Question

Commodity trade transactions, payments and finance

B. Payment terms of international trade transactions: open account and related credit insurance, factoring & forfaiting, and receivables securitization; documentary collection, and documentary credit /letter of credit; guarantees, bonds and standby letter of credit.

Answer 1

Payment terms

Open account is when a seller sells a product to buyer and receives payment for it some time after the material is received by buyer along with invoice and all relevant documents. The timeline is to be mutually agreed before contract making

Credit insurance is protection for seller against not receiving payment from buyer due to any reason like insolvency or bankruptcy and even delayed payment.

Factoring is when there is an intermediate financing agent where the agent takes the responsibility to collect payment from buyer by taking invoices from sellers at a cost usually less than the value of invoice. The sellers do this to immediately liquidate the invoices even though at a loss of the discounted price.

Forfeiting is when a long or medium term agreement is made with an intermediate agency for fast cash after despatch of materials by supplier to buyer and the supplier receives immediate payment and the responsibility and risk to collect payment from buyer lies with the agency acting in between. The financing cost goes into the account of buyer and it is usually seen in international trade.

A documentary collection payment term is when the supplier's bank provides shipping documents to the buyer's bank and instructs to release shipping documents to buyer only after receipt of payment is done for the said goods by buyer.

A letter of credit is a guarantee letter from bank that the payment will be done to the buyer within mutually agreed time between seller and buyer and in case the payment is not done by the buyer , the bank issues the payment. The bank however charges for this facility which will be either in the account of buyer or seller as per agreed terms.

Unlike letter of credit , bank guarantee can be used as a leverage by both seller and buyer. Seller can use to protect his payment. Buyer can use it as a guarantee against contractual obligations of seller or contractor.

A payment bond is a bond insured in the name of supplier or subcontractor by contractor for payment.

Similar to letter of credit , a standby letter of credit is to ensure payment to seller by bank where bank takes the responsibility whether or not the buyer pays. In case of letter of credit ultimately the money comes from buyer to bank to pay to seller. But standby letter of credit ensures payment even when insolvency happens for buyer.