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The Handbook
of International
Trade and Finance
i InternationalPayments
Trade Risk
Assessment Terms of Payment
Bonds and
Export Credit Insurance
Documentary Collections Letters
of Credit
Trade Finance Alternatives
This book describes in detail the different forms of risks in internatio
nal trade and how to use a
combination of payment, currency, financial, guarantee and insurance alternatives to form
terms of payment that will secure even the most challenging trade transa
Money Markets Cross-border Leasing
This book describes in detail the different forms of risks in internatio
nal trade
and how to use a combination of payment, currency, financial, guarantee
and insurance alternatives to form terms of payment that will secure even
the most challenging trade transaction.
ii The Handbook
of International
Trade and Finance
The complete guide for international
sales, finance, shipping and
Fourth Edition
Anders Grath
iii First published in Great Britain in 2005 by Nordia Publishing Ltd for The Institute of Export as
International Trade Finance
Published in Great Britain and the United States in 2008 by Kogan Page Limited as The Handbook
of International Trade and Finance
Second edition 2012
Third edition 2014
Fourth edition 2016
Apart from any fair dealing for the purposes of research or private study, or criticism or review,
as permitted under the Copyright, Designs and Patents Act 1988, this publication may only be
reproduced, stored or transmitted, in any form or by any means, with the prior permission in
writing of the publishers, or in the case of reprographic reproduction i
n accordance with the terms
and licences issued by the CLA.Enquiries concerning reproduction outside these terms should be sent to the publishers at the undermentioned addresses:
2nd Floor, 45 Gee Street 1518 Walnut Street, Suite 900 4737/23 Ansari Road
London EC1V 3RS Philadelphia PA 19102 Daryaganj
United Kingdom USA New Delhi 110002 India
© Anders Grath, 2005, 2008, 2012, 2014, 2016
The right of Anders Grath to be identified as the author of this work has been asserted by him in
accordance with the Copyright, Designs and Patents Act 1988.
ISBN 978 0 7494 7598 7
E-ISBN 978 0 7494 7599 4
British Library Cataloguing-in-Publication Data
A CIP record for this book is available from the British Library.
Library of Congress Cataloging-in-Publication Data
Names: Grath, Anders, 1943- author.
Title: The handbook of international trade and finance : the complete guide
for international sales, finance, shipping and administration / Anders Grath.
Description: 4th edition.| London ; Philadelphia : Kogan Page, 2016.|
Includes bibliographical references and index.
Identifiers: LCCN 2016018692 (print) | LCCN 2016029775 (ebook) | ISBN
9780749475987 (alk.paper) | ISBN 9780749475994 (eISBN)
Subjects: LCSH: International trade.| International finance.
Classification: LCC HF1379 .G725 2016 (print) | LCC HF1379 (ebook) | DDC
LC record available at
Typeset by Graphicraft Limited, Hong Kong
Print production managed by Jellyfish
Printed and bound by CPI Group (UK) Ltd, Croydon, CR0 4YY Publisher’s note
Every possible effort has been made to ensure that the information contained in this book
is accurate at the time of going to press, and the publisher and author
cannot accept respons-
ibility for any errors or omissions, however caused.No responsibility for loss or damage
occasioned to any person acting, or refraining from action, as a result of the material in this publication can be accepted by the editor, the publisher or the author.
iv ConTenTs
Preface viii
Introduction 1
01 Trade risks and risk assessment 9
Business beyond borders: trade risks 9
International trade practices 10
Product risks 16
Commercial risks (purchaser risks) 20
Adverse business risks 24
Political risks 26
Currency risks 30
Financial risks 31
02 Methods of payment 35
Different methods of payment 35
Bank transfer (bank remittance) 38
Cheque payments 47
Documentary collection 49
Letter of credit 56
Counter-trade 77
03 Bonds, guarantees and standby letters of credit 81
The use of bonds and guarantees 81
Common forms of guarantee 89
Demand guarantees 94
Standby letters of credit 98
The structure and design of guarantees 100
Contents v
Preface viii
Introduction 1
The main composition of this handbook 6
01 9
Trade risks and risk assessment 9
Business beyond borders: trade risks 9
International trade practices 10
Product risks 16
Commercial risks (purchaser risks) 20
Adverse business risks 24
Political risks 26
Currency risks 30
Financial risks 31
02 35
Methods of payment 35
Different methods of payment 35
Bank transfer (bank remittance) 38
Cheque payments 47
Documentary collection 49
Letter of credit 56
Counter-trade 77
03 81
Bonds, guarantees and standby letters of credit 81
The use of bonds and guarantees 81
Common forms of guarantee 89
Demand guarantees 94
Standby letters of credit 98
The structure and design of guarantees 100
04 105
Currency risk management 105
Currency risk 105
The currency markets 108
Currency exposure 113
Hedging currency risks 117
Practical currency management 125
05 129
Export credit insurance 129
A mutual undertaking 129
The private sector insurance market 132
Export credit agencies (official export credit institutions) 137
Investment insurance 146
06 149
Trade finance 149
Finance alternatives 149
Pre-shipment finance 151
Supplier credits 154
Refinancing of supplier credits 159
Buyer credits 169
The international money market 174
07 179
Structured trade finance 179
International leasing 179
Lines of credit and local currency finance 185
Project finance and joint venture 187
Multilateral development banks 191
08 195
Terms of payment 195
Terms of payment and cash management 195
Contents of the terms of payment 196
Structure of the terms of payment 200
Composite terms of payment 205
The final design of the terms of payment 208
09 209
The export quotation 209
Electronic documents in international trade 217
International transport documents 221
v Contents vi
04 Currency risk management 105
Currency risk 105
The currency markets 108
Currency exposure 113
Hedging currency risks 117
Practical currency management 125
05 export credit insurance 129
A mutual undertaking 129
The private sector insurance market 132
Export credit agencies (official export credit institutions) 137
Investment insurance 146
06 Trade finance 149
Finance alternatives 149
Pre-shipment finance 151
Supplier credits 154
Refinancing of supplier credits 159
Buyer credits 169
The international money market 174
07 structured trade finance 179
International leasing 179
Lines of credit and local currency finance 185
Project finance and joint venture 187
Multilateral development banks 191
08 Terms of payment 195
Terms of payment and cash management 195
Contents of the terms of payment 196
Structure of the terms of payment 200
Composite terms of payment 205
The final design of the terms of payment 208 Contents vii
09 The export quotation 209
Appendix I: Electronic documents in international trade 217
Appendix II: International transport documents 221
Glossary of terms and abbreviations 227
Index 245
Online resources for lecturers and students are available at the following
url (please scroll to the bottom of the web page and complete the form to
access these): PreFaCe
This handbook was originally published more than 40 years ago, and has since
been expanded and updated in new editions.Originally it was published as
separate country-specific editions in different European countries where it soon
became a reference handbook for companies, banks and other institutions
involved in international trade, irrespective of their size or the nature of
their business.However, for practical and logistical reasons it was not possible to cover
more than a handful of countries in this way, thus the idea for a completely
new and country-neutral edition that could be marketed in most countries involved in international trade around the world.The only drawback with
this approach is that it is then not feasible to describe the specifics for
every country; on the other hand, the basic aspects of international trade,
payments and finance are almost the same all over the world, which is also
the basis for this handbook.Furthermore, there is great advantage in being able to combine this basic
description with detailed references where such country-specific infor
can be found.This information is nowadays readily available from internet
sites from a variety of domestic institutions in most countries.It has then
been possible to create a situation where this book provides the foundat
but also gives readers the possibility to add whatever detailed and country-
specific information they require from other sources.There is another
advantage in such an approach: that the basics of this handbook should
be relatively stable over time, whereas detailed information from local and
domestic institutions will certainly change over time.All editions published over the years have been based on the same con-
cept, which is their practical nature.They contain no theoretical elements,
just information based on the author’s payment and finance experience
gained from managerial positions as head of international departments in a number of European banks.In such positions you are necessarily involved
in thousands of trade transactions each year, and the advice and comments
given in this book are based on that experience.I am very pleased with this fourth international edition now published b
Kogan Page which contains considerably more examples and illustrations
in a new book format.I thus feel confident that it will continue to be the
viii Preface ix
reference handbook of choice in numerous countries around the world, for
many years to come.It will certainly be of significant benefit to international
traders in the daily work of expanding their businesses or when entering new markets, but the book will equally be increasingly used in trade educa-
tion and as a practical tool within international departments of commerc
banks and other trade-related institutions.The author would like to thank the companies and institutions that have
contributed with support, advice and comments when creating this new
edition.This help has been greatly appreciated.
Anders Grath x
An international trade transaction, no matter how straightforward it may
seem at the start, is not completed until delivery has taken place, any other
obligations have been fulfilled and the seller has received payment.This may
seem obvious; however, even seemingly simple transactions can, and some-
times do, go wrong.There are many reasons why these things happen, but behind them all is
the basic fact that the risk assessment of the transaction and/or the wa
these risks were covered went wrong.An example is the risk assessment of
the customer, where exporters do not always fully realize that some larger
countries are divided into regions or states, often with different cultures,
which may affect trade patterns and practices.In some countries, what the
seller thought was a signed contract may just be seen as a letter of int
ent by
the buyer until it also has been countersigned by a more senior and inte
r -
nally authorized manager.Or it may be that the seller has agreed to terms
that were previously used but are not suitable in a changed environment or due to changes in their own business.Another reason may be that the parties simply did not use the same
terminology or did not focus on the details of the agreed terms of payme
This would inevitably lead to undefined terms, potentially subject to future
disputes, something that may not be revealed until delivery has been made
– when the seller is in a weaker bargaining position.Even though such
errors may not result in non-payment, it is more likely that they will lead
to delays in payment, with an increased commercial and/or political risk as
a consequence.Another common consequence of unclear or undefined terms of payment
is that the seller may have outstanding claims on the buyer; or that the
is of the same opinion with regard to the seller and takes the opportuni
to make unilateral payment deductions owing to real or alleged faults or deficiencies in the delivery.Each area of international trade requires its own knowledge, from the
first contact between buyer and seller to final payment.One such area of
expertise is how to develop professional and undisputed terms of payment and how to solve currency and trade finance questions in a competitive 1 2
way.These areas are of vital importance both in the offer and in subsequent
contract discussions, not just within difficult countries or markets or in
larger, more complicated deals, but also in quite ordinary day-to-day
transactions.The choice of currency could be of great importance, particularly in
an increasingly competitive market, and the ability to extend finance has
become a major competitive factor in negotiations.In such an environment
the terms of such credits are mostly to the advantage of the buyer and, as
a consequence, demand for longer credit periods and more advantageous
terms has increased.When it comes to similar or repetitive transactions with known cus-
tomers, both terms of payment and currency, and financial alternatives, can
often be developed as standard models but must, in other cases, be adapted
to each transaction and its specific preconditions.This is even more obvious
when considering the basic structure of international trade (see Figure
s 0.1
and 0.2), involving more than 150 countries, including many developing
and emerging markets.In many of these markets, the structuring of the
terms of payment is the key to secure and profitable business.Every transaction contains many different preconditions, apart from
aspects such as the buyer, the country, the nature of the goods, size, extent
and complexity.This requires the seller to carry out an individual risk assess-
ment and make decisions that ensure a profit able and secure deal, with a
level of risk that is both defined and accepted at the outset.It is therefore of great importance for both buyer and seller to know
how to structure practical terms of payment.In practice this often means
that during negotiations the seller must be willing and able to compromi
– even when it comes to specific questions related to guarantees, payments,
currency and finance.In these situations, and often together with other dif-
ficult negotiations, it is important to understand the connections between
these parts, what is essential to hold on to and what can be waived.Any successful negotiation must give reasonable and equal con sideration
to the demands of both commercial parties in order to find a compromis
and avoid unnecessary discussions or misunderstandings.The experienced
seller will always try to avoid such situations, thereby strengthening also
the potential for future business deals, provided that fundamental demands
have been met to safeguard the transaction.This handbook should be used as a reference manual in the practical
day-to-day business of the international trading company within the sale
shipping, administrative and back-office departments.For small- and medium-
sized companies that do not always have the specialist finance functio
in-house this is obvious, but this will also be the case even within the largest
The Handbook of International Trade and Finance Introduction 3
Figure 0.1 World merchandise exports by product group, 1995 and 2014
Fuels 0246
Percentage growth (%) 10 12 14
05 001000 1500 2000
USD billion
1 995 2014 Average annual percentage c hange
25003 000 350 0
Automoti ve products
T elecommunications
Electronic data processing and of fice equipment
Integrated circuits and
electronic components
Iron and steel
Non-fer rous metals
Ores and other minerals
Per sonal and household goods
Raw materials
no Tes●
●With an average annual growth rate of 12 per cent between 1995 and 2014 , world exports of fuels increased more in value
terms than any other product group, although partly due to an increase in energy prices.

●Pharmaceuticals recorded the second highest average growth rates for exports (11 per cent) between 1995 and 2014 while ores
and other minerals registered the third highest (10 per cent).However, their combined value was less than one-third of the
value of fuel exports.

●Exports of non-pharmaceutical chemicals increased by 7 per cent annually between 1995 and 2014 while food exports grew by
6 per cent per year.Their combined value was approximately equal to the value of fuel exports in 2014 .

●Raw materials and textiles recorded the lowest average annual growth rates (4 per cent each) between 1995 and 2014 .
sour Ce: World Trade Organization International Trade Statistics, 2015 4
Figure 0.2
Growth of world exports of commercial services by main sector,
Computer and
information services 18
Financial services
Other business services
R oyalties and licence fees
Communications services
Insurance services
T ranspor t
Pe rsonal, cultural and
recreational services
0246 8
Average annual percentage c hange
1012 1416 18 20
●World exports of computer and information services have expanded more rapidly than any other
services sector during recent years, estimated at USD 302 billion in 2014.

●Global trade in commercial services increased by 8 per cent on average annually over the last two
decades.Certain services categories, such as computer and information s
ervices, and financial
services, have often outpaced the average upsurge.Some other sectors, such as construction, have
experienced lower growth.

●Emerging economies, in particular in Asia, have become increasingly important exporters of
computer services, rising to 29 per cent in 2014 as India’s and China’s exports multiplied.North
America has lagged behind and its participation in world exports has dropped.However, Europe
remains the largest exporter of computer and information services, accounting for 58 per cent of
global exports in 2014 .

●Information technology was the most resilient services sector during the global economic crisis,
due to constant demand for cost-efficient technologies, the development of innovative software
especially in manufacturing, finance, insurance and healthcare, and the rising need to address IT
security concerns.
sour Ce: WTO–UNCTAD–ITC estimates
The Handbook of International Trade and Finance Introduction 5
companies, where specialization often means that many employees may
have detailed knowledge in some, but not all, of these financial areas.This goes not only for the exporting company, but also within importing
companies buying goods or services from abroad.Many comments and
references will also be made in this book about the interactive negotiat
process between the commercial parties in an international trade transac
useful knowledge for both the seller and the buyer.That is exactly the way these handbooks have been used over the years.
Cash management
One important development over recent years has been the demand for
capital rationalization, or ‘cash management’.This has affected a
ll aspects
of business, not least the sections covered in this handbook.It is especially obvious within the areas of payment, currency and
finance where every decision has direct consequences on the capital
required during all phases of the transaction, until payment is received
.This handbook demonstrates primarily how the seller can act, within
the framework of a defined risk level and with their competitive edge
maintained, to optimize the profitability of international trade trans
They can then also determine, with a high degree of accuracy, when,
where and how payments will be made and therefore how to minimize the
capital required.The concept of risk is directly connected to the proba
of timely payment, the choice of currency related to the exchange rate
when paid and the financing connected to the cost of the outstanding
credit.The importer will use the same knowledge, but from their own
perspective.The expression ‘cash management’ is seldom explicitly used in the
but most sections contain comments or advice that, directly or indirectl
have a bearing on the use and the latent risk of the amounts involved.W
this in mind, this handbook could also be read as a manual for improved
cash management in connection with international trade (more on this is
the last chapters concerning the practical structure and design of the
terms of payment).6
To get a clearer picture of the focus of this handbook, please consider t
following questions and answers:
1 Why are some companies doing more frequent and successful export
deals than others?It is because they manage to cover even the most difficult export risk
– only then are they in the best position to enter totally new market
s.Sell more – win market shares – enter new markets.
Who doesn’t want that?But the problem is often not making the sale
but ensuring that you get paid.Why do things sometimes go wrong in the export chain, from quotation
to payment – or in the worst case, non-payment?The answer is that th
seller often underestimates, or simply does not fully understand, the
risks involved in the transaction.Or the seller does not get the terms
payment originally anticipated and, at that stage, does not manage to
cover the transaction in some other way, or even abstains from the deal
altogether.Basically it is a matter of learning how to cover the trade
risks in a professional way, allowing the seller to manage transactions
even in the more difficult parts of the world.However, the follow-up must also be done professionally at home.
The main composition of this handbook
This handbook is intended to be a practical reference guide to help in t
daily work – mainly seen from the perspective of the seller – with
in sales,
shipping and administration.The contents have, therefore, been structured
as follows:

●risks and risk assessment (analysis)

●methods of payment –—–——————————

●guarantees, bonds and standby L/Cs —————

●export credit insurance –——————————

●currency risk management —————————

●trade finance –—–—————————————

●structured trade finance ——————————

●structure and design of practical terms of payment (action) (alternatives)
The Handbook of International Trade and Finance Introduction 7
2 What is needed is effective handling of the transaction until shipment
occurs and, thereafter, effective debt supervision.Time is money – look at the time arrow below.
due date
reminder 1
reminder 2
collection date of payment
Ti me of
The follow-up starts immediately after the contract is signed.It can be a forward currency hedge, the issuing of guarantees, communication
with the insurance company about an export credit risk policy or
follow-up of the obligations of the buyer, for example the correct issue
of a letter of credit.To end up in the grey area of the time arrow is
always risky; there the seller is more exposed – the goods have been
shipped but without payment being received in time.Worst of all, if pre-shipment control is not in place, even the most
secure letter of credit may be worthless if the seller is not able to
comply fully with its terms later on.It is often in sales negotiations
foreign countries far away from the home organization that the details
for a profitable transaction have to be decided.And once the deal is
signed, it may be difficult to get changes to the advantage of the sel
– not least regarding the terms of payment.The follow-up is crucial and will ultimately decide the profitability
the transaction.8
Trade risks and
risk assessment
Business beyond borders: trade risks
The following text is taken from an article for the Wall Street Journal by
freelance author Catherine Bolgar after interviews with the author of th
book and with Mr David Anderson at Zurich Insurance Group.The kind
permission by Zurich Insurance to publish the text is much appreciated
since it relates both to the general aspects of trade risks in this chap
ter but
also how to cover these risks, which is the main theme throughout the book.
Entering a foreign market can open up opportunities but entails a web of interconnected risks.International trade, for example, carries risks from
insolvent partners to foreign exchange to transportation.A common theme runs
through trade risks: a lack of information.That’s especially true in emerging
markets, where growth prospects are greatest, but so are risks.Those risks
overlap and are difficult to assess in markets that lack transparency.
The basic risks in international trade and investment haven’t changed much
since trade began.But the challenge of how to respond to those risks remains
an elusive, moving target.
International trade and the accompanying interconnected risks have been
around since borders were invented.The basic risks in international trade and
investment – commercial, political, currency and financial – haven’t changed
much since trade began.But the challenge of how to respond to those risks
remains an elusive, moving target.‘I have been working in international banks for 30 years and have see
businesses come and go,’ says Anders Grath, author of The Handbook of
International Trade and Finance, which was first published in 1975 and
re-published last year.‘And businesses that have gone wrong have always been
due to one thing: the risk assessment was wrong or not properly evaluate
d in
one way or another.
9 10
‘If you’re unsure about the risk, you often have to choose different
combinations of third-party cover through letters of credit, bank guarantees or
insurance that covers the worst possibilities of the commercial or polit
ical risk,’
he says.‘The safest option often is the most expensive option.’ ‘If you want to grow, you have to sell outside the low-growth, low-risk
markets and look at emerging markets,’ says David Anderson, Senior Vice
President and Director, Global Business Development, Credit and Political Risk,
at Zurich Insurance Group in Washington.‘When you do that, you take on
more risks in the form of country risks, political risks and in the form of whom
you’re selling to and where the opportunities are to sell your goods.You know
a lot less about the customers generally.’ It can be hard to put a figure on those worst possibilities, such as how much
to reserve for customer defaults, in a new market.‘Corporate chief financial officers do not want to be surprised b
y a big spike
in bad debt, or defaults by customers,’ Mr Anderson says.‘Some companies
can’t afford it because their margins are so thin.Defaulting customers could
cause serious cash-flow problems or even the end of the selling compan
International trade practices
All forms of business contain elements of risk, but when it comes to inter -
national trade, the risk profile often enters a new dimension.Internationally,
you seldom have common laws that can support the transaction, as would
be the case within one country.Instead, established trade practices and con-
ventions are used to underpin the undertakings made by the parties.The
main sources for international trade practices are publications issued b
y the
International Chamber of Commerce (ICC), which will be referred to many
times throughout this book.Successful trade transactions depend on knowledge of these established
practices, ensuring that the undertakings in the individual contract are
in line with such practices.This is why it is crucial for the seller to have
started with a correct risk assessment before entering into the transact
Sometimes, however, the circumstances in a particular case are so obvious
that one hardly thinks of it as a risk assessment, whereas in other situations
a thorough risk assessment needs to be done.In every new transaction one has to take it for granted that, from the
outset, the parties will have at least somewhat different views about various
aspects of the deal, not least the terms of payment.This is quite logical since
the most important function of these terms for both seller and buyer is
The Handbook of International Trade and Finance 11
minimize not only the risks involved, but also the cost of payment and of the
financing of the transaction.
The negotiation process
The seller will always try to get terms that will maximize the outcome a
minimize the risk.However, they must also be prepared to accommodate
reasonable demands from the buyer in order to match other competitors
and reach a deal that is acceptable to both parties, thereby also developing
a good long-term business relationship.Should the seller be inflexible on this point, it could result in an adverse
competitive situation with the potential risk of losing the deal.On the other
hand, demands from the buyer that are too stringent can have the same
result, or be resolved by means of a higher price or some other adjustment
to the final agreement.The outcome of these negotiations will depend on past knowledge and
experience, which is even more important if the buyer bases their request for
tender on simplified or standardized terms of payment, usually to their own
advantage.In many cases, such terms are adapted to conditions that are not
optimal for the seller, compared with what the seller could have reached if
they were individually negotiated.In such a case it is important to be able to
argue and convince the buyer that there might be other solutions that ca
satisfy any reasonable demands, in order to find the optimal result for both
parties.There is, however, another – and in many countries very common – way
to bridge the gap between the parties, if the seller has to abstain from some
demands in negotiations with the buyer.The seller could instead approach
a third party, often a credit insurance company, to reduce the commercial risk
that could not be covered through the agreed terms of payment.Finally, it should be noted that business practices that have been estab-
lished over time in different countries or regions also create at least
a common
ground for both parties when starting their payment negotiations, ie choice
of currency, form of payment and terms of financing.Local banks, trade
councils and the chambers of commerce in both the seller’s and the buyer’s
country can draw on their experience and give impartial advice on local
business practice regarding both the method of payment and the more
specific terms of payment, while also taking the size, commodity and other
aspects of the potential transaction into account.Such considerations can
then be the starting point for negotiations between the parties.
Trade Risks and Risk Assessment 12
Different forms of trade risk
There are always potential drawbacks in trying to categorize such a general
concept as trade risks which could have so many different forms and shapes,
but it also has great illustrational advantages, particularly when they also
coincide with commonly used business expressions.Figure 1.1 shows the
main risk structure in international trade, which will affect both the seller’s
and the buyer’s view of the terms of payment.Obviously, all these risks combined do not often occur in one and the
same transaction.For example, a sale to a Norwegian customer may be just
a matter of a straight commercial risk on the buyer, whereas delivery of
a tailor-made machine to Indonesia has to be risk assessed in quite another
way.In quite general terms, the risk structure is directly linked to the obliga-
tions undertaken by the seller.This assessment can often be made relatively
simple as a commercial risk only, but, in other cases, for example if the
transaction also involves assembly, installation, testing or a maintenance
responsibility, the assessment has to involve many other aspects as well.The question of risk is to a large degree a subjective evaluation, but it is
still important for both parties to have a good knowledge of these matte
in order to carry out a proper and meaningful risk assessment.Only there-
after does the question arise about how to cover these risks through the terms of payment together with other limitations in the contract, if applicable,
and together with separate credit risk insurance or guarantees, as the case
may be.
Figure 1.1 Different forms of risk in international trade
Political risksCommercial
production and transport risks
business risks
Financial risks
Main trade risks
Currency risks
The Handbook of International Trade and Finance 13
It should however also be noted that most export credit insurance,
taken by the seller as additional security, could be impaired or even invalid
should the seller themselves not have fulfilled – or been able to f
ulfil – their
obligations according to the contract.This is another reason why it is so
important that the obligations of the seller, according to the contract, are
always directly related to those of the buyer.Otherwise the seller may end
up in a risk situation that is worse than anticipated at the time of ent
into the contract.When all the necessary evaluations have been done, the final decision as
to whether the deal is secure enough to be entered into has to be taken.The worst that can happen is finding, after the contract has been signed,
that it contains risks that the seller was unaware of at that time.It is then
often too late to make changes on equal terms.
Terms of delivery and terms of payment
This handbook describes in detail the structure and design of the terms
payment as an integral part of the contract.However, the terms of delivery
also have to be defined in order to determine when and where the selle
r has
fulfilled the obligations to deliver according to the contract and what is
needed to do so.There is a clear connection between these two sets of terms
insofar as payment is mostly related to the point at which the risk pass
from the seller to the buyer as specified by the terms of delivery; it
is to
be made either at that particular time or at a specific time thereafte
This connection makes it necessary to outline some basic facts about the different terms of delivery.The standard rules of reference for the interpretation of the most com-
monly used trade terms in international trade are Incoterms® ( International
Commercial Terms), issued by the International Chamber of Commerce
(ICC).These rules are now generally recognized throughout the world, so
any other unspecified trading terms, which may also have different meanings
for companies in different countries, should be avoided.Due to a number of changes in both global and domestic trade during
recent years, a new version of Incoterms came into effect on 1 January 2011,
referred to as Incoterms® 2010 (ICC publication 715), which are now also
officially endorsed by the United Nations Trade Law Commission, confirming
their position as the global standard for international business transac
However, all contracts made under the former Incoterms remain valid even
after 2011, and it is therefore important always to clearly specify the chosen
Trade Risks and Risk Assessment 14
The basic purpose of the rules is to define how each Incoterm, as agreed
in the sales contract, should be dealt with in terms of delivery, risks and costs,
and specify the responsibility of the buyer and seller.For example, who
should arrange and pay freight, other transport charges, insurance, duties
and taxes?These aspects are often referred to as the critical points in inter -
national trade, detailing at what point the risk is transferred from the seller
to the buyer and how the costs involved should be split between the part
ies.The new Incoterms 2010 consists of 11 terms, separated into two groups,
1 Those applicable to all modes of transport:
EXW: EX WORKS (...named place of delivery)
FCA: FREE CARRIER (...named place of delivery)
CPT: CARRIAGE PAID TO (...named place of destination)
DAT: DELIVERED AT TERMINAL (...named terminal at port or
place of destination)
DAP: DELIVERED AT PLACE (...named place of destination)
DDP: DELIVERED DUTY PAID (...named place)
2 Those only applicable to sea and inland waterway transport:
FAS: FREE ALONGSIDE SHIP (...named port of shipment)
FOB: FREE ON BOARD (...named port of shipment)
CFR: COST AND FREIGHT (...named port of destination)
When choosing the appropriate terms of delivery, deciding factors (here seen
from the seller’s perspective) include:

●the mode of transport and the transportation route, the buyer and the
nature of the goods;

●standard practice, if any, in the buyer’s country or any regulation set
by the authorities of that country to benefit their own transport or
insurance industry;

●procedures, where the seller should avoid terms of delivery, which are
dependent on obtaining import licences or clearance of goods to countries
they cannot properly judge;

●the competitive situation, where the buyer often suggests their preferred
terms of delivery and the seller has to evaluate these terms in relation to
the risks involved.
The Handbook of International Trade and Finance 15
The International Chamber of Commerce (ICC)
The ICC is the world’s only truly global business organization and is
recognized as the voice of international business.Based in Paris, its c
services/activities include:

●practical services to business;

●working against commercial crime;

●being an advocate for international business;

●spreading business expertise;

●promoting growth and prosperity;

●setting rules and standards;

●promoting the multilateral trading system.
ICC membership groups thousands of companies of every size in over
120 countries worldwide, mainly through its national committees.
They represent a broad cross-section of business activity, including
manufacturing, trade, services and the professions.Through membership of the ICC, companies shape rules and policies
that stimulate international trade and investment.These companies in tu
count on the prestige and expertise of the ICC to get business views
across to governments and intergovernmental organizations, whose
decisions affect corporate finances and operations worldwide.The ICC makes policy and rules in a number of areas related to the
contents of this book.This includes terms of delivery as described in this
chapter and banking techniques and practices for documentary payments
and guarantees as described in Chapters 2 and 3, but also areas such as
anti-corruption, arbitration and commercial law and practice.In order t
support international commerce, ICC also provides a wide range of
internationally recognized certification programmes in most areas cove
by its policies and rules (see ICC also runs a
comprehensive bookshop specializing in these areas, where the complete
texts can be found.Further information about the ICC and the ICC Business Bookshop can
be found at and
Trade Risks and Risk Assessment 16
For a standard delivery between established trade partners, neighbouring
countries or countries belonging to a common trading area, these terms
are often easily agreed upon as a matter of standard practice with only an
adjustment related to the actual freight and insurance charges, often in con-
nection with open account trading.In such cases, the buyer often takes the
main responsibility for transport and risk of the purchased goods.However,
in other cases the seller wants to have better control of the delivery p
and to be able to select transport and/or insurance, and consequently chooses
delivery terms where these aspects are better protected.
Product risks
Product risks are risks that the seller automatically has to accept as a
integral part of their commitment.First, it is a matter of the product itself,
or the agreed delivery; for example, specified performance warranties or
agreed maintenance or service obligations.There are many examples of how new and unexpected working conditions
in the buyer’s country have led to reduced performance of the delivered
goods.It could be negligence concerning operating procedures or restrictions,
careless treatment or lack of current maintenance, but also damage due to the
climate or for environmental reasons.Matters of this nature may well lead to disputes between the parties aft
the contract has been signed and to increased cost for the delivery as a whole.It is important for the seller to have the contract, and specifically the
terms of payment, worded in such a way that any such changes, which are
directly or indirectly due to the actions of the buyer or originating wi
their country, will automatically include compensation or corresponding
changes in the seller’s commitments.This can be in economic terms, in origin-
ally agreed time limits, or both.It goes without saying that these risks become even more complicated
when it comes to whole projects or larger and more complex contracts.These
are often completed over longer periods and involve many more possible
combinations of interrelated commitments between the commercial parties, not only between the seller and the buyer, but also often involving other
parties in the buyer’s country, both commercial and political.
The Handbook of International Trade and Finance 17
Manufacturing risks
The concept of product risk could also include some elements of the
manufacturing process itself (although in principle that subject falls beyond
the scope of this handbook).This risk appears all too frequently when the
Commercial documentation and official requirements
The preceding pages give a description of the relation between the terms of delivery and the terms of payment, including the consequential insura
aspects.These areas have to be integral parts of the sales contract, de
tailed in
such a way that it leaves no doubt about the responsibility involved for bot
parties.The sales contract should therefore include information about, or refere
to, commercial documentation and official requirements.This is most e
dealt with in standard and recurring trade, but in other cases it may be
major issue that must be worded in detail in order to avoid disputes lat
er.The standard shipping documentation for ordinary deliveries is
described in Chapter 2.It is important to remember that many importing
countries have specific requirements regarding not only layout and con
but also verification or legalization of these documents, often by ass
authorities or chosen parties.Most exporting countries have trade counc
or other similar bodies to assist in such matters (the forwarding agent
also have a similar role).The exporter should never underestimate the
needed for such a task, which could substantially delay the period
between shipment and due preparation of the documentation.There may also be other official requirements to deal with, such as
export declarations for customs and value added tax (VAT) purposes in
the exporting country.Import licences or certificates related to import
permission, duty, VAT or import sales tax in the importing country also need
to be considered.However, when such requirements or uncertainties arise
in the buyer’s country, the established trade practice has mostly been
adjusted accordingly, including the use of terms of payment that
automatically reduce or eliminate such risks.This is described in detail in
‘Documentary collection’ and ‘Letter of credit’ in Chapter 2
Trade Risks and Risk Assessment 18
product is tailor-made or has unique specifications.In these cases there is
often no other readily available buyer if the transaction cannot be comp
in which case the seller has to carry the cost of any necessary readjustment,
if that is even an option.Risks of this nature occur as early as the product planning phase but
may often be difficult to cover from that time owing to the special nature
of these products.But they also involve specific risks for the buyer, who
often has to enter into payment obligations at an early stage but withou
the security of the product itself until it has been delivered and insta
To safeguard the interests of both parties, the terms of payment are often
divided into part-payments related to the production and delivery phases
in combination with separate guarantees, to cover the risks as they occur in
different phases of the transaction.
Transport risks and cargo insurance
From a general risk perspective it is not only the product but also the physical movement of the goods from the seller to the buyer that has to be evaluated, based on aspects such as the nature of the product, size of
delivery, the buyer and their country, and the actual transportation route.
Most goods in international trade, apart from smaller and non-expensive
deliveries, are covered by cargo insurance, providing cover against physical
loss or damage while in transit, by land, sea or air, or by a combination of
these modes of transport.The cover under a cargo insurance (which is a sub-branch of marine insur -
ance) is almost always defined by standard policy wordings issued by
Institute of London Underwriters (or the American Institute of Marine
Underwriters).These are called Institute Cargo Clauses.While there are
numerous clauses that will apply to different cargos, the widest cover is
provided under Institute Cargo Clauses A (Institute Cargo Clauses [Air] for
transport by air), or with more restrictive cover under Institute Cargo
Clauses B and Institute Cargo Clauses C.(The new A-clauses have replaced
the previous Institute Cargo Clauses All Risks.) Cargo insurance is therefore
normally provided through one of these Institute Cargo Clauses A, B or C,
plus separate war clauses and strike clauses.This is shown in the example
of a letter of credit in Chapter 2.The question of who should arrange the insurance is determined by the
agreed terms of delivery, as defined by the relevant Incoterms as described
earlier.These terms also define the critical point during transport, where the
The Handbook of International Trade and Finance 19
risk is transferred from the seller to the buyer.That can be any given
point between a named place at the seller’s location (Ex Works) and a named
place at the buyer’s location (Delivered Duty Paid, DDP).That specified critical
point also determines the seller’s and/or the buyer’s responsibility to arrange
insurance.However, there is another aspect of risk coverage that the seller has to
be particularly aware of, and that is the potential risk of the buyer arranging
insurance according to some of the terms of delivery.If such a term of
delivery is chosen, for example FOB (...named port of shipment), and the
buyer fails to insure in a proper and agreed way, the goods may arrive at the
destination in a damaged condition and without adequate insurance cover.
If, at the same time, the terms of payment allow for payment after delivery,
this risk de facto becomes a risk for the seller, who may end up with unpaid
for, uninsured and damaged goods at the point of destination.Such a situation
is obviously a consequence of the seller agreeing to terms of payment that
did not cover the actual commercial risk, but the insurance risk involved
could, in most cases, have been eliminated by separate seller’s interest
contingency insurance, as described below.From the seller’s perspective, there are basically three different ways to
insure the cargo, either with an open insurance policy covering most or
all shipments within the seller’s basic trade as agreed in advance with the
insurer, or with a specific insurance policy, covering specific shipments on
an ad hoc basis or those which are outside the set criteria of the open
The open policy is by far the most common in international trade, normally
reviewed on an annual basis, and with a 30- to 60-day cancellation clause
should conditions deteriorate substantially.The open cover is the most cost-
effective alternative, but it also has obvious administrative advantages and
will automatically secure the actual coverage of all individual shipment
under the policy.The third basic form of cargo insurance is seller’s interest con tingency
insurance, normally only offered as a complement to the open policy or as
an integral part of a specific policy, and on an undisclosed basis as far as the
buyer is concerned.This insurance covers the risk that the goods may arrive
at their destination in a damaged condition, resulting in the buyer’s refusal
to accept them (even if the risk was on their part according to the ter
ms of
delivery), or they may simply be unable or unwilling to pay for commercial
or political reasons, including failure to produce a valid import licence.In
such cases the insurance covers the physical loss of, or damage to, the goods
but it does not cover the credit risk (commercial or political) on the buyer,
Trade Risks and Risk Assessment 20
which has to be covered through the terms of payment in conjunction with any other arrangements.Apart from these three basic ways to insure cargo goods, sometimes a
Cover Note may be issued by the insurance company or insurance broker
instead of, or before definite insurance policies or certificates are issued, to
serve as proof of insurance.The seller should bear in mind that cargo insurance is a specialized bus
ness, where cover and conditions may vary according to the commodity or
goods to be shipped, the transportation route and the mode of transport,
which is a major reason why open policy cover is the most common in
international trade.But normal risk management procedures will always
apply: new and adverse conditions and/or additional risks must be report
or approved by the insurer, and the policy normally excludes loss or damage
due to wilful misconduct or insufficient, unsuitable or inadequate packing
or container stowage by the assured party.Cargo insurance can be obtained directly from an insurance company or,
very often today, directly through the transporting company or the forward-
ing agent handling the goods.In some countries it is also quite common to
use independent cargo insurance brokers, who may be more able to select
the most cost-efficient insurance package, based on specific conditions or
the trade structure in each individual case.However, the seller should always ensure that the selected insurer is part
of an established international network for dealing with claims and sett
procedures.This is often also a requisite of the buyer, and if not explicitly
agreed in the sales contract, such conditions may appear later on, for example
in the insurance specifications in a letter of credit, as shown in the ‘Letter of
credit’ example in Chapter 2.More information about cargo clauses and their coverage can be obtained
through any broker, insurance or transportation company involved in
international trade.
Commercial risks (purchaser risks)
Commercial risk, also called purchaser risk, is often defined as the risk of
the buyer going into bankruptcy or being in any other way incapable of
fulfilling their contractual obligations.One might first think of the buyer’s
payment obligations but, as seen above, it also covers all other obligations
of the buyer, according to the contract, necessary for the seller to fulfil their
The Handbook of International Trade and Finance 21
How does the seller, therefore, evaluate the buyer’s ability to fulfil their
obligations?In most industrialized countries within the Organisation for
Economic Co-operation and Development (OECD) area, it is relatively easy
to obtain a fair picture of potential buyers, either to study their published
accounts or to ask for an independent business credit report, which is a
more reliable way of dealing with customer risks.This will often also give
much broader information about the buyer and their business, and not
simply some selected economic figures from which the seller often cannot
draw any decisive conclusions.
Credit information
Export trade may be an important factor in the potential growth of busi-
ness; however, the risks involved in carrying out international business can
also be high.In little more than a decade, the world of commerce has changed
dramatically.In this commercial environment, the global suppliers of credit
information have become a vital source of knowledge and expertise, based
on the great wealth of information that they maintain about consumers
and how they behave, about businesses and how they perform, and about
different markets and how they are changing.The more the seller understands their customers, the more they are able
to respond to their individual needs and circumstances.Credit information
in itself may also help the seller to reach new customers and to build,
nurture and maximize lasting customer relationships.It thus forms a vital
part of establishing the structure of a potential export transaction and,
in particular, the terms of payment to be used.In some cases the information
can be provided instantly, inexpensively and in a standardized manner over
the internet, but in other cases a more researched profile is required.Each seller must have a policy for obtaining up-to-date information about
the commercial risk structure in connection with any new potential buyer or business and with outstanding export receivables.How this is done
may differ depending on the volume and structure of the exports, but it
is recommended at least to review the business information systems offer
by the larger providers and to choose an alternative that is optimal for
individual seller as to the services and costs involved.The business information may vary, depending on the registered infor -
mation available about the company and the contents can sometimes also
be difficult to evaluate.Questions will also often arise about how up to
date it really is, particularly when dealing with customers outside the most
advanced industrialized countries.
Trade Risks and Risk Assessment 22
Credit management tips for export success
1 Don’t be convinced by a company’s website or its entry in a telephone
directory, as unscrupulous traders can ‘buy’ visibility in order to defraud suppliers.
2 Don’t be satisfied with trade or bank references, as no company will
point a supplier towards someone who will give them a bad reference.
3 Don’t be afraid to ask awkward questions, look at the latest company
accounts and check for evidence that the company is trading profitably
4 Don’t be discouraged if the company uses a reputable factor or invoice
discounter, as this is a growing means of obtaining finance.
5 Don’t rely on your instincts that a new customer is trustworthy; obtain
an objective assessment of risk through a reputable credit reference
agency with international reach.
6 Don’t be afraid to ask for full or partial payment up-front.A credit limit
a reward for good payment and not an automatic right of new
7 Don’t rush into increasing a customer’s credit limit because they have
paid their first invoice promptly and in full.
In addition to carefully vetting prospects and monitoring customers afte
they have been taken on, business can use a specialist insurance
company, which replaces much needed working capital when bad debts
and late payment impact on cash flows.
Extract from How to export more successfully, with kind permission
taken from the webpage of domestic and export credit insurer Coface,
With buyers from non-OECD countries, the matter becomes more com -
plicated.The information, if available, will be much more difficult to evaluate
and it will be harder to assess how it has been produced and how it
should be analysed.In these cases, the information probably has limited value
anyway, because other risk factors, such as the political risk, may be greater
– and terms of payment that reflect this combined risk have to be c
The Handbook of International Trade and Finance 23
The seller may also be able to get assistance abroad through the export
or trade council or similar institutions in their country, and/or from the
commercial sections of embassies abroad, which may assist with market
surveys and other studies in that country.Banks can participate by issuing
introductory letters to their branches or correspondents, enabling the seller
to obtain more up-to-date information about the local business condition
and form an opinion about the buyer and their business in connection wit
the contract negotiations.
Providers of international credit reports
Information about potential foreign counterparts can be obtained from
a number of independent providers of business information through
branches or correspondents around the world.Such credit reports can be
provided on a case-by-case basis or be part of a broader risk management solution, offered by domestic or multinational business information
companies that keep huge databases of customers from all over the world.
The information required could be on an ad hoc basis or as an ongoing
process of monitoring actual and potential customers.It could be of a
general or more specific nature depending on what other information is already available, and delivered through various media and within differ
time frames, which will be reflected in the cost structure.Since dome
banks also make use of such credit information, they could in most cases give the exporter valuable advice on which provider to turn to, based on their individual needs.Some of the global providers of credit information are listed in
alphabetical order below, covering the most important trade markets with
millions of companies in their databases:

●Atradius – a global credit information and management group of
companies, providing both credit and market information through their
own or partners’ international network;

●Coface – one of the world’s largest domestic and export credit
insurance groups.Apart from insurance, Coface also specializes in
providing global credit information and related services on companies

●D&B (formerly Dun & Bradstreet) – one of the largest providers of
business information for credit, marketing and purchasing decisions

●Experian – a global provider of credit information and related consulting
Trade Risks and Risk Assessment 24
adverse business risks
Adverse business risks include all business practices of a negative natu
which are not only common but also almost endemic in some parts of the
world.This could have serious consequences for the individual transaction,
but also for the general business and financial standing of the seller, as well
as their moral reputation.
We are, of course, referring to all sorts of corrupt practices that flourish
in many countries, particularly in connection with larger contracts or pro-
jects: bribery, money laundering and a variety of facilitation payments:
Bribery in general can broadly be defined as the receiving or offering
of an
undue reward by or to any holder of public office or a private employe
designed to influence them in the exercise of their duty, and thus to incline them
to act contrary to the known rules of honesty and integrity.
This quotation is taken from a UK government body, and even if it is not
a legal definition, it gives an accurate description of the problem.If bribery is generally a technique to press the seller for undue reward
money laundering often has the opposite purpose, which is to invite the seller
to do a deal that may on the face of it seem very advantageous, but where
the true intention is to disguise or conceal the actual origin of the mo
involved.It covers criminal activities, corruption and breaches of financial
sanctions.It includes the handling, or aiding the handling, of assets, know-
ing that they are the result of crime, terrorism or illegal drug activities.Criminal and terrorist organizations generate large sums of cash, which
they need to channel into the banking, corporate and trade financial systems,
and both banks and traders can innocently fall victim to such activity i
f not
exercising due diligence.A frequently used technique is over-invoicing or
inflated transactions, with or without payment to a third party, where the
seller may be completely unaware that they could be part of a ruse to la
money.The seller should be particularly observant in the case of cash
payments and be aware that new anti-money laundering regulations must
be complied with for such payments in most countries.A reputable business adds respectability to any organization being used
for laundering operations, and money launderers will try to use any business,
directly through ownership or indirectly by deceit.Developing nations are
particularly vulnerable to money launderers because they usually have
poorly regulated financial systems.These provide the greatest opportunities
to criminals.
The Handbook of International Trade and Finance 25
In general terms, a suspicious transaction is one that is outside the
normal range of transactions from the seller’s point of view, in particular in
relation to new customers or where an old customer changes transaction
structure in an unusual way.It can include:

●unusual payment settlements;

●unusual transfer instructions;


●rapid movements in and out of accounts;

●numerous transfers;

●complicated accounts structures.
Any of the above should be considered suspicious.Bribery, money laundering and any other form of corrupt behaviour are
bad for business; they distort the normal trade patterns and give unfair advantages to those involved in them.They are also extremely harmful for
the countries themselves, owing to the damage they cause to the often fragile
social fabric; they destroy the economy and are strongly counterproducti
for trade and all forms of foreign investments into the country.In the long run, such practices also prevent social and economic stability
and development, and they have an especially negative impact on the most
disadvantaged parts of the population.Even within the countries where
these practices are frequent among individual public and private employe
they are almost always illegal, even if these countries often lack the means
and the resources to tackle these problems effectively.
The need for a strong policy
The World Bank and the OECD have put a great deal of resources into
combating corruption worldwide, and in most countries corruption is now
illegal even when committed abroad.The companies also have full respon-
sibility for the wrongdoings of their employees abroad when acting for t
company.As a consequence of the inclusion of anti-corruption laws, which are in
place in most countries today, it is also incorporated in the procedures of
their government departments, for example in the rules of the respective export
credit agency (which will be described at length later in this book).Any violation
of the anti-corruption statement that the seller has to give when applyi
for such insurance could have serious implications for its validity.
Trade Risks and Risk Assessment 26
It is often not just the threat of prosecution that should most worry th
seller.There have been a number of cases in which companies were allegedly
involved in corrupt behaviour, but where the true circumstances were not
fully disclosed.The allegation could be damaging enough, sometimes based
only on rumours emanating from economic groups or political factions
within the society (a frequently used method), to stop or postpone a project
or to favour another bidder.Such rumours, true or false, or involving either
smaller facilitation payments or large-scale bribery to senior private o
public officials, can drag on for years, with economic and detrimental con -
sequences for the company, both overseas and at home.Every company involved in overseas trade or investments should have
a clear anti-corruption policy that is implemented and clearly understoo
by all its employees, and supervised by the management in an appropriate
way.Such a policy is also supported by local laws, which give both the com-
pany and its employees a much stronger moral and legal defence against
every attempt to extort bribes from them or to induce them into any othe
form of corrupt practice.
Political risks
Political risk or country risk is often defined as:
the risk of a separate commercial transaction not being realized in a co
way due to measures emanating from the government or authority of the
buyer’s own or any other foreign country.
No matter how reliable the buyer may be in fulfilling their obligation
s and
paying in local currency, their obligations to the seller (according to the
contract) are nevertheless dependent on the current situation in their
country – or along the route of transport to that country.However, in practice, it may be difficult to separate commercial and
political risk because political decisions, or other similar acts by local
authorities, also affect the local company and its capabilities of honouring
the contract.For example, some countries may change taxes, import duties
or currency regulations, often with immediate effect, which could undermine
the basis for contracts already signed.Other common measures include import restrictions or other regulations
intended to promote local industry and to save foreign currency.Even with
just the risks of such actions, they all have the same negative implications for
the transaction and the buyer’s possibility of fulfilling their part of the contract.
The Handbook of International Trade and Finance 27
Seen from a broader perspective, political risk could be divided into dif-
ferent underlying causes, such as:

●political stability;

●social stability;

●economic stability.
Political stability (ie local political structures and ideology combined with
external relations with other countries) is often seen as an important
rion of the real political risk.This stability indicates, in general terms, the
likelihood or the probability of a country’s involvement in, or being affected
by, acts of terror, war or internal violence from groupings within the country
or sanctions or blockades from other nations.The constant risk of rapid and unexpected change in economic policy
or in the form of nationalization or similar measures as a consequence o
political instability will have the same effect: they are all extremely
for any private commercial economic activity in the country.Unfortunately,
there are presently numerous examples of this political instability in m
parts of the world.The social stability of a country is also of great importance, mainly on
a long-term basis.However, the developments in many countries, not only
developing countries, show all too well how social instability (uneven income
distribution and ethnic or religious antagonism) can turn into violence
terrorist activity that can paralyse the country or its economy, often at very
short notice.Economic stability is equally important to maintain the confidence of
a country and its economy.A weak infrastructure, dependence on single
export or import commodities, a high debt burden and lack of raw materials
are critical factors that, together with other developments, can easily change
economic stability in a short time.Even currency restrictions and other
more indirect currency regulations such as introducing or abolishing dif-
ferent forms of ‘pegging’ against other currencies, often USD, could have
serious economic consequences.The turbulent situation in many developing
countries is a constant reminder of the fragility of economic stability in many
parts of the world.
Trade Risks and Risk Assessment 28
Other forms of political or similar risk
Apart from the real political risks already discussed, there are other measures
taken by authorities in the buyer’s home country that can affect the buyer
and their ability or willingness to fulfil the transaction; for example, demands
Detailed country information
Before deciding the detailed terms of payment that should be proposed in each particular case, the seller should try to obtain the best backgroun
information possible about the buyer, and about the economic and political
structure in the importing country.Particularly in emerging economies or
developing countries, the main risk is often both political and commerci
and the terms of payment have to be structured accordingly.Country information can be bought from specialized credit report
companies, but is also often available through the domestic export counc
or similar institution.If that is not available, other sources that can
be used,
mostly free of charge, are websites from the main exporting countries, f
example UK Trade & Investment, sites contain
information, country by country, on more general aspects that are
important to exporters in most countries, such as:

●country and market profiles and key facts;

●customs and regulations;

●selling and communications;

●main export opportunities and the public procurement market;

●connections to other trade-related websites.
More detailed country information can also be obtained from the larger
export insurance companies, for example Coface, through their country
rating, which can be found on sites
contain more financially oriented information such as country risk
assessment, insolvency trends and payment methods.The above sources of information, together with the additional practical banking and financial experience that can be obtained from larger
commercial banks, could form a good background when deciding on the
terms of payment in an individual transaction.
The Handbook of International Trade and Finance 29
for product standards, new or changed energy or environmental require-
ments – measures that could have a genuine purpose or be put in place partly to act as trade barriers to promote sectors or important industri
within the country.Irrespective of the purpose, such actions, often called
‘non-tariff barriers’, could have a negative impact on already agreed busi-
ness transactions, since such measures are often introduced with immediate
effect.Other, more open measures are sometimes also implemented, also
often at short notice, as has been seen within the European Union (EU), for
example, where the objective has been to prevent a rapid increase in imports
from some emerging market countries, in order to protect the EU’s own
industry or allow more time to adapt to new trade patterns.Countries involved in the transit of goods have to be considered as well
as countries related to subcontractors or suppliers of crucial component
In these cases, perhaps it is not the political risk as defined, but other
measures that are more important; for example, the risk of labour market
conflicts in the form of strikes or lockouts that could interrupt delivery of
components needed for the timely execution of the agreed sales contract.
Finally, the risk involved in ordinary force majeure clauses should be
mentioned, even if the background is not political but caused by other
factors outside the control of the commercial parties themselves.When used
by other parties, such clauses could, for example, release a subcontractor
from their delivery obligations during the periods they are applicable,
with corresponding effects for the seller.Even bank guarantees and other
obligations in favour of the seller could be of limited value during suc
periods if, as is normally the case, they only cover commitments according
to a contract, which may refer to such clauses.The same goes for presenta-
tion of documents under a letter of credit, where the bank will not accept
documents that have expired during such interruption.However, when used by the seller, such clauses could protect them against
actions for breach of contract, where performance of their contractual obli -
gations is prevented by incidents outside their control.This is often referred
to as ‘frustration of contract’ and a typical clause might say:
The Company shall have no liability in respect of any failure or delay i
fulfilling any of the Company’s obligations to the extent that fulfilment thereof
is prevented, frustrated, impeded and/or delayed or rendered uneconomic as
a consequence of any fire, flood, earthquake, other natural disaster or Act of
God, industrial dispute or other circumstances or event beyond the Company’
reasonable control (‘force majeure conditions’).
Trade Risks and Risk Assessment 30
Currency risks
If payment is going to be made in a currency other than that in which th
seller incurs their costs, a new currency risk will arise.In most cases, the
seller’s main costs will be in their own local currency, which automatically
creates such a risk if invoicing in another currency.The size of that risk will
depend on the currency and the outstanding period until payment.Since the introduction of the euro, invoicing in that currency has become
increasingly common in European trade and also with sellers outside the
euro zone.Even with the problems currently affecting this particular
currency, the development is likely to accelerate with additional countries
joining the euro zone.Traditionally, however, the USD has been the preferred third-party
currency.This applies both to international trade in general, but particularly
to raw materials and certain commodities, and for many other services such
as freight and insurance.It is also commonly used in countries where the
United States maintains or historically has had a strong economic or politi-
cal influence.Available statistics do not always show currency distribution for inter -
national trade of goods and services, but it can generally be expected that
exports invoiced in smaller trade currencies are diminishing in favour o
the larger ones, and will probably continue to do so.Most exporters will
therefore have to become accustomed to invoicing in foreign currency and to the management of currency risk exposure.
Assessment of currencies
Traditionally, currencies have been divided into ‘strong’ and ‘weak’, and this
view has affected the general conception of preferred trade currencies, even
though the highest preference is normally for the currency of the home
country.The yen, the Swiss franc together with the US dollar and the British
pound would probably be regarded as strong currencies in the long run
anyway, while others would be seen as neutral, weak, unstable or volatile.However, a division into strong or weak currencies may have its justifi-
cation in a longer perspective where the home countries have (or have n
maintained economic and political stability over the years, together with a
strong economy, low inflation and stable confidence in the future mainten-
ance of this policy.But the development of increased trade imbalances and
country indebtedness together with subsequent competitive currency deval
ations aiming to strengthen a country’s own exports have made currency
exchange rates much more volatile in recent years.
The Handbook of International Trade and Finance 31
Currency abbreviations
The International Organization for Standardization (ISO) has establish
official abbreviations for all currencies, which are now commonly used
.The abbreviations for some of the most common trade currencies are
as follows:
US dollar USD Japanese yen JPY
Euro EUR Chinese yuan* CNY
British pound* GBP Swedish krona SEK
Swiss franc CHF Hong Kong dollar HKD
Canadian dollar CAD
* The yuan is the base unit of account while renminbi is the official name of the actual
currency, in the same way as the pound is the name of the unit and pound sterlin
g the
name of the British currency.
The abbreviations of currencies for most other countries can easily be f
on the internet; see, for example,>currency codes.
Furthermore, for most parties involved in international trade it is not the
long-term currency development that is most interesting, but rather the
shorter perspective, limited to the time span during which current deals are
made up and finally paid.Then the situation can be reversed, for in that
shorter perspective a currency can have a development in complete contrast
to its long-term trend.In this shorter perspective, other factors, real or
expected, may be more important, such as interest rate changes, political news
and larger price movements in base commodities, central bank currency
interventions, statements and statistics.All these factors, combined with
subjective evaluations by millions of participants in the currency marke
will together constantly create new short-term trends.For those who want to follow short-term currency development, most banks
and many other financial or currency institutions publicize information via the
internet or e-mail on a regular basis – both retrospectively and actual, together
with analysis and evaluations of future trends, but one should always bear
in mind that these are only more or less accurate predictions, nothing else.
Financial risks
In practice, every international trade transaction contains an element of
financial risk.Purchasing, production and shipment all place a fin ancial
Trade Risks and Risk Assessment 32
burden on the transaction that forces the seller to determine how altern
terms of payment would affect liquidity during its different phases unti
payment – and how this should be financed.And, if the deal is not settled as
intended, an additional financial risk occurs.When using subcontractors,
who do not share the risks of the transaction and are paid according to
separate agreements, the risk increases accordingly and even more so should
the seller have to offer a supplier credit for a shorter or longer perio
it comes to larger and more complex transactions, this financial risk aspect
is even more obvious.One of the major problems for the seller could be to
obtain bankable collateral for the increased need for finance and guarantees.
Even after production and delivery, the seller could still be financially exposed
in case of unforeseen events and delays until final payment.Sometimes the interaction between the seller and the buyer can make it
difficult to establish the exact cause of the delay in payment and the
re are
then fewer chances for the seller to refer to a specific breach of con
on the part of the buyer.On the other hand, if the seller has paid enough
attention when drafting the sales contract, including the terms of payment,
then it is more likely that any reason for delays will be possible to de
according to the clauses of the contract.There could be numerous reasons
for such delays, for example issuing a letter of credit too late, late changes in
specification of the goods, late arrival of the vessel, congestion in port and
changes in the transport route, to name a few.The real risk also tends to increase with longer and consequently more
costly transport distances.Bureaucratic delays in many countries, as well as
delays in the banking system, will have the same result – the final payment
to the seller will not be made as anticipated according to the contract.
Apart from ordinary overdrafts during production and delivery, the need
for finance is also determined by the length of credit that the seller
may have
to offer as part of the deal.If so, the financial risk is increased in line with the
prolonged commercial and/or political risk.
Financial risk and cash management
Other forms of financial risk are more obvious but have to be underlin
ed in
this context; for example, if the seller misjudges the risks involved in the
transaction and becomes exposed through terms of payment that do not
cover the real risk situation, or mistakenly enters into the deal without proper
risk protection.It goes without saying that such miscalculations can have
serious financial consequences, from delays in payment to loss of capital.The financial risks are generally intimately connected to the structur
e of the
terms of payment.The safer they can be made, the more the financial risk will
The Handbook of International Trade and Finance 33
automatically be reduced, the timing of the payments will be more accurate
and the liquidity aspect of the transaction better assessed – in fact, the very
essence of cash management.The safer the terms of payment the parties have agreed upon, the more
costly they will normally be.And, if they contain bank security, such as a
letter of credit or a bank guarantee, that may also reduce available credit
limits within the buyer’s own bank.However, the buyer is often not prepared to accept higher costs and
the use of their own credit limits to satisfy what might be seen as excessive
demands from the seller, involving methods of payments which, in their
opinion, are not normal practice in their country or normally accepted by
the company.It is then up to the seller to evaluate the transaction, including
potential competition from other suppliers.Eventually, the seller may have
to accept the terms of payment offered and try to cover the remaining ri
in some other way, for example through a separate export credit insurance,
or to find a compromise by offering compensation to the buyer for the
additional costs incurred.
Figure 1.2 Risk assessment – a summary
What risks, and what magnitude of risk, could be
assessed in the transaction? 
What risks are normally possible to cover through the terms of payment in combination with bank guarantees and export credit insurance?
Is it reasonable to believe that the buyer will accept these terms of payment?
Are the remaining risk elements acceptable in relation to the importance of the transaction? 
Prepare the of fer or the
final negotiations.  Find new alternatives
for a lower risk level.1
Trade Risks and Risk Assessment 34
Methods of
Different methods of payment
The method of payment determines how payment is going to be made, ie the obligations that rest with both buyer and seller in relation to monetary
settlement.However, the method of payment also determines – directly or
indirectly – the role the banks will have in that settlement.
Methods of payment and terms of payment
These two expressions are sometimes used synonymously, but in this book
they have been kept separate.‘Methods of payment’ represents the defined form of how the paym
shall be made, ie on open account payment terms through a bank transfer,
or through documentary collection or letter of credit.‘Terms of payment’ defines the detailed obligations of both commercia
parties in relation to the payment, not only the form of payment and whe
and where this payment shall be made by the buyer, but also the
obligations of the seller: to deliver according to the contract and, for example, to arrange stipulated guarantees or other undertakings prior to or after delivery.As this chapter mainly deals with the different methods of payment, this distinction should be kept in mind – terms of payment will be discuss
ed in
Chapter 8.
Methods of payment can be categorized in different ways, depending on
the purpose.This is often based on the commercial aspect seen from the
exporter’s perspective in terms of security.In security order, the basic
methods of payment could then be listed as follows:
35 36

●cash in advance before delivery;

●letter of credit (L/C);

●documentary collection;

●bank transfer (based on open account trading terms);

●other payment or settlement procedures, such as barter or counter-trade.
However, as can be seen in the following text, the security aspect is usually
not that simple to define in advance.In reality, there are many different
variations and alternatives that will affect the order of such a listing; for
example, if the open account is supported by a guarantee, a standby L/C
or separate credit insurance, or how a barter or counter-trade is structured.
Even the nature and wording of the letter of credit will eventually dete
what level of security it offers the seller.Seen from a more practical point of view of how the payment is actually
executed, and the involvement of the commercial parties and the banks,
there are, in principle, only four basic methods of payment that are used
today in connection with monetary settlement of international trade (apart
from e-commerce and barter and counter-trade transactions, which are
described later on in this chapter).One of these methods is always the basis
for the terms of payment:
1 bank transfer (also often called bank remittance);
2 cheque payment;
3 documentary collection (also called bank collection);
4 letter of credit (also called documentary credit).
Table 2.1 illustrates the most important aspects of the obligations that the buyer and seller have to fulfil in each case.In reality things are often a
bit more complex, particularly when it comes to the documentary methods
of payment, which have many different alternatives.For example, there is
complexity in handling, speed in execution and level of costs and fees, but
the most important factor is the difference in security they offer.This aspect
is thoroughly dealt with in this chapter.
Bank charges and other costs
The costs of the different alternatives are mainly governed by what function
the banks will have in connection with the execution of payment.Other
forms of fees, which can have an indirect connection to the payment, do
The Handbook of International Trade and Finance 37
Table 2.1 Summary of the different payment methods
The role of commercial parties The role of banks
Method of
payment Seller’s
handling Payment
1 Sending
an invoice
to the
buyer after
delivery Arranging
for payment
to the
invoice X
Payment by
1 Same as
above Arranging
for a
cheque to
be sent to
the seller X
collection After
having the
sent to the
buyer’s bankPay/accept
at the bank
against the
Letter of
credit After
to the bankTo have
the letter
of credit
to contract X
1 Bank transfers and bank cheques are often referred to as ‘clean payments’, in comparison with
documentary payments (collections and letters of credit).
sometimes arise, such as different charges related to the creation of the
underlying documents, for example consular fees and stamp duties.However,
such fees are related more to the delivery than to the payment and are
normally borne by the party that has to produce these documents according
to the terms of delivery.Other costs, such as payment of duties and taxes,
are also governed by the agreed terms of delivery.Bank charges will arise not only in the seller’s but also in the buyer’s
country; they can vary hugely between different countries, both in size and,
Methods of Payment 38
more importantly, in structure.In some cases they are charged at a fixed
rate, in others as a percentage of the transferred amount.Sometimes they are
negotiable, sometimes not, and these differences occur not only between
countries but also between banks.The best solution for both parties is often to agree to pay the bank charges
in their respective country, but whatever the agreement, it should be included
in the sales contract.Such a deal would probably minimize the total costs
of the transaction since each party would have a direct interest in negotiat-
ing these costs with their local bank.Bank charges in one’s own country are
more easily calculated and, even if the difference between banks in the
same country may be relatively small, they are often negotiable for larger
amounts.Bank charges are often divided into the following groups:

●standard fees for specified services – normally charged at a flat

●payment charges – normally charged at a flat fee or in some cases as
a percentage of the amount paid;

●handling charges, ie for checking of documents – normally charged as
a percentage on the underlying value of the transaction;

●risk commissions, ie the issuing of guarantees and confirmation of letters
of credit – normally charged as a percentage of the amount at a rate
according to the estimated risk and the period of time.
Detailed fee schedules, applicable in each country and for each major bank,
can easily be obtained directly from the banks or found on their website
but as pointed out earlier, for larger transactions, fees, charges and commis-
sions are often negotiable.
Bank transfer (bank remittance)
Most trade transactions, particularly in regional international trade, are
based on so-called ‘open account’ payment terms.This means that the seller
delivers goods or services to the buyer without receiving cash, a bill of
exchange or any other legally binding and enforceable undertaking at the time of delivery, and the buyer is expected to pay according to the terms of
the sales contract and the seller’s later invoice.Therefore the open account
involves a form of short, but agreed, credit extended to the buyer, in most
cases verified only by the invoice and the specified date of payment therein,
The Handbook of International Trade and Finance 39
together with copies of the relevant shipping or delivery document, verifying
shipment and shipment date.When the terms of payment are based on open account terms and the
seller receives no additional security for the buyer’s payment obligations,
the normal bank transfer is by far the simplest and most common form of
payment.The buyer, having received the seller’s invoice, simply instructs
their bank to transfer the amount, a few days before the due date, to a bank
chosen by the seller.This can be done either directly to the seller’s account
at a bank in their country (which is the most common) or to a separate
collection account that the seller may have at a bank in the buyer’s country
(see Figure 2.1.)
Figure 2.1 Bank transfer (bank remittance)
1.Invoice sent upon delivery.
2.Invoice payment in the bank, normally in local currency.
3.Bank transfer through the SWIFT system.
4.Payment in local or foreign currency, according to invoice and/or sel
ler’s instructions.
(The seller may prefer not to exchange foreign into local currency, but
have it credited
to a currency account; see ‘Currency steering’ in Chapter 4)
Seller’s bank Buyer
Buyer’s bank

Bank transfer

Methods of Payment 40
Payment structure follows the trade pattern
Bank transfers are a method of ‘clean payments’ (as compared with docu-
mentary payments, to be described later), which predominate both in size
and in number: more than 80 per cent of all commercial international
payments are estimated to be in this form.The main reason is not only that
it is a simple method of payment, cheap and flexible for both buyer and
seller, but that it is also an indication of the underlying general trade patte
rn.The majority of all international trade is regional, where the commercial
risk is generally regarded as low and open account terms traditionally used.
Such trade has the advantage of short shipping distances and often regul
business patterns between well-known companies, even between companies
belonging to the same group, or companies that can be properly evaluated
from a risk assessment point of view.In these cases it is also quite normal
that there exist established market practices, where open account trading
settled through a bank transfer is the most common form of payment.Even in individual cases where the seller would have preferred a safer
method of payment, this may be difficult to achieve owing to competition
or established practice.Instead, many sellers use export credit insurance
covering the risk on different customers or even their whole export; with
this cover, bank transfer may also be the best payment alternative.
The SWIFT system
Nowadays, most bank transfers are processed through an internal bank
network for international payments and messages, the SWIFT (Society for
Worldwide Interbank Financial Telecommunication) system, in which more
than 10,000 financial institutions in more than 200 countries around the
world participate.This network is cooperatively owned by its members,
which have created a low-cost, secure and very effective internal communi-
cation system for both payments and messages.As a consequence of the introduction of SWIFT, bank transfers between
countries and banks are now completed much faster than before.When
the instructions are fed into the system by the buyer’s bank they are
normally available at the seller’s chosen bank two banking days later and
usually available for the seller the next day or according to local practice.
Urgent SWIFT messages (express payments) are processed even faster, but at
a higher fee.However, it should be stressed that even if the speed of processing has
increased through SWIFT, this happens only when the payment instruction
The Handbook of International Trade and Finance 41
has been communicated to the network.The seller is, as before, dependent
on the buyer giving correct instructions in time to their bank and it is
up to the seller to maintain a high standard in their own systems and
routines for close monitoring of outstanding payments.It is also of great importance to use the correct address code system devel -
oped by ISO, the Business Identifier Code (BIC), which is a unique identifi -
cation code for both financial and non-financial institutions.This code is a
unique address which, in telecommunication messages, identifies the financial
institutions to be involved in the transaction.The BIC code consists of eight
characters (11 if it also includes a separate branch code), identifying the bank,
the country and the location (for example, Bank of China in Beijing =
BKCHCNBJ).This code, often called the SWIFTBIC, must therefore be
correctly included in the terms of payment and later in invoices and oth
correspondence with the buyer.(The BIC code for any relevant institution
can best be obtained from the local bank or on the internet.) Irrespective of where the payment originated, or where it is to be sent,
it is up to the seller to provide the buyer with the correct and necessa
information to pass on to their bank, information which must also appear
in the terms of payment and in the invoice.Many receiving banks now process
these payments automatically, but they have to do it manually if incorrect or
incomplete information is given, and will in such cases charge a higher fee.
SWIFTNET messaging services
To enable banks and other financial institutions to offer risk management
and information services appropriate to today’s corporate supply chain, SWIFT
has developed different new messaging services over a standard platform
called SWIFTNET.This is basically a central trade data information-
matching database, which will provide both banks and their customers
with a tool for monitoring the chain of individual transactions, thereby
increasing transparency and reducing the uncertainty of the transaction.The introduction of SWIFTNET has been made in phases as a basis for
developing new financial services, not least in the area of trade finance.This development is also in line with an increase over the last years in corporate demand for a direct SWIFT connectivity.This requirement has
typically been driven by strategic initiatives among larger corporates within
areas such as treasury centralization, payment centres and a centralized
liquidity management.In fact, this direct corporate access to SWIFT is
a significant development since it provides these corporations with a
channel to communicate with all of their banking partners.For more infor -
mation, see
Methods of Payment 42
Advance payments
Receiving payment in advance before or in direct connection with the act
shipment is the ideal situation for the seller, in terms of both liquidity and
commercial risk.However, such agreement is obviously less advant ageous
for the buyer and would, in most cases, put the seller in an uncompetiti
situation compared to other suppliers offering more favourable terms.Payment before delivery is therefore not frequently used in day-to-day
transactions in international trade, but there are some exceptions:

●Smaller individual transactions: where the liquidity and commercial risk
aspect is of minor importance to the buyer and/or where this form of
payment has become standard practice owing to the simple handling
process and low transaction costs.Ordering of spare parts, trial orders
bookings and subscriptions are typical examples, often with a cheque
enclosed with the order.

●E-commerce: where the order and payment are made simultaneously,
with the payment mostly being arranged as a card transaction.

●Larger, tailor-made transactions: where payment before delivery is
part of an overall payment structure, usually involving payment before
delivery, at delivery and often with a part-payment after delivery,
installation or acceptance.Such a payment scheme should reflect the
structure of the transaction and cover the inherent risk and liquidity
risks involved for both seller and buyer.
Payment before delivery as part of a composite terms of payment package
|is described in detail in Chapter 8, together with some practical examp
These payments are almost always carried out as bank transfers,
sometimes combined with a corresponding payment guarantee in favour
of the buyer, should the seller not fulfil their contractual obligations.
Collection accounts abroad
The bank transfer has, so far, been described as a payment involving two
countries, arriving directly from the buyer’s bank to that of the seller, and
that is usually the case.However, it is increasingly common for the seller to
open an account in local currency in the larger OECD countries, where they
already have, or can expect, larger flows of payments within one and the same
country.The buyer will then make a domestic, not an international, payment
to this account, which is both easier and usually cheaper – and the seller will
have direct access to the payment when it has reached that account.
The Handbook of International Trade and Finance 43
The Single Euro Payments Area (SEPA)
SEPA is a Europe-wide initiative to standardize the way electronic
euro payments are executed throughout Europe, and to make such
payments as fast, safe and efficient as national payments.SEPA enables
customers to make payments to anyone located within the EES area
(EU and non-EU European countries) without distinction between nationa
and cross-border euro payments, thereby creating a borderless payment
system among these countries.All euro payments will be processed as electronic payments using the
new European standard (SEPA), the most significant changes being the
use of Bank Identifier Code (BIC) and International Bank Account Num
(IBAN) as the primary account identifiers, rather than purely nation
account systems.The aim is to guarantee that such payments are made
promptly and received within a guaranteed time, without deductions, with low and known charges, thereby creating more cost-effective national and international payments.
These accounts are often established with foreign branches of the seller
bank or in cooperation with one of their banking partners.The structure
can vary depending on if and how these accounts are integrated in the
seller’s cash management system and the cost will depend on the set-up
and the service level required.The use of collection accounts has also been accelerated by other devel-
opments within the banking system, such as a quicker online reporting of
transactions and balances on these accounts, whereby the seller can monitor
individual transactions on a daily basis, through their own terminal con-
nected to the bank.The balance can then also be used for local payments
within that country, for intra-company transfers or for direct transfer back
to the seller’s head-office account.
Payment delays in connection with bank transfers
Since the main role of the banks in connection with bank transfers is to
provide an intermediary function, the responsibility for correct and timely
payment rests with the commercial parties.It is the buyer who has to give
correct payment instructions to their bank, but this obligation does not
normally arise until the seller has fulfilled their delivery obligatio
ns accord-
ing to the contract.
Methods of Payment 44
Delays in payment are common, not only with different countries but also
with individual buyers.Sometimes the reason may be non-acceptance of
delivery or other related claims, but in these cases an ongoing dialogue
should already have been established between the parties, and the seller can
be expected to be fully aware of the situation and the reason for the delay in
payment.However, in some cases the seller may not be aware of any such
payment disputes with the buyer, but will not have received payment in time
– this may be for many different reasons:

●In some countries or companies it may be established practice to delay local
payments, and international payments are then treated in the same way.

●Bank credit limits or other restrictions could make it advantageous or
necessary for the buyer to delay all payments, including payments to
foreign suppliers.

●Supplier payments are often based on open account payment terms,
ie without a bill of exchange or similar instrument.Such payments could
have a low priority among other debts.

●The buyer may want a self-liquidated deal in order to improve liquidity,
and may prefer to delay the payment until they have been paid by their

●The buyer may see currency advantages in delaying the exchange from
local currency into the currency to be transferred to the seller.

●Larger corporations often have internal payment systems with batch
payments made at certain intervals during the month.

●In the worst case, the delay may be due to liquidity or solvency problems
on the part of the buyer, or if applicable, the buyer’s country.
Reducing payment delays
Even if it is not possible to establish the exact cause of the delay in
there are always some steps the seller can take to reduce such delays.
First, the seller must have an agreement or a sales contract with clear
terms of payment.This should include detailed instructions on how to pay
and the invoice to be issued after delivery should specify the same info
tion, a fixed due date, full bank name and address, account number and
SWIFTBIC references.It could also prove advantageous to stress the right, according to the
contract, for a late payment interest charge and to specify the applicable rate.
Even if it may be difficult to collect interest afterwards, the mere indication
of it could have a positive effect on the speed of payment.
The Handbook of International Trade and Finance 45
Supervision and follow-up
All companies should have strict but sensitive credit controls to enable
buyer to understand that whatever has been agreed should be honoured.
However, many sellers are reluctant to fulfil the direct or indirect threat o
further action for fear that it will undermine the prospects for future
businesses.This fear is often unfounded; if the terms of payment are
clearly defined from the beginning and the invoice correctly issued, t
further reminders or actions may not be appreciated but they will be
respected as part of the agreement.Experience has shown that if no early agreement can be made with
the buyer as to how to settle overdue payments, it is important for the
seller to involve a reputable collection company early in the process.
Such a company can help the seller with a clearer understanding of the
cause of the delay and can also act swiftly in consultation with the sel
ler.Tight supervision after delivery is a key element of the transaction – and an integrated part of efficient cash management.
The most important and effective way to speed up payments related to
open account payment terms thus lies in the structure and efficiency o
f the
internal system implemented within the company to treat outstanding and
overdue payments.The seller must have clear internal rules and guidelines
with a limit for amounts, timing and frequency of individual overdue
payments, together with instructions on reporting and how to deal with
such matters.It is equally important to have functional communication between the
sales and administrative departments within the company so that the
salesperson responsible for that particular buyer becomes aware of any l
payments.This person might have additional information and can contact
and get support from their opposite number at the buyer, who is not
normally the person responsible for payments and may be totally unaware
of the delay.Above all, the seller should not let the matter linger too long.If the buyer
has financial problems, the seller will often learn about it once it has become
common knowledge among local business partners, who will then be the
first to press for payment.The buyer might also be more dependent on them
than on a foreign supplier for ongoing business, and might act accordingly
in their payment priorities.
Methods of Payment 46
The rapid pace of technology with new electronic pay and delivery system
together with the explosive growth of the internet is having a profound effect on many markets, and there are huge opportunities for companies in
most countries to develop new products and services in both domestic and
international trade.To support this development and to strengthen their
e-commerce industry (e-commerce is mostly defined as ‘the production,
distribution, marketing, sale or delivery of goods and services by electronic
means’), governments in many countries have established policies for creat-
ing a stable regulatory environment that supports and underpins competit
in both the network and service sectors.This development is also supported on the supranational level by guide-
lines set by the OECD for business-to-consumer (B2C) e-commerce.These
guidelines were developed to set a level playing field for businesses and to
protect customers, for example in matters relating to transparency, fair busi-
ness and marketing practices, online disclosures, information obligations
and payment practices, and are incorporated into rules in most countries
involved in e-commerce.In 2014, business-to-consumer e-commerce for
both domestic and international transactions was valued at more than
USD 1 trillion, according to estimates from the United Nations (UNCTAD),
still with dominance for domestic transactions but with a growing inter -
national trend.The problem with e-commerce in general has always been the security
aspect and the risk of unauthorized use of customer and account infor -
mation, spread over an open system – not least for international payments.
Many e-commerce transactions are still made on open account terms with
payment after delivery, either by ordinary bank transfers or by cheque, even
if cheque payments could be disproportionately costly for small payments
When it comes to international payments, most e-commerce businesses want
to see the actual money being transferred before shipping the goods.However, new technology and the creation of separate worldwide e-
commerce payment systems that are both secure and reliable have created
the background for a rapid increase in e-commerce transactions in inter -
national trade.These are based on payments through debit/credit cards,
particularly in areas such as leisure, travel and most segments of the retail
market where card payments have been the norm for many years.When it comes to business-to-business (B2B) transactions, the picture
is somewhat different.Customer relations are often more established, the
amounts involved are normally larger and the payment terms are often
The Handbook of International Trade and Finance 47
based on open account or documentary payment terms.The value of
business-to-business e-commerce was estimated at about USD 15 trillion by
UNCTAD, also in this case with a low but growing trend for international
business.Even when marketing and sales are based on e-commerce as an
alternative or complement to other sales channels, actual trade payments
between companies are generally done through the banks, based on estab-
lished SWIFT or SWIFTNET systems as described earlier.
Cheque payments
Paying by cheque was once quite a normal procedure in all forms of trade,
but following the introduction of more cost-effective and faster ways of processing international bank transfers, this is no longer the case.Perhaps
not more than a few per cent of all international payments are now
processed by cheque.In countries where this form of payment is still used
in domestic trade, for example in the UK and the United States, the situation
may be different, and cheques may for that reason be more frequently
used for payment also in international trade.Sometimes the buyer prefers to pay with their own cheques for cash
management purposes, as opposed to through a ‘bank cheque’ (banker’s
draft).The corporate cheque (usually post-dated and mailed at due date by
the buyer) will not be paid to the seller until it is received and presented to
the seller’s bank, usually with a considerably delayed value date.This will
delay the receipt of liquidity for the seller and often incur additional fees,
but the payment will also be subject to the cheque being honoured later on by the buyer’s bank when sent back to them for reimbursement.Only
at that late stage will the cheque be charged to the buyer’s own account –
with a profit for the buyer of a long interest-free period.In some countries it may take weeks to get a corporate cheque from
abroad cleared between the banks, during which time the cheque may even
have to be sent to the account holding bank for collection.In such cases, both
banks involved may charge collection commissions with high minimum
charges, which could add up to large amounts for the exporter, not to
mention the liquidity disadvantages.These procedures vary between countries
and the seller should always check in advance with their bank before agree-
ing to accept a corporate cheque as payment in international trade.The seller should also be aware that if payment by cheque is agreed, and
no other stipulation is made, then it is likely that they will receive a corpo-
rate cheque, with the liquidity and cost disadvantages mentioned above.
Methods of Payment 48
Figure 2.2 Cheque payment (corporate cheque)
Seller’s bank Buyer
Buyer’s bank



1.Invo ice sent upon deli very.2.The c heque is sent as payment to the seller .3.The seller receives payment from their bank, either with a longer defer red value date or, in man y cases, only at the later stage when the c heque has been received by the buyer ’s bank.4.The c heque is ‘cleared’ between the banks, and the ch eque is debited to the buyer’s account.
Should a bank c heque (bank er’s draf t) be used, the procedure will be slightly different: the buyer will fir st have to buy the cheque from their bank; the seller will then recei ve payment when the cheque is presented to their bank.
However, larger companies may have this payment procedure as a policy,
which the seller then may have to accept but, in such cases, this may be of
minor importance compared to other aspects of the transaction.
Figure 2.2 shows how the handling of cheques is different from bank
transfers.However, as a form of clean payment with no direct connection to
the underlying trade documents, the level of security for the seller is almost
identical to that of the bank transfer and with the same disadvantages a
described earlier.
The Handbook of International Trade and Finance 49
There is, however, one further risk aspect relating to cheques in general, which
is the postal risk.If lost in transit to the seller, or delayed because of strikes
or any other reason, the buyer can claim that they have paid by sending the
cheque, but the seller has not received payment.The terms of payment
should decide which of the parties has to carry this risk but this is of
ten not
the case.If the terms clearly state that payment should be made through a
bank transfer, that risk is normally eliminated.The conclusion is that if payment is to be made by cheque, the terms
must clearly state if this should be a bank cheque or if a corporate cheque
is acceptable.Then both parties will know what has been agreed and the
exporter is aware of the risks involved.As shown in Figure 2.3, the front of the bank cheque is crossed.This is
often done as a safety precaution; such a cheque will not be paid in cash
but will only be credited to an account of the payee, in this case the seller,
in the bank where it is cashed.
Documentary collection
Documentary collection, also sometimes referred to as bank collection, is a
method of payment where the seller’s and buyer’s banks assist by forward-
ing documents to the buyer against payment or some other obligation, such
as acceptance of an enclosed draft or bill of exchange.(Normally the term
‘draft’ is used before, and ‘bill of exchange’ after, it has been accepted by the
drawee, at which point it becomes a legal debt instrument.) The basis for
Figure 2.3 Sample bank cheque
Methods of Payment 50
this form of payment is that the buyer should either pay or accept the draft
before they gain control over the documents that represent the goods.The role of the banks in documentary collection is purely to present the
documents to the buyer, but without the responsibility that they will be
honoured by them.The collection contains no guarantee on behalf of the
banks, which act only upon the instruction of the seller, but it is nevertheless
a demand against the buyer, performed by a collection bank at their domi-
cile, often their own bank.It is, in most cases, but not always as is shown
below, a more secure alternative for the seller, compared to trading on open
account payment terms.The collections are often divided into two main groups:

●Documents against payment (D/P) – when the bank notifies the buyer
that the documents have arrived and requests them to pay the amount as
instructed by the seller’s bank.

●Documents against acceptance (D/A) – when the buyer is requested to
accept a term draft (bill of exchange) that accompanies the documents
instead of payment.The seller’s risk deteriorates by handing over the
documents against a bill of exchange instead of receiving payment and is
dependent on the buyer’s ability to pay the bill at a later stage, and the
seller has lost the advantage of having control of the documents related to the goods.
Documentary collection and control of goods
The general advantage with this method of payment is that the buyer know
that the goods have been shipped and can examine the related documents
before payment or acceptance.From the seller’s perspective, the documents
are not placed at the disposal of the buyer until they have paid or acce
the enclosed draft (bill of exchange); see Figure 2.4.
However, the practical value for the seller of this control of the documents
depends on the documents involved (in most cases the transport document
as shown when comparing the two scenarios below.
Scenario 1
The goods are being sent by air to the buyer, who will be able to get hold
of them on arrival, without presentation of the relevant air waybill.The
goods will generally have arrived at the buyer’s destination long before the
documents have arrived at the bank.
The Handbook of International Trade and Finance 51
Figure 2.4 Documentary collection (bank collection)
1–2.  The first step in the collection procedure normally comes after shipme
nt, when th e  seller is preparing the documents which, together with their instruction
s, are sent
  to their bank.
3.   The bank checks the seller’s instructions and that they conform with 
the enclosed
documents. They are then sent to the collection bank chosen by the buyer
, together   with the seller’s instructions.
4.  The buyer is advised about the collection. Before payment/acceptance, they have
  the right to inspect the documents – that they are all included as ag
reed with the
  seller and that they appear to conform to the agreed terms. If so, the b
uyer is
  expected to pay or accept the enclosed draft and receives the documents.
5–6.  Payment is transferred to the seller’s bank and thereafter to the sel
ler as per
  instructions. In the case of acceptance, the bill of exchange (the acce
pted draft)
  is generally kept at the collection bank until maturity and is then pres
ented for
 payment as a ‘clean collection’, that is, without other documents.
Bank transfer
Seller Buyer



Seller’s bank Buyer’s bank
Scenario 2
The goods are sent by sea to the same buyer who, in this case, cannot get
hold of them until the corresponding shipping documents, ie the bill of
lading, can be presented; the bill of lading is among the documents under
collection at the bank.
Methods of Payment 52
The main difference between the two scenarios is the mode of transport
and the very different nature of the shipping documents involved.The air
waybill is simply a receipt of goods for shipment, issued by the airline com-
pany, similar to a rail waybill or a forwarding agent certificate of receipt
(FCR).Sometimes a multimodal transport document is used, providing for
combined transport by at least two different types of transport, which is
also a receipt of goods but not a document of title to the goods.A bill of lading is not only an acknowledgement that the goods have been loaded on board the ship, but also a separate contract with the shipping
company, which includes the title to the goods.The buyer cannot get access
to the goods under a bill of lading without possession of this document.
If other transport documents are used and the seller is anxious to have control of the goods until the buyer honours the presented documents at
bank, then this has to be arranged in some other way.For example, the goods
may be addressed to a consignee other than the buyer, perhaps the collecting
bank (if it agrees), or alternatively to the forwarding agent’s representative
at the place of destination.To address freight bills or forwarding agent receipts to someone other
than the buyer or to insert restriction clauses about the release of the
could cause problems, or even be prohibited in some countries.Before taking
such action, the seller should get prior approval from the bank or shipping
agent.A more detailed description of different forms of bill of lading, air
waybill and some other commonly used transport documents can be found
in Appendix II, together with practical examples.
Inspection of the goods
So far our description has mainly been given from the seller’s viewpoint;
however, the use of documentary collection could have certain disadvan-
tages for the buyer.Perhaps the most important of these is that there are in
most cases no opportunity to examine the goods before payment: the buyer has to rely solely on what can be seen from the documents presented.
There are, however, some actions that the buyer can take to help deal with
this drawback.The buyer or the buyer’s agent may have the opportunity to
inspect the goods before shipment or may use a company specializing in
such inspections to do so, as part of the agreement.Such a certificate could
then be included in the set of documents sent for collection.This procedure
is described in connection with letters of credit later in this chapter.
The Handbook of International Trade and Finance 53
Other ways for the buyer to increase security in connection with
documentary collections could be to have the contractual right to postpone
payment/acceptance until the goods have arrived and then to have the right
to inspect them or to take samples.Measures like this have to be approved
by the seller but there might be considerable practical and logistical p
lems with such procedures.Another solution could be to avoid collection altogether and instead
agree on a bank guarantee or a standby letter of credit (both terms des
in Chapter 3) in favour of the seller, thus covering the buyer’s payment
obligations.The parties can then agree on open account payment terms
and use bank transfer instead of collection as the method of payment and the buyer can inspect the goods upon arrival before payment, knowing
that the guarantee can only be drawn upon by the seller if and when they have fulfilled their delivery obligations.The buyer is then obliged to pay
anyway under the terms of the contract.The disadvantages for the buyer are
of course the costs involved and that such a guarantee has to be issued
available credit limits with their bank.If the buyer does not accept documentary collection but only open
account terms without any guarantee, one alternative for the seller could
be to agree to such terms, but in combination with separate credit risk
insurance covering the payment obligations of the buyer.However, if no
such insurance can be obtained, the seller should probably anyway opt for
a safer method than documentary collection, ie a letter of credit.Based on what is already said about the pros and cons for the seller by
using documentary collection in international trade, this method of payment
is consequently mostly used when dealing with known counterparts, repeat
orders, standard products and/or shorter trade routes with a generally
lower risk structure, in some cases therefore also backed by a credit risk
insurance to limit the risks involved.
Documentary collection documents
It is important that the documents required under a collection are speci
in the terms of payment in order to avoid disputes with the buyer later on, which will only delay the collection procedure.Documents often used

●draft/bill of exchange, issued at sight or as a term bill (usance bill)
(see Figure 2.5);

●invoice, sometimes also separate consular invoices;
Methods of Payment 54
Figure 2.5 Example of a trade-related bill of exchange
Drawer’s reference number:
Payable at:
Amounts in words and currency:
Accepted by Drawee: Drawer’
s Signature: Currency and 
amount in figures: Maturity
Date of issue
Pay against this Bill of Exchange to:
EA 2891-83 12/02/16At sight
Pierson & Henders Ltd
Overseas Chinese Banking Corp Ltd,
261 High Street, Singapore
Five thousand and three hundred US dollars only USD 5,300.00
Value received in goods as per invoice no.2891-83 of February 12th, 201
[Signatur e of Drawee along with full name and addre ss]
Pierson & Henders Ltd
[Drawer’s signature along with full name
and addre ss]
1.  The bill of exchange,  often also called  a documentary  draft, is similar  to a  cheque  when signed by the buyer, constituting a legal undertaking in accordance
 with the 
terms  of the  bill.  The  wording  varies between  countries;  often the term  ‘draft’  or 
‘term draft’ is used when issued by the exporter, but ‘bill’
 or ‘bill of exchange’ only 
after it has been accepted by the buyer.   Documents  to distant  countries  are sometimes  sent as duplicates  in two  different  mails,  one bill marked  ‘First Bill of Exchange  (second not paid)’  and the  other  marked  ‘Second  Bill of Exchange  (first not paid)’.  But otherwise  only one bill  of  exchange is issued, as in this case.2.  The date  of issue  should  normally  be the  same  as the  invoice  date, shipment  date  or any other specified date related to the underlying contract or agreem
ent.3.  The example  is due  at sight,  which  means  that this draft  is not  supposed  to  be  accepted but paid  by the  buyer  at first  presentation.  If it is  to  be  accepted  as a  term  bill,  the maturity  date could  be a fixed  future  date or at a certain  date  after  presentation  to the  buyer,  for example  90 days’  sight,  or from  the date  of issue  (ie  90 days’ date).4.  The  draft  is normally  payable to the  drawer,  as in this  case,  but, as a term  bill  of  exchange,  it could  also be endorsed  (countersigned  by the  drawer)  on the  back  in  order  to have  its title  and its rights  transferred,  either in blank  (to the  bearer)  or  to  a specific order, the collecting bank or a refinancing institution.5.  The place  of payment  specifies the obligations  of the  drawee  (see Chapter  8,  ‘Place  of payment’).  If not  specified  in some  other way, a bill  should  be presented  at  sight  or at maturity  either at the  debtor’s  bank or to the  debtor  personally,  which  is  normally executed  as a part  of the  original  instructions  in the  documentary  collection.6.  Commercial  trade bills should  have the statement  that value  has been  received,  referring  to the  invoice  and/or the underlying  contract, in order  to specify  its  origin  as a trade instrument.
The Handbook of International Trade and Finance 55
International rules for documentary collection
The International Chamber of Commerce (ICC) has issued a set of
standardized rules and guidelines, Uniform Rules for Collection (URC 52
along with a separate commentary (No 550) to minimize the difficulti
es that
banks and their customers may face in connection with documentary
collections through banks.They contain common standards and
definitions, rules for the banks, obligations and responsibilities, gu
for presentation of documents and for payment or acceptance.They also
contain guidelines for protesting bills of exchange and the banks’
responsibilities after payment/acceptance.These rules have successively been updated and are now used by
practically all international and most local banks around the world, and should always be referred to.They can be obtained from the banks or
directly from the ICC (

●specifications and separate packing or weight lists;

●relevant transport documents;

●certificate of origin;

●other certificates, such as health test or performance certificates;

●inspection certificates, verifying quality or quantity of the goods;

●insurance documents.
A more complete list of different shipping documents is shown in Table 2.2
on p.69.The transport documents are described in detail, together with
examples in Appendix II.
If import or currency licences are required in connection with a documen
tary collection, this must always be part of the contract, together with a
statement of the buyer’s responsibility to produce these documents prior to
shipment.However, if this is the case, that is in itself a sign of a considerable
political risk involved in the transaction and the seller should then co
if collection really is the most suitable form of payment, or if a letter of
credit would be more appropriate.
Methods of Payment 56
If the documents are to be released against acceptance, a term draft/bill
of exchange issued by the seller should also be included.(At a later stage this
bill will be presented for payment under a so-called ‘clean collection’, where
no other documents are included.) Even if the documents are to be relea
against payment it is still common that an ‘at sight’ or ‘on demand’ draft is
included for the following reasons:

●it will show the total amount due for collection, which will avoid
misunderstandings where several invoices and credit notes are included;

●it will show the name of the company to whom presentation should be
made, which is not always the same as in the documents;

●it is in itself a request for payment, with a reference to the underlying
contractual obligation of the buyer as shown in the enclosed documents.
Letter of credit
The letter of credit (L/C) is a combination of a bank guarantee issued
a bank upon the request of the buyer in favour of the seller (normally
an advising bank) and a payment at sight or at a later stage against pr
tion of documents which conform to specified terms and conditions.This is
more strictly defined in ICC Uniform Customs and Practice for Document
Credits (UCP 600), under which rules practically every L/C is issued.It is
estimated that up to 15 per cent of all international trade is based on Letter
of Credit, totalling over USD 1 trillion per year.According to these rules, the documentary credit/letter of credit (or just
credit) means any arrangement, however named or described, that is irrevo-
cable and thereby constitutes a definite undertaking by the issuing ba
nk to
honour a complying presentation.This sentence involves two major expres-
sions that will be described in detail later in this chapter, namely:

●the expression ‘complying presentation’, which means that the documents
presented should be in accordance with the terms and conditions of the
L/C, but also in accordance with the UCP 600 rules and with international
standard banking practice;

●the expression ‘honour’, which allows three different possibilities for
payment to be made upon presentation of compliant documents: – at sight, – by deferred payment, or – by acceptance of a bill of exchange (‘draft’).
The Handbook of International Trade and Finance 57
The L/C is normally advised to the seller through another bank (the adv
bank) but without engagement for that bank, unless instructed otherwise.
The advising bank is usually located in the seller’s country and its role is to
take reasonable care to check the authenticity of the L/C and to advise the
seller according to its instructions.This authentication fulfils a very important
role, as can be seen from the extract in the ‘Fraud warning’ box below.
Fraud warning
The importance of knowing your customer cannot be overemphasized;
it is the best protection against fraud.Unfortunately, there have been
instances where forged documents or documents relating to non-existent
goods have been presented to banks under documentary credits (letters
of credit).Since the documents appeared prima facie to comply with the terms
and conditions of the documentary credit, banks have been obliged to pay and debit the importer’s account.This arises because all parties, including
banks, deal with documents – not with the underlying goods.Exporters should be extremely cautious about shipping goods against the receipt
of an unsolicited documentary credit.From time to time, forgeries of
documentary credits come to light and there have been instances where
exporters have shipped and presented documents against a completely
false instrument.If in any doubt, check its authenticity with your bank
.Importers and exporters should be particularly careful about proposals
to transact international trade business which is markedly different fro
their normal line of business or for unusually large amounts.There have been cases where fraudsters have obtained advance payments from
foreign traders in the expectation of the award of a contract, which nev
really existed.
Extract from Understanding International Trade: an information guide for
importers and exporters, published by HSBC.
The L/C has many advantages for the seller.Payment is guaranteed and there
are fewer concerns about the buyer’s ability to pay or about other restrictions
or difficulties that may exist or arise in the buyer’s country – but only if the
seller can meet all the terms and conditions stipulated in the L/C.
Methods of Payment 58
There are also advantages for the buyer when using an L/C.While it is
considerably more expensive than other forms of payment and has to be
issued under existing credit limits with the buyer’s own bank, the buyer is
assured that the stipulated documents will not be paid unless they confo
to the terms of the L/C.This may be very important for the buyer in some
cases, particularly in connection with goods where fulfilment of special
shipping arrangements is essential or in the case of deliveries where ti
may be the crucial factor.With regard to cost, an L/C is sometimes of
such importance to the seller that the buyer may be able to obtain fair compensation or even a better deal overall if able to offer a form of pa
that, in principle, eliminates the seller’s commercial and political risks.The L/C can be issued in many ways, depending on how it is going to
be used, and the design will vary in each case.However, an L/C has certain
general features that must be included in each case, particularly with
regard to:

●period of validity;

●time for payment;

●place of presentation of documents;

●level of security; and

●documents to be presented.
These areas are covered below, and are also shown as a summary in
Figure 2.6, together with a detailed presentation of the practical handling
‘Documentary credit’ is the formal name used by the ICC, often abb
as DC or simply credit, but in this book we will use the expression ‘
letter of
credit’ and its abbreviated form L/C, terms that are well recognized
still widely used throughout the world.The correct terms used in connection with an L/C are ‘applicant’,
‘issuing bank’, ‘advising bank’ and ‘beneficiary’.H
owever, when dealing
with commercial trade only, and for the sake of simplicity, this book
sometimes uses the term ‘buyer’ instead of ‘applicant’ and ‘
seller’ instead
of ‘beneficiary’.‘Issuing bank’ is also known as ‘open
ing bank’, but only the
former expression is used here.
The Handbook of International Trade and Finance 59
of a letter of credit in Figure 2.7, and two real examples in Figures 2.8A
and 2.8B.
Period of validity
According to the old ICC rules, an L/C could be either irrevocable or
revocable, but under the present rules, L/Cs are always irrevocable, which
means that they are without exception binding undertakings on behalf of
the issuing bank to honour complying documents presented to either the
issuing bank or any nominated bank within the stipulated period of
validity.The nominated bank where the documents must be presented within the
validity of the L/C can be any bank specified as such in the L/C.In most
cases it is the advising bank, but that does not mean that this bank is under
an obligation to pay.Only the issuing bank is under such obligation, unless
this undertaking is also confirmed (guaranteed) by some other bank, which
will be described later.
Time for payment
An L/C must stipulate when payment is to be made to the seller.It can be
payable at sight or at a specified time thereafter, by deferred payment or by
acceptance.An L/C at sight will be paid on presentation of documents at the issuing bank, at the advising bank or at any other nominated bank, as described
below.If payment is to be effected at a later stage, normally a specified time
after shipment or after presentation of documents as specified in the
this can be done either through presentation of a bill of exchange (to
accepted not by the buyer but by one of the banks) or by a stipulated
deferred payment in the terms of the L/C, which allows that bank to effect
payment at the later specified date.In the case of both acceptance and deferred payment, the issuing bank
is guaranteeing payment on the due date.Based on that guarantee, the seller
may generate instant liquidity through discounting or through advance
payment from their bank and finance is then automatically also provide
to the buyer during the same period.Apart from the extended period of risk
on the issuing bank (if that is at all an issue), the difference for the seller
between an L/C at sight and a term L/C is then mainly a question of inte
for the credit period and related bank charges and commissions.
Methods of Payment 60
Place of presentation of documents
When referring to the place of presentation of documents under an L/C,
this is a question of the place where the documents are to be payable (
expressions ‘to be honoured’ or ‘to be available’ are also often used).Unless
the L/C is payable only with the issuing bank (in which case it is paya
ble in
that country only), this bank must otherwise not only authorize but also give
reimbursement authorization to another bank (the nominating bank, which
is often the same as the advising bank) to pay, incur a deferred payment or
accept drafts – if all terms and conditions have been complied with.In the
case of a freely negotiable L/C, any bank is the nominated bank and present-
ation of the documents can then be at any place.But seen from the seller’s
perspective, the best place to present the documents for payment is at the
advising bank in their country, for reasons explained below.As pointed out above, unless it has also confirmed the L/C, the advising
or nominated bank is under no obligation to take up the documents when
presented by the seller, if at that time this bank – at its own discretion – is
uncertain whether the issuing bank will be able to fulfil its obligati
ons to
reimburse them for such payment.On the other hand, if the L/C is only
payable with the issuing bank, usually but not always domiciled in the
country of the buyer, only that bank will make payment or accept the term
bill of exchange if the terms and conditions are complied with.But, even in
this case, the advising bank or any nominated bank where the documents
are presented before they are forwarded to the issuing bank may still ne
tiate the documents at presentation and advance funds to the seller, but such
negotiation is then made with recourse to the seller until the issuing b
has approved the documents and reimbursed the negotiating bank.There are thus many reasons why it is more advantageous for the seller
to have the documents under the L/C payable with the advising bank at
their domicile:

●the payment/acceptance will take place at the earlier stage when the
documents are delivered to and approved by the advising bank;

●in case of discrepancies or other faults in the documentation, it may
be much easier and quicker to remedy these directly with the advising
bank before the documents are forwarded to the issuing bank;

●the seller avoids any postal risk and other delays by the issuing bank u
payment is made and effectively transferred to the seller.
However, what is an advantage for the seller could also be a disadvantage
for the buyer, who normally, for the same reasons as above, often prefers
The Handbook of International Trade and Finance 61
the L/C to be payable with the issuing bank only.This question has to be
decided in each case but, in many countries, local practice will influence this
outcome.In some countries this matter may be subject to specific rules or
established practice, mostly working in the buyer’s favour.If it is agreed in the terms of payment that the L/C should be payable a
the advising bank, that should also be openly stated in its terms and appear
in its reimbursement instructions to the advising bank, to enable this bank
to make it payable at its counters.But, if nothing is stated to that effect,
the L/C might be deemed payable at the issuing bank only.The seller’s
own bank will know what local practices, if any, are applicable in different
Level of security
The issuing bank always guarantees an L/C for the entire period of its
validity without exception.However, many countries have such economic
and/or political problems that the seller may be uncertain if the issuin
g bank
can fulfil its obligations and/or is able to transfer the amount out of the
country in a freely convertible currency.New and deteriorating events may
also take place in the country during the validity of the L/C and, in such
cases, the advising bank may refuse to take up the documents until reimburse-
ment is first received from the issuing bank.To cover the payment obligations of the issuing bank, the seller can
also have the L/C confirmed (that is, guaranteed) by the advising bank.
This is usually made upon request from the issuing bank based upon
instructions from the buyer, according to the agreed terms of payment in
the sales contract.Such confirmation may occasionally, although more often
as an exception, also be made by the advising bank upon request by the
seller, without the issuing bank being aware of it.This so-called ‘silent con-
firmation’ is also sometimes given by separate forfeiting or other financial
institutions in the form of a payment guarantee, if the advising bank for
some reason is not willing to do so themselves.The request for confirmation involves a potential risk on the issuing bank or their country, which the seller’s bank may or may not be prepared
to enter into without additional cover.The reason may be that the risk on
the buyer’s bank or the country is not acceptable, or that the seller’s bank
already has such a high level of exposure on that bank or country that t
internal limits are fully used.In such cases, the seller’s bank may sometimes
be able to apply for a bank letter of credit cover from either a private
insur -
ance company or more likely from the domestic export credit agency, which is
Methods of Payment 62
established by governments in the larger trade countries (see Chapter 5).
Such guarantees are based on the assessment made by the insurer of the
commercial/political risk on the issuing bank and the risk period involv
(usually up to 12 months).The guarantee normally provides cover to the
confirming bank of between 50 and 100 per cent depending on risk asses
ment and risk sharing.In some countries L/Cs are more or less always confirmed in principle, whereas in other countries that is not normally the case.However, between
these two categories there are many other countries where both alternatives
are used.The cost for a confirmation is normally calculated per quarter
and varies depending on the assessed risk involved and the length of such
confirmation.The buyer and seller have to agree whether the advising bank should
confirm the L/C or not.In some cases, agreeing on a more internationally
recognized bank as the issuing bank might provide enough additional security
for the seller without the need for a confirmation, or for the advising bank
to be willing to add its confirmation.Regarding more ‘problematic’ countries,
this is something the seller should discuss with their bank prior to neg
tiations with the buyer and, if needed, obtain commitment from this bank
to confirm any L/C that may be the outcome of the negotiations.Such
commitments are often issued by the banks against a commitment fee.
Figure 2.6 Key aspects of a letter of credit
This combination gives the
seller the best security and the fastest payment
Payment at
At the advising
Confirmed Acceptance of
bill of exchange
or deferred
At the issuing
Not confirmed 
Point in time for receiving
liquidity under the L/C
Place of presentation of documents
Security for payment
The Handbook of International Trade and Finance 63
Other common forms of letters of credit
It is relatively common that someone other than the seller makes the act
delivery, for example when they are acting as agent, using independent
suppliers or having an intermediary function in the transaction.In these
cases it can be advantageous to have the L/C expressly stated as being
‘transferable’, which permits the seller to transfer the rights and obligations
under the L/C to another beneficiary, a business partner or some other
supplier who will make the actual delivery.(If the master L/C allows partial
shipment, parts of this credit can be transferred to different beneficiaries.)
The transferable L/C can be transferred only when it relates to identica
goods and with the same terms and conditions as in the master L/C, with
the exception of amount, unit price, shipping period and expiry date – or
any earlier date of presentation – which may be reduced or curtailed.
later presenting the documents under the master L/C, the seller is also allowed
to exchange the suppliers’ invoices for their own.However, if the goods to be delivered by other suppliers need to be
changed, upgraded or altered before delivery to the ultimate buyer, then
the goods may no longer be identical and the L/C may not be used as tran
ferable.In such cases it can nevertheless often be used as supplementary
security against which one or more new L/Cs, so-called ‘back-to-back credits’,
can be issued by the advising bank on the seller’s behalf in favour of their
suppliers and with payment out of documents to be presented under the
master L/C.Sometimes the expression ‘red clause letter of credit’ is used in inter -
national trade, referring to a special clause that can be inserted in the L/C
(previously written in red ink, the reason for its name).Through such a
clause the seller can receive an advance payment for part of the value of the
L/C before presentation of shipping documents (against a written confirma -
tion of a later delivery), enabling them to purchase raw material or to meet
other costs prior to receiving full payment upon presentation of conform
documents.However, such a clause creates an additional risk for the buyer
who cannot be sure that final documents will be presented under the L/
and a red clause arrangement is now seldom used other than as part of th
overall agreement between the parties when forming the sales contract.If the L/C is to be used for repeat shipments under a long-term contract
or for similar shipments to the same buyer over longer periods, it could be
practical to have it issued as a ‘revolving letter of credit’, which is automati-
cally reinstated to its original value after each presentation of documents or
when reaching a certain lower level.However, this L/C must have a final due
date and/or limits for the number of times it can be revolved.
Methods of Payment 64
Figure 2.7 Letter of credit
Seller Buyer
Advising bank Issuing bank
Payment Documents

* P ayment could also alternati vely be acceptance or defer red payment, depending on the stipulations in the L/C.
1.Af ter signing the contract, it is up to the buyer to tak e the first step by applying
to their bank (the bank referred to as the issuing bank in the terms of payment) to issue the agreed L/C.
2.The issuing bank must process a formal credit approval of the application and chec k that local permissions, import licences or cur rency approvals, if needed, have been granted.When all formalities and procedures have been dealt with (this may tak e time), the L/C is issued, hopefully as stipulated in the terms of payment, and forw arded to the selected advising bank.
3.Upon arrival of the L/C from the issuing bank – by letter or mostly nowadays as a SWIFT message – the advising bank will assess its contents and determine where it should be made payable (honoured).If the advising bank is instructed to add its confirmation, this involves a separate credit decision in this bank, after whic h the seller is notified of the L/C and its details, including information about where it is to be honoured for payment, acceptance or defer red payment, and whether it has been confirmed by the advising bank.
At this point, it is vital that the seller chec ks the terms of the L/C against the agreed terms of payment to mak e sure that all the details and instructions can be met at a later stage when the documents are to be produced and delivered.If not, the seller must immediately communicate directly with the buyer so that the necessary amendments are made and confirmed to the seller through the banks.
Only then does the seller have the security on whic h the whole transaction is based.
4.After shipment the seller recei ves the transport documents and prepares the other
documents required.Checks are also made to ensure that they conform to the
terms of the L/C, but equally important, that the contents of the documents
presented are consistent between themselves.
The documents are then forwarded to the advising bank, which chec ks their
conformity with the terms of the L/C.The seller is contacted about any
discrepancies.Discrepancies that cannot be cor rected at this late stage, for example
wrong shipping details or late presentation, will be subject to later ap
pro val by the
buyer , and any payment made by the advising bank will then be with recour se,
subject to this appro val.
5.The issuing bank will also chec k the documents and the buyer has to consider any
discrepancies.When approved, or if the documents are compliant, the buyer has to
pay .If not appro ved, the documents will be held at the disposal of the advising
bank, pending any new negotiation between the buyer and the seller of the terms
for such an appro val, or ultimately returned to the advising bank (and the seller)
ag ainst repayment of an y earlier payment made with recour se to the seller.
6.The documents are released to the buyer against payment at sight or at any later
date as stipulated in the L/C.
The Handbook of International Trade and Finance 65
Figure 2.7 Continued
Issuing and advising letters of credit electronically
Nowadays it is common practice in most countries for L/Cs to be issued
as SWIFT messages in a standardized format.This procedure facilitates
both the issue of the L/C and authentication at the advising bank, which will
then be able to advise it immediately to the seller.Figure 2.8B shows a freely
negotiable L/C in such SWIFT format, available at sight with the issuing
bank, and advised to the seller without the advising bank’s confirmation.Many major banks also advise L/Cs to the seller through their in-house
internet-based advising services, which means that the seller can expect to
receive the L/C almost immediately after the bank receives it.In this form
the L/C can then easily be distributed in a standardized electronic form
to and within the company, thus increasing its effectiveness and reducing
possible errors in transmission.The next phase in the chain, the presentation of documents, can also
be completed electronically in some cases, but only if the L/C indicates
that it is subject to the eUCP (ICC guidelines for electronic presentat
of documents under L/Cs), which form a supplement to the new UCP 600
rules.The eUCP should be seen both as a guide to how such electronic
presentation should take place and how some often-used documents should
be structured to conform to these rules.However, even if presentation of
all documents in electronic format is still not that frequent, it is rapidly
growing within many areas and in larger transactions of international trade,
and is therefore described separately in more detail in Appendix I.
Seller Buyer
Advising bank Issuing bank
Payment Documents

* P ayment could also alternati vely be acceptance or defer red payment, depending on
the stipulations in the L/C.
1.Af ter signing the contract, it is up to the buyer to tak e the first step by applying to
their bank (the bank referred to as the issuing bank in the terms of payment) to
issue the agreed L/C.
2.The issuing bank must process a formal credit approval of the application and chec k
that local permissions, import licences or cur rency approvals, if needed, have been
granted.When all formalities and procedures have been dealt with (this may take
time), the L/C is issued, hopefully as stipulated in the terms of payment, and
forw arded to the selected advising bank.
3.Upon arrival of the L/C from the issuing bank – by letter or mostly nowadays as a
SWIFT message – the advising bank will assess its contents and determine where it
should be made payable (honoured).If the advising bank is instructed to add its
confirmation, this involves a separate credit decision in this bank, after whic h the
seller is notified of the L/C and its details, including information about where it is to
be honoured for payment, acceptance or defer red payment, and whether it has
been confirmed by the advising bank.
At this point, it is vital that the seller chec ks the terms of the L/C against the
agreed terms of payment to mak e sure that all the details and instructions can be
met at a later stage when the documents are to be produced and delivered.If not,
the seller must immediately communicate directly with the buyer so that the
necessary amendments are made and confirmed to the seller through the banks.
Only then does the seller have the security on whic h the whole transaction is based.
4.After shipment the seller recei ves the transport documents and prepares the other
documents required.Checks are also made to ensure that they conform to the terms of the L/C, but equally important, that the contents of the documents presented are consistent between themselves.The documents are then forwarded to the advising bank, which chec ks their conformity with the terms of the L/C.The seller is contacted about an y discrepancies.Discrepancies that cannot be cor rected at this late stage, for example wrong shipping details or late presentation, will be subject to later ap
pro val by the buyer, and any payment made by the advising bank will then be with recour se, subject to this appro val.5.The issuing bank will also chec k the documents and the buyer has to consider an y discrepancies.When approved, or if the documents are compliant, the buyer has to pay.If not appro ved, the documents will be held at the disposal of the advising bank, pending any new negotiation between the buyer and the seller of the terms for such an appro val, or ultimately returned to the advising bank (and the seller) against repayment of an y earlier payment made with recour se to the seller.6.The documents are released to the buyer against payment at sight or at any later date as stipulated in the L/C.
Methods of Payment 66
Figure 2.8A Summary example of a letter of credit
Overseas Chinese
Banking Cor poration Ltd
Date 14 September 20 15 Documentary Credit No.53368
Beneficiary Applicant
ABC Expor ters Ltd Tan Chee Eng Ltd
Advising bank Amount
UK Commercial Bank UK£50,000
A vailable by your draf t(s) in duplicate at sight drawn on the advising bank
for the full in voice value, accompanied by the following documents:
1.F ull set of clean-on-board bills of lading made out to our order
showing the applicant as notify par ty marked ‘Freight Pa id’.
2.Signed commercial in voices in triplicate.
3.Insurance policy/cer tificate in assignable form for 1 0% above the
in voice value with claims payable in Sing apore covering Institute
Cargo Clauses ‘A ’, including w ar and strikes.
4.Cer tificate of origin showing goods of UK origin.
Evidence shipment of Diesel Engine Spare Pa rts CIF Sing apore
Pa rtial shipments permit ted/prohibited Transhipment permit ted/prohibited
Shipment fr om UK Port to Sing apore no later than 24 Oct.20 15
All documents must be pr esented within 10 days from date of shipment
This cr edit is v alid until 4 No vember 2015
This credit is subject to the Uniform Customs & P ractice for Documentary Credits, International
Chamber of Commerce P ublication UCP 600.
Author ized signat ures
The Handbook of International Trade and Finance 67
Figure 2.8B Example of an L/C issued through SWIFT
ITD-REF ASNA1 415744 0 090 DMO 0 MSG-REF 490DM951 40300042
S70 0 09/03 GROUP REF
20 DO CR NO .LCUK53368
31C DATE OF ISSUE 15091 4
32B AMOUNT UK POUNDS (£) 50,0 00.0 0
44D LAST DA Y SHIP .151024
Today , most L/Cs are issued in a standardiz ed SWIFT format, as shown below.
Methods of Payment 68
Presentation of documents
The characteristic feature of the L/C in international trade is that the
undertaking of the issuing bank is only valid if the specified terms and con-
ditions are fully complied with within the period of its validity.If this is
not the case then the issuing bank and the buyer have the right to refuse
payment.From the seller’s perspective, not complying with all the terms of
the L/C could reduce what was originally a bank guaranteed payment to
a documentary collection without any such guarantee.This is the main
reason why due fulfilment of all terms and conditions specified in the L/C is
so important, and why this subject is discussed in such detail below.As stated earlier, when the seller receives the L/C it is up to them to decide
if it is in accordance with the contract and its terms of payment.However,
the seller must then also ensure that all details specified in the L/C can
be complied with when the documents later on are to be prepared for
presentation at the bank.This requires both experience and caution for,
if not accurately scrutinized and, if necessary, amended when the L/C is first
received, it may be difficult to get corrections later.On the other hand, having an uncomplicated L/C and including only
the essential documents and specifications, together with a reference to
the underlying contract, is normally advantageous for both parties.The
documents most commonly used in connection with L/Cs are basically the
same as were mentioned earlier in connection with documentary collections
and illustrated in more detail in Table 2.2, even if the stipulations in the L/C
are usually more specified as to how, and by whom, they should be issued.
Dealing in documents and not in goods
As pointed out earlier in this chapter, documentary payment through banks
is a matter of dealing in documents and not in goods or services.This is particularly important to bear in mind when using L/Cs, where
the approval of the documents will be made by the banks, as stated in th
ICC rules: ‘Banks must examine a presentation to determine on the bas
is of
the documents alone, whether or not the documents appear on their face
to constitute a complying presentation.’ This documentary aspect may be seen as a risk mainly for the buyer,
but it is equally important for the seller to be careful with even the s
detail in the documents, so they in all aspects are, and appear to be, i
compliance with the terms of the L/C.See also the box ‘Fraud warning’ in the earlier pages where the sa
message is presented, but from another perspective.
The Handbook of International Trade and Finance 69
As can be seen in the examples in Chapter 8, wording may also be inserted
in the terms of payment to the effect that the L/C should be issued ‘in form
and substance acceptable to the seller according to contract’.This wording
is suggested in order for the seller to have a stronger case when arguin
g for
amendments, should the L/C technically be issued according to the contract
but, at the same time, contain additional details or stipulations that will
restrict or potentially prevent the seller from fulfilling all conditi
ons at a later
stage when the documents are to be presented to the bank.
Third-party documents
The most common documents to be presented under a letter of credit are
shown in Table 2.2.One general aspect that must be commented on at this
Table 2.2 Commonly used shipping documents in international trade
Shipping documents
documents Transport
documents* Insurance
invoice Ocean bill of
lading Cover note
Corporate cheque
Pro forma invoice Combined bill
of lading Open policy
Bill of exchange
Consular invoice CMR note
(land transport) Insurance policy
Promissory note
Packing list Air waybill (AWB) Interest
Weight list For warders
certificate of
receipt (FCR)
Certificate of
Performance or
Test certificates
* The Transport documents are described in more detail in Appendix II, together with examples.
Methods of Payment 70
stage is the importance of the seller being particularly observant with
to documents that are to be produced, verified, stamped or signed by a third
party, and also other terms and conditions in the L/C over which the seller
may not have full control.When it comes to the documents, some of them, often the invoice, may
have to be certified or legalized by a third party, often a chamber of com-
merce and/or the embassy of the importing country.If so, the seller has to
make certain not only that such a procedure can take place, but that it can
be done in time to comply with the dates of the L/C, primarily with regard
to the due date of shipment or presentation of documents.The same check has
to be made for any other third-party documentation, such as test certificates
and inspection records.The seller should also be aware of the interaction between the terms of
delivery and the documents related to the L/C (see Chapter 1).Some terms
of delivery stipulate that it is up to the buyer to arrange transportati
on, after
which the transportation documents, for example, the bill of lading, can be
released.Some buyers often try to arrange transportation themselves, in some
cases with ships from their own country, perhaps because they have estab-
lished contacts with the local shipping company, due to legal requirements
in order to support the country’s shipping industry, or simply because it is
cheaper and payment may be made in local currency.For these reasons, the
buyer might prefer FOB as their choice of terms of delivery; however, the
seller does not in these circumstances have control of the shipping sche
which might change, or the designated ship may not arrive or be re-routed
at short notice.Should this happen, the seller would not be able to load as planned and
will consequently not be able to produce the bill of lading stipulated in the
L/C – or will receive it too late to comply with the stipulated time
However, there are ways the seller can eliminate even such risks if the parties
cannot agree on more suitable terms of delivery, but they have to be agreed
beforehand as part of the sales contract and thereafter form part of the
For example, the seller might stipulate an alternative to the bill of lading,
such as a warehouse certificate, which they know can be arranged.
The Handbook of International Trade and Finance 71
International rules covering L/Cs
To reduce the difficulties that users of L/Cs may face through differen
in bank terminology and practice, the ICC has issued a number of uniform rules as guidance (Uniform Customs and Practice for Documentary Credits
UCP 600.These include the different forms of credit, the obligations an
responsibility of the participating banks, documents, presentation and
validity.Both parties using L/Cs must be familiar with these rules and some
general aspects should be stressed:

●all L/Cs must clearly indicate how they are to be honoured (payable)
and where documents are to be presented; however, the rules also
specify what will be applicable should these aspects not be shown in
the L/C;

●all L/Cs must stipulate an expiry date; however, the rules also specify
situations when both limitations and extensions to such an expiry date
may apply;

●the rules contain a number of articles about ambiguity as to the issuers of documents as well as their contents, particularly regarding the
freight and insurance documents, including detailed interpretations;

●the rules also contain articles about definitions of specific words,
expressions, terminology and tolerances;

●the rules specify the detailed definition of transferable L/Cs, what r
apply to them and what obligations apply to the banks;

●the rules also deal with the responsibility and the liability of the ban
ks in
dealing with L/Cs, including force majeure.
The ICC has also published a new and updated document, International
Standard Banking Practice (ISBP 745), establishing an international
standard for examination of documents presented, revised to be in line
with the UCP 600 rules.The above rules and other documents, including
a special commentary and a user’s handbook related to L/Cs, can be
obtained directly from ICC (
Methods of Payment 72
Inspection of the goods in conjunction with
documentary payments
With regard to both documentary collections and L/Cs, the buyer has to
honour the documents as presented, but normally without having seen
the actual delivery.The documents may be scrutinized by the buyer when
presented for collection and by the banks when they check their correctness
under the L/C, but the banks have no responsibility for the genuineness or
correctness of the information contained therein.In many cases this may not be important: the parties may know each
other through earlier transactions, the goods delivered can be standardized
or well known to the buyer, and they can always claim compensation after
delivery, whatever value that may have.But in other cases this question
may be of great importance to the buyer.The seller must then find other
ways to satisfy the buyer for them to agree to an L/C.This can, for example,
be done through the inclusion of a separate certificate of inspection in the
documentation, issued by an independent surveyor who verifies the goods
before delivery through samples or production surveys.Such arrangements
must form part of the contract and the certificate should be included in the
required documents.
Frequent discrepancies in documentation
Apart from genuine mistakes in preparing the documentation, some of
the more frequent discrepancies include:

●the expiry date of the L/C has passed;

●late presentation, ie the specified period of time after the date of shipment
during which presentation should be made, has expired;

●late shipment, ie the shipping document is signed too late or indicates
shipment after the stipulated time of shipment;

●a document has not been presented or, if presented, has not been issued
by a correct company or authority;

●stipulated tolerances in credit amount, quantity, unit price or other
variables have not been met;

●the shipping documents are not in accordance with the terms, for example
loading/unloading in the wrong port or not on the specified ship, issued
to the wrong order or wrongly endorsed;
The Handbook of International Trade and Finance 73

●the insurance documents are incorrect, for example not covering the risks
required or showing an incorrect insurance value – incorrectly endorsed
or not indicating explicit statements as required in the L/C;

●shipping details are incorrect, for example showing part shipments or
transhipment, if not allowed, or the packing/marking is not in accordance
with the terms.
Finally, not only must each document be issued as stipulated, but they must
be consistent between themselves with regard to description of the goods
markings, etc.In practice, however, it is relatively common that this is not
the case, owing to carelessness, last-minute changes or lack of documentary
knowledge, but it should in principle always be possible to avoid this form
of potential discrepancies.
How to avoid discrepancies in the letter of credit
L/Cs that do not in all aspects comply with the terms of the credit are dependent on the approval of the buyer and will, therefore, contain an
additional risk that the seller did not anticipate when entering into th
e deal
– if this risk had been known beforehand, the seller might not even have
entered into the transaction at all.As pointed out earlier, the bank guarantee incorporated in the L/C
will then disappear and the L/C will, in practice, be transformed into a
documentary collection (dependent on the willingness of the buyer to pa
In particular in smaller trading companies with high volumes of export
sales with small margins, such an added risk is unacceptable and one such
default could lead to bankruptcy.It is also among these trading companies
that you often see real professionalism in dealing with L/Cs and the ban
very seldom find discrepancies in their documents.Based on that experience, which can be achieved by all companies, there
are at least some measures that can be taken to avoid such discrepancies

●Many banks have letter of credit checklists, which contain valuable
information on how to check the L/C and its required terms and
conditions, both when the L/C is received and later on when the documents
are presented.

●The ICC rules (UCP 600) contain detailed information about the more
commonly used documents in international trade and what they generally
should contain to be approved under the L/C, and should be read in
connection with the new International Standard Banking Practices (ISBP,
No 745), describing in detail the procedures for examining L/C documents.
Methods of Payment 74

●It is at the time of receipt of the L/C by the seller that it can be ame
(if not issued correctly).Someone in the company must have direct
responsibility for such internal approval so as to ensure that there are
problems now or in the future that might prevent the seller from deliver
documents without discrepancies.

●The L/C should be payable at the advising bank if possible and the
documents should be sent to that bank directly after shipment.This bank
will then advise on any discrepancies and the seller will have time to
amend the documents if and when it is possible to do so.Should that not
be the case, it is usually an indication that the seller’s own approval of the
L/C when it was issued was incorrect; it should have been amended at
that earlier stage.

●Timing is essential: always allow a longer period than expected for issui
the L/C and for shipment, presentation and expiry dates.Deliver the
documents in good time before expiry so as to be able to make amend-
ments or deliver completely new documents, if necessary.

●Finally, banks not only offer practical help on an ad hoc basis but some
also offer additional services that could help the seller avoid discrepa
in the documents altogether, for example freight management and even
export document preparation.
The letter of credit as a tool in the business process
The advantage of using an L/C is not only the security it gives to the s
but also its flexibility and adaptability in helping to solve complica
business matters and thereby creating the base for additional business.
This enables the seller to offer reasonable advantages to the buyer in r
for acceptance of an L/C, for example extended credit on favourable terms,
or sharing/absorbing the costs involved.It is true that once a sales contract has been signed and the L/C issued
any later amendments will demand corresponding amendments in the
L/C as well, and that may take time and involve additional costs for the
transaction as a whole.But before that time, almost any transaction can be
structured in a way that allows the L/C to function as the glue that hol
the deal together and protects the interests of both parties.When the L/C is
thereafter correctly issued, both the seller and the buyer know in advance
that they are safeguarded in a way that can be controlled by one and the same payment instrument and guaranteed by at least one of the participat
ing banks.Some examples of how the L/C can be used as part of a more
complicated business transaction are as follows:
The Handbook of International Trade and Finance 75

●clauses can be included whereby the seller can arrange necessary start-u
preparations for the forthcoming delivery, either at home or in the buyer’s

●separate procedures can be arranged to secure the fulfilment of the
obligations of the buyer in connection with installation and other
necessary arrangements prior to delivery;

●if required by the buyer, both tests and samples as well as the process of
production and final delivery of the goods can be monitored or verifi
by using independent inspection certificates under the L/C;

●the transferability of an L/C makes it possible for the seller to arrang
e for
multiple or combined deliveries without added risk structure or liquidit

●arrangements for different types of barter-trade transactions can also be
connected to the underlying contract and covered by a combination of
L/Cs (see below);

●arrangements for different supplier or buyer credits with repayment
with or without coverage under the L/C can be arranged, at the same time
giving credit to the buyer and cash payment to the seller (see example
in Chapter 8);

●increased business opportunities are generally available to the seller when
using the L/C as supplementary security for pre-financing during the
period of purchase, production and delivery (see below).
The letter of credit as a pre-delivery finance instrument
As a guaranteed payment, subject to fixed and known terms and conditions
in the individual case, the L/C can also be used as part of the pre-financing
needed to produce and deliver the goods.This may be particularly impor -
tant in cases of longer production and delivery periods or in single large
transactions, when the pre-delivery period often is the most difficult to finance
a period before a clear claim on the buyer normally can be obtained.Many
such transactions may require pre-financing on a scale that could exce
ed the
seller’s ordinary credit limits, even when ignoring any supplier credit given
to the buyer, and the L/C may be the tool to close this gap.The financial consequences of each transaction are directly connected
its size, structure and time of payment, combined with additional demands
on the seller for credits and guarantees, perhaps starting several months
before delivery and payment, for example:
Methods of Payment 76

●demand for performance and/or advance payment guarantees;

●acquisition of raw material or additional/changed production facilities;

●additional contracts with suppliers or subcontractors with a payment
structure independent of the underlying contract;

●additional bonds or guarantees covering shipment obligations or insuranc

●additional production modification and/or running costs covering pro-
duction and delivery.
These additional expenditures, including the costs for insurance cover and
necessary reserves for unforeseen events, have to be taken out of the seller’s
own resources and existing credit limits, but often the financial advantages
that the L/C in itself can generate may be needed as well.In these circum-
stances it is particularly important to get the buyer to accept the L/C
as the
method of payment so that the seller is able to arrange the supplementar
financing that the transaction will require – even if the seller ha
s to com-
pensate the buyer by taking part of the bank charges involved or giving
concessions in other areas of the contract.With this in mind, the advantage of having the L/C transferable is
obvious: the possibility of transferring it on to other suppliers will r
cash-flow pressures from the seller and these suppliers will get the s
pre-delivery advantages of knowing what terms and conditions will apply
order to receive payment.Even if the L/C is not made transferable, it could
be used as a master L/C and supplementary security for new back-to-back
L/Cs in favour of the suppliers, with almost the same advantage to them
as a transferable L/C would have had.Even without such an arrangement,
or if it is already used for additional finance elsewhere, its mere existence
may indirectly help the seller in obtaining new or extended credit eithe
from their bank or from the suppliers involved in the transaction.Furthermore, many banks, acting as advising banks, offer special export
loans or similar facilities, with a percentage of the value of the L/C as addi-
tional working capital, to be repaid from the proceeds upon presentation of
documents.Such loans are often backed by a pledge on the underlying L/C.The L/C may also be used as an important tool in arranging different for
of pre-delivery finance, not least when combined with pre-shipment credit
insurance policies (see Chapter 5).Such policies cover the commercial and/
or political risks of the transaction from the time when the sales agree
is signed, but may be dependent on the seller having received some form of
additional security, for example an L/C, covering at least part of the buyer’s
obligations.These policies, covering the entire transaction, would strongly
facilitate the seller’s pre-delivery financial requirements.
The Handbook of International Trade and Finance 77
So far the assumption has been that goods are delivered against payment, at sight or at a later date.But there are other forms of transactions, where
payment or settlement, wholly or partially, is made in some other way.The word ‘counter-trade’ is in itself a general term representing various
types of connected transactions or reciprocal arrangements that are link
to each other in a larger structure, necessary for the completion of the indi-
vidual transactions.The terms may vary, but the following are often used
to describe the most common forms of alternative trade transactions:

●barter trades – with payment in other goods;

●compensation trades – with payment partly in money but also in other
goods or services to balance the transaction, agreed between the parties;

●repurchase agreements – in which payment is made through products
generated by the equipment or goods delivered by the seller;

●offset counter-trades – mostly with settlement in money, but with the
transaction being dependent on corresponding sales/purchase transactions to balance the payment flow.
There are many reasons why these alternative trade transactions are used
but at least four main reasons are often referred to, namely:
1 To enable trade to take place in markets that are unable to pay for
imports.This can occur as a result of a non-convertible currency, a lack
of commercial credit or a shortage of foreign exchange.
2 To protect or stimulate the output of domestic industries from a country
and to help find new export markets.
3 As a reflection of political and economic policies within a country to plan
and balance overseas trade.
4 To gain a competitive advantage over other suppliers.
Pure barter trade or other forms of counter-trade are the oldest forms of
trade, today however mostly associated with countries with a state-regulated
economy, but also commonly used in many other countries.Some estimates
indicate that up to a quarter of all world trade is in this form, although no
one knows the exact figures.Apart from extremely large or complex transactions, particularly within
the areas of defence, nuclear installations and complete production plants,
large aircraft deals or similar transactions, most other counter-trade trans-
actions are made with or between developing countries – or other countries
Methods of Payment 78
with a non-competitive or regulated trade system or a non-convertible
currency.But sometimes it is the character of the deal itself, its size and
complexity, rather than the countries involved, that necessitates these trans-
actions.They are therefore often structured through or assisted by specialized
trading houses that have the overall knowledge and expertise for creatin
new trading combinations that would otherwise probably not have made
the export part of the combined deal possible.The terms of payment in these transactions depend on the structure of th
deal, and the participation of the banks may be totally different compared
to ordinary transactions with payment in currency.In real barter-trade
situations, only a designated clearing account may be needed to register the
value of the transactions and the net balance of the flow of goods.When it
comes to other forms of counter-trade, the banks often have a more central
role, often through the use of L/Cs, all of them being structured to come
into force simultaneously when all other arrangements are in place and
approved by the individual trading partners.But thereafter they could either
be handled as one deal with separate payment flows or as completely
individual transactions, with each L/C being settled separately.
Example of a simple counter-trade transaction
As an example of how the mechanism of a simple counter-trade could
work, a US seller of machine equipment has made a deal with a buyer in
Honduras.To finance the deal, a US trading house has arranged with a
Hong Kong company to buy raw sugar from another company in Honduras
for the equivalent amount, which the Hong Kong company plans to sell to
an African buyer.In this example, the Hong Kong company has to take the first step by
instructing their bank to issue an L/C in favour of their seller in Hond
but conditional upon a second L/C being issued by a bank in Honduras in
favour of the US seller.Such a clause could have the following wording
in the first L/C to be issued, to create the security for the combination of
transactions that form the counter-trade:
This letter of credit is not operational until:
1 Banco Central, Honduras, has issued through US Commercial Bank, New
York, as advising bank, a letter of credit for the amount of USD 1,000,000,
covering shipment of coffee-grinding equipment, in favour of US Grinding
Machinery Inc., Boston.The letter of credit should be payable at sight
The Handbook of International Trade and Finance 79
with the advising bank and contain instructions to this bank to add its
2 The advising bank has confirmed that US Grinding Machinery has approve
the terms and conditions of the letter of credit above.
When both L/Cs are issued they will become operative at the same time
but can thereafter be settled as separate transactions, or alternatively be
structured in such a way that payments received under one L/C can be use
as outgoing payments under the other in order for the transactions to be liquidity- and currency-neutral.It is then advantageous, but not necessary,
if both L/Cs are payable at the same bank which, in this case, will use the
payments from the Hong Kong buyer to pay the US seller upon due fulfil
of the terms and conditions under the L/C.In the same way, the payments
between the companies in Honduras are settled between their banks,
often in local currency.
Counter-trade arrangements – a summary
Counter-trade transactions are by definition a complex area of trade.This
is largely due to the fact that one and the same seller often lacks the overall
knowledge of potential goods or products suitable or available to arrang
the total deal and also because they often do not have direct contact with
other potential commercial parties.The structure becomes more complicated
in these combined transactions and the risk involved more difficult to assess and to cover.Counter-trade transactions also often involve countries with a potentially
high-risk profile, including both convertible and non-convertible foreign
currencies.Such transactions demand longer arrangement periods and incur
higher transactional costs.The risk of outside pressure for illegal practices,
such as bribery or facilitation payments, may also be higher compared to
more standard trade transactions.Equally, the reward could be high to
compensate for all these real or potential risks.The seller therefore seldom acts alone in this type of trade, but normally
through or in cooperation with specialized trading houses or international
banks that have this expertise.There are also a number of domestic or
regional counter-trade associations offering the same services, but the
trading parties are generally advised to check with their bank or their trade council or export organization to find a partner that has the re
knowledge and reputation.
Methods of Payment 80
and standby
letters of credit
The use of bonds and guarantees
In international trade it has become increasingly common for either or b
parties to demand separate undertakings, usually in the form of bonds,
guarantees or standby letters of credit, covering the obligations assumed by
the other party.
It could be the seller’s delivery obligations that have to be secured by a
guarantee issued by their bank, or the seller receiving a guarantee covering
the payment obligations of the buyer.In any case, this undertaking is
often ‘the glue’ that holds a deal together, a deal that might not otherwise
materialize owing to the inherent latent risks involved.This is most common
for transactions that, apart from delivery, also cover installation, future
performance, warranty periods or similar undertakings, when the parties
are mutually dependent on each other, often for a long period.In certain cases, particularly with more straightforward deals or in com-
bination with a simple service and/or performance, it is often enough that
the seller, or the parent or group/company, issues these bonds/guarantees –
particularly if the seller is part of a larger or well-known group.However, in
most cases, they have to be issued by a separate party, normally in the form
of a bank guarantee or an insurance bond (from an insurance company) or
as a standby L/C (issued by a bank).Bank guarantees or standby letters of credit are the most commonly used
instruments in connection with ordinary transactions in international tr
and will therefore be the focus of this chapter.They could generally be defined
as: ‘any arrangement by which a bank, upon the request of the principal,
81 82
irrevocably commits itself to pay a sum of money to the beneficiary in accordance with the terms of the guarantee’.As shown above, and regardless of the obligations covered by it, a bank
guarantee or a standby L/C is always a commitment to pay (wholly or par
a sum of money, but does not guarantee fulfilment of the actual delivery or
any other obligation that the principal may have towards the beneficia
The same goes in most cases, but not always, for a bond issued by an insurance
company guaranteeing the obligations of a supplier of goods and services under a contract.Internationally, so-called ‘surety bonds’ may be issued by
insurance or surety companies, with the alternative obligation to fulfil or
arrange for the completion of the underlying contract.This could be to
appoint another supplier to complete the project if, for any reason, the
principal is not capable of doing so.Such surety bonds are mainly designed for
building and engineering firms and suppliers of large industrial equip
banks do not normally involve themselves in any form of surety bond.
Standby letters of credit
In some countries, standby L/Cs are often issued by banks instead of
guarantees.In some countries, as in the United States for example, bank
may be restricted by law or common practice from issuing guarantees to
third parties, so they issue standby L/Cs as the alternative.But they a
also commonly used in other parts of the world, one reason being that th
can be governed by well-known and generally accepted ICC rules.In most countries, however, bank guarantees are the more commonly
used alternative when issuing separate bank undertakings related to norm
international trade transactions.But should a standby L/C be asked for,
it can be issued on behalf of the principal with the same wording and th
same undertaking as a guarantee.Most of the text in this chapter is valid also for standby L/Cs even if
the term ‘bank guarantee’ is used, but the particulars of standby
L/Cs will
be specifically commented on later in this chapter.
Bank guarantees are generally related to an underlying commercial contract
between the buyer and the seller.In such cases, and if and when disagreement
occurs between the commercial parties as to whether the claim is justifi
or not, payment is normally suspended until such a dispute is settled by later
agreement, by arbitration or through the courts.
The Handbook of International Trade and Finance 83
The risk of disputed claims is also one of the main reasons behind the
use of ‘demand guarantees’, with an unlimited right for the beneficiary to
claim under the guarantee, irrespective of any objections from the principal
or the issuing bank.
Bonds, surety bonds, guarantees, standby L/Cs, indemnity or similar expres-
sions are all used to describe undertakings by a third party but, regardless
of the title, it is the wording of the written undertaking that is important.Unless otherwise dictated by the context or by common practice, this
book will use the term ‘guarantee’ and/or ‘standby L/C’ in accordance with
ICC terminology, particularly when dealing with undertakings from banks.
Sometimes the word ‘obligation’ or ‘undertaking’ is used when referring to
all these expressions in general terms.The text will not deal with the more complex subject of the legal nature
of the guarantee, which may not be the same in different countries, but
simply describe the main differences between: a) a primary and independ
obligation separated from the contractual obligations of the principal; and b) a secondary and accessory obligation, connected to the underlying
trade contract.The following expressions will therefore be used in the text
in order to separate the following main categories:

●demand guarantees (primary and independent undertakings);

●conditional guarantees (secondary and accessory undertakings);

●standby letters of credit (often used as an alternative to both demand
conditional guarantees, depending on their wording).
Furthermore, the expressions ‘principal’ and ‘beneficiary’ are the correct
terms in connection with guarantees, but in this book the words ‘seller’ and
‘buyer’ are also used in order to focus on the trade aspect and fa
Parties involved in the guarantee/standby L/C
The question of who should issue the guarantee/standby L/C is usually de
ter -
mined by the beneficiary, but could also depend on rules or local conditions
in that country.In industrialized countries it is often issued directly to the
beneficiary by the principal themselves or some head office departme
nt, or
more frequently by an issuing bank.
Bonds, Guarantees and Standby Letters of Credit 84
Guarantees and standby L/Cs can also be forwarded through an advising
bank at the beneficiary’s location, but without any responsibility for that
bank under the guarantee.The role of the advising bank is then only to for -
ward them to the beneficiary, verifying the authenticity of the issuing bank.There are, as shown in Figure 3.1, also situations when a local bank in
the country of the beneficiary has to issue the guarantee (which is t
he stand-
ard procedure in many Islamic and/or developing countries) particularly
the beneficiary is a local authority or similar body.In some countries it may
even be stipulated by law that they should be issued by a local bank.In these
cases the principal’s bank (the instructing bank) will issue a counter-guarantee
as an indemnity to the local bank, which will then become the issuing bank.
This counter-guarantee would be accompanied by instructions about the
wording of the guarantee to be issued – either in a specified form
(if that is
at all possible) or it will be issued according to local law and practi
Example of a performance guarantee, related to
the underlying contract (conditional guarantee)
Messrs ATV Radiocommunications Spa
18 Vie Rosle, Cassina di Spati
1081 PADOVA, Italy
Guarantee No.G-32768/34
Between you as ‘buyer’ and Cyber Communication Ltd, 103 Queen’s Road, Central
Hong Kong, as ‘supplier’, an agreement has been signed according t
o contract
GHTY 376 dated 25.02.16, regarding the supply of 1075 Satellite Adaptors
, model
A-346, for a total contract amount of EUR 47,437.00.
At the request of the ‘supplier’, we, the undersigned bank, hereby
guarantee as
for our own debt, the due fulfilment of the obligations assumed by the
under the above-mentioned contract.However, we shall not by reason of this undertaking be liable to disburse more
than €4,743.00 in total (four thousand, seven hundred and forty-thre
e euros).This guarantee, issued under Hong Kong law and jurisdiction and to be go
by the ICC rules URCG, ICC 325, is valid until 25 November 2016 by which
(at the latest) all claims must have reached us in writing in order to
be taken into
consideration.After expiry, this guarantee shall be returned to us for cancellation.
Hong Kong, 15 March 2016
China Commercial Bank
Signature Signature
The Handbook of International Trade and Finance 85
Figure 3.1 Different structures of bank guarantees
Principal Beneficiary
Advising local bank
Issuing bank
Principal Beneficiary
bank Issuing local 
Direct guarantees (Alt A) or guarantees forwarded via an advising bank
(Alt B)
Alt B
Indirect guarantees (issued by local banks)
Counter -guarantee
Forwarding of 
Application ApplicationIssuing of 
Issuing of guarantee
Issuing of guarantee
Bonds, Guarantees and Standby Letters of Credit 86
Today, the instructions between the banks involved in the guarantee are
often processed in a structured format through the SWIFT system, with the
same speed and accuracy as for international payments.When a guarantee is issued by a local bank in the country of the benefi
ciary, it is important for the principal to know in advance what rules apply
in that country and, if possible, to have the wording of the guarantee agreed
in advance and inserted as an appendix to the contract.This will help to
avoid any surprises that may appear later on when the guarantee is to be
issued, for example if the guarantee is issued without a fixed expiry date
or subject to other rules according to local customs and practices.Moreover,
it is up to the local issuing bank, and not to the instructing bank, to decide
whether a later demand for payment is correct and if payment should be
made under the guarantee in accordance with the issuing bank’s interpreta-
tion of the terms and conditions.
The guarantee underpinning open account trading
The general advantage to both parties from using open account payment
terms based on clean payments (nowadays mainly bank transfers) instead
documentary payments is that they are cheaper and more flexible.Changes
in delivery can also be made at short notice and they are used, or are often
preferred, in trading on an ongoing basis – as long as the credit risk involved is acceptable to both parties, primarily the seller’s credit risk on the buyer.In terms of frequency, overseas trade is largely based on open account
payment terms, owing to their widespread use in trade with neighbouring
countries where these terms are most commonly used.But even in these cases,
the seller might have taken supplementary measures to cover the perceive
risk, often in the form of export credit insurance, covering their total exports
or just single transactions.Open account payment terms could also be used in other situations when
the risk is greater and/or separate insurance is not available, but must then
be supported by some form of bank guarantee, covering the obligations of
the buyer.However, some forms of guarantees are more frequently used
than others in combination with open account trading, as shown below:

●A commercial L/C.This is mainly used as an alternative to open account
trading (described in Chapter 2, ‘Letter of credit’), owing to its strict
adherence to the principle of payment against specified and correct
documents representing the goods.It is therefore less frequently used as a
guarantee supporting open account trading.
The Handbook of International Trade and Finance 87
Figure 3.2 Summary of the use of contract bonds/guarantees/standby L/Cs*
Bid bond
Performance guarantee Of
T ender
PerformanceguaranteeBid bond
W arranty  
Guarantee period
ends, the
transaction is formally
Issue of the
Return of the
T ime-
Shipping/ Delivery
Installation/ Acceptance (The bid bond is 
normally returned 
upon issuing 
the advance 
payment and/or 
(The advance 
guarantee is 
normally returned 
upon delivery 
– or automatically 
reduced in line 
with shipments.)
(The performance 
is returned 
upon delivery,
or acceptance 
when the seller’ s 
obligations are 
fulfilled. It could 
also cover any 
obligation after 
acceptance, in 
which case no 
separate warranty 
guarantee is 
(The seller should 
make sure that 
all guarantees are 
returned – or that 
they are released 
from responsibility 
towards the issuing or instructing bank.)
* Only the term guarantee is used in the text to facilitate reading.
Bonds, Guarantees and Standby Letters of Credit 88

●A conditional payment guarantee, issued by a bank.This is the most
commonly used form of bank support in conjunction with open account
terms.Its potential drawback, seen from the seller’s perspective, is that
even if it covers the buyer’s obligations to pay, they may refuse to do so,
if not accepting the claim owing to alleged deficiencies in the delive
ry or
some other reason.

●A demand payment guarantee, issued by a bank.Such a guarantee is
seldom used when covering the buyer’s commercial payment obligations,
since a standby L/C fulfils the same purpose without the additional ri
normally involved in a demand guarantee.

●A commercial standby L/C.This instrument has many similarities with an
ordinary L/C, and is often used instead of a bank guarantee in conjunction
with open account trading, owing to either local law or market practices.It
may also give the seller a better risk cover than the guarantee, similar to an
ordinary commercial L/C, covered by the ICC rules.
The decision on whether to use open account trading terms in combination
with a conditional payment guarantee or standby L/C has to be made in
each case, and depends not only on external legal factors, but also on the
goods, value and frequency of the transactions involved as well as the
importance of the flexibility needed for short-term changes in the con
tract or
the delivery.But when the transaction involves a high degree of commercial
and particularly political risk, open account trading is normally not used at
all, and the commercial L/C is then the more secure option.
Costs for issuing guarantees
A guarantee or a standby L/C is normally charged with a flat fee cover
handling costs plus a commission fee, usually ranging from 0.5 to 2 per cent
per annum on the outstanding amount.The actual cost is determined by
factors such as the creditworthiness and financial standing of the cus
customer relations; commercial background; form of guarantee (demand or conditional); guarantee amount; the competitive situation; and the pote
for additional business for the issuing institution, such as advising L/Cs or
the possibility of arranging finance.The costs of other banks involved also have to be taken into account if
the guarantee is to be either issued by a local bank (based on a counte
guarantee) or forwarded by an advising bank at the beneficiary’s location.
When more than one bank is involved in the guarantee, in an issuing, counter-
guaranteeing or advising capacity, the costs could vary considerably, which
The Handbook of International Trade and Finance 89
is one good reason for not accepting guarantee costs outside one’s own
country, if possible.This is particularly the case with ‘demand guarantees’
since these can be prolonged for a considerable time at the sole discret
ion of
the beneficiary (extend or pay).Whatever is finally agreed regarding guarantee
charges and other conditions should be included in the sales contract.
Common forms of guarantee
The different forms of guarantee described below under ‘Contract guaran-
tees’ are often grouped together in this way owing to their direct link with
the course of events in a commercial contract consisting of offer, contract,
shipment, acceptance of delivery, payment and warranty period, if any, as
shown in Figure 3.2.However, in practice, some of them are not issued separately but are
often incorporated in one and the same guarantee document.This is also
reflected in the ICC rules for contract guarantees, where only the three
most important and commonly used contract guarantees are formally iden-
tified in the rules, namely the tender guarantee (bid bond), the performance
guarantee and the repayment guarantee.The remaining guarantees described
below are less used nowadays as separate guarantees, but instead are mostly
incorporated in one of these three basic contract guarantees, for example
in a more comprehensive performance guarantee.Most guarantees could also, in principle, alternatively be issued as bonds
by an insurance company or in the form of a standby L/C issued by a bank,
for example as a performance or repayment standby L/C.
Contract guarantees
Tender guarantee or bid bond
This guarantee is delivered in conjunction with the offer or tender for contract, and guarantees the obligation of the seller to stand by the under -
taking and that the party submitting it will sign the contract, including the
issue of additional guarantees, should the bid be successful.The guarantee
amount is commonly between 2 and 5 per cent of the contract.The guarantee is sometimes replaced by an undertaking to provide a
guarantee, issued by the seller or its parent or group company covering the
obligation of the seller to sign the contract if awarded, and to deliver the
promised guarantees.
Bonds, Guarantees and Standby Letters of Credit 90
Repayment guarantee (advance payment guarantee)
This guarantee has to be in place before or along with the payment that
to be guaranteed and should cover the obligation on behalf of the princi
normally the seller, to repay the amount (wholly or in part) should the
delivery and/or some other contractual undertaking not be fulfilled.Advance payments normally range between 10 and 25 per cent of the
contract value depending on size, complexity and time span of the contract
until completion.The guarantee should also be issued with such wording
that it only becomes effective upon receipt by the seller of the agreed advance payment.
Performance guarantee
This guarantee is perhaps the most commonly used contract guarantee.
It should be issued and delivered on behalf of the seller at the signing
of the
contract or before the start of delivery – guaranteeing the seller’
s obligations
to deliver and perform according to the contract.For ordinary commercial
transactions, the amount of a performance guarantee normally ranges
between 5 and 10 per cent of the contract value, but could be even higher
depending on the risk or consequences for the buyer in the case of non-
Progress payment guarantee (mostly issued in the name of
or as part of a repayment guarantee)
This form of guarantee is issued when the buyer cannot effectively make
of the seller’s delivery or other obligations until these are finally completed
but, nevertheless, has agreed to pay in connection with the progress of such
work or delivery.
Retention money guarantee (mostly also issued in the name
of or as part of a repayment guarantee)
The purpose of this guarantee is to safeguard the final installation or start-
up phase of machinery, equipment or other delivered goods, and to allow
the buyer to recover payments already made under the contract should the seller not fulfil these obligations.Such guarantees are mainly used as an alternative to terms of payment
where the buyer would otherwise withhold part of the contract payment,
often 10–15 per cent, until completion.The seller will instead receive this
part-payment against this guarantee at an earlier stage.
The Handbook of International Trade and Finance 91
Warranty guarantee (normally issued in the name of or as part
of a performance guarantee)
Many contracts include maintenance or performance obligations of the
delivered goods for a certain period of time after delivery or installat
Instead of retaining part of the payment until such period has expired, the
buyer will release it at the time of delivery but against this guarantee
amount could be 10–15 per cent depending on the warranty commitments.
Other common guarantees in international trade
or finance
Payment guarantee
Payment guarantees are issued on the instruction of the buyer in favour of the seller, to cover the buyer’s payment obligations for goods or services
to be delivered according to the contract.This form of guarantee is often
used to cover either single or recurring deliveries under a long-term co
with a total amount covering outstanding and anticipated deliveries.The
guarantee covers the buyer’s solvency and ability to pay, but not their will to
do so if the claim is contested, unless the guarantee is ‘on demand’.The terms of payment used in connection with payment guarantees
are often on an ‘open account’ basis (see earlier pages).The handling of
delivery and documentation could then be made more flexible compared
to an L/C, but security for the seller depends on the nature and wording of
the guarantee.
Guaranteed acceptance (Aval)
Sometimes the acceptance by the buyer of a bill of exchange is not adequ
security for the seller to cover the credit risk, in particular over longer periods
when this risk may be even more difficult to evaluate.In such cases a bank
may strengthen security by adding its guarantee directly to the bill of
change, by adding and signing the statement ‘good per aval’ or ‘per aval for
the account of the drawee’, thereby guaranteeing the due payment obliga-
tions of the drawee (the buyer).In many developing countries, where guaranteed acceptances are most
common, such a guarantee, if issued by a larger domestic bank, could also
automatically include approval of transferring foreign currency out of t
country.In other cases such approvals have to be executed separately in the
form of a transfer guarantee, normally issued by the central bank.
Bonds, Guarantees and Standby Letters of Credit 92
Credit guarantee
This guarantee covers the contractual obligations of the borrower towards
a lender.In many countries the seller may have local subsidiaries or affiliate
without credit capacity of their own, and the credit guarantee will then support
credits from local banks to finance general activities or a specific
International rules for guarantees/standby L/Cs
The ICC has, for some time, tried to create a recognized and accepted
standard for trade-related guarantees in international trade, and has
issued common rules for contract guarantees, on-demand guarantees and
standby L/Cs.The rules for contract guarantees (Uniform Rules for Contract Guarantee
URCG, ICC 325E) were published in 1978 to curtail unfair or bad faith
demands by requiring, as a condition to payment, the presentation of a
judgement or arbitral-award or the written acknowledgment of the claim
and its amount by the defaulting party.Due to this disadvantage to the
beneficiary, the URCG has not been as successful as had been hoped, but
these rules are still relevant in the world trade practice.The rules for on-demand guarantees (Uniform Rules for Demand
Guarantees, URDG, ICC 758E, updated 2010) were originally introduced in 1991 as a consequence of the increased use of this form of guarantee.
These rules are adapted to the prevailing practice with the main purpose of strengthening the rules and guidelines for these guarantees and
reducing the risk of unfair calling, through stipulations that claims sh
be made in writing and supported by documentation showing the
circumstances motivating the claim.The revised 2010 rules contain
significant practical changes and new definitions and interpretation
greater clarity and precision on how the rules are to be applied.One of the main advantages of using a standby L/C is that it is supporte
by an internationally recognized and more commonly known set of rules
issued by the ICC (International Standby Practices, ISP98) with strong
similarities to the universally known Uniform Customs and Practice for
Documentary Credits (UCP 600).It is generally recommended that all bank guarantees and standby
L/Cs should be governed by one of these sets of rules, whenever possible
as shown in the examples in this chapter.The rules can be obtained from
banks or directly from the ICC,
The Handbook of International Trade and Finance 93
The credit guarantee could also apply to other facilities from local ban
ks, such
as overdrafts or credit lines for issuing of guarantees or L/Cs.The support
could also cover business obligations against parties other than banks, for
example the obligations of subsidiaries towards local main contractors o
insurance companies.The guarantee could, in fact, give cover to any third party in that country,
for example in connection with a request to a court to issue an injuncti
In all these cases, the guarantee will cover the obligations that the subsidiary
cannot cope with on its own merits.In some cases the credit guarantee may be replaced with more indirect
support towards the lender or any third party, in the form of a letter of support ,
letter of comfort or letter of awareness.These documents do not impose any
formal or legal obligations; rather they are forms of assurance on behal
f of
the issuer (often a parent or group company), declaring its knowledge of the
undertaking and that it will monitor the borrower in order for them to b
able to repay the loan or fulfil other obligations.Such letters are often
worded as follows:
Please be informed that we are aware of the business transaction/loan/
commitment ...entered into by our subsidiary/affiliated company/joint
venture ...We will assist/monitor the performance of the company/maintain our
shareholding/appoint members of the board during order for continue
their operations/to be able to meet their obligations/to honour their ob
To be on the safe side, in particular many larger companies insert an explicit
statement that such a document is not, and should not be regarded as,
a guarantee on behalf of the issuer, to protect them from any future legal
proceedings.Banks and other recipients of such letters will also be aware
of the limited legal value of these documents and will accept them as an alternative to guarantees only in cases where the supported party has a
standing of its own but needs additional security, or where the issuer is a
company of such a rating that its reputation and moral standing would be severely affected by a default.
Duty-exempt guarantee
This form of guarantee is often used at exhibitions, fairs or in connection
with installations or projects when machinery or equipment must be tempo
rarily brought into the country.By issuing this guarantee in favour of the local
customs authorities, customs duties are guaranteed should the equipment
not be taken out of the country within the specified period.
Bonds, Guarantees and Standby Letters of Credit 94
Letter of indemnity
This guarantee is issued upon request of the buyer and in favour of a th
party, for example a shipping company when the goods have arrived at
port but without the buyer having access to the necessary bill of lading
guarantee thus safeguards the shipping company from the risks and costs
involved by delivering the goods without presentation of this title docu
Demand guarantees
The most usual interpretation of a guarantee is that it becomes payable
when the issuing bank has verified that the principal has defaulted or
is in
breach of the contractual obligations, and that the beneficiary has suffered
a loss or damages as specified in a claim document, submitted together with
the demand for payment.This is the principle of a conditional guarantee,
related to the underlying commercial contract.In most cases it is usually clear if the principal has fulfilled the o
or not, and if payment should therefore be made under the guarantee.
However, sometimes this is not that easily established – the parties may have different versions of the events and the principal may simply instruct t
issuing bank not to effect payment under the guarantee.Such a claim could finally be settled in arbitration or end up in cour
t if
not agreed earlier by the parties.This procedure can take time, which further
acts to the disadvantage of the beneficiary since it may delay the fi
completion of the transaction and thereby the entire value of the contra
despite payments or other commitments having already been made.This
lack of perceived equality between the commercial parties has contribute
d to
the increased use of a form of guarantee with a much stronger position f
the beneficiary.In many countries, even within the OECD area, the beneficiary
often requests the guarantee to be issued ‘on demand’ or on ‘first demand’.
This guarantee is then payable on the first demand from the benefici
ary and
without prior approval by the principal, and without having to prove to
the issuing bank that a default has occurred.It is in that respect similar to
a bank cheque, which the beneficiary can cash in at any time during the
validity of the guarantee.This form of guarantee (also called simple demand
guarantee or unconditional guarantee) puts the beneficiary (usually
the buyer
in the case of exports) in a much stronger position.The risk of improper use,
or unfair or unwarranted calling as it is often known, will of course be much
higher, even if such events are probably relatively rare.
The Handbook of International Trade and Finance 95
Example of an advance payment guarantee issued by
a bank, not related to the underlying contract
(demand guarantee)
Messrs Polaris Communications Ltd
713 Road Salai
CHENNAY 63420, India
Guarantee No.318/XY
Between you as ‘buyer’ and Amrode Services Ltd, Box 3468, Melbourn
8073 as ‘supplier’, an agreement has been signed according to cont
HT4836 dated 25.01.16, regarding the supply of 575 Modulators model X/3, for a total contract amount of AUD 104,360.00The ‘supplier’ is entitled to receive an advance payment of AUD
20,872.00 according to the contract.We the undersigned bank, therefore,
hereby guarantee the repayment of the above advance payment on your
first written demand, supported by your written statement, stating tha
t the
‘supplier’ is in breach of their obligations under the above contr
act and
specifying the details of such breach.It is, however, a condition for claims and payments under this guarantee
that the above advance payment has been received in full on an account
with us in favour of the ‘supplier’.However, we shall not by reason of this undertaking be liable to
disburse more than in total AUD 20,872 (twenty thousand, eight hundred
and seventy-two Australian dollars only).This guarantee, issued under
Australian law and jurisdiction, is to be governed by ICC Uniform Rules
Demand Guarantees, URDG, ICC 758
* and remains in force until 25 November
2016, by which date (at the latest) your claims, if any, must have reached
us in writing in order to be valid against us.After expiry, this guarantee will
become null and void whether returned to us or not.
Melbourne, 15 March 2016
Australia Commercial Bank
Signature Signature
* This reference to the ICC rules should be included if acceptable to the buyer; see below,
‘Reducing the risks with demand guarantees’.
Bonds, Guarantees and Standby Letters of Credit 96
An example of a performance bond issued on the back
of a counter-guarantee, made on demand by the local
issuing bank
Whereas our bank stands as joint and several surety for the debtor and a
joint and several co-debtor for the definite guarantee fund of USD 150
(one hundred and fifty thousand US dollars), which the below-mention
contractor is obliged to arrange, in order to ensure full performance of the contract 347 of 20 February 2016 between Shirat Shipyard Co, PO Box
29031, 02451 Istanbul (the ‘buyer’) and the ‘contractor’ M
ajestic Lift
Machinery, PO Box 3465, Mumbai 60312, concerning delivery and
installation of three heavy lift transportation systems.We hereby undertake and state, on behalf of the bank, and as responsible
representatives with full power to affix our signature that, in the ev
ent our
bank is notified in writing by the ‘buyer’ that the contractor h
as violated the
provisions of the contract and/or has failed to perform his undertakings completely or partially, the amount under surety will be paid in cash and in
full, immediately and without delay to the ‘buyer’ or their order, upon their
first written request, without the need to resort to any legal procedu
re or to
issue a protest or to obtain a court order or the ‘contractor’s’ consent.This bond has been issued upon the counter-guarantee of India Trade
Bank Ltd, Mumbai (NO 18346), dated 19 March 2016.
Ankara, March 28th, 2016
Abdul Mohar Akram R.Salidi
1 The wording is mostly set according to the standards of the issuing
bank, based on local custom and/or legal requirements.
2 The on-demand character of the bond is only too obvious, even
underlining the rights of the buyer and the lack of rights for the selle
3 The text contains no reference to validity or other limitation in time, and the bond may, therefore, continue to be in force under local law
until it has been returned to the issuing bank.There is also no referen
to applicable law, jurisdiction or any of the ICC rules.
The Handbook of International Trade and Finance 97
A major disadvantage of a demand guarantee (from the principal/seller’
perspective) is not just the risk of unfair calling, but also that such a guaran-
tee will automatically put the buyer in a stronger contractual bargainin
position than might originally have been intended.During the life of the
contract, and if and when disputes or other discussions arise between the
parties, the buyer always has the option to call on the guarantee; even with-
out ever doing so, the seller will be aware of the potential threat and the
advantage that gives to the buyer.Finally, it should be noted that once payment has been made under a
demand guarantee it can be difficult for the seller to get such paymen
repaid, if not agreed with the buyer and then on their terms.The buyer will
perhaps not be willing to take part in any arbitration or court proceedi
even if stipulated in the contract – and even if the seller is proven
right in the
end, that does not in itself guarantee repayment.
Reducing the risks with demand guarantees
In situations where the principal is unable to avoid issuing a demand gu
tee, there are some measures that can be taken to help reduce the real risk of unfair callings.Since contract bonds/guarantees are an integral part of
the terms of payment in the contract, such risks can often be covered by
separate insurance, a ‘bond insurance policy’, which may be issued either as
market insurance for shorter periods, often called bond/guarantee indemnity
insurance, or for longer periods and more risky countries also by the export
credit agency in the seller’s country.This is explained in more detail in
Chapter 5.The ‘unfair calling’ cover under the insurance protects the seller sho
the buyer’s demand in itself be unfair, but the calling could also be ‘fair’ from
the buyer’s perspective, but where the non-fulfilment is or may be due to
political events in that country, effectively hindering the seller performing,
for example through revoked or changed official approvals or permissio
or by many other reasons of a political nature.The principal could also try to find a compromise between the two basi
forms of guarantee, for example, by agreeing in principle to a demand guarantee,
Bonds, Guarantees and Standby Letters of Credit 98
but only together with some form of descriptive documentation to support any claim, according to ICC rules, as shown in the above example.Even if
the beneficiary will not accept an explicit reference to these rules, an alterna-
tive clause could be worded as follows:
The demand for payment must be accompanied by your written statement tha
the principal is in breach of its contractual obligations and specify wh
en and in
which respect/s such breaches have occurred.
Even though such wording does not change the general nature of the deman
guarantee and the right for the beneficiary to claim under it, it could act as
a certain deterrent against potential unfair claims.It could also somewhat
strengthen the position of the principal not only during the period of t
contract, but also later on when trying to recover any amount unduly paid
under the guarantee.The ICC has issued a booklet, Guide to ICC Uniform
Rules for Demand Guarantees, URDG 758, containing explanation of the
rules and the way they are to be interpreted and applied.
standby letters of credit
The standby L/C originated in the United States and has been widely used instead of guarantees by US banks for many years, mainly due to both legal
and practical reasons, but is now recognized and used worldwide.
Standby L/Cs can be used to support payments, both when due and after
default, in cases of repayments of money loaned and advanced, or upon
the occurrence or non-occurrence of an event in relation to financial
commercial transactions.The standby L/C is commonly described according
to its purpose, often in the same terms as, for example, a contract guarantee,
with the wording ‘performance standby’, ‘advance payment standby’ or
‘bid bond/tender bond standby’.It could also be referred to as a ‘commercial
standby’ and be an alternative to a payment guarantee, covering the obliga-
tions of the buyer to pay for goods or services.
The Handbook of International Trade and Finance 99
The standby L/C could in most cases also be used by the principal as a
strong alternative to demand guarantees, since the standby L/Cs are normally
governed by their established and well-known ICC rules, thereby reducing
some of the uncertainties that otherwise would be attached to the demand guarantees.(The standby L/C can of course also be used instead of a condi-
tional guarantee; it is only a matter of its wording.) The structure of the standby L/C is relatively similar to that of ordina
commercial L/Cs, which is one reason why the corresponding ICC rules are
still more widely known and accepted than those for demand guarantees.
This might also make it easier for the principal, often the seller, to be able
to agree with the buyer to have a standby L/C issued instead of a demand guarantee.The general advantages for the principal, but often also for the beneficiary,
of having the undertaking governed by the ICC rules of the standby L/C a
as follows:

●it has a defined terminology, but also gives examples of undesirable
expressions that should be disregarded;

●it contains strict obligations for the issuing bank as to how to issue t
standby and amendments, if any;

●it contains rules for presentation and examination of documents,
partial drawing and multiple presentations;

●it contains rules on termination and cancellation, among others the
issuer’s discretion regarding a decision to cancel;

●it has a defined duration and must either have a fixed expiry date o
permit the issuing bank to terminate the standby upon reasonable prior
notice or payment.
The standby L/C also requires some form of statement or certificate as evidence of a default, and such documentation should at least contain:
1 a representation to the effect that payment is due because an event
described in the standby L/C has occurred;
2 a date indicating when the statement was issued; and
3 the beneficiary’s signature.
The standby L/C should be subject to the ICC rules ISP98, which are specially
designed for standby L/Cs, or alternatively but less common, to the extent
where they may be applicable, to the rules of an ordinary commercial L/C
Bonds, Guarantees and Standby Letters of Credit 10 0
(UCP 600).It is often made payable at sight at the advising bank in the
beneficiary’s country, against document(s) that the parties have agreed upon.
Even if they cannot agree on any other documents, payment will only be
made against at least the presentation of the above documentation.
The structure and design of guarantees
The practical structure and design of the guarantee or the standby L/C should
be governed by the underlying commercial contract, its character, size and
the structure of its terms of payment in general, but also with necessary regard
to local practices.All these factors combined will determine the final structure
and wording, but all guarantees, demand, conditional or standby L/Cs, issued
directly or through an advising or instructing bank, should contain at least
the following information:

●contract parties and the underlying commercial contract;

●the purpose of the guarantee and what it should cover;

●currency and maximum amount;

●time of validity and expiry date, if possible;

●last date when claims, if any, are to be presented;

●if and when supporting documentation should be presented;

●reference to the relevant ICC rules, whenever possible;

●the applicable law governing the guarantee.
Some of these points are of special importance and are commented on belo
Jurisdiction and applicable law
Commercial parties have the freedom to choose the applicable law, which
does not necessarily have to be the same for both the commercial contrac
and the guarantee, even if it is to the advantage of both parties to use the
same legal framework, which is almost always the case.Thus all guarantees
should have a clear reference to applicable law and jurisdiction.The question of governing law is a critical and particularly complex iss
in international trade, with local laws based on different systems (for example
common law in Anglo-Saxon countries, continental law and Islamic law),
but this matter is outside the scope of this handbook.However, if nothing is
The Handbook of International Trade and Finance 101
agreed, the law of the provider (the issuing bank) should generally apply
according to the rules of the Rome Convention, but local law or practice
could undermine even that principle in many countries.When referring to contract guarantees in particular, the general advice is
that the parties should agree to use the law and jurisdiction of the pro
of the guarantee, as long as that country has a legal system that is inter -
nationally recognized and thereby should be acceptable to both parties.But
even then, and particularly in the case of guarantees issued by local banks
when the provider of the guarantee is that bank, the guarantee will normally
be governed by the law of that country, irrespective of the instructions
from the instructing bank.
Commencement and expiry dates
An important factor to consider is when the obligation comes into effect
A performance guarantee, for example, should not be operative until the
buyer has fulfilled their corresponding obligations (ie not only to h
ave an
L/C issued but also its details approved by the seller) or that the adv
payment is paid and all legal requirements and approvals are met.Other stipulations could be that it should come into effect simultaneous
with some other contractual event, for example a warranty guarantee that
only becomes valid upon the return of a performance guarantee.The expiry
date is equally important.Whenever possible a guarantee should expire
on a specific calendar date, but it is worth noting that the rules governing
expiry dates differ depending on laws and practices in different countri
es.However, sometimes the parties cannot agree on a specific expiry date,
perhaps owing to uncertainty about the date of delivery or completion.
In such cases, the guarantee could be limited in time in relation to some
other document, for example the shipping document, an approved test
certificate or simply the issuing of another guarantee that is time li
(eg a performance guarantee to be replaced by a separate warranty guara
with a fixed maturity).In some countries the law prohibits time restrictions for guarantees
but other rules may apply, for example that they will continue to be valid
until the actual guarantee document is actually returned to the issuing bank,
regardless of any specified time of validity.Many local issuing banks do
not accept time limitations on a counter-guarantee, and to make it even
more complicated, in some countries it is possible under local law to present
a valid claim even after expiry if it could be argued that the event cau
Bonds, Guarantees and Standby Letters of Credit 10 2
the claim took place or had its origin within the period of its validity
such cases, the only way to release the instructing bank and the principal is
through a confirmation to that effect from the issuing bank.Regarding both conditional and, in particular, demand guarantees, where
the beneficiary has a stronger position, it is quite common for a demand for
an extension of the guarantee (extend or pay) to be forwarded to the i
bank.If the guarantee is of a conditional type, that has to be part of a nego-
tiation with the principal, but with a demand guarantee such a request is
basically at the sole discretion of the beneficiary.The risk for the principal (usually the seller) could also be lessened through some form of reduction of the outstanding amount during the
period of its validity.For instance, the guarantee could contain reduction
clauses that automatically reduce the maximum amount of the guarantee
in line with specified events of due fulfilment of the contract, or against
presentation of copies of the shipping documents.A reduction clause could
read as follows:
Our liability under this undertaking shall not exceed in aggregate USD .
and shall be automatically reduced by x per cent of the contract price o
each delivery performed under the contract and the production to us by t
company of a copy of a signed certificate of acceptance (or copy of t
he shipping
documents) shall be conclusive evidence for this purpose.
The above uncertainties that can affect a bank guarantee, particularly if
issued by a local bank in a country with a higher political risk structure,
could be yet another reason for the principal (normally the seller) to use a
standby L/C instead of a guarantee, if such an agreement can be reached
with the buyer.
Summary and final comments on trade-related

●Banks normally request collateral for issuing guarantees and standby
L/Cs, either under existing limits or under separate credit approvals, and
the principal should know at an early stage what demands the issuing
bank may have.Additional collateral and higher bank charges may also
be requested for a demand guarantee, which usually carries a higher risk
since the beneficiary may extend the expiry date (extend or pay).
The Handbook of International Trade and Finance 10 3

●Bonds/guarantees issued by insurance companies covering the undertaking
of the seller may also be used as an alternative to guarantees issued by banks.Such undertakings have the advantage of normally being issued
only on the strength of the balance sheet of the seller; therefore not
affecting existing bank lines, improving cash flow and thereby contribute
to a more effective use of working capital.

●The guarantees should, as far as possible, be related to the underlying
contract or have a reference to the contract (even if the guarantee is
demand).If it is to be issued by a local bank in the buyer’s country, the
exact wording should whenever possible be agreed in advance and be
included in the contract.

●Whenever the buyer requests a demand guarantee, the seller should try to
make such approval conditional on using ICC rules for demand guarantees
or, alternatively, try to get the buyer to agree to a standby L/C with
reference to its ICC rules.

●Finally, the beneficiary under a guarantee should always have inserted in
the contract the name of the guarantee-issuing bank in order to be able
make a proper evaluation of the commercial and political risk on that
bank, or any other issuing party, and their country.This also includes the
wording, which may then be interpreted according to the law and practice
in the buyer’s country if nothing else is specified.
Bonds, Guarantees and Standby Letters of Credit 10 4
Currency risk
Currency risk
Since the early 1970s, when the system of fixed currency rates finally collapsed,
exchange rates between most countries have more or less floated.The possi-
bility of coordinating alternative exchange systems along with the political
ambition to do so has decreased over time, based on the realization that
currency cooperation, in any meaningful sense, depends on close economic
and financial cooperation.
Against this background most countries have chosen to deal with the
relation between their own and other currencies and the corresponding
currency exchange mechanism in their own way.The most common ways

●Allowing the currency to float freely on the currency market, even though
this is sometimes limited through central bank market interventions or
changes of interest rates, with or without the intention of moving the
exchange rate in a certain direction.This is the case with most currencies
used in international trade today.

●Allowing various exchange rates for different types of transactions, often
a fixed or controlled rate for commercial transactions and a floatin
g rate
for financial transactions.This system was occasionally used in the past
to create stable trading conditions, but it has been difficult to control and
is not used today for any of the major currencies.

●Close cooperation with some specific currency but allowing free floa
against others.One example is the Danish krone (DKK), which presently
moves within a defined interval against the euro, but freely against other

●Pegging the currency to internally constructed trade-weighted currency
baskets, either openly or secretly; both alternatives are relatively common
among developing or emerging market currencies; see below.
10 5 10 6

●Pegging the currency, officially or unofficially, to a base currency, often
USD, which is the case for many currencies in the Middle East, Asia and
South America.
Pegging directly to other currencies may be a risky business in the long
if the underlying economic development is different between the countrie
involved, and could trigger sudden currency disturbances when the pegging
collapses or is mistrusted by the markets.Such events could be dramatic, not
only as a potential currency risk, but also because they can disturb the entire
trade system and the whole economy of the country.
The euro (EUR)
The euro (EUR) was introduced in 1999 and is now the currency of 19 ou
t of
the 28 European Union (EU) states.It floats freely against other cu
which from a company perspective makes the currency risk similar to that of any other currency.
Despite increasing problems related to the diverging economic situation
and the sovereign-debt crises in individual member states, the importanc
of the euro zone as a trade area makes the euro an important invoicing
currency for many importing and exporting companies around the world.
It makes price comparisons easier and increases competition, which will
affect the choice of currency in offers and tenders and will, in the lon
term, also have repercussions on investment and production decisions,
not only within the euro zone itself.Even transactions between companies outside the euro zone may take
place in EUR as part of larger trade contracts or as a method of balanci
outstanding currency risks and minimizing transaction costs.
The Handbook of International Trade and Finance Currency risk Management 10 7
The Hong Kong dollar, which is the official currency of Hong Kong, has
been pegged to the US dollar since 1983 without any problem.This has been
done through a special currency board system, where the authorized local
issuing banks are allowed to issue Hong Kong dollars only if they have t
equivalent exchange in US dollars on deposit.This ensures the strongest
possible pegging system with the whole monetary base backed with US
dollars at the linked exchange rate/band.Since 2005, the yuan, which is the official currency unit used in the
mainland of China, has been pegged to a trade-weighted basket of foreign
currencies, rather than being tied to the US dollar alone.It trades within
a narrow band against this basket of currencies, where the exact composi-
tion and weighting are unknown by the market but strongly controlled and managed by the authorities.But generally, fixed pegging to another currency seems only to work
smoothly and without friction in a pure market system and over longer
periods, if based on similar economic development and strong commercial
integration between the countries involved.The currencies mentioned so far are mainly ‘convertible currencies’.
This means that they can easily be exchanged for other ‘hard currencies’
in an existing unrestricted and effective currency market.All currencies
in the industrialized countries, but also many from the emerging market
countries, are convertible in this sense.However, the ‘hard currencies’ are
often defined as those forming the reserve currency basket used by the IMF, the International Monetary Fund, that is USD, GBP, JPY, EUR and
CNY (the yuan).Other currencies (not least from the developing countries) are general
perceived as politically or economically unstable, or under constant converti-
bility risk owing to currency restrictions and/or exchange controls with
the country.Such currencies are, in practice, non-convertible and not traded
on the major currency markets.If they are traded (often unofficially or in
local currency trade only), or exchanged in single transactions, such trades
are mostly subject to discounts, high volatility or other drawbacks.Many
of these currencies are frequently used in regional trade, but they have
a very small share of the world market, in particular in trade with the
industrialized countries.10 8
The currency markets
The currency market does not operate at any single exchange.Trading in
foreign exchange occurs 24 hours a day – and as the day progresses, different
banks are constantly on- and off-line.For example, as the European trading
day comes to a close, trading in the United States is already under way.
Likewise at the end of the US trading day, banks in Asia-Pacific are already
open and trading.Hence, large corporations and multinational banks
simply pass their currency positions or foreign exchange (FX) orders a
the globe to be monitored or executed as and when required.Furthermore, extensive interbank trading among the larger international
banks provides liquidity for everyone involved in foreign exchange, where
the bank’s clients include the corporate sector, central banks, brokers, hedge
funds, insurance companies and private individuals.All these transactions
represent a large trading activity; it is estimated that the daily avera
turnover of the FX market amounts to more than USD 5 trillion.
The spot market
The spot rate is the rate at which a foreign exchange trade can be imme-
diately transacted.Most currency pairs exchanged will then be settled two
business days later (T+2).If required, trades can also be settled on a dif-
ferent and later date; however, then a forward rate is agreed, described in
detail below.The reasons for transactions in the spot market could be:

●to settle a commercial transaction through buying or selling local

●to settle a financial operation (eg transferring a loan in foreign cu
to local currency or buying foreign currency for interest payments and

●to balance or hedge an unwanted position in foreign currency; or

●to increase/decrease a currency position as a speculative move owing to
expected future currency movements.
The Handbook of International Trade and Finance Currency risk Management 10 9
The spot trade
Currencies are normally quoted against the USD in the interbank market, so
called direct trading, even if nowadays most non-EUR European currencies
are also traded directly against the EUR.A currency table in January 2016 could look as follows for some major
currency pairs:
EUR/USD 1.0834 – 1.0835
USD/JPY 117.65 – 117.67
USD/CAD 1.4501 – 1.4504
The quotation is the banks’ buy and sell (respectively) spot exchan
ge rate
for one currency unit, expressed in the number of units in the other currency.
The difference is the spread, which varies between currency pairs.However, for some currency pairs, the USD is not the base currency but
the counter currency, for example EUR as shown above, but also GBP and
some Commonwealth currencies, for example the Australian dollar.When one currency is traded against any currency other than (in most
cases) the USD, the market rate for that currency pair is called a cross-rate.
Although the USD does not appear in the cross-rate itself, its value against
both the other currencies in the cross-rate pair must be known as being
of the calculation.This can be seen from the following example, where the
cross-rate for a smaller currency like the Swedish krona is obtained in
following way:
Spot market exchange rates: USD/SEK = 8.5477 – 8.5512
USD/SGD = 1.4385 – 1.4392
Cross-rate: SEK/SGD =
8.5512 – 1.4392
8.5477 = 0.1682 – 0.1684
Or calculated in the same way but inversely, SGD/SEK = 5.9392 – 5.9445,
showing in this case the value of 1 SGD expressed in units of SEK.The
spread in the interbank market, expressed as points or ‘pips’, is the 1/10,000-
share of a unit of the currency.For major currency pairs it is usually within
a few points.For less traded currency pairs it can be much larger, and the
spread also tends to increase in an environment of falling liquidity and market disruptions.The spread towards customers is mostly considerably
larger than in the interbank trade to account for a bank’s trading profit, in 110
particular when calculating cross-rates, even though larger companies with
frequent trading in volume may trade at a rate that is close to, if not at, the
interbank rate.The exchange rates towards the customers are normally quoted in one
or in one hundred units of the currency, plus the applicable margin in each
case, depending on currency, amount, competition and customer relationship.
Just to illustrate, assume that a Singapore exporter sells goods to a Swedish
buyer, and that even if they would prefer their own currency or a neutral
trade currency like the USD, they quote in SEK to neutralize local competi-
tion.They decide for some reason not to hedge the incoming currency, so
when their bank receives the SEK, it uses the two prevailing USD spot
market exchange rates for SEK and SGD at that time, as shown above.The
bank’s buy cross-rate for 1 SGD with 2 decimals is 5.94 SEK, and with the
applicable margin, the exchange rate against their customer may be reduced
to something like 5.82, depending on volume and other factors.That SGD
amount is then credited to the customer’s local bank account normally two
banking days thereafter (T+2).
Currency information
The banks publish currency rates on a daily basis for the most commonly
used currencies (as do most financial newspapers).However, these are by
definition historical and are, in most cases, so-called ‘fixing rates’, estab-
lished at about 11.00 or 12.00 local time during the day.For more current
information, the customer must turn to their bank.Most banks have special
customer desks within their trading teams, which give current currency
information and advice as well as processing customer transactions.The
rates they quote give a more accurate picture of the market at that part
time during the day.For larger amounts, it might also be beneficial to check
with more than one bank but it must be done at almost exactly the same
time to get a fair comparison.Many larger banks have their own internet-based payment and currency
information systems, where their customers can make payments and also
get account and currency information to their own terminal.This informa-
tion is constantly updated during the day, although not in real time.More up-to-date currency information can also be obtained through
some suppliers, delivering true real-time currency information.These systems,
such as EBS and Thomson Reuters are based on a constant currency updat-
ing by banks and brokers, which use these systems as a tool to promote
The Handbook of International Trade and Finance Currency risk Management 111
their own quotations and trading teams in this market.These systems give
the customer information almost as fast as within the banks themselves,
as a base for a more profitable currency trading of their own and/or f
or more
effective management of their currency positions.These currency informa-
tion systems are now widespread, not only among financial institutions, but
also among traders and larger corporations.
The forward market
Currencies traded for settlement on a day later than T+2 are traded at the
forward rate.The forward contract creates an obligation between a bank
and its customer to exchange a fixed amount of one currency for a seco
currency at an agreed rate and date.The settlement date can be any business
day and it is not unknown for forward agreements to stretch a number of
years.The reasons for using a forward transaction could be the same as for a
spot transaction: to settle a commercial or a financial transaction, to balance
a currency position or as speculation, but with the difference that the settle-
ment is at a future date.
Determination of forward rates
Forward rates are usually available in most currencies that can be traded
in the interbank spot market.However, the trading in interbank forward
rates is somewhat different since these rates are, between the banks, not
quoted as real currency rates but as differences from the spot rates, so-called
‘forward points’, reflecting the currencies involved and their respective
interest rates and the length of the period.The forward point differential
in each deal forms a contract in the form of a currency swap, where the
banks agree to exchange a fixed amount of one currency for another cur
at spot rates, and after a specified time reverse the transaction at forward
rates determined by the same spot rate adjusted by the point differentia
originally agreed in the currency swap.The advantage with this trading system is obvious: forward points are
easier to compare over different periods, they are more stable over time and
are not changed automatically with the spot rates, which are constantly
changing.These forward points can then easily be converted to ordinary
currency rates when quoted to a customer outside the interbank market.
The forward points are simply added to or subtracted from the spot 11 2
rate, according to whether the values are positive (higher offer than bid
points) or negative (higher bid than offer points).This will give the forward
exchange rates, also often called ‘outright forward rates’.For example, if
the USD/SGD interbank spot rate is 1.4385 – 1.4392 and the three-mont
currency swap rate is 24 – 9, which indicate a very small difference in
interest rates for that period, then the three-month outright forward rate
is 1.4361 – 1.4383.The forward points as well as forward currency rates in general are basi
cally determined by the interest rate differential between the two curre
involved.This can also be explained as follows, since a future exchange rate
can always be established in another but more complicated way.Presume
that a Singapore exporter is expecting an incoming payment in USD in thr
months’ time but wants to cover the exchange risk in this alternative
Instead of doing a forward contract, they borrow USD on the market and
exchange it into SGD at the same time at the prevailing USD/SGD spot rat
The borrowed USD amount will carry a cost determined by the USD interest rate for the period until it is repaid at the due date through the incom
export payment.However, the SGD amount received by the spot exchange
will have a corresponding interest revenue for the same period, determined
by the SGD interest rate, and this interest rate differential is the real cost
(or revenue) for this way of hedging the export transaction.This interest differential between the two currencies, which can be both
positive and negative, could then easily be recalculated into a set of forward
points or into outright forward rates as described above.The interest rates
involved are thus the basis for any forward currency rate, but the system
with currency swap rates used by the banks is the only system simple eno
to create constant interbank trading.But the background is nevertheless the
same in relation to the spot rate: the forward rate is obtained by addin
subtracting the difference between the borrowing and the lending interes
rates for the two currencies up until the due date.Forward currency rates are thus not based on what banks ‘expect’ them
to be, but based on the interest rates of the involved currencies, as estab-
lished on the free and unregulated international money markets.However,
interest rates themselves are influenced by a number of external facto
such as expectations about future interest rate movements or by new or
changing economic or political facts or expectations.In such cases the
market participants tend to act accordingly and in a more one-sided dire
with an upward or downward pressure on interest rates and consequently
on the forward currency exchange rates as well.
The Handbook of International Trade and Finance Currency risk Management 11 3
Currency exposure
As can be seen from most charts and surveys, currency movements have
been relatively volatile in recent years, making currency exposure an even
more important aspect in international trade, as well as foreign investments,
particularly if the currency risk is outstanding for longer periods.Even for
those currencies that are stable over a longer time span this is no prot
when it comes to new transactions, primarily for two reasons.First, a historical perspective can never be taken as proof for future
currency development, particularly when past development has been strong
and a correction might be more likely.Second, it is quite usual that these
long-term trends are quite opposite to the short-term development, and it
is this short-term trend that is more important when evaluating the risk aspects of most trade transactions.It is the actual exchange rate that is
relevant, whether this is established through a spot or forward transaction.To evaluate currency risks, every company must know what types of risk
may occur and to decide what risks should be covered in that particular
case.Currency fluctuations affect the company in three different ways:

●by creating financial mismatches, described as Balance exposure below;

●by changing the value in local currency of foreign sales, described as
Payment exposure below;

●by altering the competitive situation and the behaviour of competitors,
described as Competition exposure below.
Balance and Payment exposure mostly have a direct currency effect on the
company and are often called ‘translation or accounting exposure’, whereas
Competitive exposure often has a more indirect currency effect.Balance exposure is, in principle, an accounting risk, which may appear
in the company’s books when consolidating foreign assets.When assets and
liabilities are converted into the consolidated accounts of the group fo
accounting purposes, these figures will be calculated at different exchange
rates, and might then give a distorted picture of the real value of the assets
For example, assets which are financed through a foreign currency loan are
normally included in the consolidated statements at the acquisition rate
whereas the corresponding loan is valued at the higher of the acquisitio
n rate
and the rate when closing the accounts.Therefore, moving exchange rates 11 4
will always have an effect on the accounts of the business, either positively
or negatively.However, these exchange adjustments may be inaccurate
if they do not reflect the true value of the assets and are not in themselves
accompanied by any cash-flow consequences until they are realized as a profit or loss.Payment exposure, on the other hand, involves the flow of payments in
foreign currencies, within the parent company and its subsidiaries, in con-
nection with sales and purchases of goods and services, interest payments
and dividends, etc.This currency exposure is real and realized when the
transactions occur, and the effective exchange rates instantly affect the cash
flow of the company and the operating result of the group.In the following
text, we will deal with payment exposure only, since this is related to trade
transactions.Competitive exposure on the other hand is the least predictable con-
sequence of larger currency moves, in particular when lasting for longer
periods.At first it shows as a payment exposure insofar as it almost instantly increases or decreases the amount in local currency of actual transactio
but after a while long-term changes may take hold, not least for larger cor -
porations with production or production possibilities in different count
Competitors with local production can quickly get a competitive long-ter
advantage against competitors with stronger currencies, prompting others
to move part of their production abroad.Smaller or medium-sized companies, often with local production, do not
have the same option and are referred more to traditional ways of intern
cost-cutting and hedging currency risks as described later in this chapt
However, such hedges are in reality limited in time and cannot in themselves
cover larger currency movements over longer periods.Most companies have different attitudes to currency exposure, depending
on factors such as currency volumes, its composition over time and what
currencies are involved.Even the attitude towards risk within the company
is important, as laid down in its general financial strategy.Often you will
find one of the following three main alternatives when dealing with
currency risks:
1 To try to keep the currency exposure as low as possible at all times and
to cover the risks systematically as they occur, in order to minimize the
overall currency risk.
2 To aim at a selective coverage to keep the currency exposure within
specified limits set by the company.The most common ways of achieving
The Handbook of International Trade and Finance Currency risk Management 11 5
this are covering only certain currencies, only amounts above certain
limits, only exposure over certain periods of time or to use some form of
proportionate coverage.A combination of these alternatives is most often
3 Not to cover the exposure at all, an alternative which may be chosen
when the volumes and the outstanding exposure are small in comparison
with the total business of the company, perhaps in combination with
past experience about the strength of their own currency.
Most companies use one of the first two alternatives, as is described at the
end of this chapter, actively trying to limit or minimize the currency risks
involved in their business.
Currency position schedule
Before any hedging of currency risks can take place, the company must first
get a broader overall picture of the company’s present and future currency
risks (ie proportions, currency, volume, timing and if they are ‘firm’ or
‘anticipated’).This must be done within the framework of a comprehensive
set of rules and guidelines on currency risk management specific to ea
company.If such management covers several units, for example foreign subsidiaries,
the schedule must be such that each unit’s position could be monitored while
at the same time they are aggregated to a grand total.However, in many
companies it is common practice to strip the subsidiaries from exchange
risks as far as possible or to have them covered internally within the g
in order to concentrate all currency risks to the finance department of the
parent company.By using a rolling position schedule for each currency (eg on a daily,
weekly or monthly basis, as shown below), the company will get a fair
picture of future currency flows and a good background as to how to he
the net positions.(Please note that the schedule is for illustration purposes
only; in practice they are usually computerized with much higher sophist
ation.) To make these positions as reliable as possible for management, they
should include not only known inflows and outflows but also outstand
offers or tenders together with other less certain transactions (often
brackets) in order to update the positions over time.This is illustrated in the
example in Table 4.1, and how this can be achieved in practice is shown
at the end of this chapter.11 6
Table 4.1 Practical example of a currency position schedule
Currency position in USD (000s)
INCOMING Week No.202122 232425
Currency invoices, due
1 185 20 1.20070200
Currency account assets 5030
Currency overdrafts
Other liquid currency assets
Firm contracts, not delivered
2 150 120
Firm offers outstanding
3 (100)
% additional sales (recalc.)
4 (200)
Others 3050
TOTAL INCOMING 38550 1.280190
(490) 200
Unpaid invoices
5 17 0 30 300
Currency loans
6 1.200
Accepted offers
Other outgoings
TOTAL OUTGOING 170301.200 300
NET +385–120–30 +80+190
(+490) – 10 0
HEDGED –200–50+ 10 –150+50
7 +185 –170–20+80 +40
(340) –50
Incoming payments should be based on earlier experience, and rather too late than too early for
slow payers or uncertain countries.Should the payment arrive earlier th
an expected, it could always
be converted into the base currency or placed as an interest-bearing deposit until used.
2 Same as above to a higher degree, based on the uncertainty of shipment date.
3 Firm offers or tenders must be within brackets until acceptance.
4 Many companies with a stable flow of export earnings over time often use a rolling system where
a certain percentage of expected but not yet contracted earnings are included in the schedule.
This is described in more detail below in ‘Practical currency management’.
5 Unsettled outgoing payments are easier to calculate and can often be paid somewhat later than
scheduled, but also earlier if a rebate can be achieved.
6 Loans in foreign currencies are sometimes used to hedge future export earnings as an alternative
to a forward contract.
7 The risk exposure should be reasonably balanced over time, but not necessarily at all times if the
balance fluctuates around an acceptable average exposure level.
The Handbook of International Trade and Finance Currency risk Management 11 7
Hedging currency risks
The most common methods of hedging currency exposure are as follows;
in practice, mostly as a combination of these alternatives:

●choice of invoicing currency;

●currency steering;

●payments brought forward;

●forward currency contracts;

●currency options;

●short-term currency loans;

●currency clauses;

●tender exchange rate insurance.
The alternatives are described below, mostly from the perspective of the
exporter in order to simplify the text, but the conclusions are just as valid
for the importer.
Choice of invoicing currency
Three different types of currency can be involved in any cross-border tr
1 the seller’s currency;
2 the buyer’s currency, if it is a common convertible currency;
3 a third country currency, often USD.
If not easily agreed at an early stage, the relative market position of the
various currencies, along with the competitive situation, will often decide
the final choice of currency.If the buyer has a strong and well-known
currency, this will facilitate the seller’s decision to agree to that currency as
a base for the contract – even if the preferred choice was their own
However, the seller should, for obvious reasons, be careful about using
currencies other than those commonly used in international trade.Invoicing in their own currency is the easiest way for the seller to eli
nate the currency risk, provided that they have their basic cost structure in
that currency.On the other hand, it transfers the currency risk to the buyer,
which could make it more difficult for them to evaluate the profitab
of the transaction and may increase the risk for the seller of not getti
ng 11 8
the business, particularly if the buyer receives other, more competitive offers
in their own currency.In many overseas markets it is therefore very common to use a third-
party currency, often the USD.This is particularly the case if the local currency
is officially or unofficially pegged to that currency, or if it is so widely
used in the country that invoicing in USD has become normal practice.This
is also the case within many business areas, such as energy, raw material,
agricultural products, defence materials, shipping and aircraft, as well as
within many service areas such as trading, insurance and transport.It may,
therefore, often make commercial sense to accept invoicing in foreign cur -
rency if the seller can evaluate the currency risk and hedge it.The questions
to consider are:

●Is the invoicing currency freely convertible and actively traded?

●Does it have the trading volumes needed to give it market stability?

●Is it stable in the interbank markets for loans and deposits?

●Is the forward market working properly for the volumes and time periods
that may be applicable to the transaction?
Currency steering
In some cases the company can influence or manage their own currency
position, particularly if having both incoming and outgoing payments in
the same currency.It may then be possible to match parts of the payment
flows through the choice of currency.If this is possible, the company may
use one or more currency accounts for that purpose.Such accounts can be
opened with most banks and used like any other account, including the
use of overdrafts (see Figure 4.1).How such currency accounts are used in practice is part of the overall
currency management within the company, together with the structure
of the currency flows and the interest rates that can be obtained for
loans and deposits.These aspects will also decide whether to keep balances
on currency accounts for shorter or longer periods or to transfer them b
into the base currency account.
Payments brought forward
It is always advantageous for the seller to persuade the buyer to agree
an earlier payment from a liquidity point of view but also to reduce the The Handbook of International Trade and Finance Currency risk Management 11 9
currency risk if invoicing in a foreign currency.However, the buyer will
almost certainly see such premature payments as a corresponding dis-
advantage unless they can gain some other concession from the seller.For
ordinary transactions with a short time span such premature payments,
compared to what is considered normal practice, will therefore seldom be
agreed.When it comes to larger transactions and periods longer than ordinary
open account terms, and in foreign currency, the question could be more
important.The seller could then try to agree with the buyer to divide the
payment into part-payments (as is shown in Chapter 8).Such an agreement
will often contain at least some prepayment together with the main part-
payment at delivery, even if the seller also has to arrange for a payment
guarantee in favour of the buyer, covering any pre-delivery payments.
Figure 4.1 Summary of the use of currency accounts
payments Interest-bearing
deposits Currency accountoverdraft facility
Transfer into local currency
The seller could also act internally within the company to ensure an ear
receipt of payments, for example by more prompt deliveries, sending the
invoice and having all the documentation ready for presentation at the b
immediately upon shipment, and then having an effective system in place for
tight credit control.These aspects, together with the right choice of terms of payment at the
outset, are some of the most important steps the seller can take on their
own, both as a method to make the currency schedule more precise and
minimize the currency risks involved, but also as part of effective cash
Forward currency contracts
The most commonly used method of hedging currency risks is through a
forward contract with a bank, whereby the company can fix the value in
local currency at an early stage but with delivery of the foreign curren
cy at
a later date.Through the forward contract, the company agrees with the bank to
sell or to buy the invoiced currency at a certain rate with a fixed de
date.This forward rate may be higher or lower than the spot rate at that
time, but it is not what the bank expects it to be at the due date, but mainly
a function of the interest levels of the two currencies for the period i
question, plus the bank’s margin, as described earlier.A forward contract can be issued in one or more parts with separate
maturities and due dates, in order to match the payment flows or to hedge
the total risk balance.But it is a fixed agreement with the bank and should
normally be done only when the underlying contract is signed and/or when payment can be anticipated with some accuracy.If that is not the case –
if the payment may be delayed or in the worst case not take place at all
– the
company may end up with a new currency risk when having to honour
the forward contract with the bank.If in such cases the company cannot
use the contract for any other purpose, the bank must be contacted for a
cancellation, at a price that depends on currency, volumes and not least the
fixed maturity, since both the interest differentials and the bank’s margin
tend to increase over longer periods.Forward contracts can be issued over very long periods, for some curren-
cies up to 5–10 years, even though for commercial transactions periods
from three/six months up to a year are most common.These shorter periods
are also the most liquid, whereas for longer periods the spreads, and thereby
The Handbook of International Trade and Finance Currency risk Management 121
the cost, may increase owing to a more illiquid market, but with great
variety between different currencies.If the exact date for the incoming payment cannot be determined in
advance, the forward contract can, in most cases, be prolonged or shortened
in time after agreement with the bank, even if it could involve an additional
cost.Another alternative is to arrange the contract at the outset as a period instead of a fixed date during which the currency may be delivered to
from the bank.Such contracts, called ‘forward option contracts’ (not to be
confused with currency options, described below), will give higher flexibility
to the company, but at a less favourable rate, depending on the length of
this open period.However, the larger the company or its currency volumes, the more it
will tend to arrange contracts not for individual business transactions,
for outstanding balances over time, calculated according to the currency
schedule.Such hedging of balances or part balances will always create
greater flexibility and is normally more cost-effective than covering
vidual transactions.How this is done in practice is shown at the end of this
Currency options
The currency option is totally different from a forward contract.The holder
of the option has the right, but not the obligation, to buy or to sell a par -
ticular currency at an agreed rate and date.It may therefore be used as
an alternative or as a supplement to a forward contract.The currency option could be used when an offer or a tender is outstand-
ing and when the seller does not know if the deal will be won or not.Should
this be the case, the company could later make use of the option to cover
the currency risk.If the deal is lost, the seller may simply abstain from doing
so, or if the value of the currency has changed in their favour, the option
might have a value of its own and the seller might sell the option contr
back to the bank at a profit.There are two types of currency options: put options and call options.
Purchasing one of these options gives the holder the right (but not the obligation) to buy (call) and to sell (put) one currency against an
Consequently, every currency option involved both a call option and a put
option.The agreed price at which the exchange of currencies takes place
under the contract at the agreed expiry date is called the ‘exercise price’ or
the ‘strike price’.For example, a US exporter may arrange a currency option 122
with a bank or other financial counterpart to buy US dollars against the
South African rand (US Call) and sell SA rand against the US dollar (Rand
Put).At maturity, when receiving the rand from the buyer, they choose the
best alternative price – either from the prevailing spot market price at the
time, or the price specified in the option.The holder of the option also pays a premium for the contract itself, but
normally no additional commission or other charges.This up-front cost
can be seen as an insurance premium which is determined by factors such as interest level, the length of the contract, market conditions, expected
currency volatility and at what strike price the option shall be exercis
compared to the spot market rate at that time.The bank may thus offer the
company a number of different strike prices, both above and below the
spot rate at that time, which leaves them with a combination of several
strike prices and premiums to choose from.As a direct comparison between the rate of a forward currency contract
and the break-even price for a currency option (when adding its strike price
and the premium paid), the option contract will usually be more expensive
than the forward contract.But that is to be expected.In a currency option
the company has a choice that is not available in a forward contract.On the
other hand, if the exchange spot rate moves further than the strike price (the
intrinsic value), the owner of the option can earn a profit.Currency options as a means of hedging a commercial exchange risk
have not yet reached the same level as forward contracts for many reasons.
This market does not have the same depth and liquidity as the forward cu
r -
rency market and it is therefore more difficult for the banks to hedge
compared to forward contracts – making the options more expensive.
However, if the bank can use a currency option towards a customer as an
additional hedge for an existing imbalance in its own portfolio, or as a
counter-trade against another transaction, the bank may price the option
accordingly.The option market is understandably also more traded and liquid for
the larger currencies used in international trade and for shorter period
although together with an increased use for commercial purposes, currency
options might become more and more competitive.It is estimated that
5–10 per cent of all commercial currency hedges are completed today in the
form of options.However, the company should always check the alterna-
tives and see the currency option as only one of several methods, which
combined should hedge the overall currency position.The option may be
more expensive but, in conjunction with other hedges, it can be worth
the cost.
The Handbook of International Trade and Finance Currency risk Management 123
Currency derivates
A currency derivate is a generic term for specific types of products t
banks and other currency traders derive from the basic exchange rates.The main types of derivates that have been described in this chapter are

●currency swaps;

●currency forwards; and

●currency options.
However, currency derivates, and in particular currency options, are often
constructed by banks and currency traders in a number of different ways, depending on the purpose, and can for larger amounts often be tailor-
made for a specific transaction.The earlier description in ‘Currency options’ refers to what is ca
lled the
simple option, or ‘the vanilla option’, which is an often-used exp
ression for
the standardized option traded in a foreign exchange market.But there a
many other forms of options, for example in the form of a combined curre
forward and option contract or as a basket option where the holder has
the right to exchange a basket of currencies against a single currency a
expiry date, or vice versa.There is also the collar option, which consi
sts of
a simultaneous purchase of put and call options for the same principal
amount and maturity but with different strike prices.The user maintains full protection against adverse movements, but gains due to favourable
exchange rate moves are limited to the strike price of the sold option.Another form of currency derivate nowadays quite often used in
international trade is the so-called ‘cap and floor’ contract wh
ere the seller
(and/or the buyer) can take advantage of favourable price movements to the upper end of the contract range while remaining protected against
moves below the lower end of the contract range.Within that range, the
contract settles at the spot rate and the customer pays a net premium
based on the structure of the set limits.
Short-term currency loans
A loan in a foreign currency is primarily a form of finance, but can also be
used by the seller to hedge the value of a future incoming foreign curre
payment, as described above.By immediately exchanging the loan amount
into local currency at the spot rate, the seller avoids future currency risks on 124
that amount, and on the due date of the loan it will be repaid by the incom-
ing currency payment.The hedging cost will then be the interest on the loan
less the interest gained on the current account.The seller may thus end up
with a total cost for this type of hedging which will be similar to the
cost of
a forward currency contract for the same period.The use of a currency loan as a hedging tool is also part of the total c
management of the company together with other methods used to cap or
minimize the total currency balance and overall liquidity.
Bill discounting
Banks may discount bills of exchange that the seller receives from the b
(or sometimes promissory notes, which are often used for longer credit
periods).Such discounting, as with short-term currency loans, is primarily
a method of refinancing, with the currency exchanged at spot rate and the
debt being repaid to the bank at maturity out of the proceeds from the b
The practice of discounting is described in Chapter 6.
Currency clauses
When both commercial parties want to avoid the exchange risk, it can be
tempting to use some form of currency clause with the intent of sharing
dividing the risk between them.With a ‘cap and floor’ agreement with the
buyer (or arranged with or through a bank), an Australian exporter may, for
example, accept EUR as the invoicing currency, but with a fixed exchange
rate floor against AUD.If the EUR weakens below the floor rate during the
contract period, the seller would then automatically be compensated through
receiving a correspondingly higher EUR amount.The parties could also
agree on a similar cap to the buyer’s advantage, thereby paying a lower
amount if the EUR strengthens above a certain exchange rate.When it comes to larger amounts and longer time periods in particular,
when the exchange rate developments may be a major issue for the parties
such clauses could be an alternative for sharing the currency risk.But should
the clauses be made more complicated, what might have been a straightfor -
ward agreement at the negotiating table can soon turn into disputes or d
agreements later on, when one of the parties wants to make use of it.A good
piece of advice is therefore to stick to the simple ‘cap and/or floor clauses’
for shorter periods and for the major currencies only, and to contact the
banks for advice should more complicated currency clauses be discussed.
The Handbook of International Trade and Finance Currency risk Management 125
Tender exchange rate insurance
The exchange risk during the period when the bid or tender is open is on
of the factors that can make the transaction particularly risky.The seller
risks losing money when tendering at a fixed price in a foreign curren
cy –
while obviously wanting the tender to be successful, the seller could lose
out in the contract if the currency weakens during the period between
submitting the offer or tender and winning the contract.Insurance against tender exchange risks is provided for shorter periods
by some insurers in the private market, often called ‘tender exchange rate
indemnity’, and in some cases also by the country’s export credit agency
(see Chapter 5).The private market insurance could be an alternative to
currency options if that is not a realistic alternative owing to the cos
involved or other practical reasons.Insurance might also be a better alter -
native than inserting currency or escape clauses in the contract, clauses
which often seriously weaken the value of the offer.These insurance policies are generally construed to mitigate the draw-
back of having to quote a firm offer in foreign currency with a currency risk
that could be outstanding for a period of time.The insurance conditions
are basically quite straightforward, sometimes also with a requirement to
pay to the insurer any ‘surplus’, should the invoiced currency have increased
in value during the period.The seller pays an up-front fee, often only a
smaller part of the total premium, combined with agreed terms for the
remaining part, depending on the bid becoming successful or not.A tender exchange rate indemnity can be given in the most commonly
traded international currencies normally up to a year, but the availability
and the cost involved also depend on the time period and market conditio
at the time of the cover.As in any other currency hedge, many other situ-
ations could also arise during the contract period, such as if the contract
should fail, be prolonged, amended or abandoned.The indemnity should
have to cover these eventualities, and will therefore, as with any insurance,
be based on individual terms and conditions for each single transaction.
Practical currency management
The most common methods for hedging currency risks have already been
described, but an equally important question is how they are managed and
hedged in practical terms within the company, and how the currency aspects
are dealt with during the whole process from negotiation until the sales contract is concluded and payment is received (see Figure 4.2).126
Most companies have internal systems for establishing their currency
position, and rules and limits for dealing with currency risks.These systems
may often be quite simple for the smaller company with a limited risk ex
sure, but often they are much more sophisticated and computerized.It all
depends on the volumes and currencies involved, and the more stable the
currency flows are over time, the easier they are to forecast, even over long
periods ahead.Many exporting companies with large currency invoicing also have a
rolling currency position schedule, comprising both fixed and estimated
currency flows, for example, inserted to 100 per cent for contracted deals
and with a lower and variable percentage for future non-contracted deals
depending on probability and the time period covered.Many companies
even cover their main positions years in advance on such a rolling basis
achieve the best possible currency rate stability over a longer period.Such a long-term portfolio is constantly updated with new or changed
contracts, from a low to a higher percentage if the contract is already in
the books, inserted in full for a completely new contract, or reduced with
anticipated contracts that were not accepted or did not materialize as
planned.When the payment is finally received, it will be booked at the rate
of the forward contracts or against other hedges falling due at that tim
e and
to the percentage that the hedge covers the individual transaction.Any excess
amount not taken against a hedge is booked at the prevailing spot rate.When determining the internal and calculated rate of exchange to be used within the company in price discussions, offers and tenders, the rate applied
is often based on an average currency rate, including the hedges, calculated
from the currency schedule over the relevant period.It is then up to the
appointed staff to communicate these internal rates within the company
as they change.The periods covered in such currency schedules depend on
the stability of the forecasts, on risk acceptance and how quickly the cost
structure to the final customers can be changed.They are also constantly
changing in both size and maturity, depending on external currency fluctu-
ations and verified or anticipated changes in company sales.When it comes to less used foreign currencies, and for smaller or medium-
sized companies generally, the currency transactions are normally smaller
and less stable, and thereby harder to predict for longer periods.The seller
must then often establish internal currency rates for individual transac
instead of a calculated average currency rate, and thereafter cover the trans-
actions on a case-by-case basis.As shown earlier, low-inflation countries with stable economies often have
low interest rates and thereby often a premium in their forward currency The Handbook of International Trade and Finance Currency risk Management 127
rates (ie higher forward than spot value).The opposite is true for countries
that for any reason have higher interest rates (ie a lower forward than spot value).But irrespective of the method used, the forward currency rates
are generally the basis for how smaller companies establish the internal currency rate for individual transactions when preparing an offer or tender,
and before actual hedging is arranged as shown in Figure 4.2.Nowadays, the difference between forward and spot rates for shorter
periods is relatively small for the more commonly used international curren-
cies, owing to a similar economic policy in these countries and consequently
less spread in interest rate levels.But, for other currencies, this difference
may be higher.Nevertheless, if the seller follows the principle of using the
forward currency rate as the basis for offers and tenders, then the following
method could be used for covering the individual transaction, with a
cautious approach, as shown in the graph above.For currencies with a forward premium, the seller can use the spot rate
as a base for the internal rate during the sales negotiations, with a percent-
age increase for longer periods, depending on the angle of the forward
premium curve and the competitive situation.For currencies with a dis-
count, the actual forward rate can be used as a base, adjusted with a further
discount, depending on the volatility of the currency, the period and the
competitive situation.
Figure 4.2 Establishing internal currency rates

The shaded area will be determined by the competitivesituation and the risk acceptance of the seller.Forward premium rate
Calculated internal
currency rate
Calculated internal
currency rate Forward discount rate
% change of forward rates
compared with spot rates 128
Other techniques used in setting internal currency rates or covering
the currency risk during the quotation stage could be, as an alternative or
as a complement, to work with currency options and include the premium
in the quotation price.Alternatively, the seller could reduce the validity of
the outstanding offer or tender, or insert a price clause covering adverse
currency fluctuations.But, as pointed out earlier, all such clauses have a
competitive disadvantage.
The Handbook of International Trade and Finance 05
export credit
a mutual undertaking
Previous chapters have dealt with the different forms of risk that can o
in an international trade transaction, risks that have to be covered through
the terms of payment.But, in many cases, that may be difficult to achieve,
because the buyer does not accept the proposed terms, the bank is unwilling
to take the risks involved, or even the remaining risks may be considered by
the seller as being too high.
The terms of payment must be negotiated in the same way as other parts
of the contract, in which both commercial parties often have to make a
compromise.In many countries there are established practices in the way
payments are made and it may be difficult to agree with the buyer shou
ld the
terms differ too greatly from these practices – particularly if they expect
other suppliers to offer more competitive terms.In other situations, the
seller may have difficulty in finding financial institutions that are willing to
accept the inherent risks in the discussed terms of payment, in particular
related to the political and/or commercial risks in many countries in con-
junction with short-term financing, not to mention medium- or long-term
periods.In these cases it is crucial to try to structure the deal in a way that
the seller to maximize the combined cover that can be obtained from banks,
financial institutions and separate export credit insurance companies
institutions.The seller must then explore, in advance, what is achievable
before commencing negotiations with the buyer.Having the knowledge
and capability to structure such transactions, together with banks and/or
insurers, is of vital importance for the seller when dealing with political and
commercial risks that might otherwise make the transaction difficult o
even impossible to deal with.
129 130
Export credit insurance
Export credit refers to the credit that the seller offers the buyer in the
contract for sale of goods and services (ie a supplier credit) or cred
given to finance such a sale (ie a buyer credit), described in Chapt
er 6.Export credit insurance is normally divisible into commercial and
political risks.The commercial risk is that which rests with the buyer,
ie their ability to pay for what has been purchased.The political risk
is that
associated with the buyer’s country and includes losses arising from such
events as the cancellation of an import licence, war and the prevention
the authorities in the buyer’s country of the transfer of the foreign
exchange required to pay the seller.This chapter focuses on how the export credit insurance market works
in general terms for exporting companies, for short and long periods,
together with a description of the two main areas within this sector: th
private sector insurance market mainly covering the shorter periods, and the market for government-supported insurance, covering the longer
periods and/or more complex export markets.It should be stressed that government-supported insurance schemes
through national export credit agencies (ECAs or just ‘agencies’)
established in only about 40 industrialized or emerging market countries (see separate box later in this chapter), even though this covers a la
part of total world trade.However, the role of the agencies and the cover
they may give to promote exports from these countries are also of great
importance to buyers in most countries, since they fulfil an important
in supporting the transfer of goods and services and, indirectly, provide
knowledge and expertise to many countries, particularly developing count
in many cases this would not have happened without this support.
Insurance is based on a mutual relationship between the parties involved
, where
both the insurer and the insured (in this case the seller) enter into
towards one another.This is a major difference compared with a guarantee
or bond, which is a one-sided obligation based on specified conditions.Many forms of export credit insurance have been created to cover differe
parts of the transaction, for example coverage from shipment only or also
including the production period.Each insurance cover is based on special
terms and conditions, which the seller has to check with the preconditions
applicable to the individual transaction.The most common of these conditions
are related to the seller’s own risk in the transaction, qualifying or waiting
The Handbook of International Trade and Finance export Credit Insurance 131
periods or conditions precedent, for example that an L/C has been issued,
certain permissions in the buyer’s country have been obtained or that certain
guarantees have been received by the seller.However, the seller also has obligations towards the insurer; for example,
that the uninsured percentage should be retained during the whole insure
period or, alternatively, that it might only be transferred under certain condi-
tions.Other conditions could be that specified time limits must be adhered
to or adverse changes regarding the buyer or the transaction should be
reported, and/or that important changes to the transaction have to be
approved by the insurer.
Risks not covered by export credit insurance
Export credit insurance cover is, in principle, limited by three main fa
1 the percentage of coverage, or inverted, the uninsured percentage that
the seller is not allowed to lay off to any third party; and
2 the qualifying period – the period before settlement of the claim tak
es place;
3 the settlement risk, and its rules, when invoicing in a foreign currency
However, the seller should always go through all aspects of non-coverage
with the insurer, especially in situations where tailor-made coverage is needed.When calculating the size and potential cost of these uncovered risks,
the seller must assume that the maximum risk occurs not only when delive
obligations have been fulfilled but before receipt of the first paym
ent from
the buyer.This risk also depends on whether delivery is in one or more
shipments, the buyer is to pay in one or more part-payments, and/or
separate credit terms are connected to the deal.However, the maximum
risk not covered by the insurance can always be determined in advance.To calculate this risk and its inherent costs, the following factors have to be considered, incl.any currency exchange risk/cost, if applicable:
1 capital costs – the amount of capital not covered by the insurance,
which the seller has to retain at their own risk;
2 interest costs – interest on the uninsured parts of any credit given
to the
buyer, calculated on estimated interest payments during the credit
period, multiplied by the average interest rate;
3 settlement costs – the interest due for the period before payment is
made under the insurance.132
Incorrect, misleading, changed or unreported circumstances may, in the
worst case, lead to the insurance being reduced or revoked.The seller must
also take reasonable action during the insurance period to prevent or mitigate
potential damage or losses under the insurance.It is, therefore, important
for the seller to ensure that staff, who might not be aware of the conditions
of the insurance, do not make changes or give concessions to the buyer that
may jeopardize the insurance cover.This applies in particular to the longer
government-supported insurance.In the private sector insurance market,
the normal situation is that all the commercial buyers (the debtors of
insured seller) are pre-evaluated and individual credit limits establis
hed for
each buyer.The seller then only has to ensure that the individual credit limits
are available and are part of the credit insurance contract.Even though
many standard and special terms may apply, these terms are part of the same
credit insurance contract and should therefore be well known to the sell
staff.If used correctly, export credit insurance can be a crucial part of the whole
structure of the deal, whether it is to cover ordinary day-to-day short-term
export transactions or the additional risk of an offered medium-term cre
The private sector insurance market
Goods and services exported to the most developed OECD countries on
credit periods less than two years (consumer goods, raw materials and certain
lighter capital goods) can only be covered by the private sector accord
ing to
established OECD rules, while government-supported insurance is usually
only allowed for longer periods or for covering other countries where th
private insurance market generally is less competitive.For periods of one to two years, the commercial risk is the main risk element
for exports to most OECD countries.But where both the commercial and
political risks are increased, the terms of payment are generally shifted from
open account terms to terms based on documentary payments, with stronger
control over the goods until payment is received.For non-OECD countries,
where the commercial/political risk is even greater, bank guaranteed terms
of payment, usually in the form of an L/C, are often the norm.The usual condition for obtaining insurance is that it covers the delivery
of goods or services.However, the risks during the production period up to
delivery can also be included, based on a signed contract between the parties.This basic payment structure is consistent with the structure of the mar
sector credit insurance, covering mainly commercial risk on shorter periods,
The Handbook of International Trade and Finance export Credit Insurance 133
or the combined commercial/political risk on government or semi-official
institutions.Political risk cover can sometimes be added to the policy for
commercial buyers.The market sector insurance core business therefore
comes from industrial countries, or countries in industrial development, in
which relevant financial company information can be obtained and where the legal framework and financial systems are reasonably efficient.The advantages of an international network are also used in the marketin
of other services provided by insurers in the market sector; for example
issuing various types of export-related guarantees or bonds (mainly con
guarantees/bonds) in competition with the banks, or services related to the
credit risk policies, such as credit risk assessment and collection of overdue
payments.The main advantages of private export credit insurance, taken from
different leading insurance companies, are:

●capped and calculable costs;

●economic security;

●rapid and professional settlement of claims;

●access to experience from various business sectors in many countries;

●professional coverage of clients and outstanding claims;

●access to an international network with local representation;

●large databases of customer information;

●release of administration and resources from clients;

●increase in borrowing capacity from banks;

●expanding sales to existing customers;

●developing sales into new international markets;

●professional credit management overview of receivables.
One of the advantages of market sector credit risk insurance, emphasized by
the insurers themselves, is also that their combined services and not just the
insurance tend to reduce the outstanding risk in the markets in which th
operate, for example through local representation in the buyer’s country and
more professional supervision.The development of more sophisticated models for risk analysis, together
with new techniques for database handling and the establishment of an
international network, has led to a rapid restructuring of this segment of the
insurance market, which (apart from a large number of local and specialized
insurers) now consists of only a few companies with a global presence.134
The cost structure for market export credit insurance is based on a numb
of factors such as risk assessment, customer relations, the volume of business
generated and the competition.This means that the premium for individual
transactions or for a package of transactions can vary considerably betw
insurers, even when considering the differences in risk cover and in other
terms and conditions that may apply.Many credit insurance companies or brokers have standardized systems
on their websites, so-called credit insurance cost–benefit analysis, where
the seller can do a simple analysis evaluating their total export portfo
By inputting the insurable yearly export and often also domestic sales, the
average gross margin and an estimated average or worst-case loss ratio, this
analysis shows not only the direct cost involved but also what increment
sales are necessary to pay for the corresponding average credit insuranc
premium.Not surprisingly, the seller will probably find that in most of these general
and standardized calculations, the premium is a relatively small investment
for covering the potential loss, and that the additional sales needed to cover
this loss are of such magnitude that they justify almost any credit insu
programme.This is before taking other indirect advantages into account.However, even if standardized calculations do not give the whole picture,
the seller should also study the cost–benefit of using a general cr
edit insurance
cover in their particular case, based on the seller’s own preconditions and
assumptions.A general cover often gives the best outcome in such an analysis
owing to the business volumes involved and the automatic spread of risk
the insurer, and any new individual deal could be added to the cover at
beneficial rates.When this analysis is done, it is easier for the seller to compare
other alternatives and to make an informed decision as to whether to use such credit risk cover programmes.Another important evaluation for the
seller is to look at the consequences of non-payment of larger invoices.
The insurance policies offered in the market sector are generally indivi
structured and can be combined with many other services, and the seller
should try to find the optimal combination either directly or through
insurance broker.By doing so, the seller can also check the various precondi-
tions that might be needed for entering into a potential transaction or
cover a risk portfolio, for example the terms of payment required.This may
also give a better picture of the costs involved in relation to differen
t levels
of risk coverage, together with a better analysis of how the risk is assessed
by an individual insurer.This is why it is so important to establish early
contact with banks and credit insurers when it comes to new transactions
unfamiliar markets or buyers.
The Handbook of International Trade and Finance export Credit Insurance 135
Most of the larger private sector providers of export credit insurance
(as well as public export credit agencies) are members of the Berne Union,
the leading international organization within this area; see the list of
Market sector insurance cover
The dominant insurers tend to structure credit insurance policies in the international market in a similar way, but often with different product
names and including additional, optional services.One general feature of this market is the tendency to strive to cover not
only individual deals or single buyers, but primarily all of the seller’s export
(and domestic) transactions.This enables the insurer to obtain larger
volumes of business with a more diversified risk structure, and to take
advantage of the international network and additional services included
the offer.The description of the market sector insurance below is, therefore,
of a general nature in order to highlight the basic structure of these i
products.However, it also shows the different levels of services, the diversity
of services and how these policies can be adapted to the needs of the in
seller based on business structure, risk aversion and affordability.It goes without saying that every request for insurance is evaluated
according to the risk involved, which means that certain buyers and/or
countries may not be insurable.Or, if they are, it could be at a low percentage
indemnity and/or a prohibitive premium.
Standard export credit insurance
Most market sector insurers have designed a range of export credit polic
suitable for small- and medium-sized businesses, with cover against non-
payment of debts owing to commercial and/or political risks.These policies
are highly standardized in order to be cost-effective, often combining both
domestic and export sales, with a risk assessment on the individual buyer
and an indemnity level of up to 90 per cent.They are generally structured
and priced in order to induce the company to include most of its receiva
often combined with additional services for more effective credit contro
and with collection and litigation support as additional and mostly opti
services.To facilitate the practical day-to-day handling of the credit limit proce
the larger insurers may also offer their customers internet access to th
eir 136
internal underwriting systems, thereby enabling the seller to manage their
credit limits online in the most efficient way, including:

●applying for credit limits on new or existing customers;

●monitoring current portfolios under existing limits;

●making amendments to, or cancelling, existing buyer limits.
An additional advantage of standardized insurance – particularly impo
to small, growing businesses – is access to increased levels of export finan
through the added security this cover will give the lender.
Tailor-made credit risk insurance
Many insurers offer more sophisticated integrated insurance packages,
tailor-made for larger companies with greater volumes of receivables (both
domestic and global).They can also include global risk cover for the group’s
requirements and risk limitations on the turnover covered by the policy.For smaller and middle-sized companies, customized insurance is normally
not economically viable; however, some insurance companies may instead
offer other solutions.As an example, the credit insurer Coface offers credit
risk insurances that are specifically adapted for different segments o
f clients,
offering both cash-flow protection and credit management support; Easy
for smaller companies, TradeLiner for mid-sized to large customers and
Global Solutions for the large multinationals.Such insurance packages are
not only segmented for different groups of customers, but may also be
combined with different options to be included, such as political risks,
natural disaster and disputed debt risks, to name a few.However, products and services offered as tailor-made solutions tend to
differ significantly between both countries and individual insurers ba
sed on
established domestic practice, customer demand and the particulars in each
case, and it is not within the scope of this handbook to elaborate on this
insurance cover in more detail.Exporters with this particular need should
always contact a professional insurer for optimal cover based on their
individual requirements.
Political risk insurance
Apart from the political risk that is directly associated with the comme
risk in an individual transaction, many market credit risk insurers (or other
insurance companies) also cover pure political risks associated with tr
The Handbook of International Trade and Finance export Credit Insurance 137
or investments in countries where such cover may be needed.The most
common market insurance policies in this area are described below.
Contract repudiation indemnity or contract frustration policy
There are different names for this kind of cover.It is an insurance that can
be combined with the commercial risk on a company in many developing
countries, but covering related risks of a more political nature such as
changed or revoked approvals, licences, guarantees or other circumstances
directly or indirectly caused by the government or any other public body
The cover can also include protection for similar events when interference
from such institutions makes it impossible for the seller to fulfil th
contractual obligations towards the buyer.
Bond/guarantee indemnity insurance
This insurance provides cover against so-called ‘unfair calling’ of bonds or
guarantees issued on behalf of the seller, related to the export sale.This
includes both genuinely unfair callings, but also (what might be called) ‘fair
callings’, but caused by a public body or other political interference, which
makes it impossible for the seller to perform their obligations under th
commercial contract and which might therefore trigger the calling under
guarantee.(See also ‘Reducing the risks with demand guarantees’ in Chapter 3.)
Investment insurance
This insurance covers events such as confiscation, expropriation, nationali-
zation or deprivation of the investor’s fixed or mobile assets overseas.The
cover can also be extended to include war, civil war, strikes, riots, terrorism,
regulatory changes, currency inconvertibility, business interruption and the
inability to recover leased equipment, but since they are mostly long term
by nature, they are mainly covered by the export credit agencies (ECAs) as
described in ‘Investment insurance’ later in this chapter.
export credit agencies (official export credit
Most industrialized and emerging market countries have established ECAs
with roughly the same objective: to support exports from their own count
There is, however, no such thing as a typical ECA.ECAs (often also named 138
Table 5.1 Official export credit agencies
Australia EFIC
Austria OeKB
Belgium ONDD
Brazil ABGF
Canada EDC
Chinese Taipei TEBC
Czech Republic EGAP
Denmark EKF
Germany EH Germany
Hong Kong HKEC
Hungary MEHIB
India ECGC
Indonesia ASEI
Israel ASHRA
Italy SACE
Japan NEXI
Malaysia MEXIM Berhad
EXIM banks) have an important role in securing the export transaction
or its finance in many countries, but the structure, the programmes and the
terms of cover may differ.The exporter must therefore turn directly to their
local ECA (see Table 5.1), to find out what is applicable in the specific
potential or actual transaction.But the buyer may have the same interest,
for example when negotiating the finance options with the seller.
The Handbook of International Trade and Finance export Credit Insurance 139
Nor way GIEK
Poland KUKE
Portugal COSEC
Singapore ECICS
Slovak Republic EXIMBANKA SR
Slovenia SID
South Africa ECIC
Sri Lanka SLECIC www.slecic.ik
Sweden EKN
Switzerland SERV
United Kingdom UK Export Finance
United States US EXIMBANK
Multilateral institution, ICIEC –
Islamic Corp for the Insurance of
Investment & Export Credit
Multilateral institution, MIGA –
World Bank Group
Ce: Berne Union
Table 5.1 Continued
Most ECAs are part of the Berne Union (International Union of Credit
Insurers), the leading international organization in the field of export credit
and investment insurance, with members from both the public and the
private sectors.The majority are however official export credit institutions
that deliver guarantees and insurance on behalf of the national governme
in a variety of ways.Some are government departments or agencies, while
others are private insurance companies (as in Germany and France, for
example) which, apart from doing insurance business on their own account,
also act as an agency on behalf of the respective government, typically for
credits over two years.The total outstanding ECA exposure was about 140
USD 2 trillion at the end of 2014 (Berne Union figures), of which roughly
half was short-term and the rest medium- and long-term export credit
insurance (35 per cent) and investment insurance (13 per cent).The major
part of the medium-, long-term and investment exposure is done through
the official ECAs, and the description below in this chapter refers to these
government related institutions only.Even if the obligations are guaranteed by the respective state, official
ECAs should operate with reasonable confidence of breaking even in the
long term, charging customers premiums at levels that are sufficient to cover
the perceived market and buyer risks and administration costs.In addition
to these costs, some also include a ‘reserve margin’ in the premium rate to
accommodate potential individual large losses or general country/regiona
payment moratoriums.They also make every effort to recover amounts paid
in claims, either directly from individual buyers or borrowers or through the
Paris Club of Official Creditors.The OECD has regulated the ways in which the official ECAs operate,
in order to restrict the potential for governments to use their ECAs to win
export contracts by offering to their own exporters terms and conditions that are too favourable.To stop this ‘race to the bottom’, the major exporting
nations have negotiated the OECD Arrangement on Officially Supported
Export Credits, also known as the ‘Consensus’ or the ‘Arrangement’ (described
in Chapter 6).The Consensus covers export credit support on periods of
two years or more and includes the length of credit for different types
goods; repayment structures, minimum advance payments and maximum
credit limits; minimum government-supported interest rate levels; and premium
rates for sovereign/country risk.It is worth noting that the EU and many other developed countries do
not allow member states to issue state-supported insurance/guarantees for
commercial risks to most OECD countries on periods of less than two year
an area that should normally be covered by the private insurance market.However, for other countries there is no such restriction, and in these cases
many agencies issue insurance/guarantees for shorter periods.The agencies also work together in purely commercial matters, primarily
in transactions involving suppliers from several different countries.In order
to facilitate such transactions, one of them will normally take overall
responsibility and cover the entire package (according to its rules), with
reinsurance from the other agencies covering their suppliers.These ‘one-stop
shop’ programmes have several advantages for the project and for the
supplier, which needs to have contact with only one agency.
The Handbook of International Trade and Finance export Credit Insurance 141
Competition and matching
The primary objective of the official ECAs is to supplement the private
insurance market by assuming credit risks that this sector is unable or unwilling to accept at competitive terms.There are, however, two areas of
business where the OECD has tried to eliminate excessive competition bet
the countries in order to safeguard an equal playing field for governm
export support: commercial matching and tied aid matching.Commercial matching is related to decisions taken by individual agencies
giving special advantages to their domestic exporters.Since the establishment
of the Consensus between the major OECD countries in the 1970s, a system
of transparency has been introduced together with strict notification
consultation rules.Any deviation from agreed practices automatically leads
to a matching procedure, where other agencies are free to give the same
terms to their exporters competing for the same business.Tied aid is government-to-government concessional financing of public
sector projects, primarily to the poorest developing countries.The financing
is often provided as a jointly arranged financial package by the gover
aid agency, together with support from the official export credit agency,
covering the risk on the commercial part of such a loan.The terms for this
type of finance can be far better than any other terms available, often with
maturity up to 20 years and with extremely low interest rates.In order to limit the use of tied aid for projects that should be commer
viable, and to separate them from real revenue-generating commercial projects,
the major OECD countries have agreed certain standards for this type of
financing.One is that such financing should contain at least a mathematically
computed ‘grant element’ of at least 35 or 50 per cent to be considered
concessional, depending on country.Government aid can also be formally ‘untied’ but combined with condi-
tions that directly or indirectly favour exporters from a particular cou
Real untied aid projects provided for developing and emerging market
countries is a big potential market for suppliers from most countries; s
Chapter 7, ‘Multilateral development banks’.
Some general principles
The agencies always apply some general rules or restrictions to their gu
and insurances, but often with different terms and interpretations depending
on the countries involved, covering: 142

●foreign content or components;

●used or refurbished equipment;

●local costs;

●environmental and human rights aspects;

●illegal practices and anti-corruption guidelines.
A few agencies, such as the US Exim Bank, may also sometimes apply
additional restrictions, for example shipping requirements with vessels from
their own country for larger transactions, or economic or national impact
assessments for strategic equipment, but such aspects are not dealt with in
this book.Individual agencies have somewhat different rules regarding cover for
foreign content or components of the delivery.Some support relatively low
levels of foreign content (normally 15–30 per cent), while others may support
higher levels on a case-by-case basis, depending on size, structure, buyer
country and other supplier countries involved.Used or refurbished equipment may also be eligible for support, but in most
cases this depends on factors such as contract value, the origin of manufacture,
foreign content, domestic costs for refurbishment, whether the equipment
has been previously exported, and the remaining useful life of the equipment.Local costs for goods and services that are related to the transaction, but
are incurred in the buyer’s country, may also be eligible for support up to a
certain percentage of the contract value.Such costs are primarily associated
with projects or larger transactions, including installation or construction,
and should relate to the exporter’s obligations as verified in the sales contract
or in a separate exporter’s certificate, but originating in the buyer’s country.In most cases up to 15 per cent of the value of the exports can be cover
for locally originated and/or manufactured goods and services.However,
restrictions may apply as to the size and nature of the transaction or t
project.The OECD has also issued strict guidelines for a much broader perspectiv
of government-supported international trade, for example its effects on the
environment, sustainable development and human rights in the buying country.
The larger the transaction and the more it is related to the infrastruct
ure of
these countries, the more important these considerations become.Illegal practices are also receiving more attention (ie facilitation pa
money laundering, bribes and other corrupt practices).The area of corrupt
practices was discussed in Chapter 1, but most agencies currently demand
separate anti-corruption statements from applicants for insurance cover.
The Handbook of International Trade and Finance export Credit Insurance 143
Insurance or guarantee
The terminology varies between institutions; some prefer to call all the
cover ‘guarantees’, irrespective of whether they are issued as ins
or as a guarantee.Others use the term ‘insurance’ when issued in favour of the expor
normally with an excess as part of the cover and with other conditions
attached as in ordinary insurance, and the expression ‘guarantee’
issued to the lending institution normally covering 100 per cent of both capital and interest and payable on demand at default of the loan.In this book we mainly use the term ‘insurance’, unless referring
a specific type of guarantee.
Different forms of insurance/guarantees
The insurance issued by the official ECAs has to comply with the rules laid
down by the OECD and other directives.However, within that framework
they are free to structure their programmes to meet the specific deman
from their domestic business community.There are some basic programmes
that are very much the same but differ with regard to name, terms and
conditions, premiums and simplified procedures; or are specifically aimed at
smaller companies, which is a special target group for most agencies.The description in Tables 5.2A and 5.2B illustrates the diversity of cover
available in different countries, but most agencies issue only some of these
policies, even if under different names.More details can be found on the website
of the respective agency, where full descriptions of available insurance can
be found.
Table 5.2A Export credit insurance/guarantees
Exporter policies
Single-buyer export
insurance policy Credit protection for general short-term credit sales,
made by an exporter to a single foreign buyer (see below)
Multi-buyer export
insurance policy Same as above, this policy allows the exporter to
insure all sales to eligible foreign buyers 144
Table 5.2B Other forms of insurance/guarantee
Bond insurance
policy Protects the exporter against the risk of ‘unfair calling’
under a contract guarantee issued in favour of the buyer
(see below and Chapter 3, ‘Reducing the risks with
demand guarantees’)
Project and
structured finance
guarantee A wide range of guarantee solutions may be offered for
project suppliers and their international customers,
covering limited recourse lending and structured financing
(see Chapter 7, ‘Project finance’)
Leasing insurance
policy Cover may also be given to the leasing industry in the form
of either an operating and/or a financing lease policy (see
Chapter 7, ‘Export leasing insurance’)
Foreign currency
insurance policy Cover may also be available for transactions in foreign
currency under most of the policies described; however,
this is usually restricted to a fixed percentage or a maximum
exchange rate.Cover may also be available during the bid/
tender period (see Chapter 4, ‘Tender exchange rate
insurance Covers the exporter or the financial institution against
the political risks on long-term foreign investments
(see below, ‘Investment insurance’)
Lender policies
Working capital
loan guarantee
This policy offers pre-export working capital loan
guarantees to commercial banks, providing liquidity to
the exporter to support new export transactions or
related contract guarantees (see Chapter 6, ‘Working
capital insurance/guarantees’)
Buyer credit
insurance policy Protects lenders financing the export of goods and
services directly to foreign buyers, both on a short- but
more often on a medium-term basis (see Chapter 6,
‘Normal terms and conditions in buyer credits’)
Supplier credit
insurance policy Protects lenders that finance or purchase export-related
receivables from the exporter on a non-recourse basis
(see Chapter 6, ‘Refinancing of supplier credits’)
Bank letter of
credit policy This policy protects banks against losses on L/Cs,
when they are not prepared to confirm the L/C
without such cover, owing to the uncertainty of the
creditworthiness of the issuing bank (see Chapter 2,
‘Level of security’)
5.2A Continued
The Handbook of International Trade and Finance export Credit Insurance 145
The standard export credit insurance policy
The most common export credit insurance policy (the name may vary
between agencies) covers the risk for the seller for non-receipt of pay
under an export contract, owing to commercial and/or political risks.
The coverage is normally up to 90–95 per cent, with a three- to six-m
waiting period, and the seller must retain the risk on the uninsured par
which cannot be laid off to a third party.Commercial risk involves the insolvency of the buyer or failure either
to pay or not fulfil obligations in any other way according to the con
within a certain period, often three to six months from the due date and
as a consequence of this failure, the seller suffers a loss on the insur
contract.Political risk involves political, social, economic, legal or
administrative events outside the exporting country that prevent the buy
fulfilling the contractual obligations, or create difficulties or re
strictions of
such a nature that the seller and/or buyer cannot fulfil their obligat
ions.These policies are generally issued in two different forms, either as
a pre-shipment policy covering the buyer’s obligations from the time
the contract is signed and other related conditions are fulfilled, or
an after-shipment-only policy.The pre-shipment policy is by far the more
common, since it not only covers payments (if any) to be made by the b
before delivery, but also any other contractual obligation, the failure of
which makes the seller suffer a loss.Such insurance also strengthens th
seller’s option to arrange additional pre-shipment finance through banks or
other institutions.As with all insurance policies, a maximum amount of loss is stipulated
in each case (denominated in local currency), but within that limit, c
could also be settled in another currency if that is the valid currency
the claim (even if the currency risk is sometimes covered under separat
policies).Insurance premiums are individually set, based on the
assessment of the risk, the insured value and the length of the risk per
Application procedures
Every agency has established standard procedures for dealing with requests
or proposals for cover, following the normal business cycle of its customers
(most market insurance companies apply a similar structure).The first stage
is often in the form of a preliminary response, in oral or written form, when 146
the seller is in the early internal process of discussing or preparing t
he offer.
This response is without commitment, outlining only basic details for cover
(if any) together with indicative terms and conditions.The second stage is usually a conditional offer, issued upon request by the
seller when preparing an offer or a tender for contract.This offer, often fixed
for a period of 90–180 days, is more detailed, specifying the cover and the
premium, but is subject to certain terms and conditions, and to the business
details supplied by the seller.The third and final stage comes when the contract is secured (subject mainly to external approvals and documentation), when the conditional
offer is confirmed and the insurance policy is issued, which specifies the final
details and terms and conditions, with a validity for a period of 90–180 days
to allow time for documentation and fulfilment of all outstanding cond
in the contract.With this in mind, it is important for the seller to ensure that
any signed contract is conditional upon the final issue of the insuran
ce or
guarantee, but also that any material changes thereafter in the commercial
contract should have prior approval from the agency.
Investment insurance
This form of insurance covers events such as confiscation, expropriation,
nationalization or deprivation of the investor’s fixed or mobile overseas assets.
The cover can be extended to include war, civil war, strikes, riots, terrorism,
regulatory changes, currency inconvertibility, business interruption, and the
inability to recover leased equipment.This cover can be obtained from both
the private insurance market sector, but mainly from the official export
credit agencies for longer periods, totalling about USD 250 billion as per
end of 2014.The insurance programmes may differ in detail between the countries but
are generally based on the same principle to cover the investor against the
political risks in connection with their overseas investments (whereas
commercial risk is up to the investor/supplier to assess and to cover se
if needed).However, the cover can extend to breach of contract, where the
host government or a local authority causes the underlying reasons, also
often including the indirect consequences in case such events damage or
prevent normal business operations related to the investment.The schemes mainly provide cover for: 1) overseas direct investments as shareholder equity, loans or guarantees; 2) bank loans to an overseas company,
when used for investment or purchase of goods from that country.These
The Handbook of International Trade and Finance export Credit Insurance 147
insurance programmes have, over time, become very important for many
investors, which are often export companies creating production, storage or
sales facilities abroad to strengthen their business opportunities in th
e region.The programmes generally cover long-term investments, some as low as
USD 10–20,000 and with cover up to 90 per cent for up to 10 or 15 yea
During this period the investor can apply for annual renewals, sometimes at
unchanged terms and conditions, including premiums, even if the situation
in the country deteriorates.At the same time, the investor must normally
take the long-term view on the investment in order to benefit from the
with an intended investment period of at least three to five years, or in the
case of loans, with the same duration.
Export credit insurance – a summary
The commercial risk, often in conjunction with the political risk, is mostly
the main risk for sellers in their overseas trade.As has been shown in this
chapter, there are many different options for covering these risks through
credit insurance.The private insurance market covers primarily short-term commercial
risk, sometimes in combination with political risk, but mainly for shorter
periods up to two years, and is most competitive for a package of export
risks and not just individual transactions.The ECAs cover both the shorter periods, with a minimum of six months
up to two years, depending on the status of the importing country, but
mainly periods longer than that, where the private insurance market is less
competitive.However, for most, but not all, OECD countries they are only
allowed to cover the commercial risk on periods of two years and more.It is generally recommended that the exporter should establish a basic
risk strategy and a policy on how to make use of insurance cover when th
commercial/political risks involved cannot be fully covered through the proposed or agreed terms of payment.148
Trade finance
Finance alternatives
Being able to give or to arrange finance as part of an export transact
ion is
increasingly important, both as a sales argument and to meet competition
from other suppliers.This applies particularly in the case of heavier capital
goods or whole projects, where finance is often an integrated part of the
package, but it may also apply to raw materials, consumer goods and lighter
capital goods for shorter periods.
The length of credit is often divided into short, medium and long term,
even though such classifications are arbitrary and depend on the purpo
Short-term credits are normally for periods up to one year, even though
the typical manufacturing exporter would normally trade on short-term
credits of 60 or 90 days, perhaps up to a maximum of 180 days.Periods
between one and three, and sometimes even up to five, years may be referred
to as medium term, whereas periods of five years and over are definitively
long term.In general, the buyer often prefers to split the payment for capital goods
(machinery and installations with a considerable lifespan) into separa
instalments over longer periods, perhaps with the intention of matching
the payments against the income generated from the purchased goods.
In such cases, the seller may have to offer these longer credit terms to be
competitive.The credit period is usually calculated from the time of shipment of the goods, or some average date in the case of several deliveries.However, in
practice, payment is seldom made at that early stage and some form of
credit is therefore included in most transactions.The seller may prefer to
refinance such credits through ordinary bank credit facilities, especially for
shorter periods and smaller amounts.However, in other cases the financing
has to be arranged in some other way, which can also affect the structure of
the transaction.
149 150
Trade finance
The expression ‘trade finance’ generally refers to the financi
ng of fluctuating
working capital needs for either single or bulk trade transactions.This financing should, in principle, be self-liquidated through the cash fl
ow of
the underlying transactions.Trade finance is a major issue for both seller and buyer.In this book the
focus is mainly on the exporter’s situation, although the text will be as easily
understood by readers who want to view it from the buyer’s perspective.Typical trade finance lending is often secured by the export goods and/
or future receivables or other trade debt instruments such as bills of
exchange, thereby assuring any external lender that the incoming cash
flow will first be used for repayment of any outstanding debt before
released to the seller.This self-liquidating aspect of trade finance is
generally more secure for the lender compared to other forms of working
capital facilities and could therefore facilitate a higher lending ratio
often better terms than would otherwise be applicable.
Another aspect of trade finance involves different ways of obtaining s
that will enable the seller to extend such credits, often directly through the
terms of payment, or in combination with separate credit insurance.Such
risk coverage and the terms under which it can be obtained have a strong
influence on how export credits can be structured, including the terms of
payment and other conditions related to the transaction, particularly for
longer periods.Figure 6.1 provides a summary of the most frequently used
techniques for financing or refinancing international trade and the
text is structured accordingly.Of the alternatives, only one or two may be of interest in each case, depend-
ing on the particular area of business or trade cycle of the transaction,
is, the period from when the first costs are incurred for ordering raw ma
or other goods, until shipment and final payment from the buyer.However,
the trade cycle also covers the time from when the first risks have to
incurred, for example agreements with other suppliers or simply the need
to change internal procedures or preparations for the new production.This trade cycle can be relatively similar for most products within one
and the same company, depending on the area of business, or it can be
unique for every transaction.The character of the trade cycle will also
The Handbook of International Trade and Finance Trade Finance 151
Figure 6.1 Summary of trade finance alternatives
*See Chapter 7, Structured trade finance
Local currency finance* Forfaiting/
leasing* Buyer
Export lines of
credit* Invoice 
discounting Supplier
finance Own funds/ 
credit limits
T rade finance
differ between most suppliers and will determine the structure of the te
of payment, as well as the method of dealing with different trade finance
Pre-shipment finance
The expressions ‘pre-export finance’ and ‘pre-shipping finance’ (sometimes
also called ‘packing finance’) are defined as the temporary working capit
requirement needed for the fulfilment of one or several specific export trans-
actions.This covers the cash flow (and guarantees, if any) related to costs of
raw material and other goods, labour, equipment and overheads, until final
payment – or until the earlier stage where receivables or debt instru
are received from the buyer, which can be refinanced, either with or without
recourse to the seller.
The period before delivery is often the most difficult part of the exp
transaction, particularly when trading on an open account basis.In that
stage of the transaction the seller has only a sales contract, not a bill of
exchange or other debt instruments related to the trade, nor any of the 152
shipping documents that come with the actual delivery; for example, copies
of the bill of lading and the invoice, showing that delivery has taken place
and that a trade debt has been created.For ordinary day-to-day transactions, the most frequent method of
arranging pre-delivery finance requirements is through existing or add
tional bank credit limits, without involving the specific sales contract and/or
the additional security, if any, created by the method of payment.However,
when a business expands or, in the case of individual larger or more complex
transactions, when existing limits are fully used or needed elsewhere in the
ordinary business, it is important to know how to find the additional means
to finance the new transaction until payment is made or until document
can be produced, which are necessary for the refinancing.In some cases the
sales contract in itself can be used for creating that additional fina
nce during
the pre-delivery period, for example if and how a third party (ie a parent
company) is in any way influential upon the buyer’s payment obligations.The difficulty of arranging pre-shipping finance in connection with
account trading is a major reason for the development of the SWIFTNET
services and products, described in Chapter 2.‘The SWIFT system’ is a central
data information database that will increase the transparency of the tra
action and reduce the uncertainty for the participating bank, enabling them
to expand also their pre-shipment finance.The existence of an L/C or a payment guarantee in favour of the seller
could strongly facilitate the pre-shipment finance requirements in man
ways.The advantages of having the L/C made transferable are also obvious:
they will automatically transfer not only the financial cash flow bu
t also
security from the seller to their suppliers, who might use the transferred
L/C for their own pre-shipment arrangements.Many banks also extend special ‘export loans’ on the basis of the L/C up
to a certain percentage of its value, with or without the L/C and its future
proceeds pledged to the bank.Both the percentage and the collateral will
most certainly vary depending on the many aspects to be considered by th
bank, for example the issuing bank, the size and maturity of the L/C, its terms
and conditions, the nature of the goods and, perhaps equally important, the
knowledge and experience of the seller.The advantages of an L/C as a pre-shipment finance instrument also
apply to a payment guarantee issued by the buyer’s bank in favour of the
seller, but perhaps not to the same degree.The payment guarantee (supposed
to be a normal trade-related and conditional guarantee as described in
Chapter 3) is more like a credit risk umbrella covering the general pay
The Handbook of International Trade and Finance Trade Finance 153
obligations of the buyer according to the contract.But it does not contain
a mechanism, such as an L/C, where the issuing bank automatically has to
pay, irrespective of the buyer’s consent, when certain specified terms and
conditions are met.Even though it is thereby less precise than an L/C, most
banks will nevertheless regard such a guarantee as an important instrume
for increasing the seller’s credit limits.In a mutually advantageous business negotiation and when the com-
mercial parties know each other well, the buyer may even be willing to make
further concessions in the payment structure to accommodate the seller and
their need for additional pre-delivery finance.In fact, the buyer has already
done so indirectly by agreeing to an L/C as a method of payment in the fi
place, or by having it made transferable.If agreeing to support the seller’s
pre-delivery cash flow, this could also be done through inserting a ‘red
clause’ in its terms, even if such clauses are nowadays relatively rare in
international commercial trade.A red clause allows the seller to make use of
an agreed part of the value of the L/C before delivering the documents,
sometimes earmarked for payment only for some specific purpose.By insert-
ing such clauses in the L/C, this pre-delivery part-payment will, in fact,
become an advance payment.However, advance payments in general are
otherwise mainly used only as part of an overall part-payment structure, with the larger part being payable at shipment and with one part up-fron
and one part as a deferred payment; this type of split is often used in
tracts containing more than just delivery obligations, such as installation or
maintenance and over a longer period.Even if any form of advance payment received by the seller has to be
secured by a conditional bank guarantee in favour of the buyer, and thus
issued under the seller’s existing credit limits, it is still to their advantage
both from a cash-flow and a collateral perspective.Such a guarantee cannot
be drawn upon by the buyer as long as the seller fulfils the contractu
obligations and therefore involves no additional risk; for that reason s
a bank guarantee may be issued with other, less stringent security require-
ments from the issuing bank, compared with ordinary lending.
Working capital insurance/guarantees
When dealing with pre-shipment finance, one also has to look at the sales
contract between the commercial parties and how that could be used as
a financial tool.Both private market insurers and official ECAs may offer
pre-delivery cover (see Chapter 5, ‘Different forms of insurance’.) 154
Such cover can be issued in the form of an insurance policy to the
exporter or directly as a guarantee to an authorized lending institution
thereby enabling the seller to obtain a loan to finance their export of goods
and services, to be used for the following purposes:

●purchase of finished products for export;

●cost of raw materials, equipment, supplies, labour and overheads to
produce goods and/or provide services for export;

●work in progress and finished export goods;

●support standby L/Cs or other arrangements serving as contract or
payment guarantees;

●finance of open account or term receivables.
With such a working capital or pre-shipment guarantee, the seller should be
able to increase their borrowing capacity considerably in comparison wit
normal lending criteria.Such insurance/guarantee may cover up to 90 per
cent of the loan amount and with a maturity to match the underlying cash
flow requirements, typically from six months up to a year.The existence of separate credit insurance will increase the security of the transaction and will have a strong influence on the bank’s decision on
additional finance.This interaction between the seller, the insurer and the
bank (ongoing during the entire negotiation process with the buyer) ma
y be
the key for securing additional pre-finance needed for the transaction
.This procedure also gives the seller feedback on the terms on which the
insurer and/or the bank may be willing to participate and what might be
required from the seller and from the terms of payment in the sales cont
Having achieved that, the seller will have secured the support needed from
these institutions, covering both the risks involved and the cash needed as
pre-shipment finance.
supplier credits
Supplier credits are the most commonly used method of trade finance,
mainly for shorter periods but to a lesser degree also for medium-term
periods.The credit’s structure is determined by its time span and size, the
buyer’s country and the method of payment agreed in the sales contract –
details that determine not only the seller’s risk exposure but also the structure
required by the financial institution, should the credit have to be refinanced
at a later stage.
The Handbook of International Trade and Finance Trade Finance 155
The possibility of the seller agreeing to a supplier credit is determine
by how it can be refinanced, either through existing bank limits for smaller
amounts and shorter periods, or by separate discounting or refinancing of
the finance instrument that becomes available at shipment or shortly t
after.The credit terms that can be offered by the seller are also important
as a sales argument and as a competitive advantage – or at least as a
of being on an equal footing with competitors.Sometimes the terms of such short credits can be made particularly
advantageous for the buyer as part of the offer, even if the seller com-
pensates themselves in another part of the contract.The problem for the
buyer is that it is not easy to see if the price has been increased beca
of the favourable credit terms, and if so, by how much.There is also a risk
that the seller may overcompensate for the risks in their credit offer i
the buyer is unfamiliar or if the seller cannot evaluate the commercial
correctly.The buyer, on the other hand, may ask for a quotation to include
both cash against delivery and a supplier credit alternative in order to
able to make a fair comparison.The buyer may even start the negotiations based on cash against delivery
or short-term open account terms to allow for new and longer credit
negotiations at a later stage, when the price discussions are more or less
concluded.It will then be more difficult for the seller to add the credit costs to the price and these will have to be part of a separate negotiation in
the buyer again tries to get the best solution – or arranges the fi
elsewhere or, in the worst case, chooses another supplier altogether.Irrespective of how the negotiations proceed, there are some general
questions that the seller must evaluate before offering a supplier credit, such as:

●To what degree is the requested credit changing the commercial and/or
the political risk involved in the transaction?

●Can the buyer be expected to take any open credit costs?

●Should the financial costs be included in the original price offer or
the seller be proactive by keeping the credit terms open as a separate
question to be discussed with the buyer?

●How can such credit be refinanced?

●In the case of foreign currency invoicing, how should the currency risk be
evaluated and covered?
In cases of shorter periods and smaller amounts, these questions are easily
dealt with, but in other cases they may be one of the major aspects of the
Short-term supplier credits
The most common form of short-term supplier credits is in combination
with open account payment terms; that is, the contract is based on a future
payment transfer, and the invoice specifies the date when payment must
be received at the seller’s account.However, the seller has no other security
for the buyer’s payment obligations.Sometimes, particularly for periods
over three to six months, even short-term credits are arranged through
a bill of exchange to be accepted by the buyer at delivery, thereby replacing
the open credit with a documented debt instrument, payable at a specified
later date.The seller may nevertheless also enclose a bill of exchange with the
invoice even when trading on open account terms and on shorter payment
terms (30–90 days), showing the delivery date together with the correspond-
ing payment date.This could have its value even if the bill is not to be
accepted by the buyer because it connects the sales contract with the de
and the buyer’s corresponding payment obligations.This is the same pro-
cedure as used in connection with documentary collections, payable at
presentation.The seller should also evaluate whether it would be beneficial to offe
both cash against delivery terms and short-term credit on favourable ter
as alternatives; however, if choosing the latter, only conditional upon the
buyer’s acceptance of a bill of exchange when presented together with the
invoice.A short, well-documented supplier credit could have advantages for
both parties, compared to open account payment terms, for the following

●it could be an additional advantage for the seller from a sales perspect

●the buyer can use the credit for improved cash-flow management,
perhaps at more favourable terms, but with the strict obligation to pay at
maturity – with the risk for noting and protest of the accepted bill
if not

●the seller has the advantage of an accepted finance document that is easier
to refinance at an earlier stage, if needed;

●the seller can plan liquidity more exactly at the outset, knowing that
payment on maturity is highly likely; and

●the seller may wholly or partly include interest in the bill of exchange
compared with a later overdue interest (which in practice is very diffi
to receive).
The Handbook of International Trade and Finance Trade Finance 157
The difference between open account payment terms and the accepted bill
of exchange is also greater than one might first expect (even with the same
maturity date).With open account terms, the buyer has a stronger case for
negotiating with the seller prior to payment, should it be considered that
the delivery was not in accordance with the agreement.It could be anything
from time of delivery to shortcomings in the quality or quantity of the
– the main point is that the buyer may refuse to pay until the matter
resolved.However, by accepting the bill of exchange at or about the time of ship-
ment, the buyer has an unconditional obligation to pay, irrespective of
any real or alleged shortcomings discovered later in the delivery.If the claim
is correct, the buyer will probably get compensation; however, the bill must
be paid at maturity, irrespective of the ongoing discussions with the seller.When documentary collection is used as the method of payment together
with supplier credits, the documents will be released against acceptance of
a bill of exchange with a fixed maturity.The documents are exchanged
against the bill, normally without any further security for the seller.But,
if the supplier credit is given as part of an L/C (with documents again
acceptance), the banks involved will determine the procedure and will
also check the accuracy of the documents.Upon approval of the documents
presented, the bill of exchange will be accepted (by one of the banks as a
banker’s acceptance and not by the buyer) and can then easily be discounted
by the seller on favourable terms, mostly without recourse.
Medium- and long-term supplier credits
Supplier credits of two years or more are usually arranged in connection
with the sale of machinery, vehicles, equipment or other capital goods,
and with credit documentation that tends to be more complex than for
shorter periods.In these cases separate financial documentation is often
used, with or without supplementary bills of exchange – or promissory
notes with the same but more summarized wording compared to a complete
loan agreement.When bills of exchange or promissory notes are refinanced externally,
the seller often has a prearranged agreement with a bank or financial institution, specifying the details, including the security required for such
refinancing to take place.In any case, the seller is likely to have such refinanc-
ing agreed as part of the transaction, with all preconditions in place before
Example of a promissory note (issued under
a medium-term supplier credit agreement)
Promissory note No.10
For value received, Bayala Machinery Group Bhd, 2 Jalan Tong Shin,
50201 Kuala Lumpur, Malaysia (the buyer), hereby irrevocably and
unconditionally promises to pay, on 21 June 2021, to Pierson & Henders
Ltd, 4 West Regent Street, London EC2 4LP (the seller), or order, the
principal sum of one hundred and thirty-five thousand US dollars (USD 135,000) and to pay interest on said amount from and including the date hereof at the rate of five per cent (5 per cent) per annum.Interest
shall be
payable semi-annually in arrears on 21 June and 21 December each year,
commencing on 21 December 2016, calculated on the exact number of
days and a year of 360 days, and any overdue payment should be
calculated on a day-to-day basis at an interest rate of 7 per cent, unti
payment is made.Both principal and interest are payable in USD at First Commercial Bank, 3 Tower Hill Street, London EC2 3JK, in favour of the
lawful holder of this note, without set-off or counterclaims and without
deduction for present or future withholdings or taxes.This note is one of a series of ten (10) promissory notes in the aggre
amount of USD 1,350,000, of the like form and tenor except their number
and date of maturity, issued pursuant to the Contract Number DN/8318/26,
entered into between the buyer and the seller on 3 February 2016.The
contract covers sixteen (16) 280 KW diesel generating machines, the
delivery of which is fulfilled according to contract and unconditional
approved by the buyer by signing this note.Each one in this series of notes is covered by the enclosed separate
bank guarantee issued by Bank of Berhad, 304 Sultan Road, 50230 Kuala
Lumpur, Malaysia, a currency transfer guarantee by the Central Bank of
Malaysia and by a legal opinion issued by the law firm Derr & Whitney,
Kuala Lumpur.The laws of the United Kingdom shall govern this note, and the courts of England should settle any legal dispute.
Date and verified signatures
no Te: The above example is an illustration only; any debt instrument should always be subject to
legal scrutiny in each particular case.
The Handbook of International Trade and Finance Trade Finance 159
With longer supplier credits, two questions are important for both commercial
parties to agree upon: 1) the choice of currency; and 2) the choice of
or floating interest rate.The choice of currency need not be the same as the
invoicing currency, even if that is normally the case.However, if the parties
agree to a separate financing currency, they also have to agree at what future
date, and at what exchange rate, the change from invoicing to financing
currency will take place.The buyer’s possible currency deliberations are described in Chapter 4.
The outcome may be a ‘neutral’ third-party currency, often USD, which also
has good liquidity over longer periods and, therefore, is possible to hedge at
reasonable terms.However, if the currency of the credit is not the buyer’s
home currency, then the buyer takes the currency risk, or the hedging cost,
until final maturity (often with a substantial risk or cost if it is
either not
hedged at all or hedged against a weaker currency).The box on the previous page shows an example of a promissory note,
the last note in a medium-term supplier credit over five years with 10
and semi-annual instalments and fixed interest rate.As can be seen in the
example, a bank guarantee as well as a currency transfer guarantee from
the central bank may sometimes be required to make the notes acceptable
for refinancing (in this example by a UK forfaiting institution under
law).The choice of fixed or floating interest in a medium- or long-term
supplier credit is primarily the buyer’s, if a fixed rate alternative can be
obtained through the refinancing bank.That is most likely in the larger
trade currencies, either as direct refinancing or through interest swaps,
which are separate contracts with the bank, exchanging floating for fixed
interest rate under a fixed period of time.Such contracts in the larger trade
currencies can be obtained at reasonable rates for very long periods.
r efinancing of supplier credits
In one way or the other, the exporter has to finance or refinance any supplier
credit extended to the buyer; some of these methods have already been
mentioned, but as a summary, the most used forms of refinancing supplier
credits on short- or medium-term periods are: 160

●bank loans and trade finance limits;

●invoice finance facilities;

●export factoring;


●other medium-term refinancing.
The last point, other medium-term refinancing, is mainly relevant only to
larger or more complex supplier credits, when both the collateral and the
structuring of the documentation itself will become more complicated.Such
deals are often covered by export credit insurance and/or state-supported
export credits, sometimes involving not only the exporter’s own bank but
also special export banks.Such supplier credits are therefore – when it
comes to their refinancing – very similar to the structure of buyer credits,
which are separately described later on this chapter.
Bank loans and trade finance limits
The most common method of refinancing short-term supplier credits is
simply by using the seller’s existing bank credit limits, often the current
account and its overdraft facility, based on general collateral pledged to the
bank in the form of fixed or floating charges on the company’s assets.This
refinancing is then done at a floating interest rate determined by t
he lender
as for any other domestic loan, normally based on the prime or base rate of
the country, set by the central bank.This form of domestic bank finance is mainly used to finance ordinary
trade transactions based on open account payment terms, and since they
represent the major part of international trade, the banks are also the main
refinancing source of this shorter end of trade finance.If the transaction is made in foreign currency, the seller may alternatively
take a separate loan in the same currency to refinance the supplier credit,
thereby also covering the currency risk involved.Such a loan could also have
beneficial interest advantages if the currency in question has a lower
rate than the domestic currency.The currency loan will then immediately
be changed into local currency at the spot rate and repaid by the incomi
payment from the buyer.The cost for such a currency loan as compared to
a domestic base or prime rate loan will be based on the following factor

●the bank’s refinancing costs, which are generally based on the interbank
money market rates in that currency and for that period, as explained in
more detail at the end of this chapter (‘The international money mar
The Handbook of International Trade and Finance Trade Finance 161

●the bank’s interest margin as determined by the amount, customer
relationship and market competition;

●the cost for any currency hedge (which in this example is not needed si
the loan is automatically hedged by the incoming currency from the
Apart from these basic forms of general bank finance, banks also offer dif-
ferent forms of trade-related loans based on the individual transaction, normally connected to documentary collection and L/Cs, where if necessary
the documents and the corresponding flow of money can also be pledged to
the bank as additional security.In connection with documentary collection, the banks may give advance
payment against documents under collection to a certain percentage of th
value (up to 70–80 per cent), often under a separate and more favourable
trade-finance limit, to be used for self-liquidating trade transactions.The
accepted short-term trade bill of exchange, normally three to six months,
may also be discounted under such a limit.In case of an L/C payable by acceptance, some banks may offer separate
‘export loans’ up to a percentage of its value, available from the time of its
issuing.At the time of presentation of documents, the advising or issuing
bank will accept the bill of exchange, which can then almost automatically
be discounted and the net proceeds paid to the seller.After delivery, there are additional finance alternatives offered by both
banks and finance companies in connection with open account trading,
covering the short-term credit of normally 30–90 days included in mos
trade transactions.At that time, the seller has fulfilled their delivery obliga-
tions and a payment obligation on behalf of the buyer has been created,
evidenced at least by the seller’s invoice, indicating actual shipment.It is true
that the buyer may have objections to how the delivery has been executed,
but unless that is the case it should be possible to refinance that in
voice to
a certain percentage of its value to generate immediate cash for the sel
less interest and fees involved in the refinancing.The main alternatives available after delivery, based on the invoice alone
are described below.They are relatively similar and consequently often
treated as synonymous with each other, but in this book we make the main
distinction between the following two basic areas:

●Confidential financing, where the finance is a transaction between the
seller and the bank/finance company, of which the buyer is not aware.
This facility is referred to as ‘invoice discounting’ below.162

●Notified financing, where the buyer is fully informed about the finance
transaction, normally through an assignment on each invoice to a third
party.This facility is referred to as ‘export factoring’ below .
The parties offering these services are either banks or bank-owned fin
companies which receive most of their business through referrals within
group, larger and independent finance or factoring companies, or smaller
niche players concentrating on certain segments only.Since pure invoice
discounting or other invoice finance facilities are a quite straightfo
service offered by banks and their finance companies and also by a num
of other institutions, the general term ‘provider’ is generally used in this
connection, whereas ‘factoring company’, or ‘factor’ as it is commonly
known, is used in the area of export factoring.However, there are probably few areas within international trade finance
where both terminology and procedures differ so much as to how such
refinance is carried out in practice in all its different forms.The segmentation
into invoice discounting and export factoring, and the detailed description
below, may therefore not be accurate for each country, but it nevertheless
has a pedagogical advantage that will enable the reader to understand th
concepts and make use of them to their advantage according to their indi
vidual circumstances.
Invoice discounting
Invoice discounting (also called invoice finance or invoice lending d
on the nature of the facility) can briefly be described as the provis
ion of
finance against the security of a bulk of receivables, often both domestic
and foreign.Invoice discounting is a confidential facility; it is also mostly a pu
re lend-
ing facility where the title to the invoice and the right to the proceed
s remain
with the seller.It gives cash payment of a certain percentage of a bulk of
receivables, and invoice discounting is therefore mostly used when the seller
already has an internal system in place for effective credit control.Invoice discounting can accommodate most of the seller’s invoices based
on open account payment terms on a rolling basis; however, as it is con-
fidential, the buyers are unaware of the facility and the seller is responsible
for sales ledger administration and later collecting procedures, should that
be necessary.Some providers integrate invoice discounting with other services, such
as credit information, credit insurance and debt collection, to make this
The Handbook of International Trade and Finance Trade Finance 163
combination more competitive at a reasonable cost.Even if these ‘packages’
are constructed somewhat differently, this combined service has even more
similarities with factoring, seen from the seller’s point of view.It is important to remember that there is no typical invoice discounting
invoice finance facility since they differ not only between countries but also
between providers in one and the same country.However, the main features
of an ordinary invoice discounting facility used for trade finance pur
may include the following aspects:

●The buyer is unaware of the arrangements between the seller and the

●The provider may arrange the opening of a separate bank account in the
name of the seller, where all trade payments must be paid.This account,
along with the invoices, could be, but is not necessarily, pledged to the
provider as security.

●The seller may be required to send copies of invoices to the provider to
included under the facility, in order for them to keep the pool of eligible
invoices constantly updated.New invoices are included, and paid invoices,
together with unpaid and long overdue invoices, are deleted.

●The provider will make the facility available to the seller at an agreed percentage of the underlying invoices in the ‘pool’.

●The provider may send the seller regular statements in order for the sel
to check against the export invoice ledger, and the seller may be obliged
to send to the provider copies of that sales ledger at intervals for con
Invoice discounting is suitable for most companies and is particularly u
for smaller and rapidly growing companies whose balance sheets would
not be sufficiently strong to allow for the volume of ordinary credit
they may need for their expanding business.Such facilities mostly cover
both domestic and export transactions in order to reach administrative
advantages and critical mass, with foreign buyers mainly from developed and
neighbouring countries where open account payment terms are normally
practised.Invoice discounting is a ‘with recourse’ form of lending up to a certain
level of the face value of the invoices, often 70–80 per cent, based on a risk
assessment and mostly secured by either a general pledge on all the comp
assets or a specific and unsecured debenture covering invoices not alr
pledged.The finance percentage offered is not only based on the invoices 164
themselves, but also on their average distribution regarding amounts, buyers
and countries.As it is a confidential facility based on invoices only, the
general credit standing of the seller is most important, as are their experience
and track record, and the aggregate of all these criteria will determine the
percentage lending value and the cost structure.Invoice discounting could be used as an ordinary overdraft facility at
the seller’s discretion, set by the volume of the underlying eligible invoices,
forming a pool of available borrowing under the facility at any time.As the
value of the pool of invoices fluctuates, more or less money will be available.
In case of maximum utilization in conjunction with reduced total invoice value, or in case of non-payment when the invoice will be deleted from the
pool, the seller may even have to repay money in order to keep the agreed
percentage.Invoice discounting can release liquidity instantly at a high percentage of the underlying receivables and because of the nature of the facility
it can
also be made relatively cost-effective, especially when all sales invoices are
included; hence its popularity in many countries.Some providers also offer
these facilities via the internet, which facilitates the practical day-to-day
handling for both parties and gives the seller an instant picture of usage and
availability at any time.The cost depends on the services involved, often
charged for by means of a flat fee related to the agreed total limit a
nd an
interest rate for actual usage that is usually higher than a normal over
facility, together with additional handling charges, based on volume and
the work involved.
Export factoring
Factoring is a special form of short-term finance where a finance co
(the factor) purchases the seller’s receivables and assumes the credit risk,
either with or without recourse to the seller.Factoring is still mainly used in
the industrialized countries and within trading areas with a relatively
structure of harmonized laws, rules and procedures.It is generally more
complex, involving not only finance but also additional services, and in
many countries it is therefore used more selectively and often for larger
individual amounts compared to invoice discounting finance.The principles
of export factoring are basically the same as for domestic factoring and
therefore only a few paragraphs in this chapter refer specifically to export
factoring.In its original form, the seller entering into a factoring agreement sells
the receivables to the factor, mostly also relieving themselves of the credit
The Handbook of International Trade and Finance Trade Finance 165
control and debt collection functions, which are assumed by the factor
against a fee.In such a case, the factor also gains the title to the invoice
and the right to the proceeds, and takes future decisions, if any, regarding
collection and other measures, including the legal work in the event of
non-payment.The seller will display a notification on the factored invoices,
informing the buyer that the invoice has been transferred to the named
factor, together with instructions on how payment is to be made directly
to them in order to discharge their payment obligation.The seller also
sends copies of the invoices and the shipping documents to the factor,
or alternatively the factor issues the invoices themselves upon instruct
from the seller.The factor starts with a credit assessment of the seller and the general structure of their trade and previous experience, followed by an assess-
ment of the different buyers, including any insurance cover, to establish
individual lending limits on the buyers and a total credit limit for the seller.Factoring could have the following advantages for the seller:

●a better risk performance than for other finance alternatives through
the credit information services included;

●more punctual payments from the buyers, aware of the sale of the invoices
to the factor;

●the borrowing value of the invoices could be higher than through ordinar
bank lending, thereby increasing the seller’s total liquidity;

●the seller can often make use of additional administrative systems to
reduce workload.
Factoring is mostly in the form of ‘with recourse factoring’ with up to 90 per
cent of invoice value, with the provision that if the buyer fails to pay the
invoice after a set period of time, the factor will be repaid by the seller.
In some cases factoring can be provided as ‘non-recourse factoring’, where
the factor stands the risk in the event of bankruptcy or liquidation of the
buyer.In these cases the seller will never be requested to repay the discount
invoice to the factor and can then remove the invoice from the receivabl
in the balance sheet.However, they may have to pay interest for the agreed
waiting period after the due date, normally 60–90 days, as specified in
the factoring agreement.Most such non-recourse factoring relates to larger
individual transactions, either based on good corporate names with little
risk or secured by separate credit insurance or similar security.It is often said that factoring is more expensive than similar bank
services, in particular export factoring which may often also be the case, 166
but such a comparison could also be somewhat misleading as the services
are difficult to compare.In most cases factoring does lead to considerably
more punctual payments, better control of outstanding receivables and
less administrative workload for the company.The factoring services are
generally more efficient with regard to slow payers and in these cases
the use
of a factor can have an effect – and the seller avoids straining the
relationship.Apart from the interest charged, a flat service fee is also charged on every
invoice factored, the size of which depends on workload and services
included, numbers of factors involved and the total factoring turnover.
The seller should therefore complete a cost/revenue valuation in relatio
n to
the services offered – and needed – compared with more traditional bank
lending.When it comes to export factoring in particular, there are in principle two
basic forms, either ‘two-factor export factoring’, where the seller’s domestic
factoring company uses local correspondents (either an independent comp
or a branch) in the buyer’s country within a chain of cooperating factors,
or ‘direct export factoring’, without such a local factor being involved.From
the seller’s perspective, there is a big difference between these two alterna-
tives, when it comes to both cost and risk involved.The use of domestic factors or branches of an international organization will mostly increase the overall cost structure, but has the big advantage
of a local presence and knowledge of the buyers.The local factor will also
have full knowledge of the legal aspects of factoring in that country an
how it operates in practice, and of debt recovery and similar procedures,
should that be necessary at a later stage.This overall knowledge and experi-
ence of both the seller’s factor and their correspondents abroad will finally
decide in what countries export factoring could be used as a viable alte
tive to other forms of finance.However, for larger volumes in one and the
same country, the seller or its foreign branch may prefer to use a local factor
directly, making it a completely domestic factoring.Figure 6.2 shows the two-factor alternative, in which the seller’s factoring
company cooperates with a domestic factor in the buyer’s country.Some major global providers of credit information (see Chapter 1) have also expanded their services into the credit risk management area, thereby
offering in-house combinations of purchase of invoices, credit information,
credit insurance and debt collection.These services combined are relative
similar to export factoring, and are sold within their own organization
through a network of branches around the world, in competition with the
established factoring companies.
The Handbook of International Trade and Finance Trade Finance 167
Figure 6.2 Export factoring*
Seller Buyer
Seller ’s
company Foreign
company Invoice
Invoice copy
Payment at maturity
Invoice copy
Invoice payment

Advice of payment
* Explanations relating to the numbering are included in the text.
Refinancing of short-, medium- or long-term supplier credits is mostly handled
by the commercial banks, often together with, or in competition with, separate
export banks specializing in the longer periods of export finance.
However, the medium- and long-term finance market also includes the
special forfaiting institutions, which have a long tradition in financing
international trade in particular.They are mainly located in the larger inter -
national financial centres and the size of this form of refinancing
has grown
considerably during recent years in line with the rapid growth of inter -
national trade, not least in the expanding Asian markets.The value of the
forfaiting market is now estimated at more than USD 300 billion annually
even if that also includes areas formerly termed ‘forfaiting’ but conducted
under other names, for example discounting.Forfaiting basically means the surrender of an unconditional future right
to trade-related or other claims through accepted and freely negotiable
instruments, in return for the receipt of prompt payment.Forfaiting is thus 168
not a single product but more a combination of different principles and
techniques for discounting, covering maturity dates ranging from 180 days
up to a more typical three- to five-year period, even up to 10 years.The
receivables are mainly in the form of bills of exchange, promissory notes or
other negotiable debt instruments.When it comes to risk evaluation of both individual buyers and countries
the forfaiters are well placed in trading these financial instruments
spreading the risks through risk participation and distribution through
other domestic and international credit risk insurers, using established
reinsurance and syndication techniques.Forfaiting thereby covers both
a primary market towards the original customer as well as creating a large
secondary market of negotiable debt instruments.Forfaiting risks are generally based on security in the form of first-
corporate risks with an acceptable political profile, or otherwise with dif-
ferent combinations of bank guarantees, standby L/Cs, undertakings from
ministries of finance in the case of sovereign buyers, with or without
currency transfer guarantees from a central bank.The diversity of the
operations, often with the forfaiters specializing in different countries or
commodities, may therefore create different risk evaluations and credit
decisions among these institutions, influenced also by their existing ex-
posure and limits.When a deal is concluded with the seller/exporter, the forfaiting house
will issue a firm or a conditional facility letter, specifying the terms and
conditions for discounting and the interest level and fees to be applied.The
example of a promissory note shown earlier in this chapter illustrates the
terms and conditions that would be acceptable by a forfaiting house to
discount such notes without recourse, in that case secured by a separate bank
guarantee covering the payment obligations of the buyer in combination
with a currency transfer guarantee from the central bank.Forfaiting normally requires larger transactions to be cost-effective, with
a minimum of at least USD 100,000, but the procedure is mostly quite simple,
as illustrated in Figure 6.3.The International Chamber of Commerce (ICC) in cooperation with the
International Trade and Forfaiting Association (ITFA) has recently issued
the first Uniform Rules on Forfaiting (URF 800), similar to the existing rules
for documentary credits and guarantees.These rules, which contain 14
clauses or articles with clear definitions, now form a set of global standards
around the world with the aim of avoiding misunderstandings, harmonizing
best practice and facilitating dispute settlement.
The Handbook of International Trade and Finance Trade Finance 169
Figure 6.3 Structure of a typical forfaiting transaction
1.Forfaiter commits to purchase deal from the Exporter
2.Commercial contract between Exporter and Importer
3.Delivery of goods from Exporter to Importer
4.Bank gives guarantee
5.Importer hands over documents to Exporter
Exporter delivers documents to the Forfaiter
Forfaiter pays cash ‘without recourse’ to the Exporter
Forfaiter presents documents to Bank at maturity for paymentImporter repays Bank at maturityBank repays Forfaiter at maturity
1 6 7 4 9
Funds Flow
Flow ofGoods
Document Flow
no Te: Structure of a typical forfaiting transaction – primary market.This diagram assumes that a guarantee or
aval has been given by the importer’s bank: this is not always necessary.
sour Ce: Illustration adapted.Original illustration kindly provided by the International Trade and Forfaiting
Association (ITFA)
More information about URF 800 and forfaiting in general can be
obtained directly from the International Trade and Forfaiting Association,
ITFA, which with about 150 members is the worldwide trade association
for commercial companies, financial institutions and intermediaries engaged
in forfaiting:
Buyer credits
Buyer credits are given directly to the buyer or the buyer’s bank in connection
with the export transaction.This enables the seller to receive cash payment
at delivery and/or at different stages of construction or installation, while at
the same time a longer-term credit is extended to the buyer.Buyer credits are
normally used for larger individual transactions, particularly when the
transaction involves more than just delivery of goods or covers a longer contract period, and often also when the delivery is tailor-made to the
specifications of the buyer.170
Buyer credits may be given in two different forms, as shown in Figure 6.4,
either directly to the buyer’s bank, ‘bank-to-bank credits’ for further
on-lending to the buyer, or directly to the buyer, ‘bank-to-buyer credits’,
then mostly covered by a guarantee from the buyer’s bank.However, since
this difference is relatively small from the perspective of the seller, we shall
deal with both these forms as bank-to-buyer credits below.When exporting to industrialized countries, but also to many emerging
market countries, buyer credits are usually arranged on pure market terms.
However, outside these countries it is seldom possible to finance transac-
tions of this nature on longer terms on the open market; they need to be backed by additional security, mostly in the form of export credit insurance.
The seller should then coordinate the commercial negotiations with the
buyer and with both the chosen bank lender and the insurer so that the
contract and the corresponding loan agreement can be developed in parall
during the negotiating process.One of the important aspects of buyer credits is how they relate to the
underlying contract.Financial credits are principally unrelated to the
obligations between the commercial parties, and that also applies to buyer
credits when the buyer normally has to approve the delivery in connectio
with entering into the loan or disbursing money under it.The outstanding
contractual risk at that time, if any, for the due fulfilment of the seller’s
obligations is then normally covered outside the loan agreement by a sep
performance guarantee in favour of the buyer, in order to keep the commercial
contract and the financial credit separate while protecting the buyer
at the
same time.Should that procedure not be suitable, the loan may contain
recourse clauses towards the seller until the obligations of the seller
approved by the buyer, involving a corresponding credit risk for the bank
lender on the seller during that period.The loan agreement and its final wording have to be approved by all
parties – the buyer, the seller, the banks and the credit insurer, if applicable.
They are normally based on the same principles as an ordinary internatio
loan agreement, but also include the relevant parties to the commercial con-
tract so that the two agreements harmonize during the disbursement perio
Thereafter, they should be seen as two totally separate agreements.
The Handbook of International Trade and Finance Trade Finance 171
Figure 6.4 Supplier and buyer credits – a comparison
Seller ’s
Seller ’s
Buyer’ s
(Supplier)  Buyer
Seller Supplier credit
Buyer credit
Alt. 2
Alt. 1

Refinancing is done through a bank or some other financial institution, with or without recourse
to the seller.
2 Credit amount is normally 80–85 per cent of contract value and the buyer instructs the seller’s
bank to release the money directly to the seller under the credit agreement.
3 With bank-to-bank credits, the seller’s bank has the buyer’s bank as counterpart, and that bank
arranges a similar loan with the buyer, mostly with the same/similar documentation.
4 With bank-to-buyer credits, the seller’s bank has the buyer as a direct counterpart in the same
way as the seller in the commercial transaction and will, in these cases, request a third-party
guarantee, normally from the buyer’s bank, covering the buyer’s obligations under the credit
Export credit banks/financial institutions
In most countries the actual lending of export credits is made through
commercial banks, either on their own without additional support, or
with such support, mostly in the form of guarantees from export credit
agencies, when the credit risk (commercial and/or political) is otherw
deemed too high.These agencies, on the other hand, are basically
insurance or guarantee institutions, but they seldom give direct loans
themselves.In many of the larger exporting countries, however, the financing is
also done through special export credit banks or similar financial
institutions, owned or partly government owned as official export
institutions, even if the practical aspects of loan documentation and lo
administration may remain in the hands of the cooperating commercial ban
during the lifetime of the loan.But the official lender is then the e
credit bank, which also funds that lending on the international markets,
being capitalized in such a way that they achieve the very best terms for
their funding.As official institutions, their structure and activities may include:

●administration of state-supported export credit schemes as well as
extending loans on commercial terms based on market funding,
both floating and fixed rates of interest;

●lines of credit (see Chapter 7) established with major banks in their
importing countries, providing export finance facilities also for smal
export transactions based on prearranged loan documentation;

●administration of grants in tied or untied mixed or concessionary
credits to developing countries on behalf of the government aid agency
(see Chapter 7, ‘Multilateral development banks’);

●financing of long-term investments and acquisitions made by domestic
businesses in their internationalization process.
Most export credit banks also have the additional advantage that, as
official export institutions, they may avoid having to pay withholding
on interest that would otherwise be applicable in some buyer countries,
resulting in even lower interest rates being offered to their customers.
The Handbook of International Trade and Finance Trade Finance 173
Normal terms and conditions in buyer credits
Buyer credits can be arranged in almost any way and on terms decided
between the parties, as long as it is done on market terms without government
support.However, when such support is needed, the credit terms must also
comply with the Consensus rules, as described below.The exported goods should qualify for credit periods of at least two
years, with 15 per cent of the contract value as advance payment and a
maximum of 85 per cent credit, with disbursement, repayment and interest
structured according to the Consensus rules.However, for buyer credits, the
minimum contract value is normally considerably higher compared to ordin
supplier credits, since this type of financing is mainly applied to larger and
often tailor-made transactions, which are more difficult and costly to arrange.Buyer credits may be given in most trade currencies, at both floating and
fixed-term rates.Officially supported rates may also be given, particularly
on a fixed-interest basis, even if the market rates often can be as competitive,
particularly in a low-interest environment.Other finance techniques such as
‘interest swaps’ are also available to offer competitive fixed m
arket rates for
long-term credits and larger amounts through the international money
or capital markets.If possible, offers can also be made to provide the loan, or
part of it, in the buyer’s local currency.(See Chapter 7, ‘Local currency finance’.)
The Consensus – a summary
The OECD has stipulated a number of guidelines for restricting state-
supported export credit competition between countries, often referred to as the ‘Arrangement’ or the ‘Consensus’; it contains guideli
nes for minimum
and maximum credit periods, amortization structure, minimum advance
payment and, above all, minimum interest rates and minimum premium
rates.The minimum credit period for which these rules apply is two years,
with repayment in equal half-yearly instalments (plus interest).A min
payment of 15 per cent has to be paid before the starting point of the c
redit.The maximum credit period for high-income OECD countries is up to
five years; however, in exceptional circumstances this may be extended to
8.5 years after international pre-notification.For all other countrie
s the
maximum credit period is 10 years, but shorter periods may apply for
certain commodities and lower contract values.
s 174
The minimum level for state-supported fixed interest rates is based on OECD guidelines – the CIRR rates (Commercial Interest Reference Rate
which are revised monthly, based on the assumption of what they might
have been if finance had been available.The two types of CIRR are con
CIRR and pre-contract CIRR, which is 20 basis points higher.The advantage
of the pre-contract CIRR for the seller is that they can submit a cost-f
offer to the buyer based on a fixed interest rate at the date of the a
which can then be held during the negotiations for up to 120 days.The
contract CIRR must be applied for before signing the contract and will b
the rate applicable at contract date, so in this case the parties will n
know the exact rate in advance.After contract, the rates so determined
will be held for another 180 days to allow time for credit documentation
.In addition to interest charges, a Minimum Premium Rate (MPR) is also
to be paid, covering the ECA’s credit risk and long-term operating costs
and losses.The MPR is based on a number of different factors, including country risk classification, risk period and buyer risk.More detailed information can be obtained from commercial or export
banks, or directly from the ECAs listed in Chapter 5.
The loan agreement in a buyer credit contains the same standard clauses
in every other international loan, such as conditions precedent, default
clauses and applicable law, along with legal opinions regarding both the
loan and the sales contract, showing that they are compatible, legally
enforceable and duly executed.It must contain confirmation of receipt of
the stipulated advance payments, and other relevant details of the commercial
contract must be included.The disbursement clauses also have to be properly
documented.Most buyer credits are disbursed directly to the seller in one
payment or related to the seller’s successive performance, and the loan
amounts will be payable against certificates of completion countersign
ed by
the buyer, according to a preliminary draw-down plan and timetable as an
appendix to the agreement.
The international money market
Apart from purely domestic finance, based on prime or base interest rates
decided by the domestic central bank, the market commonly used for the
The Handbook of International Trade and Finance Trade Finance 175
refinancing of trade finance is the international and unregulated mo
market or markets, operating within financial centres in different time zones.
These markets trade in short-term currency loans and deposits, whereas the
expression ‘capital markets’ refers to long-term periods, usually only for
larger amounts and with fixed interest, for example through bonds and
other long-term instruments.Often the term ‘eurocurrency’ or ‘euromoney’ is used for deposits traded
on these markets, referring to funds that are held by a bank or other party
outside the home country of the specific currency, but it now has nothing to
do with Europe, even if that was where originally a major part of these
funds were held.The prefix ‘euro’ is thus nowadays a reference to deposits
outside the jurisdiction of the local central bank, first of all in the currencies
of the four major economies, USD, EUR, JPY and GBP, but this reference
may be applicable to any other currency as well.For example, ‘eurodollar’
for USD held outside the United States, and ‘euroyen’ for JPY held anywhere
outside Japan.The money markets are not physical marketplaces but a general descriptio
of the trade itself, carried out in different currencies between numerous
lenders and borrowers.The major banks, both domestically and interna-
tionally, play a central role through their internal interbank deposit trading,
which is crucial for both liquidity and stable market conditions – in
same way as banks operate in the currency market.For short-term loans
and deposits in different currencies, this interbank money market is often
referred to by the names of the financial centres where the main banks are operating; for example, the London Interbank Market, where the
corresponding interest rates are referred to as London Interbank Offered Rates (LIBOR).LIBOR is the world’s most widely used benchmark for the short-term
interest rates which the world’s leading banks charge each other for short-
term loans, and is used to calculate interest rates on various loans throughout
the world.LIBOR is handled by the ICE Benchmark Administration, thereby
also called ICE LIBOR, covering five different currencies: US dollar (USD),
euro (EUR), pound sterling (GBP), Japanese yen (JPY) and Swiss franc (CHF)
with seven different maturities from one day to a year.London is thereby by
far the largest money marketplace, not only in the European time zone, and
the financial centre to which many commercial contracts or agreements
worldwide are referred.There are however a number of other financial centres where interbank
money market rates are quoted and widely used in their respective parts of the world; for example TIBOR, the Tokyo Interbank Offered Rates in 176
euroyen, HIBOR, the Hong Kong Interbank Offered rates in Hong Kong
dollar and SIBOR, the Singapore Interbank Offered Rates in Singapore
dollars.The ‘euro-’ prefix is thus used nowadays to indicate any currency
held in a country where it is not the official currency.These constantly
fluctuating money market rates are often different from the domestic b
ase or
prime rates in the same currency, which are regulated by the domestic
central bank and mostly changed only at intervals to regulate economic
activity within the country.This difference between domestic and free money
market interest rates in the same currency could be quite significant
in times
of credit crunches or turmoil on the money markets and these unregulated rates are therefore the best indicator of the real cost of short-term mo
ney in
that currency.When it comes to the euro currency itself, European banks have estab-
lished an interbank reference rate called EURIBOR (Euro Interbank Offer
Rate), which is the benchmark rate of the interbank euro money market that
has emerged since 1999, sponsored by among others the European Banking
Federation.EURIBOR is the rate at which euro interbank term deposits are
offered between prime European and international banks for different
maturities, ranging from one week to a year, published on the major currency
FX market screens, such as EBS and Thomson Reuters.During the day, an interbank reference rate is fixed in most currencies, to
be used as the reference rate in, for example, contracts and loan agreements.
Most such rates are published daily by central banks or bank association
through different online information systems or separate web pages, usually
at 11.00 am local time, for periods up to a year.They are also quoted in
financial newspapers and other media as the established short-term int
tional interest rates for the most common currencies.However, as the market
interest rates change continuously during the day, more accurate information
is available either through the banks’ own internet-based information
or through direct contact with their trading departments.For participants
actively trading directly in the market, there are also specialized online
systems available, with almost identical and instantly updated currency and
money market information.Floating interest rates related to trade finance are often based on these
interest rate fixings, even if more details have to be specified in each
individual case; for example, ‘USD LIBOR three months interest rate, at
11.00 am on (date) as shown on (screen website)’.To be even more precise,
many loan agreements also often refer to the average interest quotations from some specifically named major banks in that market (reference ba
to get the interest rate absolutely identified and fixed without ref
erring to a
The Handbook of International Trade and Finance Trade Finance 177
general marketplace.The total interest rate for the customer also includes
the margin as applied by the lending bank(s) in each individual case, or as
specified in the loan agreement.Trade finance transactions are generally based on bills or notes when i
comes to supplier credits, but more frequently on separate loan agreements
for buyer credits and structured trade finance transactions, as described
earlier in this chapter.Short-term bills of exchange are often combined with
a fixed interest for the entire period until the due date, with the capital
amount and interest rate compounded into a fixed amount to be paid at
maturity.Promissory notes are often made in the same way, but for longer
periods they have to be more detailed and are usually designed as short
agreements, based on either a floating or fixed interest rate.For buyer credits (bank-to-bank or bank-to-buyer credits) and other
forms of structured finance, a separate and detailed loan agreement is
always used for these longer periods.If based on a floating interest rate they
also contain a clear definition of how the interest should be calculat
ed and
fixed for each short interest period, with a successive number of roll-over
periods of, for example, three or six months until final maturity.The borrower
can often also choose the length of these roll-over periods and at the e
nd of
each such period interest is due, together with amortization, if any.Many loan agreements also give the borrower the option to change
currency at the end of each interest period, but combined with a maximum
amount expressed in one base currency in order to cap the total outstand
loan in case of adverse currency exchange movements.This structure, with
different optional currencies, floating or fixed interest rates and variable
loan periods, can be adapted to suit the changing circumstances of the
borrower during the lifetime of the loan and makes the international mon
market a very flexible source for short-, medium- or even long-term trade
finance, based on a variety of financing techniques.One of the advantages of longer-term loans based on short-term roll-over
periods is that they are simple to use and so flexible that, in principle, they
can be adapted to any trade or financial transaction for almost any pe
The disadvantage for the borrower on longer periods can be the floating
rate, which makes the credit costs difficult to evaluate in advance, but this
problem is easily resolved in most cases.In Chapter 4, the forward points system was described as the basis for
establishing currency forward rates.The technique is similar for changing
floating interest rates into fixed rates through interest swap agree
A five-year loan based on, for example, three-month LIBOR may thus be
changed into a fixed interest rate loan at any time during the loan pe
This is done through a separate interest rate swap agreement with a bank
whereby the borrower agrees to receive the floating rate needed to service the
loan and deliver fixed interest rates to the bank under the swap agree
ment.However, such a swap agreement contains an additional risk for the bank
should the borrower default during the period of the loan, thereby not being
able to deliver the fixed interest.It is, therefore, subject to a separate credit
decision within that bank, but the technique and the market liquidity make
it possible to hedge the interest rate for very long periods.In the most-traded
currencies this can be done up to five or even 10 years, thereby eliminating
the potential disadvantage of using the money market’s short-term interest
The Handbook of International Trade and Finance 07
trade finance
The expression ‘structured trade finance’ is used in many different situations
and is not generally defined.In this book it has the meaning of prearranged
or tailor-made trade financial techniques or structures, designed for individual
transactions or projects, arranged by, or in cooperation with, specialized
financial institutions.
International leasing
Leasing in its simplest form is a means of delivering finance, broadly defined
as ‘a contract between two parties where one party (the lessor) provid
es an
asset, mostly equipment, for usage to another party (the lessee) for a specified
period of time, in return for specified payments’.Leasing is a medium-term form of finance for machinery, vehicles and
equipment, with the legal right to use the goods for a defined period of time
but without owning or having title to them.The lease is normally divided
into two separate categories:
1 The operating lease – where the lessee is using the equipment but where
the risk of ownership with all its corresponding rights and responsibili
is borne by the lessor, who also buys insurance and undertakes responsi-
bility for maintenance.Furthermore, the duration of an operating lease
is usually much shorter than the useful life of the equipment and the
present value of all lease payments is therefore significantly less th
an the
full equipment value.In most respects, the operating lease is equivalent
to rental and, under most jurisdictions, the equipment consequently
remains on the books of the lessor.
2 The financial lease – where all practical risks of ownership are borne by
the lessee, who uses the equipment for most of its economic life with
or without the ultimate goal of acquiring it at the expiry of the lease
an agreed and often nominal cost.From the outset, the lessor therefore
179 180
expects to recover from the lessee the capital cost of the investment
along with interest and profit during the period of the lease (often
a ‘full payout lease’), and where in most cases under the tax laws of most
countries, the equipment has to stay on the books of the lessee.
The distinction between these types of lease is not always that clear in
and many leases are frequently structured in one way while being defin
ed in
another, usually owing to potential cost or tax advantages.However, the
rules (IAS 17) of the International Accounting Standards Board (IASB) are
nowadays the general norm for classification.
The objective of IAS 17 is to prescribe, for lessees and lessors, the appropriate
accounting policies and disclosures to apply in relation to finance an
d operating
leases.A lease is classified as a finance lease if it transfers substantial
ly all
the risks and rewards incident to ownership.All other leases are classified as
operating leases.
When the sales contract between the supplier and the lessor, and the leasing
contract between the lessor and the lessee have been signed, the equipment
is usually delivered directly from the supplier to the lessee, who is the end-
user of the equipment.Following approval of the delivery by the lessee, the
lessor remits the payment to the supplier.The equipment, together with the
leasing contract, constitutes security for the lessor, sometimes together with
a limited or full supplementary repurchase agreement with the manufactur
supplier.But most of the risks, rights and obligations in connection with the
use of the equipment rest with the lessee.The lessee leases the equipment for a period that corresponds to either
the economic lifetime of the equipment or a shorter period thereof, with
monthly or quarterly lease payments, based on annuities, which could be
adapted to the lessee’s own fluctuating liquidity situation during the year.
At the end of the lease period, the equipment is either returned to the lessor
or the lease is extended for a new agreed period; however, the lease contract
could also include an option for the lessee to buy the equipment at the prevailing market value at that time or at a fixed percentage of the original
lease value.This is a general description of a lease, also shown in graphic form in
Figure 7.1.The principles are basically the same irrespective of whether it is
a domestic transaction or an export or international lease, the obvious main
difference being that in the latter case the parties are located in diff
countries.However, that difference could have a major impact on the trans-
action and how it is executed.
The Handbook of International Trade and Finance structured Trade Finance 181
The most common form of lease in connection with day-to-day export is
when a leasing company in the ‘buyer’s’ country is buying the equipment
from a foreign supplier and leasing it to a lessee (the buyer) in thei
r country.
Such a lease should be regarded more as a domestic lease, mostly arranged
in local currency and with other parts of the contract also adapted to l
conditions.It may be arranged or initiated by the seller as part of the
offer and normally leads to cash payment for them upon acceptance of the delivery by the buyer (the lessee), but with continued responsibility for any
contractual repurchase, partial guarantee or other undertaking the seller
may have to enter into with the foreign lease company.
Cross-border leasing
When the lessor and the lessee are located in separate countries, the expression
‘cross-border leasing’ or ‘structured leasing’ is often used.This type of lease
may be structured to take maximum advantage of differences in tax and
depreciation rules between countries.This may produce a most competitive
solution, often generating an effective total cost for the lessee lower than the
best commercial interest rates.To produce such results, the lease agreements
Figure 7.1 Summary of a lease transaction
Sales contract
Lease contract

Invoice payment Acceptance of delivery
Lessor in the country of the seller or the lessee
Lease payments

are sometimes structured to involve more parties than the original ones:
example, an investor in a third country who might legally, and from a tax
perspective, also be the formal owner of the equipment, thereby creating
depreciation in several countries on the same equipment.Such leases are
frequently used in connection with big ticket deals such as aircraft, large
computers, ships, railway carriages and other rolling transport vehicles.Local authorities have understandably tried to prevent the excessive use of such tax-driven arrangements and there is a constant battle between
financial engineers on the one hand, trying to find new solutions, and the
tax authorities on the other, trying to cap their use for tax purposes.Most
cross-border leases are however considerably less complicated and used f
more ordinary-sized equipment as an alternative to other medium-term
trade finance solutions, in which ownership, depreciation and other tax
aspects may be important but not crucial to the execution of the transac
Short-form summary of an international lease contract
§ 1
– Definitions, parties involved and the description of the equipment.– Conditions precedent for executing the agreement.– Terms of lease and for prolongation, cancellation or termination.
§ 2
– The lessee’s receipt and final approval of the equipment.– The terms for the lessee’s right of use of the equipment.– Requirements for a separate service agreement between the
supplier and any local agent of choice in the country of the lessee.
§ 3
– Choice of currency, the lease calculation and terms of payment.– Rules for default interest.
§ 4
– Geographical area for the equipment to be used and rules for
§ 5
– Rules for VAT payments for leases and residual values.– Rules for payments of import duties or any other taxes.
The Handbook of International Trade and Finance structured Trade Finance 183
Even for ordinary cross-border leases, detailed knowledge of the legal
consequences is crucial, as are the tax implications.For example, VAT –
should it be paid, and in what country and by whom?The aspect of legal
ownership also has to be addressed, which may depend on factors such as
the length of the lease in relation to the life of the asset, transfer of ownership,
the discounted lease payments in relation to market value, any options for
‘bargain price’ sales, etc.These aspects are also the actual basis for determining
whether the transaction is to be deemed an operational or a financial
in many countries, with economic consequences for both the lessor and the
lessee.Legal ownership is thus an important factor to consider in each case, not
only in relation to pure economic advantages and commercial and politica
risks, but also with regard to legal and economic consequences in the event
of damages and claims from any third party (which may be governed in
accordance with the laws of the country where the equipment is used).
§ 6
– Conditions, if any, for transfer of the lease agreement.
§ 7
– Discharge for the lessor against claims from the lessee for fault or
deficiencies in the equipment and the lessee’s responsibility for any
third-party claims or damages in the country of operation.
§ 8
– Rules for insurance and arrangements in case of damage or total
loss.– Rules for current inspection of equipment by selected third party.
§ 9
– Lessor’s right to repossess the equipment.– Rules in case of use of lease option or return of equipment.
§ 10
– Rules for legal actions, applicable law and definition of force
§ 11
– Guarantees, or other security, if any, to cover the obligations of the
Within industrialized countries, however, where most lease transactions
are made, the applicable law for governing the lease contract, as well as
definitions for tax and accounting purposes, is becoming increasingly similar.
In other markets, where that might not be the case, the lease is usually
arranged through a local leasing company to avoid these and any other
third-party risks.If the lease is part of, or connected to, larger projects it will
probably come under the general framework governing the project as a
whole.A cross-border lease can be arranged in most international trade currenc
based on floating or fixed interest rates in accordance with the str
of the annuities in the contract.Other advantages for the ‘buyer’ could be
100 per cent finance, flexible annuities and the use of a source of finance
that will not affect the existing credit limits with their banks.They may also
have an option to replace the equipment with newer versions and may also benefit financially from tax benefits in their country.It is up to them to compare
the advantages and cost of leasing with other financial options, and for the
seller to explore these options with a leasing company in their own coun
in order to be able to offer the most competitive financial solution.
Export leasing insurance
Many ECAs offer cover for export leasing transactions to facilitate this form
of export finance, adapted to the structure, product and size of the deal,
sometimes in the following two forms, reflecting the basic lease structure:
1 Operating lease policy, predominantly based on a less than full payout
and no transfer of title at the end of the lease period, together with
a value depreciation cover to be borne by the lessor.The insurance
may cover both periodic and fluctuating lease payments as well as most political risks after a repossession period due to government actions,
including expropriation, confiscation and licence cancellations, with
coverage of up to 95 per cent depending on the nature of the transaction
and risks covered.
2 Financing lease policy, mainly based on a non-existing residual value
at the end of the lease period.It is therefore quite similar to a policy
covering an ordinary medium-term credit, requiring a 15 per cent advance
payment from the lessee with equal (plus interest) or annuity-based
repayments and with coverage of up to 95 per cent of each lease payment
as they fall due.
The Handbook of International Trade and Finance structured Trade Finance 185
Most lessors are eligible as policyholders, provided the equipment is leased
to a lessee outside the exporting country, in combination with similar rules
on domestic manufacture, material input and foreign content restrictions, as
in other ECA insurances.The premiums adhere to OECD guidelines, reflecting
the risk elements and the period of the transaction.More information can
be obtained directly from the relevant ECA; see Chapter 5.
Lines of credit and local currency finance
Lines of credit
As mentioned earlier, buyer credits are usually arranged in connection with
tailor-made transactions, requiring a relatively high contract value to be
cost-effective.This is one reason why many commercial banks in exporting
countries have established separate lines of credit directly with foreig
n banks
in countries where there is a substantial and established trade pattern, to be
used for smaller and more ordinary transactions.
Lines of credit, which may be arranged by both commercial and special
export banks, are often backed by an ECA insurance or guarantee, given to
the bank arranging the line of credit, covering each individual commercial
contract to be financed.The advantages for the seller in such an arrangement
are that these lines of credit and their corresponding export credit ins
if needed, are already in place at the time of negotiation with the buyer,
especially identified for low-value contracts.Each established line of credit specifies the framework for the fina
such as goods, currency, minimum and maximum value of contracts, conditions
precedent, applicable law and most other standard clauses in an ordinary
international loan agreement.However, the credit terms must be consistent
with the OECD Consensus rules, if backed by an ECA guarantee.This
established framework makes it easy to add only the specific details o
f each
commercial contract as they materialize.Such lines of credit are intended as
general-purpose lines to be used to finance a number of different cont
but could equally be used as a framework for the financing of a specific
project with deliveries from a number of suppliers from the same country
.More details on banks and countries where such lines of credit are in
existence can be found at the website of the national ECA (see Chapter 5)
or directly through the major banks; the seller can thus find out in a
if such limits are available in their particular case.186
Local currency finance
Most of the export credit alternatives available directly to the buyer h
ave so
far been described as based on finance in the larger international tra
currencies, which implies a currency risk for the buyer unless that risk can
be hedged or balanced by a matching inflow in the same currency.For buyers
in industrialized countries this is usually not a big problem.However, to
hedge a strong currency against a currency with a potential devaluation
– or convertibility risk owing to a change in law or regulations –
can be very
expensive.The buyer is also seldom in the fortunate position of having a
constant inflow of foreign currency or being able to generate such earnings
from the purchased goods.Consequently, many buyers have taken huge
currency losses from entering into overseas export credits in recent yea
rs.For that reason, many buyers outside the industrialized countries may
prefer finance in their own local currency, either for the whole credit amount
or part of it, despite the higher interest rate usually incurred.The financial
consequences of a local currency credit could at least be more calculabl
even with a floating interest rate.Such local finance, however, would probably
not be available to the buyer without a credit guarantee covering the ri
involved on behalf of the lender.Many ECAs have therefore introduced
schemes based on the buyer credit structure, with up to 100 per cent uncon-
ditional guarantee to the financing bank, even if only for selected domestic
currencies.Such loans are raised in the buyer’s country and financed by
a local bank, based on the Consensus credit terms.Such loans would normally be at floating rates owing to the difficul
ty of
swapping these into fixed-term rates at a reasonable cost and for the
required.Other criteria also have to be fulfilled owing to the implications
for the country concerned.The local currency has to be convertible in some
sense and the local market needs the capacity to support the finance w
major impacts.It also has to be approved by or at least acceptable to the
local financial authorities.If the commercial contract is in USD or some other commonly traded
currency, which is usually the case, at some point in time there has to be a
conversion into the local currency of the loan agreement.The parties have
to agree when the exchange should take place and, consequently, who should
stand the currency risk during the period between signing the contract a
the time of conversion into local currency.More information about the
availability of local currency finance can be obtained from the releva
nt ECA;
see Chapter 5.
The Handbook of International Trade and Finance structured Trade Finance 187
Project finance and joint venture
Project finance
Project finance in its original meaning is normally related to larger
private or public sector projects, for example factories, power plants, larger
construction or infrastructure projects, sometimes of national interest in the
buyer’s country.They are generally to a high degree based on the revenues
of the project itself, mostly secured on its assets and less on the creditworthiness
of the buyer, as this party is frequently only a single-purpose company or a
partnership with limited equity.
Such projects can take years until a signed contract and an effective lo
agreement stage are reached, sometimes because of internal political or local
controversy as to its real or alleged social, economic or environmental
consequences.Such projects also incur more pre-contract costs than ordinary
export contracts, not only because of their length but also through feasibility
studies and appraisals, legal and technical costs and necessary approvals by
a number of local authorities.In many of these projects, finance is the key question, or rather how to
arrange and structure the necessary collateral for such finance.The World
Bank, through its International Finance Corporation (IFC), and some of the
regional development banks are often involved in larger projects of nati
interest, together with international banks and the national ECAs from the
supplier nations.But the final solution for the project finance will inevitably
be as complex and tailor-made as the project itself.Owing to the cost and work involved, such projects usually have a high
minimum support value, and the credit periods may be up to 15–20 years
with flexible loan structures and amortization periods reflecting th
e structure
of the project.Other requirements are mostly that support, at least from the
commercial banks, should be given as senior debt and risk sharing on an
equal basis with other lenders.It is not within the scope of this handbook to elaborate more on this
often highly complex area, more information about project finance and the
criteria and preconditions for participation can be obtained directly fr
the domestic agency or export council or through the larger commercial
Joint ventures
In many developing countries and/or emerging market countries, the seller
could be asked to participate as co-owner of the project, or even be
required to do so in order to secure the contract.The buyer may have
many reasons for such a request and local authorities may even have it a
a requirement of the successful bidder before giving import licences or currency approvals.In other cases, it could be advantageous for the seller
and their future business prospects with a particular buyer, or for the long-
term goal of establishing a permanent base and a competitive advantage
in the country or region.The local partner may hope that a joint venture will not only offer capi
or equity advantages, but also the benefits of technical knowledge and
management along with the international marketing expertise that an inte
r -
national partner can provide.The authorities can also look for potential
advantages in the form of a widened infrastructure, additional exports and
the creation of new jobs.The establishment of a joint venture often requires significant management
resources from the seller and it may take years before the advantages ca
be seen; before then, many legal, cultural and management differences may
have to be solved.On the other hand, many host nations clearly see the
advantages of joint ventures and can back them in many ways through loca
support or market benefits.Today, most countries accept foreign majority
ownership as well as foreign management, which may increase the potential
value for the international company of such ventures but also mitigate a
potential internal frictions.Joint ventures are also actively coordinated or
supported by the development financial institutions or the region’s multilateral
development banks or funds, and such support would certainly add both
credibility and legitimacy to the project.
Development finance institutions
To facilitate the creation of joint ventures in developing countries, the
International Finance Corporation (the World Bank) is actively assisting such
joint ventures or partnerships.Many industrialized but also some emerging
market countries have established similar corporations on a smaller scal
so-called development finance institutions (DFIs), to promote and/or support
companies, mostly from their own country, in forming such joint ventures in
primarily the developing or emerging market countries.
The Handbook of International Trade and Finance structured Trade Finance 189
Business opportunities
One of the practical services offered within most exporting countries wh
it comes to projects, joint ventures or similar real or potential transa
is the information given by government institutions, trade or export
councils or similar organizations.The purpose of this service is to spr
such information among the country’s own business community, gathered
by or through their embassies, consulates or trade representatives aroun
the world, often in combination with information provided by multination
development banks or United Nations institutions.
When this service is available in a country it is mostly restricted to t
local business community to give a competitive advantage and, therefore, the companies normally have to register in some form, sometimes with a
profile of their own business, to receive information from specific
around the world relevant to their product/services.This information ma
be given as a free internet-based service or as a service to be charged
for.The information may be divided into different categories, such as:

●specific private sector opportunities: including enquiries from overse
agents and distributors looking for business contacts or other potential opportunities found locally by the trade representatives stationed

●tender or public sector opportunities: including invitations to pre-qual
for larger projects;

●joint venture or investment opportunities: with information about
requests or possibilities for manufacture, investment or distribution in overseas markets;

●multilateral aid agency business opportunities, with details of overseas plans, proposed or approved by multilateral funding agencies.
For more information about this export service, which is available in so
form in most countries, the exporter should contact the trade organizati
in their country.
DFIs are private sector development finance vehicles, generally directly or
indirectly owned and funded by governments.Although their charters and
their project focus may differ, depending on the trade marketing or investment
profile of the home country, they also have many similarities.190
DFIs normally operate in developing or emerging market countries with a
low or middle per capita income eligible for such investments according
international agreements (the OECD’s DAC list).Their objectives are to support
economic development in the country of investment while at the same time
supporting co-investors from their home country to the benefit of thei
r own
country.The projects are mostly based on cooperation between reputable local
partners and the foreign co-investor in order to strengthen the viabilit
y of
the joint venture, particularly in smaller or medium-sized production, trade
or marketing set-ups, when this combination of local and foreign know-
how may be a precondition for its success.Participation by the DFIs can
take different forms.The DFIs operate with a large spectrum of investment or financial tool
to suit the individual project, such as equity, loans or guarantees, but also
quasi-equity or mezzanine instruments such as preference shares, converti-
ble or subordinated loans and management buy-ins or buy-outs.The equity
investments are generally only minority stakes ranging from 10 per cent
upwards, and with a clear strategy of how to exit the project when viable,
normally within a period of three to seven years.The projects often involve participation with other institutions, particu-
larly in the case of larger joint ventures, and then mostly in the form of
partnerships with other DFIs or with the multilateral development bank
in the region.They also work closely with the official ECAs (export credit
agencies) from the investing countries in order to leverage the project
s in
emerging markets.More information about DFIs in different countries can
be found on the following websites:

●Association of European Development Finance Institutions (EDFI),;

●Association of African Development Finance Institutions (AADFI),;

●Association of Development Financing Institutions in Asia and the
Pacific (ADFIAP),;

●Association of National Development Finance Institutions in
Member Countries of the Islamic Development Bank (ADFIMI),
To support overseas long-term investments, including this form of joint venture,
the national export credit agency and many market insurers can provide
insurance cover to companies and investors or directly to the financin
The Handbook of International Trade and Finance structured Trade Finance 191
banks against the political risks on equity, loans or guarantees invested in
the project.These overseas investment insurance programmes are described
in Chapter 5, ‘Investment insurance’.
Multilateral development banks
Over many years, a number of multilateral and regional development banks
have been established, with the main purpose of supporting projects vital
for economic development within the region.
The best known of these institutions is the World Bank, which is not a
bank in the common sense, but consists of five unique organizations, of
which the best known are the International Bank for Reconstruction and
Development (IBRD) and the International Development Association (IDA).
Each institution plays a different but important role in the main missio
n of
the World Bank, namely to reduce global poverty and improve living standards.
The IBRD is the main lending agency and raises most of its money in the
world’s financial markets by selling AAA-rated World Bank bonds, usually
to financial institutions, pension funds and other institutional money managers,
as well as to central banks.The IBRD focuses on middle-income and credit-
worthy poor countries, while the IDA focuses on the poorest countries in the
world.Together they provide low-interest loans, interest-free credit and grants
to developing countries for education, health, infrastructure, communications
and many other purposes.When pursuing business opportunities in projects financed by the World
Bank, it is essential to understand that the governments, or their departments
or agencies, in the developing countries are the borrowers of money for
specific projects and are also responsible for procurement.All contracts are
therefore between that borrower and the supplier, contractor or consultant.
The World Bank’s role is to ensure that the borrower’s work is done properly,
that the agreed procurement procedures are observed, and that the entire
process is conducted with efficiency, fairness, transparency and impartiality.The International Finance Corporation, which is also part of the World
Bank Group, operates on a commercial basis, providing a mix of finance
(loans, equity finance, risk management products and intermediary finance).
It is active in promoting projects for the development of private indust
ry by
participating as shareholder or lender in joint ventures vital to the co
and with reasonably good prospects.The World Bank Group also includes
the Multinational Investment Guarantee Agency (MIGA), guaranteeing the
political risks for investments and projects in many developing countrie
A number of regional development banks have also been set up, based on
the same principles as the World Bank, but with a more regional purpose.
The largest of these are the African, Asian, Inter-American and Islamic
Development Banks and their development funds for lending on ‘soft terms’
to projects of special importance for regional development.These institutions
also have finance agencies similar to the IFC model to promote private industry within their regions.The regional development banks not only participate in projects as a
lender or a guarantor but frequently also, and more directly, in feasibility
studies and promotion of the project itself, even as co-arranger.Their
involvement often takes place together with international banks and ECAs
from supplier countries, but also in cooperation with local governments,
which are often the borrowers or the guarantors of the loan.This gives these
projects a high political and financial priority within the country an
d an
added reassurance to co-partners, suppliers and creditors that they will be
financially secured, not only during the construction phase but also during
the entire repayment period.The development banks have a high international rating due to their
ownership, capitalization and proven financial record and can therefore
often offer their borrowers better than market terms, for example through
lower interest rates and longer repayment periods.However, they can cater
for only a small part of the finance requirements.Therefore they also
contribute to the development of different forms of leveraged finance,
as co-joint or parallel financing techniques together with other sourc
es of
finance, for example international major commercial banks, special export
banks and aid agencies from industrialized countries.The projects supported by the development banks are often very attractiv
for potential suppliers, not least because they receive cash payment through
the finance arranged by the banks.The rules for tender for projects financed
by or through the development banks may vary, but bidding is often
restricted to companies from the bank’s member countries.However, most
industrialized countries are also non-regional members of these banks an
their national businesses are thereby eligible to bid even for such rest
contracts.It is not within the framework of this book to describe these developmen
banks in detail, although the European Development Bank is described in
summary below due to its more direct link to international trade.
The Handbook of International Trade and Finance structured Trade Finance 193
Some larger regional development banks/institutions
Regional development banks are important for promoting and supporting
larger international trade transactions and projects in their respective regions.Further information about their activities can be found on thei
websites.It is recommended that the seller trading in the areas covered
these institutions study these websites, since they often provide valuab
information and links to other local institutions:
African Development Bank (AfDB)
African Development Fund (AfDF)
Asian Development Bank (ADB)
Asian Development Fund (ADF)
European Bank for Reconstruction and Development (EBRD)
European Investment Bank (EIB)
European Investment Fund (EIF)
Inter-American Development Bank (IDB/BID)
International Bank for Reconstruction and Development (IBRD)
World Bank
International Development Association (IDA), World Bank
International Finance Corporation (IFC), World Bank
Islamic Development Bank
Multinational Investment Guarantee Agency (MIGA), World Bank
Nordic Investment Bank 194
European Bank for Reconstruction and Development
The EBRD, established in London in 1991, is a development bank with a
somewhat different profile from the other development banks and therefore
probably more relevant for exporters and suppliers from most countries
involved in ordinary trade as well as for investors in the 30 countries
it presently operates.The bank is owned by the member countries of the OECD and by many
emerging market countries, the European Union and the European Investment
Bank, and has a capital base of EUR 30 billion.Its main objective is to support
countries from central Europe to central Asia, including many former Soviet
republics, plus the southern and eastern Mediterranean areas.It describes its
goal as follows:
To provide financing for banks, industries and businesses, both in new ventures
and investments in existing companies.It also works with publicly owned
companies, to support privatization, restructuring state-owned firms and
improvement of municipal services ...and promote policies in these countries
that will bolster the business environment.
The EBRD is the largest single investor in most of the markets in which
operates.Although one of its core businesses is the finance of larger projects, it is involved in many other areas as well.EBRD financing of private-sector
projects generally ranges from EUR 5 million to EUR 250 million, in the
form of loans or equity.Smaller projects may be financed through financial
intermediaries or through special programmes for smaller direct investme
in the less advanced countries.Apart from different forms of projects, the bank has also been involved
in several hundred thousands of additional smaller transactions, promoting
small businesses in particular, crucial to nurturing a private sector economy
in these countries.This is mainly done through EBRD’s Trade Facilitation
Programme (TFP), developed to promote and facilitate international trade
by co-financing and/or facilitating domestic funding for other finan
cial institu -
tions or banks, and by supporting local commercial banks, equity funds and
leasing consortiums.Through these arrangements EBRD makes loan financing
and/or guarantees available to such companies for domestic or international
trade, covering a wide range of goods and services including consumer goods,
commodities, equipment, machinery and construction as well as technical
and other support.Since its launch in 1991, the programme has initiated
over 16,000 such trade transactions, valued at about EUR 10 billion.
The Handbook of International Trade and Finance 08
Terms of
Terms of payment and cash management
Through the terms of payment, the objective of both parties is to optimize
the outcome and profitability of the transaction within the framework
of an
established and acceptable risk level.However, from the seller’s perspective,
the terms of payment can also be used as an additional sales argument to strengthen their competitive edge, in the same way as other parts of the
contract.This makes it important to understand the structure of terms of
payment and how they could be used in conjunction with guarantees, different
forms of finance solutions and separate export credit insurance.Such a
framework also raises the question of how to use the capital resources i
the most efficient way.Anyone who controls these matters will be a better
negotiator and able to conduct more profitable business.In most cases, effective cash management means minimizing the use of
capital while at the same time using the resources available to support
core business of the company.Good cash management could, for example,
involve the seller offering the buyer a medium-term supplier credit in o
to be more competitive, providing the risk is curtailed and that such credit
is deemed to be necessary to be competitive.Effective cash management could also include the seller taking the decis
to delay, restructure or cancel a transaction if the risk structure is outside an acceptable level, for example if the buyer is not fulfilling part of the contract
through the late or incorrect issuing of an L/C.This is why the structure and
wording of the terms of payment are so important – particularly when
things do not develop according to plan and when both parties begin to
scrutinize the wording.There must never be any doubt as to how the seller,
for example, can or may act in different situations without risk of damages,
callings under guarantees or other countermeasures from the buyer.It is through the correct structuring and wording of the terms of payment,
in conjunction with any additional security arrangement, that both parties
195 196
should be able to determine, in advance and with a high degree of accuracy,
when, where and how payment will be made.That will also determine what
capital resources are needed during the different phases of the transact
which is the basis for all cash management, particularly in international
trade where some risk elements are more difficult to evaluate.The different structures of practical terms of payment shown below must
of course be adjusted to the individual preconditions in each case.But when
payment can be anticipated with accuracy within a narrow timescale, it
can also be incorporated into the payment flow of the company in advan
with optimal effect on its liquidity planning, making the necessary capital
requirement easier to calculate and finance, and any currency risk easier
to cover.Finally, it should be remembered that the seller very often has to complement
these terms of payment against the buyer with additional and separate
arrangements in order to get the total security that is needed to be abl
e to
enter the deal.These arrangements may involve separate currency, financial,
guarantee or insurance transactions with banks, financial institutions,
insurance companies or export credit agencies, as shown in Figure 8.1.
Contents of the terms of payment
When negotiating with the buyer, the seller needs to determine the detailed
terms of payment to be included in the sales contract.This can be a complicated
Figure 8.1 Terms of payment and their potential components
Trade Risk
Assessment Terms of Payment
Bonds and
Export Credit Insurance
Documentary Collections Letters
of Credit
Trade Finance Alternatives International
Money Markets Cross-border Leasing
The Handbook of International Trade and Finance 197
process in which, initially, both parties could have different views.For more
complex transactions, new buyers or countries with an increased political
risk, the terms of payment may often be among the last or most difficult
areas to be agreed.When entering into negotiations it is essential to know what details the terms of payment must contain and what minimum requirements the seller
must adhere to in order to maintain the expected level of security.These
minimum requirements are:

●when payment should take place (time of payment);

●where payment should take place (place of payment);

●how payment should take place (method of payment).
In the case of several payments, each part has to be treated as a single terms
of payment – this also applies to guarantees issued under the contrac
Time of payment
The seller and buyer may have different views on when payment should
take place: the buyer wants to make the best use of a competitive situat
by having the seller finance the purchase through a short- or longer-term
supplier credit on attractive terms, whereas the seller would probably prefer
payment on delivery or with a shorter deferred payment covering the ship
period only.The negotiations will determine when the payment will take place, or in
the case of larger contracts or longer contract periods, when the different
part-payments will take place – both before and after delivery – mostly
along with the larger part-payment at delivery.However, the possibility of offering supplier credits has become increasingly
important as a sales argument.Even with smaller transactions it is quite
normal to offer short-term credit for 60–90 days, including the period of
transportation.In other situations, involving larger transactions, both seller
and buyer may have a common interest in having the deal financed throu
a third party, often separate bank-to-bank or bank-to-buyer credits.This
will give the seller cash payment on delivery while the buyer gets bank
financing (on even better terms than they could have achieved on thei
r own),
which could at best also wholly or partially balance the cash flow gen
from the purchased goods.The size of the transaction, the delivered goods and the length of the
credit discussed and the security for it will finally decide what cred
it terms
can be offered to bridge the gap between the different views of time of payment.
Terms of Payment 198
Place of payment
The question of where payment should take place must be defined, since it
determines the fulfilment of the obligations of the buyer.This also relates to
what form of payment is used.L/Cs are normally payable at either the issuing
or the advising bank.This means that either of these banks takes responsibility
for transferring the payment to the seller – but only after the documents
have been approved.The situation is similar when a documentary collection is used as the
method of payment – the difference being that the buyer has fulfilled
their obligations when paying or accepting a bill of exchange against th
documents at the collecting bank.It is then up to this bank to transfer the
payment according to the instructions originating from the seller.In the relatively few cases when payment by cheque is agreed upon, it must
be made clear whether the seller will accept a commercial cheque or a ba
cheque (also referred to as a banker’s draft).It is up to the parties to decide
if the buyer’s obligations have been fulfilled when the cheque is sent, when it
has been received by the seller or when it has been cleared in the banki
ng system
and the payment is available to the seller as cleared funds.This includes the
question of who covers the postal risk, should the cheque be delayed or lost.In the case of bank transfer, the place of payment must be decided by the
parties involved.The seller wants the payment to be received by their bank
before accepting that the buyer has fulfilled their payment obligations,
whereas the buyer may consider their obligation to have been fulfilled
they pay the amount at their local bank.For payments within most OECD
countries, this may be a matter of only two to three banking days’ difference,
with the reliable and fast international transfer systems most banks ope
through the SWIFT system.However, there are other reasons why the place
of payment should be clearly defined.Irrespective of the transfer system used, a payment out of a country might
depend on currency regulations or be delayed for other reasons.These could
include incorrect handling or slow practices in general, bank strikes or other
forms of force majeure, or simply insufficient or incorrect payment instructions
from the buyer, which could cause a long delay.The question of where the buyer fulfils their payment obligations in
connection with open account payment terms is always a matter for the pa
to agree.If no such agreement is made, disputes may arise later on, and may
then have to be decided by the applicable law.In most countries, the law
stipulates that the debt should be paid at the domicile of the creditor, namely
the seller.It is therefore also in the buyer’s interest that the place of payment
is stated in the terms of contract, particularly with larger amounts, when
every day’s interest is important.
The Handbook of International Trade and Finance 199
The place of payment should therefore be defined as being at the premi
of the seller’s chosen bank and account number, and the corresponding
SWIFTBIC codes should always be included in the terms of payment to secu
accurate and rapid transfer.
Summary of the structure of the terms of payment
Listed below is the basic structure of some of the most commonly used
terms of payment, grouped in order of their advantage to the seller.
Table 8.1
Terms of payment Comments
A: Payment before delivery
1.Without advance payment
Gives the highest security for
the seller.
2.Against contractual advance
payment guarantee.2.
As above, based on due
fulfilment of the contract.
3.Against an ‘on demand’ advance
payment guarantee.3.
Gives less security for the seller
(seldom used alternative).
B: Payment at delivery
1.Letter of credit, documents
against payment.1.
High security – dependent on
the strength of the issuing bank
– and if confirmed or not.
2.Documentary collection,
documents against payment.2.
Dependent on the buyer
honouring the documents – and
which documents are included.
C: Payment after delivery
1.Letter of credit, documents
against acceptance.1.
Same security as B but with
later payment.
2.Payment secured by payment
The security is dependent on the
issuing bank and the wording of
the guarantee.
3.Documentary collection,
documents against acceptance.3.
As B, but after the release of
documents the risk is solely on
the buyer until payment.
4.Bank transfer.4.Risk on the buyer until payment.
Terms of Payment 200
Methods of payment
How payment is made depends on the role of the banks involved and affect
the security offered to both buyer and seller.As described in Chapter 2,
‘Different methods of payment’, payments can, in principle, be divided into
two main categories: ‘clean payments’ and ‘documentary payments’.Clean payments (bank transfers and bank or corporate cheques) are
primarily used when the parties have agreed on open account payment
terms, meaning that the buyer must pay according to the contract after
receiving the seller’s invoice specifying the payment date.With the absence
of any other security for payment, clean payments (mostly bank transfers)
are regularly used within industrialized or neighbouring countries or in
conjunction with other security, for example credit insurance.Documentary payments are used in situations other than those
mentioned above, when the need for additional security is greater, whether
the underlying reason is the buyer or their country, the nature or size of the
individual transaction or the route or length of transport.The documentary
payments are divided into documentary collections (bank collections), when
the buyer has to pay or accept a bill of exchange to obtain access to th
documents for collection, or L/Cs where the seller is also guaranteed payment
if the documents presented are in accordance with the terms of the L/C.
s tructure of the terms of payment
Based on when, where and how a payment is to be made, the parties can, in
principle, design many different combinations.Examples of some frequently
used terms of payment are given below, showing what they should contain,
as a platform for adapting them further according to the specific situ
No examples are given for the use of cheques as this form of payment is
not frequently used in international trade and has no main advantage ove
a bank transfer.However, should payment through corporate cheques be
allowed by the seller (as is sometimes practised by large buyers becaus
e of
its cash management advantages), or payment through a bank cheque, this
has to be agreed between the parties on a case-by-case basis, and then follow
the basic structure and wording of the bank transfer, as shown in the box below.
Bank transfer (bank remittance)
To ensure that payment will be received by the seller’s bank at maturity, it is
up to the buyer to arrange the payment through their local bank some day
The Handbook of International Trade and Finance 2 01
prior to this date.The possibility of receiving overdue interest for shorter
periods is often limited in practice, but the mere mention of it could have
a positive effect on timely payment.(See also the example below, where the
open account transaction is secured by a separate bank guarantee.)
Structure of terms of payment based on bank transfer
in open account trading
‘Payment through bank transfer, which shall have reached (name and
address of the seller’s chosen bank, with full details of the SWIFTBIC code
and/or customer account numbers), not later than 90 days from date of
invoice, which shall be the same as the date of shipment.Interest on
arrears at x % pa is charged from maturity date until payment is receive
Bank guarantee
As additional security covering the open account sale, the terms of payment
could stipulate that the buyer should arrange a bank guarantee covering
payment obligations according to the contract – particularly if the t
includes a longer supplier credit.A bank guarantee has to be issued under the existing credit limits with
the buyer’s bank but it should, in reality, come without any additional risks
for the buyer (in the case of a conditional guarantee), provided they fulfil the
payment obligations already agreed.Such a clause could have the wording
shown in the box below.
Structure of terms of payment combined with a bank
‘The buyer has to arrange a payment guarantee issued by ...(the nam
e of
the buyer’s bank) for USD (amount) – in favour of the seller, covering the
buyer’s payment obligations according to contract.The guarantee shall be
advised through ...(the name of the seller’s bank) and shall have reached
that bank not later than 30 days from date of contract and be valid for
30 days
from last delivery as stipulated in the contract.’
Terms of Payment 202
Structure of terms of payment based on documentary
‘Payment through documentary collection at first presentation of do
through (complete name and address of the chosen bank at the domicile o
the buyer, where the documents should be presented).‘Payment should be effected against presentation of the following

●at sight bill of exchange drawn on ...(the buyer);

●invoice in triplicate;

●certificate of origin issued by ...;

●insurance policy, issued by ...., covering ...(value and risks);

●full set of clean-on-board bill of lading, blank endorsed.
‘All collection charges (alternatively, bank charges outside the seller’s
country) are to be paid by the buyer.Interest on arrears at x % pa will
be charged on overdue payments and is to be paid together with the
This wording, referring to the underlying sales contract, makes it a
conditional guarantee, payable only after the applicant’s approval (the buyer
in this case) or after the issuing bank has been satisfied that the b
uyer has
defaulted in their contractual payment obligations.
Documentary collection (bank collection)
By specifying the chosen collection bank at the buyer’s location, the documents
can often be sent directly to this bank by the seller’s bank without delay.Unless the buyer’s bank is not a particularly small local bank, it is normally
advantageous for the seller to agree to use the buyer’s main bank, where the
buyer may also have to give good reasons for unduly delaying payment or
acceptance.However, it should also be advantageous for the buyer to have
the documents sent directly to their own bank.
The Handbook of International Trade and Finance 203
It is important to agree in advance which documents the buyer needs and it is also up to the buyer to decide if additional details should be inc
for example, latest shipping date, port of loading and destination in the
bill of lading, or endorsement instructions for the shipping and insurance
documents.However, overly detailed specifications are not necessarily
beneficial for the seller, who might want some flexibility in shipment and
documentation details (while still adhering to the stipulations in the
contract).The expression ‘clean on board’ in the bill of lading in the example is
a standard expression indicating that no damage or defective condition
of the goods or their packing could be noticed at the time of loading.As
a document of title, it should also be endorsed in blank or to any other party
as agreed in advance.
Letters of credit
In most cases it is satisfactory to specify the terms of payment as show
n in
the L/C example in Chapter 2, as long as there is a clear reference to the
underlying contract.The same comments also apply as for the earlier
documentary collection.Under the present ICC rules UCP 600, all L/Cs are by definition irrevocable
and therefore there is no need to specify this fact in the terms of paym
but on the other hand there is no harm in doing so.Since this tradition of
referring to an L/C as being irrevocable has been so fundamental, this
practice will probably continue for some time to come, but we have decided
to follow the ICC definitions in the examples in this chapter and not
use this
old expression.The L/C is often issued in such a way that it may at first glance appe
ar to
be in accordance with the contract, but nevertheless contains minor details
that could make it difficult for the seller to comply totally with its
or create uncertainty if that will later be the case.In this example (see box
overleaf), the seller therefore has reserved the right to have reasonable
amendments made in order to be able to comply with the terms of the L/C,
as long as they do not violate the details in the underlying sales contr
between the parties.
Terms of Payment 204
Both the detailed agreement concerning the L/C and the subsequent handli
of documents require a high degree of care so that the seller obtains the
advantages and security upon which the transaction is based.Unfortunately, it is very common for buyers, particularly in developing
countries, to vastly underestimate the time it takes to get all the necessary
approvals and permissions in order for the issuing bank to issue the L/C
This delay will immediately affect the seller and their planning of prod
and delivery.At some point in time a decision may also need to be taken
between having to take additional costs without having the security on
which the transaction is based, or to postpone the production, delivery or
some other obligations, and the seller must reserve the right to do so according
to the contract.With this in mind, it is crucial that all time limits and delivery obligations
agreed by the seller are based not on the date of the contract alone, but also on
the time when the seller has received and approved the L/C, and that the seller’s
own obligations will only come into effect when that has been achieved.
Structure of terms of payment based on a letter of
‘Payment through letter of credit, payable at sight with and confir
med by ...
(the agreed advising bank).The letter of credit shall be issued by ..
agreed issuing bank) and shall have reached the advising bank in form a
substance acceptable to the seller in accordance with the contract, not
later than 60 days from the date of the contract.‘The letter of credit, which must give reference to the sales contrac
number and date, shall be valid for three months and be payable against
the following documents:

●at sight bill of exchange, drawn on the advising bank;

●invoice in triplicate;

●packing list;

●certificate of origin, issued by ..., covering ...;

●full set of clean-on-board marine bill of lading, blank endorsed and
showing (shipping date, ports, etc).
‘Partial shipments and transhipments are not allowed.Bank charges
outside the seller’s country are to be paid by the buyer.’
The Handbook of International Trade and Finance 205
Composite terms of payment
With larger transactions over longer periods, it is quite normal for the payment
to be divided into part-payments in order to satisfy both parties.The com-
bination of the size of the transaction and the time period between deli
by the seller and final acceptance by the buyer could otherwise lead t
unacceptable risk and liquidity consequences for either or both parties.Structure of simple composite terms of payment
‘Ten (10) per cent of the contract value through bank transfer to be
received by ...(the advising bank below) not later than 30 days from
contract.The amount is to be paid to the seller against an advance
payment guarantee issued by the advising bank in favour of the buyer,
according to the text on page xx in the contract.‘Seventy-five (75) per cent of the contract value on delivery thr
letter of credit, payable at sight with ...(the agreed advising bank)
letter of credit shall be issued by ...(the agreed issuing bank) and
have reached the advising bank in form and substance acceptable to the
seller in accordance with the contract, not later than 45 days from the
of the contract.The letter of credit, which must give reference to the
contract number and date, shall be valid for three months and be payable against the following documents:

●at sight bill of exchange, drawn on the advising bank;

●invoice in triplicate;

●packing list;

●certificate of origin, issued by ..., covering ...;

●full set of clean-on-board marine bill of lading, blank endorsed and
showing (shipping date, ports, etc).
‘The letter of credit shall permit partial shipments and transhipment
s.‘Fifteen (15) per cent of the contract value upon signed installati
certificate, issued by (the name of a control and inspection company
by the parties) to have reached (the advising bank) not later than 30
from such signing.‘All bank charges outside the seller’s country are to be paid by the buyer.’
Terms of Payment 206
The risk for the seller might increase through the nature of the product
the size of the transaction, particularly if the goods are tailor-made with a
long timescale between production and final delivery.However, the buyer
will also take an increased commercial risk in the case of payment being made before the final acceptance of delivery.The terms of payment built
around these transactions will, therefore, follow the sequence of the contract
itself, from contract date, production and delivery periods, installation, test
runs, acceptance by the buyer and final warranty periods.Such terms are
often combined with different forms of guarantee covering both the selle
and the buyer’s mutual obligations during this period.With regard to machinery and equipment, it is relatively common that
both the payment before delivery and on/after completion varies between 10 and 15 per cent in order to achieve a reasonable balance between the
parties, with a main payment at delivery of about 75 per cent.As can be seen from the example above, nothing is mentioned about
confirmation of the L/C in this case.Which would indicate that the seller is
satisfied with the credit standing of the issuing bank and the politic
al risk in
that country.In this example, the parties have also agreed to let a separate
inspection company have the final say when the last payment is to be r
which will also be the time when the seller has fulfilled their contra
obligations.Separate instructions, agreed by both parties, have to be given
to the inspection company to carry out such an inspection.The example below shows terms of payment combined with a long-term
supplier credit.When released, the bills will not be covered under the L/C
but by a separate guarantee by the issuing bank, issued directly on the bills.
It can also be presumed that the seller has an additional firm offer f
rom a
bank or a forfaiting house to discount the bills without recourse to them at
their release.However, the wording of the terms of payment must always be
checked against such an offer so that the seller can be absolutely sure that
all conditions can be met when presenting the bills for discounting.
Structure of composite terms of payment combined
with a long-term supplier credit
‘Five (5) per cent of the contract value before delivery, through a bank transfer
which shall have reached ...(the advising bank below) not later than
30 days
from contract date.The amount shall be paid to the seller against a con
advance payment guarantee in favour of the buyer, issued by that bank.
The Handbook of International Trade and Finance 207
‘Ten (10) per cent of the contract value at delivery through letter of
credit, payable at sight with and confirmed by (the agreed advising b
The letter of credit shall be issued by (the agreed issuing bank) and
have reached the advising bank in form and substance acceptable to the
seller in accordance with the contract, not later than 45 days from the
of the contract.The letter of credit shall be valid for three months an
d be
payable against the following documents:

●at sight bill of exchange, drawn on the advising bank;

●invoice in triplicate;

●packing list;

●certificate of origin, issued by ..., showing ...;

●insurance policy, issued by ..., blank endorsed, covering (risks, value,
payable, etc);

●full set of clean-on-board marine bill of lading, blank endorsed and
showing (shipping date, ports, etc).
‘The letter of credit shall permit partial shipments but not tranship
ments.‘Eighty-five (85) per cent of the contract value after delivery t
10 bills of exchange, of the same amount and due half-yearly, drawn on
and accepted by the buyer, avalized by ...(the issuing bank) and provided
with – or covered separately by – a transfer guarantee by the cent
ral bank
of ....The bills shall be placed in deposit with (the advising bank)
at the
same time as the letter of credit is issued.In each bill is to be inclu
interest at x % pa calculated up to its final maturity.‘The bills shall be fully negotiable and payable in ..., and the lett
er of
credit should contain irrevocable instructions that the bills are to be
released to the seller when 90 per cent of the contract value under the L/C has been disbursed.Before releasing the bills, the advising bank sh
provide the bills with the seller’s verified signature and blank endorsement
but also with the respective date of maturity, the first bill maturing six
months after the date when 90 per cent was disbursed under the letter of credit and the rest maturing successively semi-annually thereafter.‘All bank charges outside the seller’s country are to be paid by the buyer.’
Terms of Payment 208
The final design of the terms of payment
The main purpose of the terms of payment is to establish the payment obli-
gations of the buyer, including when and how they occur in relation to the
seller’s delivery obligations.This risk analysis has been thoroughly dealt
with in earlier chapters, along with the function of the terms of payment and
also the liquidity aspects and the capital requirements needed for the c
of the transaction.In reality there are, of course, many other factors that the
seller must consider, not least the competition they can expect to face in
winning the contract.All these aspects will finally help the seller decide which terms of p
they should include in the offer or propose in the negotiations.Yet the terms
of payments are only one aspect of the contract that has to be negotiate
Both parties will value all these parts differently and must be prepared
compromise on certain questions.The final structure and design will, therefore, also depend on the seller’s
evaluation of the importance of the deal and its potential profitabili
ty in
relation to the risks involved.When doing so, it will also test their ability to
cover these risks through the terms of payment combined with available
insurance and guarantees.The seller who has this knowledge will be able
to make better, more profitable and more secure international business
transactions.Previous experience is important when preparing risk assessments and
deciding on the detailed terms of payment, but it is equally important to
know the normal practice in different countries in order to strike the r
balance in a competitive offer to the buyer.Many banks have a comprehensive network of branches, subsidiaries,
affiliates or correspondents in most countries, along with a constant flow of
international payments and documentary transactions that pass through
their businesses each day.That gives them a good picture of established
business practice and of what payment methods are used, but also what
experience other domestic exporters have had in different countries.
The Handbook of International Trade and Finance 09
The export
Dealing with the details of the export quotation lies outside the scope of this
handbook; there are other publications entirely focused on that subject.
purpose of this final chapter is only to show how the terms of payment
related areas such as guarantees and separate insurance cover, if any, must
be integrated and interrelated to all other parts of the quotation.
The actual quotation may be the exporter’s first written present ation of
the company and its products, and as in many other circumstances, the first
impression will often be a lasting one.As such it is important that the quot-
ation is given the relevant information to make it a sales instrument in
it is equally important that it is given a structured form as also being
seller’s suggestion to a legally binding sales contract.The quotation as a sales instrument is similar to any other contact with
a new potential business partner in another country, often with different
language and business culture as well.It is obvious that the greater this
difference, the more important it is that this is reflected in the structure and
presentation of the quotation, but also that the text, commercial expressions
and vocabulary are clear, defined and indisputable.The background for the quotation may be very different, covering every
imaginable situation from the receipt of a formal request to submit a qu
tion from an old customer to a first initial contact with what might b
e a
potential buyer, and the response from the seller has to reflect the actual
situation.In the case of a formal request for submitting a quotation, often referred
to as an RFQ, these are often structured as an ‘inverted’ quotation, that is,
the potential buyer is himself specifying the goods, quantities and qualities,
terms of payment and terms of delivery, and even time frame for submitting
the quotation.In such cases the seller can take for granted that the buyer has
also invited other competitors to submit quotations where the only varia
or one of the few anyway, is the price.Such requests are most common – and
perhaps most effective – for products or services which are as standa
or identifiable as possible in order to make the quotations comparable
209 2 10
Figure 9.1 Summary of the export order process
knowledge General
marketing Market
research Direct
Interactive seller/buyer communication
Order confirmation
Production > Export preparation > Insurance > Customs > Transport Pre-delivery procedures
Post-delivery obligations
Installation etc > Payment > Guarantees
1, 2, 3
1 All shaded boxes represent actions that have or may have legal consequences.
2 Sometimes a ‘pro forma invoice’ is issued, which might be the first step with just
some details such
as goods specification, shipment and price, but only the quotation itself contains all details to form
a legal sales contract.Pro forma invoices may also be used by the buyer when applying for an
import licence, opening a letter of credit, or arranging for funds.
3 The quotation may also be preceded by a ‘letter of intent’ or a ‘letter of understanding’ without
a legal undertaking, being more a moral obligation to proceed and deliver the quotation at a later
stage, perhaps after some formalities or restrictions have been dealt with.
4 The legality of the order is dependent on the authority of the signatures, and if in doubt or not
controllable in other ways, the seller should await the opening of the letter
of credit, which is the
most probable method of payment if the seller has such doubts.The box is in shadowed colour at
this stage, because if the order is without any restrictions or ‘subject to...’ , a legal agreement then
exists between the parties.
5 The order confirmation does not add to the legal agreement; it is just a confirmation of its existence.
The Handbook of International Trade and Finance The export Quotation 2 11
On the other hand, the RFQ may reduce the chances for the potential buyer
to receive alternative and innovative offers that might have suited them
better.However, such restricted RFQs are most common as part of larger
projects and/or in larger quantities and values, and will not be specifically
dealt with in this chapter.The more common background, though, is earlier marketing efforts or
business knowledge, leading in various steps up to a detailed and specified
interest, with interacting contacts between the parties up to quotation and
order, as shown in Figure 9.1.Apart from being a sales instrument, the quotation is or may also be a
legal instrument in itself, depending on its specific wording.If it is without
restrictions or conditions, and is then accepted in that form by the buyer,
a legally binding contract exists between the parties as from that date.In many cases that is what the seller wants to achieve, but without any con-
ditions attached, the initial correct wording and detailing of the quotation
are even more important if later disputes and potential claims are to be
avoided.In particular, this applies to the wording of the terms of payment,
which may otherwise put the seller in an unexpected and potentially dangerous
situation at a later stage.The first example below illustrates a quotation from a seller in Singa
to an Algerian buyer.In the risk assessment described in Chapter 1, we
assume that the seller has decided on a strong form of a letter of credi
The payment is thereby bank guaranteed, but will only continue to be so
if the seller later on can fulfil all the con ditions of the L/C when issued by
the buyer’s bank.As has also been pointed out in Chapter 8, the L/C may
well be opened according to the general stipulations in the quotation, but
still contain details that the seller cannot fulfil, thereby potentially destroy-
ing the guarantee character of the L/C.It may be that he can find no direct
shipment to port of destination within the period specified or any oth
additional requirement in the L/C that he cannot fulfil.That is the reason why in our example we have tried to be as flexible
possible, not only explicitly that transhipment should be allowed, but also
including the much broader protection that the L/C should be issued ‘in
detail acceptable to the seller’.That insertion is not in itself a restriction of
the quotation as mentioned above, but serves as a protection for the seller
to really be able to use the payment security he has taken for granted when
submitting the quotation.One may argue that such questions would have
been sorted out between the parties anyway, but practical experience tells
us that is not always the case.212
Lamjassa Mohammed ed Fils Singapore, 24 March 2016
17 Rue Mekki Ali
30592 Alger
For the attention of Mr Kihal Sherif
Quotation for Alarm Systems, our Ref S20984
Dear Mr Sherif
We refer to your letter of 10 March 2016 and want to make you the
following offer for our Alarm System type Soundstrong 1400.However, in
order to accommodate your request to be able to choose and to change
different sensitivity levels on each of the units, you will find in En
closure 1
the detailed technical description with these changes incorporated,
which is the same as was given to Mr Ali El-Bakr when he visit our
company last month.
Soundstrong 1400 is our latest and most advanced model in the
Soundstrong range and has been in production since last spring and
so far, more than 50,000 units have been sold to customers in more than
30 countries around the world, including Algeria and other North African countries.
The flexibility in areas where it is to be used and its reliability in
the most challenging circumstances are unrivalled, and as shown to
Mr El-Bakr, we have had Soundstrong units working uninterrupted for
more than eight years without problems in our laboratory under extreme
environmental conditions.We are thus quite comfortable to include
a five-year quality warranty in our offer, the details of which are to be
found in Enclosure 2.
Quantity: 350 units of Soundstrong 1400 with additional
equipment as requested, specified in Enclosure 3.
Price: USD 175 per unit, incl.above additional equipment
The Handbook of International Trade and Finance The export Quotation 213
Terms of payment: Payment through at sight letter of credit in USD,
issued by Banque Extérieure d’Algérie, Alger in form
and substance acceptable to the seller within 30 days
from order, to be advised through, payable with and
confirmed by Commercial Bank, Ltd, Singapore.
The L/C shall be valid for three months.Transhipment
to be allowed.Bank charges outside Singapore to be
paid by the buyer.
Terms of delivery: CIF Alger, Incoterms 2010.4
Delivery: Shipment from Singapore within one month from
acceptance of L/C.5
Packing: The goods will be packed for export with two units
per carton and 50 cartons per wooden case.
General conditions: Orgalime S 2012, UK law and jurisdiction applicable.
Validity: This quotation is valid for your acceptance until
10 May 2016.
We hope this quotation will be of interest to you, and will be in contact
you in the near future, should you have any questions.
Yours faithfully
Sundale Alarms Ltd
Roger B Staines Stephen Sayers
Deputy General Manager Export Manager
Comments related to the terms of payment only
1 The buyer’s country, transport distance and value of the deal would have warranted a strong L/C
in any case, but are even more important in case of tailor-made deliveries.
2 The warranty is in this case issued by the seller separate from the terms of payment, and is not
covered by any separate guarantee issued by a bank, parent company or other party.
3 In this case, no reference is made to any import licence since, if required, that must be arranged
by the buyer prior to the L/C being issued.(Should, however, an export licence have been
needed, that would have been for the seller to arrange, prior to the quotation.) No specific
reference is made to documents to be presented, since the seller in this case has the right to
approve the details of the L/C when issued, but a prior agreement on documents required would
facilitate the issue of the L/C and avoid later changes, involving additional costs and delays.
4 Terms of delivery (CIF) are compatible with terms of payment (L/C).
5 The L/C will admit transhipment, thereby allowing for both direct and indirect shipping
schedules, which must be checked by the seller prior to acceptance of L/
C.Also note that the
delivery period is calculated from acceptance and not the issue of the L/C.214
When communication is already established between known parties and
repeat orders are common, a shorter form of quotation without marketing
features is often used, as shown below.However, it is always important
to relate the quoted price to a detailed goods description to avoid future
disputes, as in this case through separate enclosures.Also in this illustration,
only the general term ‘Letter of credit, details to follow’ is specified as terms
of payment, making the quotation in reality without commitment at this
stage until the L/C terms have been specified.
Lamjassa Mohammed ed Fils
Att.Mr Kihal Sherif Singapore, 24 March 2016
17 Rue Mekki Ali
30592 Alger, Algeria
Our ref.S20984
Dear Mr Sherif
Referring to your letter of 10 March, we are pleased to make you the
following offer.
Goods description: 350 units of Soundstrong 1400 as per Enclosure 1,
equipment as per Enclosure 2 and Quality guarantee
as per Enclosure 3.
Price: USD 175 per unit,
Terms of payment: Letter of credit, details to follow.
Terms of delivery: CIF Alger, Incoterms 2010.
Delivery: From Singapore within one month from acceptance of L/C.
Packing: Two units per carton and 50 cartons per wooden case.
General conditions: Orgalime S 2012, UK law and jurisdiction applicable.
Validity: Until 10 May 2016.
We hope this quotation will be of interest to you, and will be in contact
you in the near future.
Yours faithfully
Sundale Alarms Ltd
Roger B Staines Stephen Sayers
Deputy General Manager Export Manager
The Handbook of International Trade and Finance The export Quotation 215
Table 9.1 General checklist for export quotations
Item Comment
Names, titles, addresses
and references Correct in every detail, without spelling errors.
All dating should be done in clear text to avoid
misunderstanding due to different customs.
References To earlier discussions, meetings or
correspondence, including the pleasure of
being able to quote.
Summary Arguments and advantages of the product
since you can never know who, apart from
the known contact person(s), is going to deal
with the quotation.
Product description In detail, number of items, what is included.
But equally important, what is not included
if that could other wise be in doubt.
Price and currency In a way that is logically connected to the
product description to avoid any deliberate
misunderstanding or just unconscious
Terms of payment In such detail as described in this book.
Terms of delivery According to latest Incoterms, specified to
make them an integral part of the quotation.
Time of delivery Connected to a specific place of delivery as
per chosen Incoterms, but also connected to
the terms of payment and any other obligation
the buyer may have prior to delivery
Product guarantees,
warranties and exclusions If applicable.
Packing Specified and in accordance with industry
standards or separate agreement.
General conditions With reference either to specified international
standard conditions or to recognized rules or
regulations for the actual line of business,
if applicable.
Applicable law, arbitration
and force majeure To be addressed separately if not covered
in other general or standard conditions.
Validity Expressed as a specific date in time during
which an unqualified acceptance in writing
should have been received by the seller.216
Final remarks With hope of satisfaction and how the
quotation will be followed up.
Authorized signature(s) With names and relevant titles to show its
binding and authoritative character.
Specification of enclosures If any.
Table 9.1 Continued
The Handbook of International Trade and Finance aPPenDIx I
electronic documents in international trade
The general idea of being able to use electronic media instead of paper documentation in international trade is as old as the internet itself; however,
that has been difficult to achieve in practice, not just because of technical
and legal issues, but also due to security questions which must be paramount
in any viable electronic system.Insurance cover is another aspect, but P&I
Clubs (mutual insurance associations for protection and indemnity of ma
risks) generally issue cover for the electronic bill of lading (eB/L)
issued by
approved systems operators, even if they do not cover losses arising from
electronic network risks such as viruses, hacking etc.But the potential advantages of an electronic system for international
trade would be enormous, making it more efficient and safer without errors
in duplication or translation, connecting instantly all counterparties in one
transactional unit with the same references and identifications.Such a
system would be extremely flexible, issuing and amending the transaction or
individual documents to reach all parties involved by the click of a button in
real time.It would also generate very low transactional costs, compared
with the present situation when up to 7 per cent of world trade is wasted on
paper-based administrative costs, according to the UN.One of the most difficult parts of the documentation needed in interna
trade has been how to deal with the transport document and particularly the bill of lading as a document of title.The bill of lading is also often
the main transport document in a letter of credit, a tool that both customers
and banks know well, considering it has been in use in different forms for
hundreds of years.An electronic bill of lading (eB/L) must clearly replicate the
core functions of a paper bill of lading, namely its functions as a receipt, as
evidence of or containing the legal contract of carriage and, if negotiable, as
a document of title, enabling exporters to combine it with other supporting
documentation in electronic form, such as commercial invoice, insurance
document and packing list etc.These documents should then be transferred
online between customers and/or their banks, under L/C transactions or
otherwise, eliminating the need for paper-based documents between parties.
217 218
However, until a common international standard has been developed, many
larger banks have developed their own internal technology platforms for
dealing with trade and financial services towards their customers, such as
payments, collections and Letters of Credit, thereby reducing potential
demurrage while awaiting documents and allowing for straight-through
processing and quicker and safer payments.But the key hurdle to expand
beyond individual solutions in the use of electronic solutions in intern
trade is global standard ization, and here SWIFT (Society for Worldwide
Interbank Financial Communication), used by more than 10,000 banks and
corporations in more than 210 countries, may have found a solution.SWIFT’s latest message type MT798, the ‘trade envelope’, is a special
message type for non-bank corporates for direct connection to SWIFT member
banks’ own systems, for example as import letters of credit application
and amendment requests, receiving export letters of credit advises and
guarantees/standby letters of credit application and amendment requests.
This new industry message standard also acts as a multi-banking portal
for the banks’ individual electronic platforms, thereby also giving their
customers the possibi lity to deal with all their transactions in one system,
irrespective of which bank they are working with in any particular case.
Most providers of electronic platforms used in international trade
concentrate on certain areas of trade, mainly dry and wet bulk carriage
involving standardized cargo, larger volumes and high-value shipments,
such as oil, ore and agri.Such shipments tend to change hands more
frequently during transportation, often with changed final destinations
during the voyage, thereby creating a stronger need for quicker and safer
documentation changes and transfers between the parties involved.One of these providers is Bolero International Limited (,
founded in 1998 as a joint venture between SWIFT and the TT Club (the
leading transport and logistics insurer), but which is now a stand-alone
company with a cloud-based platform for its members to run multi-party
electronic trade transactions.Another is essDOCS Exchange Limited
(, with its system CargoDocs, providing a range of supporting
e-documents such as eB/Ls, commercial invoice, certificates of origin, quantity,
quality etc, packing list and manifests.The documents are then electronically
transmitted to banks through essDOCS’s internal system, whereas other
providers may use the SWIFT network under eUCP rules established by the
International Chamber of Commerce.However, when describing the advantages and the rapid expansion of
electronic messaging in international trade, one has to bear in mind that
a considerable part of international trade is not conducted in areas whe
Appendix I: Electronic Documents in International Trade 219
Figure A.1 Front page of an eB/L
sour Ce: Kindly supplied by essDOCS Exchange Ltd, the world’s largest electronic bill of lading network.
As can be seen, it has many visual similarities with a paper-based B/L.
Appendix I: Electronic Documents in International Trade 220
electronic messaging has its greatest potential.Other international trade is
in the form of smaller transactions and often with trading partners and/
in emerging countries where electronic documentation is less common, due
to security concerns or simply because paper-based documents with their
signatures and stamps are the norm, accepted practice or legally required.
Consequently, and irrespective of the pace of the future development of
electronic trade, the paper-based system will also continue to be widely used
in the foreseeable future.
Appendix I: Electronic Documents in International Trade aPPenDIx II
International transport documents
International transactions involve a physical transportation between sel
and buyer in accordance with the agreed terms of delivery between the
parties as described earlier, and, depending on the mode of transport, this
will mostly involve a third party: the shipping, railroad, trucking or airline
company or a freight forwarder.Each of these transporters issues some form of transport document from
the carrier or its representative or agent, ie a bill of lading from the shipping
company, a CMR note for road transport by a trucking company or an air
waybill for shipment by air.But very often two or more modes of transport
are involved, for example a containerized road and sea transport, and then
other forms of documentation are used, mainly those created by FIATA
(International Federation of Freight Forwarders Associations).This is a
non-governmental organization, representing approximately 40,000 of the
largest forwarding and logistics firms around the globe, and these documents
now form a uniform standard for use by freight forwarders worldwide.
They are easily distinguishable through a distinctive colour and carry t
FIATA logo – and are only allowed to be used by its members.The most
commonly used are FCR (forwarders certificate of receipt), FCT (forwarders
certificate of transport), FWR (FIATA warehouse receipt) and FBL (negotiable
FIATA multimodal transport bill of lading, which is separately described
below).All transport documents mentioned above have different character istics
and therefore also involve different aspects of advantage and risk, and some
of the most frequently used documents will be briefly discussed below.
Bill of lading (B/L)
A bill of lading is a legal document between the shipper and the carrier
or its
agent, detailing the receipt of specified goods for shipment between port of loading and port of discharge.As such it is a document of title, which means
that only the holder of the bill of lading can claim the goods at destin
221 222
There are two basic types of bills of lading.A ‘straight’ bill of lading is
non-negotiable, used where the goods have been paid for or do not require
payment.Under this type of document, the shipping company will deliver
the shipment to its consignee on presentation of the B/L, therefore often
called consignment bill of lading.The other type is the ‘negotiable’ bill of
lading, which is made out ‘to order’ and blank endorsed, in which case any
holder of the bill of lading can claim the goods.There are also many other different forms of bill of lading, of which the
most common is ‘clean-on-board bill of lading’, very often required under
letters of credit or in connection with documentary payments.It indicates
that the cargo has been taken on board the vessel without any remarks
about quality or packing, and consequently the responsibility of damage to
the goods after being taken on board rests with the carrier.Another form
is the ‘through bill of lading’ which is virtually identical to the multi
transport bill of lading described below, but with one major difference.
While both types cover different modes of transport by land, air or sea,
the issuer of the multimodal transport bill of lading takes responsibili
for the goods (eg shortages, losses, damages) during the entire period of
transport.The issuer of a through bill of lading is however only responsible
for the goods for that part of the carriage he takes care of, normally the sea
passage only.
FIATA FBL (negotiable multimodal transport bill of
The multimodal transport bill of lading (often called combined bill of lading), is mostly in a form developed by FIATA for door-to-door shipments,
often containerized, that have to use different means of transportation (aircraft,
railcars, ships, trucks etc) from origin to destination.The issuer, normally
the freight forwarder, takes full liability under a contract of carriage for the
entire journey and over all modes of transportation, however with certain
monetary restrictions.The FBL is defined in ICC publication 481 as:
...a multimodal transport document (MT document) means a document eviden
a multimodal transport contract and which can be replaced by electronic
interchange messages insofar as permitted by applicable law and be:
a issued in a negotiable form or,
b issued in a non-negotiable form indicating a named consignee.
Appendix II: International Transport Documents 223
Figure A.2 Example of a FIATA FBL (multimodal transport bill of lading)
sour Ce: Kindly provided by the International Federation of Freight Forwarders Associations (FIATA) (standard conditions not included).
Appendix II: International Transport Documents 224
FIATA has recently also introduced a new paperless electronic version of
the FBL adapted to ICC 481 called eFBL, to be used together with other
documentation in electronic form, such as commercial invoice, insurance
document and packing list etc.These documents are then electronically
transmitted through the operators’ internal system or through the SWI
CMR note
The CMR is a consignment note for road transport with a standard set of
transport and liability conditions, which replaces individual businesses’
terms and conditions.It confirms that the carrier, normally the road haulage
company, has received the goods and that a contract of carriage exists
between the seller and the carrier.Unlike a bill of lading, a CMR is not a
document of title and is therefore non-negotiable.It does not necessarily
give its holder and/or the carrier rights of ownership or possession of
goods, although some insurance to that effect may be included.
Air waybill (AWB)
An air waybill is a non-negotiable document covering transport of goods
from one airport to the final destination of another, signed by the airline or
its agent or representative.The air waybill must name a party as consignee, most often the buyer,
but it could also be their agent or a designated bank, depending on the terms
of delivery and terms of payment involved, just in order to keep control of
the goods since this document is not a document of title.Consequently, the
air waybill as such is not required in order to claim the goods.
Forwarders certificate of receipt
The FCR certificate is mainly used in international transactions where
trade term ‘Ex Works’ is selected by the parties (see Incoterms in Chapter 2),
which means that the seller puts the goods at the disposal of the buyer
at the
seller’s premises or at another named place and the FCR document confirms
that the freight forwarder has taken over the consignment in good order and
has assumed responsibility of the goods with irrevocable instructions on
how to forward them to the consignee.
Appendix II: International Transport Documents 225
Figure A.3 Example of an FCR (forwarders certificate of receipt)
sour Ce: Kindly provided by the International Federation of Freight Forwarders Associations (FIATA)
Appendix II: International Transport Documents 226
The seller however does not need to load the goods on any collecting
vehicle, nor does it need to clear the goods for export, where such clearance
is applicable.The FCR is therefore not a contract of carriage or a transport
document, unlike bill of lading, multimodal bill of lading, air waybill, road
or rail transport document, and consequently need not state port of loading
and/or discharge, nor shipped-on-board details.The FCR document is thus
non-negotiable and the consignee need not present it to collect the good
Appendix II: International Transport Documents GLossary oF TerMs anD
This glossary contains most of the trade finance words and expressions
used in this
handbook or directly related to its contents.
Most of the words and expressions below can also be found in the index f
reference to a particular page in the book.
acceptance: Time draft accepted by the drawee, thereby creating an unconditional obligation to pay at maturity.
acceptance letter of credit: A letter of credit, which requires the seller to draw a term draft to be accepted by the nominated bank upon presentation of doc
whereby the seller receives a banker’s draft instead of payment.
Act of God: A legal term for events outside human control, such as natural disasters.
advance payment: Trading method where the seller receives payment before delivery, either as part of an agreed composite payment structure or due to low
or unknown creditworthiness of the buyer.
advance payment guarantee: Undertaking on behalf of the seller’s bank to repay the buyer in case of non-fulfilment of the seller’s contractual obligations.
adverse business risks: Negative, corrupt and unlawful business practices related to international trade, ie bribes and money laundering.
advising bank: A bank, usually in the seller’s country, which authenticates the letter of credit and advises it to the seller.The expression is also used when a bank
authenticates a bank guarantee in favour of the beneficiary.
air waybill (AWB): Transport document in airfreight as a receipt of goods and evidence of the freight agreement.An AWB is not a document of title and is not
needed to claim the goods.
all risk insurance: Formerly a common insurance clause in policies to be presented under collections and L/Cs, now commonly replaced by Institute Cargo Clauses;
see that term.
amendments: Alterations to instructions in a collection, or of the original terms and conditions in a letter of credit.The seller has the right to refuse such L/C
annuities: Lease payments, based on a combination of interest and amortizations of the underlying financial costs.
applicant: The party at whose request a bank issues a letter of credit.Sometimes also called account party; see also principal.
227 228
assignment: A method where the seller transfers the rights of proceeds, often under a letter of credit, to a third party.
at sight: A notation on a draft (bill of exchange), indicating that it should not be accepted but paid upon presentation.Often used in collections and letters of
availability: A letter of credit may be available (or payable or honoured) for presentation of documents against payment at sight, deferred payment or
acceptance; see these terms.
avalize (aval): Where a guarantor, often a bank, issues its guarantee directly on an accepted bill of exchange or other financial instrument, thereby undertaking
the payment obligations of the drawee on a joint and several basis.Other terms
are bill guarantee and guaranteed acceptance.
back-to-back letter of credit: An arrangement where the seller offers an existing letter of credit as security to their bank for the issuance of a seconda
ry L/C in
favour of their supplier(s).
balance exposure: An often unrealized currency risk exposure within the company, reflecting different methods of calculating assets and debts for accou
nting purposes.
bank cheque: Cheque issued by a bank and sent directly by the buyer to the seller as a method of payment.Also often referred to as a banker’s draft.
bank guarantee: An undertaking by a bank, on behalf of the principal to pay a certain amount in money to the beneficiary under certain conditions.
bank identifier code (BIC): The same as the SWIFT address (often also called SWIFTBIC), used as identification of accounts in connection with bank
payments or messages.
bank remittance: See bank transfer.
bank-to-bank credit: A buyer credit given by a third party (often the seller’s bank) to the buyer’s bank for on-lending to the buyer to pay cash to the seller for
goods delivered.
bank-to-buyer credit: A buyer credit given by a third party (often the seller’s bank) directly to the buyer to pay cash to the seller for goods delivered.Such credits
normally demand a corresponding guarantee from the buyer’s bank, covering
the obligations of the buyer.
bank transfer: The most common method of payment where the role of the banks is to transfer funds according to payment instructions by the buyer.Also called
bank remittance.
banker’s acceptance: A time draft drawn on and accepted by a bank, often in connection with a letter of credit; see also acceptance letter of credit.
banker’s draft: See bank cheque.
barter trade: Trade of goods and services with settlement in other goods or dependent on other trades being performed.
bid bond: See tender guarantee.
bill guarantee: See avalize (aval).
Glossary of Terms and Abbreviations 229
bill of exchange: Commonly used trade financial instrument, drawn up by the seller and, after acceptance by the buyer, being an unconditional payment obligation
to pay at a specified future date.A bill is often referred to as a ‘draft’ until it has
been accepted.
bill of lading: Transport document issued by the carrier for shipment by sea.The bill of lading is a document of title, which means that the goods will not be
released to the buyer (the consignee) other than against this original
B/L: See bill of lading.
blank endorsement: A transfer of rights without specifying the new party, making the document, often a bill of exchange, a bill of lading or an insurance policy,
a freely negotiable document.
bond: In the context of international trade, a guarantee instrument mostly issued by an insurance company, similar to a bank guarantee – which is the term
generally used in this book for these instruments.
bond (guarantee or insurance) indemnity: The general term for an insurance cover against the risk for ‘unfair calling’ under a demand guarantee.
break-even price: The currency price needed at maturity to make the currency option profitable – calculated on strike price, premium and commission, if any.
buyer credit: Any arrangement where a third party, usually a bank, in agreement with the seller, refinances the transaction, giving the credit directly to the buyer
or their bank for direct cash payment to the seller.
call option: One part of a dual put and call currency option, where a seller purchases a call option in their domestic currency to hedge the incoming
currency.The opposite is a put option – see that term; see also currency option.
cap and floor: A currency hedge technique, whereby the currency risk is restricted to an upper and lower limit.
capital goods: Industrial durable goods used for production of other goods for consumption, a distinction important in connection with available credit terms
or with credit risk insurance.
cash cover: A term used when the applicant of a letter of credit is required to deposit money in favour of the issuing bank as collateral.
certificate of origin: Verifies the origin of the goods delivered.Often issued by a chamber of commerce in the seller’s country.
charter party bill of lading: A special form of a bill of lading issued by the vessel owner, which may restrict its nature as a document of title (not normally
allowed under a letter of credit).
CIRR: See commercial interest reference rates.
CIS countries (Commonwealth of Independent States): A regional grouping of some former Soviet republics, used in this book in relation to programmes of support
from the European Development bank.
claim document: The document giving evidence for a claim to be presented under a bank guarantee.
Glossary of Terms and Abbreviations 230
clean bill of lading: A bill of lading without indication that goods are damaged and/or in unsatisfactory order at the time of loading.
clean collection: Collection in which only a financial instrument is included, often the bill of exchange.
clean payments: Payments to be made without a corresponding and simultaneous receipt of documents (bank remittance and cheques), contrary to documentary
payments; see that term.
co-joint financing: A form of leveraged finance between development banks, commercial banks and export credit agencies that increases the scope for additional amounts put into projects and investments.
collection accounts: Accounts held by the seller in banks in other countries to be used for incoming payments from buyers in that country.
collection bank: Bank in the drawee’s country, which is instructed to release documents to the buyer (the drawee) against payment or acceptance.Also called
presenting bank.
combined transport document: See multimodal transport document.Such a document is normally not a document of title.
commercial documents: A general term for documents produced in connection with the delivery of goods or services, as compared to financial documents;
see that term.
commercial interest reference rates (CIRR): The minimum level for state-supported fixed interest rates according to the OECD Consensus rules; see Consensus.
commercial risks: Also called purchaser risks, covering not only the possibility of non-payment by the buyer, but also the risk for non-fulfilment of other contractual
obligations, including those necessary for the seller’s own performance.
commitment: In connection with letters of credit, banks undertaking in advance to the seller to confirm L/Cs, which may be issued by certain banks during a
specified period of time, usually against a fee.
compensation trade: The sale of goods and services with payment often in a combination of money and other goods.
competitive exposure: Short- and/or long-term effects on the exporter’s competitiveness due to larger currency moves over longer periods.
compliant documents: Documents presented which fully comply with the terms and conditions of the letter of credit.
composite terms of payment: An expression used in this book when payment is to be effected in separate tranches related to the underlying structure of
commercial transaction.
conditional guarantee: Guarantee becoming payable only if and when it is verified that the principal has defaulted in their obligations under t
he guarantee.
The opposite is unconditional or demand guarantee; see these terms.
confidential factoring: Financing of invoices by the bank, of which the buyer is not aware – in this book called invoice discounting or invoice finance
as opposed to
notified factoring; see that term.
Glossary of Terms and Abbreviations 231
confirmation: A procedure whereby a confirming bank, normally upon the request of the issuing bank, guarantees the liabilities of that bank towards the seller.
confirming bank: The bank confirming the letter of credit to the seller; see confirmation.
Consensus: Guidelines issued by OECD establishing a common practice for restricting the use of state-supported export credits.
consignee: The party to whom goods are to be delivered, usually the buyer, the collecting bank or the forwarding agent.
consignor: The party who delivers the goods to the consignee according to a freight
contract CIRR: A form of state-supported interest rates; see Consensus.
contract frustration policy: See contract repudiation indemnity.
contract guarantees: Guarantees directly linked to the course of events in an underlying commercial contract.
contract repudiation indemnity: Credit insurance covering the political risks of changed or revoked approvals by an authority in the buyer’s country, preventing
the transaction from being correctly performed.Also called contract frustration
convertible currencies: Currencies that can easily be exchanged against the main international currencies on a free and unrestricted market; see also hard currency.
corporate cheque: A cheque issued by the buyer and, in the context of this book, sent to the seller as a method of payment; see also bank cheque.
correspondent bank: Banks in other countries with which domestic banks have account relationships or arrangements to verify signatures or authentica
counter-trade: The sale of goods where the transaction is dependent on a corresponding purchase of other goods within a common framework.
cover note: Document to prove insurance, issued instead of or before definite insurance policy or certificate is issued.
credit guarantee: Undertaking by a bank to guarantee any credit, loan or other obligation assumed by a subsidiary or affiliate of the principal or an
y third
party, not capable of entering into the obligations on their own merits.
credit insurance (credit risk insurance): Insurance against loss due to the inability or unwillingness of the buyer to pay for goods delivered.Credit risk insurance
may cover a variety of risks, both commercial and political; see also these terms.
cross-border leasing: An expression used in lease transactions, when the lessor and the lessee are located in separate countries.Also a general expression for larger,
more complicated leasing transactions using tax rules advantages in diff
cross rate: The price of one currency in terms of another as calculated from their respective value against another major traded currency.
currency accounts: Accounts held in foreign currency in banks, which could be
used to balance currency flows/transactions without unnecessary currency
Glossary of Terms and Abbreviations 232
currency clauses: The use of special agreements between buyer and seller to cap or split the currency risk between the parties.
currency exposure: The real currency risk affecting the liquidity position, to which the company is exposed at any period of time; see also balance exposure,
payment exposure and competitive exposure.
currency hedges: Methods of minimizing currency risks and/or currency exposure.
currency option: A currency hedge different from a forward contract since the currency option is a right, not an obligation, to buy/sell one currency against
another at a fixed rate within a specified period of time.
currency pegging: Officially or unofficially determined or controlled currency rates for an individual country against another currency, often the USD.
currency position schedule: The comprehensive schedule over the company’s total currency risk exposure, containing both fixed and anticipated currency flows.
currency risk: The risk connected to invoicing in a foreign currency which may result in a lower amount in the seller’s own currency than anticipated.
currency spread: The difference between the bid and offered rate quoted by banks in a freely traded foreign exchange market.
D/A: Abbreviation for documents against acceptance.
D/C: Abbreviation for documentary credit or just credit, another expression for letter of credit (which is the expression used in this book).
default: Failure to pay an accepted financial instrument on maturity date or to
perform any agreed contractual business obligation.
deferred payment: Payment made to the seller at a specified date after shipment or presentation of documents under a letter of credit, but without the use of a draft
accepted by a bank; see also acceptance letter of credit.
demand guarantee: Undertaking by a bank to pay to the beneficiary the amount on first demand without their proving the right to the claim and without
consent of the principal.
development banks: Regional and mostly well-capitalized banks, owned by the participating countries, supporting projects vital for the economic development of
that region.
development funds: Regional funds, subsidiaries of the development banks, lending on ‘soft terms’ to projects of special importance for regional develo
direct export factoring: An arrangement where the seller’s factoring company (the factor) has direct contact with the buyer in another country without th
e use of
a local partner.
direct guarantee: A guarantee issued directly to the beneficiary by the seller’s bank without using a local advising or issuing bank.
discounting: The purchase (with or without recourse) of an accepted term (usance)
bill of exchange against an amount less than its face value.
discrepancies (in documents): Non-presentation, non-consistency or other reasons why documents may not be approved under a letter of credit.
Glossary of Terms and Abbreviations 233
documents against acceptance (D/A): When the buyer is requested by the collection bank to accept a term bill of exchange that accompanies the documents in
of payment at sight.
document against payment (D/P): When the collection bank notifies the buyer about the documents for collection and requests them to pay the amount a
sight as instructed by the seller’s bank.
documentary collection: Where banks, acting on behalf of the seller, present documents for collection to the buyer against cash payment or acceptance
documentary credit: See letter of credit.
documentary payments: A general reference to the two main documentary methods of payment, documentary (bank) collections and letters of credit.The opposite is
clean payments; see that term.
document of title: Transport document where the carrier undertakes not to release the goods other than against this original document; see also bill of lading.
D/P: Abbreviation for ‘documents against payment’.
draft: Synonym for bill of exchange, but often used before acceptance of the bill; see also bill of exchange.
drawee: Party on whom the bill of exchange is drawn and who is required to pay a
t sight or at maturity.
due date: Maturity date for payment.
duty-exempt guarantee: Undertaking by a bank, on behalf of the principal, to pay any customs duty for goods intended to be only temporarily brought into
country, but not brought out within the specified period.
eB/L: Electronic bill of lading, transferred online between customers and/or their banks.
ECA : See export credit agencies.
e-commerce: The production, distribution, marketing, sale or delivery of goods and services by electronic means.
EES countries (European Economic Space): A definition of both EU and non-EU European countries.
endorsement: Transfer of rights on a trade or financial instrument, mostly made on the back of the document, either in blank or to a specific party; see also blank
eUCP: ICC guidelines for electronic presentation of documents under Letters
of Credit.
EU payments: Former expression for standardized bank payments within Europe, now changed into SEPA, standardized electronic euro payments; see that term.
European Bank for Reconstruction and Development (EBRD): A major development bank, supporting countries from central Europe to central Asia, including many
former Soviet republics.
exercise price: See strike price.
expiry clause: A clause in a bank guarantee, limiting its duration.
Glossary of Terms and Abbreviations 234
expiry date: The expiry date under a letter of credit which is the last date at which
the seller can present documents to the nominated bank.
export credit agencies (ECAs): Government owned or supported insurance institutions, focusing on export risk cover for sellers/suppliers from that country.
export credits: Credits that the exporter offers the buyer in connection with the sale of goods or services or credit given by third party to finance such tr
export factoring: A method of short-form refinancing where the factoring company (the factor) purchases the seller’s receivables and assumes the credit risk, either
with or without recourse to the seller.
export insurance policy: A standard export credit insurance issued to the seller, covering for example commercial and political risks.
export leasing: Medium-term export finance facility for machinery, vehicles and equipment in particular, with the legal right for the lessee to use the goods for a
defined period of time but without owning or having title to them.
export loans: Advance payments by banks, often based on the security of a letter of credit, up to a certain percentage of the L/C amount.
export risks: Risks that may affect the individual export transaction and which the seller must evaluate and cover prior to the execution of the contract.
express payments: Urgent payments through the SWIFT system, making the transfer available to the seller quicker than normal payments, but at a higher fee.
extend or pay: Where the beneficiary threatens to claim under a demand guarantee unless it is prolonged.
facilitation payments: A form of corrupt practice in international trade where payments are made to officials or employees in the buyer’s country or elsewhere
to smooth, hasten or facilitate the contract.
factor: Synonym for factoring company; see export factoring.
FIATA documents: Documents and forms created by International Federation of Freight Forwarders Associations to establish a uniform standard for use by
freight forwarders worldwide.
financial documents: Documents related to the financial aspect of the transaction and its payment (ie a bill of exchange) as compared to commercial docu
financial lease: An arrangement where the risk of ownership rests with the lessee and where the lessor, from the outset of the lease, expects to recover from the
lessee both the capital cost of the investment as well as interest and p
rofit during
the period of the lease.The opposite is operating lease; see that term.
financial risks: An expression for increased financial, liquidity and cash management impacts as a consequence of entering into a new commercial transaction.
first demand guarantee: See demand guarantee.
force majeure: Various specified conditions, including ‘Acts of God’, which cannot be avoided through due care by the commercial parties and therefore may
excuse them from performance.
Glossary of Terms and Abbreviations 235
forfaiting: purchase (discounting) of negotiable trade financial instruments,
mostly avalized bills of exchange, without recourse to the seller; see also
avalize (aval).
forward currency contract: A contract between the seller and the bank in one currency expressed in terms of another currency at a rate fixed at con
tract date,
but with execution at a future date.
forward currency market: The market for currency exchange transactions with delivery at a future date, but with the rate determined at transaction date.
forward discount rate: An expression often used when the forward exchange rate
of a currency is lower than its spot value (the opposite is a premium r
forward option contracts: Forward exchange contracts that can be settled within a period of time instead of at a fixed date.Not to be mistaken for a currency
option; see that term.
forward points: The trading technique in the interbank forward exchange market, where rates are expressed and quoted as differences in points from the s
rates as opposed to real currency rates, so called outright forward rates;
see that term.
forward premium rate: An expression often used when the forward exchange rate
of a currency is higher than its spot value (the opposite is a discount
forwarding agent’s certificate of receipt (FCR): Transport document indicating receipt of goods from the seller and the arrangement of transport ation according
to instructions.It is not a document of title.
freely negotiable: A statement, often in a letter of credit, giving the seller the right to present the documents for negotiation at any bank.
full payout lease: See financial lease.
full set: Documents (often the bill of lading) with more than one original, where all originals have the same legal rights.A full set is therefore often required under
a letter of credit or documentary collection.
guarantee: See bank guarantee.
guaranteed acceptance (aval): The undertaking of a bank, on behalf of the buyer (the drawee), to guarantee an accepted bill of exchange or promissory note,
either directly on the bill or note (aval) or through a separate guara
hard currency: Hard currencies are often defined as those forming the reserve currency basket used by the IMF, the International Monetary Fund, that is USD,
GBP, JPY, EUR and CNY (the yuan).
hedge: An expression used for reducing outstanding currency or interest risks o
r fluctuations through compensating transactions.
honouring documents: A term in the L/C rules (UCP 600) specifying three possibilities for honouring documents at presentation, at sight, by acceptance or by deferred
Glossary of Terms and Abbreviations 236
IDA: The International Development Association (IDA), part of the World Bank, provides long-term interest-free loans and grants to the poorest develop
IFC: The IFC, International Finance Corporation, a member of the World Bank Group, is the largest multilateral source of loan and equity financing for p
sector projects in the developing world.
import licence: Document issued by authorities in the buyer’s country to control or restrict the importation of goods.
Incoterms: International accepted trade delivery terms (Incoterms 2010) issued by
the International Chamber of Commerce (ICC).
indirect guarantee: A guarantee issued to the beneficiary (often the buyer) by a local issuing bank based on a counter-guarantee from an instructing bank,
as opposed to the direct guarantee issued directly by that bank towards
inspection certificate: Frequently used document where an independent third party verifies the quality, quantity or other aspects of the goods prior to shipment, in
most cases upon instruction from the buyer.
Institute Cargo Clauses: Nowadays mostly used standard cargo or marine cargo clauses in international trade.
instructing bank: The bank forwarding instructions on behalf of the principal to a local bank (the issuing bank) to issue a guarantee in favour of the be
interbank currency market: The market(s) established between major commercial and international banks for dealing in currencies (spot and forward), thereby
also establishing interbank currency market rates.
interbank money market: The market(s) established between major commercial and international banks for dealing in short deposits in most trade curr
thereby also establishing interbank money market rates.
interest contingency insurance: Where the seller takes a subsidiary transport insurance, should the buyer not fulfil their contractual obligation to insure the
interest swap: An arrangement with a third party, usually a bank, where a commercial party wanting to hedge the interest rate agrees to exchange (swap) floating into
fixed interest rate, or vice versa, during a fixed period.
International Bank Account Numbers (IBAN): A fixed bank account numbering standard used within Europe, according to EU rules.
International Chamber of Commerce (ICC): The world’s only truly global business organization, based in Paris.They are also the issuing institution of generally
accepted rules governing guarantees, documentary collections and letters of
credit plus many other sets of rules for international trade.
international leasing: See cross-border leasing.
intrinsic value: Term used in connection with currency options and describes the amount, if any, which could be realized if the option was to be sold before
Glossary of Terms and Abbreviations 237
investment insurance: A form of insurance covering long-term political risks, potentially affecting the value or performance of an overseas investment
invoice discounting: Arrangements for provision of finance against the security of trade receivables, with recourse to the seller; see also con fidential factoring.
irrevocable letter of credit: Under the new ICC rules (UCP 600) all letters of credit are by definition irrevocable, and therefore it is no longer necessary to state this
term in an L/C.
ISBP: International Standard Banking Practice (ISBP) is an ICC publication,
providing guidance relating to the examination of documents presented under
letters of credit.
ISP98: International Standby Practices, rules covering standby letters of credit, issued by ICC.
issuing bank: The bank issuing a letter of credit on behalf of the applicant (the buyer).Also called the opening bank.The expression is also used when issuing
a bank guarantee on behalf of the principal.
ITFA: The worldwide trade association for commercial companies, financial institutions and intermediaries engaged in forfaiting.
joint and several guarantees: The normal form of bank guarantee, where the beneficiary, at their discretion, can claim either the guarantor or the principal.
joint ventures: In this book, arrangements in primarily developing and/or emerging countries, where the seller participates as co-owner in a project or in a larger
export scheme to and/or within the local country.
jurisdiction: The place agreed on in contracts and financial instruments where disputes, if any, should be settled legally.
key customer risk insurance: Insurance policies covering and capping the outstanding risk on certain key risks in the seller’s export ledger.
L/C: Abbreviation for letter of credit.
legalization: Certification of documents, normally done by an official or appointed representative of the buyer’s country.
lessee: The contractual end-user of the machinery/equipment in a lease contract.
lessor: The owner and contractual counterpart to the lessee in a lease transacti
letter of credit (L/C): A method of payment whereby an issuing bank, upon instruction from the buyer, guarantees the seller to pay a specified amount of money against
the presentation of compliant documents within a specified time period
also called documentary credit or just credit.
letter of indemnity: A bank guarantee issued on behalf of the buyer in favour of the shipping company against their delivering of the goods without presentat
ion of
the original bill of lading.
letter of support, letter of comfort or letter of awareness: Different forms of undertakings, but not in the form of a guarantee, normally issued by a parent or
group company, indirectly supporting credit or other obligations assumed by
subsidiaries or affiliate companies.
Glossary of Terms and Abbreviations 238
lines of credit: Arrangements of credit lines between banks in some larger exporting countries and local banks in mostly developing countries, to be used for
financing of small- and medium-sized export transactions.
London Interbank Offered Rates (LIBOR): The interbank money market in London for short-term deposits in some major currencies, thereby establishing
this market’s lending interest rates.Sometimes also called ICE LIBOR, named
after the institution, ICE Benchmark administration (ICE), handling these rates.
master letter of credit: The term for the original letter of credit, based on the security of which a second letter of credit is issued; see also back-to-back letter
of credit and transferable letter of credit.
matching: The offering of government-supported credit risk insurance cover to suppliers in one country on the same terms as offered by other governmen
agencies to their exporters.
maturity: Due date for a term bill of exchange or other financial instrument.
method of payment: The agreed form of payment to be used by the buyer, either open account payments through bank cheque or bank transfer, or by documentary
collection or a letter of credit.
minimum premium rate (MPR): In OECD guidelines for restricting state-supported export credit competition between countries, a minimum premium rate (MPR)
has to be paid additional to the minimum interest rate (CIRR), covering the
credit risk and long-term operating costs and losses.The MPR is based on a
number of different factors, including country risk classification, risk period and
buyer risk.
money laundering: A process, also carried out in connection with international trade, through which the proceeds of criminal activity are disguised to concea
their actual origins.
multimodal transport document: Transport document evidencing shipment of goods by more than one means of transportation, and with responsibility for the total
transportation.See also through bill of lading.
negotiable document or instrument: A document or financial instrument where rights and obligations are freely transferable to another party.
nominated bank: An expression used in connection with L/Cs when a bank is authorized by the issuing bank not only to negotiate but also to pay or
to accept
drafts as the case may be.
non-compliant documents: Where the documents presented, or their details, are not in accordance with the terms and conditions of the letter of credit.
non-convertible currencies: Currencies not traded freely on an international currency market, often restricted by internal regulations and currency controls.
non-negotiable documents/instruments: Documents or financial instruments where their rights and obligations are not freely transferable to another part
non-recourse financing: See project finance.
Glossary of Terms and Abbreviations 239
non-tariff barriers: A general phrase describing non-regulated and often disguised barriers to international trade, mostly practised by individual countries to
protect their own trade or industry.
notified factoring: Financing of invoices of which the buyer is informed, normally through an assignment on each invoice.In this book also called
factoring only.
notify party: The party who is to be informed by the carrier about the arrival of goods at the destination.
noting: The first stage in protest of a dishonoured bill of exchange.
ocean/marine bill of lading: See bill of lading.
on-board bill of lading: Notation on the bill of lading that the goods have been loaded on board the ship.Often a requirement in a letter of credit.
on-demand guarantee: See demand guarantee.
on their face: An important expression when dealing with documents and letters of credit, indicating that banks examine the presented documents with reasonable
care, but without responsibility for their accuracy or genuineness.
open account (payment terms): Payment terms, often including a short-term supplier credit, extended to the buyer at shipment without any written evidence
of indebtedness.
opening bank: Expression sometimes used instead of (letter of credit) issuing bank.
operating lease: An arrangement where the lessee is using the equipment on a less than full payout basis and where the risk of ownership rests with the le
ssor who
thereby also retains a financial risk in the arrangement.
Organisation for Economic Co-operation and Development (OECD): An international organization of member states helping governments to
implement common economic and social solutions globally, including
establishing common rules for government support of trade and industry.
outright forward rates: Forward exchange rates normally quoted towards customers in standard format compared to the forward points quotations between ban
see that term.
packing finance: Another expression for pre-shipping finance, ie the period from start of production until shipment, when a trade debt has been created.
parallel financing: See co-joint financing.
(The) Paris Club: An informal group of official creditors from the larger economies whose role it is to find coordinated and sustainable solutions to paym
difficulties experienced by debtor countries.
payment exposure: The currency exposure resulting from in- and outgoing flows
in foreign currency within the company, often reflecting the potential and real
currency risk.The opposite is balance exposure; see that term.
payment guarantee: Undertaking, normally in the form of a bank guarantee, on behalf of the buyer, to pay for the seller’s contractual delivery of goods or services.
Glossary of Terms and Abbreviations 240
performance guarantee: The most common contract guarantee, covering the seller’s delivery and performance obligations according to the contract.
points: The spread in the interbank currency market between the buying and selling rate; see also forward points.
political risks: The risk for a commercial transaction not being duly performed due to measures emanating from the government or authority of the buyer’
own country, but also from any other foreign country.
postal risks: The risk of cheques or documents not being received by the counterpart, with risk for non-performance and/or payment disputes and delays.
pour aval: See avalize.
pre-contract CIRR: A form of state-supported interest rates to be applied for before the signing of the sales contract; see Consensus.
premium: The up-front fee that the buyer of a currency option pays to their counterpart, similar to an insurance premium.
presenting bank: The bank presenting the documentary collection to the buyer and collect payment.Also named collecting bank.
pre-shipping finance: Finance earmarked for manufacturing or other costs for an export transaction before shipment.
principal: The same as applicant, the party instructing a bank to process a documentary collection or to issue a guarantee; see also applicant.
product risks: Risks, including manufacturing and shipping risks, which are related to the product itself, and which the seller has to evaluate and cover in order to
be able to fulfil their contractual obligations.
progress payment guarantee: Undertaking on behalf of the seller to repay payments made by the buyer during the contract phases, but where the buyer,
because of the seller’s non-fulfilment, cannot make use of the delivery until
project finance: Finance arrangements for larger projects, generally based on the revenues of the project, mostly secured on its assets and less on the creditworthiness
of the buyer.Often called non-recourse financing.
promissory note: A form of financial instrument in international trade and more detailed than a bill of exchange, where the buyer irrevocably promises to pay to
the seller according to a fixed schedule.
protest: The formal procedure after noting of a dishonoured bill, where the notary public issues a formal protest, which can be used in legal proceedings.
purchaser risks: See commercial risks.
put option: One part of a dual put and call currency option, where an exporter sells a put option to hedge a scheduled payment in foreign currency.The
opposite is a call option; see also currency option and call option.
rail waybill (RWB): Rail transport document as receipt of goods and evidence of freight agreement.A RWB is not a document of title and is not needed to claim
the goods.
Glossary of Terms and Abbreviations 241
recourse: The provision whereby a refinancing party reserves the right against t
he seller to reclaim any amount not paid by the buyer/drawee on maturity da
te of
the refinanced instrument.
red clause letter of credit: A letter of credit containing a clause that authorizes the advising or nominated bank to make an advance payment to the seller prio
r to
delivery of conforming documents.
reduction clause: A clause that automatically reduces the undertaking under a bank guarantee in line with the successive fulfilment of the obligatio
ns by the
principal or in any other way, stated in the guarantee.
reference banks: Banks selected in a loan agreement to be used as quoting banks to establish the reference interest rates.
reference interest rates: The recognized money market rates for most trade currencies, established on an interbank market at a specific time during
the day, or established in any other way as specified in a loan agreement.
repurchase agreements (A): Trade in which payment is made through pro ducts,
generated by the equipment or goods being delivered by the seller.
repurchase agreements (B): Arrangements used in leasing transactions as additional security for the lessor, where the manufacturer or original supplier agrees to
repurchase or arrange in some other way for the equipment in case of def
ault of
the lessee.
retention money guarantee: Undertaking on behalf of the seller to comply with any obligation after delivery such as installation, start-up, etc, but where the buyer
has already made payment.
revocable letter of credit: Formerly a form of letter of credit, which could be cancelled or amended during its validity.Under the existing ICC UCP 600 this
is no longer a defined term, since all L/Cs are by definition irrevocable.
revolving letter of credit: A letter of credit that is automatically reinstated after each drawing, but with some restrictions on total amount or number
of reinstatements.
RFQ: A formal request for quotation, where the buyer preconditions the details and other terms for the goods to be delivered, including the time frame for the
seller’s submission of the quotation.
SEPA: The European-wide initiative to standardize the way electronic euro payments are executed throughout Europe, in order to make payments in the
euro currency as fast, safe and efficient as national payments.
sight bill: See at sight.
silent confirmation: A confirmation of a letter of credit towards the seller made by the advising bank or some other party, but without the instructions to do so
from the issuing bank.
Society for Worldwide Interbank Financial Telecommunication (SWIFT): An international cooperative bank network for payments and messages.
Glossary of Terms and Abbreviations 242
spot exchange rate: The fluctuating market price of one currency expressed in terms of another currency, for immediate delivery.
spot market: The market for currency exchange transactions with immediate delivery or typically within two banking days.
standby letter of credit: As opposed to an ordinary commercial letter of credit, the standby letter of credit is usually drawn on only in cases where the app
fails to perform a specified obligation.The standby letter of credit is often used
as an alternative to a bank guarantee.
strike price: Also known as the exercise price, which is the stated price at which the holder of a currency option has the right to exercise the option at matu
structured leasing: See cross-border leasing.
structured trade finance: In this book a reference to ad hoc trade finance techniques, often arranged by or through specialized financial institutions.
subsidiary insurance: See interest contingency insurance.
supplier credit: Arrangements where the seller is extending a fixed credit period to the buyer, either for shorter periods in connection with open account trading
terms or for longer periods through some form of a financial instrumen
surety bond: An undertaking from a third party, often an insurance or a surety company, to pay a certain sum of money or under certain conditions with the
alternative obligation to fulfil or arrange for the completion of the
commercial contract, should the principal default in their obligations.
SWIFT: International bank network for electronic messages and payments.
SWIFTBIC: See bank identifier code (BIC).
SWIFTNET: Central information database platform created by SWIFT for monitoring and supervising individual trade transactions until payment.
tender exchange rate insurance: The use of insurance for the seller to cover the outstanding currency risk between the period of a firm offer until acc
if any, from the buyer.
tender guarantee: Undertaking on behalf of the seller to stand by the offer/tender, should it be accepted.Often also called bid bond.
term bill: Bill of exchange to be paid at a later due date.
terms of delivery: The detailed terms and conditions agreed between the parties to govern the delivery of goods.The present rules set by ICC, Incoterms 2010, are
by far the most commonly used in international trade.
terms of payment: The complete terms and condition agreed between the commercial parties, related to the buyer’s payment obligations, including the chosen method
of payment.
third-party documents: Documents under letters of credit (and collections) issued by other parties where the seller must be certain these can be co
issued for presentation under the L/C (or be included in the agreed col
Glossary of Terms and Abbreviations 243
through bill of lading: Similar to the multimodal transport B/L, but with responsibility for the sea voyage only.
trade cycle: The period from when the first costs for the delivery are incurred, until shipment and final payment.
trade practices: Established trade rules in a country either by common practice or by rules set by ICC, which are by far the most commonly used in international
trade refinancing: Any arrangement where the seller is using receivables or separate finance instruments to offload a trade credit given to the buyer.
transfer guarantee: A separate undertaking issued by a central bank or authorized commercial bank, guaranteeing both the allocation and the transfer of foreign
exchange out of the country.
transfer risk: Restrictions caused by government authorities, preventing the buyer from purchasing the foreign exchange for local currency and/or transferr
ing the
currency out of the country.
transferable letter of credit: Permits the seller to transfer under certain conditions the rights and obligations under the letter of credit to one or several
of their
two-factor export factoring: An arrangement where the seller’s factoring company (the factor) makes use of a local factoring company for the contract a
with the foreign buyer; see also direct export factoring.
UCP: UCP 600, Uniform Customs and Practice for Documentary Credits.ICC present rules for letters of credit.
unconditional guarantee: See demand guarantee.
unconfirmed letter of credit: The issuing bank always guarantees a letter of credit, but if unconfirmed, no other bank has the obligation to honour compliant
documents when presented by the seller.
undertaking to provide guarantee: Undertaking to have the relevant guarantee issued if the offer is successful.Issued by the company itself or by a parent or
group company in support of a subsidiary.
unfair calling: Claim by the beneficiary under a demand guarantee without having any contractual reason to do so.
URC: URC 522, Uniform Rules for Collection, issued by the ICC.
URCG: URCG 325E, Uniform Rules for Contract Guarantees, issued by the ICC.
URDG: URDG 758E, Uniform Rules for Demand Guarantees, issued by ICC.
usance bill (or usance letter of credit): An expression sometimes used for a term bill of exchange or letter of credit with a future payment date, thereby extending the
buyer a specified period of credit.
validity period: The period under which a guarantee, a letter of credit or any other similar undertaking will be honoured by the issuing bank.
value date: The execution date for foreign exchange contracts.
Glossary of Terms and Abbreviations 244
warranty guarantee: Undertaking on behalf of the seller, covering any contractual maintenance or performance obligations during a period of time after del
or installation.
with/without recourse: See recourse.
(The) World Bank: A global ‘bank group’ consisting of five different organizations,
of which the best known are the International Bank for Reconstruction an
Development (IBRD) and the International Development Association (IDA).
Glossary of Terms and Abbreviations InDex
acceptance 59
accessory obligation 83
Act of God 29
advance payment 42
advance payment guarantee 90
adverse business risks 24
advising bank 57, 58, 84
air waybill 52
annuities 180
anti-corruption policy 25
applicable law 100
applicant 58
at sight 59
authentication 57
aval 91
back-to-back L/C 63
balance exposure 113
bank charges 36
bank cheque 45
bank collection 49
bank guarantee 81
bank loans 160
bank remittance 38
bank transfer 38
banker’s draft 45
bank-to-bank credits 170
bank-to-buyer credits 170
barter trade 77
beneficiary 58, 83
Berne Union, the 139
BIC code 41
bid bond 89
bill discounting 124
bill of exchange 54
bill guarantee 91
bill of lading 52
blank endorsement 222
bond indemnity insurance 97, 137
bonds 81
break-even price 122
bribery 24
business opportunities 189
business practices 10
buyer credits 169
call options 121
cap and floor options 123 capital goods
capital markets 175
capital risk 131
cargo insurance 18
cash management 5, 195
certificate of origin 55
certified documents 70
cheque payments 47
CIRR 173
claim document 94
clean collection 56
clean on board 222
clean payments 37, 200
clearing 47
co-joint financing 192
collateral 102
collecting bank 49
collection accounts 42
combined transport document 222
commercial documentation 17
commercial matching 141
commercial risks 20
commercial standby L/C 88
commitments by banks 62
compensation trade 77
competitive exposure 114
complying documents 56
complying presentation 56
composite terms of payment 205
conditional guarantee 83
confidential financing 161
confirmed L/C 61
confirming bank 61
consensus 140, 173
contract CIRR 173
contract frustration 29
contract frustration policy 137
contract guarantees 89
control of goods 52
convertibility risk 107
convertible currencies 107
corporate cheque 48
correspondent banks 23, 43
corrupt practices 25
cost–benefit analysis 134
counter-guarantee 84
counter-trade 77
country information 28 245 246country risks 26
cover note 20, 69
credit control 45
credit guarantee 92
credit information 21
credit periods 148
credit reports 23
credit risk insurance 130
cross rate 109
cross-border leasing 181
crossed cheque 49
currency abbreviations 31
currency accounts 119
currency clauses 124
currency derivates 123
currency exposure 113
currency hedging 117
currency information systems 110
currency licence 55
currency loans 123
currency markets 108
currency options 121
currency pegging 105
currency position schedule 115
currency risk management 105, 125
currency risks 30, 105
currency spread 109
currency steering 118
currency transfer guarantee 158
default clauses 174
deferred payment 56
deferred value 59
demand guarantees 83, 94
development banks 191
development finance institutions (DFIs) 188
direct currency trading 109
direct guarantees 85
disbursement clauses 174
discounting 162
discrepancies in documents 72
document of title 52
documentary collection 49, 202
documentary credit (DC) 57, 58
documentary payments 37, 200
documents 53
documents against acceptance 50
documents against payment 50
draft 54
drawee/drawer 54
duty-exempt guarantee 93
eB/L 217, 219
EBRD 194 e-commerce 46
economic stability
electronic documents 217
endorsement 54, 72
EU payments 233
eUCP (ICC rules) 65
Euro 106
eurocurrency 175
evidence of default 98
exercise price 121
expiry date 101
export credit agencies, ECAs 137
export credit banks 172
export credit insurance 129
export factoring 164
export leasing 181
export leasing insurance 184
export loans 152
export quotation 209
export quotation checklist 215
exporter policies 143
express payments 40
extend or pay 102
facilitation payments 24
factor 165
factoring 162
FIATA documents 221
finance alternatives 149
financial documents 69
financial lease 179
financial risks 31
financing lease insurance 184
first demand guarantee 94
fixing rates 110
flexible annuities 184
floating currency 105
floating interest rates 177
force majeure 29
forfaiting 167
forward currency contracts 120
forward currency markets 111
forward discount rate 127
forward option contracts 122
forward points 117
forward premium rate 127
forward rates 111
forwarding agent’s certificate of receipt (FCR) 52, 224
fraud warning 57
free floating currencies 105
freely negotiable documents 60, 167
freely negotiable L/C 60
full payout lease 180
Index 247
global credit report providers 23
global credit risk cover 136
glossary 227
guarantee indemnity insurance 137
guaranteed acceptance 91
guarantees 81
handling charges 38
hard currency 107
hedging currency risks 117
honour documents 56
identical goods 63
IFC (World Bank) 191
illegal practices 142
import licence 55
Incoterms 13
independent obligation 83
indirect currency trading 109
indirect guarantees 85
inspection certificate 72
inspection of goods 52, 72
institute cargo clauses 18
instructing bank 84
insurance bond 81
inter-bank currency markets 108
inter-bank money markets 175
inter-bank trading 108
interest contingency insurance
interest rate swap 178
interest risk 131
internal currency rates 127
International Chamber of Commerce (ICC) 10, 15, 55, 71, 92
international insurance markets 133
international leasing 179
international money markets 174
international transport documents
intrinsic value 122
introductory letters 23
investment insurance 137, 146
invoice discounting 161
invoice finance 162
invoicing currency 117
irrevocable L/C 56, 59, 203
ISBP (ICC rules) 71
ISP (ICC rules) 92
issuing bank 58
ITFA 168
joint ventures 188
jurisdiction 100 L/C checklist
late presentation 72
late shipment 72
lease payments 180
leasing insurance policy 144, 184
legal opinion 174
legal ownership 180
legalized documents 70
lender policies 144
lessee/lessor 180
letter of credit, L/C 56, 203
letter of indemnity 94
letter of support/comfort or awareness 93
lines of credit 185
loan agreement 174
local costs 142
local currency finance 165
manufacturing risks 17
market sector insurance 135
master L/C 63
matching 141
methods of payment 35, 200
minimum premium rate (MPR) 200
money laundering 24
money markets 174
multilateral development banks 191
multimodal transport document 322
negotiable documents 60, 167
negotiation of documents 60
negotiation process 11
nominated banks 59
non-compliant documents 56
non-convertible currencies 107
non-recourse factoring 165
non-recourse financing 165
non-tariff barriers 29
notified financing 162
noting 156
OECD 132, 140, 173
Offset counter-trades 77
on-board bill of lading 222
on-demand guarantee 94
one stop shop 140
open account payment terms 38
open account trading 40, 156
open insurance policy 19, 69
opening bank 58
operating lease 179
operating lease policy 184
outright forward rates 112
overdraft facility 160
Index 248packing finance 151
Paris Club, The 140
part shipments 66
payment brought forward 118
payment delays 44
payment exposure 114
payment guarantee 91
payment methods 35
pegging 107
per aval (pour aval) 91
percentage coverage 131
performance guarantee 84, 90
pips 92
place of payment 60, 196
points 109
political risk insurance 136
political risks 26
political stability 26
postal risks 49
pre-contract CIRR 173
premium on options 122
presentation of documents 60, 68
pre-shipment finance 151
principal 83
private insurance market 132
product risks 16
progress payment guarantee 90
project finance 187
promissory note 158
protested bill 156
purchaser risks 20
put options 121
qualifying goods 173
qualifying period 131
rail waybill 52
real-time trading 110
red clause L/C 63, 153
reduction clauses 102
reference banks 176
reference interest rate 176
refinancing 159
refusal of payment 68
reimbursement instructions 61
repayment guarantee 90
repurchase agreement 77, 180
request for quotation (RFQ) 209
retention money guarantee 90
revocable L/C 59
revolving L/C 63
risk analysis 134
risk assessment 9, 33
risk commission 38
risk profile 10 rolling currency position
115, 126
roll-over periods 177
Rome convention 101
SEPA 143
settlement risk 131
shipping documents 69, 221
sight bill 53, 54
silent confirmation 61
social stability 27
soft terms 192
specific insurance policy 19
spot exchange rate 109
spot market 108
spot trading 109
standard export credit insurance 135
standby L/C 82, 98
strike price 121
structured leasing 181
structured trade finance 179
supplier credits 154
surety bond 82
swap agreement 177
SWIFT 40, 218
tailor-made credit insurance 136
tender exchange rate insurance 124
tender guarantee 89
term bill 54
terminology 58, 83
terms of delivery 13
terms of payment 13, 195
third party currency 30
third party documents 69
through bill of lading 222
tied aid finance 141
time of payment 59, 197
title of goods 52
tolerances 72
trade cycle 150
trade facilitation programme 194
trade finance 149
trade finance limits 160
trade pattern 40
trade practices 10
trade risks 9
trading houses 79
transfer guarantee 91
transferable L/C 63
transhipment 66
translation exposure 113
transport documents 69
transport risks 18
Index 249
UCP600 (ICC rules) 71
unconditional guarantee 94
unconfirmed L/C 62
undertaking to provide guarantee
unfair calling 94, 97, 115
uninsured percentage 131
URC (ICC rules) 55
URCG (ICC rules) 92
URDG (ICC rules) 92
usance bill 53 validity period
vanilla options 123
waiting period 122
warehouse certificate 70
warranty guarantee 91
weak currencies 30, 107
with recourse financing 165
working capital insurance 153
World Bank 191
world trade 3
Index 250