Definition of 'Documentary Collection'
A trade transaction in which the exporter hands over the task of collecting payment for goods supplied to his or her bank, which sends the shipping documents to the importer’s bank together with payment instructions. A documentary collection (D/C) is so-called because the exporter receives payment from the importer in exchange for the shipping documents, with the funds and documents channeled through their respective banks. While D/Cs are less complicated and cheaper than letters of credit, they are riskier for exporters because they do not have a verification process and offer limited recourse if the importer does not pay. They are therefore only recommended in situations where the exporter and importer have a long-standing trade relationship.
Investopedia explains 'Documentary Collection'
A key document in documentary collections is the bill of exchange or draft, which is a formal demand for payment from the exporter to importer. D/Cs can be classified into two types, depending on when payment is sought by the exporter: 1) documents against payment (D/P), which requires the importer to pay the face amount of the draft at sight, or 2) documents against acceptance (D/A), which requires the importer to pay on a specified future date.
In a D/P collection, the exporter ships the goods and then gives the shipping documents to his or her bank (which is also known as the remitting bank). The bank forwards these documents to the importer’s bank (known as the collecting bank), which will only release the documents to the importer on receipt of payment for the goods. The collecting bank then remits the funds to the exporter’s bank for payment to the exporter.
A D/A collection differs from a D/P collection because the exporter extends credit to the importer through a time draft in the latter case. Once the importer signs the time draft – which becomes a binding obligation to pay by the due date shown on the draft because of the signed acceptance – the documents are released to the importer. The collecting bank contacts the importer on the due date for payment, which upon receipt is remitted to the exporter’s bank for payment to the exporter.
The exporter’s risk is obviously higher in the D/A collection process, since the exporter has no control over the goods after the importer’s acceptance and may not get paid for them.
In terms of risk, D/Cs are much safer than an open account but have fewer safeguards than a letter of credit, since the banks neither guarantee payment nor verify document accuracy and authenticity. These features can be exploited by fraudsters posing as either the exporter or importer. As a result, D/Cs are not recommended for exports to nations that are politically or economically unstable. Overall, because of their lower cost and simple process, D/Cs are best suited for established trade relationships in sound export markets, and for transactions involving ocean shipments rather than air or land shipments which are more difficult to control.