CHAPTER 13

METHODS OF PAYMENT


There are several basic methods of receiving payment for products sold
abroad. As with domestic sales, a major factor that determines the
method of payment is the amount of trust in the buyer's ability and
willingness to pay. For sales within the United States, if the buyer has
good credit, sales are usually made on open account; if not, cash in
advance is required. For export sales, these same methods may be used;
however, other methods are also often used in international trade.
Ranked in order from most secure for the exporter to least secure, the
basic methods of payment are

1.   cash in advance,
2.   letter of credit,
3.   documentary collection or draft,
4.   open account, and
5.   other payment mechanisms, such as consignment sales.

Since getting paid in full and on time is of utmost concern to
exporters, risk is a major consideration. Many factors make exporting
riskier than domestic sales. However, there are also several methods of
reducing risks. One of the most important factors in reducing risks is
to know what risks exist. For that reason, exporters are advised to
consult an international banker to determine an acceptable method of
payment for each specific transaction.

CASH IN ADVANCE

Cash in advance before shipment may seem to be the most desirable method
of all, since the shipper is relieved of collection problems and has
immediate use of the money if a wire transfer is used. Payment by check,
even before shipment, may result in a collection delay of four to six
weeks and therefore frustrate the original intention of payment before
shipment. On the other hand, advance payment creates cash flow problems
and increases risks for the buyer. Thus, cash in advance lacks
competitiveness; the buyer may refuse to pay until the merchandise is
received.

DOCUMENTARY LETTERS OF CREDIT AND DRAFTS

The buyer may be concerned that the goods may not be sent if the payment
is made in advance. To protect the interests of both buyer and seller,
documentary letters of credit or drafts are often used. Under these two
methods, documents are required to be presented before payment is made.
Both letters of credit and drafts may be paid immediately, at sight, or
at a later date. Drafts that are to be paid when presented for payment
are called sight drafts. Drafts that are to be paid at a later date,
which is often after the buyer receives the goods, are called time
drafts or date drafts.

Since payment under these two methods is made on the basis of documents,
all terms of sale should be clearly specified. For example, "net 30
days" should be specified as "net 30 days from acceptance" or "net 30
days from date of bill of lading" to avoid confusion and delay of
payment. Likewise, the currency of payment should be specified as
"US$XXX" if payment is to be made in U.S. dollars. International bankers
can offer other suggestions to help.


Banks charge fees _ usually a small percentage of the amount of payment
_ for handling letters of credit and less for handling drafts. If fees
charged by both the foreign and U.S. banks for their collection services
are to be charged to the account of the buyer, this point should be
explicitly stated in all quotations and on all drafts.
The exporter usually expects the buyer to pay the charges for the letter
of credit, but some buyers may not accept terms that require this added
cost. In such cases the exporter must either absorb the letter of credit
costs or lose that potential sale.

Letters of credit

A letter of credit adds a bank's promise of paying the exporter to that
of the foreign buyer when the exporter has complied with all the terms
and conditions of the letter of credit. The foreign buyer applies for
issuance of a letter of credit to the exporter and therefore is called
the applicant; the exporter is called the beneficiary.

Payment under a documentary letter of credit is based on documents, not
on the terms of sale or the condition of the goods sold. Before payment,
the bank responsible for making payment verifies that all documents are
exactly as required by the letter of credit. When they are not as
required, a discrepancy exists, which must be cured before payment can
be made. Thus, the full compliance of documents with those specified in
the letter of credit is mandatory.

Often a letter of credit issued by a foreign bank is confirmed by a U.S.
bank. This means that the U.S. bank, which is the confirming bank, adds
its promise to pay to that of the foreign, or issuing, bank. Letters of
credit that are not confirmed are advised through a U.S. bank and are
called advised letters of credit. U.S. exporters may wish to confirm
letters of credit issued by foreign banks not only because they are
unfamiliar with the credit risk of the foreign bank but also because
there may be concern about the political or economic risk associated
with the country in which the bank is located. An international banker
or the local U.S. Department of Commerce district office can help
exporters evaluate these risks to determine what might be appropriate
for each specific export transaction.

A letter of credit may be either irrevocable (that is, it cannot be
changed unless both the buyer and the seller agree to make the change)
or revocable (that is, either party may unilaterally make changes). A
revocable letter of credit is inadvisable. A letter of credit may be at
sight, which means immediate payment upon presentation of documents, or
it may be a time or date letter of credit with payment to be made in the
future. See the "Drafts" section of this chapter.

Any change made to a letter of credit after it has been issued is called
an amendment. The fees charged by the banks involved in amending the
letter of credit may be paid by either the exporter or the foreign
buyer, but who is to pay which charges should be specified in the letter
of credit. Since changes can be time-consuming and expensive, every
effort should be made to get the letter of credit right the first time.

An exporter is usually not paid until the advising or confirming bank
receives the funds from the issuing bank. To expedite the receipt of
funds, wire transfers may be used. Bank practices vary, however, and the
exporter may be able to receive funds by discounting the letter of
credit at the bank, which involves paying a fee to the bank for this
service. Exporters should consult with their international bankers about
bank policy.

A Typical Letter of Credit Transaction_

Here is what typically happens when payment is made by an irrevocable
letter of credit confirmed by a U.S. bank:

1.   After the exporter and customer agree on the terms of a sale, the
     customer arranges for its bank to open a letter of credit. (Delays
     may be encountered if, for example, the buyer has insufficient
     funds.)

2.   The buyer's bank prepares an irrevocable letter of credit,
     including all instructions to the seller concerning the shipment.

3.   The buyer's bank sends the irrevocable letter of credit to a U.S.
     bank, requesting confirmation. The exporter may request that a
     particular U.S. bank be the confirming bank, or the foreign bank
     selects one of its U.S. correspondent banks.

4.   The U.S. bank prepares a letter of confirmation to forward to the
     exporter along with the irrevocable letter of credit.

5.   The exporter reviews carefully all conditions in the letter of
     credit. The exporter's freight forwarder should be contacted to
     make sure that the shipping date can be met. If the exporter cannot
     comply with one or more of the conditions, the customer should be
     alerted at once.

6.   The exporter arranges with the freight forwarder to deliver the
     goods to the appropriate port or airport.

7.   When the goods are loaded, the forwarder completes the necessary
     documents.

8.   The exporter (or the forwarder) presents to the U.S. bank documents
     indicating full compliance.

9.   The bank reviews the documents. If they are in order, the documents
     are airmailed to the buyer's bank for review and transmitted to the
     buyer.

10.  The buyer (or agent) gets the documents that may be needed to claim
     the goods.

11.  A draft, which may accompany the letter of credit, is paid by the
     exporter's bank at the time specified or may be discounted at an
     earlier date.

Example of a Confirmed Irrevocable Letter of Credit_

The example of a confirmed irrevocable letter of credit in figure 13-1
illustrates the various parts of a typical letter of credit. In this
sample, the letter of credit was forwarded to the exporter, The Walton
Building Supplies Company (A) by the drawee bank, C&S/Sovran Corporation
(B) as a result of the letter of credit being issued by the First Hong
Kong Bank, Hong Kong (C), for the account of the importer, BBH Hong Kong
(D). The date of issue was March 8, 1991 (E), and the exporter must
submit proper documents (e.g., a commercial invoice in one original and
three copies) (F) by June 23, 1991 (G) in order for a sight draft (H) to
be honored.

Tips on Using a Letter of Credit_

When preparing quotations for prospective customers, exporters should
keep in mind that banks pay only the amount specified in the letter of
credit _ even if higher charges for shipping, insurance, or other
factors are documented.

Upon receiving a letter of credit, the exporter should carefully compare
the letter's terms with the terms of the exporter's pro forma quotation.
This point is extremely important, since the terms must be precisely met
or the letter of credit may be invalid and the exporter may not be paid.
If meeting the terms of the letter of credit is impossible or any of the
information is incorrect or misspelled, the exporter should get in touch
with the customer immediately and ask for an amendment to the letter of
credit to correct the problem.

The exporter must provide documentation showing that the goods were
shipped by the date specified in the letter of credit or the exporter
may not be paid. Exporters should check with their freight forwarders to
make sure that no unusual conditions may arise that would delay
shipment. Similarly, documents must be presented by the date specified
for the letter of credit to be paid. Exporters should verify with their
international bankers that sufficient time will be available for timely
presentation.

International letters of credit are usually governed by uniform customs
and practices or by ICC Publication No. 400. International bankers may
be consulted for more information.

Exporters should always request that the letter of credit specify that
partial shipments and transshipment will be allowed. Doing so prevents
unforeseen problems at the last minute.

DRAFTS

A draft, sometimes also called a bill of exchange, is analogous to a
foreign buyer's check. Like checks used in domestic commerce, drafts
sometimes carry the risk that they will be dishonored.

Sight Drafts_

A sight draft is used when the seller wishes to retain title to the
shipment until it reaches its destination and is paid for. Before the
cargo can be released, the original ocean bill of lading must be
properly endorsed by the buyer and surrendered to the carrier, since it
is a document that evidences title.

Air waybills of lading, on the other hand, do not need to be presented
in order for the buyer to claim the goods. Hence, there is a greater
risk when a sight draft is being used with an air shipment.

In actual practice, the bill of lading or air waybill is endorsed by the
shipper and sent via the shipper's bank to the buyer's bank or to
another intermediary along with a sight draft, invoices, and other
supporting documents specified by either the buyer or the buyer's
country (e.g., packing lists, consular invoices, insurance
certificates). The bank notifies the buyer when it has received these
documents; as soon as the amount of the draft is paid, the bank releases
the bill of lading, enabling the buyer to obtain the shipment.

When a sight draft is being used to control the transfer of title of a
shipment, some risk remains because the buyer's ability or willingness
to pay may change between the time the goods are shipped and the time
the drafts are presented for payment. Also, the policies of the
importing country may change. If the buyer cannot or will not pay for
and claim the goods, then returning or disposing of them becomes the
problem of the exporter.

Exporters should also consider which foreign bank should negotiate the
sight draft for payment. If the negotiating bank is also the buyer's
bank, the bank may favor its customer's position, thereby putting the
exporter at a disadvantage. Exporters should consult their international
bankers to determine an appropriate strategy for negotiating drafts.

Time Drafts and Date Drafts_

If the exporter wants to extend credit to the buyer, a time draft can be
used to state that payment is due within a certain time after the buyer
accepts the draft and receives the goods, for example, 30 days after
acceptance. By signing and writing "accepted" on the draft, the buyer is
formally obligated to pay within the stated time. When this is done the
draft is called a trade acceptance and can be either kept by the
exporter until maturity or sold to a bank at a discount for immediate
payment.

A date draft differs slightly from a time draft in that it specifies a
date on which payment is due, for example, December 1, 19XX, rather than
a time period after the draft is accepted. When a sight draft or time
draft is used, a buyer can delay payment by delaying acceptance of the
draft. A date draft can prevent this delay in payment but still must be
accepted.

When a bank accepts a draft, it becomes an obligation of the bank and a
negotiable investment known as a banker's acceptance is created. A
banker's acceptance can also be sold to a bank at a discount for
immediate payment.

CREDIT CARDS

Many U.S. exporters of consumer and other products (generally of low
dollar value) that are sold directly to the end user accept Visa and
MasterCard in payment for export sales. In international credit card
transactions, merchants are normally required to deposit drafts in the
currency of their country; for example, a U.S. exporter would deposit a
draft in U.S. dollars. U.S. merchants may find that domestic rules and
international rules governing credit card transactions differ somewhat
and should contact their credit card processor for more specific
information.

International credit card transactions are typically placed by telephone
or fax, methods that facilitate fraudulent transactions. Merchants
should determine the validity of transactions and obtain proper
authorizations.

OPEN ACCOUNT

In a foreign transaction, an open account is a convenient method of
payment and may be satisfactory if the buyer is well established, has
demonstrated a long and favorable payment record, or has been thoroughly
checked for creditworthiness. Under open account, the exporter simply
bills the customer, who is expected to pay under agreed terms at a
future date. Some of the largest firms abroad make purchases only on
open account.

Open account sales do pose risks, however. The absence of documents and
banking channels may make legal enforcement of claims difficult to
pursue. The exporter may have to pursue collection abroad, which can be
difficult and costly. Also, receivables may be harder to finance, since
drafts or other evidence of indebtedness are unavailable.

Before issuing a pro forma invoice to a buyer, exporters contemplating
a sale on open account terms should thoroughly examine the political,
economic, and commercial risks and consult with their bankers if
financing will be needed for the transaction.

OTHER PAYMENT MECHANISMS

Consignment sales

In international consignment sales, the same basic procedure is followed
as in the United States. The material is shipped to a foreign
distributor to be sold on behalf of the exporter. The exporter retains
title to the goods until they are sold by the distributor. Once the
goods are sold, payment is sent to the exporter. With this method, the
exporter has the greatest risk and least control over the goods and may
have to wait quite a while to get paid.

When this type of sale is contemplated, it may be wise to consider some
form of risk insurance. In addition, it may be necessary to conduct a
credit check on the foreign distributor (see the section of this chapter
titled "Decreasing Credit Risks Through Credit Checks"). Furthermore,
the contract should establish who is responsible for property risk
insurance covering merchandise until it is sold and payment received.

Foreign currency

A buyer and a seller in different countries rarely use the same
currency. Payment is usually made in either the buyer's or the seller's
currency or in a mutually agreed-on currency that is foreign to both
parties.

One of the uncertainties of foreign trade is the uncertainty of the
future exchange rates between currencies. The relative value between the
dollar and the buyer's currency may change between the time the deal is
made and the time payment is received. If the exporter is not properly
protected, a devaluation in the foreign currency could cause the
exporter to lose dollars in the transaction. For example, if the buyer
has agreed to pay 500,000 French francs for a shipment and the franc is
valued at 20 cents, the seller would expect to receive $100,000. If the
franc later decreased in value to be worth 19 cents, payment under the
new rate would be only $95,000, a loss of $5,000 for the seller. On the
other hand, if the foreign currency increases in value the exporter
would get a windfall in extra profits. However, most exporters are not
interested in speculating on foreign exchange fluctuations and prefer to
avoid risks.

One of the simplest ways for a U.S. exporter to avoid this type of risk
is to quote prices and require payment in U.S. dollars. Then the burden
and risk are placed on the buyer to make the currency exchange.
Exporters should also be aware of problems of currency convertibility;
not all currencies are freely or quickly convertible into U.S. dollars.
Fortunately, the U.S. dollar is widely accepted as an international
trading currency, and American firms can often secure payment in
dollars.

If the buyer asks to make payment in a foreign currency, the exporter
should consult an international banker before negotiating the sales
contract. Banks can offer advice on the foreign exchange risks that
exist; further, some international banks can help one hedge against such
a risk if necessary, by agreeing to purchase the foreign currency at a
fixed price in dollars regardless of the value of the currency when the
customer pays. The bank charges a fee or discount on the transaction. If
this mechanism is used, the fee should be included in the price
quotation.

Countertrade and barter

International countertrade is a trade practice whereby a supplier
commits contractually, as a condition of sale, to undertake specified
initiatives that compensate and benefit the other party. The resulting
linked trade fulfills financial (e.g., lack of foreign exchange),
marketing, or public policy objectives of the trading parties. Not all
suppliers consider countertrade an objectionable imposition; many U.S.
exporters consider countertrade a necessary cost of doing business in
markets where U.S. exports would otherwise not occur.

Simple barter is the direct exchange of goods or services between two
parties; no money changes hands. Pure barter arrangements in
international commerce are rare, because the parties' needs for the
goods of the other seldom coincide and because valuation of the goods
may pose problems. The most common form of compensatory trade practiced
today involves contractually linked, parallel trade transactions each of
which involves a separate financial settlement. For example, a
countertrade contract may provide that the U.S. exporter will be paid in
a convertible currency as long as the U.S. exporter (or another entity
designated by the exporter) agrees to export a related quantity of goods
from the importing country.

U.S. exporters can take advantage of countertrade opportunities by
trading through an intermediary with countertrade expertise, such as an
international broker, an international bank, or an export management
company. Some export management companies offer specialized countertrade
services. Exporters should bear in mind that countertrade often involves
higher transaction costs and greater risks than simple export
transactions.

The Department of Commerce can advise and assist U.S. exporters faced
with countertrade requirements. The Finance and Countertrade Division of
the Office of Finance, Industry, and Trade Information monitors
countertrade trends, disseminates information (including lists of
potentially beneficial countertrade opportunities), and provides general
assistance to enterprises seeking barter and countertrade opportunities.
For information, contact Finance and Countertrade Division, Office of
Finance, Industry, and Trade Information, International Trade
Administration, U.S. Department of Commerce, Washington, D.C.; telephone
202-482-4471. UNCITRAL is expected to publish a legal guide to
countertrade contracts in 1992.

DECREASING CREDIT RISKS THROUGH CREDIT CHECKS

Generally, it is a good idea to check a buyer's credit even if credit
risk insurance or relatively safe payment methods are employed. Banks
are often able to provide credit reports on foreign companies, either
through their own foreign branches or through a correspondent bank.

The Department of Commerce's WTDRs (see chapter 7) also provide useful
information for credit checks. For a fee, a WDTR may be requested on any
foreign company. Although the WTDR is itself not a credit report, it
does contain some financial information and also identifies other U.S.
companies that do business with the reported firm. The exporter may then
contact those companies directly to find out about their payment
experience.

Private credit reporting services also are available. Several U.S.
services compile financial information on foreign firms (particularly
larger firms) and make it available to subscribers. Reliable evaluations
can also be obtained from foreign credit reporting services, many of
which are listed in The Exporter's Guide to Foreign Sources for Credit
Information, published by Trade Data Reports, Inc., 6 West 37th Street,
New York, NY 10018.

COLLECTION PROBLEMS

In international trade, problems involving bad debts are more easily
avoided than rectified after they occur. Credit checks and the other
methods that have been discussed can limit the risks involved.
Nonetheless, just as in a company's domestic business, exporters
occasionally encounter problems with buyers who default on payments.
When these problems occur in international trade, obtaining payment can
be both difficult and expensive. Even when the exporter has insurance to
cover commercial credit risks, a default by a buyer still requires time,
effort, and cost. The exporter must exhaust all reasonable means of
obtaining payment before an insurance claim is honored, and there is
often a significant delay before the insurance payment is made.

The simplest (and least costly) solution to a payment problem is to
contact and negotiate with the customer. With patience, understanding,
and flexibility, an exporter can often resolve conflicts to the
satisfaction of both sides.

This point is especially true when a simple misunderstanding or
technical problem is to blame and there is no question of bad faith.
Even though the exporter may be required to compromise on certain points
_ perhaps even on the price of the committed goods _ the company may
save a valuable customer and profit in the long run.

If, however, negotiations fail and the sum involved is large enough to
warrant the effort, a company should obtain the assistance and advice of
its bank, legal counsel, and other qualified experts. If both parties
can agree to take their dispute to an arbitration agency, this step is
preferable to legal action, since arbitration is often faster and less
costly. The International Chamber of Commerce handles the majority of
international arbitrations and is usually acceptable to foreign
companies because it is not affiliated with any single country. For
information contact the vice president for arbitration, U.S. Council of
the International Chamber of Commerce, telephone 212-354-4480. The
American Arbitration Association is also a reputable arbitration agency
that handles international disputes; for information telephone
212-484-4000.

U.S. Government Trade Complaint Service

The Trade Complaint Service is available to aid U.S. exporters who find
themselves in a trade dispute as a result of a specific overseas
commercial transaction. These disputes, which are processed through the
Department of Commerce's district offices, must meet certain criteria.
After a firm has made every effort to settle the complaint without U.S.
government assistance, cases are accepted when it can be clearly shown
that communications have broken down and the value of the claim is more
than $1,000. Simple collection claims are not accepted.

Commerce makes every effort to restore communications between the
parties to the dispute in order to arrive at an amicable settlement.
When legal proceedings are initiated, U.S. government assistance is
normally withdrawn