A Letter of Credit (LC) is a bank-issued guarantee that ensures payment to the exporter (seller) upon presentation of compliant shipping documents. It is one of the most secure payment methods in international trade, governed by the UCP 600 rules (Uniform Customs and Practice for Documentary Credits), which are recognized in 175 countries worldwide [2].
Here's how the LC process typically works for sewing machine exports:
Step 1: The buyer (importer) and seller (exporter) sign a sales contract specifying LC as the payment method.
Step 2: The buyer applies to their bank (issuing bank) to open an LC in favor of the seller.
Step 3: The issuing bank sends the LC to the seller's bank (advising bank), which verifies authenticity and notifies the seller.
Step 4: The seller manufactures and ships the sewing machines, then prepares all required documents (commercial invoice, bill of lading, packing list, certificate of origin, insurance certificate, etc.).
Step 5: The seller submits documents to their bank, which forwards them to the issuing bank.
Step 6: The issuing bank reviews documents for compliance. If documents match LC terms exactly, payment is released to the seller.
Step 7: The buyer receives documents from their bank and uses them to claim the goods at the destination port [2].
LC Cost Structure: Bank fees for LCs typically range around
0.75% of the transaction amount, though confirmed LCs (with additional bank guarantee) cost more but offer faster payment. Unconfirmed LCs are less expensive but may have longer payment timelines
[2].
The critical principle of LC payment is that banks deal with documents, not goods. Payment is triggered by document compliance, not by the physical condition or quality of the sewing machines. This protects sellers from buyer default but requires meticulous attention to documentation accuracy.
LC Payment: Advantages and Disadvantages for Sellers
| Aspect | Advantages | Disadvantages |
|---|
| Payment Security | Bank guarantee ensures payment if documents comply | Payment depends entirely on document accuracy; minor errors can delay or deny payment |
| Buyer Confidence | Signals credibility to new international buyers | May deter smaller buyers who cannot afford LC fees or collateral |
| Cost | Predictable fee structure (typically 0.75%) | Additional costs for amendments, confirmations, and document discrepancies |
| Administrative Burden | Clear documentation requirements | Highly documentation-intensive; requires trade finance expertise |
| Cash Flow | Payment upon document presentation (not after delivery) | Buyer must provide collateral; may slow deal negotiation |
Source: Trade Finance Global, Investopedia
[2]
