Since payment under these two methods is made on the basis of documents, all terms of sale should be clearly specified. For example, "net 30 days" should be specified as "net 30 days from acceptance" or "net 30 days from date of bill of lading" to avoid confusion and delay of payment. Likewise, the currency of payment should be specified as "US$XXX" if payment is to be made in U.S. dollars. International bankers can offer other suggestions to help.
Banks charge fees usually a small percentage of the amount of payment for handling letters of credit and less for handling drafts. If fees charged by both the foreign and U.S. banks for their collection services are to be charged to the account of the buyer, this point should be explicitly stated in all quotations and on all drafts. The exporter usually expects the buyer to pay the charges for the letter of credit, but some buyers may not accept terms that require this added cost. In such cases the exporter must either absorb the letter of credit costs or lose that potential sale.
Payment under a documentary letter of credit is based on documents, not on the terms of sale or the condition of the goods sold. Before payment, the bank responsible for making payment verifies that all documents are exactly as required by the letter of credit. When they are not as required, a discrepancy exists, which must be cured before payment can be made. Thus, the full compliance of documents with those specified in the letter of credit is mandatory.
Often a letter of credit issued by a foreign bank is confirmed by a U.S. bank. This means that the U.S. bank, which is the confirming bank, adds its promise to pay to that of the foreign, or issuing, bank. Letters of credit that are not confirmed are advised through a U.S. bank and are called advised letters of credit. U.S. exporters may wish to confirm letters of credit issued by foreign banks not only because they are unfamiliar with the credit risk of the foreign bank but also because there may be concern about the political or economic risk associated with the country in which the bank is located. An international banker or the local U.S. Department of Commerce district office can help exporters evaluate these risks to determine what might be appropriate for each specific export transaction.
A letter of credit may be either irrevocable (that is, it cannot be changed unless both the buyer and the seller agree to make the change) or revocable (that is, either party may unilaterally make changes). A revocable letter of credit is inadvisable. A letter of credit may be at sight, which means immediate payment upon presentation of documents, or it may be a time or date letter of credit with payment to be made in the future. See the "Drafts" section of this chapter.
Any change made to a letter of credit after it has been issued is called an amendment. The fees charged by the banks involved in amending the letter of credit may be paid by either the exporter or the foreign buyer, but who is to pay which charges should be specified in the letter of credit. Since changes can be time-consuming and expensive, every effort should be made to get the letter of credit right the first time.
An exporter is usually not paid until the advising or confirming bank receives the funds from the issuing bank. To expedite the receipt of funds, wire transfers may be used. Bank practices vary, however, and the exporter may be able to receive funds by discounting the letter of credit at the bank, which involves paying a fee to the bank for this service. Exporters should consult with their international bankers about bank policy.
Upon receiving a letter of credit, the exporter should carefully compare the letter's terms with the terms of the exporter's pro forma quotation. This point is extremely important, since the terms must be precisely met or the letter of credit may be invalid and the exporter may not be paid. If meeting the terms of the letter of credit is impossible or any of the information is incorrect or misspelled, the exporter should get in touch with the customer immediately and ask for an amendment to the letter of credit to correct the problem.
The exporter must provide documentation showing that the goods were shipped by the date specified in the letter of credit or the exporter may not be paid. Exporters should check with their freight forwarders to make sure that no unusual conditions may arise that would delay shipment. Similarly, documents must be presented by the date specified for the letter of credit to be paid. Exporters should verify with their international bankers that sufficient time will be available for timely presentation.
International letters of credit are usually governed by uniform customs and practices or by ICC Publication No. 400. International bankers may be consulted for more information.
Exporters should always request that the letter of credit specify that partial shipments and transshipment will be allowed. Doing so prevents unforeseen problems at the last minute.
Air waybills of lading, on the other hand, do not need to be presented in order for the buyer to claim the goods. Hence, there is a greater risk when a sight draft is being used with an air shipment.
In actual practice, the bill of lading or air waybill is endorsed by the shipper and sent via the shipper's bank to the buyer's bank or to another intermediary along with a sight draft, invoices, and other supporting documents specified by either the buyer or the buyer's country (e.g., packing lists, consular invoices, insurance certificates). The bank notifies the buyer when it has received these documents; as soon as the amount of the draft is paid, the bank releases the bill of lading, enabling the buyer to obtain the shipment.
When a sight draft is being used to control the transfer of title of a shipment, some risk remains because the buyer's ability or willingness to pay may change between the time the goods are shipped and the time the drafts are presented for payment. Also, the policies of the importing country may change. If the buyer cannot or will not pay for and claim the goods, then returning or disposing of them becomes the problem of the exporter.
Exporters should also consider which foreign bank should negotiate the sight draft for payment. If the negotiating bank is also the buyer's bank, the bank may favor its customer's position, thereby putting the exporter at a disadvantage. Exporters should consult their international bankers to determine an appropriate strategy for negotiating drafts.
A date draft differs slightly from a time draft in that it specifies a date on which payment is due, for example, December 1, 19XX, rather than a time period after the draft is accepted. When a sight draft or time draft is used, a buyer can delay payment by delaying acceptance of the draft. A date draft can prevent this delay in payment but still must be accepted.
When a bank accepts a draft, it becomes an obligation of the bank and a negotiable investment known as a banker's acceptance is created. A banker's acceptance can also be sold to a bank at a discount for immediate payment.
International credit card transactions are typically placed by telephone or fax, methods that facilitate fraudulent transactions. Merchants should determine the validity of transactions and obtain proper authorizations.
Open account sales do pose risks, however. The absence of documents and banking channels may make legal enforcement of claims difficult to pursue. The exporter may have to pursue collection abroad, which can be difficult and costly. Also, receivables may be harder to finance, since drafts or other evidence of indebtedness are unavailable.
Before issuing a pro forma invoice to a buyer, exporters contemplating a sale on open account terms should thoroughly examine the political, economic, and commercial risks and consult with their bankers if financing will be needed for the transaction.
When this type of sale is contemplated, it may be wise to consider some form of risk insurance. In addition, it may be necessary to conduct a credit check on the foreign distributor (see the section of this chapter titled "Decreasing Credit Risks Through Credit Checks"). Furthermore, the contract should establish who is responsible for property risk insurance covering merchandise until it is sold and payment received.
One of the uncertainties of foreign trade is the uncertainty of the future exchange rates between currencies. The relative value between the dollar and the buyer's currency may change between the time the deal is made and the time payment is received. If the exporter is not properly protected, a devaluation in the foreign currency could cause the exporter to lose dollars in the transaction. For example, if the buyer has agreed to pay 500,000 French francs for a shipment and the franc is valued at 20 cents, the seller would expect to receive $100,000. If the franc later decreased in value to be worth 19 cents, payment under the new rate would be only $95,000, a loss of $5,000 for the seller. On the other hand, if the foreign currency increases in value the exporter would get a windfall in extra profits. However, most exporters are not interested in speculating on foreign exchange fluctuations and prefer to avoid risks.
One of the simplest ways for a U.S. exporter to avoid this type of risk is to quote prices and require payment in U.S. dollars. Then the burden and risk are placed on the buyer to make the currency exchange. Exporters should also be aware of problems of currency convertibility; not all currencies are freely or quickly convertible into U.S. dollars. Fortunately, the U.S. dollar is widely accepted as an international trading currency, and American firms can often secure payment in dollars.
If the buyer asks to make payment in a foreign currency, the exporter should consult an international banker before negotiating the sales contract. Banks can offer advice on the foreign exchange risks that exist; further, some international banks can help one hedge against such a risk if necessary, by agreeing to purchase the foreign currency at a fixed price in dollars regardless of the value of the currency when the customer pays. The bank charges a fee or discount on the transaction. If this mechanism is used, the fee should be included in the price quotation.
Simple barter is the direct exchange of goods or services between two parties; no money changes hands. Pure barter arrangements in international commerce are rare, because the parties' needs for the goods of the other seldom coincide and because valuation of the goods may pose problems. The most common form of compensatory trade practiced today involves contractually linked, parallel trade transactions each of which involves a separate financial settlement. For example, a countertrade contract may provide that the U.S. exporter will be paid in a convertible currency as long as the U.S. exporter (or another entity designated by the exporter) agrees to export a related quantity of goods from the importing country.
U.S. exporters can take advantage of countertrade opportunities by trading through an intermediary with countertrade expertise, such as an international broker, an international bank, or an export management company. Some export management companies offer specialized countertrade services. Exporters should bear in mind that countertrade often involves higher transaction costs and greater risks than simple export transactions.
The Department of Commerce can advise and assist U.S. exporters faced with countertrade requirements. The Finance and Countertrade Division of the Office of Finance, Industry, and Trade Information monitors countertrade trends, disseminates information (including lists of potentially beneficial countertrade opportunities), and provides general assistance to enterprises seeking barter and countertrade opportunities. For information, contact Finance and Countertrade Division, Office of Finance, Industry, and Trade Information, International Trade Administration, U.S. Department of Commerce, Washington, D.C.; telephone 202-482-4471. UNCITRAL is expected to publish a legal guide to countertrade contracts in 1992.
The Department of Commerce's WTDRs (see chapter 7, Making Contacts) also provide useful information for credit checks. For a fee, a WDTR may be requested on any foreign company. Although the WTDR is itself not a credit report, it does contain some financial information and also identifies other U.S. companies that do business with the reported firm. The exporter may then contact those companies directly to find out about their payment experience.
Private credit reporting services also are available. Several U.S. services compile financial information on foreign firms (particularly larger firms) and make it available to subscribers. Reliable evaluations can also be obtained from foreign credit reporting services, many of which are listed in The Exporter's Guide to Foreign Sources for Credit Information, published by Trade Data Reports, Inc., 6 West 37th Street, New York, NY 10018.
The simplest (and least costly) solution to a payment problem is to contact and negotiate with the customer. With patience, understanding, and flexibility, an exporter can often resolve conflicts to the satisfaction of both sides.
This point is especially true when a simple misunderstanding or technical problem is to blame and there is no question of bad faith. Even though the exporter may be required to compromise on certain points perhaps even on the price of the committed goods the company may save a valuable customer and profit in the long run.
If, however, negotiations fail and the sum involved is large enough to warrant the effort, a company should obtain the assistance and advice of its bank, legal counsel, and other qualified experts. If both parties can agree to take their dispute to an arbitration agency, this step is preferable to legal action, since arbitration is often faster and less costly. The International Chamber of Commerce handles the majority of international arbitrations and is usually acceptable to foreign companies because it is not affiliated with any single country. For information contact the vice president for arbitration, U.S. Council of the International Chamber of Commerce, telephone 212-354-4480. The American Arbitration Association is also a reputable arbitration agency that handles international disputes; for information telephone 212-484-4000.
Commerce makes every effort to restore communications between the parties to the dispute in order to arrive at an amicable settlement. When legal proceedings are initiated, U.S. government assistance is normally withdrawn.