Standby Letter of Credit (SBLC)
SBLC is a guarantee that is made by a bank on behalf of a client, which ensures, payment will be made even if their client cannot fulfill the payment.
The Standby Letter of Credit (SBLC) is never meant to be used, but prevents the contracts from going unfulfilled in case your company closes down, declares bankruptcy, or is unable to pay for goods or services provided. It also helps to prove a business, credit quality and repayment abilities. Standby Letters of Credit (SBLC) can help to establish trust with your business partners and be a powerful tool to help meet your business goals.
The purpose of this letter is to establish a bank guarantee for the deal or transaction with a third party. For Example, if an individual wishes to take a loan, but does not have sufficient credits standing, the bank may then ask for a guarantee from another party (third party), and this is done in the form of Standby Letter of Credit (SBLC) that is issued by another bank. However, the said individual would then have to produce certain documents or evidence to support the non-performance of the buyer to obtain the payment through the SBLC.
The bank is obligated to make payment if the documents presented comply with the terms of contact. Though, the SBLC are considered very versatile and can be used with modifications to suit the interests and requirements of the buyers and sellers.
Pro and Cons of SBLC:
The SBLC is often seen involving International Trade which involves large commitment of many and have added risks as well.
Advantages:
1: The greatest advantage of SBLC is for the person to get the potential of getting out of that worst case scenario.
If a seller calls an agreement for payment within 30 days of delivery and payment is not made, the seller can present his SBLC to the buyer’s bank for payment. In this way, the seller is assured to be paid.
2: SBLC reduces the risk of production order being changed or cancel by the buyers.
3: SBLC helps to give the assurity to buyer to receive the goods and services that outlines in the documents. For Example: If a contract calls for the construction of a building and fails to delivers, the client presents the SBLC to the bank to made whole.
4: Small businesses can have difficulty competing against bigger and better known rivals. SBLC can add reliability to its offer or bid for a project and can oftenly help avoid an upfront payment to the seller.
5: It is easy to confuse the functions of Standby Letter of Credit with those of regular letters of credit. For one, some people tend to forget that though Letter of Credit can be used as form of payment, SBLC cannot. However, both letters of credits can be used as a way to protect the holder on non-payment. Both tools are different in that sense and that is why they should not be compared.
6: For other type of credit documentation, Letter of Credit and so on, the document flow is more complicated. The reason is that Letter of Credit have more participants in the process and there is information running from an advisory bank to an issuing bank. The verification process for this type of document usually takes ten days. If the merchandise arrives by boat, sometimes the documents arrive later. Additionally in order for the shipping company to transport the merchandise, a bill of lading has to be issued
Disadvantages:
1: The biggest challenge ia understanding the export contract and the obligations that comes with it. Punctuality in performance , quality and having their supply chains inline with it.
2:The next is currency hedging. The exporters may have booked an order a month or two for supply from the current month and the actual cash flow maybe three months after this. That has to be understood by startup exporters.
3: Certification process/ flow of documentations, this part can easily be outsourced. Exporters should mainly worry on the physical part. Documentation can be outsourced Custom Broker or any agency , I.e. Preparation of invoices, packing list, certificate of origin approval and drafts approval.
4: Getting the buyer’s credit info and his credibility is also on aspect of risk management.
5: In exporting a product, there is a risk of damage
6: Finding information on some markets can be extremely difficult. Lack of information would mean that you do not have sufficient information on your competitors and trends related to your specific product and similar products. This can negatively effect the ability to do well in the target
7: Using SBLC for new startups , they actualy don’t know about the buyer’s info.
8: The disadvantages that also come with Letters of Credit are that it is :
→ Costly
→ Sensitive expiration dates
→ Reliability of payment under the Letter of Credit is dependent on the issuing
bank
9: One of the disadvantages that we can note on Standby Letter of Credit is in terms of the protection it provides to the buyer. Letters of credit are generally providing equal protection to the parts involved in the trade. However, the process may be more favorable to one side more than to the other. According to the International Standby rules or ISP98 the revision process will take from 3 days up to a week.
10: The buyer is more at a disadvantage because the period may be too short to review details or typos within the document that may hinder delivery. Some people compare a SBLC to blank checks to the order to seller.
11: The main disadvantage of SBLC is that the importer cannot cancel a letter of credit or change it while everybody concerned agreeing. The only choice is to pay within the hands of supply bank not the client.
12: The other big disadvantage of SBLC don’t guarantee the quality or amount of the products and this is the dark side of it.
13: Going by the international standby rules if you want a revision you will have to wait for 3 to 7 days. This puts the buyer at a disadvantage because this time might be too short for reviewing the details. It is not enough time to look at typos that may cause problems hindering delivery of goods
Conclusion:
It is important to understand a SBLC before using one in trade. The benefits and disadvantages are many. However, the most important having is that it gets you protection against not being paid but such protections are very low and you might not get any penny from the trade, there are full chances that the guarantee would be default which helped the applicant to open an LC and at the end of the day you will keep receiving all the discrepancy from the bank. As SBLC is not as per the format like Irrevocable LC at sight so startup should avoid it……