Beruflich Dokumente
Kultur Dokumente
ArunaManharlal Shah Institute of Management and Research Ghatkopar [W], Mumbai-86 2009-11
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CERTIFICATE
DECLARATION
I hereby declare that the project work entitled A Study of Trade Finance Opportunities in Export-Import operations: Problems & Prospects submitted to the NKGSB Co-op Bank, Girgaum, Mumbai is a record of an original work done by me under the guidance of Mr. Nirmal Parekh, Forex Department, NKGSB, and this project work is submitted in the partial fulfilment of the requirements for the award of the degree of Master in Management Studies at Aruna Manharlal Shah Institute of Management and Research. The results embodied in this thesis have not been submitted to any other University or Institute for the award of any degree or diploma.
Acknowledgement
My sincere gratitude to NKGSB Co-op Bank Ltd for providing me with an opportunity to work in the Banking Sector. I take this opportunity to acknowledge the efforts of all those individuals who have helped me in making the project. First and foremost, I am highly indebted to my Industry guide and Mentor, Mrs Vanita Satam, Chief Manager, NKGSB and Mr. Nirmal Parekh, Forex Department, NKGSB for their guidance and constant supervision as well as for providing necessary information regarding the project & completion of the project. Without their vision and support this project would not have been so beneficial to me in which I had worked. I would also like to express my gratitude to Ms. Sanchita, Ms Shilpa, Ms Shambhavi and Mrs. Poonam Madam, Forex Dept., NKGSB Co-op Bank Ltd, Girgaum Branch for their timely guidance and valuable experience that they shared with me during my project and sincerely appreciate their suggestions, encouragement and approachability from day one through the end and for making the one and half month period a memory to cherish. My heartfelt thanks to my Internal mentor of AMSIMR institute Prof Suchismita Sengupta has given me constant guidance, teaching, support, and encouragement, despite her busy schedule. I gratefully thank our Director and all the faculty members and my friends for adding value to my knowledge base by providing with valuable insights into the completion of this project and sharpening me for the corporate world.
Abstract
During one and half month period, NKGSB bank has given greater opportunity to work with Forex Department and learn how Banks play an important role in Trade Finance activities and also Foreign Exchange currency convertibility transaction. Though the process can be done without banks but for the security of the payment and assurance of the Credit worthiness of the parties banks plays a major role to it. Documentary Credits mainly Letter of Credit is involved in the process of the importing and exporting of goods through Banks, It is a universal process accepted by all the countries dealing in forex and adheresto terms and agreement from WTO and strict guidelines given by Reserve Bank of India for trading in India. My research work depended on the traders who are into this process involved every day for their transaction. I studied that what are their views regarding the LC process and charges relating to it. There are too many banks who are dealing with Forex so there is intense competition among all of them for providing better services to the customers. However the margin or Credit given by all the banks differs from each other. RBI is playing a very important role in maintaining strict guidelines for Banks in India, Traders in India, Traders outside India and Foreign Banks. Since my project states Trade Finance activities and foreign exchange currency dealing especially inward remittance and Outward remittance I have given a new scenario to all the New Traders on how to function in import/export activities and Various Tariffs regarding import/export of goods into India and what all Process has to be followed with what sort of documents, Licenses required.
TABLE OF CONTENT
Chapters Particulars Page No.
Introduction to project
Introduction to Foreign Exchange Trade Finance as Lifeline of Trade Foreign Exchange Rate Risk; Currency
Company Profile
Overview of banking industry Introduction of NKGSB Bank Mission and Operating Values of
Introduction to LC
Letter of Credit Documentation
CHAPTER 5:CHAPTER 6:CHAPTER 7:CHAPTER 8:8.1 8.2 8.3 8.4 CHAPTER 9:-
Bibliography
List of Figures
Fig. No.
Pg. No.
List of Abbreviation
Abbreviations DGFT EXW FCA CPT CIP DAP DAT DDP EPCG IEC BG EEFC ITC (HS)
Title of the Abbreviation Director General of Foreign Trade Ex Works Free Carrier Carriage Paid To Carriage and Insurance Paid Delivery at Place (Place of Destination) Delivered at Terminal Delivered duty Paid Export Promotion Capital Goods Scheme Import Export Code Bank Guarantee Exchange Earners Foreign Currency Indian Trade Classification (Harmonised System) Classification for Export & Import Items
FIRC BRC
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List of Appendices
Appendices
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CHAPTER 1
INTRODUCTION
Chapter Highlights
Research Design
The study type is Descripe because this research helps to find out the main stream of finding out payment process of finance for various import and export transactions.
The Sample
The sample population of the study comprises of 75 banking customers of various banks who trade their core business activities through banking channels such as forex department, SWIFT payment process.
Sources of Data
Primary Data as a collection for
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1.3
Objective of Research/Study
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Study the operation of foreign exchange markets and alternative exchange rate systems. Acquire essential skills for managing foreign exchange risks and operating exposure. Operations for the bank in an informed and effective manner. To utilize new process improvements for operational efficiency. To reduce complexity and time consumption on complicated banking issues. To equip participants with the updated cknowledge for Trade Finance. To equip participants with knowledge of essential banking payment processes that will enable their companies to exploit higher risk markets. To increase participants process efficiency through minimising discrepancies on presentations to banks for payment.
Trade finance refers to a wide range of tools that determine how cash, credit, investments and other assets can be used for trade. Typical trade-related financial services include letters of credit (L/Cs), import bills for collection, import financing, shipping guarantees, L/C confirmation, checking and negotiation of documents, pre-shipment export financing, invoice financing, and receivables purchase. Trade finance instruments can be structured to include export credit guarantees or insurance. Trade finance facilitates trade by helping overcome the information asymmetry between buyers and sellers, enabling them to trust a system whereby sellers will be paid under certain conditions and buyers will get the products they paid for. Trade finance contributes to international trade in four areas: payment facilitation, risk mitigation, and financing and the provision of information about the status of payments or shipments. Every trade finance transaction involves some combination of these four elements, adjusted to suit the circumstances of a particular market or of a trading relationship. Trade finance is the lifeline of trade because more than 90% of trade transactions involve some form of credit, insurance or guarantee. The financial crisis is striking at the heart of the global economic system. Many normally stable banks are wary of capital depletion and are consolidating balance sheet positions, often in response to regulatory imperatives, thereby limiting the amount of money available to be lent against the reduced capital base. Trade finance is not exempt from this liquidity crunch. Banks make money by taking deposits, some portion of which they are then permitted to lend or invest. The difference between what banks pay out in deposit interest, and what they collect on loans and investments must cover all costs and generate a profit.
Transaction costs are directly related to profitability. The higher the cost of processing a transaction, the lower is the return. This is particularly critical because banks maintain a variety of lines of business some of which are less expensive (and therefore more profitable). Banks can and should make careful choices about where to apply their capital resources to generate returns.
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areas, middle or low income households in urban areas - co-operative banks reduce banking exclusion and foster the economic ability of millions of people. They play an influential role on the economic growth in the countries in which they work in and increase the efficiency of the international financial system. Their specific form of enterprise, relying on the above-mentioned principles of organization, has proven successful both in developed and developing countries. The Co-operative banks have a history of almost 100 years. The Co-operative banks are an important constituent of the Indian Financial System, judging by the role assigned to them, the expectations they are supposed to fullfil, their number, and the number of offices they operate. The co-operative movement originated in the West, but the importance that such banks have assumed in India is rarely paralleled anywhere else in the world. Their role in rural financing continues to be important even today, and their business in the urban areas also has increased phenomenally in recent years mainly due to the sharp increase in the number of primary co-operative banks. While the cooperative banks in rural areas mainly finance agricultural based activities including farming, cattle, milk, hatchery, personal finance etc. along with some small scale industries and self-employment driven activities, the co-operative banks in urban areas mainly finance various categories of people for self-employment, industries, small scale units, home finance, consumer finance, personal finance, etc. Some of the co-operative banks are quite forward looking and have developed sufficient core competencies to challenge state and private sector banks.
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Sight L/C KBL 0.15% 1500/0.20% (Minimum one quarter if validity quarter falls then in next 0.15% HDFC 0.15% 1500/0.15%
Usance L/C KBL 0.15% 1500/0.20% (up to HDFC 0.15% 1500/90 days) 0.30% (up to 90 days) (Additional charges for every additional month in excess of 3 months @ 0.075%)
charged in addition.)
The Spot exchange rate refers to the current exchange rate. The forward exchange rate refers to an exchange rate that is quoted and traded today but for delivery and payment on a specific future date.
Five broad categories of participants operate within these two tiers: Bank and nonblank foreign exchange dealers
Banks and a few nonblank foreign exchange dealers operate in both the interbank and client markets. They profit from buying foreign exchange at a bid price and reselling it at a slightly
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higher ask price. Dealers in the foreign exchange departments of large international banks often function as market makers. Currency trading is quite profitable for commercial and investment banks. Small to medium sized banks are likely to participate but not as market makers in the interbank market. Instead of maintaining significant inventory positions, they buy from and sell to large banks to offset retail transactions with their own customers.
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Currency Codes
USD = US Dollar EUR = Euro JPY = Japanese Yen GBP = British Pound CAD = Canadian Dollar AUD = Australian Dollar NZD = New Zealand Dollar
another country, seller may be in third country and the ultimate user or the consignee can be in XYZ countries and lastly the financial institution can be in any other country. This has become possible today since borders are not the barriers for movement of goods or finance or manpower.
If a corporate has a professional edge, they can take up any project abroad whereby they are able to expand their market presence and also expose them to the latest global technology. Imports of capital goods and technology have been made easier with the financial solutions provided by the financial institution. Due to the development of off-shore financial markets, borrower can access cheaper funds from the global market. Financial Institution in the offshore markets provide credit facilities at International market rates based on LIBOR.
Role of Banks:
Banks are offering variety of products to their clients, starting from assisting their client financially for importing accessories or raw materials from any country and funding their working capital requirements for their manufacturing activities and extending credit against their receivables. Under wholesale banking, banks are also offering risk management solutions to corporate clients to mitigate credit protection against the default risk of the buyer, political risk cover for the country exposure and currency risk management against the currency exposure. For Example, if a client wants to expand his production capacity and enlarge his exposure to different countries he may require following financial solutions from his bank: For expansion of their production or manufacturing capacity they may like to avail credit facilities to import/buy capital equipment and to meet modernization expenses. Credit facilities can be medium or long-term requirement and it can be either in home currency or in foreign currency. Their bankers can arrange foreign currency loan at a competitive international interest rates through their foreign correspondent banks abroad.
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For importing equipments or accessories banks can establish letter of credit, standby credit or guarantees or bankers acceptance facility in favour of the overseas supplier. For working capital expense to meet the export obligations, bank can sanction export credit facilities wither by themselves or through any of the global credit agencies like Exim bank. Once manufacturing activities are over and sales process starts banks can offering receivable management solutions. Credit risk insurance is offered by insurance agencies to protect the default risk of the buyers. Instead of involving two agencies, one for allowing credit and another agency for offering insurance for managing credit risk, bank can offer a structured product like factoring or forfeiting. Under this arrangement, bank can allow credit facilities against the receivables and also offer credit protection i.e., insurance against the default of the overseas buyer. Besides, bank can arrange buyers credit to the overseas buyer or line of credit to overseas buyer. Ultimately, the clients are able to reduce the cost of funding by availing the cheapest trade finance from their banks and also able to manage their commercial risks by opting appropriate instruments or by availing appropriate products from the credit agencies.
the relative value of the two currencies change between the time the goods are sold and the time the goods are paid for. For this reason, a decision to accept payment in a foreign currency can harm the seller's profit margin. It is possible to be paid in a foreign currency and offset some or all of the foreign exchange risks by purchasing contracts through banks or other financial institutions that allow the seller to "hedge" against foreign exchange fluctuations.
Foreign exchange rate fluctuation is one of the risks of selling internationally. Some companies expect their credit manager to both monitor and manage this type of risk. Currency exchange rates are influenced by a variety of factors including supply and demand; interest rate differentials; economic news; political events; and government intervention and there is no single entity that regulates or controls the foreign exchange market. Foreign exchange risk relates to uncertainty about changes in foreign exchange rates that can adversely affect the amount of money a seller receives. Here is an example: A creditor company sells goods to a foreign company. The invoice is denominated in the foreign customers local currency. The seller ships the goods today, but will not receive payment for two months. During this 60 day period, the exchange rate fluctuates. When the foreign buyer pays the domestic company for the goods, the exchange rate at the time has changed to the point that the seller receive a lower than expected profit on the sale.
Converability refers to the ease or difficulty associated with exchanging one foreign currency for another. From the perspective of the exporter's credit department dealing with an invoice denominated in the buyers national currency, the seller's credit manager must not only concern themselves with credit risk and sovereign risk, the seller must also be concerned about the ability to convertability of that foreign currency. As a rule, the more difficult it is to convert one currency into another, the less the exporter will receive when the foreign currency has been exchanged for the currency in use in the seller's country. The simplest way for a U.S. based seller to avoid foreign exchange risk is to quote foreign customers in U.S. dollars and require payment in U.S. dollars. This way, all the risks associated with fluctuations in foreign-exchange rates are borne by the buyer. In my opinion, it is important to develop written foreign currency policies and procedures. These policies and procedures should be written with the company goals related to foreign exchange
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management in mind. This document should specify the type(s) of hedging the company will engage in, and indicate the authority levels required to hedge specific amounts of FX risk, or to decide that hedging is not required.
Financing Institutions play the role of lender in global trade finance and offer various types of financing. This includes a number of trade financing services including Letter of Credit, Collections, Stand-by Letter of Credit, Pre and Post shipment finance, Bill Discounting and Purchase, Bank Acceptances.
Transporters or Logistics providers cater to the physical movement of goods, and can provide visibility to all the constituents by updating the transit records of the goods shipped. Their internal systems when integrated to a trade finance solution can give an authenticated record of the goods shipped. Their current location and expected delivery time enables not only buyers and sellers to update their records but will also act as a risk mitigation tool for a financial institution on the finance provided.
Key Challenges
Lack of an integrated platform for all players. High Turnaround time due to delay in physical transport of documents between parties. Difficulty in reconciling positions for Buyers and suppliers due to lack of a dashboard
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which reflects current payables / receivables position, and a history of recent transactions. Value of Market Knowledge: KYC. Risk and Compliance. Cost-containment Pressure High logistics costs. Inefficiencies due to multiple documents and manual system of keeping records.
Enhance customer retention - Customers provided with end-to-end solution which integrates with their internal applications and workflow will become completely attached to the Bank, as any shift of allegiance will shake up their entire procurement & collections processes.
Increased reach & customization - Our solution is a scalable model. With an integrated solution system in place it is possible to build customization across various types of business. It also provides for standardization of specific industry segments which if Bank requires can become a niche player. Expand the product portfolio offered in Trade Finance With a clear visibility of document movement & physical movement of items. It is possible for banks to offer structured financing solutions to their clients. Funding can be staggered to meet the finance requirements at various stages of physical goods flow i.e. Customs clearance, duty payment, freight payment etc.
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Risk Mitigation - The biggest challenge in an open account trade is in confirming the authenticity of transaction, and in obtaining the correct picture of the flow at any given moment. With visibility provided by movement of trade documents through a Banks portal, banks are well assured on these, which reduce their risk exposure.
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1.
1. 2.
Application Applicant Importer/Buyer
Beneficiary Exporter/Seller
4. 6.
Letter of Credit
Documents
8.
Documents
2.
9.
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Banks around the world have set up testing arrangements with each other on a telex and SWIFT basis. This is the basic level of a correspondent banking relationship to allow the sending of letters of credit and payment under these letters of credit. Most foreign banks have cut back on the number of accounts maintained in the United States to eliminate idle balances and reduce the cost of reconcilement of numerous unnecessary accounts. Foreign banks are increasingly maintaining specialized dollar accounts at selected banks to handle specific kinds of transactions. By setting up specialized accounts for specific kinds of transactions, the foreign banks have greatly simplified their reconciling process and their ability to control these accounts. Presenting conforming documents, specifying that the L/C is available by negotiation, and reimbursement instructions are all important considerations for an exporter being paid on a timely basis. Instructions in a letter of credit may call for the documents to be sent back to the issuing bank for a final examination before
allowing payment to be made. For example, when US banks issue letters of credit, they may require documents to be sent back to the US bank for a final examination before payment is made. Many export letters of credit in favor of US beneficiaries are available by negotiation and allow for TT (tested teletransmission) reimbursement which is done either by an authenticated SWIFT message or a tested telex. If the US bank examining the documents for strict compliance to the terms of the letter of credit per the UCP 500 finds no discrepancies, the US bank can request reimbursement from the issuing banks US correspondent for this purpose (often the issuing banks New York or Los Angeles branch). Since payment is made before the issuing bank sees the
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documents, this method of payment is more risky and in many instances the issuing bank will not authorize TT reimbursement. For example, if payment is made to the beneficiary under TT reimbursement and the issuing bank later does find discrepancies in the documents, the issuing bank can require that the US paying bank return the money (if the importer does not waive the discrepancies). If the export letter of credit does not allow for TT reimbursement and documents are sent back to the issuing bank with drafts to its US reimbursing bank, the examination process at the issuing bank may slow down the payment process. The exporters documents may sit in a stack waiting to be examined and when they are examined, discrepancies may be found which necessitates calling the importer for permission to waive the discrepancies. This waiver may not be made immediately which will also slow down the payment process. Exporters often mistakenly believe that requesting the advising bank to confirm the letter of credit will speed up their payment. However, a confirmation by a US bank is a promise to pay by the US bank in the event the issuing bank does not make payment under the letter of credit when clean (no discrepancies) documents are presented. Thus, the confirmation typically protects the exporter against the issuing bank failing to pay because the issuing bank is bankrupt or adverse economic circumstances have occurred (such as foreign exchange controls). For usance letters of credit where the drafts are drawn on a US reimbursing bank, once the drafts have been accepted by the US bank, the exporter has the credit risk of the US bank. Thus, if an exporter requests a confirmation on a usance letter of credit where the drafts are drawn on a US bank, the confirmation is basically protecting the exporter during the period from the date of issuance on the letter of credit to the date when the time draft is accepted by the US bank. If the time draft were drawn on the issuing bank, the confirmation would still protect the exporter during the acceptance period.
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NKGSB was founded by a great visionary Sheth Shantaram Mangesh Kulkarni on 26th September, 1917.
The Bank with a modest beginning in 1917, is now a Multi-State Bank having its area of operation in the States of Maharashtra, Karnataka, Goa, Gujarat and Union territories of Daman, Diu, Dadra and Nagar Haveli.
Today the Bank has 45 branches spread over in the state of Maharashtra, Goa & Karnataka. Mumbai - 28 branches Navi Mumbai Vashi, CBD Belapur&Panvel (3 branches) Maharashtra other than Mumbai - Pune (Kothrud&Aund), Kolhapur (Kolhapur Main & Uma talkies. These are take over of Shahu Co-operative Bank) &Nashik
Goa- Ponda&Panaji Karnataka Karwar- Main. Karwar -Baad, Hubli, Belgaum&Sirsi. Bank opened its 42nd branch, 5th in Karnataka atSirsi on 13th November, 2010 and will shortly be opening branches at Thane, Kalayan and Goregaon (W) during the financial year 2010-11
Over the years, the Bank has consistently shown robust growth both quantitatively and qualitatively. The Bank has not only grown in size of deposits and advances, but has multiplied its net worth making the institution financially sound and fundamentally strong.
The Board of Directors of the Bank consists of well qualified professionals enriched with varied experience in the strategic fields of Finance, Technology, Business and Management.
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Being driven by the co-operative principles, management lays emphasis on profits but with focus on the welfare of our stakeholders.
As a part of good governance practice, the Bank has adopted code of good business principles and accepted the responsibility to ensure that they are observed down the line as a work culture in its true spirit. The business philosophy is based on four core values i.e. pillars of service excellence, customer focus, product innovation and resourceful people.
In terms of our commitment for harnessing the state of art technology, networking all 42 branches counter under Core banking solution, customers can access their accounts and perform banking operations anywhere anytime with value added services.
The Bank has varied Deposit products to suit every needs of customers, so also the bank has occupied a place of pride with those who are financed for offering tailor-made complete credit solutions under one roof packaged at liberal, competitive and flexible terms, let it be personal finance or loan facilities for Short term as well Long term requirement of Small Businessman, Professionals, Small & Medium Enterprises and Corporates.
The Bank has always been in the forefront to add on value to its products and has entered into correspondent relationship and strategic alliances to offer best of the services to its customers efficiently and with convenience such as: Tied-up with Insurance Companies to sell both the insurance products, life insurance with Max New York Life and non-life with Oriential Assurance Co. A member of payment & settlement gateways of RBI through INFINET and RTGS system by way of Electronic Fund Transfer (EFT) and Electronic Cheque Clearing (ECC), which provides instant realization of funds & speedy remittances including Electronic Clearing System (ECS) both account debit & credit. Provides Demand Draft facility under arrangement with private sector bank Amongst few Co-operative banks, having secured License as Authorised Dealer Category II of
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RBI which offers sale and purchase of foreign exchange, foreign remittances, etc. Also caters to Forex business needs through foreign exchange arrangement made with private sector bank. Tied up with UAEXchange for fast inward remittance of foreign exchange. Providing facilities - Pension a/cs, SMS Banking and also iConnect for hassle free payment of taxes. Tied up with NSDL as a Depository Participant offering Demat services at all our branches.
4.2 MANAGEMENT
Board of Directors is composed of eminent, well qualified professionals enriched with varied experience in the strategic fields of Finance, Technology, Business and Management. Being driven by the Co-operative principles, the management lays emphasis on profits but with entire focus on the welfare of stakeholders. As a part of good governance practice, the bank has adopted code of good business principles and accepted the responsibility to ensure that they are observed down the line as a work culture in its true spirit. The business philosophy is based on four core value pillars of service excellence, customer focus, product innovation and resourceful people.
4.3 VISION
A premier co-operative bank
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Weakness
Banking Hours: Through it has normal Banking Hours from 10am to 6 pm, but still other Banks like ICICI and Bank of Baroda have 8am to 8pm.
Opportunities
Increase in percentage of Returns on increase: The bank should provide higher returns on deposits in comparison of the present situation. This will also upto large extent help the bank earn profits & popularity. Popularity in Investments in Capital Markets: As an on going situation as market capitalization of NKGSB increases, it should increase its investments in capital markets
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Threats
Competition from Other already established Nationalized Banks. Competition from Private Banks which provide more Speedy Transactions. Net Services: NKGSB provides all kind of services on-line. There can be a Threat of Hacking. The confidential information of the customers can be leaked easily through the e-mail ids. No Proper Facilities to Uneducated customers: NKGSB provides all services through electronic computerized machines. This creates problems to the less educated people. But this threat falls in the 4th quadrant so its negligible. The company can avoid this threat.
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LETTER OF CREDIT
The key issue of Documentary Requirements/Compliance under a Letter of Credit is critical, as the legal rights to the Goods, their Insurance, their Carriage, or Payment for them is simply transferred from one party to another by delivery/endorsement of these documents.
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Advising/Confirming Bank. 7) Dispatch of Documents: Advising/Confirming Bank ensures documents comply fully with
Letter of Credit, forwards documents to Issuing Bank. 8) Payment of L/C Amount: Issuing Bank verifies documents in compliance; sends payment to
Advising Bank. 9) Negotiate: Advising / Confirming Bank issues payment to Seller/Beneficiary. 10) Payment: Issuing bank debits Buyers/Applicants Account. 11) Endorsement/Clearing of Goods: Issuing Bank forwards documents to Buyer/Applicant.
Buyer Risk: A Letter of Credit may be a pre-condition where doubt exists regarding a potential buyers creditworthiness. Again, a confirmed credit can virtually eliminate buyer risk. Custom Orders: Custom orders (e.g. goods made to order, customised packaging, labellingetc). Letters of Credits would very often be the norm in this scenario as finding an alternative buyer is much more difficult and will further delay payment, while disposing of goods in such circumstances may of necessity be at heavily discounted prices. Order Value: Letters of Credit may be appropriate to deals where the order size is unusually large, particularly relative to the sellers size / turnover, or where the order size is significantly larger than the norm for that company, country or market sector. Cash-flow: Current market conditions may mean that the Sellers cash-flow requirements dictate a Letter of Credit as the only viable payment option. Commodity Practice: What is the usual practice in trading in that particular commodity? Extended terms: In order to be able to offer / facilitate a request from a potential Buyer seeking extended credit terms, the quid pro quo may be a requirement for payment by Letter of Credit. Geographical Distance: Distance can increase risk and may influence/determine the choice of payment method.
Why are they important, especially today? Exporting involves more risk, in addition to significantly impacting cash-flow requirements, due to: The greater number of parties / intermediaries involved Increased Transit Risk - Multimodal Transportation - Greater Distances (e.g Irelands peripherality). However, Transit Risk can be greatly reduced through the use of Letters of Credit as Banks are concerned with documents not goods: With a Letter of Credit, the goods will still be paid for even if damaged in transit, subject to documentary compliance with the Letter of Credit Increased risk of Documentary Disputes Greater risk of disagreement over payment, contractual or quality terms Greater risk of Misunderstanding The fact that export payments take a minimum of five-six months from confirmation of order to receipt of payment: typically three months pre-shipment finance and two-three months post43
shipment finance. The ability to raise (particularly pre-shipment) finance is therefore crucial: it is very common for pre-shipment finance to be arranged on the basis of a Letter of Credit. The global recession has impacted negatively on this timeframe in addition to causing significantly increased Buyer / Country (and bank) Risk, market uncertainty and exchange rate volatility. Buyer credit-risk ratings can become out-of-date (and meaningless) very quickly in this environment. The international aspect of trade also introduces the element of Currency Risk. Irelands recovery from the current recession must be export-led, which inevitably requires the opening up of new/emerging markets and the ensuing risk e.g. China and its emerging middleclass.
Types of Credits and their role in raising finance There are two main categories of Letters of Credit: Documentary and Standby. Subject to presentation of documents in full compliance with all specified terms, Letters of Credits can provide exporters with access to additional options for raising (primarily pre-shipment) finance, while at the same time offering better credit terms to the potential buyer.
Documentary Credits
The main types of Documentary Credits include:
Irrevocable: The Seller should confirm that the Letter of Credit is irrevocable before proceeding any further with negotiations i.e. that it cannot be amended without the prior consent of all parties. The next question then is confirmed or unconfirmed? Unconfirmed: With an Unconfirmed Letter of Credit, payment is guaranteed by the Importers (Issuing) Bank, conditional on the Exporters full compliance with all terms of the Letter of Credit the issue of Country Risk arises here as there is no fallback if the Importers Bank defaults. Confirmed: With a Confirmed Letter of Credit, the payment is guaranteed by the Exporters (Advising/Confirming) Bank in the event of the Importers (Issuing) Bank defaulting, conditional on the Exporter complying with all terms of the Letter of Credit. While this provides an additional level of security by virtually eliminating Country Risk, the Confirming Bank charges a fee for the
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confirmation. Revolving: Used when dealing with a supplier on a regular basis, a Revolving Letter of Credit allows automatic reinstatement at the end of a given period to mirror workflow/growing seasons etc; this form of Credit may also apply to partial shipments. Negotiable: The Issuing Bank nominates the Advising Bank to negotiate a Letter of Credit. The Advising Bank pays the agreed advance to the Beneficiary on presentation of the agreed documentation, and charges interest on the advance until reimbursed by the Issuing Bank.
Assigning / Discounting / Negotiating Letters of Credit Assignment of proceeds of Letters of Credit: This provides access to pre-shipment finance: the Exporters bank issues a Letter of Comfort to the Exporters suppliers indicating bank is authorised to make payment, from the proceeds of the Letter of Credit, directly to the suppliers. This allows suppliers to extend Pre/Post shipment Credit to the exporter.
Discounting Bills of Exchange drawn under Letters of Credit: Discounting Bills of Exchange drawn under a Letter of Credit is one of the most common methods of securing pre-shipment finance. Advances secured by this means are attractive to exporters as they are without recourse and off balance sheet. If drawn on/accepted by banks and drawn for 180 days or less they are called eligible bills, and, as a bank bill, qualify for lower (fine rate of interest) rates of discount.
Negotiation of Bills of Exchange drawn under a Letter of Credit The Exporters bank will look on such a facility as being risk-free and will advance 100% of the bill amount. This is dealt with by means of an interim Negotiation Account, which is cleared on receipt of the bill amount, with all interest/charges arising being debited to the Exporters current account.
Standby Letter of Credit (SLOC) Standby letters of Credit (SLOCs) are bank guarantees of payment, used as "payment of last resort" in the event of the Buyer defaulting (they are also called "non-performing letter of credit"). SLOCs
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offer a safeguard for the seller, by offering a financial remedy if the buyer does not honour his obligations i.e. SLOCs are payable against documents showing the Buyers failure to meet his contractual obligations.
Advantages/Disadvantages
Advantages of using Letters of Credit
Exporters know they have a (conditional) bank guarantee of payment subject to complyiance with all of the terms of the Letter of Credit Exporter can offer better credit terms as a trade-off for Importer agreeing to a Letter of Credit Buyer / Country Risk is virtually eliminated as the Exporters claim changes from being one on the Importer to one on the Issuing / Confirming Bank Transit Risk is virtually eliminated as even if goods are damaged, payment is still forthcoming as banks are concerned with documents not goods The Exporter gains certainty of the payment date and control over the payment process The collection time is minimised as the use of a Letter of Credit accelerates payment Payment is received at the Exporters own bank Improved liquidity: The Exporter can use the Credit as collateral with his suppliers, or to gain access to pre / post shipment financing Exporter can access funds immediately, in addition to existing credit lines, by discounting the Credit The Exporter agrees to be bound by the terms of the Letter of Credit. If the Credit is not issued precisely as agreed, the Exporter is freed from any obligation to ship the goods The Importer is assured that the Exporter is paid only when all terms of the Credit have been met The Importer can normally negotiate more favourable terms when agreeing to payment by Credit
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Reassurance: Buyer cannot introduce changes / new stipulations without the agreement of all parties.
Essential Checks When the Letter of Credit is Received It is essential to review the Credit as soon as it is received using the following checklist: Is the credit subject to UCP 600? Are the names and addresses of the Applicant and Beneficiary complete and correct? Are there any terms or conditions within the Credit that cannot be met? Ensure no Applicant Documents that are outside control of Beneficiary. If yes, immediate arrangements must be made with the Applicant for the credit to be amended Do the terms cited in the credit precisely match those in the sales contract? Also check that descriptions, names and addresses are consistent in both documents Are description, price and quantity stated in accordance with the terms of the contract? Can the goods be shipped within the stated period? Can the mode of transport specified be used?
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Can shipment be made from the port/airport specified? If part-shipments and transhipment of goods are prohibited, can the full quantity of the goods be exported on a vessel direct from the port of loading to the port of destination? Can the required documentation be obtained? Do any documents need to be legalised? Are the insurance requirements of the credit acceptable? If drawings permitted under the credit, are they payable in Ireland rather than abroad? Can goods be shipped within period specified and documents presented to the bank, within the timeframe allowed from the date of shipment, but in any case before the credit expires?
Particulars
Foreign Exchange Reserve (billion $) 125 127 160 260 245 265 274 310
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1 2 3 4 5 6 7 8 9 10 11
Australian Dollar Canadian Dollar Danish Kroner EURO Dollar Hong Kong Dollar Norwegian Kroner Pound Sterling Swedish Kroner Swiss France Singapore Dollar US Dollar
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CONCLUSION
In todays changing world, trade finance banks are struggling hard to re-identify their role. Although still there is an important role for traditional trade finance instruments in many geographical markets and at beginning stages of a new trading association between parties in distant locations; it is also undisputed that there is a shift towards open account in certain markets and verticals. In order to compete in the dynamic international trade scenario, today's primary trade finance banks need to offer a full suite of pre-shipment, in-transit and post shipment finance solutions. Trade Finance and Cash management activities are undoubtedly merging within banks, a reflection of the customers own activities. Only those banks that provide holistic products through a complete range of trade finance and open account management solutions not withstanding liquidity management and payment capabilities will be competent to meet the dynamic needs to customers and remain successful in the industry. Whichever be the market of operation, bringing sine qua non success to both buyers and suppliers is the elixir for survival today. The role of the government and other parties involved in trade finance will need to evolve along with the countrys economy. Underlying the functions provided by the different players is the need for a clear and effective legal environment. The commercial legal system must be transparent.
However, the best long-term solution in resolving the constraints in trade financing is to encourage the growth and development of a vibrant and competitive financial system, comprising mainly private sector players.
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BIBLIOGRAPHY
www.Celent.com www.Gtnews.com www.Tradeevolution.com
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