International Credit Policy; Open Account vs. Letter of Credit

When evaluating creditworthiness, credit professionals can apply many ofthesamebasictechniquesandrules to foreign customers asthey apply to domestic creditapplicants. For foreign customers, creditors must also evaluate the stability of the government of the country in which the importer is located and review events that might affect sales to a particular foreign country and foreign customers.  The assessment of the risk associated with exporting to a particular country is called sovereign risk.  Some of the most common barriers or complexities associated with exporting include: differences in language; credit terms [terms of sale]; shipping terms; and foreign exchange problems. 

Credit professionals must understand the customs and practices that will affect the extension of credit to foreign customers and applicants, understand the local meaning as well as the textbook translations of business terms and terminology, and become familiar with methods avaiable to mitigate the risks associated with export sales transactions.  Credit professionals should seek help from both public and private sources of credit information about a foreign customer requesting open account terms. When information is spotty or suggests a problem, the credit manager should continue to investigate the foreign applicant until they see a convergence of facts. At that point, an informed decision can be made.

Credit managers also must meet with their company's top management to consider profit margins, sales terms, and the amount of risk considered acceptable to the exporting company. They must consider the company's sales and market share goals, how the company is plans to do business in each foreign country, whether they will export directly or through a distributor, who will handle licensing, how business will be solicited, whether instructions and warranties will be the buyer's language.  Credit professionals must understand their own country's export laws as well as rules and regulations and laws in each of the countries they plan to export into.  All of these factors will affect the company's international credit policy.  Unexpected problems can occur. Regulations vary from country to country, and the time frames for legal action can vary from months to years. Credit managers should know their rights, be prepared to act immediately, and demand payment when it is due.

Credit managers have to take some risks, but they must be calculated risks. They can minimize risk in the following ways:

• Request a signed credit application.
• Obtain and evaluate credit information
• Request the most recent financial statements.
• Request trade references from at least three U.S. trade references - preferably vendors selling in large dollar amounts to the foreign vendors.
• Request bank references, checking accounts, and loan information.
• Get ratings on all the references and keep them updated.
• Run a credit report.
• Establish the terms of sale.
• Establish the credit limits.
• Specify in what currency payment will be made.
• If payment is not in U.S. dollars, include written agreements on the exchange rate.
• Get the customer's agreement to credit terms in writing.
• Make sure the credit terms are also printed on the invoice.
• Stay current in world affairs.
• Monitor media coverage of the customer's country.
• Study the demand for the product shipped.
• Be aware of how title passes. 

Selling overseas on open account terms can be high risk for the exporter, but most foreign buyers prefer to purchase on open account terms.  Often, the credit department is expected to thread the needle by finding a way to sell on open account terms. Being able to offer open account terms can be a significant competitive advantage for a creditor company.  However, the risks sometimes outweigh any potential benefits.

Edited by Michael C. Dennis, author of several books including: "Credit and Collection Manager's Handbook."  Mr. Dennis is an author and consultant.  He can be reached by email at mcdennis13@yahoo.com