Documentry collection in International connection
INTRODUCTION
In the spectrum of international trade finance, businesses are often faced with the problem of having to choose between the two extremes of the trade finance spectrum: the expensive but secure Letter of Credit (LC) option and the cheap but risky Open Account option. Sitting pretty in the middle of these two extremes is the Documentary Collection (D/C) option.
What exactly is the Documentry collection
Documentary Collection, or D/C, is a trade finance option wherein the seller (exporter) requests his or her bank to deliver the shipping documents to the buyer (importer)’s bank, with the instruction that the documents be released to the buyer only after the buyer has either paid the amount or signed an order agreeing to pay the amount.
The mechanics of ducumentary Collection
Unlike the Letter of Credit, wherein the bank guarantees payment, in the Documentary Collection option, the banks are merely acting as “couriers” of the documents and not as the actual payers or guarantors of the payment. The quality of the goods shipped does not concern the banks, and they are not worried about the risk of default by the buyer.
The process has four major participants : namely,
- The Principal (Exporter/Seller): The party that exports the goods and commences the collection process.
- The Remitting Bank: The exporter’s bank that receives the documents and forwards them to the buyer’s country.
- The Collecting/Presenting Bank: The party that receives the documents in the buyer’s country, which is responsible for the interaction with the buyer.
- The Drawee (Importer/Buyer): The party that receives the documents and is expected to “accept” them by paying.
The Two Primary Types of Collections :
Depending on the timing of the exporter’s payment, Documentary Collections may take two major forms, namely:
- Documents Against Payment (D/P) :
This is commonly known as “Sight Draft” or “Cash Against Documents (CAD).” This is the most secure form of collection for the exporter, as the collecting/presenting bank only releases the shipping documents, which the buyer needs to collect the goods at the port, after the buyer has made an immediate payment.
- Documents Against Acceptance (D/A) :
This system includes the concept of the “Usance Draft,” which gives the buyer the right to delay payment (for instance, 30, 60, or 90 days after the document is sighted). The bank releases the shipping documents to the buyer as soon as the buyer signs the “Bill of Exchange,” which is a legal agreement to make payment at a future date. Even though this gives the buyer credit, the exporter is taking more risks by releasing the goods before the actual payment.
Why Choose Documentary Collections?
D/C is the best choice in many cases because it offers the exporter and importer the best of all worlds.
- Lower Costs: Because the banks are not assuming the credit risk or auditing the documentation as with LCs, the bank charges for the D/C are much lower.
- Simplified Process: There is much less paperwork involved than with LCs. The exporter is responsible for the accuracy of the documentation submitted by them. There are fewer “discrepancy” issues that can halt the transaction.
- Control Over Goods: Under the D/P system, the exporter, through the banking system, has legal control over the title documents until the buyer makes payment. In the event that the buyer does not pay, the exporter has the option of redirecting the goods to another buyer while the goods are still at the port.
- Speed: Documentary Collections are processed without the need for the back-and-forth of LC drafting and revision, which can be a lengthy process. This is particularly important in the export of perishables or in the export of fast-moving consumer goods.
Risks and Considerations :
Although Documentary Collections are safer than open accounts, they are not without risk. They are recommended for use in situations where there is a certain level of trust between the exporter and importer, and the buyer is in a relatively stable country.
- No Payment Guarantee :
The major risk in Documentary Collections is that the bank has no obligation to pay the exporter in the event of non-payment by the buyer. If the buyer decides that they no longer want the goods upon arrival, the exporter is left with a container in a foreign port, incurring storage charges (demurrage).
- The Role of the Carrier :
In the case of air freight or road transport, the “Bill of Lading” is not always a document that serves as a title as it does in sea freight. In this case, the buyer may be able to take delivery of the goods without the bank’s documents, thereby avoiding the collection altogether.
- Political and Currency Risk:
If there is a coup in a country or it suddenly imposes exchange controls, the collecting bank may not be able to remit the funds back to the exporter, even if the buyer has already paid in local currency.
Best Practices for Exporters and Importers:
To carry out a smooth Documentary Collection, one must adhere to a strict protocol:
- Check Buyer’s Credit: Even though we are using a bank, we are still placing reliance on the buyer ‘s intent to pay.
- Sea Freight with D/P: This way, the Bill of Lading is held by the bank as leverage.
- Familiarize Yourself with URC 522: Documentary Collections are typically regulated by the ICC Uniform Rules for Collections (URC 522). It is important to make specific references to these rules in your contract to eliminate confusion.