Revolving Credit | Trade Samaritan

Revolving Credit

If the importer wants to import a specified material from the overseas seller for a specified period at regular intervals, revolving type of credits are useful.

We have already discussed in our previous article that an import Letter of credit (LC) is an unconditional payment undertaking given to a seller (beneficiary) by the buyer’s (applicant) bank (issuing bank), that the bank will pay the seller provided the seller presents documents that comply with the terms and conditions of the letter of credit.

And we have also briefly touched upon the types of documentary credits. In order to manage trade needs of a growing and demanding business it is important to understand the classification in depth.

We shall be devoting today’s article to a very unique type of LC ie a ‘Revolving LC’. In simple terms a revolving letter of credit is a single letter of credit which can be used several times over a long period of time.

If the buyer and seller are exchanging the same commodity regularly and are planning to do for a considerable period of time, they may choose to issue a revolving documentary credit instead of issuing a new credit over and over.

In a Revolving Credit the amount of drawing is re-instated and made available to the beneficiary again unto the agreed period of time on notification of payment by the applicant or merely on submission of documents.  The maximum value and period unto that the Credit can be revolved is specified in the Revolving Credit.  The re-instatement or the replenishment clause and the maximum amount of utilization under the credit are incorporated in Revolving credit

Types of Revolving LCs

1) Revolving by Time Vs Revolving by Value

In revolving by value, a fixed amount is available which is replenished when exhausted whereas in revolving by time an amount is available in fixed installments over a period usually a year.

2) Cumulative Vs Non-cumulative

In the cumulative type of revolving LC, the  sum/value of the LC which is un-utilized in a period is carried over to be utilized in the next period; whereas in the non-cumulative type, it is not carried over. If the LC is silent it is best to consider it to be non-cumulative or seek issuing bank clarification.

3) Revolving by Amendment Vs Auto-revolving

If the LC states that it is auto-revolving the next installment sum is automatically replenished once the earlier one is paid off whereas in case of revolving by amendment, issuing bank needs to issue and transmit an amendment to the beneficiary bank for each and every installment as it arises.

Since these type of LCs do not have any standard format, it is necessary to describe in additional condition the exact revolving clause, the aggregate amount, if automatically or under amendment. If the LC is silent, it is best for the beneficiary bank to obtain clarification from the issuing bank.

Example of a Revolving LC transactions:

1. Importer ABC Corp from Germany wants to import raw material from exporter SBC Inc in Japan for a period of 1 year at a regular intervals. Every month ABC Corp will be importing the material worth $250,000 and the total value of the import under this contract is $3,000,000. The parties agree to open a revolving credit as instead of opening a regular documentary credit for each transaction every month, one set of credit opened at the commencement of the contract remains valid till one year.   Importer saves time and the cost for opening documentary credit for 12 times. Under this arrangement importer is able to receive continuous supply of raw materials for the contracted period of one year.

2. An oil exporter from UAE, Oil King Inc has signed a contract to supply oil to an importer in China,  Petronit Inc. The following is the delivery schedule: 1st month 6000 MT; 2nd month 12000 MT; 3-14 months 12000 MT. The agreed payment terms call for Irrevocable, Transferable, Auto-revolving DLC 100% At Sight. Depending on the parties agree, the LC can be replenished either by amendment or automatic, it will state the shipment schedule and the value of each installment which will depend on the rate. And considering the nature of the goods issuing bank will ideally permit the installment shipment to be lower than prescribed in the LC which arises the question whether it is cumulative or non-cumulative.

The re-instatement clause and the maximum amount of utilization under the credit are incorporated in the Revolving credit. It is the responsibility of the applicant and issuing bank to ensure that the revolving clause is worded precisely and clearly.

Example of a Revolving LC clause

1. ‘Drafts drawn under this Letter of credit must mention the Letter of credit number XXX issued on date XXXX in the amount of total face value of $3,100,000 in the installments with first draw down amount of $ 100,000 upon shipment and thereafter $250,000 every 30 days, therefore a total of 12 equal installments of $250,000 until the maturity date being xxxx.

or

2. ‘Drafts drawn under this Letter of credit must mention the Letter of credit number XXX issued on date XXXX in the amount of total face value of $3,000,000 in 12 installments of $250,000 each, first installment payable 30 days after the date of shipment and every 30 days thereafter, therefore a total of 12 equal installments of $250,000 each until the maturity date being xxxx.

Please note that huge difference in the above stated two clauses.

The first example has a draw down amount of $100,000 and 12 installments of $250,000 each whereas in the second example the LC does not ask for any draw down amount but 12 installments of $250,000 each.

Revolving LC transaction can seem to be complicated however if handled efficiently a single revolving letter of credit can cover several transactions between the same buyer and seller.

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