A study of letter of credit deals with studying and

understanding the Letter of credit, different

fields of letter of credit and different types of L/C

charges namely L/C Advising charges, L/C
Amendment charges and discrepancy charges and
calculating saving potential and making
recommendations.

A letter of credit (LC) is a binding document that a

buyer can request from his bank in order to
guarantee that the payment for goods will be
transferred to the seller. Basically, a letter of credit
gives the seller reassurance that he will receive the
payment for the goods.

By studying the LC of Yarn division I came to know

➢All the dealing of LC is centralized of yarn

customers.
➢It reduces the credit risk of company
➢It even reduces the payment delays
➢It increase the liquidity position of company

Some suggestions for the company are

•
The prices should be less to re-establish the market
for Yarn.

Not only for yarn customers but for other product

customer dealing under letter of

credit should done

Company should put more efforts to improve its

liquidity position
LETTER OF CREDIT

The English name “letter of credit” derives from the

French word “accreditif”, a power to do

something, which in turn is derivative of the Latin

word “accreditivus”, meaning trust.

A letter of credit is basically a document issued by a

bank guaranteeing a client's ability to pay for goods
or services. A bank or finance company issues a
letter of credit on behalf of a buyer, authorizing the
seller to obtain payment within a specified
timeframe once the terms and

conditions outlined in the letter of credit are met.

The letter of credit acts like an insurance contract for
both the buyer and seller and practically eliminates
the credit risk for both parties, while at the same
time reducing payment delays. A letter of credit
provides the seller with the greatest degree of safety
when extending credit. It is useful when the buyer is
not well known and when exchange restrictions exist
or are possible.

The LC can also be the source of payment for a

transaction, meaning that a will get paid by
redeeming the letter of credit. Letters of credit are
used primarily in international trade transactions of
significant value, for deals between a supplier in one
country and a customer in another. The parties to a
letter of credit are usually abeneficiary who is to
receive the money, the issuing bank of whom the
applicant is a client, and the advising bank of whom
the beneficiary is a client. Almost all letters of credit
are irrevocable, i.e., cannot be amended or canceled
without prior agreement of the beneficiary, the
issuing bank and the confirming bank, if any. In
executing a transaction, letters of credit incorporate
functions common Traveler's cheques.

FROM ABOVE WE CAN CONCLUDE LETTER OF

CREDIT IS

A letter of credit is a document issued mostly by

financial institutions which usually provides an
irrevocable payment undertaking to a beneficiary
against complying documents as stated in the credit.

Once the beneficiary or a presenting bank acting on

his behalf, makes a presentation to the issuing bank
or confirming bank, if any, within the expiry date of
L/C, comprising documents complying with the terms
and conditions of the L/C, the applicable UCP. And
international standard banking practices. The issuing
bank or confirming bank, if any, is obliged to honor
irrespective of any instructions from the applicants
to the contrary.

Seller Bank

Buyer Bank
Seller

Buyer

Carrier

After a contract s concluded between buyer and

seller, buyer bank supplies a letter of credit to

the seller

Seller consigns goods to a carrier in exchange for a

bill of lading.
Seller Bank
Buyer Bank
Seller

Buyer

Carrier
Seller provide bill of lading to a bank in exchange for
payment. Seller’s bank exchanges bill of lading for
payment from a buyer’s bank. Buyer’s bank
exchange bill of lading for payment from buyer.

Seller Bank

Buyer Bank

Seller

Buyer

Carrier

Buyer provides bill of lading to a carrier and takes

delivery of goods

Seller Bank
Buyer Bank

Seller

Buyer

Carrier

Elements of a Letter of Credit

A payment undertaking given by a bank (issuing

bank)

On behalf of a buyer (applicant)

•

To pay a seller (beneficiary) for a given amount of

money

On presentation of specified documents representing

the supply of goods

Within specified time limits

Documents must conform to terms and conditions

set out in the letter of credit

Documents to be presented at a specified place

PARTIES TO AND ASSOCIATED WITH THE LETTER OF

CREDIT

1. Applicant

The applicant is the party who requests and instructs

the issuing bank to open a letter of credit in favor of
the beneficiary. The applicant usually is the importer
or the buyer of goods and/or services. The applicant
can also be another party acting on behalf of the
importer, such as a confirming house. The
confirming house is equivalent to a buying office, it
acts as an

intermediary between buyer and seller, and it can be

located in a third country or in the seller’s

country.

2.Beneficiary

The beneficiary is entitled to payment as long as he

can provide the documentary evidence required by
the letter of credit. The letter of credit is a distinct
and separate transaction from the contract on which
it is based. All parties deal in documents and not in
goods. The issuing bank is not liable for performance
of the underlying contract between the customer
and beneficiary. The issuing bank's obligation to the
buyer, is to examine all documents to insure that
they meet all the terms and conditions of the credit.
Upon requesting demand for payment the
beneficiary warrants that all conditions of the
agreement have been complied with. If the
beneficiary (seller) conforms to the letter of credit,
the seller must be paid by the bank.

3.Issuing Bank

The issuing bank's liability to pay and to be

reimbursed from its customer becomes absolute
upon the completion of the terms and conditions of
the letter of credit. Under the provisions of the
Uniform Customs and Practice for Documentary
Credits, the bank is given a reasonable amount of
time after receipt of the documents to honor the
draft.The issuing banks' role is to provide a
guarantee to the seller that if compliant documents
are presented, the bank will pay the seller the
amount due and to examine the documents, and
only pay if these documents comply with the terms
and conditions set out in the letter of credit.Typically
the documents requested will include a commercial
invoice, a transport document such as a bill of lading
or airway bill and an insurance document; but there
are many others. Letters of credit deal in
documents, not goods.

4.Advising Bank
An advising bank, usually a foreign correspondent
bank of the issuing bank will advise the beneficiary.
Generally, the beneficiary would want to use a local
bank to insure that the letter of credit is valid. In
addition, the advising bank would be responsible for
sending the documents to the issuing bank. The
advising bank has no other obligation under the
letter of credit. If the issuing bank does not pay the
beneficiary, the advising bank is not obligated to
pay.

5.Confirming Bank

The correspondent bank may confirm the letter of

credit for the beneficiary. At the request of the

issuing bank, the correspondent obligates itself to

insure payment under the letter of credit. The

confirming bank would not confirm the credit until it

evaluated the country and bank where the

letter of credit originates. The confirming bank is

usually the advising bank.

TYPES OF LETTER OF CREDIT

1.C ommercial and stand by L/C : Commercial letters
of credit are used primarily to facilitate

foreign trade. The commercial letter of credit is the

primary payment mechanism for a transaction. It is a
contractual agreement between a bank, known as
the issuing bank, on behalf of one of its customers,
authorizing another bank, known as the advising or
confirming bank, to make payment to the
beneficiary. The issuing bank, on the request of its
customer, opens the letter of credit. The issuing
bank makes a commitment to honor drawings made
under the credit. The beneficiary is normally the
provider of goods and/or services. Essentially, the
issuing bank replaces the bank's customer as the
payee The standby letter of credit serves a different
function. The standby letter of credit serves as a
secondary payment mechanism. The bank will issue
the credit on behalf of a customer to provide
assurances of his ability to perform under the terms
of a contract. A bank will issue a standby letter of
credit on behalf of a customer to provide assurances
of his ability to perform under the terms of a
contract between the beneficiary. The parties
involved with the transaction do not expect that the
letter of credit will ever be drawn upon. The standby
letter of credit assures the beneficiary of the
performance of the customer's obligation. The
beneficiary is able to draw under the credit by
presenting a draft, copies of invoices, with evidence
that the customer has not performed its obligation.
The bank is obligated to make payment if the
documents presented comply with the terms of the
letter of credit.

They are issued by banks to stand behind monetary

obligations, to insure the refund of advance
payment, to support performance and bid
obligations, and to insure the completion of a sales
contract. The credit has an expiration date.The
standby letter of credit is often used to guarantee
performance or to strengthen the credit worthiness
of a customer. In the above example, the letter of
credit is issued by the bank and held by the supplier.
The customer is provided open account terms. If
payments are made in accordance with the
suppliers' terms, the letter of credit would not be
drawn on. The seller pursues the customer for
payment directly. If the customer is unable to pay,
the seller presents a draft and copies of invoices to
the bank for payment.

2.R evocable or irrevocable letter of credit : Letters

of credit may be either revocable or

irrevocable. A revocable letter of credit may be

revoked or modified for any reason, at any time by
the issuing bank without notification. A revocable
letter of credit cannot be confirmed. Once the
documents have been presented and meet the
terms and conditions in the letter of credit, and the
draft is honored, the letter of credit cannot be
revoked. The revocable letter of credit is not a
commonly used instrument. If a letter of credit is
revocable it would be referenced on its face.The
irrevocable letter of credit may not be revoked or
amended without the agreement of the issuing bank,
the confirming bank, and the beneficiary. An
irrevocable letter of credit from the issuing bank
insures the beneficiary that if the required
documents are presented and the terms and
conditions are complied with, payment will be made.
If a letter of credit is irrevocable it is referenced on
its face.

3 ) Sight or usance letter of credit:All letters of credit

require the beneficiary to present a

draft and specified documents in order to receive

payment. A draft is a written order by which the
party creating it, orders another party to pay money
to a third party. A draft is also called a bill of
exchange. There are two types of drafts: sight and
time. A sight draft is payable as soon as it is
presented for payment. The bank is allowed a
reasonable time to review the documents before
making payment. A time draft is not payable until
the lapse of a particular time period stated on the
draft. The bank is required to accept the draft as
soon as the documents comply with credit terms.
The issuing bank has a reasonable time to examine
those documents. The issuing bank is obligated to
accept drafts and pay them at maturity. A Letter of
credit is known as a Sight letter of credit if it involves
payment to the seller against a Sight Draft. On the
other hand, if the payment is made against a Usance
Draft, then it is known as Usance letter of credit.
DIFFERENT FIELDS OF LETTER OF CREDIT

FROM :( NAME & ADDRESS OF OPENING BANK )

This clause contains details of bank which has

opened the Letter of Credit, and it works on the
behalf of the buyer of goods. The opening bank plays
the first step in the whole process of letter of credit.

TO :( NAME & ADDRESS OF ADVISING BANK )

This clause shows the details of bank which plays

the foremost role in the process of letter of credit.
The advising bank belongs to the country of seller. It
plays the role of middleman between the seller and
the opening bank

TYPE OF L/C :IRREVOCABLE

This clause shows the type of L/C in which it is being

made. Various types of L/C’s are

Revocable, Irrevocable, Commercial, Negotiable etc.

L/C Number :

The clause shows a particular number for L/C and

every L/C has different number so that

difference can be judged between different L/C’s.

DATE OF ISSUE :
This clause shows that date on which the opening
bank has issued the L/C.

DT. & PLACE OF

EXPIRY :__________________________________IN INDIA

This shows about the date and the place in india

where the lc will get expired, means that

financial institution where the L/C is send by the

opening bank.

NAME & ADDRESS OF THE:

APPLICANT

It contains detail about the buyer of the goods. It

gives complete address of the buyer.

NAME & ADDRESS OF THE:

BENEFICIARY

It shows details of the seller of goods, like seller’s

name, address, country to which he

belongs.

AMOUNT OF CREDIT IN :

✔US DOLLARS /EURO/ANY

✔OTHER FREELY
✔EXCHANGEABLE CURRENCY
✔(IN FIGURES & WORDS)

It shows the currency in which the deal is been

made, the code for that currency as well as

the amount of the goods

PERCENTAGE CREDIT : AS PER CONTRACT

AMOUNT TOLERANCE

Sometimes the amount in the letter of the credit and

the exact amount of the goods does not match.
There can be a difference between the both. So a
specific percentage of amounts of goods specified in
L/C is given as a tolerance and the exact amount of
goods can be in between the minimum and
maximum tolerated limits.

CREDIT AVAILABLE WITH:

This part shows the details of that party from where

the amount can be reimburses by the

seller. This state’s either a specified bank in India or

any bank in India.

USANCE OF THE DRAFTS :

This clause shows whether the draft is payable at
sight or at any date in future.

DRAFTS TO BE DRAWN ON:

It tells about the party which acts as a drawee.

Generally the opening bank acts as a drawee

PARTIAL SHIPMENT : AS PER CONTRACT

This clause contains details whether the shipment of

goods is allowed through one shipment

or the goods can be sending through various

shipments.

TRANSHIPMENT : AS PER CONTRACT

Transshipment means when the goods are send,

SHIPMENT FROM :

It tells about that place from where goods are send

by the seller.

SHIPMENT TO:

It’s that place where the goods are sending by the

seller. And generally its that country where

the buyer lives.

LATEST SHIPMENT DATE:

It’s that date till which the goods should reach to the
buyer. After that date, it’s the choice of

the buyer whether he accepts the goods or not.

DESCRIPTION OF GOODS :

✔Description of Materials
✔Size ( in mm) and Quantity (in MT)
✔Specification
✔Tolerance
✔Quantity
✔Quantity Tolerance
✔Price per MT (in USD/Euro/any other freely
exchangeable currency)

DOCUMENTS REQUIRED :

Beneficiary’s Commercial Invoice - one original plus

two signed copies covering materials shipped.
Invoices will be raised on the basis of (THEORETICAL/
ACTUAL/ DRAFT SURVEY) WEIGHT.

L/C in Vardhman

In this system , first corporate centralized market

Yarn department advices a branch to make sale of
yarn through letter of credit In case of those
customers who are either new for a organization
whose credit worthiness is not satisfactory according
to market research report

NOTE

All L/C of Yarn division is deal by State bank of

Patiala

Thereafter on the basis of instructions sent by CMY

department, the branch advise the customers to
open the L/C with the bank. Some of the common
points stated in th L/C are mentioned below:

➢Prorate shipment
➢Transshipment
➢Shipment date

➢Expiry period of L/C

➢Usance period
➢Rate of interest for the usance period

➢Other conditions as per mutual consent between

buyer and seller

After opening the L/C concerned unit makes the sale

to the customers as per agreed terms and conditions
stipulated in the L/C. Then concerned unit sent the
invoice and other papers to the centralized
accounting cell for lodging the documents with the
bank.. This documents consists of

➢Bill of exchange
➢Original invoice
➢Original G/r copy
➢Packing list

➢Copy of L/C

On the Due date mentioned in the L/C, we receive

the realization advice from the bank, where we have
lodged the document drawn under L/C. after getting
the advice from the bank, we credit the customers
with the amount we have realized

DOCUMENTS NEED FOR L/C

Letter of credit documents are required to be

arranged in the following series:

By seller (duplicate documents)

Bill of exchange
Bill
Goods lorry receipt
Party acceptance letter
Debit note
Packing list
Original letter of credit

By seller’s bank (Duplicate documents)

Letter
Bill of exchange
Bill
Goods lorry receipt
Party acceptance letter
Debit note
Packing list
Letter of credit (duplicate)

By buyer’s bank (Original documents)

Bill of exchange
Bill
Goods lorry receipt
Party acceptance letter
Debit note
Packing list
Letter of credit (DUPLICATE)
BILL OF EXCHANGE
A non- interest bearing written order used primarily
in international trade that binds one party to

pay a fixed sum of money to another party at a

predetermined future date

It’s an unconditional order issued by a party or

business which directs the recipient to pay a fixed
sum of money to a third party at a future date. The
future date may b either fixed or negotiable. A bill of
exchange must be in writing and signed and dated
also called draft
Negotiation of letter of credit

NEGOTIABLE means the ability to be sold or

transfers to another party as a form of payment.

Something which is negotiable is transferable by

endorsement and delivery.

(When documents come back from bank).

JOURNAL ENTIRES

IN THE BOOKS OF VARDHMAN AT THE YEAR ENDED

MARCH 31ST 2….

PARTICULARS

L.F

DEBIT

(RS)

CREDIT (RS)

Particular bank a/c……………………………Dr

Interest on inland bill discount a/c…………….Dr

To inland bill discount a/c

(BEING Negotiation of ibdno……….on dated…….

Inland bill discount charges a/c………………..Dr

To bank a/c

(BEING INALND BILL DISCOUNTING CHGS DR

BY BANK ON DATED ……….AGST IBD NO……

XXXX

XXXX

XXXX

XXXX

XXXX

How interest is calculated?

Total bill of exchange amount * rate of interest*

number of days in Bill of exchange.
Rate of interest is 11.5% (according to STATE BANK
OF PATIALA)
Number of days is calculated as per the conditions
laid down IN L/C AGREEMENT
Realization of bill of exchange

JOURNAL ENTIRES

IN THE BOOKS OF VARDHMAN AT THE YEAR ENDED

MARCH 31ST 2….

PARTICULARS

L.F DEBIT(RS) CREDIT (RS)

I inland and bill discounting a/c………Dr

To party account

(BEING REALISATION OF IBD NO, AGST INV

NO…….ON DATED…….)

XXXX

XXXX

At the time of realisation of L/C there may be over

due days

Bank will charge over due interest against late

payment according to number of days
Fully payment but late payment (overdue interest
charged by bank)

JOURNAL ENTIRES

IN THE BOOKS OF VARDHMAN AT THE YEAR ENDED

MARCH 31ST 2….

PARTICULARS

L.F DEBIT(RS)

CREDIT (RS)

Party a/c…………………………..Dr

To bank

(BEING AMOUNT OF OVERDUE INTEREST DEBITED

TO PARTY ACCOUNT AGST IBD NO. ON DATED …