Documentary Collections are not as widely used as other forms of trade finance such as letters of credit but it is less expensive. It is also somewhat riskier so it’s use is generally limited to transactions between parties who have developed trust as a result of past transactions or where importers are located in countries with strong legal systems and contract enforcement. In addition to being less expensive, documentary collections are less complicated than posting an LC. Under a D/C transaction, the importer is not obligated to post payment for goods before they are shipped, although if structured properly, the exporter can control over the goods until the importer pays the draft amount on site.
A documentary collection (D/C) is a transaction in which an exporter authorizes its remitting bank (exporter’s bank) to collect the payment upon a sale of goods by sending approved documentation along with instructions for payment to a collecting bank (importer’s bank). Funds (payment for the goods) are subsequently received from the importer and remitted to the exporter through the two banks involved in the collection in exchange for those documents. D/Cs involve the use of a draft that requires the importer to pay the face amount of an invoice either one of two ways:
- D/P: Documents against payment. This is payment on site
- D/A: Documents against acceptance. This is payment on a specified date in the future
The payment draft (much like a check) involved in a documentary collection includes instructions that specify the documents required and which must be presented for the transfer of title to the goods. Documentary collections are generally less expensive than typical letter of credit transactions and although the banks involved do act in a collections capacity, the documentary collections mechanism offers no real verification process and is limited in further collection options by the exporter in the event of nonpayment.
Documents Against Payment (D/P) Collection
When utilizing a D/P collection, the exporter gives the collection documents to his remitting bank after shipping the goods, which will forward them to the importer’s collecting bank. In this arrangement, the collecting bank releases the documents to the importer only after payment is received for the goods. Upon receipt of payment. The collecting bank transmits the funds to the remitting bank for payment to the exporter.
Documents Against Acceptance (D/A) Collection
Under a D/A collection, the exporter grants credit to the importer by accepting a time draft. In this case, the
documents for collection of the goods are released to the importer by the collecting bank upon receipt of the agreed upon time draft which legally obligates the importer to pay for the goods at a future date. At maturity of the draft, the collecting bank contacts the importer for payment and transmits the funds to the remitting bank for payment to the exporter.
Deal Flow in a D/C Transaction
- An exporter ships goods to an importer and receives the shipping documents.
- The exporter then presents the documents with instructions for obtaining payment to its remitting bank.
- The remitting bank then sends the documents to the importer’s collecting bank.
- The collecting bank releases the documents to the importer either upon receipt of payment (D/P) or upon receipt of a draft dated for future payment (D/A).
- The importer then presents the documents to the freight carrier in exchange for the goods.