Q&A REGARDING REVOLVING LETTERS OF CREDIT

QUESTION

Dear Mr. Old Man,

Thank you so much for precious advice posted on your blog, which helped me a lot to pass CDCS exam in April 2015 with grade of 83%. Up to now, when I have difficulties in solving problems relating to LC, my first action is to google it with phrase “x problem” + “Mr. Old Man”.

Today, I have problem with revolving LC. This type of LC is not used widely so I do not have much knowledge and experience, but I hope that you may give me some advice on it.

I have a customer who signed an annual contract to import steel in different types, unit price and specifications, as example:

Type:                                           Steel A               Steel  B

Unit price (USD/kg)                      3.00                      5.00

Estimated quantity (kg)              100,000                50,000

Total value of the contract: USD550,000 (+/-10%)

Total quantity of the contract: 150,000 kgs of steel (+/-10%)

The Buyer and the Seller will sign a Purchase Order each month to determine commodities (quantity and value) for each shipment. The Buyer would like to issue a revolving LC in 12-month validity in order to save charge.

I am so confused when receiving their requirement because I have no experience in revolving LC. So, please help me to explain the following questions:

1. I am wondering whether LC may indicate that USD45,834.00 may be drawn each month during the LC’s 12 month validity, non-automatic, non-cumulative, or not?

2. If this LC is non-automatic, the value of LC is only USD45,834.00 (+/-10%). It means that the issuing bank’s maximum liability at any one time is only 45,834.00. If so, is it right that the credit line granted to the customer is only USD45,834.00, not USD550,000?

3. But the problem is that this contract is a frame one, which has not fixed the amount, value and type of goods for each shipment every month. For example, in May they would like to import type A only in X kg but in June, they imports type B only in Y kg. It depends on the demand of the customer so I think it will be difficult for both of exporter and importer to prepare complying document. In addition, the unit price may be adjusted when there is change in exchange rate and raw material input’s price.

I know that, we may amend for each revolvement. But I am not sure that in our case, it is applied or not?

So, which kind of commodities applied revolving LC? In my opinion, it should be bulk cargo (rice, coal, or oil…) with consistent specification (one type of goods in every single shipment), unit price and quantity. I am not sure about my idea because I have not ever read anything about that

4. What should you do if you receive a requirement from such a customer?

I am sorry to waste your time because I know that my questions are rather confusing but I really hope that you would spend a little time to give me several suggestions to solve this problem properly.

Many thanks for your time and looking forward to your response.

Regards,

TTN

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ANSWER

Hi,

I’m glad to hear that when you have difficulties in solving problems relating to LC, your first action is to google the  phrase “x problem” + “Mr. Old Man” and that my blog “For those who eat, sleep and breathe Letters of Credit” helped you pass CDCS exam – April 2015 with grade of 83%. Congratulations for your efforts and great achievement!

Here are my answers to your questions:

1. Yes. You can issue a letter of credit revolving by value for an agreed value against a predefined number of times, for example, USD45,834.00 each month for 12 months. It can be cumulative or non-cumulative, auto – revolving or revolving by amendment.

2. Yes if it is a letter of credit revolving by amendment, i.e., the letter of credit shall be reinstated or renewed only with an amendment to the letter of credit. In case of revolving by amendment the issuing bank may agree to extend further credit line to the applicant when it decides to issue amendment to reinstate the letter of credit. If for some reason the issuing bank does not agree to extend further credit line to the applicant, it may decide not to issue such an amendment.

3. Revolving letters of credit transactions are complicated and for that reason, banks rarely issue revolving letters of credit. So, it is advisable for the applicant/issuing bank to issue a normal letter of credit and when the shipment is made, the issuing bank can issue an amendment to increase the letter of credit amount for any kind of goods. This measure is the most appropriate. It looks like a letter of credit revolving by amendment.

4. Advise the applicant to take the measure as suggested in Answer number 3.

Kind regards,

Mr. Old Man