Financing is one of the most important aspects of trade. International trade, although seemingly not different from local trade, differs from local trade because shipment/delivery takes longer, and different documentation and legislation is due to different countries involved in international trade. Financing also differs compared to local trade, and there are some specific methods used in international trade like documentary credit, although there is no limitation for documentary credits to be used in local trade. Documentary credit is a well-known method generally used in international trade. This chapter aims to define the role of documentary credits in international trade finance. In this chapter along with other finance methods, documentary credits, types, process will be explained. It is aimed to help importers and exporters how to mitigate the potential risks by using documentary credit. Furthermore, which type of documentary credit is to be used depending on the situation is clarified.
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The most important issue in international trade financing is that how the payment or financing will be made and from which sources (Dinçer, Yüksel & Şenel, 2019). As the international trade covers too many parties involved like importer, exporter, importer’s bank, exporter’s bank etc, it is important for all parties to contribute in solving the finance issue (Yüksel, 2017). In other words how and when the exporter will be paid is main issue. As financing is the payment of the value of the goods exported, the main finance method can be defined as the payment methods, namely payment of the value of the goods by the importer (Dinçer, Hacıoğlu & Yüksel, 2018a,b).
Payment methods can be defined as advance payment, payment against goods/open account, where there are no intermediary institutions settled between importer and exporter (Dinçer et al., 2019). However, there are other methods like letter of guarantees and documentary credits, where banks have to be involved in the transaction between importer and exporter (Foley, Johnson & Lane, 2010). Although the payment and delivery in a purchasing transaction seem the same in local trade and international trade, international trade transactions are different from local trade transactions because transportation takes longer and different rules apply in cross border transactions in international trade (Antras & Foley, 2015). There are also finance methods from external sources like factoring, forfaiting, export credit agencies, IFC, Worldbank etc.