Letter of Credit / Summary Guide to Export
Selling and shipping overseas is not as easy as selling in the United States. Reading my articles on Letters of Credit and my book “Letters of Credit and Documentary Collections” can make you an expert in international transactions. Not too many people know how letters of credit or documentary collections work. Even fewer know how important a good freight agent can be to help your international selling effort.
Big companies have import and export departments that handle these international sales efforts. It is necessary for the sales department and accounting department to handle all the paperwork involved. It is recommended that one person be in charge of setting up a system in your office. It should be the sales department that makes any major decisions regarding the method of collection since they are the ones in contact with the overseas customer. Now we will review what the important points for Letters of Credit and International Sales.
Letters of Credit
The best type of letter of credit to use is an irrevocable confirmed letter of credit. This is the only type of LC that will guarantee payment. A confirmed letter of credit means the buyer’s bank adds its commitment to honor the payment terms to the supplier’s bank. As long as all the documents are correct and the goods have been shipped within the time requirements you will be paid. This type of LC is used when you have a new customer or are unsure about his ability to pay as required. To obtain this type of letter of credit, you need to advise your customer that your company requires a confirmed letter of credit in order to do business. After the customer has proven they are honest and have continued business with your company, then you can change to an irrevocable LC.
One other key point is using the correct advising bank to handle your side of the letter of credit. It can be your company bank if they have a relationship with the issuing bank. Or it could also be a USA branch of the issuing bank. For example, Bank of China New York Branch is ideal to handle letters of credit from one of their Bank of China branches.
Discrepancies or mistakes in the documents can cost you money and other problems. I advised how to correct these errors, typing mistakes, or possibly misspellings in my other articles and book. Your advising bank is the key to making corrections. It is necessary to check all the documents two or three times before sending them to your advising bank.
There are several documentary types of collection that can be used when not using a Letter of Credit. The best and safest method is the D/P or Documents against Payment method. This is a very safe method to use when there is any doubt about the customer paying. This method uses a sight draft that means the bank will not release the documents until the customer pays. Another added advantage is that the D/P system is very low cost for you and your customer. In most cases, you can receive payment within thirty days of your ship date, and sometimes payment is even faster.
D/A or Documents against Acceptance works the same way as the D/P, but a time draft is used. This allows the customer a certain time to pay such as thirty days or sixty days. This is also a safe method to use but requires you to know your customer very well.
Net 30 Days and Payment in Advance
Net 30 days and payment in advance do not make use of documents as do letters of credit and documentary collections methods. Net 30 days is a direct payment system used by you and your customer. The payment goes through the banks, but in this case, they only act to transfer the funds. Using Net 30 day terms requires full trust in your customer to make the required payment on time.
Payment in advance of shipment is the best possible method to use for safety. You receive the payment and then you make the shipment. The risk is zero. Net 30 day terms are very risky. In both methods, keep in mind that documents do not go through the bank but directly from you to the customer.
Bills of Exchange or Drafts
All Letters of Credit and Documentary Collection such as D/P use Drafts or Bills of Exchange. The sight draft used with letters of credit and documents against payment (D/P) system is a powerful tool that requires the customer to pay for the goods when the documents are presented by his bank. This is the safest method to use. If the customer does not pay, then he does not receive the goods, which can then be shipped back to you at your expense. Where do you obtain bank drafts? You can obtain them from your advising bank just by making a phone call. It is necessary for your company to fill in the draft and send it with the other documents to the advising bank. Without a draft, your documents are not complete and you cannot be paid.
Assignment of Proceeds
The assignment of proceeds letter is a tool that can help you with your supplier payment. If the purchase from your supplier is over your credit limit, you can suggest to them that you use an assignment of proceeds letter against the letter of credit you have from your customer. Your supplier must agree in writing to accept this assignment. If you ask your bank, they will send you the standard assignment of proceeds letter. You fill it out and return it to the bank, and they will send a copy to your supplier. The letter promises to make payment to your supplier as soon as the LC is paid. Using this tool can help reduce your cash flow problems and keep good relations with your supplier.
International Shipping Methods and Export Regulations
As I mentioned before, it is very necessary to have a good international freight forwarder who acts as an agent for the exporter in moving cargo to overseas customers. Transporting goods internationally requires proper documents and correct packing. The freight agent needs to be familiar with the import/export laws and rules of the USA and of foreign countries you are shipping too. In most cases, it is not necessary to have an export license when shipping to countries friendly to the United States. Most goods are shipped and are stamped No License Required, or NLR on the invoice. There are, however, some materials such as certain metals and chemicals that do require an export license; so it is a good idea to check on this with your freight agent. He can provide you the ECCN or Export Commodities Classification Number, and you can then check it with the Bureau of Industry and Security.
In over twenty years of doing business overseas, we have only used CFR, CIF, FOB, and EXW. It is suggested that if you are paying the freight to use CIF and pay a little extra for the insurance protection, just in case some accident happens during shipment. If the customer pays the freight, then FOB or EXW can be used, but make sure they understand the rules, that they are responsible for the goods once loaded, and if any damage happens during shipment or the goods become lost, the problem is theirs. This means they still have to pay you if anything happens to the shipment.
It is a good idea to send them a copy of the freight terms definitions. This assures there is a complete understanding between both parties. As you can see, shipping is very involved; and if you have a good freight agent, it can save you a lot of work, time, and money.
Armed with the information in this article, you can be a better manager and business owner. You can control your international exports in a safe manner and not worry about the risk of nonpayment. Remember; always know your customer and his business. I suggest that you always visit your customer to see firsthand their business operations and to help develop good relations.
Articles on Letters of Credit by Thomas H. Ward, MBA: http://www.associatedcontent.com/user/866230/thomas_h_ward.html
Glossary of Shipping Terms: www.marad.dot.gov/publications/glosary/Glossary.html
International Bank Account Number: http://en.wikipedia.org/wiki/IBAN
National Information Center: www.ffi ec.gov
Glossary of Trade and Shipping Terms: www.tradeport.org/library/a.html
Export 911: www.export911.com
Transporting Goods Internationally: www.sba.gov
UCC (Uniform Commercial Code): www.law.cornell.edu
AES Direct: www.aesdirect.gov