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HYPOTHECATION OF MOVABLE MACHINERY, LETTER OF CREDIT &

PACKING CREDIT

What constitutes Movable Machinery?


All stores and spare parts
Both present and future

Belonging to the borrower


Being and lying in the borrowers premises or godowns of or rented by the borrower or otherwise used in connection with the business of the borrower

Salient Features of hypothecation of movable machinery


Hypothecation is one of the most popular methods of creation of charge on movable assets without transferring possession of the assets The property is charged with the amount of a debt but neither ownership nor possession is passed to the creditor Security remains in possession and control of the borrower and is charged in favor of the bank through documents executed by the borrower

Salient Features of hypothecation of movable machinery


The documents contain a clause that obligates the borrower to give possession and control of goods on demand. Once possession is given to the bank, it is akin to a pledge There is no transfer of interest in the property but represents an obligation to repay the debt. It evidences an equitable right

Salient Features of hypothecation of movable machinery


Since the securities are with borrowers, he/she can, in the normal course of business, sell the same and can purchase further goods If a need arises the bank may seize the goods without intervention of the court, sell the same and appropriate the proceeds towards the dues including Interest + Expenses

All hypothecation letters should be stamped as per the Stamp Act

Letter of Confirmation
Place, Date, Stamp, Name

Declaration regarding Movability of Machinery


Obtained from the Borrower Advance Account Details, Declaration Small tin plate with wordings Hypothecated to ..Bank ....Branch should be fixed on each machinery to evidence that the Plant & Machinery are under hypothecation to the Bank

Instrument of Hypothecation of Movable Machinery


Clause 1:Balance due to the Bank Principal, interest, charges and expenses Clause 2:Hypothecated machinery Clause 3:End use of funds

Clause 4:Payable on demand


Clause 5:Interest rate

Instrument of Hypothecation of Movable Machinery


Clause 7: Borrower agrees & undertakes : Not to sell the hypothecated machinery, nor give it to anyone without prior consent of the bank Not to open advance a/c with any other bank without prior consent of bank Clause 8: Maintenance Clause 9: Inspection Clause11:While taking license to occupy any place for hypothecated machinery which is not his own property, Borrower is required to Register it in the name of bank. Handover the receipts for any rent or dues payable to bank Keep the bank indemnified against all the expenses or losses

Instrument of Hypothecation of Movable Machinery


Clause 15:Remove or Dismantle Borrower is prohibited from removing or dismantling any moveable machinery in use without the consent in writing from the bank Clause17:Hypothecated machinery will be at all time the absolute property of borrower. Clause 18:If borrower fails to perform any obligation or in case of any damage to hypothecated machinery Bank can obtain possession At borrower risk & expense Possession and control shall be apparent and indisputable The hypothecated machinery can also be sold by the bank

Instrument of Hypothecation of Movable Machinery


Clause 20:After 48 hrs notice from possession of the hypothecated machinery without assigning any reason Bank can recover, receive, appoint receiver of or remove or sell either by public auction or private contract Borrower undertakes to transfer all relative contracts, securities, bazaar chits, bills, notes, hundies and documents to bank Borrower is bound by banks decision (based on admission, arbitration or compromise) Clause 22:Pay, rents, rates, taxes Clause 28:Default in repayment

Difference between Hypothecation of goods and merchandise


Hypothecation of Movable machinery Hypothecated machinery can not be sold or given on rent Hypothecation of merchandise Securities are with borrowers, he/she can, in the normal course of business, sell the same and can purchase further goods Usually the credit facility would be for Cash Credit (Working capital requirement)

Usually the credit facility would be Term loan

Valuation traditionally on WDV / historical value


Value changes in accordance to depreciation

Valuation Market Value or Cost (whichever is less) net of creditors if any


If goods not sold for a long period, might become obsolete or lose value.

Letter of Credit

Definition and Purpose


A Letter of Credit, simply defined, is a written instrument issued by a bank at the request of its customer, the Importer (Buyer), whereby the bank promises to pay the Exporter (Beneficiary) for goods or services, provided that the Exporter presents all documents called for, exactly as stipulated in the Letter of Credit, and meet all other terms and conditions set out in the Letter of Credit. A Letter of Credit is also commonly referred to as a Documentary Credit Letters of credit are especially useful if you're not wellestablished, you don't have the best credit, you're dealing with an overseas company and you want to give assurance that you'll pay for your products

Parties involved
Applicant The applicant is normally the buyer of the goods . i.e. the importer who request his bank to issue a letter of credit in favour of a named beneficiary against tendering of certain specified documents Beneficiary The beneficiary is normally the seller of goods who receives payment under documentary credit if he has complied with terms and conditions thereof A credit issued in favour of the beneficiary to enable him or his agent to obtain payment once he performed his part of contract and submitted stipulated documents showing compliance with the terms and conditions of letter of credit

Parties involved(cont.)
Issuing Bank The issuing bank or the opening bank is one which issue the credit , i.e. undertake , independent of the Undertaking of the applicant , to make payment provided the terms and conditions of the credit have been complied with. Advising Bank The advising bank advises the credit to the beneficiary thereby authenticating the genuineness of the credit Confirming Bank A confirming bank is the one which adds its guarantee to the credit . It undertakes the responsibility of payments / negotiation / acceptance under the credit in addition to that of the issuing bank

Parties involved(cont.)
Nominating Bank A Nominating bank is the bank nominated or authorized by issuing bank to pay , to incur a deferred payment liability , to accept drafts or to negotiate the credit. Reimbursing Bank A reimbursing bank is the bank authorized to honour the reimbursement claims in settlement of negotiation with the paying or accepting bank.

Characteristics

Negotiability Revocability Transfer and Assignment Sight and Time Drafts

Standard forms of Documentation



Commercial Invoice Packing List Bill of lading and other transport documents Certificate of Origin Inspection Certificate Bill of Exchange Insurance Documents

Common Defects in Documentation



Letter of credit has expired prior to presentation of draft Bill of lading evidences delivery prior to or after the date range stated in the credit Stale dated documents Inconsistent description of goods Insurance document errors Invoice amount not equal to draft amount Ports of loading and destination not as specified in the credit Document required by the credit is not presented

Functions
Payment Instrument In absence of letter of credit, sight or time drafts used. No Guarantee of Payment. Letters of Credit Involves Bank in Transaction. Performance Guarantee In Documentary Transaction no guarantee of performance. Payment by bank would not be released until goods and document conforms to specifications on letter of credit. Financial Instrument Seller can use letter of credit as collateral to finance production and exportation of good

Advantages/benefits
EXPORTER
Credit risk eliminated Reduces exchange rate and

IMPORTER
Expert Examination of

Documents
Sources of Supply expand Financing No cash tied up Payment only after compliance

political risk
No Need for Credit Check Pre-shipment risk avoided Facilitates financing Immediate payment

Disadvantages
EXPORTER

IMPORTER

Strict Compliance of Documentation

No protection to importer against exporter shipping inferior quality goods and/or a lesser quantity of goods

Lack of credit facility to importer inhibits growth

Importer Line of Credit Outstanding Amount Limit

Risks Involved
1. Risk of Beneficiary not shipping goods persists 2. The Letter of Credit as a payment method is costlier than other methods of payment such as Open Account or Collection 3. The Beneficiarys documents must comply with the terms and conditions of the Letter of Credit for Issuing Bank to make the payment 4. The Beneficiary is exposed to the Commercial risk on Issuing Bank, Political risk on the Issuing Banks country and Foreign Exchange Risk in case of Usance Letter of Credits

Case Study
The steps mentioned in the example A business called the InCosmetika from time to time imports goods from a business called ACME, which banks with the ABC Bank. InCosmetika holds an account at the Commonwealth Bank. InCosmetika wants to buy $500,000 worth of merchandise from ACME, what steps should be taken to get a LC ?

Case Study
1. InCosmetika goes to The Commonwealth Bank and requests a $500,000 letter of credit, with ACME as the beneficiary.
2. The Commonwealth Bank can issue a letter of credit either on approval of a standard loan underwriting process or by InCosmetika funding it directly with a deposit of $500,000 plus fees which are typically between 1% and 8% of the face value of the letter of credit. 3. The Commonwealth Bank sends a copy of the letter of credit to the ABC Bank, which notifies ACME that payment is available and they can ship the merchandise InCosmetika has ordered with the full assurance of payment to them. 4. On presentation of the stipulated documents in the letter of credit and compliance with the terms and conditions of the letter of credit, the Commonwealth Bank transfers the $500,000 to the ABC Bank, which then credits the account of ACME for that amount.

Samples

Features of LC
There are three basic features of letters of credit

SIGHT OR TERM/USANCE REVOCABLE OR IRREVOCABLE UNCONFIRMED OR CONFIRMED

Types of Credit
Basic types of letters of credit 1.Revocable/Irrevocable 2.Confirmed/Unconfirmed 3. Revolving Credit

Confirmed Letter of Credit cycle


5. Product is
Shipped

1.
Beneficiary Exporter/Seller

1.

Buyer & Seller Agree

2.
Application

6.
Documents

Applicant Importer/Buyer

4.
Confirmed Letter of Credit Confirming Bank

8.
Documents

3. Letter of 10.
Exporters Bank/ Advising Bank/ Confirming Bank Credit

2. 7. Documents 9.
Importers Bank/ Issuing Bank

Special types of letters of credit


1.Red clause/Green clause 2.Transferable 3.Back-to-Back 4.Deferred

Standby letter of credit


9

Contract
1

Applicant

Beneficiary

Debit
Letter of Credit Application
7

Payment
6 5

Letter of Credit

Documents

Applicants Bank

Documents
3

Packing Credit

Packing Credit
Pre-shipment fund based credit facility for a specific period extended by the banks to those customers who have received a confirmed order or LC for export of merchandise, on the terms indicated.

It is provided for working capital needs like: Procure raw materials, carry out manufacturing process. carry out manufacturing process and pack goods Provide a secure warehouse for goods and raw materials. Ship the goods to the buyer.

Pre-shipment finance is extended in the following forms : Packing Credit in Indian Rupee Packing Credit in Foreign Currency (PCFC)

Eligibility for Getting Packing Credit An exporter should usually hold an export order or letter of

credit in his own name to perform an export contract. A ten digit importer exporter (IE) code number allotted by DGFT. Exporter should not be in the caution list of RBI. If the goods to be exported are not under OGL, the exporter should have the required license /quota permit to export the goods.

Running Account Facility

The RBI has permitted banks to grant packing credit advances even without production of L/C or firm order/ contract under this scheme Facility subject to the following conditions L/C or firm order is produced within a reasonable period of time. For commodities under selective credit control, banks should insist on production of L/Cs or firm orders within one month from the date of sanction. Packing credit may also be given under the Red Clause letter of credit

Different Stages of Packing Credit



Appraisal and Sanction of Limits Disbursement of Packing Credit Advance Follow up of Packing Credit Advance Liquidation of Packing Credit Advance Overdue Packing

Documents Required :
DPN Letter of Continuing Security Pledge/hypothecation of goods Undertaking to adjust each PC drawdowns in a time frame by export proceeds

Pre-shipment Credit Foreign Currency

PCFC is available to exporters for domestic and imported inputs of goods to be exported at LIBOR related rates of interest as decided by RBI To qualify for this purpose, the exporters overdue bill should not exceed 5% of the average annual export realization during the preceding three years

Terms & Conditions :


The corporations/exporters having firm export orders or confirmed L/C are eligible for PCFC, provided they satisfy other credit norms of the Bank. PCFC is to be repaid with the proceeds of the export bill submitted after shipment.

THANK YOU

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