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International Trade Instruments: DR (Prof) Sandeep Parmar

This document discusses various payment methods for international trade, including letters of credit. It begins by explaining that importers want to pay after receiving goods to ensure quality, while exporters want payment before delivery to ensure they receive payment. Letters of credit address this dilemma by using a bank as an intermediary. The document then explains key terms like applicant, issuing bank, advising bank, beneficiary, and confirming bank. It provides a step-by-step process for how letters of credit work, including the exporter shipping goods and presenting documents to receive payment. The document also discusses types of letters of credit like revocable and irrevocable and whether they are sight or usance (term).
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0% found this document useful (0 votes)
83 views48 pages

International Trade Instruments: DR (Prof) Sandeep Parmar

This document discusses various payment methods for international trade, including letters of credit. It begins by explaining that importers want to pay after receiving goods to ensure quality, while exporters want payment before delivery to ensure they receive payment. Letters of credit address this dilemma by using a bank as an intermediary. The document then explains key terms like applicant, issuing bank, advising bank, beneficiary, and confirming bank. It provides a step-by-step process for how letters of credit work, including the exporter shipping goods and presenting documents to receive payment. The document also discusses types of letters of credit like revocable and irrevocable and whether they are sight or usance (term).
Copyright
© © All Rights Reserved
We take content rights seriously. If you suspect this is your content, claim it here.
Available Formats
Download as PPTX, PDF, TXT or read online on Scribd
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International Trade

Instruments

by
Dr (Prof) Sandeep Parmar
Foreign trade transacti on
 W e understand “Trade” as something wherein
goods are sold in return of some goods or money.
 I n international trade, there is always dilemma
ot importer and exporter who would like to do
business with one another.

 Importer is always feared of not receiving the


goods or receiving goods with different qualities so
they want to pay after the goods received.
 I n other hand, exporters also fear of not receiving
the payment in time or not at all, so they want
payment before the delivery of goods. 2
Foreign trade transacti on
 Because of the distance between two, it is not
possible to simultaneously hand over goods with
one and accept payment with other.
 T o address these fundamental dilemmas of being
unwilling to trust a stranger in a foreign land is
solved by using a high respected bank as
intermediary or guarantor.

3
Payment method for international
trade

 Prepayment

 L e t t e r of credit

 D r a f t (sight/time)

 Consignment

 O p e n account

4
Prepayment
 I t is also known as advance payment.

 U n d e r this method, the exporter will not ship the goods


until the buyer has remitted payment to the exporter.
 T h i s method affords the supplier the greatest degree of
protection, and it is normally requested of the first time
buyer whose creditworthiness is unknown.

5
Draft
 A draft is the instrument normally used in
international commerce to effect payment.

 A draft is simply an order written by an exporter


(seller) instructing an importer (buyer) or its agent
to pay a specified amount of money at a specified
time.
 T h u s , it is the exporter’s formal demand for
payment from the importer.

 T h e person or business initiating the draft is known


as the maker, drawer, or originator. Normally, this
is the exporter.
6
Draft
 T h e party to whom the draft is addressed is the
drawee. Normally, this is the importer.

 D r a f t can be:

 Sight draft : A sight draft is payable on


presentation to the drawee
 T i m e Draft: A time draft, also called a usance draft,
allows a delay in payment.

7
Consignment
 U n d e r a consignment arrangement, the exporter
ships the goods to the importer while still retaining
actual title itself (exporter).

 T h e importer has the access to the inventory but


does not have to pay for the goods until they have
been sold to a third party.
 I f the importer fails to pay, the exporter has limited
recourse because no draft is involved and the goods
have already been sold.
 D u e to this nature, consignment is popular for
subsidiary companies trading with the parent 8

company.
Open Account
 i f there is good relationship between importer
and exporter, they may choose open account
for transaction.
 I n open account, importer open account in
exporter firm. The value of goods shipped is
added to this account.
 A n exporter send invoice at the end of each
month or after each transaction. This method
save collection fees as well as cost of letter of
credit.
9
The Financing of International
Trade
Short term financing

 Account receivable
financing


Factoring
 Letter of credit

 Banker’s acceptance

 Trust received loan

Long term
financing
 Forfaitin
g
 Buyer credit

 Government Financing

 Countertrade (it is fall on both category)

10
Account receivable
financing
 Exporter can easily provide credit to the importer if
there is good relationship between importer and
exporter.

 A f t e r providing credit, if exporter needs fund


immediately, it may choose to finance from bank,
known as account receivable financing.

 B a n k provide loan to the exporter on the base of


account receivable. Bank has provide loan to the
exporter so in case of buyer fails to pay the exporter is
still responsible for repaying loan to the bank.
11
Factorin
 Exporter can sellgtheir account receivable to a
specialized third party or firm, known as factor.
 F a c t o r can purchase receivable in Non-recourse or
recourse basis.

 N o n - recourse means that factor will take the


credit, political, foreign exchange risk of receivable
it purchases.
 Recourse means that the factor can give back
receivable that are not collected.
12
Letter of Credit – A Concept
 A letter of credit is a document that a financial
institution or similar party issues to a seller of
goods or services which provides that the issuer
will pay the seller for goods or services the seller
delivers to a third-party buyer.

 The document serves essentially as a guarantee to


the seller that it will be paid by the issuer of the
letter of credit regardless of whether the buyer
ultimately fails to pay.
 Letters of credit are used primarily in international
trade for large transactions between a supplier in
one country and a customer in another
13
P arti es i n v o l v ed i n l ett er
of
c red i t
 Applicant

 Issuing bank

 Advising bank

 Beneficiary

 Confirming bank

 Negotiating bank
14
S tep - b y - step p ro c ess:
 B u y e r and seller agree to conduct business. The
seller wants a letter of credit to guarantee
payment.

 B u y e r applies to his bank for a letter of credit ni


favor of the seller.

 B u ye r ' s bank approves the credit risk of the


buyer, issues and forwards the credit to its
correspondent bank (advising or confirming).
The correspondent bank is usually located in the
same geographical location as the seller
(beneficiary).

 A d v i s i n g bank will authenticate the credit and


forward the original credit to the seller 15

(beneficiary).
Step in Import letter of credit

SELLER BUYER
1. Sales Contract

4. Advice f letter 2. Letter of


o of
credit credit
application

ADVISING/ ISSUING
CONFIRMING
BANK BANK
3. Request to advice and, if
applicable, confirm letter of
16
credit
Cont…
 S e l l e r (beneficiary) ships the goods, then
verifies and develops the documentary
requirements to support the letter of credit.
Documentary requirements may vary greatly
depending on the perceived risk involved in
dealing with a particular company.

 S e l l e r presents the required documents o


t
the advising or confirming bank to be
processed for payment.
 A d v i s i n g or confirming bank examines the
documents for compliance with the terms
and conditions of the letter of credit and 17
Cont….
 I f the documents are correct, the advising or
confirming bank will claim the funds by:
 Debiting the account of the issuing bank.
 Waiting until the issuing bank remits, after receiving
the documents.
 Reimburse on another bank as required in the
credit.
 Advising or confirming bank will forward the
documents to the issuing bank.
 Issuing bank will examine the documents for
compliance. If they are in order, the issuing bank will
debit the buyer's account; the bank then forwards the
documents to the buyer. 18
Step in import letter of credit

5. Ship the goods


SELLER BUYER

6. Present 9. Forward Docu ent


7. Payment
and Debitm
s
document Buye account r

10.
Reimbursement
ADVISING/CONFIRMIN ISSUING
G BANK
BANK
8. Send documents
and Debit Issuing bank
19
Type of L/C
• Revocable L/C : It may be amended or
cancelled by the opening bank at any moment
and without prior notice to the seller
• Irrevocable L/C : In this case it is not possible
to revoked or amended a credit without the
agreement of the issuing bank, the confirming
bank, and the beneficiary.
• Confirmed L/C : It is a special type of L/c
in which another bank apart from the
issuing bank has added its guarantee
• The cost of confirming by two banks makes it20
costlier.
Cont…
 S i g h t or Term(Usane): Letters of credit can permit the
beneficiary to be paid immediately upon presentation of
specified documents (sight letter of credit), or at a
future date as established in the sales contract
(term/usance letter of credit).

21
Cont…..
 Financing opportunities, such as pre-shipment
finance secured by a letter of credit and/or
discounting of accepted drafts drawn under letters
of credit, are available in many countries.
 B a n k expertise is made available to help complete
trade transactions successfully.
 Payment for the goods shipped can be remitted ot
your own bank or a bank of your choice.

22
Cont…
 T o the importer:

• Payment will only be made to the seller when


the terms and conditions of the letter of credit
are complied with.
• The importer can control the shipping dates for
the goods being purchased.
• Cash resources are not tied up.

23
Risk in
L/c
 F r a u d Risks: The payment will be obtained for
nonexistent or worthless merchandise against presentation
by the beneficiary of forged or falsified documents.
Sometime Credit itself may be forged.
 Sovereign and Regulatory Risks: Performance of the
Documentary Credit may be prevented by government
action outside the control of the parties.
 L e g a l Risks: Possibility that performance of a
Documentary Credit may be disturbed by legal action
relating directly to the parties and their rights and
obligations under the Documentary Credit
 F o r c e Majeure and Frustration of Contract:
Performance of a contract including an obligation under a
Documentary Credit relationship is prevented by externa l
24
Cont…
 R i s k s to the Applicant:
 Non-delivery of Goods
 Short Shipment
 Inferior Quality
 Early /Late Shipment
 Damaged in transit
 Foreign exchange
 Failure of Bank viz Issuing bank / Collecting
Bank

 R i s k s to the Issuing Bank:


25
Risk to the:
 Beneficiary:
 Failure to Comply with Credit Conditions
 Failure of, or Delays in Payment from, the Issuing Bank

 Advising Bank: The Advising Bank’s only obligation


if it accepts the Issuing Bank’s instructions is to check
the apparent authenticity of the Credit and advising it to
the Beneficiary.
 Confirming Bank: If Confirming Bank’s main risk is
that, once having paid the Beneficiary, it may not be
able to obtain reimbursement from the Issuing Bank
because of insolvency of the Issuing Bank or refusal of
the Issuing Bank because of a dispute as to whether
Banker’
 In Acceptance
L/C will the exporter present time draft along
with shipping documents to its local bank, and the
exporter’s bank send the time draft along shipping
documents to the importer’s bank. The importer’s
bank accepts the draft, thereby creating the
banker acceptance.
 I f the exporter does not want to wait until the
specified date to receive payment, it can sold the
banker’s acceptance in the money market at
discount.
27
Benefit to exporter
 T h e exporter does not need to worry about the
credit risk of the importer.
 T h e exporter faces little exposure to political risk
or to exchange controls imposed by a government
because banks normally are allowed to meet their
payment commitments even if control could
prevent an importer from paying,
 Exporter can sell the banker’s acceptance at a
discount before payment is due and thus obtain
funds up front from the issuing bank. 28
Benefit to Importer
 Banker ’s acceptance by providing greater access ot
foreign markets when purchasing supplies and
other product.
 D u e to the documents presented along with the
banker’ acceptance, the importer is assured that
goods have been shipped.
 I t allows the importer to pay at a later date, the
importer’s payment is financed until the maturity
date of the banker’s acceptance.
29
Benefit to
Bank
 T h e bank accepting the drafts benefits in that it earns
a commission for creating an acceptance.

30
Trust Received loan
 Tr u s t Receipt (TR) is a type of short-term import loan to
provide the buyer with financing to settle goods imported
under Letter of Credit where title of goods is held by the
bank.
 U n d e r a TR arrangement, the Bank retains title to the goods
but allows the buyer to take possession of the goods on trust
for resale before paying the Bank on TR due date

31
Medium and long term
financing
B u y e r credit

 Government Financing

 Forfaiting

 Countertrade (it is fall on both category)

32
Buyer Credit
 W h e n expensive capital equipment is being
purchased an exporter sometime arranges for a
financial institutions to grant credit to the importer,
known as buyer credit.

 B y arranging the credit for the importer, the


exporter is ultimately paid cash up front, and the
financial intermediaries bear most of the default risk
of the importer.
33
Forfaitin
 Forfaiting is g
a method of trade finance that allows
exporters to obtain cash by selling their medium-
term foreign accounts receivable at a discount on
a “without recourse”

 A forfaiter is a specialized finance firm or a


department in a bank that performs non-recourse
export financing through the purchase of medium-
term trade receivables.
 T h e forfaiter will deduct interest (discount)
and advance for the whole period of credit and
the net proceeds immediately. 34
Forfaitin
1.
g
Sales agreement between Importer and exporter

2. Importer prepared the promissory notes and summit


to bank. In most case importer bank which is located
in importer country.

3. Importer bank signed (make guarantee or avalled) on


promissory notes and send back to importer
4. Importer forward guaranteed Notes to exporter.
5. Exporter exchange guaranteed notes with cash from
forfaiting bank (generally this notes are cashed at
discount due to early received of cash and interest
on early received will compensate the discount. 35
Forfaitin
5.
g
Exporter shipped the goods

6. Forfaiting bank either sells the notes to investor in


money market or waits until the maturity.

7. At maturity, forfaiting bank present notes to importer


bank.

8. Importer bank inform importer about arrived of notes


and debit his/her account.
9. Importer bank pay or credit the forfaiting account

36
Step involved in
forfeiting
6 Cash payment

Exporter Forfeiting bank

5 Present guarantee Notes

7 Ship the
4 . Deliver Guarantee Notes 8 Notes 10
goods Payment
1. Sales Present made
ract
cont
2. Notes send for
guarantee
Importer Importer bank
3 Guaranteed notes
return
9 Payment made
37
Countertrade
 T h e term countertrade denotes all type of
foreign transaction in which sales of goods to
the country is linked to the purchase or
exchange of goods from the same country.

 Countertrade may or may not involve money n


i
the transaction but there is guarantee of two
ways commodity flow.

 Popular countertrade are:


 Barter
 Switch trading 38
 Counter purchased
Barter
 T h e simplest form of countertrade is involved the
direct exchange of goods or services from one
country for the goods or services of another.
 Tr a d e is balance in the sense that the value of what
is being imported equal to the value of what is
being exported.
 Although money is not involved, money may be the
base that determines the value of the goods

39
Switchin
g
 Switching trading involves a third party, a switch
trader, who facilitates the eventual clean of an
imbalance of trade, between two parties to a
bilateral clearing agreement.
 F o r example, Nepal and China might agree to
exchange Nepalese tea for Chinese garment during
the coming year; at the time of delivery value of
Nepalese tea exceeds the value of Chinese
garments.
40
N o w this
settle Nepalese exporter has two alternatives to
balancing
Switchin
g
 F i r s t , Nepalese exporter can used this balancing
value to purchase other goods from china or from
other third country say India with the help of
switch trader or
 Second, it can directly sells this credit to
switch trade in cash. Later on switch trader used
this balancing value to purchase goods from
china.

41
Counterpurchased
 Barter require a double action of wants in that two
parties in the transaction must each want what the
other party has to provide, and want it at the same
time and in the same amount.
 Because of these difficulties, there is another form
of countertrade, called counterpurchase. Counter
purchased is agreement between seller and buyer
either to:

42
Counterpurchase
 M a k e purchase from a company nominated by the
buyer, later buyer settle up the company it has
nominated.
 Ta k e product from the buyer in future, that is the
seller accept credit in term of product.

43
Offset
 A n Offset is a requirement of an importing
country that the price of its import be offset in
some way by the exporter.
 I n offset, there might be contract between
importer and exporter, where exporter,
purchase raw material from Importer Company
or country, in return exporter may supply
finished goods.
 I n other case exporter agree to purchase goods in
the importers country, to increase its imports
from that country, to transfer
y to the country or to conduct additional direct foreign 44
Buybac
 In
k
this agreement, the seller of the capital
equipment agrees to buy the product made
with the equipment it supplies.
 T h i s form of countertrade is common with
capital equipment used in mining and
manufacturing.

 Buyback can be exits in three ways:

 Exporter receive product, directly from the factory that


was constructed and these product are similar to
exporter industry. 45
Buybac
k and other product of the country
 Mix of resultant product

 A famous example of a buyback is the agreement


by several western European countries to supply
the Soviet Union with pipe, compressor, controls,
and other equipment necessary to build natural gas
pipeline from the Soviet Union to Western Europe.
The payment for the pipeline was natural gas
delivered through the pipeline to Western Europe
over the course of several years.
46
Practices in Nepal

 Short term financing: Banker’s Acceptance


(In case of Time L/C)
 TR Loan: This is Trust Receipt Loan under
which a Bank allows the importer (its
customer) to get the goods released from the
Transporter and sell it for repaying to the
Bank. The term of such loans vary from 30
days to 180 days.
 Pre-shipment financing (Loans given to
exporter to produce goods for the export –
Shipment Financing (Loans or discount 47

made after the shipment


[email protected] 48

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