Understanding Standby Letter of Credit (SBLC)

In the realm of international trade, the Standby Letter of Credit (SBLC) is a prominent financial instrument used to ensure the smooth execution of transactions. This guide will explain what an SBLC is, how it differs from a Documentary Letter of Credit, and how the processes of issuance and notification work. We’ll also explore the types of SBLCs, their advantages, and provide insights into the broader context of standby letters of credit.

What is a Standby Letter of Credit (SBLC)?

A Standby Letter of Credit (SBLC) is a financial guarantee issued by a bank on behalf of an importer to ensure that an exporter receives payment if the importer fails to meet their payment obligations. The SBLC serves as a safety net for the exporter, assuring them that payment will be made even if the importer encounters financial difficulties or other issues that prevent payment.

The fundamental purpose of an SBLC is to act as a backup plan. It’s not meant to be used under normal circumstances but is available if the primary payment method fails. This differentiates it from a Documentary Letter of Credit (LC), which is typically used to facilitate and guarantee payment upon fulfillment of transaction terms.

Key Differences Between a Standby Letter of Credit (SBLC MT760) and Documentary Letter of Credit

Understanding the differences between an SBLC and a Documentary Letter of Credit is crucial for grasping their respective roles in trade finance:

• Purpose: An SBLC is a secondary payment guarantee, designed to be activated if the importer defaults. Conversely, a Documentary Letter of Credit is used primarily to ensure payment for goods or services once specific conditions are met, such as the presentation of shipping documents.
• Usage: SBLCs are commonly used as a form of financial security and are applicable in both domestic and international contexts. Documentary Letters of Credit are often used in international trade to secure transactions and facilitate cross-border payments.

Types of Standby Letters of Credit

There are two main types of Standby Letters of Credit, each serving different purposes:

1. Performance SBLC: This type of SBLC ensures that non-financial contractual obligations are met. These obligations might include quality standards, delivery schedules, or other performance criteria. If the importer fails to meet these obligations, the bank will compensate the beneficiary, typically the exporter, for any losses incurred.
2. Financial SBLC: This SBLC guarantees that financial obligations are fulfilled. It ensures that payment is made if the importer does not settle the payment for goods or services received. Financial SBLCs can also be issued in favor of the exporter’s bank, providing additional security in financial transactions.

Advantages of Standby Letters of Credit

Standby Letters of Credit offer several benefits over traditional Documentary Letters of Credit:

• Simplicity: The administrative process for an SBLC is generally less cumbersome. This streamlined process reduces paperwork and simplifies transaction management.
• Speed: SBLCs facilitate quicker shipping of documents directly to the buyer, bypassing the need for bank intermediaries, which can accelerate the overall transaction process.
• Cost-Effectiveness: If an SBLC is not enforced, its cost is often lower than that of a Documentary Letter of Credit. This makes it a more economical option in situations where the guarantee is not utilized.
• Flexibility: SBLCs can be adapted to various Incoterms and are versatile enough to accommodate different types of transactions, including those under Incoterms in the D group, related to delivery.

Issuance and Notification Process

The issuance and notification of a Standby Letter of Credit involve several key steps:

1. Contract Agreement: The process begins with the importer and exporter entering into a contract that outlines the transaction details, including the issuance of the SBLC. It’s essential for both parties to work closely with international trade professionals and banks to ensure that all terms are accurately documented and legally sound.
2. SBLC Request: The importer requests their bank to issue an SBLC in favor of the exporter. This request includes detailed terms and conditions, such as the documents required for activation. The bank evaluates the request, which may involve assessing the importer’s creditworthiness and potentially requiring collateral or other assurances.
3. The issuance of the standby letter of credit: Once the request is approved, the bank issues the SBLC. This is typically done through secure channels like SWIFT MT 700, providing a reliable and prompt method of communication. Alternatively, it may be transmitted via encrypted telex or a standardized form from the International Chamber of Commerce.
4. Notification: The exporter’s bank receives the SBLC and notifies the exporter. This notification confirms the opening of the SBLC and may include a confirmation by the correspondent bank, which commits to making payment under the agreed terms.

Security Provided by SBLC

An SBLC provides significant security to the beneficiary by involving a third-party bank responsible for payment. This ensures that the beneficiary is more confident of receiving payment even if the buyer defaults. The bank’s involvement provides a layer of financial stability and impartiality, as banks do not engage in disputes between buyers and sellers.

Standby Letter of Credit Explained

If there are concerns about the financial stability of the issuing bank, beneficiaries can request a confirmed SBLC. This involves an additional, trusted bank guaranteeing the payment, further enhancing the security of the transaction.

Please read: Certified Standby Letter of Credit (SBLC/SLOC) Provider

SBLC vs. Other Letters of Credit

While an SBLC and a standard Letter of Credit both involve a bank’s promise to pay, they differ in their primary functions:

• Backup Plan: An SBLC is designed as a fallback mechanism, intended to be used only if the primary payment method fails. In contrast, a standard Letter of Credit is a primary payment tool, with the expectation that it will be used as part of the regular transaction process.
• Performance Component: SBLCs can include performance-related terms, ensuring that contractual obligations are met. This aspect is less common in standard Letters of Credit, which focus more on the payment process itself.
• Usage: SBLCs are frequently used in domestic transactions, such as construction projects or utility services. Standard Letters of Credit are more prevalent in international trade, where they help facilitate cross-border transactions.

Who is a Standby Letter of Credit Provider?

A Standby Letter of Credit Provider is a bank or other financial services provider like Grand City Investment Limited that provides a Standby Letter of Credit Provider (SBLC MT760) and other bank financial instruments to its customers.

These institutions offer a range of financial instruments, including SBLCs, to support various commercial and financial transactions. Providers are selected based on their reliability, reputation, and the strength of their financial backing and this is what sets Grand City Investment Limited apart from other providers.

How Much Does a Standby Letter of Credit Cost?

Typically, SBLC fees vary between 1% and 10% of the total face value for each year that the SBLC is active. At Grand City Investment Limited, our SBLC leasing fee is just 4% of the face value per annum. 

When Would You Need an SLBC?

Standby letters of credit are often used in international trade deals where the terms may be different between parties, but that is not the only use. Anytime a buyer needs to guarantee payment for goods or services, a SBLC may be in order.

Where Can I Apply for a Standby Letter of Credit?

Standby letters of credit are typically offered by commercial banks and licensed money lenders such as Grand City Investment Limited. The bank or money lender will assess the creditworthiness of the applicant much like a loan application. 

How to Get Started

If you’re interested in securing a Bank Guarantee, Standby Letter of Credit, or other financial instruments, Grand City Investment Limited is here to help. We make the process straightforward and hassle-free, ensuring that the financial instrument (BG or SBLC) is issued from prime AAA rated banks such as HSBC Hong Kong, Barclays Bank London, Chase bank USA or any prime bank of choice.

To learn more about our services or to get started with your bank guarantee/standby letter of credit needs, please contact us for a free consultation.

• Email: apply@grandcityinvestment.com
• Website: www.grandcityinvestment.com

If you enjoyed this article, please let us know. In our next article, we will discuss the differences between a standby letter of credit and a bank guarantee. If you have any questions, feel free to contact us.