What it means
A letter of credit is a bank's written promise to pay a seller once that seller presents documents proving shipment. An assignment of proceeds sits on top of that promise and redirects some of the cash when it eventually arrives.
The paying bank records the assignment and settles with the assignee directly. Trading businesses frequently buy goods they cannot pay for until their own customer pays them.
Assigning proceeds lets the middle party give its supplier the comfort that the money is coming from a bank rather than from a thin balance sheet. That comfort often secures better payment terms than the trader could negotiate on its own credit.
An assignment of proceeds is not the same thing as transferring a letter of credit. A transfer hands the second beneficiary the right to ship the goods and be paid in its own name, while an assignment hands over money only, and only if the original beneficiary performs correctly.
If the documents are rejected, the assignee receives nothing at all. The mechanics are light.
The beneficiary signs a short irrevocable instruction to the paying bank naming the assignee and the amount, and the bank acknowledges it in writing. Banks charge a modest fee and will not assign more than the face value of the credit.
The trade-off is that the assignee carries performance risk it cannot control. Careful suppliers ask to see the shipping documents before release, or insist on a transferable credit instead, when the trader has no track record with them.
In practice
Real-world examples.
Example
A coffee exporter in a small trading company assigns $210,000 of a $300,000 letter of credit to the co-operative that supplies the beans. The co-operative ships on the strength of the bank acknowledgement rather than the exporter's own credit standing.
Example
A machinery reseller wins an order backed by a letter of credit and assigns part of the proceeds to the freight forwarder handling a complex multi-leg shipment. The forwarder releases the cargo knowing its $40,000 fee is coming out of the same settlement.
Example
A construction materials trader assigns proceeds to two suppliers at once, $180,000 to a cement works and $95,000 to a steel mill, under a single credit. Each supplier receives a separate written acknowledgement from the bank showing its share.
Formula
Calculation
Assigned Amount = Agreed Share of the Letter of Credit Value
Residual to Beneficiary = Letter of Credit Value - Assigned Amount - Bank Charges
A garment trader holds a letter of credit for $500,000 issued by its buyer's bank. The trader owes its fabric mill $320,000 and signs an assignment of proceeds in the mill's favour. The advising bank's assignment and negotiation charges come to $1,500, deducted from the trader's share.
Assigned Amount = $320,000
Residual to Beneficiary = $500,000 - $320,000 - $1,500 = $178,500
The trader's gross margin on the shipment is $500,000 - $320,000 = $180,000, which is 36% of the credit value; after bank charges the retained figure is $178,500, or 35.7%. Crucially, the trader financed a $320,000 purchase without using an overdraft, because the mill agreed to wait for the buyer's bank rather than demand cash up front.Case study
Seen in the real world.
Northwind Fabrics is an invented company used here for illustrative purposes. It is a five-person trading house buying woven cotton in one country and selling finished bolts to a European wholesaler, with annual turnover of roughly $4 million and almost no working capital of its own.
When the wholesaler placed a $500,000 order backed by a sight letter of credit, Northwind's mill demanded either cash in advance or a bank guarantee, neither of which Northwind could provide. The finance manager arranged an assignment of proceeds instead, directing $320,000 of the credit to the mill and obtaining the bank's written acknowledgement. The mill accepted, because its risk was no longer Northwind's balance sheet but the performance of the documents.
In this fictional example the shipment nearly went wrong. The bill of lading showed a slightly different port name from the credit, and the bank flagged a discrepancy that suspended payment for eleven days until the buyer waived it. That delay reminded both parties that an assignment of proceeds transfers cash, not certainty, and that document accuracy protects the supplier just as much as the trader.
Watch out
Common mistakes.
- Believing an assignment of proceeds gives the supplier the right to ship and claim under the credit. It gives a claim on money only, and the original beneficiary must still present compliant documents.
- Skipping the bank's written acknowledgement. An assignment the paying bank has not accepted in writing offers the assignee very little protection.
- Assuming the assigned amount is protected if the credit is amended. If the parties later reduce or cancel the credit, the assignee can be left with nothing unless its consent was made a condition.
Questions
People also ask.
How is this different from a transferable letter of credit?
A transfer moves the right to perform and be paid, while an assignment moves only the cash, so the assignee under an assignment depends entirely on someone else shipping correctly.
Can proceeds be assigned to more than one party?
Yes, a beneficiary can assign shares to several suppliers at once, provided the total does not exceed the credit value and the bank acknowledges each one.
Does the buyer have to agree to the assignment?
Normally no, because the beneficiary is dealing with money it is owed, though the credit itself can be worded to require the applicant's consent.
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