Documentary Credit is a financial arrangement, commonly known as a letter of credit, where a bank guarantees payment to an exporter upon submission of specified documents that meet agreed terms.
How It Works:
- The buyer requests a bank to issue documentary credit.
- The bank issues the credit in favor of the exporter.
- The exporter ships the goods and prepares required documents.
- Documents are submitted to the bank for verification.
- Payment is made if documents comply with the terms.
Benefits:
- Reduces payment risk in international trade
- Builds trust between buyer and seller
- Ensures payment against document compliance
- Widely accepted in global trade transactions
Example:
An exporter ships goods to a foreign buyer and receives payment from the bank after submitting documents that meet the terms of documentary credit.