In March we covered the terms of payment commonly used in international trade. There’s more to this than meets the eye, so let’s look behind the scenes at the mechanics of how transactions work. We will assume that the exporter and importer have negotiated a mutually acceptable sales/purchase contract (not always a given, but that’s a tale for another day).
Documents move goods in international trade. This is equally true of paper documentation and its electronic counterpart. Commercial documents such as the invoice and packing list are normally prepared by exporters and should present no problem. Country-specific documents like certificates of origin, phytosanitary certificates, inspection reports and consular documentation address requirements of the importer’s country. These pose a greater challenge as they usually require certification by an outside party (chamber of commerce, inspection company, government agency, etc.). Insurance documents are normally provided by the policy owner (seller, forwarder or buyer). Some air carriers also offer insurance. Transportation documents are the most important commonly used documents and are typically issued by carriers or forwarders for carrier signatures. They indicate the party making the shipment, the goods shipped, to whom the goods are to be made available on arrival, and which party is responsible for freight and associated charges. They also serve as contracts of carriage between the carrier and the party engaging them, and can even convey ownership for shipments by vessel.
Since transport documents are created by forwarders and carriers, it is important to consider from whom these service providers take their instructions. The quick answer is the party with which they have contracted. This would be the seller for “freight prepaid” shipments or the buyer for those made on a “freight collect” basis. Unfortunately, this fact often goes unnoticed because we typically refer to the party providing the goods for transport as the “shipper.” This is correct only when that party is contracting for transportation (i.e., freight prepaid). For freight collect shipments, the buyer contracts for transportation, and is therefore actually the shipper. Let’s bring this to payment terms. We can remove open account and payment with order terms from consideration as the seller either trusts the buyer implicitly or already has received payment. Since clean drafts are almost the same as open account, we can forget about them too. This leaves commercial letters of credit and documentary drafts.
Commercial letters of credit require strict documentary compliance. Discrepant presentations are not honored until or unless the bank that issued the credit gives its approval. This usually means getting the buyer’s OK as well. The governing rules, UCP600, go to great lengths to explain what constitutes a discrepancy, and devote eight articles (19 through 27) to transport documents. Documentary drafts are nowhere near as exacting, but work by requiring the buyer to deal with a bank in order to get the goods. Sellers prepare and send the shipping documents to a bank in the buyer’s country with instructions that they not be released until the buyer pays or accepts a draft. For its part, once the shipment arrive, the carrier looks to the transport document for instructions about to whom and under what circumstances it should be released. Marine transport documents can be made in either negotiable or non-negotiable form. Negotiable documents contain the word “Order” in the consignee field. Depending on how they are endorsed, they can transfer ownership either to a named party or to whoever is in possession of the original document. Either way, the carrier will insist upon the surrender of at least one original before releasing the shipment. By contrast, non-negotiable marine transport documents have a named party in the consignee field rather than “Order.” The carriers will release the shipment only to that named party, and may not require that an original transport document be surrendered.
Air waybills require more finesse for use with documentary drafts as they cannot be made in negotiable form. Typically, the seller will ask the buyer’s bank for permission to consign an air shipment to it for the buyer’s account. If the bank agrees, the seller ships and instructs the carrier to hold the shipment for release by the buyer’s bank without attempting to deliver the shipment there. The draft and documents are then sent to the buyer’s bank for handling and the bank provides the carrier with a release once the buyer pays or accepts.
Incorrect consignment for either vessel or air shipments can frustrate documentary collections by enabling the buyer to obtain the goods without first dealing with the collecting bank.
Conclusion: Commercial documentary credits and documentary collections require correct documentation. Sellers relying on these terms are at greater payment risk when they do not select the forwarder or contract for transportation.
Frank Reynolds is president of International Projects, Inc., an export management company. His column appears exclusively in The Journal of Commerce Online.
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