TL;DR: Understanding the difference between a letter of credit and a standby letter of credit is essential for securing global deals. While LCs facilitate payment in trade, SBLCs act as a safety net against buyer default. Learn how each works and when to use them to protect your business in international transactions.
- A letter of credit (LC) ensures payment upon delivery and document verification
- An SBLC activates only if the buyer defaults, functioning as a financial guarantee
- LCs are ideal for routine import/export; SBLCs suit contracts with performance or credit risk
- Key differences include purpose, activation, risk mitigation, and industry use
- AltFunds Global offers expert SBLC structuring for complex transactions
Letters of credit and standby letters of credit serve very different functions in international trade and project finance. Knowing how each works can directly impact deal security and cash flow for importers and exporters alike.
In this blog, we’ll help you distinguish the differences between a letter of credit and an SBLC. Plus, we’ll provide guidance on securing an SBLC of your own.
Continue reading to learn how to navigate global markets by selecting the right financial instrument for your needs.
What Is a Letter of Credit (LC)?
At its core, a letter of credit, or LC, is a financial guarantee issued by a bank on behalf of a buyer. Essentially, an LC ensures that a seller will receive payment upon meeting specific delivery terms. This significantly reduces counterparty risk and fosters trust between unfamiliar partners. That’s why you’ll frequently see them in use in global trade.
Types of letters of credit include:
- Revocable and irrevocable LCs: Most modern LCs are irrevocable. That means they cannot be changed without the agreement of all parties.
- Confirmed LCs: These provide an added layer of assurance with a second bank guaranteeing payment. The second bank is usually in the seller’s country.
- Sight and usance LCs: These define when the seller gets paid. In most cases, it’s either immediately upon document verification or at a later agreed-upon date.
- Export letters of credit: These ensure exporters are paid promptly once shipping and customs documents are submitted. They help stabilize cash flow and reduce payment disputes.
What Is a Standby Letter of Credit (SBLC or SLOC)?
Unlike a traditional LC, a standby letter of credit (SBLC or SLOC) is a secondary payment method. It will only be activated if the buyer fails to meet their obligations. Essentially, an SBLC assures the seller or beneficiary that they’ll still be paid, even if the buyer defaults.
An SBLC is not meant to be drawn upon in the normal course of business. It functions like a guarantee. In contrast, a commercial LC is an active method of payment. This makes the SBLC vs LC conversation meaningful for businesses involved in long-term projects or performance-based contracts.
Key Differences Between LC and SBLC
Below is a breakdown of how each instrument works in practice.
Purpose and Usage
- LC: Facilitates regular trade transactions by guaranteeing payment upon delivery and documentation.
- SBLC: Serves as a backup in case the applicant defaults, used for credit enhancement or contract guarantees.
Activation Conditions
- LC: Automatically activated during the trade cycle when shipping documents are presented.
- SBLC: Only comes into play if the applicant fails to meet contractual or financial terms.
Risk Mitigation
- LC: Reduces performance and payment risk in normal trade.
- SBLC: Provides a layer of insurance against default or non-performance.
Industry Applications
- LCs: Ideal for import/export businesses, especially when dealing with new partners or unstable regions.
- SBLCs: Common in infrastructure projects, international leasing, and corporate finance.
Choosing the Right Instrument for Your Business
For routine import and export, a standard LC is typically enough to keep trade flowing. If your contract involves delayed payment or performance guarantees, however, an SBLC may be a more effective safeguard.
The right choice will depend on your deal dynamics and the level of trust you have in your counterparties. By understanding the fundamental differences between SBLCs and LCs, businesses can negotiate with greater confidence and effectiveness. Ultimately, an SBLC may be key to securing transactions across borders.
How AltFunds Global Can Help
Navigating the types of letters of credit and finding the proper structure can be a complex process. At AltFunds Global, we specialize in delivering tailored SBLC solutions for high-value transactions. Our team brings deep capital market expertise and global banking relationships to the table.
If you’re ready to secure your next deal, work with us to get an SBLC today.