Payment Mechanisms in International Trade

Setting up International Trade Mechanisms involves inter disciplinary processes including Finance, Logistics, Taxation and Supply Chain disciplines. Every Business Manager would need to know the nuances of the trade even though he may or may not be involved in the micro management of the processes.

Any Import or Export entails commercial transaction and payment. When an import is made into the US, the foreign supplier would have to be paid in the currency in which he has raised the invoice. Normally international transactions are made using USD as the currency. However in many cases of transactions with Europe, the Euro Dollar is used as the currency too.

When an Export originates out of US to another country, the Exporter would have to receive payment from the End Customer.

In Exports we have several types of trade or export transactions and the nature of the business determines the payment terms.

1. Advance Payment

   When a new customer approaches and places an order on the Exporter, normally might insist on advance payment for executing the order. This method normally continues for a few times until mutual trust is built between the two parties and they get to know each other.

2. Letters of Credit

   An Exporter if dealing with an unknown customer at the other end may not have any prior exposure to the credit worthiness of the Customer and would normally insist on Confirmed Letter of Credit to be opened by the Customer before shipping the goods. In such cases the Exporter may not be extending any credit. Also in case of high value transactions with known customers too; exporters prefer to get paid through Letter of Credit.

   While dealing with a customer, the Exporter can check seek a credit worthiness rating from the customer’s bank to be able to ascertain the authenticity and credibility of the Customer. Normally Large Multi Nationals demand such credit worthiness reports as a part of their policy.

3. Bill of Exchange of Documentary Drafts

   When there has been sufficient relation between an Exporter and the Customer (Importer) and the customer’s credit worthiness is known through previous records, the Exporter might decide to extend credit and accept payment on bill of exchange basis. This system is also called as Documentary Drafts. Documentary drafts are of two types namely Sight Drafts and Date and Time Drafts.

4. Open or Ongoing Account

   When there is a huge volume of continuous business transactions between the Exporter and Importer and exports continue to happen on ongoing basis, the Exporter can simply export on the basis of a purchase order and expect the Importer to pay promptly on due date. This is the usual method adopted by most of the Multi National Companies as well as the large organizations that have sufficient import volumes spread across various countries and are dealing with multiple vendors on ongoing basis. In such cases they just determine the annual volumes to be supplied by each vendor, issue an open purchase order and keep reviewing only the delivery schedule. They offer standard payment commitment on a particular date to all vendors as a global policy. The payment process will be set and determined as a part of their business agreement.

5. Other Types of Trade and Related Payment Mechanisms

   Besides the above types of payment mechanisms based on normal Exports and Imports, there are other types of business models which work on various other modes of payment terms too.

6. Consignment Sale

   An exporter might sign up a contractor with a distributor overseas to import, hold stock and sell the goods on his behalf. In such a situation, the distributor may not own the stocks and the ownership might continue to lie with the exporter. The distributor would only be an intermediary to sell the stocks and repatriate the money realized back to the exporter and get remunerated in terms of service charges or commission. In such cases there may be a business agreement in place but no fixed payment mechanism may be adopted.

7. Counter Trade/Counter Purchase/Barter Trade

   In yet another case of business arrangement called counter trade, exports may be linked with return purchase of some other items from the importer or from another source in the country. The payment may also involve services other than products. This kind of trade becomes a necessity while dealing with countries that do not have sufficient foreign currency. There is also another system of international barter which is not very commonly practiced in the commercial world.