FINANCE OF INTERNATIONAL

TRADE AND TREASURY

RELATED OPERATIONS
PART 2-
Prepared by Miss Shaher Bano
Open account

■ An open account transaction is consignment basis which is based on a contract

between the supplier and the buyer in terms of which the importer is responsible to
pay on a pre agreed rate in future as mentioned in the contract document
Introduction

■ In the export business and open account is a convenience method of payment

provided the buyer is well established and with a good reputation or has a
successful credit history in dealing with the exporter
■ A summary of open account terms from the seller's and the buyer's perspective is as
below
■ Some large International firms like Walmart make purchases mostly on open
account terms
■ In this type of business, the exporter simply invoices the customer, who is expected
to pay under agreed terms at a future date, although a commercial invoice specify
the date when payment is to be made by the buyer
Terms under open account

■ Open account sales call for payment on a date in the future. Goods are shipped to
the importer and documents of title sent directly by the exporter.
■ A date of payment is fixed by which time the importer is required to remit the
proceeds against the consignment to the exporter through normal banking channels
■ Under the moping account the exporter normally extend the period of credit to the
importer which can range between 30 to 90 days from the date of shipment
Major risks in open account

■ Counterparty or buyer risk

■ countries risk
■ transit risk
■ exchange risk
Advantages to buyer

■ Since the buyer is getting the goods on credit, his cash flow is not affected and he
has the luxury of using his own financial resources in other areas of business
■ Since the buyer is getting the goods on credit, his cash flow is not affected and he
has the luxury of using his own financial resources in other areas of business
■ The buyer enjoy the benefit of float if the goods are sold early and payment is due to
be made at a later date in future
■ Riding on the credit facility from the seller, the buyer can improve his sales by
passing some advantage to his buyers by selling goods on credit terms
Disadvantage to the seller

■ The sellers cash flow is strained and might increase the cost of sales
■ For timely repayment, he is completely dependent on the buyer
■ In absence of a bill of exchange, the seller cannot obtain financing against his
receivables
Payment procedure of shipment
received under open account
■ Payment of imports into Pakistan under open account transactions can be made in
terms of para 23 (II) chapter XII of State Bank of Pakistan, foreign exchange manual
edition 2002, against production of the following documents:

■ Good declaration form clarifying that the goods have been cleared from customs
■ Certified invoices
■ Non negotiable copies of bill of lading, airway bill, Railway receipt or truck receipt.
Documentary collection

■ A documentary collection is an instance where only the financial document

including bill of exchange is sent through the bank without any transaction related
document example commercial invoice
■ This usually happens in open account arrangements
■ Clean collection allows a consignee to take delivery of the shipment without paying
and without making a firm commitment to pay on a fix date
■ Governing rules
■ Documentary collection is governed by the current version of the uniform rules for
collection URC 522 drafted and distributed by the international Chamber of
Commerce in 1995 and came into effect as on January 1st 1996
Benefits of documentary collection

■ Simplicity
■ convenience
■ security
■ guarantee of payment
Risk associated

■ Normally payment is not guaranteed as credit, political and transfer risk are not
covered
■ The payment date is uncertain
■ If the importer refuses to accept the documents or the draft on the due date the
exporter is exposed to potential losses as it may be extremely costly or even
impossible to find an alternative buyer or have the good shipped back
Documents against acceptance

■ In documents against acceptance that importers Bank is permitted to release

documents to the buyer against acceptance of a bill of exchange or signing of a time
draft at the bank promising to pay at a later date which is usually 30, 60 or 90 days
■ The completed draft is held by the collecting bank and presented to the buyer for
payment at maturity after which it's send the fund to the remating bank for onward
payment to the exporter
Collection and process flow explained

■ Importer places order with the exporter

■ Exporter dispatches goods through a greed transport mode that is via sea or air
■ Exporter sends draft and relative documents to remitting bank
■ Remitting Bank records the receipt of documents in its books and as instructed by
the exporter send documents to the collecting Bank
■ Collecting Bank records the details in its books and advises the buyer regarding
receipt of the document
■ Importer contacts the collecting bank and accepts the bill and takes the documents
against acceptance of bill of exchange
Cont.

■ Collecting Bank sends advice of acceptance and maturity date to the remitting Bank
■ Imported present transport documents to the shipping agent and collect the goods
■ On maturity the importer makes payments to the collecting Bank
■ Collecting Bank remits funds to the remitting bank through banking system and
arrangements
■ Remitting Bank record payment and credits the seller account and send payment
advice to the seller
Dishonor of documentary collection

■ The bill of exchange is set to be dishonored when the drawee refuses to accept or
make payment on the bill
■ A bill may be this honored by non acceptance or non payment
protest

■ Protest is the official certificate given by the notary public recording the bill of
exchange dishonor due to non acceptance or non payment

■ Or

■ The act of formalizing the dishonor of a draft. Laws differ from country to country,
but in general the procedure works as follows: The principal has instructed that
dishonored drafts be protested. A draft matures for payment and is not paid.
Whatever applicable grace period in the drawee´s country expires.
LC
■ Letters of Credit (LC) are widely used in international practice for convenience of
international trade transactions and elimination of possible risks.
■ 1. Irrevocable LC. This LC cannot be cancelled or modified without consent of the
beneficiary (Seller). This LC reflects absolute liability of the Bank (issuer) to the other
party.
■ 2. Revocable LC. This LC type can be cancelled or modified by the Bank (issuer) at the
customer's instructions without prior agreement of the beneficiary (Seller). The Bank will
not have any liabilities to the beneficiary after revocation of the LC.
■ 3. Stand-by LC. This LC is closer to the bank guarantee and gives more flexible
collaboration opportunity to Seller and Buyer. The Bank will honour the LC when the
Buyer fails to fulfill payment liabilities to Seller.
■ 4. Confirmed LC. In addition to the Bank guarantee of the LC issuer, this LC type is
confirmed by the Seller's bank or any other bank. Irrespective to the payment by the
Bank issuing the LC (issuer), the Bank confirming the LC is liable for performance of
obligations.
■ 5. Unconfirmed LC. Only the Bank issuing the LC will be liable for payment of this LC.
 Cont.
■ 6. Transferable LC. This LC enables the Seller to assign part of the letter of credit to other
party(ies). This LC is especially beneficial in those cases when the Seller is not a sole
manufacturer of the goods and purchases some parts from other parties, as it eliminates the
necessity of opening several LC's for other parties.
■ 7. Back-to-Back LC. This LC type considers issuing the second LC on the basis of the first
letter of credit. LC is opened in favor of intermediary as per the Buyer's instructions and on
the basis of this LC and instructions of the intermediary a new LC is opened in favor of Seller
of the goods.
■ 8. Payment at Sight LC. According to this LC, payment is made to the seller immediately
(maximum within 7 days) after the required documents have been submitted.
■ 9. Deferred Payment LC. According to this LC the payment to the seller is not made when the
documents are submitted, but instead at a later period defined in the letter of credit. In most
cases the payment in favor of Seller under this LC is made upon receipt of goods by the
Buyer.
■ 10. Red Clause LC. The seller can request an advance for an agreed amount of the LC before
shipment of goods and submittal of required documents. This red clause is so termed
because it is usually printed in red on the document to draw attention to "advance payment"
term of the credit.
Advantages of LC

■ Assurance of payment
■ Ready negotiability
■ Complaints and regulations
■ Pre shipment facility
Disadvantages of LC

■ Discrepancies in documents
■ Difficult terms and conditions
■ Different language
■ Competitive terms
■ Delay in documents
■ Delay in goods
UCP-600

■ The UCP 600 (“Uniform Customs & Practice for Documentary Credits”) is the official
publication which is issued by the International Chamber of Commerce (ICC). It is a
set of 39 articles on issuing and using Letters of Credit, which applies to 175
countries around the world, constituting some $1tn USD of trade per year.
What’s the purpose of UCP 600?

■ The UCP 600 replaced the UCP 500 on the 1st July 2007. It was brought about
to standardise a set of rules aiming to benefit all parties during a trade finance
transaction. UCP 600 was created by industry experts, and mandated by the
Banking Commission, rather than through legislation. The first UCP was created in
1933 and has been revised by the ICC up to the point of the UCP 600.
Is the UCP 600 legally binding?

■ The UCP 600 rules are voluntarily incorporated into contracts and have to be
specifically outlined in trade finance contracts in order to apply. They also allow
flexibility for the international parties involved.
■ An accompaniment to the UCP 600 is the International Standard Banking Practice
for the Examination of Documents under Documentary Credits (ISBP), ICC
Publication 745. It assists with understanding whether a document complies with
the terms of Letters of Credit.
■ Credits that are issued and governed by UCP 600 will be interpreted in line with the
entire set of 39 articles contained in UCP 600. However, exceptions to the rules can
be made by express modification or exclusion.
 Summary of the UCP 600
Here are a few of the key elements which make up the UCP 600:
■ Definition of key terms which are prevalent in international trade (e.g. honoring [of payments], applicants,
banking days, presentation)
■ How international trade documents (Letters of Credit) can be signed and acknowledged by all parties
■ The difference between documents, goods and services (and which parties deal with these)
■ Which parts of a Letter of Credit are negotiable and non-negotiable
■ How credit works, and how payment is made
■ How banks can communicate the confirmation of goods (tele transmission)
■ Transportation of the goods, modes of transport, and who bears responsibility
■ How to deal with discrepancies, waivers and giving notice
■ The provision of original documents or electronic copies
■ Bills of Lading
■ Insurance and covering the cost of goods
■ Loss of shipping documents in transit
Advance payment
■ Advance Payment is a payment done by an importer to the exporter before
shipment.
■ This method is most beneficial from exporter perspective as he receives funds in
advance. The payment may be received either as soon as the order is confirmed or
any time before shipment. The exporter may be willing to impose the term as a pre-
condition only when he knows that the goods are in overwhelming demand and the
goods are of rare-nature. Advance payments may be also used to negotiate a
reduced price or to cover initial supply costs.
■ However with a buyer’s point of view, advance payment carries little risk, as he
advances payment before dispatch of goods. Advance payment of term in exports
and imports is picked by a purchaser only when he knows the seller in details on
genuineness as a seller.
■ For international sales, wire transfers and credit cards are the most commonly used
cash-in-advance options accessible to exporters. With the advancement of the
Internet, escrow services turning into another cash-in-advance option for small
export transactions.
Escrow Accounts For Taxes And Insurance

■ It can be a bank account where the asset value is held until the fulfilment of specific
conditions of the transaction. An escrow arrangement safeguards the seller against
any risk of payment default by the buyer as it removes the control of cash flow from
the buyer to an independent party.
■ With a mortgage escrow account, you make monthly payments to the lender for your
property taxes and homeowners insurance. This money is added to your monthly
mortgage payment and is held by the mortgage company. They pay your property
taxes and homeowners insurance when they are due.
3 Advantages of an Escrow Account

■ Money-back protection. Though the buyer, seller, and lender are all protected by
escrow, the buyer receives the most protection from the escrow process. ...
■ Taxes and insurance are covered. ...
■ Taxes and insurance payments are more manageable.
Transaction due diligence

■ Due diligence is a process or effort to collect and analyze information before making
a decision or conducting a transaction so a party is not held legally liable for any
loss or damage. The term applies to many situations but most notably to business
transactions.
■ Companies involved in international trade have for many years used trade finance
instruments as tools to manage risk when importing and exporting internationally.
The trade finance deal structure, when engineered correctly, goes a long way
towards ensuring that cross-border transactions are structured to protect our clients
against late payments, political risk, delayed delivery, currency fluctuations, and
other risk factors, both known and unknown.
■ As trade finance providers became more deeply involved in virtually all international
trade, governments throughout the world have increased regulatory requirements on
banks and trade financiers. In fact, there have been so many new requirements
imposed on trade finance providers in recent years that entire new industries have
been born to manage trade finance due diligence and trade finance compliance.
■ The expansion of the Know Your Customer (KYC) Customer Identification Program
(CIP) and anti-money laundering (AML) laws require banks, trade finance providers
and other financial sector companies involved in international trade to perform far
more customer due diligence than ever before.
Happy learning