who will pay a drawing under the DC to the negotiating/paying bank

DC Cycle This is how things usually happen in the life of a DC. 1. Buyer and seller sign sales contract. 2. Buyer requests his bank (issuing bank) to issue a DC in favour of seller. (Imports - DC opening) 3. Issuing bank sends the DC to a branch/correspondent bank in the seller's country (ADVISING BANK). 4. Advising bank authenticates and advises the DC to seller. (exports DC advising) 5. Seller ships the goods. 6. Seller presents documents to the nominated bank for negotiation/payment/acceptance. 7. The nominated bank checks the documents and pays seller if documents are in order. (exports - DC negotiation) 8. Nominated bank sends documents to issuing bank. 9. Nominated bank claims reimbursement from the issuing bank or from a bank specified in the DC. 10. Issuing bank delivers documents to the BUYER after settlement. (Imports - Bills receivable) 11. Buyer exchanges the documents of title with the carrier, or carrier's agent for the goods.

DC Cycle Flow Chart INSERT CODE 111 PICTURE FROM DESKTOP

ICC Rules Almost all DC operations are subject to the ICC Rules 'Uniform Customs and Practice for Documentary Credits (1993 Revision), ICC Publication 500'.

Most banks print the following statement on their DC forms: 'Except so far as otherwise expressly stated, this documentary credit is subject to Uniform Customs and Practice for Documentary Credits 1993 Revision, International Chamber of Commerce Publication No. 500'. Value Of A Documentary Credit To Exporters And Importers Value to Exporter As the beneficiary of a DC, the exporter has the assurance that providing he presents the documents in accordance with the terms and conditions of the DC, he will receive proceeds from the correctly tendered documents. The financial standing of the buyer is replaced by that of the issuing bank who undertakes to pay, accept or negotiate against presentation of documents drawn in conformity to the DC terms. A confirmed irrevocable DC will place the onus on the nominated bank and provides the best security for the exporter. This means that with a confirmed credit the paying/negotiating/accepting bank/other bank acting as the confirming bank has given a definite undertaking that the provisions for payment/negotiation/acceptance will be fulfilled without recourse to the drawer. Value to Importer The importer will receive the documents that were specified by him and embodied in the DC by the issuing bank. He is assured that he will only be debited with the value of the DC providing all the DC instructions have been complied with. He is able to conserve capital, as he does not have to pay cash in advance. His ability to do business abroad is increased as the DC assures the supplier of payment. Because of assurance of payment, he can negotiate better price and terms. He can broaden his sources of supply. It enables him to meet a supplier's request for payment by way of DC. He is not necessarily guaranteed that the documents will produce the goods that he contracted to purchase, although this risk can be reduced as shown

under 'Extra Measures' below.

Extra Measures Available To the Exporter: Request the buyer to open an irrevocable DC and to arrange for it to be confirmed by the advising bank. The confirming bank negotiates/accepts/ pays as usual, but relieves the exporter of the risks of: • •

the opening bank failing exchange control prohibiting foreign currency transfers

Being irrevocable the credit cannot be cancelled or amended without the consent of the issuing bank, the confirming bank (if any) and the beneficiary. Ensure that the sales contract terms are embodied in the DC. This necessitates careful checking by the exporter of the DC when the advising bank sends it to him. If the terms are not in agreement he must advise the buyer immediately and insist upon an amendment being made. To the Importer: Obtain a good status report on the supplier as to his reputation, financial standing and ability to produce the goods required. Obtain samples of the goods. Insert in the terms of the DC that the supplier is to ship the goods in accordance with the sales contract, i.e. “goods shipped in accordance with pro-forma invoice No. ... dated...” Provide for additional security by calling for documents such as a clean certificate of inspection issued by an independent party e.g. SGS (Societe Generale de Surveillance), Far East Surveyors Ltd, Sworn Measurers and Weighers (Hong Kong) Ltd, which certifies a specified quality/standard of goods/packing etc. Care must be exercised here because excessive documentation may lead to a delay in shipment particularly where there is a short validity period.

Types Of Documentary Credit:

How different DCs affect the Buyer and the Seller: REVOCABLE Can be amended or cancelled without prior warning or notification to the seller. (see ICC 500 Art. 8). This means the Buyer has maximum flexibility, as DC can be amended or cancelled without prior notice to the seller, up to the moment of payment by the bank at which the issuing bank has made the credit available. The Seller however faces the risk that the DC can be amended or cancelled while the goods are in transit and before the documents are presented or before payment is made. IRREVOCABLE Can be amended only with the agreement of all parties. (see ICC 500 Art. 9d) This means the Buyer has less flexibility, as the credit can only be amended or cancelled if all parties agree. The DC is issued in this form because the buyer and seller have agreed to this in the sales contract. The Seller however, has a greater assurance that he will receive payment. But he remains dependent on the undertaking of a foreign bank. CONFIRMED IRREVOCABLE As there are often two banks involved - the issuing bank and the advising bank (who passes the DC onto the beneficiary) - the seller can ask the buyer to arrange through his bank (the issuing bank) for an irrevocable DC to be confirmed by the advising bank. If the advising bank agrees, the irrevocable DC becomes a confirmed irrevocable DC. (see ICC 500Art. 9 b, c, d) This means the Buyer has little benefit from this, as it is an additional requirement by the seller. The Seller however, has a double assurance of payment, since a bank usually in the seller’s country has added its own undertaking to that of the issuing bank. Confirmation charges are normally borne by the seller. In brief, the commercial value of a Documentary Credit depends upon its type.

Other special DC types are: • • • • •

Back to Back Red Clause Revolving Standby Transferable

These are covered in Special DCs Availability Of Documentary Credits The most commonly used DC is an irrevocable documentary credit. Under such a DC, the issuing bank gives its irrevocable undertaking that provided the terms and conditions of the DC (and any accepted amendments) are complied with, payment will be made to the beneficiary. Such a DC can only be amended or cancelled with the agreement of the Issuing Bank, the Confirming Bank (if any) and the Beneficiary. Payment to the exporter can either be made “at sight” i.e. payment on demand or after a stipulated “usance” period. The different ways of authorising payment by DC are described in the following sections: • • • •

Payment DCs (Sight) Deferred Payment DC (DPC) Acceptance DCs DCs available by Negotiation

These are the different ways in which the issuing bank makes the value of the credit “available” to the beneficiary i.e. by his submitting: • •

documents “FOR PAYMENT” a draft for “ACCEPTANCE”

•

a draft for “NEGOTIATION”

Payment Documentary Credits (SIGHT) A DC available by payment at sight or on demand (sight payment DC) will specifically nominate the bank that is to effect payment under the DC on presentation to it of the stipulated documents. A draft would not normally be required. A Payment DC is often issued to avoid the heavy stamp duty on drafts in certain countries.

By nominating a bank in the DC the issuing bank authorises such bank to effect payment at sight under the DC, and undertakes to reimburse that bank on first demand. The nomination in the DC of a bank other than the issuing bank itself does not constitute any undertaking by the nominated bank. And, unless that bank has added its confirmation to the DC, it has the right, at any time, to refuse to act as nominated bank, on so informing both the beneficiary and the issuing bank. Example of a Payment DC (Sight) : ):

INSERTCODE 112 PICTURE AND DELETE BELOW

Deferred Payments Documentary Credits (DPC) A documentary credit available by deferred payment will specifically nominate the bank that is to effect payment under the DC after presentation to it of the stipulated documents.

Such a DC must, however, indicate a fixed or determinable date on which payment is to be effected. By nominating a bank in the DC, the issuing bank authorises that bank to effect payment under the DC at the fixed or determinable date indicated in the DC and undertakes to reimburse that bank on the due date. In such cases the beneficiary will present documents to the nominated bank and such bank will settle at the stipulated date. The nominated bank will however, pass the documents to the issuing bank immediately. If the nominated bank confirms the credit the beneficiary will have the undertaking of that bank that it will effect settlement at the agreed future date. If on the other hand the nominated bank has not confirmed the credit, there will not be a commitment on the part of the nominated bank to make such settlement. In both cases, however, the beneficiary will have rights against the issuing bank if it has issued the credit in irrevocable form. The nomination in the DC of a bank other than the issuing bank itself does not constitute any undertaking by the nominated bank. And unless that bank has added its confirmation to the DC, it has the right, at any time, to refuse to act as the nominated bank, on so informing both the beneficiary and the issuing bank. The release of the documents is the responsibility of the opening bank and will only be made after special arrangements between the bank and the DC opener. Example of a Deferred Payment DC (DPC):

Acceptance Documentary Credits A DC available by acceptance will specifically nominate the bank, such as the advising bank or other named bank or the issuing bank, which is to effect

acceptance under the DC on presentation to it of the required documents including a bill of exchange drawn on the nominated bank at a usance stipulated in the DC. Acceptance credits will usually be established in cases where the exporter or his bankers are prepared to finance the transaction, possibly at a rate of interest lower than that which the issuing branch would charge the opener. The allowance of a usance period could of course simply be an inducement by the exporter to encourage the importer to purchase his goods rather than those of another supplier. Acceptance credits are primarily designed to provide finance for the opener, but if usance bills are discounted they will also provide finance for the beneficiary. The beneficiary will present the documents stipulated in the DC, including a usance bill of exchange drawn on the bank specified by the credit, to the nominated bank which will then accept the bill and forward the documents to the opening bank. The nominated bank may then discount the bill itself and pay the beneficiary the discounted proceeds (i.e. the face amount less interest for the usance period) in full settlement. On maturity of the bill it will reimburse itself in accordance with the reimbursement instructions contained in the DC. Example of an Acceptance DC:

Documentary Credits Available By Negotiation A DC available by negotiation must either: •

specifically nominate the bank (nominated bank) which is to effect

negotiation under the DC Or •

show that it is freely negotiable by any bank (nominated bank) on presentation to such bank of the stipulated documents, including, if so stipulated in the DC, a draft (bill of exchange) drawn on the DC issuing bank and at a tenor specified in the DC

When the issuing bank nominates a bank in the DC to be the nominated bank or indicates that any bank can negotiate the DC, it authorises such a bank to negotiate the documents presented to it under the DC. It also undertakes to reimburse the nominated bank as long as the terms of the credit have been fully complied with. By being nominated the nominated bank does not given any undertaking unless it has added its confirmation to the DC. It has the right to refuse to act as nominated bank, but it should inform the beneficiary and the issuing bank accordingly. The indication that a DC can be negotiated by any bank does not constitute any undertaking by any bank other than the issuing bank or as the case may be, the bank which has confirmed the credit. Negotiation by a bank other than the issuing bank or the confirming bank (if any) will be with recourse to the beneficiary and to the endorser(s) and/or the bona fide holder(s) of any draft(s). Example of a DC available by negotiation:

Bills of Exchange DCs opened by HSBC branches should call for Bills of Exchange (drafts) to be drawn on the DC issuing bank (so that the undertaking to effect payment by the issuing bank is absolutely clear) or the Nominated Bank in the case of a

DC available by acceptance Negotiation DC The Bill of Exchange is drawn on the DC issuing bank. The nominated bank will negotiate the draft (pay the drawer) and dispatch it with the documents to the DC issuing bank.

Acceptance DC Acceptance of drafts drawn under the DC by the Nominated Bank will be subject to documents being presented in full compliance with the DC terms and conditions. The legal holder of an accepted bill of exchange can: • •

hold the bill until maturity if he has a healthy cash flow and does not need funds discount the bill in order to improve his cash flow. The amount discounted will be the full proceeds of the bill less the discount (interest charges)

In both cases acceptance commission will be charged to the party nominated in the DC terms. Please note that if an acceptance DC calls for drafts drawn on the opener and the opener fails to accept the bills, it does not relieve the issuing bank from its obligations despite the provision that the DC is “available by acceptance of drafts” drawn under the DC. Export Finance Two types of export finance are available: pre-shipment and post-shipment. Post-shipment finance is used to finance the transit period between shipment of the goods and receipt of the payment. Under documentary credits, this usually involves "negotiating" the export bills. whereby the exporter is advanced the funds in anticipation of reimbursement for the issuing bank later. Pre-shipment finance is used to improve the cash flow of businesses by enabling them to purchase raw materials to manufacture goods, or to obtain the goods if they are not the manufacturer. The most common type of preshipment finance is Packing credits. These require special facilities and are usually only granted against documentary credits in hand. The exporter's bank will retain the original credit to ensure that these advances are repaid

from the proceeds of negotiations.

Other Types Of Pre-shipment Advance Other types of pre-shipment advance available are: • • •

Manufacturers Advances Advances to Exporters Stock Loans

•

Red Clause

Import - DC Opening Relationships with the Importer When DC terms are agreed in a sales contract, the importer will have to have a relationship with a bank to facilitate the transaction. The importer will have special needs that only his bank will be able to provide such as: • • • •

assurance that he does not have to pay the seller until he is certain that the seller has fulfilled his side of the contract the possibility of obtaining loans to finance the cost of the imports until he receives proceeds from the sale of those goods advice and assistance on trade transaction procedures advice and assistance with foreign exchange activity

An importer’s bank will have correspondent relations with other banks or it will have its own branches in the country of the exporter to whom it will send its DC opened on account of its customer, the importer. An importer will therefore need a relationship with a bank in order to open a DC which in essence provides for payment to be made against documents that represent the goods and makes possible the transfer of rights to those goods.

DC Application - Processing To apply for a DC you will need to set up Trade Finance facilities with your Corporate Relationship Manager before completing the form. Follow the key below for more instructions:

The DC application form covers: 1. The date and place of expiry; place of payment ("A"). These are

important considerations because they determine when and where documents are to be presented and, for certain types of credit, whether there is any liability to pay interest. 2. The Beneficiary details ("B"). This should be the full name and postal address, to ensure proper delivery to the beneficiary. 3. How the DC is to be established (transmitted to the advising bank) ("C") i.e., by full teletransmission, by courier, airmail, (with/without brief teletransmission). 4. Whether partial shipments are prohibited ("D"). Under UCP500, partial shipments of goods will be allowed unless the credit stipulates otherwise. 5. Whether the transfer of the goods from one vessel to another, or from one mode of transport to another, en route, is prohibited ("E"). 6. The place of shipment ("F") or dispatch or taking in charge of the goods and the destination. 7. The latest date for shipment, dispatch or taking in charge ("G"). If a specific date is not provided, the latest shipment date will be the same as the expiry date. 8. Drafts (Bills of Exchange) under documentary credits available for payment or acceptance in the country of the seller should be drawn on the bank nominated to pay or accept. In all other cases they should be drawn on the issuing bank ("H"). 9. A brief description of the goods, ("I") including details of quantity and unit price, if any. 10. Which trade term (Incoterm) has been agreed in the contract ("J"). 11. What documents are required ("K"). These would include invoice, independent inspection certificate, shipping documents, insurance and others. 12. What insurance documents are required ("L"). 13. Who should pay the bank charges relating to the transaction ("M"). 14. If payment of interest under the credit has been agreed, it is necessary to stipulate against whose account the interest is to be applied ("N"). 15. Whether the advising bank should confirm the credit ("O"). 16. The period of time ("P") after the date of issuance of the shipping documents, within which they must be presented for payment, acceptance or negotiation (see ICC 500 Art 43). In addition additonal details need to be inserted such as: 1. Whether or not drawings under the DC will require financing from the bank to help his cash flow. 2. Whether the beneficiary or the DC opener pays the correspondent bank’s charges covering advising/acceptance and negotiating commission. 3. Whether transit interest charges from negotiating/payment date are payable by the beneficiary or the DC opener.

4. Whether or not the bank should book a forward exchange contract. To save time preparing DC applications, many customer use Hexagon, the HSBC Group's electronic banking system. This allows DC applications made regularly to be stored on the system, allowing DCs to be issued more quickly and error free. DC Transmissin Methods The opening bank can send DCs to the advising bank in the following ways. •

By mail or

•

By courier

•

By brief cable using either o Telex o Speedlink o SWIFT  to be followed by mail confirmation on security paper

•

By full cable using either o Telex o Speedlink o SWIFT  without being followed by mail confirmation

A brief cable gives brief details of the DC only and serves as a means of providing advance notice. It is not an operative instrument in itself and it must state this fact. If it does not state this, the advising bank can assume that no other details will follow (ICC 500 Art.11). Brief cables are not usually authenticated. A full cable contains all DC details and can be acted upon immediately provided it is authenticated. Example of a BRIEF CABLE or PRE-ADVICE of a DC (as sent by SWIFT):

Reimbursement: Sight Bills The choice of reimbursement procedure will decide who pays “transit” interest. “Transit” interest is the interest cost caused by the time gap from when the negotiating bank pays the beneficiary for the amount of the drawing under the DC to when it is paid back by the reimbursing bank.

There are a number of choices available. •

Telegraphic Transfer o This means that the negotiating bank will claim the funds from the issuing bank as soon as the documents are negotiated. In this case, the importer pays the "transit" interest until the documents are received by his bank and the bill settled. This is a slightly riskier option for the importer, as his bank will be obliged to pay out before the documents have been checked. If a discrepancy is found later, the issuing bank will need to claim transit interest from the negotiating bank - a time consuming procedure.

•

On receipt of documents o

In this situation, the exporter bears the "transit" interest. The importer does not bear any liability until the documents are received by his bank.

Reimbursement: Deferred Payment Credits / Acceptance Documentary Credits Sometimes, the exporter agrees to profice finance to the importer. In these situations, a usance or term DC is opened and the beneficiary will only receive proceeds of his documents or bill of exchange after an agreed period of time from the DC issuing bank. On the due date, the paying or accepting bank will be authorised to: • • •

Draw from the account of the DC issuing branch.Or Claim reimbursement from a bank nominated by the DC issuing branch.Or Be reimbursed in accordance with the instructions it has given to the DC opening bank.

In some cases the credit will authorise sight payment for the full value of the Bill of Exchange under an acceptance DC, if the applicant is to pay the interest. Forward Contracts Customers are in the import/export business to make a profit from their

trading activities. However foreign exchange rates fluctuate minute by minute due to demand and supply. When a DC is expressed in a foreign currency: • •

DC opener frequently buys foreign exchange to settle the cost of the drawing by using his local currency. DC beneficiary usually sells the foreign exchange to receive the proceeds of the Bill of Exchange in his own local currency.

Since both importer and exporter will have worked out exactly how much they need to make a profit they must know what the cost will be for buying or selling the foreign exchange. Banks can help by selling or buying the foreign exchange for delivery or receipt at a future date at a specified pre-determined price thereby eliminating the risk of keeping an open position. This type of deal is called a Forward Foreign Exchange Contract.

Amendments to Documentary credits Amendments to DCs are frequently necessary for many reasons e.g. to give the exporter extra time to manufacture or ship the goods, or to instruct the exporter to provide extra documents to comply with new legal requirements in the importer’s country, etc.

REVOCABLE DCs can be amended (or cancelled) at any time without reference to the beneficiary. Most exporters refuse revocable DCs for this reason. IRREVOCABLE DCs can only be amended or cancelled by the APPLICANT with the agreement of all other parties to the DC.

Agreement of Applicant and Beneficiary A number of factors need to be taken into consideration: Is the Amendment Acceptable? If the proposed amendment is not detrimental to the beneficiary it will probably be accepted: e.g. applicant wants to increase the value of the DC to buy more goods. BUT if the beneficiary wants more time to ship the goods this may not be acceptable to the applicant if he has a deadline to meet. The DC issuing bank must check that the amendment appears reasonable and within limits. It will then transmit it to the beneficiary through the advising bank. If the beneficiary accepts the amendment, it must be attached to the negotiable copy of the DC when claiming further drawings. To record all amendments made to the DC each amendment is numbered and recorded by the advising bank on the master copy of the DC. Sometimes the issuing bank will want evidence that their customer's amendment has been accepted. If the amendment is in any way detrimental, e.g. decreases the DC amount, the beneficiary's written consent accepting the amendment must be obtained. In both cases confirmation must be sent to the issuing bank, as must notice of rejection. In practice beneficiaries will normally, if requested, indicate whether they will accept or reject an amendment. However, failure to do so does not mean that the beneficiary is bound to accept the amendment, and he is still entitled to submit documents conforming to the original terms of the credit and expect to be paid. Who can request an amendment? Importer

The importer who instructs the opening bank to notify the advising bank to advise the exporter in the same way as the original DC. If the exporter accepts the amendment, the advising bank will relay his consent to the opening bank. The advising bank does not seek to persuade the beneficiary in any way. Exporter The exporter who contacts their buyer to instruct the issuing bank. If accepted the amendment will arrive and be advised in the usual way. Instructions received to alter the contents of the DC must be authenticated

Export - DC Advising Relationship with the Exporter Where DC terms are agreed in a sales contract, the DC can be advised throught the exporter's local HSBC Group office. The DC issuing bank will send the DC to either a branch or to a correspondent bank so that it can be authenticated. Included in the DC will be an authorisation to a specifically nominated bank to negotiate, (unless negotiation is not restricted, in which case, any bank) to pay or accept, bills of exchange under the DC for correctly tendered documents. The beneficiary should have a bank account in order to facilitate the transaction. For example, the beneficiary will need the convenience of receiving: • • • • •

Remittance of proceeds from drawings under the DC to his own bank. Advice and assistance on trade transaction procedures. Advice and assistance with foreign exchange activity. Prompt payment of the bill proceeds to improve the liquidity of his business. Country-risk information and reports on the ability of the opening bank to pay.

The beneficiary will be able to receive all the above services from any Group Office.

Very often the beneficiary’s bank will not be the same as the bank nominated to negotiate, pay or accept the Bill of Exchange Confirmation Of Documentary Credits If the beneficiary of the credit has some doubt about the ability of the DC opening bank to arrange reimbursement, he may request the opener to arrange for the DC to be “confirmed” by the advising bank. If the opener agrees, the opening bank will ask the advising bank to add its “confirmation” to the DC. Confirmation of a DC constitutes a definite undertaking by the advising bank to assume the obligations and liabilities of the opening bank under the credit. All negotiations should be restricted to the confirming bank. If negotiations are effected through another bank the beneficiary will lose the rights and benefits of having a confirmed DC. In return, the confirming bank receives a confirmation commission. This is collected from the beneficiary or is claimed from the issuing bank if so directed. Confirmed DCs provide double protection to beneficiaries. A DC can sometimes be confirmed by a bank other than the advising bank. Despite this, the issuing bank must still use the advising bank for advising any amendments. (UCP 500 Art 11 (b)).

Negotiation Under Documentary Credits Exporters under DC can choose to have their export bills negotiated. Their bank will then pay the exporter the value of the export documents provided that: •

the documents fully comply with the DC terms

the issuing bank is able to reimburse all drawings and charges (it may not be able to do so if exchange control has been introduced or if the bank has gone bankrupt) Documentary Preparation Some General Principles •

Exporters should take care that their documents comply with the terms and conditions of the DC. In particular, care should be taken to ensure:

• • • • •

The amount complies Quantity of goods complies DC still valid Goods shipped before final shipment date Documents presented within minimum presentation period

•

Goods description on invoice corresponds exactly with DC

Discrepancies

If discrepancies are found in the documents the beneficiary's bank has several options: •

• •

• •

return the documents to the beneficiary for correction; there must be enough time for this (i.e. before the DC expiry date and the latest day for presentation) pay against the beneficiary’s indemnity, or telex to the issuing bank for permission to pay (i.e. they request opener’s acceptance) - if applicant accepts the discrepancies, issuing bank will reply “you may pay”. (Dr. beneficiary’s discrepancies. This is sometimes termed a “cable negotiation”. send documents on an approval basis obtain a DC amendment

Example of a Negotiating Bank's request for permission to negotiate in spite of discrepancies:

Example of a Letter of Indemnity for negotiation in spite of discrepancies:

Bills receivable

Documents received by issuing banks under DC are known as Bills Receivable (BR). These are checked by the issuing bank for discrepancies. If the bill is found to contain discrepancies then the negotiating bank must be advised without delay. Settlement of Sight DC Bills Sight bills are payable immediately on arrival, after the documents have been checked and are found to contain no discrepancies. The issuing bank is obliged to pay the bill immediately. Documents will be released to the importer after the bill is retired, either through debiting the importers account or through granting an import loan. As the opener is not given the documents until he has settled the bill, he is unable to take delivery of his goods (unless he has taken a shipping guarantee). If he does not settle the bill, the opening bank will still have control over the goods and can sell them to get at least some of the money back to apply against the outstandings of the applicant. Acceptance of Usance DC Bills Under usance DC bills, once the documents have been checked and found to contain no discrepancies, the issuing bank is obliged to give an undertaking to pay the bill on the date specified on the DC. Handling Discrepancies If the BR contains discrepancies, the applicant should be advised what the discrepancies are and be requested to accept them. In the majority of cases, the discrepancies are accepted and the bill paid after a few days. Sometimes, however, the terms of the contract may be renegotiated. Finance of imports An importer can provide/obtain finance for the goods he imports in various ways: •

Self Finance o Importer pays for the goods with his own money when the goods arrive or when the sight bill is presented to him

•

Exporter's Finance o Importer obtains finance from exporter who allows a credit period for the importer to pay for the goods (the exporter may well be financed by his own bank). Acceptance/Deferred

Payment DCs are other common methods by which exporters can provide finance for importers. •

Bank Finance o Importer arranges an import line with the bank that will provide credit facilities to cover the intervening period between when he must retire the bill to when he receives sale proceeds or switches to export finance (point of sale).

•

Trust Receipt o The importer arranges an import loan whereby he receives the goods in return for signing a Trust Receipt which acknowledges the bank's vested interest in the goods

Shipping Guarantees Nowadays, because of faster means of transport (especially by air), goods often reach their destination before the documents. When the goods are unloaded from the ship or plane they are cleared through customs and stored in warehouses belonging to the shipping company or their agents. They usually allow a grace period of a few days free storage after which the importer will have to pay demurrage charges until the day of collecting the goods. Demurrage is a storage fee and can be classified as a penalty so the importer will wish to avoid this type of charge by clearing his goods as soon as possible. Banks can issue a Shipping Guarantee (S/G) on application in favour of the Shipping Co./Agent, usually using their pre-printed forms, authorising them to release the goods to the importer against our undertaking to deliver the original bill of lading. The advantages of S/Gs to the importer are: • •

avoids demurrage charges gains prompt possession of goods

The disadvantages of S/Gs to the importer are: •

loses protection of DC in case of any discrepancies in the documents when they arrive

•

port authorities may restrict the number of S/Gs outstanding per

importer Special Documentary Credits Other kinds of credits you may come across include: • • • •

Standby Letters of Credits (SLCs) Transferable DCs Back-to-Back DCs Revolving DCs

•

Red Clause Credits

Standby Letters of Credits (SLCs) A Standby Letter of Credit possesses all the elements of a commercial DC. Basically, it is a DC issued to cover a “Non-Performance” (default) by one party to the contract. An SLC issued in favour of the beneficiary stipulates that a sum will be paid to the beneficiary upon demand in the event the beneficiary submits a signed statement setting forth that there has been default or non-performance. Standby credits are most commonly used as a form of guarantee by a parent company for credit facilities given to a subsidiary company. The SLC ensures payment to the branch supplying credit facilities to the subsidiary company if and when the subsidiary company fails to repay outstanding obligations when due. Standby credits may also be used: • • • • • •

in support of importer’s open account purchases to cover brokerage firm’s margin requirements to serve as bid and performance bonds in the construction industry or service contract business to cover advance payment/performance bond to provide insurer’s agents worldwide reimbursement of claims paid to enable corporations issuing commercial paper to obtain a better borrowing rate since the offering is priced on the credit rating of the bank issuing the standby credit rather than on the corporation’s credit rating

An example of a Standby Letter of Credit opened by full telex:

Transferable Credits A Transferable Credit is an irrevocable DC designated as transferable.

This DC is one that can be transferred by the original beneficiary (First Beneficiary or Transferor) to another party (Second Beneficiary or Transferee). If the Transferable DC allows for partial shipments, such a DC may be transferred to one or more second beneficiaries, each party receiving its own portion of the transaction. The second beneficiary is not allowed to transfer to another or third beneficiary. An exporter or first beneficiary would request the importer or applicant to establish a transferable credit when he, the first beneficiary, •

• •

is unable to supply some or all of the merchandise called for in the DC and thus wishes to transfer part, or all, of his rights and obligations to a second beneficiary is unable to secure back-to-back credit facilities from his bankers acts as the agent of, or principal supplier to the applicant, for goods stated in the DC. These DCs are usually issued for a very large amount and the first beneficiary will be responsible for distributing the portions of the DC to various suppliers, via the advising bank.

Transferable Credits - Cycle • The buyer instructs his bank (the issuing bank) to issue a transferable credit in favour of the seller (first beneficiary). • The issuing bank asks another bank in the country of the seller to advise the credit. • The advising bank informs the seller that the credit has been issued. • The seller instructs the advising bank to transfer a part of the whole amount of the credit to a second beneficiary. • The advising bank informs the second beneficiary that a credit has been transferred in his favour. Note: the way in which the second beneficiary ships the goods, issues documents and obtains payment depends on the terms of the transfer: • •

in part or in full with or without substitution of documents

Transferable Credits - Amendments Amendments can be made by the original DC applicant or the transferor.

Amendments by original DC applicant According to UCP 500 article 48d, when the first beneficiary requests the transfer he must, in his written instructions to the transferring bank, expressly state whether or not he retains the right to refuse amendments to be advised by the transferring bank to the second beneficiary. The first beneficiary may choose to do this if he was transferring the DC to a number of second beneficiaries. If the first beneficiary decides to retain this right, this fact must be conveyed by the transferring bank to the second beneficiary (ies) at the time of transfer. Amendments by First Beneficiary The first beneficiary may only make amendments to the terms of the transferred DC if these amendments ensure that the terms of the original DC can be met. Back-to-Back Credits A back-to-back documentary credit is sometimes referred to as a counter credit and can be opened where appropriate facilities are in place. This is opened at the request of an exporter who is the beneficiary of an export DC (Master DC). When the beneficiary of an export DC applies for a back-to-back DC he assumes the role of a middleman between the actual supplier of the goods and the ultimate buyer. The advantage of this type of credit is that it allows the middleman who may have limited financial resources to purchase goods from a supplier who would only sell on DC terms. The middleman opens the DC in favour of the seller for a smaller amount than the master DC. The difference between the master DC amount and the back-to-back DC is the middleman’s profit. In back-to-back credit operations the shipping documents tendered by the supplier are usually used by the middleman who secures payment under the export or master DC. Documents that are submitted by the middleman would be the invoices and Bill of Exchange. Also it helps the middleman not to disclose the supplier of the goods to the final buyer and vice versa. Otherwise if the buyer knew the supplier, he would cut the middleman out of the transaction. The terms and conditions of a back-to-back credit are usually the same as those of the export credit i.e. on a “mirror basis”.

Requirements of the back-to-back or baby credit may differ from the master DC in the following areas:

• • • •

The value of a back-to-back credit is less than that of the master DC. Latest shipment date and expiry date on the back-to-back credit are earlier than those specified in the master DC. The period allowed for presentation of documents is usually at least 7 days less then that allowed in the master credit. Back-to-back credits are normally stated to expire at the counter of the issuing branch.

The main reason for this is to allow the middleman sufficient time to prepare his documents for presentation under the master DC. This is also required by the issuing bank of the back-to-back DC to have enough time to check the documents submitted by the supplier.? Cycle 1. The buyer instructs his bank (first issuing bank to issue a credit in favour of the seller.) 2. The first issuing bank asks another bank in the country of the seller to advise the credit. 3. The first advising bank informs the seller that a credit has been issued. 4. The seller instructs the first advising bank or his own bank (the second issuing bank) to issue a credit in favour of his supplier. 5. The second issuing bank advises the supplier through a second advising bank that a credit has been issued. 6. The supplier ships the goods in accordance with the back-to-back credit.

CODE 114 PICTURE INSERT

Revolving Credits When the terms and conditions of a credit state that the amount is renewed or automatically reinstated without specific amendments being required the credit is said to be a revolving credit.

A revolving credit allows for flexibility in commercial dealings between importers and exporters, particularly when there are likely to be regular future shipments of the same type of goods. Credits of this nature can revolve in relation to time or value: Time For example, where a credit is available for up to USD10,000 per month for a fixed period of time, say six months. These credits can be either cumulative or non-cumulative. Cumulative credits mean that any sum not utilised by the beneficiary during the first period carries over and may be utilised during the next or subsequent period. Non-cumulative credits do not allow this rollover. Any sum not utilised within the period by the beneficiary ceases to be available for the next period. Value Where credits state that the amount of the credit is to be reinstated upon utilisation within a given overall period of validity, the credit is said to revolve in relation to value. The amount may be reinstated automatically upon presentation of the requested documents by the beneficiary to his bankers, or be reinstated upon receipt of documents by the issuing bank who will advise the availability of the credit. Unless the credit states an overall limit of value, the beneficiary can ship goods and negotiate documents for as much as he is able - during the validity of the DC. Therefore, because credits that revolve around value can involve the buyer and the Bank in an incalculable liability they are not in common use. A credit that is available for a certain amount and calls for specified quantities of goods to be shipped within given periods is not a Revolving Credit. It is a credit available by installments as provided for under UCP 500 Art. 41. Clause from a Revolving Credit stating exactly how the exporter can draw under it (how much and how often):

Red Clause Credit Originally this clause in credits was written in red ink to draw attention to the unique nature of the credit. Thus the term Red Clause Credit. The purpose of this clause in the DC is to allow the beneficiary to obtain a pre-shipment advance from the advising or confirming bank. This advance to the beneficiary is on the responsibility of the issuing bank. A beneficiary would require such a clause in the DC when he is unable to secure a packing credit advance from his bankers against the DC. The beneficiary may need this advance to purchase raw materials to manufacture the goods or make cash payments for the goods purchased from another supplier or to purchase quota. The applicant of the DC decides to what extent and under what conditions he will allow the beneficiary to receive the advance. The red clause must specify the total value of the advances. This may be given as a percentage of the DC amount. Advances to the beneficiary under the red clause credit usually require the beneficiary to produce a bill of exchange drawn for the value of the advance and a letter of undertaking, promising to effect shipment in accordance with the DC terms. Sometimes the beneficiary may have to provide a statement stating that the money advanced will be used for a specified purpose. In the event of the beneficiary failing to fulfil his obligations under the DC, which results in a claim upon the issuing bank, the applicant is immediately responsible for the repayment of the advances to the issuing bank and any interest due. Example of a Red Clause detailing the amount and method of advance - some banks will type this in red or underline it in

red ink:

Export Facilities There are two categories of finance that we provide for exporters:

•

Pre-shipment

Post-shipment Pre-shipment This category of working capital finance provided by group offices is generally termed “Loans against Exports” (LAEs). •

Loans must be supported by original irrevocable DCs, issued by first class banks. Facilities may also allow advances to be made against confirmed orders from specified reputable buyers of international standing. Pre-shipment finance includes the following:

•

Packing Credits

• •

Manufacturers Advances Red Clause Advances

Packing Credit Traditionally, Packing Credits have been used to finance the packing of goods before they were shipped. Therefore, at this stage the manufacturer will not be able to negotiate the DC to provide them with any finance. During this time the goods are stored in a warehouse and the exporter will have a Warehouse Warrant to prove the goods belong to them. The Bank may provide bridging finance to help the exporter’s cash flow. In return it will keep the Warehouse Warrant (which is a title document) and the DC. When the goods are ready to be shipped the Bank gives the Warehouse Warrant to the exporter so that the exporter can load the goods on board the ship and get hold of the Bill of Lading. Then the exporter can negotiate the DC and repay the Packing Credit. The Bank loses control for a short time when it releases the Warehouse Warrant until the exporter delivers the Bill of Lading. We can overcome this problem by appointing a trusted freight forwarder to arrange for the loading. So packing credits were traditionally used to provide the exporter with finance after the goods were manufactured but before they were shipped. They would facilitate the exporter’s cash flow while packing the goods and waiting for shipment and the loan was repaid on shipment of the goods. In this form the Bank had control of the goods as security. Today the term Packing Credit Advance is used more loosely to include all kinds of pre-shipment finance against Irrevocable DCs provided by the exporter’s bank even where the Bank does not control the goods. Therefore, a Packing Credit Advance is now more usually a clean cash advance and exporters must have separate lines for them. We usually approve them only for up to 70% of the value of the goods to be exported (we do not include the exporters anticipated profit margin), and for a maximum period of 90 days but the Account Manager may make exceptions

on a case by case basis.

Manufacturing Advances These are provided when the exporter requires financing to meet manufacturing costs, such as the purchase of raw materials or the purchase of textile raw materials and pay the cost of manufacture on a Cut Make and Trim (CMT) basis. The Bank has no control over the manufacturing process and no control over the goods. Therefore, manufacturing advances are clean cash advances and exporters require separate export cash lines to support them. Red Clause Credit Advances Originally this clause in credits was written in red ink to draw attention to the unique nature of the credit. Thus the term Red Clause Credit. The purpose of this clause in the DC is to allow the beneficiary to obtain a pre-shipment advance from the advising or confirming bank. This advance to the beneficiary is on the responsibility of the issuing bank. A beneficiary would require such a clause in the DC when he is unable to secure a packing credit advance from his bankers against the DC. The beneficiary may need this advance to purchase raw materials to manufacture the goods or make cash payments for the goods purchased from another supplier or to purchase quota. The applicant of the DC decides to what extent and under what conditions he will allow the beneficiary to receive the advance. The red clause must specify the total value of the advances. This may be given as a percentage of the DC amount. Advances to the beneficiary under the red clause credit usually require the beneficiary to produce a bill of exchange drawn for the value of the advance and a letter of undertaking, promising to effect shipment in accordance with the DC terms. Sometimes the beneficiary may have to provide a statement stating that the money advanced will be used for a specified purpose. In the event of the beneficiary failing to fulfil his obligations under the DC, which results in a claim upon the issuing bank, the applicant is immediately responsible for the repayment of the advances to the issuing bank and any

interest due. Example of a Red Clause detailing the amount and method of advance - some banks will type this in red or underline it in red ink:

Post-shipment Finance We can provide post-shipment finance both to customers who export under documentary credit and those who deal with documentary collections Documentary Credits A Documentary Credit is:

• • • •

a written undertaking by a Bank (ISSUING BANK) issued on the instructions of the buyer of goods (APPLICANT) to the seller of goods (BENEFICIARY) to effect payment under stated conditions: o by making a payment, or o by accepting or negotiating drafts  Up to a stated sum of money  Within a stated time limit



Against stipulated documents

What benefits or disadvantages exist for those involved in documentary credit operations? For the BUYER the benefit is that payments are made on his behalf in return for documents that represent the goods and give him ownership of them. The disadvantage is that he may have to provide a marginal deposit when the documentary credit is opened. For the SELLER the benefit is that he can look to the issuing bank for payment, instead of relying on the ability/willingness of buyer. The disadvantage is that he cannot obtain payment unless he complies with all documentary credit terms. To summarise, banks:

• • • • •

assist in the settlement of international commercial transactions provide safeguards for the parties involved ensure payment, provided terms are complied with deal in documents and not in the goods or services involved, and payments are made on this basis

Documentary Credits are covered in detail in another session. Letter Of Indemnity Under a DC, payment will be received from the issuing bank as long as the documents are in order. Therefore, customer does not require any export facilities under DCs. Even if there are discrepancies, the Bank may still be prepared to negotiate the documents if the customer signs a Letter of Indemnity (LI), also known as a Letter of Guarantee (LG), guaranteeing to repay the Baank if the issuing bank refuses to reimburse the Bank because of discrepant documents. The letter notes the discrepancies found, for example, the Bill of Lading doesn’t contain an “On Board” notation. Limits may or may not be advised to the customer for this type of facility.

Therefore, customers may, if they wish, furnish the Bank with a General Letter of Indemnity (GLI) which covers all presentations of documents and any discrepancies found

Collection Bills In a collection the exporter asks the remitting bank to assist him to collect payment from the importer. The Bank does not guarantee to make payment in a collection. The collection process will take some time but the exporter may want to get the money earlier to facilitate his cash flow. The Bank can help by purchasing the Bill of Exchange from the exporter so he doesn’t have to wait until it is paid by the drawee. By purchasing the bill, the Bank provides customer with a loan and when the bill matures we keep the proceeds to pay off the loan. Foreign Exchange A foreign exchange contract is an immediately firm and binding contract between the customer and the bank for the purchase or sale of a specific quantity of foreign currency at a rate of exchange fixed at the time of making the contract for performance by delivery and payment at an agreed future time. Foreign exchange contracts entered between bank and customer are legally binding. This is to protect the bank, for in the fluctuations in exchange rates the bank may lose money if it had bought or sold currency to meet the customer’s requirements which is not subsequently taken up by him. Even with a formal contract, the risk remains in that the customer may not be able to fulfil it. Consequently limits are required for this type of business and the customer’s credit-worthiness should be evaluated like any other facility. Depending on the standing of the customer the bank may therefore ask for a cash margin equivalent to a certain percentage of the outstanding balance of the currency to be purchased or sold by the bank.

Benefits To Importer And Exporter Because exchange rates fluctuate it is possible for an exporter or importer who has transactions to carry out in foreign currencies to lose through movements in rates of exchange between the time of shipment of goods and the payment for them.

This exchange risk can, however, be avoided if the merchant covers himself by taking out a forward exchange contract with his bank. For example, an exporter who is to receive payment for his goods in a foreign currency at some future date can fix immediately this rate of exchange at which he is to sell the currency when he receives it. If the value of the currency falls before the transaction takes place then a loss will be avoided. Of course if the currency appreciates in value in the period between shipping the goods and receiving payment the exporter would receive less for his currency under the forward contract than he would in the spot market. But this is not the point at issue. The most important point is that this exporter can fix how much he will receive in his own currency so that his profit on the transaction is assured. A forward exchange contract is also invaluable to an importer. He knows in advance how much he is to pay out in foreign currency in the near future and will want to know how much this will be in terms of his own currency. By fixing a forward exchange contract with his bank, he can know this in advance and is thus able to fix his prices for the resale of his goods that will provide a satisfactory profit margin. This margin could well be lost if he did not cover himself if the foreign currency had appreciated. Marine Cargo Insurance Cargo insurance covers marine, land and air. Marine cargo insurance is the most common amongst all because a great majority of goods is transported by conventional ships or container liners. Therefore, marine cargo insurance plays an important part in promoting international trade by protecting the capital tied up in a trade transaction against loss due to the goods being damaged or destroyed during transit. Once the goods have left the factory or warehouse, the owners of the goods have no control over their safe transportation. Cargo insurance is aimed at removing the burden of risks from the shoulders of the goods owners. Without this protection, difficulties would arise between seller and buyer in their trading. Increased responsibilities may fall on carriers and freight charges would increase. Businessmen would be forced to think more carefully about every project. In a trade transaction involving exporter, importer and bank, insurance should remove the possibility of financial loss to any one of the parties to that

transaction from risks over which they have no control and which can result in a partial or total loss of the goods. Who Should Insure? Depending upon the terms of sales contract, insurance is either the responsibility of the exporter or the importer. For example:

•

CIF o

•

Exporter is responsible to insure for the benefit of the buyer until goods arrive and are unloaded at the port of destination

FOB or CFR o Importer is responsible to insure from the time the goods are loaded on the seagoing vessel.

There is no legal obligation for a merchant to insure his goods. Banks invariably require their import/export customers to insure goods financed by them. Apart from this, it is just a matter of common sense for a merchant to insure his goods whilst in transit. Documents Insurance Documents, used in the context of international trade, show that the goods have been insured. The main documents are:

• • •

Insurance Policy Open Cover Policy Insurance Certificate

Once an insurance arrangement has been made, the insurance company will issue an Insurance Policy to show that the goods have been insured. An Insurance Policy gives complete details of the terms and conditions of the insurance arrangement. Where a trader imports/exports goods on a regular basis, he can take out what is known as an Open Cover Policy (OCP). An Open Cover Policy differs from an ordinary policy in that it covers all shipments up to a ceiling limit per shipment and under the same terms and

conditions. Once an OCP has been arranged the insured is automatically insured for each shipment, against the risks specified under the OCP. If anything happens, he will be reimbursed up to the amount agreed per shipment. Under an OCP the insured must advise the insurance company of the details of each shipment and the premium is calculated upon the declared values. The insured may be authorised to issue a pre-printed Insurance Certificate that essentially describes the shipment and makes reference to the Open Cover Policy, the actual written contract. Risks Covered Insurance cover is often provided on the basis of the “Institute Cargo Clauses” provided by the Institute of London Underwriters. These clauses list the risks covered and are referred to as Institute Cargo Clauses A, B and C. Our DC Forms call for the “A Clauses”. Clause A contains an "all risks" notation and an insurance document containing this notation or clause will be acceptable where the credit calls for "insurance against all risks" (UCP 500 Art 36). Institute Cargo Clauses (A) Goods Covered Manufactured goods, new machinery, garments, electrical goods, packaged commodities, etc. Perils Insured All risks of physical loss of or damage to goods. General average - goods sacrificed or expenditure incurred to save the entire shipment. For example, suppose there is a fire on the ship and the water used to put out a fire damages some of the cargo. An insured person whose goods are unharmed may be expected to contribute to that loss, and if so the insurance policy will cover this. Exclusions 1. 2. 3. 4. 5.

Wilful misconduct of Insured Ordinary leakage, loss in weight, wear and tear Insufficiency or unsuitability of packing Inherent vice Delay

6. Insolvency or financial default of owner or charterer of vessel 7. Un-seaworthiness of vessel if known 8. War and Strikes 9. Nuclear Fission Institute Cargo Clauses (B) Goods Covered Wheat, cement, glass sheets, used machinery. Perils Insured Fire or explosion Vessel being stranded, sunk or capsized Overturning or derailment of the land conveyance Collision of vessel or conveyance General average Jettison or washing overboard Earthquake, volcanic eruption or lightning Entry of sea, lake or river water into vessel craft hold in which the goods are located 9. Total loss of package during loading onto or unloading from vessel or craft. 10. Discharge of goods at port of distress 1. 2. 3. 4. 5. 6. 7. 8.

Exclusions 1. Same as Institute Cargo Clauses (A), plus deliberate damage 2. Nuclear Fission Institute Cargo Clauses (C) Goods Covered Steel, timber, loose grains (i.e. theft is unlikely). Perils Insured 1. 2. 3. 4. 5. 6. 7.

Fire or explosion Vessel being stranded, sunk or capsized Overturning or derailment of land conveyance Collision of vessel or conveyance General average Jettison Discharge of goods at port of distress

Exclusions

1. Same as Institute Cargo Clauses (A), plus deliberate damage 2. Nuclear Fission Institute War Clauses (Cargo)

This insurance covers loss of or damage to the goods caused by war, civil commotion, revolution, rebellion, capture or detainment, mines, torpedoes or bombs. It excludes: 1. 2. 3. 4. 5. 6. 7. 8.

Wilful misconduct of insured Ordinary leakage, loss in weight, wear and tear Insufficiency or unsuitability of packing Inherent vice Delay Insolvency or financial default of owner or charterer of vessel Any claim on loss or frustration of the voyage Un-seaworthiness of vessel if known

9. Nuclear Fission Institute Strikes Clauses (Cargo) This insurance covers loss of or damage to the goods caused by strikers, locked-out workmen, or persons taking part in labour disturbances, terrorists, riots or civil commotion. It excludes: 1. 2. 3. 4. 5. 6. 7.

Wilful misconduct of insured Ordinary leakage, loss in weight, wear and tear Insufficiency or unsuitability of packing Inherent vice Delay Insolvency or financial default of owner or charterer of vessel Loss or damage or expense arising from absence, shortage or withholding of labour

8. Any claim on loss or frustration of the voyage 9. War 10. Un-seaworthiness of vessel if known 11. Nuclear Fission If a strike occurs, there is usually some delay, either in loading or unloading the goods or in moving the goods from the wharf. While the delay continues, the goods are still covered against the risks insured under the policy. However, it does not cover deterioration of the goods or any financial loss such as loss of market arising from the prolongation of the voyage because of the strike. Courtesy: [email protected]

END