Negotiating Documents under Unconfirmed Letters of Credit

Q.  Over the years it seems that Banks in the UK have to some extent lost their appetite to act on their nomination and truly "negotiate" documents presented under unconfirmed Letters of Credit. It used to be quite commonplace for a beneficiary of such an L/C to ask their bank to negotiate , and this request was regularly acceded to, albeit on a "with recourse" basis. This practice seems to be much less common now.

Is this perception true?

A.  In order to provide a balanced answer to this question it is important that Article 12 of UCP 600 regarding "Nomination" is examined. 

It is stated in a). "Unless a nominated bank is the confirming bank, an authorization to honour or negotiate does not impose any obligation on that nominated bank to honour or negotiate, except when expressly agreed to by that nominated bank and so communicated to the beneficiary".

Therefore a nominated bank is under no obligation to negotiate, i.e. to advance funds to the beneficiary on or before the banking day on which reimbursement is due to the nominated bank.  It is, and always has been, the nominated bank's decision as to whether to negotiate or not. However, it is also probably the case that many major UK banks are less inclined to agree to offer to negotiate unconfirmed Letters of Credit these days, and generally they will not proactively offer this when the Letter of Credit is initially advised through to the beneficiary. In most cases the advice to the beneficiary will state that the Letter of Credit is advised "without liability or engagement" (of the advising bank). 

  

The actual risks for the nominated bank to negotiate should be considered, and these are in line with the risks which would evaluated, had the Issuing Bank requested confirmation to be added. The main considerations would include;

• The financial standing of the Issuing Bank.
• The Political/Economic/Sovereign risks associated with the country of the Issuing Bank.
• That there are no other reasons which would preclude a limit being marked on the Issuing Bank such as sanctions against the country etc.
•  If drafts are called for, who are the drafts drawn on?
• How is the negotiating bank able to claim reimbursement under the terms of the L/C? 

 In previous years, if a nominated bank was willing to consider negotiating the documents, and having satisfied themselves regarding the financial standing of the Issuing Bank and associated Country Risks, they would seek to levy a commitment fee from the beneficiary. This fee was generally broadly in line with the confirmation charge, had the Issuing Bank requested confirmation to have been added. On payment of the fee, the nominated bank would then examine the documents, and if they considered them to be compliant, would pay the beneficiary "with recourse". 

"With recourse" means that the beneficiary of the Letter of Credit is legally responsible for the repayment of the funds, and the payment will be shown as a liability on the beneficiary's balance sheet. 

      

However, in most cases, the beneficiary used not to request negotiation until they had presented documents. This left them exposed, from the period that the original Letter of Credit was received, to the point that the nominated bank agreed (or declined) to negotiate.

Clearly this practice is still available and many banks will give due consideration under a "Commitment to Negotiate" or "CTN" as it is commonly known. 

A CTN is a more formalised offering of the above mentioned practice of taking of a commitment fee, but Banks still do not proactively offer or publicise this service. It is only considered, usually for the bank's own customers, on a case by case basis. The principal risk to the negotiating bank in a CTN is Documentary Risk, as the CTN is only truly valid when the negotiating bank determines that the documentary presentation is compliant, although clearly the afore-mentioned Country & Issuing Bank risks are also key once the presentation is made. 

The bank's obligation under the CTN exists from the time of receipt of a compliant presentation until the due date for payment at which time the bank must pay without recourse - so in this respect a CTN is actually better for the beneficiary of the L/C than the former practice of paying a commitment fee, but getting paid the proceeds "with recourse".

In some circumstances, the Issuing Bank may be unwilling to ask for their Letter of Credit to be confirmed, perhaps because they consider this to be questioning their integrity, with a suggestion that they will not honour their own paper. So beneficiaries frequently require some added security to an unconfirmed Letter of Credit, with the added benefit of an acceleration of payment.

In summary, the broad perception relating to the original question is probably true, but times change and banks generally have become more risk averse in recent years, especially since the 2008 global financial crisis. Beneficiaries of Letters of Credits should approach their banks, and investigate their appetite to truly "act upon their nomination".  

Letter of Credit Training

 

  

      

Confirmed Letters of Credit - Why does it take so long?

Some important changes appear to be taking place regarding banks in the UK adding their confirmation to Letters of Credit issued by overseas correspondent banks. 

Traditionally, the decision on whether a UK bank would add confirmation to an incoming Letter of Credit has been based on a number of factors including requisite SWIFT key arrangements between the banks involved, assessment of political/economic/sovereign risks in the country pertaining to the Issuing Bank , sanctions considerations, reimbursement arrangements  and clearly the actual creditworthiness and financial standing of the Issuing bank.

This process / decision seems to be increasingly heavily regulated in the UK with an escalation of KYC (Know Your Customer) procedures which are required to be carried out by the bank in the UK which is considering adding the confirmation. This typically involves that bank carrying out a series of increasingly exhaustive due diligence measures / actions including checks that the beneficiary of the Letter of Credit is a valid trading entity and that they are known to the bank. There may be additional checks on the applicant (KYCC – Know Your Customer’s Customer) as well as any other parties named within the L/C. 

Clearly this process involves considerably more work than previous controls and checks carried out by prospective confirming banks in the UK, and in turn, may translate into delays in beneficiaries receiving their Letters of Credit.

We would be interested in receiving your feedback, comments or concerns.

Learn more about Letters of Credit Procedures

Are Your Transport Documents Late Again?

The failure rate of first presentations of documents by exporters under Letters of Credits continues to be high, with banks quoting these rates at between 60% and 80%.

The reasons for these high levels are varied but will include the failure of the beneficiary to initially check the terms of the Letter of Credit to ensure workability and that the terms mirror those in the commercial contract/agreement. A general lack of adequate Letter of Credit training and understanding will also contribute to exporters struggling to present a compliant set of documents under a Letter of Credit.

So it is a challenge, especially for the more inexperienced exporters to make sense of, and then collate and present a clean set of documents, and to further exacerbate this issue, there have been a number of instances where the late delivery the original transport document/s, to exporters, has resulted in their inability to meet the time constraints as laid down in the Letter of Credit.

Recent examples have involved exporters who have used “FCA seller’s premises”, Incoterms® 2010, where quite appropriately the seller has loaded their goods on a means of conveyance provided by the buyer. Once legal delivery has occurred, it is of course, the buyer's responsibility to have arranged for the main contract of carriage, which in the cases seen, has involved transport by vessel, and the procurement of a full set of Bills of Lading. Unfortunately, this is where the delays appear to have occurred, where the buyer's agent has been in slow in obtaining the Bills of Lading, and failing to make these available to the exporter for presentation under the Letter of Credit in a timely fashion.

Possible solutions/actions;

• The exporter could consider one of the Incoterm rules which affords them the responsibility (and control of) of arranging the main contract of carriage to an agreed place of destination in the buyer's country. So CPT....an agreed place of destination, may be an option. However this would involve a fundamental change to the existing delivery terms with the buyers, but having arranged the main transport of the goods, the seller should be able to obtain the requisite Bills of Lading in a more timely manner and therefore be able to accelerate the presentation procedure. 

• Change the requirement in the Letter of Credit from a full set of Bills of Lading to a receipt of goods issued by the buyer's agent on taking delivery of the goods at the seller's premises. This is a possible solution, but in increasing instances, the Issuing bank of the Letter of Credit will want to call for a full set of Bills of Lading, with that bank named in the consignee box on the Bills. This is often the case with Indian Letters of Credit, as this will provide the Issuing bank with the security that if the buyer (in a worst case scenario) is unable to pay when a compliant set of documents is received, then the bank will arrange to take delivery of the goods and potentially sell these to realise some value to help meet the bank's obligations under the Letter of Credit. 

• The exporter could, initially ask for additional presentation days when they are negotiating with the buyer prior to the issuance of the Letter of Credit. Article 14 of UCP 600 indicates that the required transport document must be made by the beneficiary of the Letter of Credit not later than 21 calendar days after the date of shipment, but in any event not later than the expiry date of the credit. It is quite unusual to see more than 21 days permitted under the terms, but a longer period could be agreed upon, if this did not cause issues regarding the goods arriving at the port of destination before the original documents, resulting in demurrage costs etc.

It is a fact that timing issues are a major factor in the presentation of discrepant documents and it is unfortunate to hear of these particular examples where the tardiness of an overseas buyers agent has resulted in problems for the UK exporter. Some of the potential solutions as stated would help to resolve this problem, and enable the exporter to present a compliant set of documents and get paid in a timely manner.