Risks in

International Trade

How to manage trade exposures

Through appropriate instruments Through credit risk agencies

Appropriate instruments

Letter of credit Standby credit Guarantees Bankers co-acceptance facility

A Letter of Credit is an arrangement whereby, a bank agrees to make the payment on behalf of the buyer to the supplier, upon receipt of certain documents, provided that certain terms and conditions as specified in the Letter of Credit are satisfied

Letter of Credit

Elements Of A Letter Of Credit

A payment undertaking given by a bank (issuing bank)

On behalf of a buyer (applicant)

To pay a seller (beneficiary) for a given amount of money

On presentation of specified documents representing the supply of goods

Elements Of A Letter Of Credit

Within specified time limits

Documents must conform to terms and conditions set out in the letter of credit

Documents to be presented at a specified place

LC Mechanism

Negotiation and finalisation of contract

Seller’s Bank Buyer’s Bank

Seller Buyer

Carrier

LC Mechanism

Buyer's bank supplies a LC to seller

Seller’s Bank Buyer’s Bank

Seller Buyer

Carrier

LC Mechanism

Seller consigns the goods to a carrier in exchange for a bill of lading

Seller’s Bank Buyer’s Bank

Seller Buyer

Carrier

LC Mechanism

Seller provides bill of lading to bank in exchange for payment. Seller's bank exchanges bill of lading forpayment from buyer's bank. Buyer's bank exchanges bill of lading for payment from buyer

Seller’s Bank Buyer’s Bank

Seller Buyer

Carrier

LC Mechanism

Buyer provides bill of lading to carrier and takes delivery of goods

Seller’s Bank Buyer’s Bank

Seller Buyer

Carrier

Types of Letters of credit

Irrevocable Confirmed / unconfirmed Transferable Back to back Revolving Deferred Standby letter of credit

Advantages Of LC

LC, also known as documentary credit, is among the most secured instruments available to international traders

An LC is useful when reliable credit information about a foreign buyer is difficult to obtain

An LC also protects the buyer since no payment obligation arises until the goods have been shipped or delivered as contracted

Exporter’s Bank Issuing Bank

Submission of

Draft / Bill of

Exchange

Documents forwarded

Documents Presented

Payment made

Payment made

Payment made to Exporter

Goods consigned directly

Payment demanded on due date and defaulted by importer

3 STANDBY CREDIT

1

2

4

6

5

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Guarantees

14.11.2011

Larsen & Toubro Limited (L&T), the Mumbai-based multinational conglomerate company, is right on the money these days

It has apparently bagged orders, accumulating a massive $889 million from Thailand and the UAE.The first contract, which reads $189 million offered by Abu Dhabi Gas Industries Ltd., is meant for the Habshan-Ruwais-Shuweihat gas pipeline project.

Guarantees

A Bank Guarantee may be defined as a contract whereby the bank guarantees to discharge the liability of a third person in case of his default

Guarantees

Enforceable only in case of default of the applicant / buyer / borrower

Bank’s liability will be secondary not primary Can be for

Performance of a contractual obligation or Financial obligation – loan repayment

Guarantees

Issuing bank

buyer sellerStage 1- Contract

Stag

e 2

a pp l

i catio

n

Stage 3Guarantee issued

Invocation of payment under guarantee

Issuing bank

buyer sellerStage 1- Non performance-Default

Stag

e 4-

Rec o

v ery Stage 2 - invocation

Stage 3 – payment by bank

Types Of Guarantees

Bank guarantees issued by the banker may be of thefollowing types:

Financial Guarantees

Performance Guarantees

Financial Guarantee

Under a financial guarantee, a banker undertakes only financial liability

He undertakes to pay the beneficiary an amount, not exceeding the sum stated in the guarantee, on default of promise by the customer

Financial Guarantee

This type of guarantee is normally issued in lieu of payment of tender deposits, earnest money deposits, customs duty/ excise duty/ sales tax/ income tax etc.

An exporter participating in a global tender has to furnish earnest money deposit. In lieu of it, a guarantee, known as bid bond guarantee or bid bond, is issued

Performance Guarantee

Under the performance guarantee, a banker guarantees:

A. that the customer will perform the contract undertaken

B. On his failing to perform the same, the banker shall make good the loss caused limiting his liability equal to guarantee amount

Thank you