Indian exporters typically have to wait for an extended period after shipping products abroad for payment. Late payments affect the cashflow which hampers progress or orders. In such cases LC discounting is a good option, which helps provide funds immediately against a Letter of Credit. This article covers LC Discounting for Indian exporters with minimal international trade exposure while outlining LC discounting’s process, benefits, and key considerations when using it for your business.
What is LC Discounting?
Through LC discounting, exporters can access upfront funds from a bank by leveraging an existing Letter of Credit. Instead of having to wait for payment from the buyer, the bank pays in advance at a nominal expense. This improves liquidity, which can be used by exporters to pay supplier bills, fund operations, or bid for new orders. Small companies leverage this facility to maintain their flow of funds, enabling them to deal with the complexities of international trade.
How LC Discounting Works: Step-by-Step
The LC discounting process is straightforward, enabling exporters to access funds without delay:
- Buyer Gets a Letter of Credit: Buyer’s bank issues an LC that promises payment on fulfilment of terms.
- Exporter Completes Order: Products are exported, and documents such as invoices or bills of shipping are made.
- Bank Documents Reviews: Documents are forwarded to the bank for verification against LC terms by the exporter.
- Payment Is Advanced: The bank pays the exporter a discounted sum before the LC’s due date.
- Bank Collects at Maturity: The buyer’s bank remits the full amount back to the exporter’s bank in due time.
Key Benefits to New Exporters
LC discounting assists new exporters in the following ways:
- Access to Instant Cash: Funds are disbursed within days, easing financial pressure.
- Sustainable Operations: Cash flow funds wages, materials, or new export orders.
- Lower Payment Risks: The bank is taking the credit risk of the buyer.
- No Payment Delays: Foreign payment cycles do not result in plan delays anymore.
- Enhanced Banking Relationships: Successful transactions establish trust for future lending.
These advantages provide the small exporters globally with competitiveness without liquidity problems.
Is Your Export Business Eligible for LC Discounting
Exporters who possess confirmed LCs are mostly eligible for discounting. The bank assesses the LC’s conditions, the buyer’s reliability, and the authenticity of the submitted documents. For exporters in India, some banks have rather simple guidelines and low documentation requirements. First time exporters need to ensure that their LCs are irrevocable and from reputed banks to maximize chances of funding.
Key considerations when applying for an LC Discounting
While LC discounting is effective immediately, caution should also be exercised.
- Addition of Clause in LC: Ensure specifics such as shipment dates or product information should be clearly outlined.
- Documentation Accuracy: Incorrect invoices along with missing documentation can halt processes.
- Clarity in Charges: Discounting charges will always remain relative to both value and tenure of the LC. Explain these upfront to prevent surprises.
When is It Right for Exporters to Apply for LC Discounting?
There are instances when export deals do not necessitate LC discounting. This becomes particularly crucial in certain scenarios—such as when payment timelines extend to 60 or even 90 days, which is fairly typical. In such cases, working capital is freed up immediately through LC discounting. This is crucial for businesses meeting tight margins or those planning quick reinvestment.
Additionally, for larger orders where the exporter has to incur expenses on raw materials, labour and freight well ahead of payment, it becomes practical to bridge the gap with funds through discounting to ensure continuous production flow. Many exporters entering new markets prefer encashment of LCs in order to mitigate credit risks associated with an unreliable buyer.
In a nutshell, any gaps within your business operations such as cash flow deficits , increased need for current assets/working capital, prolonged payment cycles should consider LC discounting. Payments can be streamlined without having to wait for payments from abroad due.
Risks and Limitations Exporters Should be Aware of
Exporters need to understand the risks associated with LC (Letter of Credit) discounting. One of the major concerns is cost; translation services come at a fee and interest, which will depend on the buyer’s creditworthiness, LC clauses, and loan duration.
These expenses lower payment netted out, thus it is prudent to assess the balance between getting financed early versus paying too much costs. Ensure that you have a Import Data Processing and Monitoring System or IDPMS which is mandated by the RBI for importers in India.
Conclusion
Indian exporters stand to benefit immensely from reduced risk coupled with immediate access to funds through LC discounting. Small and medium enterprises trying to establish a foothold internationally find this facility indispensable if they intend on sustaining aggressive growth plans.
Banks facilitate access for new exporters providing them guidance around grant eligibility strategies. Business owners should opt to open a business account which gives them access to effective financial tools for business such as IDPMS and export financing options including LC discounting.
