Bills of Exchange
Bills of exchange are primary instruments in payment methods between importers and exporters. A bill of exchange, which is classified as a short-term negotiable instrument, is a signed and unconditional document that requires a specific party to pay a fixed amount of money to another party when demanded or on a pre-assigned date. Bills of exchange are sometimes referred to as drafts in domestic transactions.
A total of three parties are commonly involved in bills of exchange. The first is the drawee, who is the party that pays the sum outlined in the bill. The second is the payee, who receives the specified sum. The final part is the drawer, who obliges the drawee to settle the agreed-upon sum.
There are scenarios in which the involved parties dishonor a bill of exchange. In such a scenario, a protest, a formal certificate issued by a notary, clarifies that the agreement has been voided by non-payment or non-acceptance. Protests are often sealed and subject to a fee. The legal framework of a specific country determines the approach a drawer takes to protest a dishonored bill of exchange.
Rates of Exchange
The specification of the type of currency in use is vital for contracts between buyers and sellers. A rate of exchange refers to the price of a single currency in terms of another (Advance 1, n.d.). It allows banks to trade in foreign currency in exchange for a specific number of dollars.
It is vital to note that rates of exchange quoted by banks are always from their point of view. This means that buying rates are those that the bank will purchase, and selling rates demonstrate the institution’s willingness to sell. When making calculations of specific buying rates of exchange, banks consider time lapses between the date of purchase of a foreign currency and the date the currency is deposited in the bank’s overseas accounts. Buying rates of exchange are divided into telegraphic transfer rates and airmail rates.
Selling rates of exchange refer to the prices at which banks will sell foreign currencies to consumers. It is worth noting that only one selling rate of exchange is quoted, given the fact that banks always have the necessary funds. Large transactions’ Exchange rates attract different rates, depending on the quoted value date, the date upon which the beneficiary receives the funds. All traders must consider foreign exchange risk because it determines the currency value that they pay or receive.
Forward Exchange Contracts
Forward exchange contracts are unique kinds of over-the-counter foreign currency transactions designed to facilitate trade in currencies seldom traded in forex markets. They may include blocked currencies in non-deliverable forward transactions or inconvertible currencies. Forward exchange contracts do not feature in exchanges or include standard amounts of currency (Advance 1, n.d.).
The involved parties are often interested in adopting a speculative position or hedging their currencies. Such contracts are fixed and stipulate a date in the future for settlement. The contracts protect the parties involved from currency fluctuations that may adversely impact the value of their transactions.
Applications for a forward exchange contract may be conducted in writing or electronically. Master Agreements with banks confirming the agreed-upon terms and conditions are essential. The bank must accept and acknowledge receipt of the agreement before the contract comes into effect. It is worth noting that while traders may be protected from fluctuations, the agreed-upon transaction rates are often less appealing than the prevailing rates at the time of agreement.
Shipping Documents
There are specific documents that are essential for overseas trade. These include invoices, insurance, bills of lading, and other documents that serve as evidence for transporting goods. A bill of exchange drawn by the exporter to pay for goods is often dated and domiciled.
Those used in export and import transactions must be filled in duplicate to ensure that potential mishaps are considered. Commercial invoices are statements of transactions created by sellers and addressed to specific buyers. They contain vital information such as seller and buyer addresses, contract numbers, descriptions of goods, and shipping details.
Specific types of special invoices accompany goods in export and import transactions. These include consular, legalized, and commercial invoices certified by a chamber of commerce. Marine insurance documents are used to insure specific goods in transit.
Open cover provides coverage for goods in transit within a specified period. Cover notes are documents from an insurance company to the party acquiring insurance for specific goods, notifying them that insurance has been arranged. Finally, a bill of lading is a receipt issued by a shipping company for goods shipped on one of its vessels. Each of the documents above is pivotal in transactions involving foreign trade.
Documentary Credits
A documentary credit is an advice issued by a specific bank authorizing the payment of a specific sum to a beneficiary following the delivery of specified documents, such as bills of exchange. One of the types of documentary credit is irrevocable credit, which is a definite undertaking of the issuing bank to pay a specified amount at sight or maturity date, provided all documentary requirements are met. Irrevocable and confirmed credit is a definite undertaking by the confirming bank and the issuing bank, provided all documentary requirements necessary for the transaction are met. Banks may provide silent confirmations when bilateral arrangements between banks and the letter of credit beneficiaries fall outside the bank’s credit mandate. Documentary credits involve an advising bank, the bank in the country of authentication, the paying bank, which is the institution where bills of exchange are drawn, and the negotiating bank.
Documentary Collections
Documentary collections allow traders to choose between documentary credits and open account trading. They offer traders security in transactions that do not include open account methods, provided the documents of title are in the bank’s possession. Various parties are involved in instances where payments are made via documentary collections.
The principal is the exporter who processes the collection documents and delivers them to the bank. The remitting bank is the exporter’s bank, which forwards the necessary instructions to the collecting bank. The collecting bank is any other bank involved in the collection processing. The presenting bank is often the importer’s bank, presenting the collection to the importer and collecting the funds. Finally, the drawee is the importer who receives documents for payment.
There are specific procedures that are followed when collecting bills. After a shipment, the exporter is expected to draw a sight bill on the overseas buyer, attach the relevant shipping documents, and present them to the bank. If a buyer is not ready to pay until the goods arrive, the acceptance of bills can be deferred until the goods arrive.
Remittances
Remittances are described as methods used to transfer funds internationally. In general, documents need not be released in exchange for funds. The simplest method of foreign remittance is a telegraphic transfer or an international cheque. It is also worth noting that a trader’s cheques may be used to complete payment.
The currency of remittance must always be specified in the sale contract. Some countries automatically convert foreign currency into local currency, which may interfere with the beneficiary’s preferences, unless special precautions are taken. An exporter can deposit international cheques at their local bank if they are issued in the local currency. When a foreign currency is used, the exporter requests their bank to purchase the cheque and credit their account with the equivalent in local currency.
When telegraphic transfers are used, the currency is sold to the importer by their local bank, after which payment instruction advice is dispatched to the bank’s overseas affiliate. The receiving bank then credits the recipient’s account with the funds. Real-time gross Settlements are effective modern models that reduce bank settlement risk.
Foreign Currency Accounts/Deposits
Banks often offer their clients foreign currency accounts and foreign currency term deposits. Foreign currency accounts are vital for several uses, such as covering exchange risk exposures and holding foreign currency receipts. In addition, they are used to hold foreign currency receipts in anticipation of favorable rates and pay small recurring transactions by cheque. They can also be used to obtain finance at specific rates for the currency in question, to facilitate operations and transactions outside official banking hours, and to take advantage of favorable rates.
Finally, foreign currency accounts can be used to fund or receive interest on a specified floating rate. Foreign currency term deposits allow a bank’s clients to lodge foreign currency in deposits for a stipulated period at favorable interest rates. It is worth noting that deposits often have specific restrictions on the minimum amounts required. The deposits are non-negotiable and are only available to the depositor upon maturity.
Alternative Methods of Financing
Numerous alternative methods of financing can be applied in international trade. Confirming houses are organizations that provide financing for small and medium enterprises. The financial support is often in cash or letters of credit, and establishment facilities for imports.
Confirming that houses finance the movement of goods and provide their clients with up to 180 days of finance on a transaction-by-transaction basis (Advance 1, n.d.). These institutions are essentially secondary providers of trade finance. They charge a specific fee in addition to the interest costs and any incurred out-of-pocket expenses.
Factoring refers to the process through which a company’s receivables are purchased. It is a continuous engagement between a vendor and a purchaser in which the sale proceeds are immediately available in cash. The factor assumes complete responsibility for the company’s credit controls, collection, and debtors’ bookkeeping.
Export factors are institutions that advance to the seller in exchange for the latter’s foreign trade debts. In most instances, the factor advances up to 80% of approved debts and clears the balance once the debt is recovered from the foreign buyer (Advance 1, n.d.). Accounts receivable financing refers to lending against the security of an organization’s receivables. The modality is commonly applied when meeting short-term funding needs or as ongoing working capital. Invoice discounting refers to an invoice purchasing facility that provides working capital based on receivables rather than fixed assets or balance sheet strength.
Electronic Commerce
Technological advancements have allowed businesses to complete seamless transactions with banking institutions without physical contact. Electronic Data Interchange (EDI) exchanges electronically generated trade data between computer systems (Advance 1, n.d.). The parties involved in the exchange include sellers, buyers, shipping companies, banks, insurance agencies, and freight forwarders. Other technological advancements include the Internet, a global telecommunications system that links a wide variety of computer networks worldwide.
The modality facilitates the exchange of documents and access to markets for specific goods and products. Internet banking has facilitated providing specific financial services to clients in different regions. The modality has allowed for real-time communication with banking agents. In addition, clients can conduct banking business and access banking services on their personal computers. Finally, online services are often software-based products that allow clients to conduct banking activities in their offices by linking their personal computers to the bank through a modem.
Reference
Advance 1: Book 1-General. (n.d.).