Documentary credit process with a confirming bank

Each step is detailed below.

5. Shipment of goods

The documentary credit is an order confirmation. The exporter ships the goods as agreed in the contract. He receives from the carrier the certificate of acceptance and the proof of shipping.

The goods can be of several types :

• consumer goods that may or may not be perishable
• the goods that can be incorporated into another that will be used for the manufacture of another product
• industrial machinery
• etc.

The shipping conditions and times depend on the types of goods. Furthermore, it is important to clarify the responsibilities between the parties. This prompted the International Chamber of Commerce to create the Incoterms (International Commercial Terms) in 1936. These are international rules that facilitate communication and clearly define the responsibilities between the parties involved in international trade. We will come back to Incoterms in a future article.

6. Delivery of documents

Once the goods have been dispatched, the exporter collects all the documents mentioned in the contract and hands them over to his bank. There are among others:

• Commercial documents: invoice, packing list, certificate of origin, asn.

• Technical documents: certificates of analysis, sanitary or phytosanitary certificates issued by public authorities; supervision, control and quality certifications issued by specialized companies (Bureau Veritas, SGS, Lloyds), asn.

• Transport documents: bill of lading (B/L), air waybill (AWB), sea waybill (SWB), asn.

• Financial documents: commercial paper and other instruments used to obtain the payment of a sum of money.
• And so on.

All documents listed in the documentary credit agreement must be returned to the bank. Otherwise, the exporter runs the risk of not being paid because of non-compliance.

7. Payment (by the confirming bank)

After receiving the documents, the confirming bank (exporter’s bank in our simplified model) checks them thoroughly. If they are complete (all documents are present) and compliant (There is nothing suspicious), it proceeds to the payment right away:

• Payment at sight: the confirming bank credits the beneficiary with the amount indicated in the confirmed documentary credit.

• Deferred payment: the confirming bank indicates its intention to pay at maturity.

• Payment by acceptance: the confirming bank accepts a bill drawn on itself by the exporter. The confirming bank may discount the draft to the exporter before the due date. Otherwise the payment is made at term.

Here is the main difference with the process involving a notifying bank. The notifying bank pays the exporter after receiving the funds from the importer’s bank. So the exporter has to wait until the notifying bank receives the payment. The confirming bank on the other hand pays the exporter right after receiving the documents and collects the payment from the importer’s bank. The exporter receives the payment faster. But this service implies additional costs.

8. Sending of documents

The confirming bank sends all documents and, where applicable the proof of payment or bill acceptance, to the issuing bank. The issuing bank checks that the documents are compliant and correspond to those stated in the documentary credit. It is not responsible for verifying its authenticity, even if it can report any defect or problem. In case of missing document, the bank informs its correspondent, the confirming bank.

9. Payment (by the issuing bank)

After verifying that the documents are complete and compliant, the issuing bank pays its correspondent at sight or at maturity according to the agreed terms. The fact that the payment is at sight, deferred or by acceptance, therefore determines when the issuing bank pays the documentary credit. Most of the time, payment is made by issuing a SWIFT MT202 message. The payment instrument used for the settle the transaction is a credit transfer in this case.

10. Delivery of documents

The importer’s bank hands over the complete and correct documents to the importer. Now the importer can take possession of the goods and perform their customs clearance.

11. Payment

The importer can immediately repay the sums paid by his bank to the exporter. But that is not what happens in the majority of cases. In the usual case, the importer makes the expenses for the payment and clearance of the goods. But he does not have enough money to pay his bank in return for the documents received. The bank grants him a credit that he repays with the money earned by selling the goods if all goes well. This explains why the bank must study his client’s activities before accepting the opening of a documentary credit.

This completes the introduction to the documentary credit. The next article will be about the Stand By Letter of Credit (SBLC).