Definition
A bank's guarantee to pay a supplier once agreed shipping documents are presented.
Why it matters
Often used in PO financing for overseas suppliers.
Where it shows up in a deal
On a PO financing deal with an overseas supplier, the funder arranges a documentary letter of credit in the supplier's favor instead of wiring cash. The supplier ships and presents documents - commercial invoice, bill of lading, packing list, often an inspection certificate - and the issuing bank pays against those documents if they conform.
What it affects
- The supplier ships against a bank's undertaking rather than against trust in you, which often improves its pricing.
- Discrepant documents are the main failure mode and can delay payment and shipment release.
- An LC ties up facility capacity for its whole validity period, not only until shipment.
- Expiry dates, latest shipment dates and presentation windows are strict and are not negotiable after issuance.
A worked example
If issuance and negotiation charges on a $300,000 LC total 1%, that is $3,000, payable on top of the PO financing fee accruing on the same $300,000 for as long as the transaction stays open.
The common mistake
Related terms
- Purchase Order FinancingFunding that pays a supplier so a business can fulfill a confirmed customer order.
- Purchase OrderA buyer's document authorizing a purchase at agreed prices and quantities.
- Bill of LadingA shipping document that lists goods, origin and destination and serves as a receipt for freight.
- Proof of DeliveryDocumentation proving goods or services were delivered.
Questions about how letter of credit affects your facility?
Call (929) 658-8087 or request a written quote — no obligation, no credit impact.
