LV Thạc sỹ_Solutions to prevent risks in international payment by letter of credit at BIDV dong do branch

Extra criteria...31 Conclusion of Chapter I...32 CHAPTER II: THE REAL SITUATION OF RISKS MANAGEMENT IN INTERNATIONAL PAYMENT USING L/C AT BIDV DONG DO BRANCH ...33 2.1.. Real situation o

The report is the result of my internship in the International PaymentDepartment of BIDV Dong Do branch – Ha Noi By that time, I have workedwith a great number of people whose contribution to the research It is a pleasure

to convey my gratitude to them all in my humble acknowledgement

In the first place, I would like to express my thanks to Mr … for hissupervision, guidance and encouragement during this time I appreciate all histime and effort in helping me during the time of my internship

In the next place, I would like to express many thanks to all staffs inBIDV Dong Do branch in general and in International Payment Department inparticular, for their warm treatments and enthusiastic helps during myinternship I am very grateful to Mrs …, my supervisor in Dong Do branchoffice, for her encouragements and guidance

Besides, I gratefully acknowledge all lectures and officers fromAdvanced Finance Program for their shared knowledge and experiences

Last but not least, I would like to delivery my gratitude to all of myclassmates in advanced class intake 50 Their supports are one thing making thisthesis possible

CONTENTS

LIST OF TABLES 6

LIST OF FIGURES 6

INTRODUCTION 7

CHAPTER I: OVERVIEW OF INTERNATIONAL PAYMENT USING LETTER OF CREDIT (L/C) AND RISKS PREVENTION IN THESE ACTIVITIES 10

1.1 International payment 10

1.1.2 Roles of international payment 10

1.1.3 Methods of international payment 12

1.2 Letter of Credit method 14

1.2.2 Pros and Cons of L/C method 14

1.2.4 Process of L/C 17

1.2.5 Types of L/Cs 19

1.3 Risk in international payment by L/C 20

1.3.1.2 Technical risks 22

1.3.1.3 Ethical risks 24

1.3.1.4 Political risks 25

1.3.1.5 Objective risk 25

1.3.2 Some method for preventing risks in international payment by L/C 26 1.3.2.1 Improve quality of liquidator and credit staff 26

1.3.2.2 Build complete procedure for L/C transaction 27

1.3.2.3 Setting collateral and buying insurance 27

1.3.2.4 Documents about preventing risks in L/C method 27

1.3.3 Criteria for assessing risks 29

1.3.3.1 Level of collaterals 29

1.3.3.2 Compulsory loan 30

1.3.3.3 Overdue debts 30

1.3.3.4 Extra criteria 31

Conclusion of Chapter I 32

CHAPTER II: THE REAL SITUATION OF RISKS MANAGEMENT IN INTERNATIONAL PAYMENT USING L/C AT BIDV DONG DO BRANCH .33

2.1 Background of BIDV Dong Do branch 33

2.1.1 Foundation and development 33

2.1.2 Organization structure 35

2.1.3 Main products and services 40

2.1.4 Key financial indicators 41

2.2 Special Characteristics affecting international payment activities at Dong Do branch 42

2.3 Real situation of risks in International payment using L/C in Dong Do branch 44

2.3.1 Performance of international activities 44

2.3.2 Real situation of risk prevention in international payment using letter of credit at BIDV Dong Do branch 47

2.3.2.1 Recognition of risks 47

2.3.2.2 Measures of risks 49

2.3.2.3 Solutions from BIDV Dong Do branch 51

2.3.2.4 Criteria of risks in BIDV Dong Do branch 52

2.4 Overall assessment of risks prevention in L/C activities at BIDV Dong Do branch 54

2.4.1 Achievement 54

2.4.2 Limitations 55

2.4.3 Reasons for limitations 56

2.4.3.1 Objective reasons 56

2.4.3.2 Subjective reasons 57

Conclusion of chapter II 58

CHAPTER III: RECOMMENDATION TO RESTRICT RISKS IN INTERNATIONAL PAYMENT USING LETTER OF CREDIT AT BIDV DONG DO BRANCH 59

3.1 Opportunities and challenges for BIDV Dong Do in restricting risks in L/C transactions 59

3.2 Directions to restrict risks in L/C transactions for BIDV Dong Do branch 60

3.3 Recommendation to prevent risks in international payment using L/ C method at BIDV Dong Do branch 61

3.3.1 Recommendation for BIDV Dong Do branch 61

3.3.1.1 Maintaining and enhancing the inspection and supervision 61

3.3.1.2 Maintaining and continuously improving quality of liquidator staff

62

3.3.1.3 Expanding partnership and agency relationship with foreign banks. .62

3.3.1.4 Recommendation for professional activities 63

3.3.1.5 Recommendation for limiting damage when risks occur 64

3.3.2 Recommendation for the Government 65

3.3.2.1 Creating a favorable regulation environment for international activities 65

3.3.2.2 Facilitating the development of exchange market and interbank

foreign exchange market 65

Conclusion of Chapter III 67

CONCLUSION 68

REFFERENCES 69

ABBRIVATION BIDV Bank of investment and development of Viet Nam

L/C Letter of credit

COD Cash on Delivery

CAD Cash after Delivery

ATM Automated teller machine

CRM Customer relationship management

BSC BIDV security company

ROA Return on Assets

ROE Return on Equity

BOD Board of Directors

LIST OF TABLES

Table 1: Key financial indicators 41Table 2: Weight of L/C in international payment at BIDV Dong Do 45

Table 3: Value of Importing L/C in BIDV Dong Do 46

Table 4: Value of exporting L/C in BIDV Dong Do 46

Table 5: Collateral for L/C at BIDV Dong Do 52

Table 6: Compulsory loans for L/C at BIDV Dong Do 53

LIST OF FIGURES Figure 1: Process of L/C 17

Figure 2: Organization Structure of BIDV Dong Do 36

INTRODUCTION

1 Rationale

Today, in the rapid trend of integration and globalization of the world, international trading activities are growing stronger and stronger and keeping a

very important role in the period of industrialization and modernization of ourcountry Export and import become essential bridges for our country to engagewith the active diversified economic life Though that, one nation can reachabundant source of materials, expand market and promote the development ofdomestic production As the result, it brings higher profit for producers,exporters and importers, contributing significantly to the development of thecountry as a whole.

It is possibly said that international payment plays key role indevelopment of international trading Serve as a catalyst for the development offoreign trade, the international payment activities are also constantly beingexpanded and improved To match the diversity and richness of the commercialrelationship, it has established many different payment methods such asremittance method (Remittance), mandated collection method (Collection) andLetter of Credit method (Letter of Credit – L/C) Compared to the first twomethods which are detrimental to one of two parties, buyer or seller, where thecommercial bank is just intermediary and shall not be bound to pay, thedocumentary credit method had proved to be superior when it ensures benefitsfor all parties involved The main advantage of this method is the reason why it

C method In some case, the damage even reaches millions of dollars Therefore,developing and perfecting the process of international paymentactivities, especially researching and preventing the risks occurred in L/Cmethod is one of the most frequent concerns of any bank

Despite being one of the best and biggest banks in Vietnam, BIDValso is not an exception The risks occurring during international payment usingLetter of Credit cause many difficulties to business activities of BIDV, not only

in financial factors but also in reputation of the bank

Therefore, after practicing at department of international payment atBIDV Dong Do branch, stemming from above knowledge, I decided to go with

the thesis: “Solutions to prevent risks in international payment by Letter of Credit at BIDV Dong Do branch”

This thesis studies about the theories of international payment usingletter of credit method, the risks contained in this method and the solutions torestrict these risks After that, this thesis studies about the current situation ofinternational payment by L/C method at BIDV Dong Do branch, beforeproviding some recommendations for both the government and the bank in order

to restrict these risks at the bank

2 Research Objectives

Through this thesis, I intend to propose some possible solutions andrecommendations for the bank and the government in order to restrict risks ininternational payment activities by L/C method at BIDV Dong Do branch

In the thesis, these objectives will be reached by learning about theoverview informational about risks in international payment using L/C,analyzing the real situation of risks prevention in Dong Do branch From those,appropriate solutions and recommendations can be provided

3 Research scope

This thesis focuses on researching on the business performance ofinternational payment activities by using Letter of Credit method at Bank forInvestment and Development of Vietnam – Dong Do branch

All data presented in this thesis research illustrates the real situation ofinternational payment operation at Dong Do branch during three recent yearsfrom 2008 to 2010 and vision to 2015.

5 Research structure

My thesis research consists of four main parts:

Chapter I: Overview of international payment using Letter of Credit (L/C) and the risks prevention in these activities

Chapter II: The real situation of risks prevention in international payment using Letter of Credit (L/C) ay BIDV Dong Do branch

Chapter III: Recommendation to prevent risks in international payment using Letter of Credit (L/C) ay BIDV Dong Do branch

CHAPTER I: OVERVIEW OF INTERNATIONAL PAYMENT USING LETTER OF CREDIT (L/C) AND RISKS PREVENTION IN THESE ACTIVITIES

1.1 International payment

Foreign relationships of each country include many areas such aseconomy, politic, culture, science, engineering, tourism Foreignrelationship can also be divided into two types: commercial and non-commercial relationship

Among these international relationships, economic relationship occupies avery important position, being the basis for others relationships In fact, duringoperation, economic relationship is necessary for and related to all otherrelationships Meanwhile, economic relationship of nations is presented throughinternational payment activities Therefore, international payment activities play

an important role in foreign relationships of each country

1.1.1 Definition

International payments is the implementation of the monetary obligation,arising on the basis of economic activities or non-economicactivities between the organizations or individuals of one country with otherorganizations and individuals of other countries orbetween a countries with an international organization, usually through therelationship between the banks of the countries concerned

1.1.2 Roles of international payment

To the whole economy

International payment is an indispensable link in the chain of economicactivities International payment is an important step in trading

of goods and services between individuals and organizations of countries

International payment contribute to solving the relations of monetary goods,creating a continuous production process and accelerating the circulation ofgoods on an international scale, promoting the circulation of goods betweenbuyers and sellers goes more smoothly, more efficiently Moreover,international payment enhance the economic relationship between countries,making the payment process faster, safely, more conveniently and reducing costfor participants

To the banks

International payment activities help banks meet the diverse needs ofcustomers for financial services much better On that basis, it helps banksincrease revenue, improve the reputation and build customer confidence It notonly helps banks to expand their scope of activities, but also creates acompetitive advantage for the bank in the market mechanism Internationalpayment activities are not only a professional but also a simple operation tosupport and complement the banking business International payment activitiesimplemented well will expand banks’ import and export credit, developactivities of foreign currency, trade finance and international banking

Besides, international activity increases liquidity for banks Whenperforming the operations of international payment, banks can temporarilyattract idle foreign currency funds from firms which have business relations withthe bank in the form of bank awaiting payment deposit

International payment also facilitates the modernization of bankingtechnology The banks will be able to reach the modern technology from foreignpartners and apply the technology to international operation so that it can bedone quickly, promptly and accurately, in order to spread risk, contributing toexpand the scale and banking networks

International payment activities help the banks expand relations withforeign banks, raising its prestige in the international arena, thereby exploiting

the financial assistance of the foreign banks and attract capital from internationalfinancial markets to meet capital needs of banks.

1.1.3 Methods of international payment

There are four main methods of international payment They are Advance method, Documentary Collections method, Open account method andLetter of Credit (L/C) method Each method has different characteristics and isused based on specific situation

Cash-in-With Cash payment method, the exporter can avoid credit risk, since

payment is received prior to the transfer of ownership of the goods Wiretransfers and credit cards are the most commonly used cash-in-advance optionsavailable to exporters However, requiring payment in advance is the leastattractive option for the buyer, as this method creates cash flow problems.Foreign buyers are also concerned that the goods may not be sent if payment ismade in advance Thus, exporters that insist on this method of payment as theirsole method of doing business may find themselves losing out to competitorswho may be willing to offer more attractive payment terms There are several

types of cash payment in international trading They are Cash on Delivery

(COD) – the transaction in which payment for a good is made at the time of

delivery, and Cash before Delivery (CBD) – the payment method in which

an order is processed when received, but is shipped only upon receipt of

full payment and the Cash after delivery (CAD or deferred payment) – the

transaction in which the payment has been incurred and will be paid back atsome point in the future

Letters of credit (LCs) are among the most secure instruments available

to international traders An LC is a commitment by a bank on behalf of thebuyer that payment will be made to the exporter provided that the terms andconditions have been met, as verified through the presentation of all requireddocuments The buyer pays its bank to render this service An LC is useful whenreliable credit information about a foreign buyer is difficult to obtain, but you

are satisfied with the creditworthiness of your buyer’s foreign bank An LC alsoprotects the buyer since no payment obligation arises until the goods have beenshipped or delivered as promised.

A documentary collection is a transaction whereby the exporter entrusts

the collection of a payment to the remitting bank (exporter’s bank), which sendsdocuments to a collecting bank (importer’s bank), along with instructions forpayment Funds are received from the importer and remitted to the exporterthrough the banks involved in the collection in exchange for those documents.Documentary collections involve the use of a draft that requires the importer topay the face amount either on sight (document against payment—D/P) or on aspecified date in the future (document against acceptance—D/A) The draft listsinstructions that specify the documents required for the transfer of title to thegoods Although banks do act as facilitators for their clients under collections,documentary collections offer no verification process and limited recourse in theevent of nonpayment Drafts are generally less expensive than letters of credit

An open account transaction means that the goods are shipped and

delivered before payment is due, usually in 30 to 90 days Obviously, this is themost advantageous option to the importer in cash flow and cost terms, but it isconsequently the highest risk option for an exporter Due to the intensecompetition for export markets, foreign buyers often press exporters for openaccount terms since the extension of credit by the seller to the buyer is morecommon abroad Therefore, exporters who are reluctant to extend credit mayface the possibility of the loss of the sale to their competitors However, with theuse of one or more of the appropriate trade finance techniques, such as exportcredit insurance, the exporter can offer open competitive account terms in theglobal market while substantially mitigating the risk of nonpayment by theforeign buyer

Last but not least, Telegraphic transfer is also a popular method in

international payment activities Telegraphic Transfers are also known as TelexTransfers, abbreviated TT Originally, telegraphic transfers made use of

the telegraph as a means of transferring money from buyer to the seller.Telegraphic Transfers are usually fairly expensive, due to the fast nature of thetransaction.

1.2 Letter of Credit method

1.2.1 Definition

Letters of Credit have been a cornerstone of international trade datingback to the early 1900s They continue to play a critical role in world tradetoday For any company entering the international market, Letters of Credit is animportant payment mechanism which helps eliminate certain risks

Letter of Credit (L/C) method is a payment method, in which due to the request of customers, a bank will issue a specific letter (called a letter of credit- credit) committed to pay or accept receiving bills for a third party when this party presented to the bank the payment vouchers in accordance with the terms and conditions specified in the letter of credit.

Letter of Credit method (L / C) is the internationalpayment method which is considered the most preeminent method and isused most widely in international payment, accounting for more than 70% ofthe total payment value The main reason is that this methodensures a relative benefit for both buyers and sellers

1.2.2 Pros and Cons of L/C method

a Pros

To the importers

 Importer is assured that the Exporter will be paid only if all terms andconditions of the Letter of Credit have been met

 Importer is able to negotiate more favorable trade terms with the Exporterwhen payment by Letter of Credit is offered.

To the exporters

 The risk of payment relies upon the creditworthiness of the Issuing Bank andthe political risk of the Issuing Bank’s domicile, and not the creditworthiness

of the Importer

 Exporter agrees in advance to all requirements for payment under the Letter

of Credit If the Letter of Credit is not issued as agreed, the Exporter is notobligated to ship against it

 Exporter can further reduce foreign political and bank credit risk byrequesting confirmation of the Letter of Credit by a Canadian bank

b Cons

To the importers

 A Letter of Credit does not offer protection to the Importer against theExporter shipping inferior quality goods and/or a lesser quantity of goods.Consequently, it is important that the Importer performs the appropriate duediligence to assess the reputation of the Exporter If the Exporter actsfraudulently, the only recourse available to the Importer is through legalproceedings

 It is necessary for the Importer to have a line of credit with a bank before thebank is able to issue a Letter of Credit The amount outstanding under eachLetter of Credit issued is applied against this line of credit from the date ofissuance until final payment

1.2.4 Process of

L/C

(Source: Wikipedia.com – Letter of Credit)

The process of a L/

C transaction follows below stages:

Stage 1: The applicant open a Letter of Credit in The issuing bank The issuing

bank sends it to the confirming bank to get the confirmation of the beneficiary

Stage 2: The applicant obtains a commitment from the issuing bank to advance

a specified amount upon receipt of a bill of lading (stating that the goods hasbeen shipped)

That commitment is given to the confirming bank

Stage 3: After the beneficiary finishes the goods delivery duty, the beneficiary

present documents (a bill of lading, a commercial invoice, etc.) The validity ofthese documents will be checked by the confirming bank

If the presentation is not complying, discrepancies will be sent to the beneficiary

to amend documents

Stage 4: When the presentation is complying, the confirming bank will

negotiate, and forward the documents to the issuing bank

Stage 5: The process of checking validity in the issuing bank:

Figure 1:Process of L/C

 If the issuing bank does not constitute a complying presentation, thenotice of discrepancies will be sent to the confirming bank and thebeneficiary

 If the applicant and the beneficiary accept to waive the discrepancies,keep implementing the following 2

 If cannot waive, the documents will be sent back to the confirming bank

2 If the issuing bank constitutes a complying presentation, the confirmingbank must:

 Honour if the credit if available (by sight payment, deferred payment,etc.)

 Negotiate, without recourse, if the credit if available by negotiation withthe confirming bank

à The seller (The beneficiary) obtains the payment

Stage 6: The issuing bank releases the bill of lading to the applicant after it has

been paid, and with the bill of lading, the applicant can obtain the goods fromthe carrier

gives the buyer maximum flexibility This kind of L/C does not exist in ourcountry.

Irrevocable L/C

The terms and conditions of L/C cannot be changed This kind of L/C exists

in Bangladesh It is a definite undertaking of the issuing Bank, provided that thestipulated documents are presented to the nominated Bank Once thiscommitment has been entered into, the bank cannot disown its responsibilitywithout the agreement of the beneficiary A unilateral amendment orcancellation, as in the case of a revocable credit is not possible in caseirrevocable, unconfirmed credit Since under the documentary credit a debtrelationship exists only between the issuing bank and beneficiary, it is advisable

to assess the issuing banks standing as well as the sovereign and transfer risk ofthe country involved

 There are also some special types of L/C

Revolving Credit

A Revolving credit is one where under the terms and conditions thereofthe amount of the credit is renewed or reinstated without specific amendment tothe credit being needed It can revolve in relation to time or value

Back to Back Credit

Another special type of L/C is issued in Bangladesh that is called Back (B to B) L/C where the applicant opens an L/C against another export L/C.These B to B L/Cs are USANCE L/Cs

Back-to-1.3 Risk in international payment by L/C

In recent times, the international payment operations of commercial banks inVietnam are developing much more than ever before, such as investments toimprove professional training for staff, as professional payments and

international investment in the development of modern payment technology.However, the international payment operations still contain many potential risks.Risks in international payments when occur cause many negativeimpact to the commercial bank not only in financial factors but also inreputation Many banks may be facing the risk of bankruptcy due to large lossescome from risks in international payments Therefore, the expansion

of international payment of commercial banks must be coupled with theprevention and reduce risks

Up to now, there are different definitions of risks, but almost of them arebelonging to two main sentiments: traditional sentiment and neutral sentiment.According to traditional sentiment, "risk" is not good, bad things suddenlyhappen or risk is simply the unfortunate (unlucky) In the point of view ofneutral sentiment, "risk" is the uncertainties may occur, or the random that can

be measured by probability If we consider risks only in rangeinternational payments, the risk in international payment is just the economicalrisks incurred in the process of conducting international payment due to manyreasons from the parties participating in international payments activities

or other objective reasons

1.3.1 Types of risks in L/C transactions

Before going to analyze the risks in international payment by Letter ofCredit, we need to understand when it comes to risks for banks in generaland international activities settlement in particular, that not only the capital loss,

it also is expressed to other aspects such as stuck in the payment of capital,extend time in payment, deferred payment, delinquency, diminishing ofreputation, etc These risks may arise from any stage in the paymentprocess from issuing L/C, to confirming L/C until the period of liquidating the

payment In these stages, risk in liquidating period is primary and most likely tohappen to the bank.

During practicing at BIDV Dong Do branch, with theassistance and enthusiasm to provide information from siblings andremittances room, I learned that "In addition to common risks such

as unpredictable changes in economy, politic and social environment,unavoidable risks such as natural disasters, fires and floods, etc, ethicalrisk, technical risk and foreign exchange rate risk is the threats that happen mostoften in international payment by L/C activities”

1.3.1.1 Risks from weak financial condition of customers

This is the main reason and most likely to happen in L/Cactivities, the financial strength of exporters and their experience in import andexport activities as well are heavily rely on banks As the results, their businessperformance also directly affects the prestige and reputation of bank Therefore,the bank faced with potential risks almost the time

Underwriting L/C requires the consent of the credit department, and thedecision of making credit to each customer also rely heavily on the assessmentabout customer’s financial conditions of credit department’s staff If employee

of credit department wants to complete the tasks of assessing financialconditions of customers, they need abroad understanding of foreign tradeactivities as well as experience in credit activities Especially in the commercialbanks in Vietnam in the current period, many banks face difficulties in findingand recruiting credit officers in general and knowledgeable staff in foreigntrading credit sector in particular

In many cases, even the credit officers know the creditquality of customers is at an alarming rate, however, due to some sensitivereasons such as relationship, the credit department has to accept creditguarantees to customers and this brings potential risks to the bank

The credit strength of customers is of great concern, particularly in theperiod of strong growth of foreign trade and full of turbulence today Onlyenterprises with large capital and abundance of experience in foreign tradeactivities can survive and develop Therefore, the bank always noticesand closely supervises their clients.

1.3.1.2 Technical risks

Technical risks are the risk due to technical errors in process of liquidatinginternational payment

a Technical risks of Issuing Bank

 In operating the L/C transaction, if the issuing bank doesnot carefully check the application for opening L/C, it will lead the bank

to accept the terms contained risks for the bank later

 Upon receipt of the documents presented, if the issuing bank accepts to payfor the draft without properly checking the documents, if the documents haveerrors and the importers does not accept, and then the bank cannot askimporters for money

 In the case imported goods arrive before the documents; the issuing bank isrequired to accept payment to beneficiaries when have not seen thedocuments Without the prior acceptance of importers on the repayment,the issuing bank is at risk if the documents contain errors, then importers willnot accept to pay and banks cannot get reimbursement from importers

 Issuing Bank has to make payments to beneficiaries according to the L/

C even in the case the importer lost its solvency or bankruptcy due

to business losses and cannot pay to the bank

 If the L/C’s regulation of the issuing bank is not the fullset (full set off bills of Lading), the imported can get imported goods when

present only one or few parts of the bill, while who pay for the goods is theissuing bank as committed to the L/C.

 Issuing bank is at risk if not acting in accordance with UCP 500, that is thebank makes decision to reject the documents in the period of exceed 7working days of the bank, according to the UCP500 is not more than 7working days

b Risks to confirming banks

 If documents are presented as perfect, confirming bank has to pay theexporters even the confirming bank cannot get refund money from theissuing bank Thus, the confirming bank has to accept credit risk with theissuing bank

 If the confirming bank confirms or accepts the terms on bill ofexchange without checking the documents properly, so when the documentshave errors, the issuing bank does not accept to pay the confirming bank,the confirming bank cannot claim money from the issuing bank

c Risks to the advising bank

 Advising bank has the responsibility to ensure that credit is true, andmust verify the signature, security key (test key), and documents form of theissuing bank before sending the notice to the exporters Risks happen to theadvising bank when the bank notices a L/C is invalid or modify a L/C has noeffect while the bank has not confirmed the security key or authorization ofsignatures of L/C issuing bank

1.3.1.3 Ethical risks

Ethical risks in L/C are the risks happen when one or more partiesparticipating in the L/C activities intend not comply their obligations asstipulated by the L/C, which negatively affects the interests of the other parties

There are many cases in which the importers, exporters or even both ofthem intend to break the obligations that committed in the L/C documents,causing many difficulties for the bank in order to complete the L/C payment.Moreover, when the beneficiaries present completely the documents, the issuingbank has to make payments to beneficiaries according to the L/C even in casesthe importer deliberately not pay back to the bank.

In addition, in some cases banks will become victims of the frauds inwhich importers and exporters colluding to hack money from banks Thissituation is very popular in developed countries with many high-tech crimecorporate flourishing

In Vietnam, the common case is that Vietnamese firm when participating

in L/C transaction has been defrauded by partners in foreign countries, leading

to many losses to Vietnamese firm and also the Vietnamese banks that involved

in this transaction

Besides, sometimes, the banks are the ones who cause ethical risks Theissuing bank of the L/C may violate its commitment in L/C by many actionssuch as delaying or denying making payment or coughing with one party,causing many difficulties to other parties in the payment process

1.3.1.4 Political risks

Letter of credit is the method that is commonly used in internationalpayments The participants in letter of credit method live in many differentcountries and participate in many different sectors of the economy Therefore,the Letter of credit method is strongly influenced by the political environmentand social backgrounds of each country A small fluctuation either politically orsocially of a country also affects the movements of internationalbusiness, the business activities of enterprises, and also affecting theinternational payment activities

Political risks in international payment using Letter of Creditmethod are risks stem from the political instability of countries involved inthe liquidation process In general, these risks due to changes in legalenvironment and policies of the government, such as sudden changes in importand export taxes, import and export quotas, foreign exchange mechanisms (asforeign exchange restrictions), import and export laws, etc These changes makethe conditions on financial markets change unpredictably, causing manydifficulties to all parties participating in the L/C, so that the importers, exportersand banks cannot perform their obligations, making the L / C can becanceled, causing damage and losses to the parties.

Besides, the riots, protests or wars, coups, strikes in countries also havenegative impacts on the international payment activities, causing many obstaclesfor parties in operation of the L/C Moreover, the economic blockadethat the big countries put on small countries due to political policies of bigcountries such as the case of Cuba, Iraq, Myanmar, etc also brings risks forany economic units which have import-export activities with those countries.1.3.1.5 Objective risk

One type of objective risks that the parties participating to the L/Coperation often face to is economic downturn, heavy debt situation

of the country or even a financial crisis As the economy of a country inrecession, the crisis will lead the operation of banks to be suspended, or evenlead the bank to bankruptcy, thereby affecting to international paymentsactivities If the foreign debt of a nation is too large, some policies such asincreasing tax, currency devaluation will be applied, thus reducing theaffordability of importers and the bank faces risk that cannot claim money fromimporters

Foreign exchange rate risk also is a type of objective risks that bankshave to face to in international payment activities L/C method is often

associated with different currencies, so that sudden changes of exchange rate arealso a huge risk for bank although it does not come from the payment process

In addition, the risks from majeure force such as natural disasters, fires,floods in the participating countries, missing documents also care someobjective risk in the international payment by L/C process

1.3.2 Some method for preventing risks in international payment by L/C 1.3.2.1 Improve quality of liquidator and credit staff

Liquidators who directly check the documents of L/C and operate the L/Ctransaction and credit staffs who directly assess the financial conditions ofcustomers play essential role in international payment using L/C activities.Therefore, in order to limit technical risks and ethical risks those occur in theprocess of checking L/C or assessing customers’ performance, knowledge, theprofessional skills and ethic of these employees must be high So in some case,when the quality of liquidators and credit staff is still low, causing risks in L/Cprocesses, the banks must have some specific solutions to improve the quality ofthese employees such as organizing training course about L/C, firing low qualityemployees and recruiting new ones with higher skills This is a possiblesolutions that usually used by banks

1.3.2.2 Build complete procedure for L/C transaction

Building a complete procedure will contribute to prevention of risks intransaction that come from the mismatching and misunderstanding in L/Cprocess The procedure is required to provide the rules that will be applied foreach specific case that can happen in the L/C process and the actions should bedone in these cases The procedure also should provide the ways, the methods,the rules in checking documents or assessing customers and setting collateral.Therefore, if the banks can build complete procedures for their own internationalpayment activities, they will be able to prevent much of risks that can happen inthese transactions

1.3.2.3 Setting collateral and buying insurance

Going along with the risks prevention, limiting the losses and damageswhen the risks occur is also very important Setting specific collateral level foreach customer based on their financial conditions, business performance andtransaction history with the bank will help the bank recover capital when riskshappen and customers cannot payback in cash In addition, in some transactionwhere in value payment is large and the possibility of risks happen is high,buying insurance for the L/C contract will be useful solutions in order tolimiting the losses and damages caused by risks

1.3.2.4 Documents about preventing risks in L/C method

Besides solutions above, there are some international documents have beenpublished in order to set some common rules for process of L/C transaction,contributing to risk prevention and losses limitation

a UCP 600

Uniform Customs and Practice for Documentary Credit – abbreviated asUCP - of International Chamber of Commerce, although only is the drafted ofregulations by the International Chamber of Commerce (Paris) but it is regarded

as law in international banking transactions and documentary credit and iswidely used in the world This shows the essential role of these rules UCP 600

to create a legal framework for all international transactions activities of banks

in the world

Basically, UCP600 has many new advanced features to define and solve theconflict in the international payment using documentary method which have notbeen solved in UCP500 However, of course, besides these achievements, UCPalso has some limitations and has not solved all the issues which are veryextensive and complex in reality

b ISBP681

International Standard Banking Practice 2007 for the Examination ofdocument in documentary credit (ISBP 681) was published by InternationalChamber of Commerce in 2007 This regulation document is an additionalpractical material for UCP600 ISBP does not modify UCP 600 but onlyclearly explained in detail how the rules in UCP 600 are applied in everydayinternational transactions

Through the use of ISBP, those who work on checking documents indocumentary credit can practices to suit the works that their colleagues aroundthe world are using Therefore, the birth of ISBP 681 contributes significantly toreduce the number of documents that are denied due to the invalid in the firstpresentation

c Incoterms 2010

The Incoterms rules or International Commercial terms are a series ofpre-defined commercial terms published by the International Chamber ofcommerce widely used in international commercial transactions A series ofthree-letter trade terms related to common sales practices, the Incoterms rulesare intended primarily to clearly communicate the tasks, costs and risksassociated with the transportation and delivery of goods The Incoterms rules areaccepted by governments, legal authorities and practitioners worldwide for theinterpretation of most commonly used terms in international trade They areintended to reduce or remove altogether uncertainties arising from differentinterpretation of the rules in different countries First published in 1936, theIncoterms rules have been periodically updated, with the eighth version —Incoterms 2010 — having been published on January 1, 2011

1.3.3 Criteria for assessing risks

In the letter of credit credit method, the relationship between the banksand exporters and importers started arising from the L/C is issued From there,

risks that banks may face also are generated In order to assess the extent

of these risks, it is often based on some criteria such as the levels of collaterals,compulsory loans and overdue debts

Collateral level can be below 100% or equal to 100% depending on thespecific customers, and be high or low depends on many factors Such as:

 Solvency of customers: the higher ability to pay the lower rates of collateraland vice versa

 Types of customers: the higher prestige of customers to the bank, the lowerrate of collateral and vice versa

 Types of goods, the changes in prices of goods and the consumption ofgoods on the market: the more easily the goods can be consumed, themore stable and less volatile market prices are, the collateral level will belower and vice versa

On the basis of the above factors, the bank will determine specificcollateral margin for customers Lower collateral margin means that ifsomething not good suddenly happen; the bank will face more risks

1.3.3.2 Compulsory loan

When the importer cannot afford to pay for the banks, banks are forced todebit the customer account of the importer at the bank But if importer’saccounts are not sufficient balance to pay, forcing banks to give loans toimporters with overdue interest rate This overdue debt the bank doesnot want to lend importers but only by this way then the bank can charge theimporters in the future It is imperative that the loans that the banks have tomake

This indicator reflects the percentage of total value of L/C payment thatthe importers have not paid and the bank cannot immediately recall The highercompulsory loan rate, the higher risks that the banks have to face to

1.3.3.3 Overdue debts

When compulsory loans are made, if after a period the importers arecapable to pay both principal and interest, the banks get back the money thatthey lend to importers before However, if the importers’ businesses are goingnot well, the importers suffer many losses or even go to bankrupt In these cases,they cannot afford the payment to the banks, and then the compulsory loan will

be overdue or even never be paid back This indicator reflects the value ofmoney that the bank may not be able to recover and its percentage in the totalvalue of payments

1.3.3.4 Extra criteria

Number of disputes by L/C is the number of disputes in international

payment using L/C that occurs and directly related to the bank This numbershows how many disputes in which the banks may suffer losses and damage thatthe banks have been facing to and their impact on the business of the bank ingeneral and international activities in particular The higher this number, themore losses the bank may suffer and the more negative impact to businessactivities and reputation of the banks

Moreover, beside overdue debt rate, the number of overdue debt also is

criteria to assess the risks of the bank This number shows the quantity andfrequency of L/C transaction in which the seller cannot pay to the bank andcreate overdue debt to the bank The higher this number, the more frequently theL/C transaction become overdue debt and may cause risks to the bank

These above criteria shows an overview of risk management situation ininternational payment using letter of credit method at a commercial bank, fromwhich we can assess the situation of risks in L/C activities and have somesolution to manage risk in a bank is the most effective way

Conclusion of Chapter I

In Chapter 1, the thesis has focused on the following issues:

The thesis has shown the definition and concept of international paymentand roles of international payment in economy of each country and of the world

It also provides the concept and characteristics of methods that are usually used

in international payment

In chapter I, the thesis has introduced the concept and implementationprocess of letter of credit method, types of letter of credit, parties participating inthis method and also the pros and cons when using this method This is thebasis for analyzing the risks hidden in letter of credit method to all relevantparties: importers, export and banks, especially banks

In the next step, chapter I of the thesis shows the types of risks contained

in L/C method and its causes In addition, in chapter I, some possible solutionsfor preventing risks in international payment using L/C have been provided Italso provides general information about some regulationdocuments for international payment activities and for the prevention of risks

in international payments Since then, understanding and mastering the meaningand importance of these documents is essential to preventing risks in L/Cactivities

Last but not least, the thesis provides some criteria to assess riskssituation in the bank Once aware of the risks arising banks, thesis will be based

on these information to analyze the situation of risks occurring in theinternational payment by L/C method in BIDV Dong Do branch in chapter II

CHAPTER II: THE REAL SITUATION OF RISKS MANAGEMENT IN INTERNATIONAL PAYMENT USING L/C AT BIDV DONG DO BRANCH

2.1 Background of BIDV Dong Do branch

2.1.1 Foundation and development

Bank for investment and development of Vietnam

In 26/4/1957, according to decision 177-TTg of prime minister, VietnamConstruction banks had been established as the precursor of Bank for Investmentand Development of Vietnam (BIDV) nowadays Through different stages ofdevelopment with different requirements and conditions, as the first specializedbank in Vietnam, BIDV always plays an important role in the sector ofinvestment and development in particular and the whole economy in general Up

to now, after over 54 years of operation and development, the Bank has fundedmany investment projects and key economic areas in our country and also builtthe largest enterprise customers, while confirming the implementation ofprestigious items, objectives, economic programs and social security of thecountry BIDV has projected itself to be not only the leading banking serviceprovider in Vietnam but also the leading providers in other services such asfinancial investment, insurance, brokerage services and consultant with variety

of services including traditional services such as trade finance, fundmobilization, lending, etc as well as modern banking services such as treasuryand derivatives, card services, e-banking and so on BIDV always hasinnovations and technology applications serving effectively for the managementand development of advanced banking services, developing the most advancedinformation technology systems such as ATM, POS, Contact Center, toconsolidate and develop all infrastructure systems such as monitoring ofnetwork resources, network-oriented services (SONA), access controlworkstation; enhance information processing service, banking executivemanagement MIS; CRM

Originally being established as a specialized bank servicing financialinvestment for construction projects of the government, BIDV today has growninto a universal bank with presences in all major cities and provinces in Vietnamand also in some foreign countries, comprising 1 Head Office in Ha Noi, 114branches and over 500 transaction offices nationwide The non-banking network

of BIDV consists of Investment Securities Company (BSC), Insurance andInvestment Company (BIC) and Leasing Company I & II with more than 20branches across the country BIDV also has representative on all three sectors ofbanking, insurance and financial investment in many countries such as Laos,Cambodia, Russia, etc and co-operate effectively with foreign partners such asBank VID-Public Venture (partner Malaysia), Bank of the Lao-Vietnamese jointventure (with partner Laos), Vietnam Russia Joint Venture Bank – VRB (withpartners Russian), BIDV Tower Joint Venture Company (Singapore partner),venture investment management BIDV – Vietnam Partners (U.S partner), etc.With more than 16,000 officers, employees and financial consultants who arewell-qualified and well-trained with full experience and have been accumulatedand transferred for over half of a century, BIDV always brings its customers thebenefits and reliability

BIDV Dong Do branch

Being established on July, 5th 2004 under the decision 191/QD-HDQT

of BIDV’s board of managers by upgrading transaction office II of transactioncenter I, Dong Do branch started operating on May, 7th 2004, with theheadquarter being on 14 Lang Ha street, Ba Dinh district, Ha Noi.Theestablishment of branches contributed to the target of expanding network,gaining market share and developing the brand of BIDV This branch operatesunder one-door transaction model with modern banking process and technology,following the project of modernization in banking system in Vietnam today

With the history of development, BIDV Dong Do Branch had beenasserting itself as a pioneer in the establishment of BIDV system for the purpose

of professional development focused retail bank, for those serving primarily are