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Outline
Cash in Advance/Prepayment
Cash in Advance/Prepayment occurs when a buyer sends payment in the agreed currency and
through agreed method to a seller before the product is manufactured and/or shipped. Upon receipt of
payment this seller then ships the goods and all the necessary shipping and commercial documents
directly to the buyer.
*Prior to manufacturing and/or shipping, through the agreed upon method (cash, wire
Time of Payment
transfer, check, credit card, etc.).
Goods Available
*After payment is received.
to Buyer
*Seller does not ship per the order (quantity, product, quality, shipping method).
Risks to Buyer
*Seller does not ship when requested.
When *When there is no established relationship between the buyer and seller.
Appropriate *Product is a special order and can only be sold to this specific buyer since it contains
to Quote or Use company logo, etc.
*Seller is confident that importing country will impose regulations deferring or blocking
transfer of payment.
*Seller does not have sufficient liquidity or access to outside financing to extend deferred
payment terms.
Documentary Collections
Using a documentary collection process requires that a seller ship the product and create a negotiable
document, usually a draft or bill of exchange. The draft and shipping documents are then processed
either through a buyer’s bank (the collecting bank) or through the seller and buyer’s banks. Upon
arrival at the buyer’s bank, the buyer is notified to make payment; then the documents are released
and used to clear the shipment through customs upon arrival.
The primary advantage of documentary collections is that a seller who extends credit terms to a buyer
under a D/A collection obtains an enforceable debt instrument in the form of a trade acceptance. The
seller’s rights to payment are protected under the negotiable instruments law of that buyer’s country.
In the event this buyer defaults or delays payment at maturity, the possession of the trade acceptance
may put the seller in a stronger position before the court than if he/she had sold under open account,
in which evidence of indebtedness is provided by the unpaid commercial invoice alone. In addition, a
bank presenting a collection on behalf of a seller may obtain prompt payment from a buyer who might
be inclined to delay payment if the seller were invoicing under open account.
A documentary collection is best used for ocean shipments where original bills of lading are required.
An original bill of lading is a document of title which enables a buyer to gain possession of the goods.
When all the originals of a bill of lading are sent to the collecting bank, it is in the interest of the buyer
to effect payment in order to obtain title to the goods.
Documentary collections may be more competitive than letter of credit terms because they are less
costly and do not require the buyer to tie up his/her local bank credit lines.
There are a variety of terms associated with documentary collections that should be understood:
Buyer = Importer
Seller = Exporter
Remitting Bank = Exporter’s Bank >> receives payment
Collecting Bank = Importer’s Bank >> transmits funds from buyer to seller
Bill of Exchange/Draft – document issued by exporter and used for remittance of funds
Time/Usance Bill of Exchange – tenured at 30, 60, 90, 120 or 180 days, etc.
Clean Collection
The exporter creates a bill of exchange, which is sent without any export documents to a buyer for
collection through the remitting bank to the collecting bank. There is less security for an exporter since
the documents are sent directly to the importer.
*Either at sight of documents or acceptance as agreed to by the parties (30, 60, 90 days
Time of Payment
after acceptance).
*Upon arrival of goods after payment or acceptance of draft has been made.
Risks to Seller
*Buyer defaults on payment obligation.
Goods Available to
*Delays in availability of foreign exchange and transferring of funds from buyer’s
Buyer
country.
*Payment blocked due to political events in buyer’s country. Risks to Buyer
*Seller does not ship per the order (quantity, product, quality, shipping method).
*Seller does not ship when requested, either early or late.
When Appropriate to *Seller and buyer have done some business together and are transitioning away from a
Quote or Use prepayment policy.
*Seller has some trust that buyer will accept shipment and pay at agreed time.
*Seller is confident that importing country will not impose regulations deferring or
blocking transfer of payment.
*Seller has sufficient liquidity or access to outside financing to extend deferred payment
terms.
*Seller finances buyer through deferred payment terms.
Financing *Seller can use trade acceptances, which are negotiable instruments, to obtain financing.
*Leverage /or financing comes from domestic/global business.
Letters of Credit
A letter of credit is a bank instrument that can be used to even the risk between a buyer and a seller
since a buyer is guaranteed to receive payment if when he/she has complied with the exact
requirements of this buyer. A letter of credit offers a seller numerous advantages but only if that seller
complies exactly with its terms and conditions of the transaction. In addition to providing reduced risk
for both a seller and a buyer, there are many variables that can be used with a letter of credit to
reduce the political and commercial risks that may accompany the transaction as well as provide
extended terms to a buyer through the letter of credit instrument.
The terminology that is used when working with letters of credit is very specific and should be
understood.
Involved Parties:
Activities and Terms:
Types of L/Cs:
Back-to-Back – credit and terms of a transaction rollover to a new transaction upon
completion, which eliminates the need to apply or issue a new L/C for identical shipments
Confirmed – credit risk taken by bank and agreement to pay (fee charged)
Straight – payable only at paying bank
Negotiation – payable at negotiating bank
Sight – payable at acceptance of documents
Standby – used by the beneficiary for payment should the applicant not pay the exporter
directly
Transferable – part or all of the proceeds from the L/C may be transferred to another party,
used by sales brokers or agents to disguise buyers and sellers
Usance – time draft based on invoice, bill of lading, or documents, up to 180 days
•As agreed between the buyer and seller and stipulated in the L/C, at sight of documents or
Time of Payment
acceptance of time draft.
Goods Available
•Upon release of documentation and payment or acceptance of time draft.
to Buyer
•Delays in availability of foreign exchange and transferring of funds from buyer’s country if
Risks to Seller the L/C is not confirmed.
•Payment blocked due to political events in buyer’s country if the L/C is not confirmed.
•Seller creates documents to comply with L/C but does not ship actual product.
Risks to Buyer •Seller does not ship.
•Buyer ties up commercial lines of credit to secure L/C.
•Often a bank will favorably consider a request for an increase in a credit line to finance
production of the goods. This is done with the knowledge that letters of credit have been
Financing
opened and advised to an exporter for an export order. The bank may further require that the
beneficiary assign its interest in the letter of credit to them.
Open Account
Open account occurs when a seller ships the goods and all the necessary shipping and commercial
documents directly to a buyer who agrees to pay a seller’s invoice at a future date. Open account is
typically used between established and trusted traders.
•As agreed between a buyer and seller, net 15, 30, 60 day terms, etc., from date of
Time of Payment
invoice or bill of lading date.
•Before payment (depending on how the products are shipped and the length of
Goods Available to Buyer
payment option).
•Seller does not ship per the order (product, quantity, quality, and/or shipping
Risks to Buyer method).
•Seller does not ship when requested, either early or late.
•Seller has absolute trust that buyer will accept shipment and pay at agreed time.
•Seller is confident that importing country will not impose regulations deferring or
When Appropriate to blocking transfer of payment.
Quote or Use •Seller has sufficient liquidity or access to outside financing to extend deferred
payment terms.
•Used more regularly in international transactions to avoid high banking fees.
•Seller finances buyer through deferred payment terms.
•Seller may be able to obtain bank financing through pledge of receivables.
Financing
•Selling receivables on a non-recourse basis to a bank.
•Leverage and/or financing from domestic/global business.
Summary
Now we are able to describe the methods of payment available for international transactions and the
situation when each is appropriate. We can understand when payments will be made and the risks
associated with each method of payment both to the buyer and the seller. Finally, we know the
benefits of agreeing to a particular method of payment and what kind of financing options it may or
may not provide for the buyer and/ or seller.
Web Resources
Letters of Credit:
www.chase.com (FAQs)
www.informafinancial.com
www.allbusiness.com
www.qualitylc.com