Introduction
Background of the study
International trade transactions involve inherent risks and complexities, with payment methods being a crucial consideration for exporters and importers The five traditional payment methods include Cash in Advance, Documentary Credit (DC), Collection, Open Account, and Remittance Among these, Documentary Credit has gained prominence as a vital financing tool in international trade, often referred to as "the lifeblood of international commerce" since its codification after World War I (D'Arcy et al, 2000, p 166).
Documentary Credit serves to align the economic interests of buyers and sellers by involving a reliable third party, typically a bank When a buyer requests it, the bank issues a letter of credit in favor of the seller, committing to make payment upon receipt of the specified compliant documents This process may also include other banks acting as agents to advise or facilitate payment to the seller Essentially, in a Documentary Credit transaction, settlement is based on the handling of documents, with bank credit replacing traditional commercial credit.
The Documentary Credit (DC) system enhances international trade by providing security and efficiency; however, it has inherent limitations and emerging risks Inexperienced enterprises unfamiliar with the DC system, non-compliance with international conventions, and banking personnel with low risk awareness contribute to these risks Notably, the International Chamber of Commerce (ICC) reports that the worldwide documentary discrepancy rates against Documentary Credit range from 60% to 70%, a statistic that aligns with similar studies conducted in the USA.
Trần Thị Huyên 2 citing discrepancy rates of 73% (Mann, 2000) and the UK, with 50% to 60% (SITPRO Ltd, 2003).Therefore, it is essential to prevent risks of DC for banks and traders
The financial sector in Vietnam is still developing, with many small commercial banks lacking a robust risk management framework, particularly for international payment risks While the central bank's supervision is increasing, it remains insufficiently protective Access to credit information and the history of foreign partners is limited, as highlighted in the article “Prudential Supervision, Banking and Economic Progress: Implementation of Risk Management Procedures in Joint Stock Banks in Vietnam” (Ardrey et al, 2009) This research indicates that joint-stock commercial banks (JSCBs) face challenges such as limited experience in modern banking techniques, inadequate data for decision-making, minimal capital for risk protection due to low profits, underdeveloped accounting and reporting systems, a lack of bank supervision guidelines, and a non-transparent legal environment, all compounded by a challenging economic landscape.
This article explores the risk management framework of a Vietnamese medium joint-stock commercial bank, specifically in the context of documentary credit The research aims to evaluate the effectiveness of these risk management practices and their impact on the bank's success, driven by the author's curiosity to understand how risk management operates within this banking sector.
Aims and scope of the study
This thesis focuses on three main objectives: it will first analyze risk management practices in documentary credit at Saigon-Hanoi Bank from 2009 to 2011 Next, it will assess both the successes and shortcomings of SHB's risk management strategies Finally, the paper will provide recommendations aimed at mitigating risks associated with documentary credit at SHB.
Research questions
In order to further understand how the objectives of this study will be achieved, the following research questions are introduced:
1 Which types of risks has Saigon- Hanoi Bank encountered in international payment in Documentary Credit during three years of 2009, 2010 and 2011?
2 Which measures have been applied in DC risk management at SHB in 2009, 2010, and 2011?
Methodology and data source
This thesis employs a qualitative methodology, utilizing economic statistical analysis, synthesis, and logical interpretation to explore and generate hypotheses The research relies primarily on secondary data gathered from various literature sources, including books, journals, prior research papers, and electronic platforms, alongside the State Bank of Vietnam’s regulatory database, SHB’s annual reports, and published internal policies, as well as annual business results.
Organization of the study
The thesis is divided into 4 parts:
Chapter 1: Introduction - presenting background information on the research problem, the study objectives and research methodology
Chapter 2: Literature review- an emphasis on the theories supporting this thesis
Chapter 3: Risk management in Documentary Credit: a case study of Saigon Hanoi Bank
- containing the risks taken place in SHB, DC risk management practices and a very important evaluation of the findings
Chapter 4: Recommendations and conclusions - implications for the bank and recommendations for further studies
Literature review
Overview of risk in documentary credit
Risk, as defined by Gerhard Schroeck (2002), is the uncertainty stemming from deviations from expected outcomes This uncertainty can be classified into two categories: general uncertainty, which involves complete ignorance of potential outcomes and hinders rational decision-making and quantification, and specific uncertainty, where probabilities can be assigned to potential outcomes, enabling quantification.
Enterprises, including banks, constantly face risks during their operations According to Gerhard Schroeck (2002), "Risk in a banking context arises from any transaction or business decision that contains uncertainty concerning the result." Since almost every bank transaction involves some degree of uncertainty, each contributes to the bank's overall risk profile Additionally, international payments, as a part of banking activities, further influence this overall risk.
International settlement risks in trade transactions involve various parties, including exporters, importers, and banks, and can be influenced by external factors such as disasters, wars, and regulatory changes One prominent method of international payment is Documentary Credit, defined in Article 2 of UCP 600 as an irrevocable arrangement that obligates the issuing bank to honor a compliant presentation Despite its advantages, Documentary Credit carries inherent risks, representing the potential for financial loss in these transactions.
2.1.2 Types of risks in Documentary Credit
Credit risk refers to the possibility that a borrower may fail to fulfill their obligations, leading to financial losses for the bank In the context of international payments, this risk manifests as losses from defaults, where a customer or counterparty is either unable or unwilling to meet their settlement commitments Consequently, issuing banks face significant risks associated with these defaults.
The issuing bank faces credit risk primarily when opening a Letter of Credit (L/C) for the importer, which involves extending credit based on the importer's financial reliability Typically, the bank requires a guarantee to ensure the importer has sufficient capital and will fulfill payment obligations If the collateral provided is less than 100% of the L/C value, the bank's exposure to credit risk increases significantly Additionally, when providing import financing loans, the bank often mandates collateral, such as the imported goods, to mitigate risk If the importer defaults, the bank may struggle to manage the shipment Furthermore, credit risk arises when the bank guarantees a time L/C, as some importers misuse deferred capital, resulting in insufficient funds to meet payment deadlines Consequently, the bank may be forced to settle debts on behalf of the importer, heightening the likelihood of uncollectible debts.
A Letter of Credit (L/C) is an agreement where a bank, known as the Issuing Bank, commits to honor or accept a Bill of Exchange upon the request of a customer, referred to as the L/C applicant This commitment is contingent upon the presentation of documents that meet the specific terms and conditions outlined in the L/C.
Trần Thị Huyên 6 b Risk for negotiating bank (if any)
Negotiating banks face significant credit risk when handling document negotiations If the bank forwards documents to the issuing bank and reimbursement is denied, recovering funds from the exporter can be challenging, particularly if the exporter is bankrupt or unable to pay This scenario increases the likelihood of the bank facing substantial financial losses.
If the issuing bank suffers from insolvency, it will be difficult for the beneficiary to be getting paid in spite of complying presentation
Operational risk refers to the potential for loss stemming from insufficient or unsuccessful internal processes, personnel, systems, or external events, as defined by the State Bank of Pakistan (2003) For exporters, this type of risk can significantly impact their operations and profitability.
In international transactions involving Documentary Credit, exporters face significant risks, particularly when handling Letters of Credit (L/C) One major risk arises when exporters fail to thoroughly review the L/C terms and conditions, potentially accepting unfavorable requirements that they cannot fulfill, which may lead to the issuing bank rejecting the documents and the importer negotiating discounts beyond the agreed terms Additionally, the L/C serves as a conditional payment guarantee; the issuing bank only agrees to honor the documents if they fully comply with the stipulated terms Unfortunately, exporters often encounter discrepancies during the document preparation process, such as missing deadlines, presenting incomplete or incorrect documents, conflicting information, unsigned documents, and issues with insurance documentation, all of which can jeopardize their payment guarantee.
Trần Thị Huyên 7 highlights the risks associated with incorrect invoicing for partially shipped goods and the consequences of non-compliance with documentation requirements These discrepancies can lead to the refusal of settlement by the issuing bank, placing the burden of resolving issues related to the goods on the exporter Consequently, the merchandise may need to be returned or resold, incurring additional costs for storage, handling, and return freight Importers also face risks in this scenario.
In a Documentary Credit arrangement, the issuing bank is responsible solely for reviewing the documents superficially, without any obligation to authenticate them or assess the quality and quantity of the shipped goods This lack of verification means that the importer faces risks, as there is no guarantee that the goods will meet the specifications outlined in the sales contract Consequently, the importer may receive substandard or damaged goods during transit, yet is still required to make full payment to the issuing bank.
The issuing bank must cope with the operational risk in the below circumstances
When opening a Letter of Credit (L/C), it is crucial for the issuing bank to pay close attention to the application to avoid accepting risky terms In the documentary presentation phase, if the bank processes payments or accepts drafts without thoroughly verifying document validity and overlooks discrepancies, the importer may face issues, yet the bank cannot hold them accountable Additionally, if the L/C does not require a complete set of transport documents, such as the Bill of Lading (B/L), the importer can receive goods by presenting only part of the B/L but remains obligated to pay the beneficiary under the L/C terms.
Before advising the exporter, the advising bank must authenticate the letter of credit (L/C) by verifying the issuing bank's signature, test key, and telex Failure to do so may result in risks associated with notifying a falsified L/C or amending an invalid one.
Trần Thị Huyên 8 the bank itself has not confirmed the test key or authorized signature of the issuing bank yet e Risk for confirming bank
A flawless presentation requires the bank to compensate the beneficiary regardless of its ability to seek repayment from the issuing bank, thus assuming credit risk Furthermore, if the bank chooses to honor or negotiate despite discrepancies in the documents, it forfeits the right to claim repayment from the issuing bank, which will also refuse to reimburse.
Moral hazard may occur where a party involved in Documentary Credit intentionally does not fulfill his obligation under L/C terms and conditions, and affects another party’s interest a Risk from the exporter
In documentary credit transactions, banks focus solely on the documents presented, often overlooking whether the actual shipment of goods matches the sales contract, highlighting the critical importance of honesty among all parties involved Exporters may exploit the separation between the letter of credit (L/C) and the international sales contract to ship goods that do not meet the specified quality or quantity, or even create falsified documents for non-existent cargo, allowing them to receive payment despite non-compliance Consequently, importers may be obligated to pay the L/C value to the issuing bank, regardless of whether they receive the goods as stipulated in the contract Additionally, instances of seller fraud, such as forged signatures, may go undetected by the nominated bank, leading the issuing bank to authorize payment to the negotiating bank Ultimately, the issuing bank bears the financial risk if the importer fails to fulfill their obligations.
Risk management in documentary credit at commercial banks
Risk management is a crucial component of strategic management for organizations, as defined by the International Organization for Standardization (ISO, 2008) This systematic process enables organizations to effectively identify and address risks associated with their activities, ultimately aiming to achieve sustained benefits both within individual activities and across the entire portfolio.
Risk management plays a crucial role in enhancing company sustainability by delivering significant benefits It is integral to the strategic framework of any organization, ensuring that potential risks are effectively addressed Furthermore, risk management is not a one-time effort; it is a dynamic and evolving process that requires continuous adaptation and improvement.
This process is divided into the following steps:
Figure 2.1: Risk Management Process- Overview (Joint Technical Committee OB-007
Figure 2.2: Risk management process - in detail (Joint Technical Committee OB-007
2.2.2 Risk management in Documentary Credit at commercial banks
Banks, like other corporations, utilize risk management techniques that align with standard organizational processes However, their unique role in the financial market means that their actions can significantly affect both national and global financial stability The world has experienced numerous crises originating from banking institutions, which have subsequently impacted the broader financial sector.
2008 economic downturn The issue of a safe and sound banking sector is now more alarming than ever
Risk management in banking involves implementing policies to oversee transactions and activities that could negatively affect operations, while also taking proactive steps to identify, control, and mitigate these risks A key component of effective risk management in banks and financial institutions is the development of a robust risk management framework.
A comprehensive risk management framework is essential for banks, encompassing the scope of risks, processes, systems, and individual responsibilities involved in risk management It must effectively identify, measure, monitor, report, and control all potential risks while remaining adaptable to changes in business activities Key components of an effective framework include clearly defined risk management policies and a well-structured organization that delineates roles for both risk-taking and management Additionally, banks may establish a dedicated department or utilize a Risk Management Committee (RMC) to oversee overall risk management, ensuring robust monitoring and control mechanisms are in place.
To ensure effective risk management, compliance functions must operate independently from risk-taking units and report directly to executive or senior management who are not involved in risk-taking activities An efficient management information system is essential for facilitating the flow of information from operational levels to top management, along with a structured approach to address any observed exceptions Additionally, there should be clear procedures in place for managing deviations and a mechanism for ongoing review of risk management systems, policies, and procedures, allowing for necessary adaptations (The State Bank of Pakistan, 2003, p 3).
International payment is a crucial aspect of banking operations, necessitating effective risk management strategies for international settlements and the Documentary Credit (DC) method Therefore, the risk management framework for Documentary Credit aligns with the principles established in broader banking risk management practices.
This chapter outlines fundamental concepts and definitions related to risk, particularly focusing on risks in international payments within documentary credits (DC) and the associated risk management strategies These concepts form the foundation for the primary objective of this thesis: to analyze Saigon-Hanoi Bank’s practices in managing risks associated with international settlements in DC.
Risk management in documentary credit at Saigon- Hanoi Bank
Overview of international payment in documentary credit at SHB
3.1.1 Legal framework of international payment at SHB
Vietnamese commercial banks, particularly SHB, must adhere to mandatory regulations and standard practices in international trade and payment, including the ICC Uniform Customs and Practice for Documentary Credit No 600 (UCP600) and the International Standard Banking Practice for document examination under documentary credit, as stipulated by UCP 600.
The 2007 ICC guidelines, including ISBP 681, URR 725 for bank-to-bank reimbursements under documentary credit, URC 522 for collections, and Incoterms 2010, along with the Geneva Convention for Checks 1931, provide essential frameworks for international trade and finance These regulations ensure clarity and consistency in documentary transactions, enhancing the efficiency and reliability of cross-border commerce.
3.1.1.2 National and SHB’s internal regulations
To streamline the implementation and monitoring of international payment operations at SHB, while adhering to international payment practices and the regulations set by the State Bank of Vietnam (SBV), SHB is currently executing international payments in accordance with specific legal documents.
Foreign Exchange Ordinance No 28/2005PL- UBTVQH11 dated 13/12/2005
Decree No 160/2006/NĐ- CP dated 28/12/2006 on guiding the implementation of foreign exchange ordinance
Decision No 2635/QD-NHNN on 06/11/2008 promulgating a number of regulations related to foreign currency transactions of credit institutions licensed to conduct foreign exchange
Decision No 64/2001/QD-NHNN on 26.03.2002 promulgating “Regulations on payment activities through organizations providing payment services”
Decision No 1092/2002/QD-NHNN on 28/10/2002 promulgating the "Regulations on payment procedures via organizations providing payment services"
Decision No 18/2007/QD-NHNN and No 493/2005/QD-NHNN specified “Credit institutions classify the provision for risks to the off-balance sheet items”
Regulations on foreign exchange operations of SHB
Amendment and supplement to the professional procedure of international payment operations at SHB in 2009
3.1.2 International payment in Documentary Credit at SHB
After over three years of implementing international payment services, SHB has built a global network of nearly 350 correspondent banks across Europe, Asia, America, Australia, and Africa This extensive network includes prominent financial institutions such as Citibank, Bank of New York, Deutsche Bank, Korea Exchange Bank, Bank of China, Sumitomo Mitsui Banking Corporation, Wells Fargo Bank NA, Bank of India, and Danske Bank of Denmark.
SHB has established a strong reputation in international payment operations, earning high credibility from agent banks In 2011, SHB achieved over 98% in standard teletransmissions, meeting SWIFT international standards The bank was recognized as the "Bank of Excellent Quality in International Payment" by the Bank of New York Mellon and Wells Fargo Bank for two consecutive years, 2010 and 2011.
SHB offers essential financial services including import and export letters of credit, export and import collections, money transfers, and cross-border payment solutions In 2011, the bank's international settlement turnover reached USD 1,099.4 million, marking a 48.5% increase from 2010 with a total of 6,500 transactions The quality of SHB's services meets high international standards, reflecting its commitment to excellence in global finance.
Table 3.1: Turnover of international payments at SHB (unit: In million of the US dollar)
Value Value Growth rate Value Growth rate
Source: Reports of international payment division in SHB head office
Over a three-year period, the turnover of international payments at SHB experienced consistent growth, rising from USD 373.4 million in 2009 to USD 740.1 million in 2010, and reaching USD 1,099.4 million subsequently.
In 2011, despite economic challenges both domestically and internationally, documentary credit emerged as a significant payment method, experiencing the highest growth rates in both transaction volume and value While it represented a smaller share compared to remittances, which accounted for 56.5% (USD 632.424 million), documentary credit saw remarkable growth, with a 129.9% increase in quantity and a 139.9% increase in value in 2010 In contrast, remittances grew by 59.1% in quantity and 83.3% in value during the same period This trend highlights the increasing importance of documentary credit in international payments at SHB, underscoring the need for greater attention to mitigate potential risks associated with this method.
This thesis provides an in-depth analysis of the growth of documentary credit in international payments at SHB over the three years from 2009 to 2011, focusing specifically on its application in export and import settlements.
Trần Thị Huyên 17 a Documentary credit for exports
Structure of international payment services at SHB is fairly well-proportioned In
In 2010, export sales totaled USD 360 million, while import turnover was USD 380.1 million The primary exports through SHB consisted of agricultural and aquatic products, with a significant increase in the value of each export letter of credit (L/C).
Table 3.2: Turnover of international payment (IP) in documentary credit for exports
(unit: In million of the US dollar)
Value Value Growth rate Value Growth rate Documentary Credit for exports 28.02 69.1 145.04% 95.245 37.8% International payment for exports 151.6 360 137.5% 489.3 35.9%
Source: Reports of international payment division in SHB
SHB employs various payment methods for exports, including documentary credit, collection, and remittance Notably, documentary credit accounted for approximately 19% of the total international payment value for exports through SHB, with a consistent upward trend observed over three years The growth rate of international payments via documentary credit outpaced the other methods, reaching 145.04% in 2010 and 37.8% in 2011 Additionally, the average advised letter of credit (L/C) value at SHB increased to USD 149,000 in 2011, up from USD 125,600 the previous year.
Since 2009, the types of products negotiated through SHB have evolved from low-value commodities like processed goods, footwear, garments, and handicrafts to higher-value items such as rice, coal, coffee, and seafood.
Table 3.3: The amount of export LCs (unit: Item)
Value Value Growth rate Value Growth rate
The number of advised LCs 223 466 109% 637 36.7%
The number of negotiated LCs 257 491 91.05% 669 36.25% Source: International payment division in SHB
The above table indicates that the number of advised letters of credit increased remarkably over the years, namely in 2010 with 466 transactions, up by 109%, and in
2011 with 637 items, up by 36.7% Along with this upward trend, the number of negotiated LCs also rose relatively This growth shows SHB’s international settlement in
DC for exports has achieved higher reliability of foreign partner banks, simultaneously proves SHB’s strong effort to expand market, improve the quality of DC payment In
In 2010, SHB provided advisory services and amendments for letters of credit (LCs) from over 70 countries, primarily from Japan, Korea, Taiwan, Hong Kong, the U.S., and the EU Generally, LCs issued by Japanese and Singaporean banks offered favorable documentary examination and payment processes However, discrepancies were frequently found in documents forwarded to Korea, Taiwan, and especially Hong Kong, often due to minor errors, which resulted in delayed payments and additional charges For instance, companies like VinhPhu, NhaBe, and Viettien experienced payment delays of up to six months for garment and textile exports to Hong Kong In contrast, payments from European banks were typically prompt and reliable.
To finance exporters, SHB negotiates export cargo under letters of credit (L/C) through two methods: with recourse and without recourse In the negotiation process, SHB "gives value" to the documents by discounting them, paying the beneficiary the document's value minus a charge, while awaiting reimbursement from the issuing bank Since SHB does not receive immediate payment, it deducts interest to cover the period between payment and reimbursement If the bank agrees to advance payment without recourse, it relinquishes the right to seek reimbursement from the beneficiary if payment is not received from the issuing bank.
Trần Thị Huyên 19 highlights that when a negotiating bank advances payment, it does so at its own risk, unless it is willing to accept the payment risk of the issuing bank The bank may choose to advance payment with recourse to the seller for reimbursement From 2009 to 2011, there was a notable increase in negotiated letters of credit (LCs) at SHB, primarily involving negotiations with recourse According to SHB's international payment report in 2011, since the bank began offering negotiating services in 2008, there have been no instances where SHB negotiated for a beneficiary without receiving reimbursement from a foreign bank.
Risk management in documentary credit at SHB
3.2.1 Risks of international payment in Documentary Credit at SHB
International payments inherently involve risks and disputes, particularly as our economy becomes more integrated into regional and global trade Common risks associated with SHB include documentary discrepancies, unproductive capital, and potential capital losses due to these issues.
Trần Thị Huyên 21 payment on behalf of customers to fulfill its commitments with beneficiaries; loss of reputation with local customers and foreign banks
Figure 3.1: Causes of risk in documentary credit at SHB
Source: Report of international payment division in SHB in 2009-2011
Documentary credit risks for banks arise from various internal factors, external partner influences, policy issues, and unavoidable circumstances This thesis examines the specific risks faced by SHB during the three-year period from 2009 to 2011, highlighting the challenges encountered in managing these risks.
3.2.1.1 Risks stemmed from SHB’s internal factor
Case 1: Operational risk: errors in documentary examination
Improper delegation of authority and the lack of experience among international payment staff can lead to significant issues A notable case involves an export letter of credit (L/C) dated March 7, 2009, for the Hanoi Steel Import-Export Company, which specified a steel diameter of 5mm Although the company shipped goods and prepared documents in accordance with the L/C and UCP guidelines, the commercial invoice incorrectly stated the steel diameter as 50mm Upon delivery of the documents to SHB, the negotiating bank's payment officers failed to identify any discrepancies, resulting in the documents being forwarded without issue.
Trần Thị Huyên, a representative of SHB, faced a payment refusal from BHF due to a misunderstanding of article 25 of ISBP, which addresses typographical errors SHB's staff incorrectly interpreted a critical error regarding the diameter of steel, mistaking "50mm" for a typographical mistake While ISBP allows for certain misspellings, it emphasizes that numerical errors cannot be overlooked The distinction between "five" and "fifty" highlights the importance of accuracy in documentation This incident serves as a crucial lesson for SHB on the necessity of thorough document checks to secure payments from foreign buyers.
Case 2: Operational risk + credit risk – immature skill of credit assessment staff
Misestimating customer needs and the marketability of imports can lead to failures in meeting safety conditions for payment imports Specifically, SHB's staff often provides inadequately secured guarantees and incorrectly assesses collateral based on practice and regulations Consequently, if an importer cannot fulfill payment obligations, the bank is forced to cover the payment through a mandatory loan, resulting in unproductive capital and bad debts For example, L/C No 018060296ELC0065, valued at USD 470,500, was issued by SHB Khanh Hoa branch at the request of Khanh Hoa Supply Company for importing Korean equipment in 2008 The company was inefficient and unable to make payments at maturity.
In 2009, SHB was required to make a payment on behalf of a Korean beneficiary on the due date, leading to a capital loss for SHB This mandatory loan was subsequently managed through a loan loss provision.
3.2.1.2 Risks due to external factor from SHB’s customers
Case 1: Operational risk – Poor knowledge of foreign trade, international payment and the little understanding of law and business culture of Vietnamese import-export enterprises
Vietnam's import-export enterprises often struggle to fully understand domestic laws, the regulations of their international partners, and essential international payment practices like UCP and Incoterms As a result, they frequently fail to adhere to the stipulated provisions of Letters of Credit (L/C).
Trần Thị Huyên, 23, faced challenges in delivering goods that did not meet the required category, quality, or timely standards, resulting in significant discrepancies in the prepared documents These issues provided foreign buyers with valid reasons to refuse payment, complicating the bank's ability to negotiate the documents effectively.
In the preparation of documents, its customers usually make the following errors
Incomplete documentation often leads to discrepancies in international trade transactions For instance, L/C No 0180123980ELC0025 dated 15/06/2010 is missing a certificate of origin and a certificate of weight Exporters sometimes struggle to identify missing or redundant documents, as seen with L/C No COMMK102203 dated 15/07/2009, where the Hanoi Textile Company submitted three copies of a commercial invoice instead of the required original and two copies Additionally, inconsistencies in document content can arise, such as commercial invoices that fail to accurately describe merchandise per the letter of credit, lack proper shipping terms, or are not issued in the name of the applicant Insufficient insurance coverage, unendorsed insurance certificates, and certificates dated after shipment further complicate matters, as illustrated by L/C No 1256489ELC2587 dated 20/05/2010, which involved the export of rice to Kuwait Company in Germany.
When documents were delivered to SHB, commercial invoice showed three following commodity codes:
After reviewing the documents, SHB sent them to Germany for payment However, due to a decline in rice prices, Kuwait opted not to receive the goods and instructed the German issuing bank to dishonor the transaction, citing discrepancies in the goods' description as per the letter of credit, specifically regarding redundancy in the third commodity.
The dispute between Trần Thị Huyên 24, SHB, and Cantho Food Company highlights the importance of accurate invoice drafting Both SHB and Cantho Food Company rejected the initial reasoning for the dispute, citing sub-article 14(h) of UCP 600 to safeguard their interests This situation illustrates how even minor errors in invoice descriptions can result in significant disputes, ultimately wasting valuable time and financial resources for all parties involved.
Case 2: Moral hazard+ credit risk - Customers deliberately violate their obligations that pledged to the bank
Phuonchung Ltd Company of Commerce and Service, a new client of SHB, requested a letter of credit (L/C) in 2009 to import cars from Korea SHB required a 100% guarantee of the L/C value; however, the company's fixed security covered only 70%, with the remaining amount financed by the bank after assessing the import plan's viability When SHB received the complete documentation from the Korean bank, they notified the importer for payment, but he delayed due to a lack of working capital Consequently, the bank was forced to issue a compulsory loan to fulfill its obligation to the Korean beneficiary by the maturity date.
3.2.1.3 Risks from other unavoidable factors
Case: Country risk - changes of import-export policies in counter parties’ country
In August 2010, SHB issued a letter of credit (L/C No 12658902ILC0023) valued at USD 350,000 for Thanhloi Feed Company to import wheat from Russia However, a government ban on wheat exports due to a severe drought created an unforeseen force majeure situation, leading to the unfulfilled L/C and resulting in lost business opportunities for all parties This left Thanhloi in a challenging position, as the lack of raw materials hindered their ability to fulfill feed contracts with other partners.
3.2.2 Risk management in Documentary Credit at SHB
3.2.2.1 Policies in international payment in documentary credit
To ensure compliance with external policies set by the central bank, it is essential for banks to create and uphold comprehensive legal documents applicable across the organization Adhering strictly to the stipulations outlined in these documents is crucial for effective operation This includes regulations governing the international payment process in documentary credit.
In 2009, SHB revised and updated its internal regulations and procedures to ensure compliance with state laws and SBV regulations, aligning with the bank's new structure and development goals.
Recommendations and conclusions
Recommendations for SHB
The bank should establish official guidelines for conducting the policy review process, ensuring that employees' input is valued Incorporating staff feedback not only improves the effectiveness of policies but also boosts employee satisfaction When employees feel their contributions are recognized, they are likely to adopt a more positive attitude towards their work.
Inadequate training and a poor grasp of letters of credit administration can result in significant issues and rejections Effective training is essential for enhancing the accuracy and efficiency of completing letters of credit, ultimately saving time and money while improving cash flow and profitability Therefore, it is crucial to critically assess the quality of staff training Banks should investigate whether inefficiencies stem from employees' perceptions or the bank's own practices; if the latter is the case, improvements must be made For example, SHB should regularly conduct seminars and experience-sharing sessions for documentary credit staff to deepen their understanding and ensure consistency in document verification, thereby minimizing discrepancies among negotiating banks, beneficiaries, and issuing banks.
SHB must systematically plan, standardize, and evaluate its international payment staff to ensure that all employees, from management to support staff, possess the necessary academic qualifications, professional expertise, and language skills Furthermore, it is essential for staff to demonstrate strong ethical values and a sense of responsibility The bank should also establish a clear and timely reward and punishment system, ensuring the right individuals are recognized or held accountable at the appropriate times Additionally, providing both material and spiritual incentives for innovative proposals is crucial for fostering a motivated workforce.
To enhance communication and efficiency, payment staff should actively influence top-down information flow by proposing reminders from management Additionally, they must stay updated with the latest news from SHBinside to ensure they are well-informed.
To enhance its operations, SHB should prioritize the evaluation of clients' financial status and business plans when they apply for a Letter of Credit (L/C) Additionally, the bank must gain a comprehensive understanding of the clients' business ethics, their banking history, and relationships with partners This thorough assessment will help determine customer confidence and revenue potential, ensuring timely payments Based on these evaluations, SHB can establish appropriate security rates and financing options that safeguard payments while aligning with customer policies.
To minimize country risk, it is essential to establish country credit ceilings based on factors such as political and economic stability, foreign debt commitments, historical payment track records, exchange controls, and protectionist tendencies These factors will influence a country's ability and willingness to meet its payment obligations Once the credit limits for countries are set, SHB must determine credit limits for various institutions within those countries If a local bank poses significant risk, SHB will avoid engaging with it In the case of a high-risk country, credit limits may be reduced or interest rates increased.
The bank must take an active approach in advising clients, particularly in areas such as contract wording and the establishment of letters of credit.
Trần Thị Huyên, 38, emphasizes the importance of understanding the potential concerns for traders and their clients regarding documentary requirements associated with letters of credit It is crucial to limit documentation to only what is necessary for successfully concluding a deal, as excessive documentation can complicate transactions instead of securing payments The consulting services provided enhance the relationship between SHB and its customers while simultaneously mitigating risks for both parties.
For import enterprises, banks can provide essential advice to mitigate risks Importers should ensure that goods are insured against potential risks, allowing them to claim compensation from the insurer in case of any incidents If the exporter purchases the insurance, the document must be endorsed in blank to transfer compensation rights Additionally, the Letter of Credit (L/C) should mandate a pre-shipment inspection upon arrival to minimize transportation risks and ensure the goods meet quality standards, particularly for perishable items like fruits Furthermore, the L/C should require timely notifications regarding shipment details, including vessel name and voyage, enabling importers to track their goods and address any fraudulent activities promptly.
Export enterprises should prioritize selecting a reputable bank for issuing letters of credit (L/C) that maintains a strong relationship with SHB, ensuring reliable payments The L/C must stipulate that a complete set of bills of lading (B/L) is sent through the bank, preventing the importer from accessing goods without payment Additionally, the L/C should avoid complex terms that complicate document preparation Furthermore, the exporter’s bank should provide guidance on the feasibility of the letter of credit to prevent any payment refusals from the issuing bank.
To enhance international payment efficiency and minimize risks, it is essential for the bank to establish and expand a robust network of correspondent banks abroad.
Trần Thị Huyên emphasizes the importance of maintaining updated information on banks, including BIC and SWIFT codes, to streamline the payment process in general and documentary credit transactions Correspondent banks must also regularly refresh their data on domestic financial institutions, using this information to assess reputation and market operations, which aids in establishing transaction limits This comprehensive information is crucial for SHB's international payment division, helping to minimize and anticipate potential risks during transactions.
Recommendations for further studies
Future research may yield different findings due to the evolving nature of the banking system The following suggestions aim to assist those interested in risk management practices within Vietnamese banks, particularly in the context of Documentary Credit and international payment risk management.
This research study examines risk management practices specifically in documentary credit for international payments, acknowledging that risks also exist in other settlement methods such as collections and remittances Expanding research into these alternative methods would provide significant insights for banks Furthermore, conducting studies with importers and exporters in Vietnam and abroad could reveal whether their risk management strategies align with or differ from those employed by banks.
1 Ardrey, William; Perryer, Chris; Keane, Michael & Stockport, Gary (2009)
Prudential Supervision, Banking and Economic Progress: Implementation of Risk Management Procedures in Joint Stock Banks in Vietnam
Available at: http://papers.ssrn.com/sol3/papers.cfm?abstract_id63168 viewed on 17/04/2012
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ISO/DIS 31000 Available at: http://www.rmia.org.au/LinkClick.aspx?fileticket=AWkZuS%2BB6Wc%3D&tabid& midc4 viewed on 07/04/2012