The core principle, and its consequence
An L/C deals in documents, not goods. This is the source of both its strength and its central weakness.
The strength: you decide which documents the seller must produce. Require a third-party pre-shipment inspection certificate and the factory cannot get paid without passing inspection.
The weakness: if the documents conform, the bank pays, even if the shipment is defective. The bank is not looking at your goods and has no obligation to.
Cost and practicality
- Issuing fee: roughly 0.75-1.5% of value, often with a minimum
- Amendment fees: $50-150 each, and first-time L/Cs are amended often
- Discrepancy fees: $50-100 per discrepancy
- Setup: two to four weeks, plus a credit line or collateral from your bank
Discrepancy rates on first presentations are high, commonly cited at well over half. Each discrepancy means a fee, a delay, and a request for your waiver.
Below roughly $100,000 in order value, the fees and lead time usually outweigh the protection.
Where it fits
L/Cs make sense for large, repeat, commodity-style orders where the specification is unambiguous and both parties' banks are used to the paperwork. For a $60,000 first order of custom goods, the document-matching burden tends to exceed the risk it retires.