The Letter of Credit (L/C) is the most common banking instrument for large-scale exports and initial collaborations involving hardware structural components; as long as the documents are compliant, the bank is obligated to pay. However, an L/C transaction is a “documentary business”—errors at any stage—whether in reviewing the L/C, preparing documents, or presenting documents—can lead to a refusal of payment.
This article breaks down the operational essentials of the entire process.
I.
The Full L/C Process (Seven Steps)
- Contract Signing: The contract specifies the L/C settlement method, payment terms (sight or usance), and the timeframe for L/C issuance;
- L/C Issuance: The buyer (applicant) applies to their bank to issue the L/C;
- Notification: The issuing bank issues the L/C and forwards it to you (the beneficiary) via the advising bank—the advising bank is responsible for verifying the apparent authenticity of the L/C;
- L/C Review: Review the L/C clause by clause to ensure consistency with the contract—this is the most critical step; if issues are found, request an amendment immediately (amendments must be communicated through the original advising bank);
- Shipment: Prepare goods and arrange shipment in accordance with L/C terms (no later than the latest shipment date);
- Document Presentation: Prepare the complete set of documents and submit them to the negotiating bank within the presentation period (within 21 calendar days after the shipment date and no later than the L/C’s expiry date);
- Document Review and Payment: The bank reviews documents according to UCP600 rules (within a maximum of 5 banking days); payment is made upon finding compliance. For usance (deferred payment) L/Cs, payment is made on the acceptance maturity date.
II. Five Key Points for Reviewing the Letter of Credit (L/C)
First, Issuing Bank and Issuing Country: Consider requiring confirmation if the issuing bank is obscure or located in a high-risk country; second, Consistency of Content: Ensure the description of goods, amount, and payment terms match the contract, and verify that document requirements are reasonable and feasible; third, Logic of the “Three Timeframes”: The chronological order of the expiry date, the latest shipment date, and the presentation period must not conflict; fourth, Fee Clauses: Avoid unreasonable charges; fifth, Identification of “Soft Clauses”—typical examples include “payment subject to a quality confirmation signed by the buyer,” “inspection certificate to be issued by the L/C applicant,” or “L/C becomes effective upon receipt of the buyer’s prepayment.” These clauses tie payment obligations to the buyer’s actions, effectively negating the bank’s payment guarantee; therefore, their removal must be firmly insisted upon.
III.
Document Preparation and Presentation: Consistency Between Documents and the L/C
Prepare the full set of documents in accordance with L/C requirements: commercial invoice, packing list, ocean bill of lading, insurance policy, certificate of origin, inspection certificate, etc. Adhere to the “principle of strict compliance”: document content must match L/C terms, and documents must be consistent with one another—any discrepancy in product name, quantity, amount, or shipping marks constitutes a discrepancy.
Practical advice: Conduct a double-check—internal pre-review followed by bank pre-review—before formal presentation to minimize rework and the risk of non-payment.
IV.
Handling Discrepancies
When discrepancies arise, the bank may refuse payment and issue a notification. Handling options include: first, correcting and re-presenting documents (making corrections within the presentation period); second, requesting the L/C applicant to waive the discrepancies (the bank may contact the applicant directly to request a waiver, though this does not extend the document review period); third, negotiating a price reduction or providing a guarantee. Fewer discrepancies mean more secure payment collection;
the industry consensus is: “It is better to spend an extra day verifying documents before presentation than to risk non-payment.”
V. Supporting Tools and Risk Mitigation Measures
Confirmed Letter of Credit (L/C): Confirmed by the advising bank or another major bank, which assumes the issuing bank’s credit risk—the preferred choice for high-risk markets; Transferable L/C: Can be requested as transferable and divisible when shipments are made in batches or coordination with suppliers is required; Financing Tools: Packing loans (pre-production), export bill purchase (post-presentation), and forfaiting (outright purchase of deferred receivables) can alleviate capital tie-up;
Credit Insurance: Purchasing export credit insurance helps mitigate the risks of issuing bank default and country risk.
Industry experts advise that the key to controlling the L/C process lies in “document review”—if the review is thorough and effectively screens out “soft clauses,” subsequent steps such as shipment, document preparation, and presentation will proceed smoothly.
