Slower foreign demand growth and a strong U.S. dollar were cited by the Federal Reserve Bank of New York as reasons for weak U.S. exports in 2001. However, since September 11th, even lower export growth projections are likely.
This means international deals will become more difficult to close and receivables will be more difficult to collect. Consequently, open accounts may need to be reassessed in favor of letters of credit (LCs) or other more secure methods of payment.
But as every exporter knows, during periods of slower economic growth, the ability to offer more attractive terms can greatly enhance your competitive position. But at what level of risk? The longer the length of credit terms, the greater the degree of risk, since it is difficult to determine if the foreign customer will have the financial capacity to make a payment months later.
A very important rule of prudent exporters is to “know the customer.” In order to help determine this, a number of questions should be answered. For example, is the foreign customer creditworthy for the shipment or suffering cash flow problems that might delay payment? What is the foreign customer’s reputation for honesty and dependability? How long has the prospect been with his or her bank? Would he or she object if the exporter’s bank writes to this bank to ask for an opinion on the company?
Satisfactory answers are a good start. But keep in mind: a foreign buyer may have an excellent track record and consistently pay you on time, but due to unforeseen difficulties, he or she may default. What’s the solution?
By discounting a usance letter of credit (LC), exporters can offer overseas buyers attractive terms of up to 180 days, yet obtain payment almost immediately with no risk. This can make a deal much more attractive, greatly increase the exporter’s level of international competitiveness, and eliminate risk.
Upon issuing a usance LC, the issuing bank promises to pay the exporter, against conforming documents, a certain number of days after sight (after the bank sights the documents, usually 10 days to three weeks), or a specified number of days after the bill of lading date (the date the steamship takes on the goods). The fee for this service is small, and is discounted off the LC amount.
And collecting under a usance letter of credit is simple. After shipment, the exporter presents documents per the LC to the negotiating bank. The negotiating bank will then check the documents carefully to verify that they comply with the LC terms. If they do, the negotiating bank will advance funds immediately, less the discount represented by an interest rate. The exporter will be paid slightly less money than he or she would have collected at maturity, but will benefit from the cash flow.
The exporter’s benefits of discounting a usance LC are vast. Usance LC’s:
Need More Information?
For more details on usance LCs, how the exporter and importer can benefit, or for other solutions that may be best for you, contact your bank representative.
This article appeared in October 2001. (CB)Understand dynamic global markets.
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