METHODS OF PAYMENT IN

INTERNATIONAL TRADE

rkabalega@mubs.ac.ug
0781228885
Introduction

 The rapid growth and expansion in global

trade cannot be sustained without efficient
and timely payment arrangements. Non
payment or delays in payment for imports
could tie up limited credit facilities and create
liquidity problems for many exporting
companies.
 Advance payment by overseas customers
would similarly tie up a buyers’ limited
resources and do not necessarily guarantee
delivery of agreed merchandise. 2
contn
 The ideal payment method is one that
protects the contending interests of both
buyers and sellers.
 Exporters often seek to develop foreign
markets by using payment arrangements that
are less costly to the buyer such as
consignment sales, open accounts and
documentary drafts whereby the seller is paid
by the foreign retailer or wholesaler only after
goods have been received and sold
3
contn
 To succeed in today’s global marketplace,
exporters must offer their customers attractive
sales terms supported by the appropriate
payment method to win sales against foreign
competitors.
 While getting paid in full and on time is the
primary goal for export sale, an appropriate
payment method must be chosen carefully to
minimize the payment risk while also
accommodating the needs of the buyer.
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1-Consignment sales

 This is the method in which the exporter

sends the product to an importer on a differed
payment basis ie the importer does not pay
for the merchandise until it is sold to a third
party. Tittle to the merchandise passes to the
importer only when payment is made to the
exporter.
 Consignment is rarely used between
unrelated parties for example independent
exporters and importers.
5
contn
 For the exporter, consignment is the least desirable
form of selling and receiving payment. Problems
associated with it include,
 Delays in payment, payment to the seller is delayed
until goods are sold to the 3rd party which creates
liquidity problems for the exporting firms.

 Risk of non-payment. Even though tittle to the goods

does not pass until payment is made. The seller has
to acquire possession of merchandise and in even of
non-payment the seller involves in litigation which is
expensive
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Contn
 Cost of returning merchandise. If there is
limited success in selling the merchandise,
there is need to ship it back to the exporter. It
is costly to arrange for the return of
merchandise that is unsold.
 Limited sales effort by importers. Importers
may not be highly motivated to sell the
merchandise on consignment because their
money is not tied up in the inventory. They
are likely to give the priority to products they
have some financial involvement. 7
2- Open account

An open account is a contractual relationship

between an exporter and importer in which a
trade credit is extended by the former to the
latter whereby payment is made to the exporter
within agreed period of time. The seller ships
the merchandise to the buyer and separately
mails the relevant shipping documents. Terms
of payment range from 30 days to 120 days
after the date of shipping invoice or receipt of
merchandise depending on the country
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contn
 As in case of consignment sales, open
account is rarely used in international trade
between independent exporters and
importers. Exporters are usually
apprehensive of potential defaults by
overseas customers.
 They lack accurate data or may doubt the
reliability of available data on foreign buyers
to evaluate and determine their credit
worthiness to purchase on an open account.
9
contn
 Open account transaction is the most
advantageous option for the importer in cash
flow and cost terms, but it is consequently the
highest risk option for an exporter.
 Because of intense competition for export
markets, foreign buyers often press exporters
for open account terms. Therefore exporters
who are reluctant to extend credit may face
the possibility of the lose of sales to their
competitors
10
Contn
 Open account is often used when the seller wants to
test the market with a new product or try a new
market in a different country.
 The arrangement gives enough time to the buyer or
distributor enough time to resell the product to the
domestic customers and the pay the exporter.
 A major weakness of this method is that the importer
could easily delay payment until merchandise is
received. Or the buyer may even default.
 Open account financing is often used for trade
between parent and subsidiary companies. It is also
used for sales with well established companies with
good credit ratings. 11
Contn
 However it is possible to mitigate risk of
nonpayment associated with open account
trade by using such trade finance techniques
like,

 Export credit insurance.

 factoring

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3- Documentary collection

 Also known as documentary draft, is one of

the most customary methods of making
payments in international trade. To facilitate
the transaction, two banks are usually
involved, one in the exporter’s country and
one in the importer’s country.
 The banks may be independent banks or
branches of the same bank

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contn
 A documentary collection is a transaction
whereby the exporter entrusts the collection
of payment to the remitting bank ( exporter’s
bank) along with the instructions for payment.
Funds are received from the importer and
remitted to the exporter through banks
involved in collection of exchange for those
documents
 Although banks do act as facilitators for their
clients under collections, documentary
collections offer no verification process and 14

limited recourse incase of nonpayment

Contn

 A draft can be drawn (documents payable) in

the currency of the country
of payment or in a foreign currency. This
method of payment falls between
the open account, which favors the buyer,
and letter of credit, which protects the
exporter. Bank fees are less expensive,
usually a specific sum for
each service, as opposed to a percentage of
the transaction amount, which is
used for letters of credit. 15
Contn

A typical documentary collection procedure includes the

following steps
• After the exporter (drawer) and overseas customer (drawee)
agree on the terms of sale, the exporter arranges for
shipment and prepares the
necessary documents such as invoice, bill of lading,
certificate of origin, and draft.
• The exporter forwards the documents to its bank (remitting
bank) with instructions.

• The remitting bank then forwards the documents to its

overseas correspondent bank (collecting bank) in the
importer’s country, with the exporter’s instruction letter that
authorizes release of documents against 16

payment (D/P) or acceptance (D/A) or other terms.

Contn
 The collecting bank contacts the importer to effect or
accept payment. If the instruction is documents against
payment (D/P), the importer pays the collecting bank in
exchange for the documents. The collecting bank will
then send proceeds to the remitting bank for payment
to the seller. If the instructions are documents against
acceptance (D/A), the collecting bank will release
documents to the overseas customer only upon formal
acceptance of the draft. Once accepted, the collecting
bank will release the documents to the buyer. On or
before maturity, the collecting bank will present the
accepted draft for payment.
When the buyer pays, the collecting bank will remit the
funds in accordance with instructions. 17
Contn

18
contn
 Documents Against Payment (D/P)
collection
 Under D/P collections, the exporter ships the
goods and then gives the documents to his
bank which will forward them to the importers’
collecting bank along with instructions on how
to collect the money from the importer. In this
arrangement, the collecting bank releases the
documents to the importer only on payment
for the goods, the collecting bank then
transmits the funds to the remitting bank for 19

payment to the exporter.

contn
 Documents Against Acceptance (D/A)
collection
 Under a D/A collection, the exporter extends
credit to the importer by using a time draft. In
this case, the documents are released to the
importer to receive goods upon acceptance of
the time draft. By accepting the draft, the
importer becomes legally obligated to pay at
a future date. At maturity date, the collecting
bank contacts the importer for payment, and
then transmits the funds to remitting bank and 20

then to the exporter

4- cash in advance

 This method of payment requires the buyer to

pay before shipment is effected. The seller
assumes no risk of bad debt and/or delays in
payment because advance payment is a
precondition to shipment.
 Sellers often require advance payment in cases
in which the creditworthiness of the overseas
customer is poor or unknown and/or the political/
economic conditions of the buyer’s country are
unstable. Cash in advance is sometimes used
between related companies. It is also common
to require money in advance for samples 21
5- Letters of Credit

Letters of credit (LCs) are among the most

secure instruments available to international
traders. An LC is a commitment by a bank on
behalf of the buyer that payment will be made to
the beneficiary (exporter) provided that the
terms and conditions have been met, as verified
through the presentation of all required
documents. The buyer pays its bank to render
this service

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contn
 This method also protects the buyer since no
payment obligation arises until the documents
providing that the goods have been shipped
or delivered as promised are presented.
 However since LCs have many opportunities
for discrepancies, they should be prepared by
well-trained documenters or the function may
need to be outsourced.

23
contn
 Illustrative letter of credit transaction,
 1- the importer arranges for the issuing bank
to open an LC in favor of the exporter.
 2- the issuing bank transmits the LC to the
advising bank which forwards it to the
exporter.
 3- the exporter forwards the goods and
documents to a freight forwarder.
 4- the freight forwarder dispatches the goods
and submits documents to the advising bank.
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contn
 5- the advising bank checks the documents
for compliance with the LC and pays the
exporter.
 6- the importers’ account at the issuing bank
is debited
 7- the issuing bank releases the documents
to the importer to claim the goods from the
carrier.

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.
 Research about different types of letters of
credit.

 THANK YOU.

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