What is an Export Letter of Credit?
It all depends on your point of view. From the seller's (beneficiary's)
perspective, a commercial letter of credit from a foreign country is an
export credit. To the buyer (applicant), the same letter of credit is an
import credit. An export credit is a conditional payment mechanism
whereby the issuing bank irrevocably promises to pay the seller, if
presented documents comply with all of the L/C's terms and
conditions. As the issuing bank's undertaking is conditional, a
commercial letter of credit is not a guarantee of payment.
How is the Export L/C process initiated?
Once the buyer (importer) and the seller (exporter) agree on price
and terms of sale, the importer arranges for its bank to open an
irrevocable letter of credit. The buyer's bank prepares a letter of
credit based on instructions from the buyer, which are in agreement
with the previously arranged terms of sale. The buyer's bank sends
the letter of credit by either wire or mail to its correspondent bank.
The exporter may request that a specific bank be the advising bank.
If no advising bank is requested, the issuing bank will select one of
its correspondents.
What is the advising bank's role?
The advising bank verifies the authenticity of the letter of credit,
prepares a cover letter containing presentation instructions, and
forwards the L/C to the exporter (beneficiary). The advising bank
has no obligation to pay. Unless the advising bank has added its
confirmation to the L/C, it will pay the beneficiary only after it has
received good funds from the issuing bank. The letter of credit
should be advised to the International Department of the exporter’s
bank, not to the exporter’s local bank branch. Local bank branches
do not have the ability to authenticate letters of credit from overseas.
What are the beneficiary's responsibilities?
The beneficiary reviews the letter of credit to make sure it conforms
to all of the terms of sale and that all requirements, such as latest
shipping date, can be met. If the exporter cannot comply with any of
the credit terms, the buyer is contacted directly and an amendment
is requested. The advising bank has no responsibility in the
amendment process except to forward received amendments to the
beneficiary after verifying their authenticity.
The exporter contacts a freight forwarder to arrange delivery of the
merchandise to the port/airport of departure. The goods are
delivered to the departure point and the freight forwarder prepares
the necessary documentation in compliance with the L/C terms and
conditions. Either the exporter or the forwarder presents complying
documents and the original letter of credit to the advising bank.
What is "Negotiation"?
The importer's bank reviews the documents for compliance with the
letter of credit terms and conditions. If found to be in order, the
documents are forwarded to the foreign bank for review and
transmission to the buyer. If the documents are not in compliance
with all the terms and conditions of the letter of credit, the bank can
act only in the following ways:
1) Return the documents to the exporter for correction, if possible,
and time permitting.
2) Send the documents to the issuing bank on an "approval basis".
3) Cable the issuing bank for authority to pay.
4) Accept an indemnity from the exporter covering discrepancies.
(This is technically an extension of credit.)
5) Pay under reserve with recourse to the exporter if buyer refuses
documents. (This is also an extension of credit.)
6) Return the documents to the seller for their disposition.
How long does it take for the exporter to get paid?
The timeliness of payment to the exporter is dependent on the
reimbursement instructions in the letter of credit. Unless the credit
has been confirmed, the advising bank is under no obligation to pay.
It will pay only after receiving funds from the issuing bank.
