Bill of Exchange
What is a bill of exchange?
A bill of exchange is a written order, or financial instrument, used to direct a person or organization to pay a specified sum of money to another person or organization at a future point in time. Bills of exchange are commonly used in international trade to make payments between parties who may be based in different countries. When, a bill of exchange applies to domestic transactions is typically referred to as a “draft” or “draught”.
Like promissory notes and checks, bills of exchange are often used as a way to make payments without using cash. This can be helpful in situations where one party may not have enough cash on hand to pay the other party or when one party wants to avoid the hassle and expense of converting currency.
What are bills of exchange used for?
Bills of exchange can be used for a variety of purposes, but they are most commonly used in international trade.
For example, a bill of exchange (BOE) may be used to make payments for goods or services that have been shipped from one country to another. The BOE would typically be drawn up by the party selling the goods or services (the exporter) and would be payable by the party buying the goods or services (the importer).
They can also be used by startups and small businesses to get funding from investors. In this case, it would be drawn up by the company and would be payable by the investor.
When do startups use a bill of exchange?
Startups may use bills of exchange when they are seeking funding from investors.
Bills of exchange can be a helpful way for startups to get funding without giving up equity in their company. Instead of selling shares in the company, the startup can simply sell one to an investor. It would be payable by the investor, and the startup would receive the funds it needs to continue operating.
It can also be used by startups to pay suppliers and vendors. In this case, it would be drawn up by the startup and would be payable by the supplier or vendor.
How does a bill of exchange work?
A bill of exchange (BOE) typically involves two parties: the drawee, and the payee:
When a BOE is created, the drawer writes an order for the drawee to pay a specified sum of money to the payee at a specified date in the future. It is then signed by the drawer and delivered to the drawee.
Does a bill of exchange accrue interest?
Generally, bills of exchange do not accrue interest, which makes them essentially post-dated checks. The reason for this is that bills of exchange are typically used for short-term payments, such as in international trade. In most cases, the payment will be made within a few days or weeks, so there is no need to charge interest.
However, in some cases, they may accrue interest. For example, if a certain date is specified in the bill of exchange for payment, then interest may accrue if the drawee does not make payment by that date.
What’s an example of a bill of exchange?
Suppose company XYZ purchases $100,000 worth of goods from company ABC. Company ABC draws up a bill of exchange, which makes company XYZ the drawee and company ABC, the drawer.
It may specify that company XYZ must pay $100,000 to company ABC within 60 days. If company XYZ does not make payment within that time period, interest may accrue on the outstanding balance (the rate must be specified).
In 60 days, company ABC will leverage its rights and demand payment. If company XYZ is unable to pay, company ABC can pursue litigation for payment.
Who are the parties of a bill of exchange?
The two parties of a bill of exchange are the drawer, and the drawee.
- The drawee is the party who needs to repay the capital. Though, it is important to note that sometimes the drawee is not the borrower—it might be a third party.
- The drawer is the party who lent the money and is designated as the recipient of the payment from the drawee.
What are the different types of a bill of exchange?
There are several types of bills of exchange, including:
- Trade Bill: A trade bill is used in international trade. Trade bills are typically used to finance the purchase of goods between two companies.
- Accommodation Bill: An accommodation bill is used to provide financing to a company. Accommodation bills are typically used when a company does not have enough cash on hand to cover its expenses.
- Documentary Bill: A documentary bill is supported by documents to confirm the genuineness of sale or transaction. Documentary bills are typically used in international trade to finance the purchase of goods between two companies.
- Demand Bill: a demand bill is payable when requested. They do not have a fixed date of payment, so the drawee must maintain applicable cash on hand to accommodate such requests.
- Usance Bill: An usance bill is time-bound, meaning payment must be satisfied within the specific period of time.
- Clean Bill: A clean bill does not come with supporting documents, so it comes with a significantly higher interest rate.
- Supply Bill: A supply bill is drawn between suppliers or contractors and the government.
What’s the difference between a bill of exchange and a check?
The main difference between a bill of exchange (BOE) and a check, is that a check always requires a bank to satisfy the payment, whereas a BOE may or may not involve a bank to satisfy the payment. Also, checks are paid out on receival, whereas bills of exchange may specify payment in the future. Finally, while checks are intended for direct payment, bills of exchange simply outline the drawee’s indebtedness to the drawer.
What’s the difference between promissory notes and a bill of exchange?
The primary difference between bills of exchange and promissory notes lies in the transferability of the note and the ability to make a third party satisfy the payments requirements of the note. Bills of exchange are transferable and can involve third parties, whereas promissory notes typically cannot and do not.
When is a bill of exchange considered a bank draft?
A bill of exchange is considered a bank draft when it is issued by a bank or involves two banks.
Bank drafts are sometimes used in international trade to finance the purchase of goods between two companies. In this situation involving importers and exporters, are two related forms of sub-drafts including: sight drafts and time drafts.
Sight drafts allow exporters to hold ownership of the goods until they are paid by importers who have received the goods. Time drafts enable importers to pay the exporter at a future date following their receipt of the goods. The key difference lies in the period between the receipt of the goods and the payment for said goods.
What are the benefits of raising capital via a bill of exchange?
There are several benefits of raising capital via a bill of exchange, including:
- They are a flexible form of financing, as they can be used for a variety of purposes.
- They typically do not accrue interest, so they are an inexpensive form of financing.
- They can be used to finance the purchase of goods between two companies.
- They can be used to provide financing to a company.
What are the drawbacks of raising capital via a bill of exchange?
There are several drawbacks of raising capital via a bill of exchange, including:
- They are typically not suitable for long-term financing.
- New startups may find it difficult to negotiate bills of exchange with suppliers.
- They are a complex financial instrument, so there is a risk of misunderstanding the terms.
- Some locations may have restrictions on bills of exchange.
What are the key features of a bill of exchange?
There are several key features of a bill of exchange, these include:
- Must be in writing and signed by the drawer.
- Must contain an order to make a specific payment.
- Must have a maturity date, when payment is due.
- Must be made payable to a specific person or company.
- Must be signed by both parties.
Can you negotiate the terms of a bill of exchange?
Yes, you can negotiate the terms of a bill of exchange. For example, you can negotiate the interest rate, the payment date, and the amount of money to be repaid. You can also negotiate other terms, such as whether it is to be paid in cash or by check.