Although not evident in all markets, it is clear that some confusion surrounds the concept of negotiation. However, the basics are simple and easily understandable.
The act of presenting complying documents under a documentary credit is one that is expected to ultimately result in a financial settlement. Banks have a duty to act in a manner as defined in UCP 600 and in accordance with its nominated or chosen role.
Provided a complying presentation has been made, or if an issuing bank has elected to respond positively to a discrepancy waiver from the applicant, settlement is to be made to the presenter without delay. In accordance with the content of UCP 600, a beneficiary can expect to receive settlement from one of three sources:
- From the issuing bank;
- From a nominated bank that has agreed to act on its nomination to honour or negotiate; or
- From a confirming bank that honours or negotiates in accordance with its advice of confirmation.
None of these obligations fall into place if the documents are non-compliant. This applies to the actions of any of the banks regardless of whether or not another bank considers the documents to be compliant.
Definition of Negotiation: the purchase by the nominated bank of drafts (drawn on a bank other than the nominated bank) and/or documents under a complying presentation, by advancing or agreeing to advance funds to the beneficiary on or before the banking day on which reimbursement is due to the nominated bank.
Responsibility in respect of a complying presentation:
- Issuing bank: This type of availability is not applicable to an issuing bank.Issuing banks honour.
- Nominated bank: No obligation to negotiate. In the event it agrees to act on its nomination,will advance or agree to advance funds to the beneficiary either with or without recourse.
- Confirming bank: Must negotiate by advancing or agreeing to advance funds to the beneficiary, without recourse.
Reimbursement and draft conditions:
- For usance transactions, the documentary credit should contain an authorisation for a nominated bank or confirming bank to debit the account of the issuing bank or to claim reimbursement from a reimbursing bank. Alternatively, the issuing bank will reimburse in accordance with instructions provided by the nominated bank or confirming bank.
- For sight transactions, the documentary credit should indicate that the issuing bank would reimburse the nominated bank (or pay the beneficiary) upon the issuing bank's receipt of complying documents.
- Draft is not necessary, but if called for should be drawn on the issuing bank (or reimbursing bank, if the reimbursing bank is providing financing).
- Confirmed documentary credit - once negotiation effected (advance or agreement to advance), no recourse.
- Unconfirmed documentary credit - once negotiation effected (advance), recourse exists to the beneficiary.If the credit is not confirmed, thenominated bank has a choice of whether or not to act on its nomination and negotiate.
To have negotiated requires the nominated bank to have either advanced funds (less interest costs) or to have agreed to advance funds on or before the date that it expects to receive reimbursement.
- An advance need not be for the full amount of the drawing. For example, the beneficiary may only request that 50% be advanced with the remainder payable on the due date.
- Even if the documentary credit is not confirmed, a nominated bank could agree to negotiate on a without recourse basis.
- An agreement to advance funds need not be limited to payment on a due date. Negotiation may occur at any time between the date of determining a complying presentation and the date that reimbursement is expected to be received from the issuing bank.
- An agreement to advance funds may be conditioned on the receipt of an advice of acceptance of the issuing bank i.e., the nominated bank does not accept any documentary risk.
- A confirming bank could condition its confirmation to the extent that it will only advance funds on the due date i.e., it will notadvance funds immediately.
Further information can be found in our Documentary Credits module: Document Examination, Honour, Negotiation and Financing