Letters of Credit for Retailers

Ever wonder how sellers across the world actually send in the products to remote parts of the world and still not worry about payment?

Most banks issue what is called a letter of credit ensuring that the buyer will pay as long as the seller abides by the terms of the agreement. What this means is that the bank acts as a third uninterested party between the buyer and the seller.

Once the terms of trade is determined, i.e. the price, how, when and where goods will be delivered, how it will be billed etc, the buyer requests a Letter of Credit to the bank. The bank outlines all the agreement in the Letter of Credit and sends it to the seller's bank making the seller the beneficiary. Once the terms of the letter of credit are met, the seller then sends in the delivery document to the bank and en-cashes the letter of credit. 

Some Letter of Credit lingo:

• LC, L/C, LOC are all abbreviation of Letter of Credit.
• Applicant: the buyer is addressed as the applicant
• Beneficiary: the seller is addressed as the beneficiary in the LC
• Issuing Bank: this is the bank that issues the Letter of Credit and hence made a promise to pay.
• Advising Bank: this is the sellers’ bank and en-cashes the Letter of Credit once all the terms of trade is met.  

Letter of Credit is a promise by the bank to pay, but where does the money come from?

Some banks will require the customer to deposit the entire amount of letter of credit before the bank will issue one; while other customers may use a line of credit with the bank. All the seller has to do is ensure that the bank issuing the letter of credit is legitimate.

In the letter of credit, not only the price is mentioned, but also the terms and conditions of trade. This includes the quantity, specification of the products, where the goods will be delivered, who will be billed etc. Once all the terms of the Letter of Credit is fulfilled the seller can execute the Letter of Credit and get the payment.

Here's an example of a Letter of Credit. Suppose the Applicant and the Beneficiary agrees to sell merchandise and agrees on a price, quantity, delivery address and the date within which the product needs to be delivered. The seller then sends that merchandise. If the seller needs to send it via ship, then he simply ensures that the merchandise reaches the port and takes a document from the authorities in the port stating that the product has reached them in certain conditions. This ensures that the seller gets the money even if the ship sinks or something happens to the product on the way.

Once this is done the seller then deposits the document along with an invoice to the advising bank. The advising bank then forwards the document to the Issuing bank, gets the amount stated in the LC and deposits in the sellers account.  

If you need to get a letter of credit simply visit your bank and inquire on how they may help you.