The terms supplier’s credit (or seller’s credit) and buyer’s credit are commonly used in transactions involving export of capital and engineering goods. In the case of consumer goods exports the financial requirements are mostly short term which are met by commercial banks. The long-term financial requirements of exporters of capital goods are not fully met by commercial banks; special financial institutions are set up in different countries to meet this requirement. These financial institutions have devised schemes—both seller’s credit and buyer’s credit—to encourage exports.
Under seller’s credit the exporter extends credit directly to the overseas buyer. Buyer’s credits are credits afforded to foreign buyers by an authorised dealer and/or a financial institution and the exporter realises the export value from the institutions concerned straightaway.
Seller’s (Supplier’s) Credit
This is the normal procedure where the exporter avails the credit himself from the bank or uses his own funds and allows the importer to pay at a later date. The transaction is financed by the exporter (seller or supplier) or buy his borrowing and hence it is known as supplier’s credit. The exporter may avail pre-shipment finance from his bank which enables him to procure the raw materials required, manufacture the finished product and ship it to the importer.
At the post-shipment stage he may allow the importer to pay the amount in instalments. He would then avail post-shipment finance for a similar term from his bank. In addition to granting pre-shipment and post-shipment finance the exporter’s bank may be required to execute performance guarantee on behalf of the exporter guaranteeing his performance of his obligations under the contract of sale.
The seller has given an undertaking to his bank to repay the loan he has borrowed. This undertaking is independent of the payment of the contract amount by the importer. Therefore, seller bears the risk of payment by the importer (this risk is known as the credit risk). Further his borrowing from the bank would be in the local currency while the contract may be in the foreign currency.
Therefore, the exporter faces the risk of fluctuation of exchange rates when payment is actually made by the importer (this is known as the exchange risk). The exporter should therefore take adequate steps to guard himself against this risk. In India ECGC’s Exchange Risk Credit Policy protects the exporter against exchange risk.
Under buyer’s credit the exporter’s bank directly finances the importer or the importer’s bank. The exporter gets payment immediately. At the shipment stage, it may take the form of the importer opening a ‘red clause’ letter of credit authorizing the exporter’s bank to extend pre-shipment finance to the exporter. At the post-shipment stage the exporter’s bank would make immediate payment to the exporter by extending loan to the importer. That is, the exporter is paid out of the loan granted to the importer. The importer’s bank would guarantee the repayment of the loan by the importer. Or, the loan may be granted to the importer’s bank instead of to the importer.
The seller receives the amount due under the contract immediately and is not responsible for payments by the importer. Therefore, the credit risk is borne by the bank in buyer’s credit. If the loan is granted in foreign currency, repayment would come in that currency and therefore, the bank is bearing the exchange risk also.
The exchange control regulations in India require that banks should obtain prior approval of the Reserve Bank before agreeing to extend buyer’s credits to importer abroad. It is also stipulated that the exporter will have either to provide in the contract itself for the exchange fluctuation risk to be borne by the importer or to bear the cost of the appropriate exchange risk cover to be taken by the financial institution in India.