Facilitation of International Trade with Special Reference to Bangladesh

Background and objectives of the study

This report is prepared to fulfill a partial requirement for completing the course on International
Trade instructed by Dr. Shah Md. Ahsan Habib, as part of the MBA program in BRAC Trade
School.
International trade includes a wide array of activities and transactions. It is very difficult to
categorize the diverse nature of activities in international trade under a single set of criteria.
Nonetheless, the vast majority of activities in international trade can broadly correspond to any
of the following: 1) Trading, which includes Importing and Exporting, 2) Licensing, 3) Strategic
Alliance & Joint Venture and 4) Direct Investment.
Trading, which includes importing and exporting of goods and services, is the major activity in
international trade. A number of documents are required to facilitate the exchange of goods and
services among entities from different parts of the world. Letter of Credit (L/C) is one of the
most important facilitation tools that play a vital role in international trade.
For Bangladesh, trading is a major trade activity. A large number of goods, starting from basic
commodity items to high tech machinery, are imported in Bangladesh. On the other hand, much
of the economic progress of the country has been achieved from exporting Readymade Garments
(RMG) all over the world. At present, large-scale export items are not only limited to RMG, but
includes leather goods, jute products, etc. L/C is an integral part in almost all the trade activities
in Bangladesh as it remains to be the most commonly used trade facilitation tool in Bangladesh.
Following are the two objectives of writing this report:
I.
II.

To discuss the theoretical aspects of international trade and L/C operation in trade
facilitation.
To discuss L/C operation in trade facilitation from a Bangladesh perspective.

Theoretical aspects of international trade and L/C operation in trade facilitation

Four basic international trades:
In the simplest definition, international trade refers to any trade activities that cross national
boundaries. The diversified activities of international trade can be broadly categorized into four
basic types: importing and exporting, licensing, strategic alliance & joint venture and direct
investment. Based on the nature of trade, the objectives and strategic imperatives, tradees can
choose among these activities while expanding their operations to international markets. Vice
versa, they may face these activities of foreign companies in their local markets.

1. Importing and Exporting

Importing or exporting or both, otherwise known as trading, is the most fundamental, largest and
oldest international trade activity. It is the easiest way of entering a market with a small budget.
Exporting is making a product at the company's domestic location and selling it in another
country. Importing is bringing goods, services and capital into the home country from abroad.
For example, RMG sector of Bangladesh sends its products to a large number of countries
around the world. On the other hand, car dealers in Bangladesh bring cars from a few countries,
most notably from Japan, and sell them to customers in Bangladesh.
2. Licensing
Licensing is a special arrangement between companies from different countries. Under licensing,
a company allows another one to use its brand name, copyright, patent, technology, trademark or
other assets in exchange for an amount (royalty) based on sales. Companies may choose to
manufacture or sell their products under licensing when transportation or domestic production
costs are too high, government regulations restrict trade activities of foreign companies (usually
in developing countries) or the company wants to simply produce and sell the same quality
everywhere. For example, Gloria Jeans Coffee all over the world sells its same-quality
beverages in the same-looking stores under licensing contracts.
3. Strategic Alliance and Joint Venture
A strategic alliance is an agreement of cooperation of two or more companies for mutual gain.
Joint venture is a special type of strategic alliance where the partners mutually establish a new
company. This cooperation allows companies to share development and production costs,
technologies and sales networks. For example, Motorola and Toshiba formed a strategic alliance
to develop manufacturing processes for microprocessors. General Mills and Nestle formed a new
company, Cereal Partners Worldwide, to produce and sell cereals.
4. Direct Investment
Foreign direct investment is a company's physical investment into building a plant in another
country or acquisition of a foreign firm or subsidiary. Direct investments allow companies to
access foreign markets and act as domestic tradees in that market with a full scale of activities,
from manufacturing to selling. Not only can the investing companies benefit, but also the hosting
countries gain by getting new product knowledge, services, technologies and managerial skills.
For example, Volkswagen is building a factory in Tennessee to sell cars in the U.S. market, but it
also contributes to develop new technologies at the local university.

L/C operation in trade facilitation:

Companies and people often do not have the capital they need to fund projects or make large
purchases on their own. They have to resort to credit facilities in order to secure the financing
they need. Letters of credit (L/C) are letters that banks issue to verify the credit a trade or person
has. They are useful because they tell sellers that the bank will back the buyer in the event the
buyer can't pay on his own. The primary purpose of a letter of credit is to guarantee payment.
Financial institutions often describe letters of credit as beneficial to the seller, since they
guarantee payment.
Letter of Credit (L/C) is a commitment or undertaking of a bank on behalf of importer, to the
benefit of exporter, about the payment of a certain amount, subject to the fulfillment of certain
documentary conditions.
The major parties of L/C are: 1) Importer, called the Applicant, 2) Bank that issues L/C, called
issuing bank and 3) Exporter, known as the beneficiary
The entire procedure of using L/C for trade facilitation is explained in the following steps:
Importer/
Applicant

Issuing Bank

Purchase
& Sale
Agreement

Financing
Agreement
Reimbursing
Bank

Advising Bank

Exporter/
Beneficiary

Nominated
Bank

Fig 01: L/C Operation Procedure

L/C process starts with a purchase-sale agreement between importer and exporter. The importer
is called applicant which means the party on whose request the letter of credit is issued (UCP
600 Article 2) and the exporter is called beneficiary which means the party in whose favor the
letter of credit is issued (UCP 600 Article 2).
The exporter wants a letter of credit to secure payment. The importer makes a financing
agreement mentioning the margin requirement with issuing bank and requests for issuing a letter
of credit in favor of the exporter. Issuing bank means the bank that issues a credit at the request
of an importer or on its own behalf (UCP 600 Article 2).

After issuance of L/C, the issuing bank sends it to the exporter either directly or using the service
of another bank, which is known as advising bank. Advising bank is the bank that advises the
credit at the request of the issuing bank (UCP 600 Article 2).
Advising bank hands over the L/C documents on behalf of issuing bank to the exporter after
checking the documents authenticity.
After receiving the copy of L/C, exporter completes shipment and prepares the documents that
are stipulated on the L/C.
After preparing the documents, exporter submits the documents to the issuing bank using the
service of another bank which is known as nominated bank. Nominated bank is the bank at
which the credit is available (UCP 600 Article 2). It acts as an agent of issuing bank, but at the
choice of the exporter, as this bank grants financing facility to the exporter.
After receiving the documents, the nominated bank checks the documents based on complying
presentation. Complying presentation means presentation that is in accordance with the terms
and conditions of the credit, UCP 600 and ISBP (International Standard Banking Practices) 745
(UCP 600 Article 14).
The specific standards used for examining the documents by banks are as follows:
1) No document should be examined or presented which is not required by the credit
2) L/C must not have a non-documentary condition and exporter must not submit a
document against a non-documentary condition
3) Documents must be submitted within 21 days after the date of shipment but must be
within the expiry date of L/C
4) Documents must be examined within 5 working days after the day of the receipt of the
documents
5) Of all the documents, commercial invoice is examined thoroughly. However other
documents must be consistent with the L/C terms.
If the documents are in order, the exporter receives the payment in either of two forms: Honor or
Negotiation (UCP 600 Article 2).
1. Honor: Honor means payment. Issuing bank is the honoring bank. Payment can be of
three types:
Sight: Immediate payments
Deferred: Deferred payments at a specified maturity date
Acceptance: Offering acceptance on the bill of exchange

2. Negotiation: Negotiation means financing to exporter by nominated bank. If nominated

bank negotiates and agrees to finance exporter on a discounted terms, the title of the
nominated banks would be changed to negotiating bank.
If there is any negotiation between exporter and nominated bank, the issuing bank needs to
reimburse payment to nominated bank. If the issuing bank and nominated or negotiating bank
have account relationship, issuing bank reimburses the payment directly by debiting or crediting
the account of nominated bank. If there is no account relationship, the issuing bank makes
reimbursement to the nominated bank by using the service of a third bank which is known as
reimbursing bank (UCP 600 Article 13). This arrangement is known as bank to bank
reimbursement arrangement which is guided by URR (Uniform Rules for Bank to Bank
Reimbursement for Documentary Credit) 725.
Finally, after receiving the documents from nominated bank, the issuing bank submits the
documents to the importer to release the shipment.
For example, a buyer entered into a contract with his overseas supplier to import goods or
machineries for consumption or production at local market or factory. As per contract, buyer
needs to open a Letter of credit (L/C). The buyer approaches the bank to open an L/C. The
concerned officer at bank helps in filling up necessary application forms to open the L/C. Since
the L/C is opened on the basis of buyer purchase contract, a copy purchase order/export contract
has to be produced with along other required documents. Bank may ask to keep certain
percentage of margin amount with bank. The amount of margin is determined by the buyers
financial relationship with bank.
If the buyer is a new account holder and bank does not know about his financial status, one may
need to keep 100% margin with bank. If the L/C amount is for USD 10,000, an equal amount of
USD blocked from buyers account to pay for L/C amount to overseas seller on maturity date. If
the buyer has a good relationship with bank, and bank is aware of the financial assets of the
buyer, the bank can decide on the portion of amount of margin, which can vary from 1% to
100%.
L/C offers a number of advantages for the exporter/seller. Seller has the guarantee of buyer's
bank to receive payment for the shipped goods. L/C ensures the certainty of payments by the
buyer to the seller. Here financial standing of buyer is replaced by that of the issuing bank. In
case of confirmed L/C, additional assurance from the confirming bank is provided to the seller to
guarantee payments. Furthermore, sellers production risk is reduced, in case the buyer cancels
or changes his order. The buyer will not be able to refuse to pay due to a complaint about the
goods.
L/C also provides the seller the opportunity to get financing in the period between the shipment
of the goods and receipt of payment (especially, in case of deferred payment). L/C confirms that
sellers receive money on time. Thus, L/C helps sellers / manufacturers to draw up pragmatic

production and delivery schedules. As a result, seller is able to calculate the payment date for the
goods sold.
The buyer/importer also benefits a lot from using L/C as a trade facilitation tool. L/C provides
buyers the opportunity to trade with the unknown sellers as bank provides the guarantee. The
bank will pay the seller for the goods, on condition that the latter presents to the bank the
determined documents in line with the terms of the L/C. Documents are examined in accordance
with ICC rules and terms of L/C, which ensures a secured transaction. These protocols make the
buyer feel safe.
With an L/C, the buyer demonstrates his solvency. L/C facilitates the buyer to source funding at
reasonable cost from banks or other financial institutions. Providing an L/C allows the buyer to
avoid or reduce pre-payment. Also, the buyer can control the time period for shipment of the
goods through negotiation. In the case of issuing an L/C with deferred payment, the seller grants
a credit to the buyer.
Finally, both the seller and buyer can settle any dispute in transaction if they follow the rules of
L/C while trading, which can save significant time and cost of legal proceedings.
In spite of providing such advantages for both the importer and exporter, L/C also has some
limitations.
1. From the traders point of view, L/C is the most expensive form of trade payment
method.
2. Banks make payment against goods by examining the documents only.
3. The documents stipulated in the L/C must be submitted by the exporter to receive the
payment.

L/C operation in trade facilitation from a Bangladesh perspective

In Bangladesh, as most other countries of the world, L/C is the most popular and widely used
method for making import and export payment settlement across all sectors from textile to
machinery, food manufacturing to construction, oil trading to customer goods. In more than 80%
cases, L/C is used to secure import payments.

88
90
80
70
60
50
40
30
20
10
0

80
57
Export BD

39

Import BD
2

Cash in
Advance

10

Global

Open Account

Documentary
Collection

Documentary
Credit

Fig 02: Use of trade of payment methods in Bangladesh and across the world (percentages
(percentages)
In a small number of cases related to export proceeds realization, especially in exporters
retention quota accounts, Cash in Advance method is used,
used particularly to import accessories. In
almost 60% cases,, L/C method is used for securing export proceeds whereas in almost 440% cases
Documentary
y Collection is used. Although Cash in Advance method is used to some ex
extent,
Open Account is almost absent. According to Choudhury and Habib (2006), this absence may be
due to the superior bargaining power of the foreign exporters and the lack of credibil
credibility of local
importers, as well as the greater use of L/C in Bangladesh
Bangladesh as main method of trade facilitation
facilitation.
Moreover, another discouraging factor is the existence of Bangladesh Banks requirement that
export receipts must enter into the country within a period of 4 months from the date of export,
and failure to meet this timeline comes with strict punitive actions.
Unless otherwise specified, no import license is necessary for import of any item in Bangladesh.
However, registration to the Authorised Dealer
Dealer is a requirement to import into the country. Other
than filling up L/C application form, submission of proforma invoice copy and insurance cover
note are regulatory requirements.
requirement . Issuing Bank has an agreement with the applicant while
opening a Letter of Credit on his behalf.
Before 2003, there were some restrictions by the Ministry of Commerce on L/C
L C margin in some
specific items. However, this restriction
restricti of margin requirement became open from 2003 onwards
and at present, L/C
C margin is determined through negotiation and relationship between the bank
and the L/C applicant
In Bangladesh, all L/Cs opened and received are irrevocable in nature as required by the
domestic regulation of the country as well as UCPDC 600.
6
About 42% of the total L/Cs
established in Bangladesh (for import) is Deferred Payment Back-to-Back
Back in nature
nature. This is due
to import of raw materials for the garments sector to meet up their export orders. On the other
hand, only about 3% of the L/Cs
/Cs is Confirmed and 55% are Irrevocable at sight L/C. Even

though Revolving LCs is rare, there is not a single case of Red Clause L/C, as there are some
restrictions imposed by the Bangladesh Bank on this.
Forms

Import L/C

Export L/C

Irrevocable

55%

27%

Confirmed

3%

1%

Back-to-Back

42%

Transferable

72%

Red Clause

Source: Based on data collected from sampled banks

Table 01: Forms of L/C opened and received in Bangladesh

On the other hand in cases of Export LCs, about 72% is Transferable in nature due to the
existence of a large number of Buying Houses, who has to transfer the L/Cs to the
manufacturers. Moreover, the practice of subcontracting by the garments manufacturers is also
very common and contributes to the need for Transferable L/C. In contrast to import LC, BackTo-Back L/C is completely absent in case of export LC. A negligible no of Confirmed L/Cs (1%)
are opened in favour of Bangladeshi exporters.
For an import L/C, issuing bank asks for the following documents:
a)

Bill of Exchange or Draft

b)

Transport Documents like Bill of Lading, Airway Bill, Truck Receipt etc.

c)

Commercial Invoice

d)

Certificate of Origin and

e)

Others as required by Bangladesh Bank Guideline or Import Policy Order (IPO).

Even though transport documents (title documents), commercial invoice (sellers bill) and
insurance documents are essential as per UCP 600, insurance documents are rarely asked in
Bangladesh. According to the countrys Import Policy Order, insurance is to be covered through
domestic Insurance companies. Therefore, there will be no CIF LC in our country.
Submission of signed commercial invoice is another regulatory requirement. Under UCP 600,
commercial invoice needs not to be signed. But as per BB Guidelines, all LCs must ask for
submission of signed invoices. Submission of certificate of origin is a must in Bangladesh
according to the Import Policy. Besides these, Packing List is another very frequently asked
documents with Weight List, PSI certified Invoice, various Beneficiarys Certificate are also
asked less frequently or depending of case basis.

It is worth mentioning here that if the import is made from India through land customs, a
Custom House Certified Invoice and/or Indian Application for Export Bills are asked with the
original documents.
For Export L/C, exporters in our country are asked for the following documents:
a)

Bill of Exchange

b)

Transport Documents

c)

Commercial Invoices

d)

Packing List and

e)

Certificate of Origin.

In connection with examination of documents Standard For Examination Of Documents

reflected in the article 14 of UCP 600 is the guideline.
As any L/C opened in our country has to comply with domestic regulations, guidelines on
foreign exchange transactions along with FE circulars issued by Bangladesh Bank and the Import
Policy Order and the Export Policy of the country are followed, these issues effect scrutinizing of
import documents. However, it is to be remembered that whenever an L/C is established only the
L/C terms are terms and only they are to be considered for examining a set of import
documents.
As per article 14 of the UCP 600 any bank shall have a maximum of five banking days following
the day of receiving of the document to determine if a presentation is complying. In some banks
there is a practice of sending the discrepancy notices within 2-3 days after receiving the
documents. Banks consider the act as a protective measure on their part. Charging of discrepancy
fee appears to be another reason of such practice. Banks have been observed to approach to the
importers to get their opinion before rejecting the documents. In regard to discrepancies, late
shipment, late presentation, expiry of the L/C are very common.
A letter of credit must point out whether the credit is available at sight, deferred, acceptance or
negotiation basis. The issuing bank is also required to mention that whether the payment will be
made from the counter of the issuing bank or a nominated bank (negotiating bank). In most
cases, L/C issued from the country are freely negotiable which means any bank is negotiating or
nominated bank at the counter of which documents are submitted by the foreign exporter or
beneficiary. In such a case, exporter can submit documents at the counter of his bank in the
country of his or domicile. In most cases (68%) payments are designated on negotiation basis
from the counter of the nominated bank. Another 20% cases use acceptance basis payment and
12% deferred payment.
Charges in documentary credit are much higher as compared to other forms of payment as
involvement of banks is significant in this mode. At different stages of involvement, banks

charge different rates of commissions as issuing bank, advising bank, negotiating bank,
confirming bank, reimbursing bank etc. Commissions vary from bank to bank and in some cases
also from client to client.

Concluding remarks

Trade (Import and Export) is the major activity of International Trade.

In Bangladesh, L/C is the main payment method of trade facilitation.
UCP 600 is the latest version of the Uniform Customs and Practices that govern the operations of
L/C.
Charges in L/C are much higher as compared to other forms of trade payment as involvement of
bank is significant in this method.
With the progress of e-commerce and corresponding online payment methods, L/C remains to be
the one of the safest ways to remit payments and get proceeds. For Bangladesh, there are a few
factors that require intervention and improvement. Most important of these are:
a) Restructure of legal enforcement against defaulter importers and exporters.
b) Necessary changes in import policy to permit imports to be made without L/C to reduce
import cost and subsequently reduce prices on essential and consumable goods.