Non payment is a concern for any business. The problem is far greater in International Trade due to the fact that the supplier and buyer are located in different countries. The following are key considerations for companies who sell overseas:
Will I get paid?
- Is the buyer creditworthy?
- Consider credit checks and trade references
- Do I require a ‘secure’ method of payment? Cash in advance (proforma) or letter of credit?
- How much will it cost (bank charges and internal administration)?
- Competitive pressure. What terms are other suppliers offering?
- Cash flow pressure due to offering credit terms (eg: 60 Days). How do I fund working capital?
- Do I have an effective credit control policy and systems?
- Should I consider credit insurance?
Where is the buyer located?
- Country – political / economic risk?
- Sanctions or embargoes?
- Import restrictions / regulations?
- Exchange controls – may delay payment?
- Documentation required (eg: Customs clearance)?
Transportation & Logistics
- What method of transport – sea / air/ road?
- Who will pay costs of / be responsible for freight and insurance – refer to Incoterms® 2010 (ICC publication 715)
- Do I know a reputable / experienced Freight Forwarder?
Foreign Exchange Risk
- Invoice in domestic currency or buyer’s local currency?
- How can I avoid potential losses incurred through adverse exchange rate movements?
- What support will my bank or FX provider provide to mitigate these risks?
Whilst by no means exhaustive, these issues are fundamental to an exporter’s ability to sell overseas profitably and successfully.
Methods of Payment
The overriding concern in any exporting transaction is to ensure that you receive payment. You may face the following problems:
- Insistence on use of your domestic language may result in misunderstandings through poor translation. Successful exporters often communicate through locally based agents or employees.
- Sales contracts should be drawn in such a way that all parties are absolutely clear as to responsibilities in respect of movement of goods and ultimate payment.
- Once shipped, it may be difficult for the exporter to recover goods in the event of non payment.
- Lack of suitable credit checks on overseas buyers
- Lack of consideration to political or economic situation in the overseas market.
- Failure to provide or obtain clear and full bank account details including SWIFT BIC and IBAN to ensure that payments are received efficiently, quickly and at minimum cost.
- Failure to obtain advice from / communicate with international trade banking specialists.
When negotiating payment terms, there are essentially four key methods of payment to consider, listed in order of least to highest risk to the exporter:
- Advance Payment
- Documentary Letter of Credit
- Bills and / or Documents for Collection
- Open Account Terms
The payment term used will depend on a number of factors such as the bargaining power of the importer and exporter, the level of trust between the two parties and the risk represented by the country of export / import.
The most favourable method of payment for the exporter who should ensure that funds are cleared into his bank account prior to release of the goods for shipment. The cheapest and most effective mechanism for payment will be an electronic bank transfer.
This represents the riskiest form of payment from your buyer’s point of view. The importer will need to have confidence in your ability willingness to ship the goods on time and to an acceptable quality.
By demanding advance payment are you putting yourself at risk of losing potentially lucrative overseas sales? Be aware that your competitors may be offering more favourable terms of payment.
Documentary Letter of Credit
A Documentary Letter of Credit is a written undertaking given by a bank on behalf of the importer to pay you an amount of money within a specified period of time, provided you present documents which fully comply with the terms and conditions specified therein.
Essentially a conditional guarantee of payment, you are assured of payment if you are able to submit complying documents to the bank within the specified time period. Your buyer will stipulate terms and conditions which will help ensure that you:
- Ship the goods in accordance with the sales contract
- Ship the goods on time
- Present shipping documents evidencing that you have complied with the needs of the importer for customs clearance, quality etc
This is a most effective method of payment if your company is familiar with and experienced in handling letters of credit and associated documents on a regular basis, however even the most experienced exporter can identify with the following potential pitfalls:
- Letters of credit containing terms and conditions which are unachievable or unreasonable. This can result in discrepant documents and / or the requirement to obtain costly amendments.
- Unexpected / high bank charges and other costs
- Time consuming
- Risk of non payment due to presentation of documents which are not presented on time or contain discrepancies.
In a nutshell, in order to protect bottom line profits, it is essential that company personnel engaged at any stage in letters of credit – from initial sale through to presentation to the bank – are equipped with the appropriate skills and knowledge.
Bills and / or Documents for Collection
Collections are effective means of controlling the release of shipping documents (and therefore the goods) by using the banking system.
Commercial documents relating to the exported goods will be sent by the exporter to his bank together with instructions as to how and when they should be released to the importer. The instructions (Collection Schedule) and accompanying documents are then forwarded to the importer’s bank.
Payment can be made in one of the following ways:
Documents against Payment (also known as ‘Cash Against Documents’)
- Documents are released to the importer in exchange for payment of the value of the invoice, or such other amount as specified in the collection schedule, or
Documents Against Acceptance
- Documents are released against the importer’s written promise to pay that value on a future date. This ‘promise’ is usually evidenced by the importer’s signed ‘acceptance’ on a term Bill of Exchange. Payment will be made at a fixed or determinable future date.
A cheaper method than letters of credit, the exporter has a degree of control and security however has no guarantee that the importer will take up the documents when presented.
Collections are most effective when goods are transported by sea and thus covered by a Bill of Lading (a Document of Title to the goods).
Open Account trading is the preferred arrangement for the importer who pays for the goods after receiving them.
The exporter has an increased risk of non payment and will generally use this method of payment where he has confidence in the importer’s business integrity and ability to pay. Typically the importer will have a strong payment record and the importing country’s political / economic risk will be low or negligible.
This method of payment accounts for a large percentage of international trade due to competitive pressures and the fact that it is an accepted, more efficient and cheaper method between developed economies.
The exporter should consider closely the potential risks of non payment and whether credit insurance should be taken out as a means of protection against payment default and in certain cases political risk.
BOOK LETTER OF CREDIT TRAINING FOR YOUR KEY STAFF
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