Chapter 2-Contract- Q& A PDF

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CONTRACT Q& A- CHAPTER 2 What is payment by open account? What are the risks for the exporter if he accepts payment by open account? Open account means the exporter ships the goods to the buyer and just waits till a fixed date as agreed in their contract for payment from the buyer. Normally,...

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CONTRACT Q& A- CHAPTER 2 1. What is payment by open account? What are the risks for the exporter if he accepts payment by open account? Open account means the exporter ships the goods to the buyer and just waits till a fixed date as agreed in their contract for payment from the buyer. Normally, the exporter only accepts open account method of payment if he has known the buyer quite well and they have established a long-term and trustworthy business relationship. The biggest risk for the exporter in open account payment is nonpayment as he has no protection at all, just relying on the honour of the buyer in payment. 2. What is Export credit insurance? Export credit insurance is a guarantee of payment for the exporter from a third party, an insurance company, which issues an export credit insurance policy covering the risk of non- payment. The exporter has to pay the costs for that guarantee. The insurance company will pay the exporter in case the buyer fails to do so. 3. What is a bank guarantee? A bank guarantee is a guarantee of payment for the exporter from a third party, a bank. The bank may issue a bank guarantee,

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assuring that the bank will pay for the exporter in case the buyer fails to do so. The buyer has to pay the costs of that guarantee. 4. Distinguish Export credit insurance and Bank Guarantee? Both of them are guarantee of payment from a third party, providing the exporter with some level of security in terms of payment. For Export Credit Insurance, the exporter has to pay for that guarantee while it is the buyer who pays for a Bank Guarantee. The third party offering export credit insurance is the insurance company while the bank offers a bank guarantee. 5. What are some limitations of Export Credit Insurance? Though Export Credit Insurance seems to be so attractive, it has certain limitations. Firstly, there is always a long wait between the time when the buyer fails to pay and the time when the insurance company compensates the exporter, says six months. Secondly, when compensation is paid, it is unlikely to cover 100% of the original invoice price. So, with Export Credit Insurance, the exporter is covered against the worst. 6. What should be noted on a marine Bill of Lading for it to be acceptable as a shipping document under a Letter of Credit? 2

It should be noted that the goods have been shipped on board of a named vessel and the B/L is free of notes about defects which means a clean B/L. 7. What method of payment makes late payment impossible? The confirmed, irrevocable, at sight Letter of Credit. 8. Distinguish Irrevocable and Revocable Letter of Credit. A revocable L/C is the L/C that can be cancelled at any time by the buyer or by the issuing bank while an Irrevocable L/C is the L/C that can only be cancelled with the written consent of the exporter. 9. Distinguish the Confirmed and Unconfirmed L/C. The Unconfirmed L/C is less secure than the Confirmed one. Normally, the exporter has got certain security for the nonpayment risk when using the L/C as a method of payment in their sales of goods to the buyer. The issuing bank will have to pay the exporter for the goods in case the buyer fails to do so. With the Confirmed L/C, there is a promise from another bank, the confirming bank, usually the advising bank too, to pay for the goods if the buyer fails to do so. It is a kind of double guarantee for the exporter so he knows for sure that he will get money as long as he submits a set of documents strictly complying with the terms and conditions stated in the L/C. 3

10. If a letter of Credit requires “a full set of original air waybills” to be submitted, what will be the problem for the exporter? Normally, an air waybill is issued in 03 originals and 09 copies. If a L/C requires “a full set of original air waybills”, this is obviously a mistake or an incorrect requirement. Only the 2nd original goes to the buyer or consignee. The exporter cannot submit that full set and may be refused by the issuing bank when asking for payment as the bank must insist on strict compliance. 11. Why do exporters greatly prefer confirmation of credit from their bank? Because the bank in his own country not only handles the paperwork but also makes payment itself and recovers the funds from the buyer’s bank. 12. Distinguish Partial shipments and Shipment in installments. Shipment in installments means that an agreed schedule has been set up, for example, three equal shipments in March, August and October 2012. A partial shipment is simply an incomplete shipment with some part of the goods to follow later. 13. Explain the two principles that make letters of credit safe for both exporter and buyer: Autonomy and Strict compliance.

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Autonomy means that the L/C is a contract in its own right, entirely separate from the contract for the sale of goods. Strict compliance means that the exporter must present to the bank shipping documents that comply in all respects with the terms of the credit. Small deviations will result in refusal by the bank to pay. 14. Why do people ask for a Prepayment Guarantee? For some custom - made goods, the manufacturers often ask for an advance payment. Making this prepayment is risky for the buyer until the items arrive in working order. The advance payment guarantee promises the buyer that the bank will return advance payments if the exporter fails to deliver. The guarantee is normally for 100% of the prepayment. 15. In terms of guarantee, what does it mean by “without demur or objection”? It means “on first demand”. Whenever the beneficiary demands payment under the guarantee, the bank will pay. 16. What are some common guarantees in business? Explain each of them briefly.  Non-payment or Payment Guarantee. It simply commits the bank to pay if the buyer defaults. It is usually for 100% of the contract price. 5

 Tender Guarantee. If the would-be exporter withdraws his tender, the tender guarantee is forfeit. This prevents the risk of a project falling behind because a tender is withdrawn. Normally, a tender guarantee is between 1.5% to 5% of the contract price.  Non- Performance or Performance Guarantee. If the supplier works badly or not at all, the guarantor will pay within stated limits the costs of the supplier’s failure to perform. Normally, it is between 5% to 10% of the contract price.  Prepayment Guarantee. It promises the buyer that the bank will return advance payments if the exporter fails to deliver. Normally, the guarantee is for 100% of the prepayment, decreasing as deliveries are made. 17. What is a Conditional Guarantee? A Conditional Guarantee is a guarantee from a bank but with serious, objective conditions that must be met before payment by the bank. 18. Why do exporters prefer Letter of Credit as a security for payment to asking for a payment guarantee from the buyer? Because payment guarantees are expensive to set up and they run into trouble so often. 19. What is a Letter of Credit? Why it is also called Documentary Credits? 6

A Letter of Credit is a binding agreement by a bank to pay a certain sum of money when the exporter presents the necessary documents to the bank. In a letter of credit transaction, documents are exchanged for money so they are formally called Documentary Credits. 20. About the expiry date of a Letter of Credit, why does buyer wants an early date while exporter wants a later date? The buyer wants an early date to save bank charges while the exporter wants later date so that he can have enough time after delivery to present documents and to correct discrepancies if any discovered by the issuing bank.

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