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THE PRACTICE OF INTERNATIONAL TRADE

TABLE OF CONTENTS

INTRODUCTION..................................................................................................................................................1

CHAPTER 1: THE ROLE OF THE TRADING HOUSE ON OVERSEAS MARKETS

CHAPTER 2: SOURCING
1) THE PRODUCT, THE BUYER AND THE SUPPLIER ............................................................................. 13
2) THE DIFFERENT TYPES OF SUPPLIERS............................................................................................. 14
2.1) Manufacturers and producers ................................................................................................... 14
2.2) Distributors ............................................................................................................................. 14
2.3) Wholesalers 15
2.3.1) Description ................................................................................................................ 15
2.3.2) Range of products...................................................................................................... 15
2.3.3) Territory ................................................................................................................... 15
2.3.4) Wholesaler practices .................................................................................................. 16
2.3.5) Revenue ................................................................................................................... 16
3) INTERMEDIARIES IN OVERSEAS TRADE............................................................................................ 16
3.1) Merchant traders (exporters and importers) .............................................................................. 16
3.1.1) Types of enterprises................................................................................................... 17
3.1.2) Range of products...................................................................................................... 17
3.1.3) Geographic coverage.................................................................................................. 17
3.1.4) Revenue ................................................................................................................... 17
3.2) Agents ................................................................................................................................. 18
3.2.1) Product range and geographic coverage ...................................................................... 18
3.2.2) Agency practices ....................................................................................................... 18
3.2.3) Revenue ................................................................................................................... 20
3.3) Brokers ................................................................................................................................. 20
3.3.1) Range of products and geographic coverage................................................................ 20
3.3.2) Brokerage methods .................................................................................................... 20
3.3.3) Revenue ................................................................................................................... 21
4) SOURCING POTENTIAL SUPPLIERS................................................................................................... 21
4.1) Sources of information ............................................................................................................. 21
4.2) The Internet............................................................................................................................. 22
4.3) Setting up a data base ............................................................................................................. 23
4.4) The supplier/trader relationship ................................................................................................. 24
4.5) Risk and dependency............................................................................................................... 24
4.6) The main characteristics of a supplier/trader relationship............................................................. 25
5) FINALIZING A TRANSACTION.............................................................................................................. 25
5.1) Product description and modifications........................................................................................ 25
5.2) Presenting and promoting the product ....................................................................................... 25
5.3) Export pricing .......................................................................................................................... 26
5.4) Special equipment used for export production ............................................................................ 26
6) BUSINESS RELATIONSHIPS................................................................................................................ 26
6.1) Visiting the factory ................................................................................................................... 26
6.2) Setting norms and samples ...................................................................................................... 26
6.3) Risk management and production controls................................................................................. 26
6.4) Claims .................................................................................................................................... 27
6.5) Types of contracts ................................................................................................................... 27
CONCLUSION .............................................................................................................................................. 27
THE PRACTICE OF INTERNATIONAL TRADE

CHAPTER 3: MARKET IDENTIFICATION


A) MARKET IDENTIFICATION ................................................................................................................... 28
1) TECHNIQUES FOR SELECTING MARKETS ......................................................................................... 30
2) PHASE ONE: GENERAL CRITERIA FOR COUNTRY ANALYSIS .......................................................... 30
2.1) Markets which present real potential.......................................................................................... 31
2.2) Markets providing easiest access for Trading Houses................................................................. 31
2.3) The Trading House’s network of contacts in the country ............................................................. 31
2.4) Canada’s image in the country.................................................................................................. 31
2.5) Geographic proximity ............................................................................................................... 32
2.6) A competitive market open to imported products ........................................................................ 32
2.7) Decentralized banking system .................................................................................................. 32
2.8) Strong currencies and guarantees of payment ........................................................................... 32
3) PHASE TWO: CHOICE OF COUNTRY BASED ON TECHNICAL MARKET ACCESS CRITERIA ........... 33
B) MARKET STUDY ...................................................................................................................................... 34
1) QUANTITATIVE ANALYSIS: HOW TO USE STATISTICS...................................................................... 34
1.1) Calculating the apparent rate of consumption in a country........................................................... 35
1.2) Additional basic statistical data on the market............................................................................. 35
1.3) Evaluation of long term demands .............................................................................................. 36
1.4) Limitations of statistics ............................................................................................................. 36
2) QUALITATIVE ANALYSIS OF A MARKET.............................................................................................. 37
2.1) Socio-political concerns ............................................................................................................ 38
2.2) Analyzing the needs ................................................................................................................. 39
2.3) How the market works ............................................................................................................. 40
2.3.1) Knowing the market players ........................................................................................ 40
2.3.2) Knowing the distribution circuits .................................................................................. 41
2.3.2.1) Wholesale businesses: importers-distributors-wholesalers ....................... 41
2.3.2.2) Retail outlets: chain stores, discount, shopping centers,
cash‘n carry, franchise networks, etc. ..................................................... 42
2.3.2.3) Agents: import agents and other representatives..................................... 42
2.3.2.4) Mail order sales and direct sales ............................................................. 42
2.3.3) Knowing the competition ............................................................................................. 42
2.3.3.1) The products......................................................................................... 43
2.3.3.2) Marketing methods ................................................................................ 43
CONCLUSION .............................................................................................................................................. 43

CHAPTER 4: MARKET RESEARCH AND PRODUCT ADAPTATION


A) RESEARCH .............................................................................................................................................. 45
1) PREPARING THE MARKET STUDY FROM CANADA............................................................................ 46
1.1) Preparing the documentation .................................................................................................... 47
1.1.1) Information about the supplier ..................................................................................... 47
1.1.2) Technical data sheets................................................................................................. 48
1.2) Requesting samples................................................................................................................. 48
1.3) Making a first offer................................................................................................................... 48
1.3.1) Price ........................................................................................................................ 48
1.3.2) Terms of sale............................................................................................................. 49
1.3.2.1) Time of payment.................................................................................... 49
1.3.2.2) Payment Methods.................................................................................. 49
1.3.2.3) Delivery dates........................................................................................ 50
1.4) Seeking information about potential clients ................................................................................. 50
2) PREPARING THE TRIP ABROAD ......................................................................................................... 51
2.1) Objectives of a visit to a foreign market ..................................................................................... 51
2.1.1) Making new business contacts.................................................................................... 51
2.1.2) Validating data from the market study.......................................................................... 51
2.1.3) Knowing the distribution channels................................................................................ 51
2.1.4) Analyzing the competition............................................................................................ 52
2.1.5) Check product interest ............................................................................................... 52
2.2) Gathering information on a country............................................................................................ 52
2.3) Arranging meetings .................................................................................................................. 53
2.4) Planning the trip ................................................................................................................... 53
2.5) Preparing meetings .................................................................................................................. 54
2.6) Preparing samples ................................................................................................................... 54
THE PRACTICE OF INTERNATIONAL TRADE
2.7) Resolving practicalities ............................................................................................................. 55
3) FOREIGN MISSIONS ........................................................................................................................... 56
4) TRADE SHOWS ............................................................................................................................... 56
5) CHOOSING A TRADE SHOW .............................................................................................................. 57
B) ADAPTING THE PRODUCT ................................................................................................................... 58
1) ADAPTING TO TECHNICAL NORMS AND NATIONAL REGULATIONS ................................................. 59
2) ADAPTING TO NEEDS OF THE MARKET............................................................................................. 59
2.1) Quality .................................................................................................................................. 60
2.2) Product identification................................................................................................................ 60
2.2.1) Appropriate name....................................................................................................... 60
2.2.2) Labeling and instructions for use ................................................................................. 60
2.2.3) Choice of brand ......................................................................................................... 60
2.3) Design .................................................................................................................................... 61
2.4) Packaging ............................................................................................................................... 62

CHAPTER 5: NEGOTIATION
INTRODUCTION ......................................................................................................................................... 64
1) NEGOTIATION ................................................................................................................................. 65
1.1) Preparation.............................................................................................................................. 65
1.2) Communication........................................................................................................................ 66
1.3) Relationship between the parties ............................................................................................... 66
1.4) Strategies................................................................................................................................ 67
2) STRENGTH IN NEGOTIATIONS: .......................................................................................................... 67
CONCLUSION ..................................................................................................................................... 68
3) OFFERS AND COUNTER-OFFERS ...................................................................................................... 69
3.1) The offer ................................................................................................................................. 69
3.2) The counter-offer ..................................................................................................................... 71
3.3) Other elements of the negotiation.............................................................................................. 72
4) THE VIENNA CONVENTION................................................................................................................. 73
4.1) Formation of the contract ......................................................................................................... 73
4.2) Obligations of the seller ............................................................................................................ 73
4.3) Obligations of the buyer............................................................................................................ 75
4.4) Passing of risk......................................................................................................................... 75
4.5) Exemptions ............................................................................................................................. 75

CHAPTER 6: TRANSPORT AND LOGISTICS


1) THE CHOICE OF TRANSPORT MODE................................................................................................. 76
1.1) Step one: understanding our own needs ................................................................................... 76
1.2) Step two: understanding the client’s needs and capabilities ........................................................ 76
1.3) Step three: evaluate the carriers .............................................................................................. 77
1.4) Step four: getting the best price ............................................................................................... 77
2) THE TRANSPORT OPTIONS................................................................................................................ 77
2.1) Ocean freight .......................................................................................................................... 79
2.2) Types of Ocean services .......................................................................................................... 79
2.3) Liners and Conferences ........................................................................................................... 80
2.4) Ocean freight cost ................................................................................................................... 80
2.5) Transshipment ........................................................................................................................ 81
2.6) “NVOCC” (Non Vessel Owning Common Carrier) and “NVO” (Non Vessel Owner) ...................... 81
2.7) Tramps ................................................................................................................................... 81
2.7.1) Freight Rate and Charter Party ................................................................................... 81
2.7.2) Port handling charges................................................................................................. 82
2.7.3) Demurrage charges ................................................................................................... 82
2.7.4) A few tips .................................................................................................................. 83
2.8) Road transportation ................................................................................................................. 83
2.8.1) The cost of truck transport.......................................................................................... 84
2.8.2) A few tips ................................................................................................................. 84
2.9) Rail transport........................................................................................................................... 84
2.9.1) The pros and cons of rail freight .................................................................................. 85
2.9.2) The cost of rail transportation...................................................................................... 85
2.9.3) Pool car operators ...................................................................................................... 85
2.9.4) A few tips .................................................................................................................. 85
2.10) Airfreight ................................................................................................................................. 86
THE PRACTICE OF INTERNATIONAL TRADE
2.10.1) Advantages and inconveniences of air.......................................................................... 86
2.10.2) The cost of airfreight .................................................................................................. 86
3) INTERMODAL AND MULTIMODAL TRANSPORTATION ....................................................................... 87
4) GROUPAGE SERVICES ................................................................................................................... 87
5) CONTAINERS 87
6) WAREHOUSING ................................................................................................................................. 88
7) PACKING, MARKING AND LABELLING ................................................................................................ 88
7.1) Packing................................................................................................................................... 88
7.2) Marking and labeling ................................................................................................................ 89
7.3) Marking of origin ................................................................................................................... 89
7.4) Marking of shipments............................................................................................................... 89
8) DOCUMENTATION ............................................................................................................................ 90
9) ROUTING: CRITERIA AND RESTRICTIONS........................................................................................ 90
10) CUSTOMS CLEARANCE ................................................................................................................... 91
11) FOLLOW UP ON SHIPMENTS ............................................................................................................. 92
12) COST CALCULATION ................................................................................................................... 92
13) THE ROLE OF INTERMEDIATES.......................................................................................................... 93
13.1) Introduction ............................................................................................................................ 93
13.2) Major intermediaries................................................................................................................. 93
13.2.1) The customs broker ................................................................................................... 93
13.2.2) The transport broker................................................................................................... 93
13.2.3) The shipping agent ..................................................................................................... 93
13.2.4) The ship broker.......................................................................................................... 94
13.2.5) The freight forwarder .................................................................................................. 94
14) INTEGRATED LOGISTICS ................................................................................................................... 95

CHAPTER 7: EXPORT COSTING AND PRICING


INTRODUCTION .............................................................................................................................................. 98
1) EXPORT SALES................................................................................................................................... 98
1.1) Components of production costs............................................................................................... 99
1.1.1) Variable costs ............................................................................................................ 99
1.1.2) Fixed costs ................................................................................................................ 99
1.2) How should gains generated by exports be treated? ................................................................. 101
SUMMARY ................................................................................................................................................... 102
2) MANUFACTURING STRENGTHS REQUIRED FOR EXPORTING ...................................................... 104
2.1) Impact on the trader/manufacturer relationship......................................................................... 104
3) PRICING ............................................................................................................................................ 104
3.1) Factors that influence prices ................................................................................................... 105
3.2) The steps involved in setting prices ......................................................................................... 105
3.3) Recommendations before calculating costs.............................................................................. 105
3.3.1) Customs duties........................................................................................................ 105
3.3.2) Payment terms ........................................................................................................ 106
4) ELEMENTS OF NEGOTIATION WITH THE SUPPLIER........................................................................ 106
4.1) Federal and Provincial sales taxes ........................................................................................... 106
5) SETTING COMPETITIVE PRICES....................................................................................................... 107
5.1) Selling at marginal cost........................................................................................................... 107
5.2) Selling at the right price .......................................................................................................... 107
5.3) Selling at the foreign market price ........................................................................................... 108
6) PRICING FOR EXPORTS ................................................................................................................. 108
6.1) According to sales objectives.................................................................................................. 108
6.2) According to the quality of service offered................................................................................ 109
6.3) According to the type of product offered .................................................................................. 109
6.4) According to the terms of sale ................................................................................................ 109

CHAPTER 8: METHODS OF PAYMENT


1) PAYMENT TERMS ......................................................................................................................... 111
2) PAYMENT BEFORE DELIVERY......................................................................................................... 111
2.1) Prepayment ......................................................................................................................... 111
2.2) Payment on account ............................................................................................................. 111
2.3) Cash on delivery ................................................................................................................ 112
2.4) Cash against documents ....................................................................................................... 112
2.5) Letters of instruction ............................................................................................................. 113
THE PRACTICE OF INTERNATIONAL TRADE
3) PAYMENT AFTER DELIVERY............................................................................................................ 113
3.1) Letters of credit .................................................................................................................... 113
3.1.1) Uniform Customs and Practice ................................................................................ 114
3.1.2) How a letter of credit works ..................................................................................... 114
3.1.3) The role of banks in letters of credit .......................................................................... 115
3.1.4) Some practical advice.............................................................................................. 117
3.2) Documents against acceptance ............................................................................................. 117
3.2.1) Documents against acceptance procedure................................................................ 117
3.2.2) Open accounts ....................................................................................................... 118
REVIEW QUESTIONS ................................................................................................................................... 120
EXERCISE...................................................................................................................................................... 121

CHAPTER 9: FINANCING INTERNATIONAL TRANSACTIONS


INTRODUCTION ......................................................................................................................................... 123
1) SHORT-TERM FINANCING ................................................................................................................ 124
2) MEDIUM AND LONG-TERM FINANCING............................................................................................ 126
CONCLUSION ............................................................................................................................................ 126

CHAPTER 10: THE RISKS OF INTERNATIONAL TRADE


INTRODUCTION ......................................................................................................................................... 128
1) PERCEPTION OF RISK ................................................................................................................. 129
2) RISK CATEGORIES .......................................................................................................................... 130
2.1) Risks arising from political and regulatory conditions................................................................. 130
2.1.1) Legal risks ............................................................................................................... 132
2.1.2) Risks due to geographical impediments ..................................................................... 133
2.1.3) Market risks ............................................................................................................ 133
2.2) Risks relating to the commercial aspects of the transaction....................................................... 133
2.2.1) Commercial risks ..................................................................................................... 133
2.2.2) Financial risks .......................................................................................................... 134
3) FOREIGN EXCHANGE FLUCTUATIONS ............................................................................................ 135
3.1) Covering foreign exchange risks ............................................................................................. 136
3.2) Foreign exchange controls ...................................................................................................... 137
4) OVERDUE FOREIGN RECEIVABLES ................................................................................................. 137
4.1) Settling disputes ................................................................................................................. 138
4.2) Arbitration ............................................................................................................................. 138
5) INSURANCE ...................................................................................................................................... 139
5.1) Insurance for merchandise in transit........................................................................................ 139
5.2) Protection against non-payment .............................................................................................. 141
5.3) Export credit insurance by Export Development Corporation (EDC) ........................................... 141
6) TRADING HOUSES AND EDC EXPORT CREDIT INSURANCE........................................................... 142
7) MANAGING RISKS .......................................................................................................................... 143
7.1) Refusing to take risks ............................................................................................................ 143
7.2) Limiting risks ........................................................................................................................ 143
7.3) Transferring risks ................................................................................................................. 143
7.4) Sharing risks ......................................................................................................................... 144
8) PRACTICAL SOLUTIONS ................................................................................................................. 144
CONCLUSION ............................................................................................................................................ 145

CHAPTER 11: SETTING UP AND OPERATING A TRADING HOUSE


1) THE WORKINGS OF A TRADING HOUSE.......................................................................................... 146
1.1) Internal structure ................................................................................................................. 146
1.2) Management ......................................................................................................................... 146
1.3) Traders ................................................................................................................................. 147
1.4) Support staff ........................................................................................................................ 148
1.4.1) Traffic and documentation......................................................................................... 148
1.4.2) The principal tasks of the accounting staff.................................................................. 149
1.4.3) Secretarial tasks ...................................................................................................... 149
2) MANAGING WORKING CAPITAL ....................................................................................................... 150
3) SETTING UP A TRADING HOUSE...................................................................................................... 151
3.1) Choosing a business strategy ................................................................................................. 151
3.1.1) Agent or principal? ................................................................................................... 151
3.1.2) Choosing products and markets ................................................................................ 151
THE PRACTICE OF INTERNATIONAL TRADE
3.1.3) Size of the transactions ............................................................................................ 152
4) CONCLUSION ................................................................................................................................ 153
THE PRACTICE OF INTERNATIONAL TRADE

INTRODUCTION

This course aims at creating, through training, a pool of professionals capable of transacting
international sales. They will eventually be able to join existing Trading Houses or work for a
manufacturing company that already exports or wishes to do so. But, first, what is a Trading House?
Here are some definitions:

Any firm selling or buying internationally, for its own account or for account of others, merchandise
that it has not itself produced . (Fédération nationale des syndicats de sociétés de commerce extérieur
- France)

International Trading Houses do not produce any tangible goods, but specialize in the role of
intermediary between buyers and sellers of merchandise. Two dimensions of their activity are space
and time, and they profit from the movement of goods and services . (OECD Studies, 1984).

An Export Trading House is an enterprise that exports and, in many cases, imports or trades between
third countries, goods and services produced by others, either as merchant for its own account or as
agent or export manager for commissions or fees, and for whom international trading represents an
important source of revenue . (AMCEQ - Quebec Association of Export Trading Houses)

All these definitions incorporate the notion of movement of merchandise towards a given destination, as
well as highlights the activity of buying and selling which is the fundamental mission of these
enterprises.
The functioning universe of an international Trading House differs from that of domestic firms by
the notion that the merchandise bought or sold must cross an international border. This is where the
complexity of the profession becomes evident. More than just acquiring technical expertise, one must
develop an understanding in the areas of political economy, international regulations, sociology,
geography, economics and culture.

The purpose of this course is to transmit the technical and general knowledge necessary to conduct
international trade. It is, therefore, very important to us that these notions be presented by experienced
traders . Only by assimilating the daily reality of professionals can one perceive the intricacies of
international trade.

We are happy to be able to present this course and trust you will derive the intended benefits and
pleasure.

CCM, September 2001

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THE PRACTICE OF INTERNATIONAL TRADING
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CHAPTER 1

THE ROLE OF INTERNATIONAL TRADING HOUSES

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CHAPTER 1

THE ROLE OF INTERNATIONAL TRADING HOUSES

The accelerating trade liberalization and the constant lowering of tariff barriers, coupled
with the mounting industrialization of developing countries, have had the effect that our
past client countries have become supplier countries . Since the creation of the World
Trade Organization (WTO) which replaced the (General Agreement on Trade and Tariff
(GATT), we have less protection or privileged situations in our traditional markets,
whether it is preferential customs treatment or rates of duties.

We are therefore faced with increased competition, not only on our foreign markets, but
also on our domestic markets. However, there is a positive aspect to all this. The firms
that succeed in holding onto the domestic markets in the face of foreign competition,
either through modern technology or improved product lines, are proving that they can
also compete internationally, even if they never exported before.

In their efforts to keep their place in world trade or in entering markets, Quebec and
Canadian small and medium-sized enterprises (SMEs) can call on Trading Houses (THs)
which can be strong allies in export development initiatives. All parties will profit by
working together.

In practical terms, manufacturers and producers serve a given market, whereas THs serve
the manufacturers and producers. THs are dependent on their suppliers for exportable
products, while manufacturers have two choices: to work with a TH or create their own
in-house export department.

But how many Trading Houses are there? What do they do? Who can use them?

How many Trading Houses are there? There are over 300 Trading Houses in Quebec,
and more than 1000 elsewhere in Canada, but who are they? In Quebec they are
represented by AMCEQ (Association des Maisons de Commerce Extérieur du Québec /
Quebec Association of Export Trading Houses). Two other Associations have been
created in Canada:

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Ontario Association of Trading Houses (OATH) which represents Ontario firms.


120 Ridge Drive, Toronto, Ontario M4T 1B8
Tel.: (416) 481-4334 Fax: (416) 480-0365, E-mail: oathcan@hotmail.com

Trading House Association of Western Canada (THWAC) which represents firms


in Alberta, British Columbia, Manitoba and Saskatchewan.
14804 - 119 Avenue, Edmonton, AB T5L 2P2
Tel.: (403) 451-6677 Fax: (403) 451-7733, E-mail:
warickd@protal.connect.ab.ca

What do Trading Houses do? The following figure illustrates how a TH can be the link
in the transactions that flow between producers and buyers on all markets.

Figure 1: Trading Houses as intermediaries

Trading Houses are involved in four types of commercial activities:


1) Exporting to a foreign country goods produced in Canada;
2) Importing into Canada goods produced elsewhere;
3) Offshore trading between non-Canadian producers and buyers. In this case, the

Canadian Trading Foreign


house Buyer = Exporting
supplier

Canadian Trading Foreign


supplier = Importing
buyer house

Foreign Trading Foreign


buyer = Offshore trading
supplier house

goods do not touch Canadian soil.

The agility and flexibility of Trading Houses allows them to work on many markets
simultaneously and to handle more than one line of merchandise. They are, therefore,
better equipped to handle three-cornered transactions. Although a particular Trading
House may play all these roles, the profile of the industry, as a whole, will show the
following breakdown:
Export activity: over 60% of total trading revenue
Offshore (3rd country trading): over 30%
Import activity: 5-10%

Whatever the activities of Canadian Trading Houses, their profits return to Canada.
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Who can use Trading Houses? Trading Houses are service companies. They do not
manufacture anything and must, therefore, justify their intervention by the value added
that their services can bring to an international transaction. For a manufacturer, the type
of market he is prospecting will determine if a Trading House is useful to him.

The Manufacturer s markets

The markets available to a Quebec manufacturer can be categorized as:


• Canadian markets,
• Cross-border markets (the USA), and
• Overseas markets (all others).

Figure 2: Canadian markets

Figure 2 is a simple illustration of the activity on the Canadian markets.

The first, and prime, market for the Quebec manufacturer is the domestic market in
Quebec and Canada. He knows the competitive environment and his marketing and
shipping departments can easily handle the sale and delivery of his goods. The
commercial practices, the language and the currency of transaction are uniform across the
country. Inter-provincial trade barriers are non-existent for most manufactured products.
When he needs to deliver to a distant market, he can call on public carriers without
difficulty.

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Figure 3: Cross-border markets


Cross-Border Markets

If the manufacturer has a competitive product and wishes to export it, he will usually start
with the USA markets (Figure 3). Because living standards, personal tastes, technical
norms,
banking and commercial practices tend to be similar in the two countries, the US markets
tend to become an extension of the domestic markets. There is also a common
language.
Three elements differentiate the two countries, but the difficulties that are generated can
be overcome:
• the currencies are different, but they are readily convertible and there is not one
businessman who cannot handle this;
• there is an international border to be crossed, but customs brokers can easily
handle the paper work and the payment of duties;
• the two governments can vote different trade policies, but the Free Trade
Agreement goes a long way to reduce the barriers.

The Canadian manufacturer can deliver his goods directly from his plant to a US buyer.
He can also arrange very easily for public storage and handling facilities in the States in
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order to schedule the deliveries according to the client s needs. The manufacturer s
marketing department can identify American buyers and distributors in the same way it
would do it in the other Canadian Provinces.

However, if the manufacturer wants to sell overseas, he is faced with some difficult tasks
as illustrated in Figure 4.

The manufacturer can choose to set up an export department quite distinct from his
domestic sales services, in order to develop and serve the overseas1 markets. This
distinction is important because these markets represent different challenges: tastes and
living standards, commercial and banking practices, currencies and, most often, language
have to be mastered; tariff and non-tariff barriers have to be taken into account; payment
and pricing methods are more complex, and political, legal and commercial risks more
numerous than in domestic and US markets.

To establish a presence in overseas markets requires a sustained effort over 2-3 years, at
least. An export department dedicated to this task will succeed on condition that
management gives it a status equal to that of the domestic sales department. The
enterprise must adjust its marketing methods accordingly, and earmark the budgets
necessary to a long-term export development initiative.

The manufacturer has the alternative choice to use Trading Houses because of their
expertise in international trade and their well established networks over the year. Trading
Houses specialize in specific markets with product lines that they know thoroughly.

1
The term overseas is used to designate all non-US markets, although Mexico
could be considered a cross-border since the event of NAFTA.

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INDIRECT SALES

MANUFACTURER
SME

TRADING
EXPORT HOUSE
DEPARTMENT
SALES FORCE MANUFACTURING AGENT
DISTRIBUTOR

Identification
Marketing (4P) Marketing (4P) Markets/Clients
Product
Price Definition / Specifications
Promotion Customs (Broker)
Product adaptation
Place
(Distribution)
Transport Export Pricing
Warehouse

Negotiation

Financing
Payment/Collection

CROSS-BORDER Documentation
MARKETS
NATIONAL
MARKETS Routing
Transport

Claims

Clients
Customer relations

Risk Coverage
Insurance
OVERSEAS Currency
MARKETS
Customs clearance

Packaging / Warehousing

Consolidation

Figure 4: Overseas markets


A Trading House that acts as a principal or merchant in a transaction offers a
particularly important service to the manufacturer: it provides a ready market at his door,
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and saves him the export formalities and risks. In effect, the transaction is negotiated as if
it were a domestic sale.

Overseas markets can have different degrees of importance for the manufacturer who can
adjust his market strategy so as to maximize profits and minimize costs and risks. It could
be a very promising market that is entrusted to a Trading House or, even a marginal niche
too small to be serviced directly by the manufacturer. This being said, the strategy will
evolve over time to coincide with the firm s priorities.

The manufacturer s responsibility is limited to supplying goods of the quality, in a


quantity, at a price, and in the time frame agreed upon with the TH. All other export
elements are performed by the TH whose functions can be described as follows:

1) To identify a potential market for a given product


2) To find buyers or agents and to elicit their interest
3) To establish the product specifications in the light of market needs, standards
and regulations and in accordance with the supplier s capabilities
4) To determine the appropriate mode of transportation and the routing, with
regard to cost, quality of service and security
5) To price the goods for delivery at destination
6) To determine the buyer s credit worthiness
7) To negotiate the transaction
8) To execute all the logistics steps which are necessary to receive and deliver the
merchandise
9) To obtain, if necessary, proper coverage for maritime risks and currency
fluctuations
10 To prepare the documentation as prescribed in matters of international trade
11) To finance the transaction and pay for the goods and services received
12) To collect payment for goods delivered
13) To respond to and settle claims
14) To ensure all necessary follow-up and smooth relations with suppliers and
clients
15) To maintain and update commercial information on market developments.

Most Trading Houses act as principals for their own account. They are not consultants.
They are firm buyers making a profit (or a loss, sometimes) on the transactions.

Other traders will act as manufacturers agents and will represent a wide spectrum of
complementary products. They can then distribute their costs over the whole range of
products from a number of suppliers. Agents earn a commission if a deal is concluded
and after payment has been received by the manufacturer. In this manner, the cost to
the supplier is in proportion to the results and will only affect the direct costs of the
transaction. Overhead is not affected. Furthermore, the manufacturer will save some of
the time and cost of opening a new market by working with a TH already established in
9
THE PRACTICE OF INTERNATIONAL TRADING
CHAPTER 1

that markets. This is especially important in the case of products with a relatively short
commercial life.

In annex 2, section 4.3, we shall revert on the services offered by Trading houses and the
various roles they can play.

After establishing a secure presence abroad, and after fulfilling the reciprocal
agreements between principal and agent, the manufacturer can decide to establish his
own in-house export department.

When a manufacturer begins to export, the production activity becomes subsidiary to


international marketing. It is the foreign market that dictates the qualities of the product,
its presentation, the delivery schedules and the price in relation to international
competition.

The manufacturer must acquire an international mentality and give all the necessary
support to his export department, or to the Trading House, as the case may be.
Otherwise he should better invest his resources in improving productivity and
competitiveness in order to better serve familiar markets.

The statistics in Figure 5, based on a first study2, in 1983, of the Trading House sector
show that 13% of total Canadian exports were transacted by Trading Houses. However,
further analysis of those exports that were destined to non-USA markets found that over
40% of those sales were done by Trading houses.

In 1990, Canadian exports handled by Trading houses to non-USA markets had passed
the 50% mark3. This allows us to understand the importance of Canadian Trading
Houses to the Canadian economy.

When we look at USA markets, the analysis shows that only 3-5% of our exports are done by
Trading Houses. This is explained by the fact that a very large component of cross-border trade is
governed by bilateral agreements (automobile, energy). Also there is a wide range of products that
are exchanged between affiliated companies which do not require outside assistance of intervention.

On the other hand Canadian Trading Houses are quite active on USA markets with sales
on non-Canadian products which are generated by offshore or triangular transactions.

Figure 5: Statistical profile of the Trading House sector

2 Department of External Affairs, Canada, Promoting Canadian Exports: The Trading House
Option, Ottawa, 1984.
3 Industry Canada: Trading Houses Industry profile, 1991
10
THE PRACTICE OF INTERNATIONAL TRADING
CHAPTER 1

CANADA QUEBEC
1983 1990 1983 1990

No. of enterprises 400 713 100 200


No. of employees 6000 11995 3200
Exports by TH (billion $) 11.7% 22.6% 1.8% 3.6%
Total exports ( ) 88 141 22.6
% exports TH/Canada 13% 16%
% exports TH/Quebec 15.7%
% exports to non-USA markets 40% 50+%

11
THE PRACTICE OF INTERNATIONAL TRADING
CHAPTER 2

CHAPTER 2

SOURCING

12
THE PRACTICE OF INTERNATIONAL TRADING CHAPTER
2

CHAPTER 2

SOURCING

1) THE PRODUCT, THE BUYER AND THE SUPPLIER

Products are the basis for all international transactions. They link the supplier to the
buyer whether the trader is trying to source or sell a product. The trader has two possible
scenarios:
1) To find a buyer for a product, or
2) To find a product for a buyer.

When a product has been designed for a given market, usually domestic, it is specifically
tailored to the needs of that target market. A product may seem inferior to a similar one
on a foreign market, but it has been designed to meet the habits, taste, and uses of
consumers on the local market.

In the first scenario, a trader tries to find a niche in a foreign market for a product that has only
been sold on the local market up until now. For example, a Quebec vacuum cleaner manufacturer
may fill local demand for his product and decide to test the product on the international market.
The vacuum cleaners will obviously not sell as is in Africa where they use 220V electricity
instead of the Canadian domestic standard of 110V. One of the trader s tasks is to advise the
manufacturer on how to adapt a product to the needs of a given market.

In the second scenario, the buyer asks a trader in the country where the product is
manufactured to find supplies. Suppose that a Tunisian importer is looking for hen house
equipment and a manufacturer in Victoriaville is interested in the transaction. Using the
trader as a moderator, the two parties have to work out Tunisian poultry breeding
requirements so the Quebec manufacturer can modify his equipment accordingly. For
example, Tunisians are far more concerned about cooling in the summer than heating in
the winter. Once again, the trader s role is to find the best product adaptation that will
satisfy both partners.

The Trading House needs to have the following assets in order to finalize the transaction:
• EXPERIENCE on the local and export markets
• FLEXIBILITY to ensure that the transaction will take place
• CONCERN for the quality of service and client satisfaction.

In all cases, suppliers are a key element in the transaction since it is they who decide if the
sale will take place or not. However, the trader is instrumental in the relationship
between the supplier (product) and buyer (market).

13
THE PRACTICE OF INTERNATIONAL TRADING CHAPTER
2

A trader will usually start out by contacting his regular suppliers. If they cannot supply a
product, then the trader looks for new manufacturers and provides them with the
necessary product specifications.

2) THE DIFFERENT TYPES OF SUPPLIERS

2.1) Manufacturers and producers

They supply and establish the technical feasibility of a product. They set the factory
price (ex-works) which is the first and most important component in final pricing.

The manufacturer s main advantage is that he has control of his product, his technology
and, therefore, his manufacturing process. Neither the trader nor the buyer can shape a
product even if they can describe or draw it.

One common characteristic among manufacturers is that they are not aware of the
workings of the international market, its clientele, techniques, methods, laws, and
financial practices. Unless a company has an international division, something which is
usually only found in large firms, small and medium-sized companies should use the
services of experienced intermediaries.

Another common trait is that there is always some limit to a manufacturer s production
capacity.

These two characteristics have a direct effect on the supplier/trader relationship (see #
4.4 below).

2.2) Distributors

A distributor is another potential supplier. Traders usually call on them if a product


cannot be found on the local market or when a buyer requests a specific brand that is
not manufactured locally.

This is often the case in Canada. Since many products are not manufactured in the
country, a local distributor can request the product from his foreign manufacturer with
precise specifications, and even prepare a detailed offer including guarantees and
installation costs. Another possibility is to deal directly with the foreign manufacturer.
Even if this is more complicated and can take more time, the product will often cost
less.

Like Trading Houses, distributors and wholesalers can also play two roles. They can
act as both suppliers and export intermediaries.

14
THE PRACTICE OF INTERNATIONAL TRADING CHAPTER
2

When manufacturers want to control their export market, the same way as they control
their local market, they work with foreign distributors. This specially applies to the
American market which is really only an extension of the Canadian one. Manufacturers
have to work closely with American distributors, just as they would with a Canadian
distributor. This can affect company operations.

The same considerations also apply for wholesalers.

2.3) Wholesalers

2.3.1) Description

According to the Statistics Office of the European Community, "wholesalers are


companies or commercial establishments whose main or exclusive economic activity is
to sell merchandise to retailers, processors, professional users, craftsmen or other
wholesalers and volume users. Merchandise can be resold as is, or after processing and
packaging, in accordance with wholesaling practice. The activities of wholesalers
basically include warehousing and taking title to the goods with the right of disposal."

Practically all wholesaler-exporters have gone beyond mere wholesaling because they
have an influence over the product itself (production, modifications, processing...).
This allows them to better tailor their offers to foreign markets.

Various circumstances have led wholesalers to become exporters:


• Sales territories have been extended because of proximity to borders.
• Producer-exporters may need to maintain inventories of parts abroad, thus
encouraging their wholesaler into an exporter s role.
• Being specialized in a product makes it tempting to sell to foreign markets.

2.3.2) Range of products

Wholesalers usually work on a range of products instead of just one product. They try
to offer a full line and add new products only when they are complementary.

Wholesalers work with all types of products (from basic foods to light industrial
equipment). They often provide after-sales service for the latter.

2.3.3) Territory

Wholesalers near borders tend to only work with the neighboring country. However,
some companies are starting to branch out into other markets.

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THE PRACTICE OF INTERNATIONAL TRADING CHAPTER
2

2.3.4) Wholesaler practices

Wholesalers handle a group of products and offer a wide selection from a number of
manufacturers (up to 10,000 items in some cases). Offering a full range allows them to
better react to the needs of foreign buyers. Their main advantage is that they can
respond to a bid for a mix of products where each individual manufacturer would not
be able to.
Wholesalers actually offer more service than product. For the same price or one that is
slightly higher, a foreign buyer is more likely to want to do business with a wholesaler
because he will only have to deal with one party for a variety of products.

One advantage of working with wholesalers is that those who export also stock parts.
The producer can then carry less stock because the wholesaler does it in his stead. In
general, wholesalers only buy a product when they know they can sell it.

2.3.5) Revenue

Wholesalers work on a margin - the difference between their buying and resell price.
Since the margins are low, profits depend on volume rather than price. Commissions
or payment for additional services are another source of revenue (rental of warehouse
space, delivery, service, etc...).

3) INTERMEDIARIES IN OVERSEAS TRADE4

The specially large distance between buyers and producers in overseas trade explains the
need for intermediaries. Their job is to bring the two partners together. Agents succeed
when they know the needs of both parties and when they are experienced in foreign trade.
They provide a solution for companies that are new on the international scene, and who
are not large enough to have their own international division.

The activity category of the intermediary is defined by who owns the merchandise.

3.1) Merchant traders (exporters and importers)

Some traders (exporters and importers) only buy merchandise in Canada for resale
abroad and/or buy foreign merchandise for resale in Canada. They can be distinguished
from international traders who also do triangular trade with foreign goods for foreign
markets.

4
See also Annexes 1 and 2 for more details on Intermediaries in International trade.

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THE PRACTICE OF INTERNATIONAL TRADING CHAPTER
2

3.1.1) Types of enterprises

Several types of enterprises engage in this activity:

1) Colonial trading posts: These were very large firms, firmly implanted overseas -
mostly in old colonies. For example, the tea traders in Ceylon/Sri Lanka, the
Hudson s Bay Company, and the Compagnie Française de l Afrique
Occidentale (CFAO).

2) Sogo shoshas: Japanese world-class trading conglomerates involved in all


products and countries as well as a variety of export-related services from
transport to financing.

3) Trading Houses specialized by country or by product (niches): These companies


are smaller than those above. They usually have correspondents in one or
several countries and they work with foreign Trading Houses, importers or
agents. This is the most common type of Trading House in Canada.

Trading Houses export products instead of having the manufacturer do it. They buy
and pay for the product in Canada, and take all export risks. Therein lies the
main advantage of using a merchant Trading House. The manufacturer considers the
Trading House like any other local client and often receives payment on the same terms.
The Trading House takes possession of the goods. For every trade, there are
always two distinct transactions and payment flows, one at the buying stage and one at
selling. (See Figure A for an illustration of a merchant s function).

3.1.2) Range of products

Traders sell durable and perishable consumer goods as well as some equipment.

3.1.3) Geographic coverage

Some Trading Houses are specialized by region, the Middle East for example, often
because of their traders already existing contacts.

3.1.4) Revenue

Merchant Trading Houses work on a margin - the difference between their buying and
resell price. Since the margins are low, profits depend on volume rather than price.

17
THE PRACTICE OF INTERNATIONAL TRADING CHAPTER
2

3.2) Agents

Overseas agents act on behalf of the company they represent. They find buyers for the
products they sell. This gives them the right to collect a commission on all sales within
the territory where they have exclusivity. They are allowed to recruit sub-agents.

This type of trading company can be lightly structured. A company name is not
required to act as an agent, and in fact, many agents work solely as individuals.

3.2.1) Product range and geographic coverage

Agents can be found in all sectors of activity and can be recruited in all countries. A
contract should take into account the legal implications of the nationality of the agent
because many countries have legislation covering the rights and obligations of local
agents. Agents in a given country can be either local or Canadians working abroad.

3.2.2) Agency practices

An agent is linked by a representation contract to a Canadian producer. Although


agents may have an exclusivity agreement from a producer, they are allowed to
represent several manufacturers. Agents are not required to divulge what other
products they represent unless they compete or conflict with the new range to be
handled. A contract can have an expiry date or it can be of unlimited duration5.

Overseas agents offer a number of services that apply to all levels of export
transactions:
• Agents study a product s potential, clientele, and the competition in a market
before the producer exports.
• Agents contact foreign buyers. They negotiate and finalize sales in the name of
the principal.
• They follow up on deliveries and inform the producer of any changes in demand
or of product modifications that are required. Agents keep an eye on retail
prices and can undertake or assume marketing expenses (advertising,
promotion...). They can also provide after-sales service.

The advantages of hiring an agent are:


• Companies can control their sales force.
• Company costs are proportional to sales. There are no payroll taxes or benefits
to be paid.

5
See Chapter 5 on Negotiation and Contracts for examples of agency clauses.

18
THE PRACTICE OF INTERNATIONAL TRADING CHAPTER
2

The producer takes the financial risk for international sales since the agent only acts on
behalf of his principal. The producer retains ownership of the product.

19
THE PRACTICE OF INTERNATIONAL TRADING CHAPTER
2

FIGURE A
Trading House ACTING AS MERCHANT

Merchandise
MERCHANT Merchandise
PRODUCER TRADING HOUSE BUYER
Payment Payment

1st Transaction 2nd Transaction

FIGURE B
Trading House ACTING AS AGENT

AGENT TRADING HOUSE


Agency agreement Sale for account of
Payment of commission
manufacturer
Merchandise
PRODUCER BUYER

Payment

SOURCE: Comment faire bon usage des sociétés de commerce extérieur, Centre
Français de Commerce Extérieur, 1986.

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THE PRACTICE OF INTERNATIONAL TRADING CHAPTER
2

3.2.3) Revenue

The commissions paid are proportional to the agent s sales volume. Agents are not
paid anything if they do not make any sales. The commission is paid to the agent when
the foreign buyer pays for the goods. (Figure B illustrates the essence of the agent s
work. There is only one transaction between a manufacturer/exporter and the foreign
buyer, the agent acting purely as a negotiator).

3.3) Brokers

A broker links people who want to do business together. Brokers are independent of
producers and foreign buyers. They work with a network of contacts that bring them
business.

3.3.1) Range of products and geographic coverage

Brokers are often specialized by geographic zone and by product (raw materials,
chemicals basic food commodities, etc.).

3.3.2) Brokerage methods

A broker s main role is to find clients who are interested in a product, or to find a
reliable supplier for a foreign buyer, without any guarantees by the broker to conclude
the deal. As a mediator, the broker explains each party s terms to the other, offers
advice, and tries to conciliate their various needs. However, brokers do not place firm
orders for people who have hired them. They are sometimes involved in drawing up
contracts, but they do not sign for either party. On occasion, they act as a proxy for the
principal.

When a broker is asked to find a buyer, the broker is not responsible for non-fulfillment
of the contract. The producer takes all commercial and financial risks.

Brokers are expected to:


1) Go through all the necessary stages to find a buyer for a seller or a seller for a
buyer
2) Be able to guarantee that the offers are genuine
3) Be accountable.

Brokers are under oath for some commodities. They are competent on the designated
territory within their professional specialty. They are not only intermediaries - they are
often referees.

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THE PRACTICE OF INTERNATIONAL TRADING CHAPTER
2

3.3.3) Revenue

Brokers receive a commission on sales that ranges from 0.25 to 2% of the sales price.

Other categories of intermediaries are described in Annexes 1 and 2. Since they are less
pertinent to the course, they were not integrated in the text. However, it is important to
know that they exist in order to make the best choice possible.

4) SOURCING POTENTIAL SUPPLIERS

Sourcing is the search for possible suppliers of a specific product.

4.1) Sources of information

When a Trading House s usual networks do not provide the desired results, a trader can
have recourse to government agencies and professional associations (Alliance of
Manufacturers and Exporters of Quebec, Quebec Association of Export Trading
Houses (AMCEQ)).

Consulting statistics (Quebec and Canada) and participating in shows and other
specialized events (e.g. Boston Seafood Show, Salon International de l Alimentation
(SIAL) in Paris, ANUGA food show in Cologne, BATIMAT in Paris and Batibauw in
Brussels for construction materials, etc.) are other means for finding both new products
and suppliers. Contacts with people have to be maintained because a trader s strength is
his information.

Sources of information are similar to those for market studies and are more extensively
listed in Chapter 4, Annex 1, to which can be added the following:

• BOSS (Business Opportunities and Sourcing System), maintained by Industry


Canada, is a data base of Canadian enterprises in various manufacturing and
service sectors. To order BOSS directories you may contact Tyrell Press Ltd,
Ottawa Tel. : 1-800-267-4862, Fax : (613) 822-0740, tyrell@magi.com

• The CRIQ (Centre de Recherche Industrielle du Québec) directory of Quebec


manufacturers, with notations for those who already export, or would like to
export. Price: 132$. Tel: (418) 643-5150), Fax: (514) 383-4250

• The SCOTT directories by province or region (Quebec, Ontario, West, Atlantic,


Greater Toronto). Price: $260. Tel: (514) 339-1397, Fax: (514) 339-1396

• The THOMAS REGISTER (30 volumes) for North American enterprises, by


product and by company. Tel: (212) 290-7277, Fax: (212) 290-7365
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THE PRACTICE OF INTERNATIONAL TRADING CHAPTER
2

• The CANADIAN TRADE INDEX, published by the Alliance of Manufacturers


and Exporters of Canada which covers many Canadian industrial and service
sectors. Tel: (416) 798-8000, Fax: (416) 798-8050

• Directories of professional and service Associations (e.g. Groupement


Québécois d entreprises, Club AGRO-Export, Association des
Manufacturiers de produits alimentaires du Québec (AMPAQ), etc.).

• Local commercial magazines (some are published abroad).

4.2 The Internet

Traditionally, all the information presented in the previous section has been of great
value to traders.

Since 1996, the Internet has been increasingly used on a global scale, to the extent
that today s traders no longer need to travel with as much fieriness. A trader
equipped with a recent computer (486 +) and connected to an efficient server will
find much more useful information, and much faster, without having to leave
his/her workplace.

In fact, Internet has now become THE most practical and economical solution for
sourcing. The trader can access the information listed in section 4.1 and much
more. A list of pertinent sites (as of the time of publication of this manual) is
presented in appendix. New sites are added daily on the Internet in order to
facilitate the transmission of all kinds of information including: countries,
manufacturers, governments and their services, exporters, banks, transport and
courier services, stock and commodity markets, technology, culture, politics, etc.

Nevertheless, Internet remains incomplete. The information available is solely as


described in section 4.1. One should not make the mistake of believing that Internet
replaces the human contact. An information request sent by electronic mail or fax may
well remain unanswered, whereas a personal request, made either in person or by
telephone, will bring a different response, generally positive.

It is should be remembered that Internet having become the key to global information,
anyone can use it to request the same information. Such demand generates a high level
of traffic in terms of price quotes, samples, brochures and studies. Many such requests
are frivolous and may increase suppliers levels of reluctance. Therefore, the manner
with which the request is presented influences considerably. Professionalism is a must.

The modern trader can, nevertheless, be fast, efficient and remain competitive in a
world where information is of such value.
23
THE PRACTICE OF INTERNATIONAL TRADING CHAPTER
2

Industry Canada has developed STRATEGIS, Canada s largest business Web site which
can be consulted on Internet at: http://strategis.gc.ca. The menu offered includes:
Markets, Trade and Investment; Industrial Perspectives; Technology and Innovation;
Micro-Economic Research and Analysis; Managing Your Business; Marketplace
Services. All the BSS data, as well as import-export statistics from Canada and the
United States can be found on this Web site at no charge, on condition that you can
connect to Internet.
For information, call: 1-800-328-6189 or (613) 954-5031.

4.3) Setting up a data base

As for all organizations, gathering data, making it useful, and perpetually updating it
constitute the strength of a company. This is particularly true in international trade.

Methods can vary greatly: lists of regular suppliers and contacts, telephone directories
and indexes by sector, by product, by region, and by country. This information can
often be obtained - but not exclusively - through embassies, delegations, and
consulates.

The type of support required nowadays involves the electronic storing, processing, and
retrieval of information.

Building such an essential network of contacts can take several years to accomplish.
Because of the value of this information, traders tend to protect the confidentiality of
their transactions. Some Trading Houses are stricter than others on this subject. It
often depends on the personality of the company president.

Another aspect that makes computerization more complex is the number of cross-
references that are required between countries, sectors, sellers, buyers, products and
by-products, etc. In small and medium-sized Trading Houses, traders all have their
own filing systems that are open and available for consultation by all.

Of all the tools available to a trader, a computerized data base can help him find a wide
selection of current information such as the suppliers of a given product, a
manufacturer s range of products, production capacity, sales volume on the national
market, and export experience.

The selection criteria for information can vary from one case to the next depending on
the type of product requested. The criteria include the volume, buyer s price range,
product availability, delivery schedules, quality/price ratio, and geographic conditions.
A client s file is very important because it contains all correspondence and
complementary notes from telephone conversations.

24
THE PRACTICE OF INTERNATIONAL TRADING CHAPTER
2

4.4) The supplier/trader relationship

Ensuring that a supplier will be able to satisfy a buyer s requirements involves studying
the supplier s human, technological, and financial resources.

A trader is responsible for ensuring that the product offered corresponds to the buyer s
specifications. He cannot only rely on what the supplier says. This means obtaining
samples (when trading in consumer goods) or checking the product characteristics
against a specifications sheet for machinery and equipment in general.

The supplier should likewise ascertain that the trader has all the necessary qualifications
(technical expertise, financial and other situations) to ensure reliable service. A
supplier wants results and appreciates regular updates from the trader. Furthermore,
suppliers often need guidance with export pricing or packaging. Information provided
by the trader will further cement the relationship between the two parties.

4.5) Risk and dependency

The supplier/trader relationship comprises some risk elements that should not be
overlooked:
• A supplier may renege on his commitments by not delivering all or part of the
order, or by delivering goods outside the specified quality and delivery date.
• On the other hand, the trader may also fail to honor an agreement by refusing
delivery, delaying payment, etc..
• The existence of risk is inherent to the interdependency between the key players
in a transaction. This very interdependency also creates a positive link between
the parties since they share common goals for the successful completion of a
transaction.

The best protection is the proven reliability of the parties which generates a climate of
mutual trust.

There are also the various types of insurance coverage and commercial guarantees that
must be taken as well as the contracts that legally bind commercial partners.

These risks are not exclusive to international trade since they are also found on the
internal market. The distances, difficulties of control, and means of communication are
what is specific to dealing with foreign markets. Risks are increased as are
responsibilities; so is the relationship of interdependence. Normally, profits should be
proportional to risks.

25
THE PRACTICE OF INTERNATIONAL TRADING CHAPTER
2

4.6) The main characteristics of a supplier/trader relationship

It is essential for a supplier to describe his product properly to a trader. Traders have
to know a product as well as sales people on the local market. They have to be able to
decide what product modifications are necessary for the foreign client, how to transport
it, how to take advantage of preferential customs treatment and duties, etc..

The following are key issues that should guide the supplier/trader relationship:

1) The psychological nature of the relationship is based on mutual trust and the
reciprocal recognition of each other s strengths. This can sometimes occur
following a mere telephone conversation, e.g. placing an order before seeing a
sample, or paying a deposit before delivery, or the manufacturer reserving the
goods for the trader on a simple telephone call.

2) The character of the negotiation which leads to a profitable agreement


between the parties. Knowing each other, appreciating the stakes for each -
especially regarding profits and responsibilities -, the possibility of growing
together on a given market will greatly facilitate the negotiation.

3) The financial arrangements are a purely technical part of the relationship.


They concern only the mode and terms of payment: advance payment (partial or
total), payment upon client acceptance, or 30 days net, etc.. This subject is
covered in detail in Chapters 8 on Methods of Payment.

5) FINALIZING A TRANSACTION

Once a supplier has been chosen, a number of steps must be carried out.

5.1) Product description and modifications

Products may require modification. Market specifications must be respected arising


from local legislation, health and environmental regulations, technical norms, etc.. (See
Chapter 4 on Product Adaptation).

5.2) Presenting and promoting the product

Today, in addition to the usual commercial aspects (price, delivery, payment terms),
one must also consider the importance of product design. It covers packaging and
presentation which include dimensions, materials, color, unit size, etc.. A product has
to be launched on the market, and this implies some form of promotion, the cost of
which is usually spread among the trading partners.

26
THE PRACTICE OF INTERNATIONAL TRADING CHAPTER
2

5.3) Export pricing

Prices are negotiated keenly between supplier and trader. If the supplier does not use
an itemized cost analysis system, he cannot know his production costs in detail. This
makes it more difficult to set a minimum factory price. Export pricing is different from
domestic pricing since it does not include some overhead costs that are usually borne
only by local sales. Federal and provincial taxes are not included in the export price
either. However, transportation, packaging, and all other direct export costs must be
added to the price. (This is covered in more detail in the chapter 7 on Pricing).

5.4) Special equipment used for export production

A trader may recommend specific equipment to a producer which will improve his
export capability with respect to shipping. For example, the trader s logistics expertise
could be very useful when designing the packaging.

6) BUSINESS RELATIONSHIPS

6.1) Visiting the factory

Visits to the factory are necessary in order to better understand the production
processes of a product as well as its pricing. It is essential for foreign
representatives of firms to understand the product, the process used in its
production, manufacturing constraints, order queuing, etc..

6.2) Setting norms and obtaining samples

During the course of the business relationship, it is important to avoid


misunderstandings. This can be accomplished by setting norms and standards relating to
quality, packaging, distribution methods, production time, payment methods,
communications, etc.

Samples close the gap between reality and the glowing description of a product.

6.3) Risk management and production controls

The issue of risk management is present throughout the course of a transaction whether
it is explicit or implicit. Good faith is important in this type of business, but risks must
be reduced through insurance, contracts, and possibly quality checks and inspection of
plant operations.

27
THE PRACTICE OF INTERNATIONAL TRADING CHAPTER
2

6.4) Claims

Risk management does not eliminate all risks, it only reduces the chances of having
unacceptable losses. Claims are part of a trader s operating environment. The most
important piece of advice is to come to a negotiated settlement with the claimant. Legal
recourse is costly and there are no winners.

6.5) Types of contracts

Several types of contracts can be made. Short and medium-term contracts can last a
few months and cover only one transaction. Others types can be shorter and cover
several products at a time within a specific geographical area, or be long-term over a
large territory. All combinations are possible as will be seen in Chapter 5 on
Negotiation and Contracts.

CONCLUSION

Summary of the main topics in the chapter:

• The supplier is the most important part of a transaction, because he


manufactures the product and sets the ex-works price.

• Product specifications must be made clear between the client and producer.
The trader plays an important role at this stage.

• Mutual trust and good faith are the best guarantee for a successful transaction.

• Knowing the market is crucial, and therein lies the strength of a trader.

28
THE PRACTICE OF INTERNATIONAL TRADING
CHAPTER 3

CHAPTER 3

MARKET IDENTIFICATION

29
THE PRACTICE OF INTERNATIONAL TRADING
CHAPTER 3

CHAPTER 3

A) MARKET IDENTIFICATION

When a Trading House acts as merchant for a product that differs from its usual business,
it first buys the product, then resells it to an appropriate importer identified from its
international network of clients and contacts.

The selection of markets is thus limited to researching only those buyers to whom it can
propose a definite competitive advantage in price, regularity of supply or payment
conditions.

The Trading House s commercial actions consist primarily in seeking potential buyers
through its network of contacts, negotiating the costs of adapting the product with
suppliers and establishing payment terms.

When acting as agent for a manufacturer that has commissioned it to open a new export
market, the Trading House is responsible for finding the very best potential market for
that product.

Most often, it will be a developed or brand product with strong marketing value, in which
case, the market selection is followed by a detailed study aimed at selecting the right
distributor, and defining the best market niche possible for that particular product. In this
case, statistical analysis and collected data will be much more detailed.

Finally, a Trading House is always on the lookout for new opportunities and constantly
seeking new openings in the market to meet its own needs. For utmost efficiency, those
Trading Houses who work in well-defined markets specializing in specific product lines
are best positioned to react rapidly to meet the demands of the marketplace in their field
of specialization.

Opportunities can sometimes appear in a fortuitous manner. For example, a drought in


Europe a few years ago was not all bad news as it allowed Canada to export fresh and
frozen vegetables to a market which was, until then, considered exclusively that of
Spanish exporters. That same year, because of drought, many fish-breeding ponds dried
up and France became an importer of trout from Canada and elsewhere.

Two years later the situation was reversed when Canada had to import cauliflower,
broccoli, and spinach, following a drought that struck North America.

During the summer of 1988, drought and extraordinary heat waves in the USA allowed
Trading Houses to do what they do best: operate as a third party to supply the American
market with fodder for farm stock, and basic produce for the food and agricultural
industry. A Canadian Trading House bought supplies from producing countries that had a
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THE PRACTICE OF INTERNATIONAL TRADING
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surplus, in order to resell those same products to the United States. Canadian ice
suppliers found themselves being asked to satisfy demands that greatly surpassed
production capacity of American industries.

Trading Houses maintain a watchful eye for possible transactions among developing
countries. For example, South American chemical and food products were regularly
shipped to the Caribbean, while canned goods from Thailand have been sold in West
Africa.

Markets are numerous and changing with such factors as economic speculation directly
controlling and influencing both the nature and volume of commercial transactions. The
North American Free Trade Agreement (NAFTA) between Canada, the USA, and
Mexico, with its possible expansion to include Chile, creates new export and import
opportunities for Trading Houses in markets of vastly differing sizes, characteristics and
functions.

1) TECHNIQUES FOR SELECTING MARKETS

Whether a Trading House acts as merchant or agent, it must first choose a market for its
product rationally, and that choice must then be submitted to a thorough market study.
Market selection is made using a process of elimination based solely on criteria that are
considered paramount.

1. the first phase consists of employing a general criterion which permits a


preliminary selection between candidate countries;

2. in a more detailed manner, the second phase uses a certain number of technical
criteria such as allowing for cost estimates of penetrating a particular market,
before arriving at a final choice of a target market.

2) PHASE ONE: GENERAL CRITERIA FOR COUNTRY ANALYSIS

Our first priority is to select:


• Only those markets offering realistic potential: it is useless to consider
countries in which the market is limited or financially insecure.
• Basically, those markets in which the Trading Houses have solid contacts,and
which can provide easiest access.

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2.1) Markets which present real potential

Initially, selected countries must satisfy the following basic conditions:

1. Sufficient market size where a significant or potential demand already exists, or


there is regular growth. We then proceed with a rapid appraisal of the
country s general economic situation: per capita GNP, sharing of prosperity,
etc., as well as demographic studies to ascertain the level and evolution of
commercial exchanges.

2. The market must be open and competitive: we will analyze the volume,
evolution and diversification of imports from principal supplier countries. We
must measure the level of protectionism or dependence in the target market.

3. The country is solvent: we then have to estimate the political and economic
risks. We must enlighten ourselves as to level and evolution of external debt,
and any possible restrictions on withdrawing funds from the country.

Countries not responding favorably to those three criteria will be eliminated in the
first round.

2.2) Markets providing easiest access for Trading Houses

The easiest way to evaluate whether a Trading House can deal with a country is to
have certain criteria which consider the unique characteristics of the market and what
advantages the Trader has in that particular market.

2.3) The Trading House’s network of contacts in the country

The Trading House s first preferences are towards those countries where it has
already exported similar products, and where it has established a privileged
relationship, (ex: agent, importer, distributor, personal relationships, etc.).

2.4) Canada’s image in the country

A country where Canadian products are appreciated, and where the image of Canada
is well perceived by professionals and consumers alike, constitutes a privileged
territory. Many elements can contribute to the positive image of a country: quality of
products, respecting their contracts, the nature of relations and existence of favored
links between those two countries, etc.

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2.5) Geographic proximity

Proximity will play a more important role if:


• the ratio of freight costs to the value of the products high;
• the shelf life of the product is short and requires rapid delivery;
• the buyers are used to working on the principle of just in time;
• there are other competitive suppliers in close proximity.

2.6) A competitive market open to imported products

Certain markets remain difficult to access because imports are regulated by


governments who stringently control and license external trade. These markets are
characterized by the existence of import quotas, high customs duties or many non-
tariff barriers.

Often, obtaining an import license requires advice and support from intermediaries
who are politically well-placed with whom it is imperative to make and maintain
personal contact.

We avoid countries with centralized economies where imports are largely controlled
by government agencies, or whose markets are in the hands of large central buying
offices which usually call for international tenders and sometimes impose
countertrade conditions on all or part of a contract s value.

Likewise, the market can be totally dominated by a national firm holding a dominant
position, or by a foreign competitor who has already captured 100% of the market.

2.7) Decentralized banking system

In certain countries, the banking system is dominated by a central bank which is the
only one authorized to issue letters of credit in stable currencies., This is the case, for
example, in countries such as China, Vietnam, Russia, Algeria, Libya, Iraq, Iran, and
Madagascar.

2.8) Strong currencies and guarantees of payment

Certain countries showing large, chronic deficits in their balance of payments, and
heavy foreign debt, are often engaged in recovery plans imposed by the International
Monetary Fund . Exporters might confront a scarcity of convertible currencies at the
central bank, resulting in a payment freeze, a moratorium on the debt, etc.

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THE PRACTICE OF INTERNATIONAL TRADING
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3) PHASE TWO: CHOICE OF COUNTRY BASED ON TECHNICAL MARKET


ACCESS CRITERIA

This second phase allows us to categorically or temporarily eliminate countries whose


access cost appears high, and in which it would be too risky to conduct business in
relation to potential profits.

After the first phase, we will review factors for each selected country that may constitute
obstacles to importation:

• Protectionist measures imposed by the country on a particular product: important


license, quotas, duties, import ban according to the origin of the product, (as
applied for example, in certain Arab countries towards Israel, or, as in the case
Canada s embargo, up to 1993, of South African products).

• Imposed standards: the certification process to comparable standards and


procedures, can be long, difficult and costly. In certain cases, products have to be
submitted to technical tests by licensed laboratories before being approved.
Certain countries impose such measures as harsh health and phytosanitary norms,
inflexible labeling and environmental protection standards, etc.

• Restrictions of a religious nature: Israel and Islamic countries, for example,


impose precise norms and certification regarding the slaughter of animals.

• Fiscal measures aimed at discouraging imports: in addition to customs duties,


certain countries might impose sales taxes specific to imported products thus
reducing their competitiveness against local manufacturers.

• Infrequent shipping services or the need for transshipments resulting in extra


handling and storage costs, and increasing the risk of damage and pilfering of the
merchandise.

• Ease of communications: contract negotiations and settlement of disputes would


be greatly facilitated if the country uses one of the principal languages used in
international trade. We must also confirm check the availability and reliability of
fax and telephone facilities, the efficiency of postal services, and soon the spread
of e-mail usage.

• Financial situation of the country: deficits in the balance of trade or the balance
of payments can lead to a slowdown of imports.

• Monetary situation: an excessive rate of inflation can lead to restrictions on


imports, or difficulties in hard currency transfers.

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THE PRACTICE OF INTERNATIONAL TRADING
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• Reserves of convertible currency: if the level is too low, there is a risk foreign
exchange controls and possible recourse to counter trade measures.

• Exchange rate policy: A floating rate may require hedging on the futures currency
markets whereas a fixed rate will simplify transactions.

• Existence of commercial agreements with Canada.

• Level of development of the internal banking system and presence of Canadian


and American banks in the country: these factors are crucial in transactions
requiring the opening and settlement of letters of credit. They are also important
where there is a need for rapid exchange of banking information and the
structuring of financial arrangements.

• Good knowledge by the Trading House of the customs of a country and ease of
access to the real decision makers.

• Possibility of protecting intellectual and commercial property (e.g. trademarks,


commercial designs and processes), and the reality of the protection afforded by
the country s laws. There are countries where a lax compliance of international
copyright laws will lead to a systematic and highly illegal tendency to manufacture
clones, or bootleg products.

• Applicable law and possible recourse to arbitration procedures in the event of


litigation.

These criteria allow Trading Houses to eliminate those markets whose penetration is
considered too difficult or risky based on the level of on-site support and relations.

At that point, we will be able to select one or two target markets on which to base our
study.

B) MARKET STUDY

The objective of the market study is to identify the demand for a product or service, and
to evaluate its importance. From the information received, we can make sales estimates
and develop a marketing strategy.

1) QUANTITATIVE ANALYSIS: HOW TO USE STATISTICS

First, we have to evaluate demand for the product in the market that has been selected in
the preceding phase. What we want is to estimate the apparent rate of consumption of

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that country, based on production, import and export statistics. This will give us an idea
of the overall responsiveness of the market and the level of genuine needs.

1.1) Calculating the apparent rate of consumption in a country

Apparent consumption = production of the country + imports - exports.

We note that there are no recent reliable figures for production or consumption of any
given product which, quite obviously, would be very useful to a Trading House.

The annual United Nations Statistical publication, gives production figures by


product and industry, but production is expressed in global quantities, while imports
are measured in dollars. To calculate a product s total market, we would have to
convert those production volumes into dollars.

Statistical publications on a targeted country are a good source of information on its


production and imports that can be obtained when visiting the country, (see
Prospection in chapter 4) or by directly contacting the agency that publishers them.

Analysis of these statistics will reveal recent trends in production and imports. By
comparing the Canadian exports to the target country in relation to the total
consumption in that country, the Trading House will have a good idea of the success
of Canadian products in relation to competition. Analysis of imports and exports by
product and country will also indicate which are that country s principal commercial
partners, as well as illustrate the degree of market autonomy in that country.

In summary, the more a country is present in the international marketplace, the more
it must be accessible to enterprising exporters. Therefore, we would analyze the
principal supplier countries and evolution of their share of the market in the target
country s imports. We will also have to analyze export statistics and identify the main
purchasing countries.

1.2) Additional basic statistical data on the market

The general information concerning the economy and market size of a country will
have been obtained during phase two of the market selection process. At this point,
we will have to review and analyze all this in greater detail, looking only for the most
reliable data on parameters that can directly influence demand for our product in that
country.

We will retain, for example:

• National growth rates, and that of those industries directly linked to market
demand for that product.

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THE PRACTICE OF INTERNATIONAL TRADING
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• Population growth: manpower development, by region and by principal


agglomerations, by age, sex, socio-professional category, and size of
household,
• Development and distribution of revenue by population group, size of
household, region of residence, profession, age, etc.
• Consumer spending tendencies as it concerns that product.

1.3) Evaluation of long term demands

A country may augment local production rapidly and considerably by adopting a


more modern technology, thereby reducing its import levels. In evaluating the
market s long term potential, it is vital to take into account the introduction of new
technologies, availability and qualifications of human resources, import policy., etc.

In order to estimate future market development, we must look at the evolution of


certain parameters that are directly linked to market demand for our product. For
example, the demand for building materials will be directly linked to the number of
active construction sites; the demand for school stationery will be related to the
opening of new schools, or the intensity of educational development program put in
place by the government of a country; also, the demand for tires would be
proportional to the number of cars in circulation, etc.

We cannot accurately estimate actual market demand based solely on past statistics.
Essentially, we must detect those parameters that will directly influence use of the
product, and anticipate future demand based on change and growth of those
parameters.

Statistical analysis based on the correlation between product use and the growth of
economic variables, allows us to make forecasts and to estimate what could be the
real demand in one, two, or five years.

1.4) Limitations of statistics

The interpretation of commercial statistics requires utmost caution because:

• Some are published for a product group and not individual products; the
statistics on international trade classify products by international code and
generic name. The information obtained is global, and provides only some idea
of the volume and tendency of the wider category of merchandise in which the
product has been grouped.

• The international nomenclature of products cannot get into detail, making it


sometimes difficult to get a clear idea of the size of the market for a precise
product. Today, use of a Harmonized System allows us to do statistical

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THE PRACTICE OF INTERNATIONAL TRADING
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comparisons no matter which country is being studied, because the countries


are now using the same categories to regroup the same products.

• Some government agencies publish the figures with a delay of some years.

• Methods of calculation may change from one year to another making


comparisons difficult.

• In the case of some developing or socialist countries, obtaining reliable and


complete information can be difficult. Nevertheless, it is possible to estimate a
market size for such countries by studying its imports, that is to say, the total
exports from its supplier partners.

• Official statistics may not take into account clandestine imports or black market
sales. In certain countries, the parallel economy represents a considerable part
of economic activity. It creates a difficult competition to encompass and
counter. It is well developed in Africa, the Middle East, Asia, and in certain
Latin American countries - or about 2\3 of the planet.

• To derive maximum benefit from customs exemptions and fiscal advantages,


many transactions pass through free zones where products are assembled and
stored before being re-shipped elsewhere. According to statistics, Panama is an
important market for the USA but, in reality, all of Central America benefits
from the Panama free zone at the port of Colon. In the same way, the free
zones of Hong Kong, Singapore, Miami, Manaus (Brazil), or Banjul (Gambia),
serve as distribution points for the exporters to other countries in South East
Asia, the Caribbean, South America, and West Africa.

• Statistics are a picture of market tendencies and help identify national and
international competitors without providing information on marketing
techniques or product characteristics, their distribution, customs regulations,
etc. Nor do they indicate if exports are the consequence of financial aid from
industrialized countries. In order words, no qualitative information..

However, statistics constitute the first and only indicator we can really refer to in
identifying the most promising markets.

2) QUALITATIVE ANALYSIS OF A MARKET

Until now, statistical analysis has only permitted us to estimate the global potential of the
market to which a product is destined. We still have no idea on the behavior and needs of
consumers, the way the market works, and the competition we face. We now have to
take into account the total marketing environment in which a product will be offered.

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In other words, after learning how much? we must now understand how the market is
structured, how it works, and what the strategies our competitors have adopted.

Only then will it be possible to evaluate expected sales potential, taking into account the
niche we have chosen and our marketing policy, together with the corresponding costs.
Commercial expectations will correspond to the total marketing strategy that we will
adopt.

As this vital part of our study is more complex, it is best done in two phases: a
preliminary study based on information provided by in-country contacts, followed by an
indispensable on-site trip to gather more pertinent and complete information. Such a
study could be subcontracted to a local consultant but, while this avoids the expense of a
trip which could even prove to be premature, it also entails the risk of obtaining
information quite irrelevant to our primary objective.

As a first step, we must gather as much information as possible on the political and social
framework of a country. We will then proceed to analyze the consumer needs prior to
studying the structure and functioning of the market.

2.1) Socio-political concerns

It is important to know the type of government and political organization of the


country, in particular, the judicial framework governing external trade and consumer
prices. For example, are prices free or regulated? Are there laws concerning
discriminatory price fixing? Are there regulations on promotional discounts, or rules
against refusal of sale, etc.?

The legal framework must absolutely be taken into account in contract negotiations
with potential representatives and agents on a given territory.

In general, we will have to be informed on all laws and regulations which apply to a
country s imports and trade; i.e., duties and taxes applied to goods based on origin,
applicable standards for packaging and labeling, protection of trademarks and patents,
etc.

We must also know the social hierarchy of a country and who really holds decision-
making power. Of particular importance is the authority of religious and political
leaders.

Certain intermediaries might be necessary in order to access particular markets, or


insure effective distribution of a product in certain circles.

A good knowledge of a country s culture and customs is indispensable in defining a


pertinent marketing strategy. Religious sects, enforced ethical codes, familial
structure of the principal ethnic groups, education level, and languages spoken, all of
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THE PRACTICE OF INTERNATIONAL TRADING
CHAPTER 3

which constitute decisive factors in defining a viable market position and


communications strategy.

We must also gather the maximum information available on living conditions, food
and clothing habits, means of transport, travel habits, working hours, holidays,
sporting and cultural events. A close analysis of this data will enable us to detect
particular needs and adapt a product so it conforms to local standards, tastes and
expectations.

For example, in Greece and Portugal, where meals are taken with the entire family
present, women still prefer preparing traditional recipes with traditional ingredients
and utensils. The marketing of pre-cooked meals or new kitchen utensils in these
markets, require a different strategy than that adopted for German or French markets
where the tradition of family meals is less widespread.

A different value system corresponds to different consumer behavior, therefore,


different needs.

2.2) Analyzing the needs

A market is not homogenous, but it is possible to segment divided into groups of


individuals with common characteristics, presenting identical expectations and needs.

That is called a market sector which is, by definition, a sub-market where needs and
behavior differ from one sector to another. The most common criteria for
determining a sector are for example, age, sex, socio-professional level, revenue, type
of habitat (urban or rural). These criteria are cross-referenced to obtain sufficiently
homogenous segments which will then allow us to form better marketing strategies.

To each sector there is a corresponding product group defined by its characteristics,


i.e. packaging, price, method of promotion and sale (e.g. selling points, brand and
type, use of media). This is how one can define a set of market/product or niche.
The more a product satisfies segments of a given market, the greater the total sales
potential.

These conditions will help determine the best way to adapt the product to local needs.
By modifying the packaging, price, or market position of a product, we will be able to
concentrate on one sector, or, if we so choose, many sectors all at once.

An analysis of this matching of market-to-product, allows us to detect additional


opportunities in those sectors that are unoccupied or less occupied, while other
sectors are already saturated.

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THE PRACTICE OF INTERNATIONAL TRADING
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Example of a market sector: single women, 18 to 35, living in cities with a


population of 500,000 or more, with an annual income of between $15,000 and
$20,000.

Example of a matched-market/product, in this case, facial cream, for specific sectors:


• young active women 18 to 30 years,
• women over 50 with a living husband,
• students from 13 to 18 living in cities of more than 100,000,
• managerial staff living in an urban milieu.

Type of products:
• hydrating cream,
• anti-wrinkle cream,
• nourishing cream,
• facial masks

A matrix is then established, pairing market with product but indicating, for each, the
characteristics and size of the sector, along with corresponding products, their prices,
conditions and marketing mode.

The chosen sector constitutes the target market: if it is too vast, we determine and
focus on the heart of the objective market - that area were the marketing effort will
be concentrated.

An analysis of consumer behavior also reveals their degree of fidelity to a particular


brand, or if they have a propensity to substitute for new products, as well as the true
impact of promotions or publicity campaigns.

For certain products, it is very important to know that actual purchasing power is not
always in the hands of the end user. For example, everyone knows that it is often the
woman who chooses the underwear for her husband. Children can prod parents to
select a particular model car, or buy a certain brand of cereal, laundry detergent, or
chocolate bar. It has nothing to do with the real needs of the purchaser.

2.3) How the market works

After analyzing the consumer s needs, we must learn by what means products become
available to them, and what business practices are acceptable in their country.

2.3.1) Knowing the market players

Before reaching the market, it is helpful to know the actors. In other words, identify
those businesses that supply goods, and those who buy goods, that are either locally

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THE PRACTICE OF INTERNATIONAL TRADING
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manufactured or imported. That is more difficult in the case of exports than in


national markets.

At this stage, it is sufficient to establish timetables, storage sites, lists of


manufacturers, agents, importers-distributors, and principal retail networks.

Canadian and Quebec official representatives in the country, as well as banks and
certain international consulting firms, will be useful in rounding out this profile with
still more qualitative information

Special attention must be given to the degree of concentration and cohesion among
leading enterprises already in the market, which can tell us of the existence of possible
elements capable of restraining or blocking access to the market. Indeed, even if
imports represent an important or increasing part of the offer, they can be
concentrated in the hands of a limited number of importers who can impose their own
set of conditions quite easily.

Even if competition plays a major role among importers, the number of retail chains
can be so small that listing the products in those chains becomes inevitable if we
want to be assured of any presence at all in the market. Chain owners who are also in
a competitive position have no difficulty dictating their own conditions to
distributors.

The same goes for the local manufacturer, who vertically integrates the whole
production process, including transformation of raw material and packaging up to the
final product. He saves on the margins made by the intermediaries, and profits from
major reductions on packaging and transport costs for imported goods. Adhering to a
dual-logic of both industrial and commercial, as well as group strategies, he may
decide to partially deflect his costs from the price of the finished product and
reconstitute his profit margin on sales of finished by-products. He controls his own
production costs, and will have no difficulty to lower prices in the case of new
competition.

Horizontal integration, for example, consists in selling different products, but which
are complementary in many markets. Quite often, it leads to favorable conditions for
importers. It can be a local manufacturer, a competitor, a competing exporter
applying a loss leader strategy by accepting lower prices on certain popular, and
reconstituting his profit on other more trendy products.

2.3.2) Knowing the distribution circuits

The market study must tell us how the distribution circuits work at the wholesale
level, as well as at the retail level. We must also study the role of agents operating in
the market.

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2.3.2.1) Wholesale businesses: importers-distributors-wholesalers

After examining their full range of responsibilities, we can draw certain conclusions
about them: the type and origin of imported products, usual margins, territorial
protection, type of clients, level and frequency of orders, coordination with retailers in
stock management, payment terms, exclusivity conditions, promotional support
required for introducing a product, merchandising activity, etc.

2.3.2.2) Retail outlets: chain stores, discount, shopping centers, cash n carry,
franchise networks, etc.

We will work on knowing the size and number of sales outlets, the type of clientele,
profit margin practices, and costs of promotional or publicity campaigns at point of
sale.

We must know how the order-taking circle works, from the sales point to distributor,
where orders are centralized, and how decisions are made on the introduction or
abandoning of a product.

A very important point concerns stipulations in case of delivery delays. In many


countries, chain stores require just-in-time deliveries, allowing for only very small re-
order levels. They practice a high stock turnover, and more and more impose their
own conditions on distributors. In turn, distributors have a tendency to pass the same
conditions suppliers by imposing the delivery schedules, or by requiring them to
maintain security stocks at the distributor level or accepting payment delays and price
reductions.

2.3.2.3) Agents: import agents and other representatives

We must determine which brands they represent, the territory they cover, and how
they are remunerated (fee or commission).

As the notion of agent differs from country to country, it is essential to know the legal
status they have in their respective country, in particular, what sort of indemnities and
rights apply in the event of a breach of contract.

2.3.2.4) Mail order sales and direct sales

Direct sales and mail order sales are excellent alternatives to penetrate retail networks
that might otherwise prove too difficult or costly. Their real impact however, must
be verified and their mark-ups and sales conditions clearly understood. Their overall
effectiveness is directly linked to the efficiency of postal services or other delivery
mechanisms.

2.3.3) Knowing the competition


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THE PRACTICE OF INTERNATIONAL TRADING
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In Canada we rely on fragmented information compiled from catalogues and


specialized magazines. It would indispensable to go on-site in order to obtain more
precise point-of-sale data, as well as an understanding of local commercial practices.

2.3.3.1) The products

We must list which products are available in the market, recognize their share of the
market, recent sales tendencies, quality of product, brands, proposed price,
packaging, and type of sales outlets where they are distributed. We will determine
where after-sales service exists, and what guarantees are being offered to consumers.

2.3.3.2) Marketing methods

We must also know the sales and distribution circuits favored by the competition, the
type of promotions they use such as reduced prices, discount coupons, gift offers,
etc., as well as publicity campaigns, media and type of message used.

The compilation of all this information provides us with a better view of the strategies
chosen by our competitors concerning their market positions and business
transactions.

Finally, complete this study by analyzing the principal advertising media available to
determine the impact and cost-effectiveness of a campaign.

We will also acquire information on major product-oriented commercial events, as


well as existing trade shows and exhibitions.

CONCLUSION

In general, when choosing export markets, we must remember the following:


• Know the demand, specifications, and profile of your objective clientele.
• Concentrate efforts on one or two markets so as to conserve energies.
• Don t neglect smaller markets where competition is less intense.
• Be certain you can provide the required services to your clients.

The final steps consist of:


• Fixing objectives in terms of volume or market share in order to acquire, say,
between 5 and 10% of the market s potential sales-dollars within 2 years.
• Establishing strategies to reach that objective by selecting a segment of market
and a niche, choosing a distribution circuit, and defining a marketing budget that
will cover exploration and adaptation costs.

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THE PRACTICE OF INTERNATIONAL TRADING
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• Defining an action plan with a precise time table for essential tasks, as well as a
corresponding budget. Such a plan must be written, realistic, and flexible, and
able to adjust to the inevitable fluctuations of the business cycle.

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THE PRACTICE OF INTERNATIONAL TRADING
CHAPTER 4

CHAPTER 4

MARKET RESEARCH
AND
PRODUCT ADAPTATION

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THE PRACTICE OF INTERNATIONAL TRADING
CHAPTER 4

CHAPTER 4

MARKET RESEARCH AND PRODUCT ADAPTATION

A) RESEARCH

When a Trading House acts as merchant, offering a primary commodity, the initial
research consists essentially of consulting its network of contacts in order to locate
potential buyers.

After gathering all necessary information on the product and determining the supplier s
ability to deliver of consistent quality on time. The Trading House then checks with its
contacts to confirm their interest in the product.

Trading Houses specializing by product and market, know the potential buyers and are
thus able to determine more rapidly the state of the market, and the product s overall
competitiveness.

The initial contact is followed up by sending documentation and samples to the


prospective client. The merchant can then begin negotiation with suppliers on one side,
and potential buyers on the other.

In cases where the Trader acts as export agent for the supplier of a manufactured product
which requires the development of a marketing strategy, his role is much more elaborate
and includes the design and implementation of a complete prospection plan.

Once the market study is complete, the sales objectives are established and the strategy to
reach the objectives have been defined, the Trader and his supplier will have to adopt an
action plan which will constitute a starting point.

The market study will propose a research budget as part of the total sales budget which in
turn, is based on projected sales. The choice of research options and their methodology
will be part of a strategy defined by the manufacturer when the export plans are first
being developed.

The research plan is based on the classical EXPORT game plan and the following logical
sequence is followed:

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Due to financial limitations, few study trips are made at the outset. On-site trips are made
only when negotiations have sufficiently advanced to see clear sales potential which justify
going there.

1) PREPARING THE MARKET STUDY FROM CANADA

From Canada, a plan is developed outlining the necessary steps to obtain our first
selection of potential buyers. Having established a preliminary list of prospects, we must
then know who to contact. This list represents the principal buyers identified by the study
and, if possible, their principal suppliers. Only then, and in order to complete the market
study, it may become necessary to go on-site and meet the potential buyers.

Before starting out, we must first prepare the necessary tools, meaning a complete set of
product samples and written information.

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1.1) Preparing the documentation

All written information, brochures, manuals, etc., must be translated into the language
of the country, or, the commercial language normally used. It is highly recommended
that these translations be verified by a person from that country.

The cultural characteristics of a country must also be taken into account when
presenting written information about a product: layout, graphics, pictures and colors,
highlighted elements, text style, etc. This is an essential part of the communications
strategy as it carries a positive image of the supplier and affirms the marketing
position of their products.

As agent, the Trading House counsels and assists suppliers in preparing all written
information and documentation pertaining to the company and its products.

1.1.1) Information about the supplier

First, a background presentation of the supplier consisting of:

• a history of the company (in the case of manufactured goods, we will


emphasize the traditional mode of production, as well as the origins and
growth of the company);
• geographic situation (a map of the production site clearly indicating access
and proximity to port, airport, or highways);
• its position in the national market (market share, major clients, etc.);
• its business network;
• manufacturing method and product line, i.e., photos, diagrams, etc.

This is the company s curriculum vitae, consisting of a few key figures, with clear and
simple diagrams, which must make them want to know more about this supplier and
his products.

The booklet must also indicate the complete co-ordinates of the Trading House, and
its authority to act as export agents. It is not used when the Trading House acts as
merchant, buying manufactured goods to resell to its purchaser.

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1.1.2) Technical data sheets

This data sheets must conform to professional standards. They are often inspired
from our competitors documentation:

• in the case of industrial products, we refer to technical norms, insisting on


performance level; we list all components or ingredients, and briefly explain
the mode of operation. Short, precise sentences are preferred. We will use
diagrams, graphics and pictures, and make sure the measuring system of that
country is used.

• other products require a presentation emphasizing aesthetic qualities: food


products, cosmetics, ready-to-wear, etc. The quality of pictures and colors of
these products is essential.

To facilitate price comparisons and placement of orders of proposed products,


always indicate product references, and type of packaging,. These could be
complemented with video-cassettes, which are ideal for technical demonstrations. A
copy can be left with the client, with the Trading House s name and co-ordinates
prominently displayed.

1.2) Requesting samples

Make sure you have sufficient quantities and that they correspond to the actual quality
that will be shipped by the supplier. The supplier will be asked to supply samples
that are particularly well displayed but without misrepresenting the intrinsic qualities
of the products.

1.3) Making a first offer

1.3.1) Price

Prices must be well calculated, with all transport, handling and insurance costs
verified. It is imperative to specify the - INCOTERM used, the place of delivery, the
currency, and the quantity covered by the price. For example: $15 US for a box of
100 units FOB New York (see Incoterms in chapter 5).

In practice, the price list will be in numerous columns indicating: product reference,
description, packing (weight and measurements) and price.

In general, experience shows that it is always preferable to offer CIF Prices, (Cost,
Insurance and Freight) or, CIP, (Cost and Insurance Paid-to...) in local currency if
possible. That way, buyers will be able to compare prices immediately in their own
currency without being preoccupied with exchange rates. Put another way, with the
exporter absorbing the exchange rate, the buyer can disregard the exchange rate
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fluctuations time of sale and time of delivery. This shelters him from a possible
depreciation of his own currency.

Use of these two INCOTERMS allows the client to compare our offer to those of the
competitors and to the price of the local market. The potential buyer knows the
precise cost of moving goods from the port, or airport of landing to the final point of
delivery because he is used to receiving goods at that port, or airport.

He would have difficulty calculating precise freight and insurance costs from a point
of shipment with which he is not familiar, and he may not be well placed to obtain
favorable freight rates.

Also, the buyer s risk in a CIP purchase is reduced because the exporter assumes all
responsibility and costs until the merchandise arrives at its destination.

Let us not forget that a seller refusing to take export risks automatically chooses to
have the buyer absorb them. This can be a deliberate decision on the seller s part
based on his own evaluation of the risks and on his competitors behavior.

There is no rule in that matter. Each case is different. In reality, we always have to
arbitrate between taking risks and our obligation to be competitive. There is no
business without risks. What matters, is how you evaluate and manage them.

1.3.2) Terms of sale

These terms would include time and method of payment, as well as delivery dates and
time limitations of the offer.

1.3.2.1) Time of payment

The Trading House has a decisive advantage when, acting as merchant, he can
provide credit terms to its client. Being better known to the supplier, it can obtain
favorable terms which the final buyer might not have obtained directly. The profits
the client and gives the Trader an additional competitive edge.

As agent, the Trading House persuades suppliers to take the commercial customs of a
country and conditions offered by its competitors into account when attributing
delays.

1.3.2.2) Payment Methods

The best payment method is a Letter of Credit (L/C), irrevocable and confirmed.
This provides the seller with a guarantee of payment which is essential in a first
transaction with a new client.

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Often however, buyers will refuse to open a L/C credit file for a small trial order,
claiming that bank fees are disproportionate to the value of the order and that the L/C
procedure is too cumbersome.

1.3.2.3) Delivery dates

We must be sure that the supplier is not too optimistic concerning delivery dates
which he himself proposed. Our research during the initial phase will indicate the
suppliers real capacity to meet the demand and of production rhythm throughout the
year.

Even if the supplier is able to hold to his promise concerning deliveries, we too must
be certain that we can rapidly find a ship going there, or available air cargo space. He
must be aware of shipping and airline schedules, and allow for a security float in the
actual delivery date.

Avoid promising delivery dates that are too short because the credibility of the
Trading House to honor its commitments is at stake.

In the case of payment by L/C, if shipment is delayed past the expiry date of the L/C
will result in the bank s refusal to pay. If the supplier is incapable of meeting the
delivery date, we will have to ask the buyer to amend the L/C to later shipment and
expiry dates. These changes will cost money and may discredit the Trading House to
its client.

Of course, any dates proposed during the research phase are only indicative. When an
actual sale is concluded, the proper dates will be confirmed. Nevertheless, at the very
outset, it is important to establish realistic delivery dates which can be met when
orders are secured.

1.4) Seeking information about potential clients

We must gather as much information as possible on potential clients: reputation,


business volume, financial capacity and solvency. Our embassies and delegations can
give us a first evaluation, but that is not their function. However, they can obtain a
potential client s credit rating through credit services in the importer s country. Such
credit reports, which can cost between $50 and $150, must be paid by the Trading
House.

We are still at the preliminary stage, where information can be obtained without
directly asking the prospective client. Later, he will be asked for banking and
business references, and we can expect him to ask the same of the Trading House.

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2) PREPARING THE TRIP ABROAD

There are three options available to the Trading House wishing to visit a foreign market:
1) Participate in a trade mission.
2) Make a personal prospection trip.
3) Participate in a trade fair.

Whatever the chosen option (mission, prospection or fair), it must be well prepared at
least three months in ahead of time.

First, the trip must have clearly defined objectives. We then make a list of preparatory
tasks, which include the gathering of precise information on the country, and the
preparation of suitable material - samples an documentation.

2.1) Objectives of a visit to a foreign market

2.1.1) Making new business contacts

The prospection trip, commercial mission, or participation in a trade fair allow us to


meet potential buyers directly, whether they be importers, distributors or agents. On-
site travel is an ideal occasion to:

• make the Trading House and its specialization better known: the products and
markets where it has experience and secure contacts,
• acquire new business opportunities,
• reinforce its network of contacts, find new clients and products, and develop
reliable sources of information.

2.1.2) Validating data from the market study

The market study allows us to evaluate the potential demand for a product and know
the principal operating mechanism of the market. Most of the information was
provided at the time of the statistical analysis and through specialized periodicals,
trade directories, personal contacts, or government services.

At this point, the first objective of any on-site visit must be to validate and complete
the data furnished by the market study. Based on direct contact with potential buyers,
we will be able to measure the real size of the market and analyze its structure with
precision.

2.1.3) Knowing the distribution channels

Meeting potential buyers will allow us to know precisely how a type of product is
distributed on the market, who are the intermediaries, their method of distribution by
regions, (cites, villages, etc.), the networks, and type of clientele they serve, their
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purchasing habits, (in particular, frequency of restocking, volume of orders, stock


management policies, conditions for listing with supermarkets, entry of new items on
the market, required promotional support, payment conditions, mark-up practices,
etc.)

2.1.4) Analyzing the competition

Learn the range of products offered by a competitor, the prices and sales conditions,
the distribution network they use, their share of the market and the territory they
cover, the sale and promotion techniques, publicity campaigns, etc.

2.1.5) Check product interest

We will check with importers to see if our product offers sufficient competitive
advantages compared to the competitor s product, and if they correspond to a real
need. We will then ask for information on how that type of product is used locally,
and we will verify if the product we propose corresponds to the habits and tastes of
local consumers. From this, we will learn if we have to revise our position, and what
modifications may be necessary.

2.2) Gathering information on a country 6.

Much of this information we will already have from the market study. It will have to
be verified and updated with more practical, complementary data.

• Most favorable time for research: We must be informed of all statutory


holidays, vacation periods, and avoid year-end periods, and international
conventions. We must also be informed on the climate and possible travel
difficulties in certain periods of the year.

• Principal commercial languages in use: ability to speak the local language is


sometimes a determining asset. It allows us not only to avoid
misunderstandings during negotiations, but also create a climate of confidence
and sympathy from the very start. The success or failure of such a venture
will rely in big part on the quality of relations established at the start.

But we must be careful: unless we master the language and all its subtleties, which
not everyone can, we would be better off using our own language in negotiations.
The composition of the team sent on such a mission will have to take into
consideration, the business language to be used. In certain cases it will be
preferable to provide an interpreter on site, on condition we can be assured of his

6
See Annex 1: “Sources of information for market study, fairs, exhibitions.”

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competence, loyalty and total availability (e.g. good mastery of technical and
commercial terms). Do not forget multiplicity of languages in certain countries
(China, India).

• Airlines which serve the country, direct flights or connection delays, frequency
of flights, and seasonal availability.
• Principal cities and the distance separating them: identify the business capital.
• Local transport and how they perform: size of network, frequency of
domestic flights, state of the roads in season or frequency of trains, and rail
connections, etc.
• Formalities for importing samples.
• Formalities required by immigration: visa, inoculations, etc.
• Useful addresses, i.e., Embassy, consulate, Chamber of Commerce, etc.

We must also learn the business habits of the country: working hours for offices and
stores, negotiating techniques, payments terms practised, all of which is
complementary information to the market study to be added to the country file .

2.3) Arranging meetings

• Requests for meetings must be written and should stimulate interest without
revealing too many of the product s characteristics. The objective is to make
contact, not sell by correspondence.
• Send written material at the same time as you ask for a meeting.
• If necessary, follow-up by fax and phone.
• Ask to meet with our commercial counsellors at the Embassy or the
delegation.

2.4) Planning the trip

Once meeting dates have been confirmed, a travel plan is set up which should indicate
departure dates and length of stay for each stop. We also have to co-ordinate dates
with existing transport facilities, which are not always easy. All this takes time, which
is one of the reasons why it must be done prior to departure.

Do not schedule meetings too close in the same day. Leave yourself some leeway to
allow for the inevitable delays, indispensable extensions for certain talks, the necessity
of repeat visits, and unforeseen difficulties in getting around in certain countries.

It is important to know the ways and customs of the country when planning your visit:
in Mexico, for example, all negotiations take place within the framework of an
obligatory, getting-to-know-each-other dinner. Business discussions take place
only after a climate of confidence has been established.

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In Germany it s exactly the opposite. Business matters are dealt with directly; time is
very precious, and punctuality is almost a religion.

It can never be repeated enough: a well prepared trip, down to the most minute detail
is indispensable for success. That being said, we must also take the unthinkable into
account and leave ourselves some manoeuvring room. Certain opportunities may
arise on site, and we must be able to seize them without affecting engagements with
the next prospective client. Flexibility and adaptability to events are indispensable
qualities for a team engaged on a market research trip. We must know how to
improvise solutions and not be blocked by unforeseen obstacles.

Once travel plans have been established, we must make certain that we do not exceed
our projected budget. In that case, we will make certain adjustments, but never at the
expense of our efficiency.

Leave a precise copy of your itinerary with the home office: names of enterprises,
business contacts, hotels, fax, telephones, etc.

2.5) Preparing meetings

• Maintain a separate file for each prospective client containing the contact s
name, co-ordinates, data on the prospective enterprise, objective of the meeting,
and what products are to be presented.
• Prepare standard index-card, data reports, to be updated after each meeting. As
a means of control, it allows for an me office every night and help initiate the
follow-up without waiting for the team to return.
• Prepare arguments and responses to anticipated questions which will have to be
answered without hesitation. Be sure members of the mission have absorbed
these facts well by staging or simulating sessions before departure.
• Draw a list of questions to ask prospective clients and commercial counselors.
• Print business cards: Trading House cards, clearly identifying us as agents for
the represented product who s logo also appears.

2.6) Preparing samples

Use common sense in making your selection, keeping luggage weight restrictions in
mind.

Two months prior to departure, request an ATA booklet from the Canadian Chamber
of Commerce
1080 Beaver Hall Hill, Suite # 715, Montreal, Quebec H2Z 1T2
Tel: (514) 866 4334 Fax: (514) 866 7296
or
350 Sparks St., Suite 501, Ottawa, Ontario K1R 7S8
Tel.: (613) 238-4000 Fax: (613) 238-7643
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An ATA booklet is necessary because samples can be subject to customs duties. In


requesting the booklet, we must provide details on the type of samples and countries
to be visited. Cost is calculated by the Chamber at approximately 40% of the
sample s value. At that time, we must post a certified cheque, a letter of credit, or
cash deposit, as a guarantee. This way, the Chamber is guaranteed that if samples
brought into a foreign country will be taken back in the prescribed time. If not, the
Chamber will obliged to pay rights to the foreign country and is authorized to use the
amount deposited.

Small costs accompany the request of an ATA booklet and depend on the total value
of the samples. Cost varies with the value of the merchandise, from $70 to $325 (for
values over $50,000).

Many countries accept the ATA booklet and others are regularly added to the list. A
booklet is valid for twelve months, starting on the day it is delivered, and it can be
used for many trips, and by different employees, provided their names appear on the
original request.

A month before departure, we must contact Canada Customs to validate the ATA
booklet.

2.7) Resolving practicalities

• Ticket reservations: shop around between travel agencies to find best services
and prices.
• Hotels reservations: choice of hotel should be based on the following criteria:
Ø Geographic proximity to the prospective client or the airport,
Ø Facility of circulation inside the city depending on traffic hours,
Ø Equipment, fax, telex, and acceptance of credit cards,
Ø Hotel prestige (classic question - where are you staying ?)
Ø Comfort (quiet, air conditioning, reception room, surroundings),
Ø Costs (taking into account the length of stay and global budget).
• Visa application: be careful, watch for delays and authorized length of stay: the
dates that you have asked for are sometimes definitive and difficult to modify
on site (in Algeria, for example).
• Validate your passport: certain countries require a minimum length vastly
superior to the time actually requested.
• Vaccinations: think of the minimum inoculation period and possible adverse
reactions.
• Preventive treatments (Nivaquine, etc.) must begin before departure.
• National and international driver s licenses.
• Insurance (personal, luggage, and samples).
• Traveller s cheques, (security).

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• Foreign currencies: purchase a small amount of local currency, in small bills,


before departure.
• Credit cards: verify expiry date, and acceptability in that country.
• Think of clothes that conform to the climate and customs of the country being
visited.
• In most countries, bringing gifts is always an appreciated gesture.
• Maps, city plans.
• Documentation on the country being visited.

3) FOREIGN MISSIONS

Trade missions figure prominently among the activities organized and sponsored by both
federal and provincial governments. They are well promoted among the business
community of the visited country. Such trade missions allow manufacturers of a
particular sector to seek new markets, by organizing meetings with pre-identified buyers.

To penetrate countries with a centralized economy, these trade missions are


indispensable. In such countries, it can be difficult for a Trading House to meet buyers
without the support of high level political contacts which only an official trade mission
can provide.

4) TRADE SHOWS

Participating in a trade fair is an easy and relatively inexpensive way, (between $5000 and
$10000) which allows a Trading House to:

• Test its product in relation to the local market


Discussions with buyers allow us to better understand real needs and to verify
the adaptation of our product to meet the precise expectations of the market.
Questions asked, reactions of visitors, arguments which are the most
convincing, will allow to get a better feel of both the strong and the weak points
of a product.

• Examine competing products


Maximum information on participating competitors must also be gathered:
product range, novelty goods, services, arguments used, price and conditions
and sale, promotions.

Better knowledge of a potential buyer s priority interest, as well as the


advantages and weaknesses in relation to competitive products, allows us to
orient our marketing strategy in terms of product range, packaging, price, sales
terms, choice of distribution circuit, communication, etc.

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• Seeking new clients


Negotiations begin with the first direct meeting with importers, distributors and
agents. Each contact at the kiosk must meet one of the following objectives:
1) An immediate order,
2) A meeting immediately after the exposition,
3) Co-ordinates for following-up on prospective clients.

• Communications
The trade show is the best way to disseminate business information, or to
reinforce or modify the distinctive image of an enterprise.

In order for participation in a trade show to be profitable, we must have precise


objectives and a clearly identified target market, because participation in and of itself,
is not necessarily profitable. Again, choose the trade show that is best for your
product.

5) CHOOSING A TRADE SHOW

A well targeted trade show is an exceptional opportunity to meet, in the same place over
the space of a few days, a large number of professionals from a particular sector, many of
whom are decision-makers and, thus, potential buyers.

There are two categories of trade show:

1) Multi-sector international trade show open both to the public and professionals:
They permit us to get known and, instead of just making real business contacts, it
allows us to establish our identity and engage in public relations, (Examples:
Frankfurter Messe, Hanover Trade Show, Foire de Paris).

2) Specialized exhibitions devoted to a particular sector: they bring exhibitors


together from around the world and present a panorama of what is being offered
in that sector. Restricted to professionals, they allow a real perspective of the
actual market. (Example: In Paris, le Salon International de l Alimentation
(SIAL)

Some basic criteria exist to guide the Trading House in the choice of a trade show. We
have to be able to respond to the following questions:

• Is the show sponsored or approved by a well known organization?


• Is the popularity of the show on the rise, or in decline? Certain trade shows are
really unavoidable events because they know how to regenerate themselves and
continue attracting a faithful public. Others, in contrast, know the life of all
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products: an ascending phase, followed by a period of maturity, and then a


decline.
• Who are the other exhibitors? Is the site appropriate?
• What is the impact of the organizer s publicity program?

B) ADAPTING THE PRODUCT

Success of a product in the North American market does not necessarily guarantee
equivalent success elsewhere. Each market has its own characteristics and we will often
need to adapt our product to the needs and customs of foreign consumers. A prospection
trip, a foreign mission or a trade show, allow us to better know the characteristics of the
market and any necessary adaptations to be made to our product.

With regards to primary products such as construction materials, chemical products or,
food, the process of adaptation will consist mainly in respecting technical norms or
sanitary rules imposed by the importing country. For example, modifications in the
product s unit weight, the size and nature of packaging, certain labelling requirements or
the excluding of non-authorized ingredients.

Acting as merchant, the Trading House must complete these modifications through its
supplier and negotiate with him, the necessary extra costs. It can also decide to buy the
product as is, and to have it modified by a specialized sub-contractor.

In the case of a more developed product which needs a specific marketing strategy, and
for which the Trading House acts as export agent, the adaptation will be much more
complex. It will be supported by precise analysis of the needs and customs of the country,
and depend on a chosen niche of the market.

Since adaptation of the product will raise its cost, the supplier, in collaboration with the
Trading House, must closely evaluate both the short and long term sales potential, in
order to verify that such supplementary expenses are justified. These modifications must
be decided on only after comparing the final price of a product to those of its competitors
in the foreign market.

Too high an adaptation surcharge, if entirely reflected in the sales price, might make the
product non-competitive. To capture a market share presupposes that the Trading House
offers superior quality and price than competitive products being offered, which means it
will have to propose superior quality while keeping prices in line with the competition.

It is therefore fundamental to precisely evaluate the adaptation cost and compare the
product s final price with the market price. If the surcharge is too high, the Trading
House might advise the supplier to change the marketing strategy, or even eliminate that
country as a possible market.

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1) ADAPTING TO TECHNICAL NORMS AND NATIONAL REGULATIONS

Whether we buy a primary commodity or a manufactured product they must conform to


technical norms and regulations of the importing country. The Trading House must
advise and assist the supplier in understanding, precisely, the procedures necessary to
acquire a certificate of approval for the product,

The aim of such norms is to institute a homogenous quality with precise standards in a
given country. Norms often differ from one country to another. The absence of universal
norms constitutes a major problem in the creation of new industrial products. For
example, the supplier might risk confronting contradictory governmental norms with
respect to components, material used, or quality control system.

These differences might stem from a technical incompatibility: for example, frequency
and voltage of electrical current, (50 cycles and 220 volts in Europe, 60 cycles and 110
volts in North America) or again, different spread in rail lines depending on the countries,
etc.

Besides such technical constraints, these norms respond most often to security or
reliability criteria imposed by the state.

More and more, products must conform to regulations respecting the environment and
protection of endangered species: non-polluting, bio-degradable, non-harmful to the
ozone layer, not having been tested on animals, or using animal parts from protected
species, etc.

The Trading House will have to do a precise preliminary study of the applicable system of
norms and verify that the product conforms to regulations in use in the country.

It may assist the supplier in the preparation and follow-up of certification trials which are
sometimes required before entering the market. These procedures are complex, the
specification sheets difficult to establish, and the technical observations formulated in a
foreign language can often be difficult to understand.

2) ADAPTING TO NEEDS OF THE MARKET

The supplier will have to adapt his product to the specific needs of that market share
which he has defined in the market study and further validated by his on-site prospection.

This adaptation becomes difficult at the export level and will necessitate the intervention
of the Trading House. The information may be slower to obtain and refer to a consumer

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pattern which the supplier does not know. Adaptation of the product applies on quality,
identification, brand, design and packaging.

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2.1) Quality

Each country establishes its own quality criteria based on consumer habits and
product use. In fact, a quality product is one that most satisfies the needs of the
market niche to which it is destined.

For each product-market pair (i.e. a given product to a given market) the buyer s
quality criteria will differ: reliability, security, life-span, suitability, performance,
convenience and ease of use, attractiveness, and taste.

The Trading House must also translate, into technical terms, the quality requirements
that correspond to each of the criteria and establish the exact terms of reference to
which the product will have to conform.

The supplier must, not only have conceived the product in a proper manner, but also
be able to insure excellent after sales service. This factor is of capital importance
when it comes to industrial products, and it is nearly always the first question asked
by buyers during the research phase.

2.2) Product identification is done by descriptive name, label and brand.

2.2.1) Appropriate name

We must first use the appropriate name for the product as defined by regulations or
professional norms of the country of destination. Customs tariffs and coding systems
require a precise definition of a product, not just its generic term. The Trading House
must search for the exact name as defined in the importing country.

2.2.2) Labelling and instructions for use

Labels and instructions for use of the product must be precise and respond to
requirements of consumers associations, and provide consumers with precise
information on the product s characteristics and manner in which it is used. For
example, food products must indicate the ingredients, the origin of the product, its
weight or content, the recommended shelf life and ideal method of preservation.
These must be precisely translated into the language of the country.

2.2.3) Choice of brand

Brand identification is not very important in the case of primary commodities as the
Trading House or the importer will use their own brands or that of their clients.

By contrast, in the case of a finished product for which the Trading House must
develop a complete marketing strategy, brand recognition will be very important. The

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label used by the supplier for the Canadian market, or other export countries, will not
always be appropriate to the market being targeted.

First, a name may not be available because it has already been registered in a country
for similar products. It might also be in use for very different products which can
create consumer confusion. The name used in Canada might have very negative
significance in another language, and constitute an overwhelming obstacle for
distribution of the product. It might give a ridiculous, or indecent image of the
product, contrary to the qualities being proclaimed. The name might also be difficult
to pronounce making it equally difficult to remember.

Mainly, the brand name serves to convey an image of the product on the market and
allow it to claim its niche. Judiciously chosen, it facilitates identification of the
product with the qualities we wish to sell to the consumer. It is a fundamental
element of the mark s good image. The market study and on-site visits will enable the
Trading House to properly advise suppliers of an appropriate label.

For certain products, the brand will represent the most essential value of the product.
Establishing a name requires time and a substantial communications budget. For
example, success in selling a mineral water, or perfume will mainly consist of
imposing a brand or image. For those products, it is the image of the product, more
than the actual product itself, which is being sold.

If the Trading House sells a product to an importer, the latter is then able to distribute
the product under his own trade mark , or one of his distributors. He will also be
able to distribute the product under the export brand chosen by the Trading House, in
accord with the manufacturer. This poses the problem of the right to exclusive use of
the brand in the market, a condition often required by the importer or the distributor.
This will be one of the fundamental points in negotiating the distribution contract,
because it defines the notion of exclusivity, and must be compensated by the
distributor committing himself to a minimum sales volume.

When the Trading House sells through an intermediary such as an import agent it will
distribute in the country under its own label. This will constitute one of the
fundamental elements of the agent s contract. The agent will be the exclusive
representative of that name in his own territory; it attests to the durable character in
the marketplace of the relationship between an agency contract and the direct control,
exercised in this case by the Trading House. The essential problem is to know who,
of the Trading House or the local representative, will register the brand name and
who will be the owner in the chosen market.

2.3) Design

An adequate design must enhance consumer confidence, facilitate practical use and
appearance of the product and it must be adapted to conditions of use in that country.
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In certain markets, an original design may give a product a distinct advantage over its
competitors.

Its design must take into account all information furnished by the market study and
observations on main selling points acquired during on-site visits to trade shows,
exhibitions, etc.

The form of the container, a secure cap suitable for measuring proper quantities, am
easy-open mechanism, ease of assembly or a fluorescent coat are just some examples
of design that can bring added satisfaction to the consumer. In other markets, an
avant-garde design is not the primary interest, the decisive criteria being, above all,
the price, durability and reliable after-sales service.

2.4) Packaging

The packaging serves to protect the product during transport and storage. Working
with the manufacturer, the Trading House studies the most adequate form of
packaging, taking into account transit time, distance, handling and transhipment,
means of transportation, and possible delays. We must be careful that packaging
costs do not mean an excessive increases in a product s final price.

Product appearance and unit size must be adapted to consumer habits of the country.
The design must be supported by information provided by the market study. It must
attract and inform consumers, and it must communicate a positive image of the
product.

In other words, a good presentation will help sell the product, especially at point of
sale.

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CHAPTER 5

NEGOTIATION

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CHAPTER 5

NEGOTIATION

You don t have a deal until you have a deal.


George Shultz, U.S. Secretary of State - 1980s

INTRODUCTION

Negotiation is more of an art than a technique which makes it difficult to teach in a


classroom situation.

Negotiations among traders and between traders and manufacturers depend as much on
the nature of the transaction as on the personalities of the parties involved. There are
many ways to negotiate. Methods vary from one continent to the other, one country to
the next, and one civilization to another. They also vary between individuals no matter
which country they are working in, just as they vary depending on the context in which
they are carried out.

In a new environment, a negotiator s first task is to make an assessment of the situation.


He will not try to push people into coming to an agreement during the first contact since it
would only make the other party entrench into a position which it would be difficult to
change without losing face.

Yet, many discussions often lead to this kind of deadlock. Negotiations end up in
frustration and conflict. Comments such as, He got me this time, but he won t do it to
me again , are common. This type of reaction only promotes revenge. The frustrations
escalate and are often expressed in ways that are harmful to the individual s reputation. It
is more important to try and build a solid working relationship whereby problems are
solved and agreements are profitable for all parties. There may not be a next time .

A contract is all the more successful when it generates new ones. Both parties must feel
that they have gained something from the transaction. Mutual concessions are required
for the expectations of both parties to be fulfilled. They need to obtain what they want
within a relationship of trust. The very fact of entering negotiations implies that the
parties hope to reach an understanding. When a contract is being discussed, it means that
they are indeed interested and the agreement will most likely take place.

Traders have to aim for repeat sales. Loyal commercial partners are the best proof of
satisfaction. Loyalty is the basis of long-term business and growth. The other party has
to be satisfied with the form as well as with the result of the negotiations. One-shot deals
are not to be recommended. A trader should not consider making a sale or a purchase
and then moving on to something different. Every transaction affects a trader s reputation

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in one way or another as well as his business network. The effects will be felt for a very
long time.

1) NEGOTIATION

In international trade, as in any other field, every aspect of business can and should be
negotiated. Negotiating is part of a trader s job - when he sells to the client abroad, buys
the goods from the supplier, or deals with carriers, warehouses, insurance companies or
banks.

Skilled negotiations are extremely important for a Trading House when it first establishes
a network of banks, clients, suppliers, carriers, etc. Negotiations are carried out right
from the start of business. Unfortunately, this is the most difficult time, since traders have
very little experience or leverage at the start of business. Once the network is in place, a
Trading House will deal mostly with the same contacts. A Trading House s leverage in
negotiations fluctuates with its sales volume and reputation.

As the Trading House acquires a good track record, negotiations become easier.
However, when changing its usual mode of operation or dealing with a new type of
transaction, the Trading House will have to engage in a whole new round of negotiations.
Unusual transactions are quite common in the daily operations of a Trading House. A
trader must then be able to surmount these types of problems or situations by using his
finest negotiation skills.

Negotiation is a matter of tact, diplomacy, and as mentioned above, the


personalities of the negotiators. Negotiation is a constantly evolving balance of
power between two parties that have the same goals: maximizing profits and
building a long-term business relationship.

1.1) Preparation

Proper negotiations must be well prepared in order to be successful. The preparation


is as important as the process itself whether negotiating with his buyer or any of his
suppliers of goods and services.

Regardless of who the other party is, preparations generally include:

• Objectives and points to negotiate: What are we trying to achieve? The best
quality and service at the best price? A regular supply? An exclusivity? A line
of credit or favourable credit terms?

• The second best solution in case the objective cannot be attained.

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• Points to negotiate in the order of relative importance. Know your facts: for
example, when negotiating with a carrier, it is important to have all of the
information concerning the goods readily available. Also, what costs are
attached to each feature of the transaction and where is a concession the least
costly in relation to the advantage we can gain against that concession.

• Outside influences.

• Evaluation of one s position in view of the possible scenarios that may arise
during the negotiation and fall-back positions.

• Questions to ask.

• Initial offers.

• Options.

• Guarantees required.

1.2) Communication

Once the preparation is complete, communication is the second most important phase
in negotiations.

The quality of the spoken word is essential for the success of the transaction. It is
important to master a language and its levels and tone in order to really know what the
other party is thinking. When doing business with a foreigner from a very different
culture, it is important to adapt to the other person and really get to know him since
any misinterpretations may lead the trader astray. This is one of the difficulties in the
international milieu. It is important to be aware of cultural differences in order to
understand and get along with people from other countries. This is also one of the
most fascinating aspects of the job. The tone of negotiations should be clearly
understood in order to improve it if need be.

Listening is just as important as talking. It helps to better understand and


discuss the issues at hand.

1.3) Relationship between the parties

The relationship between the parties should be based on rationality, understanding,


effective communication, honesty, an absence of undue pressure, and an acceptance of
the other party. This is often the case when dealing with a member of the Trading
House s network with whom one wishes to keep an excellent working relationship.
However, when problems arise, the best way to improve the situation is to be rational
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and open with the other party (even if they do not appear to want to understand your
position), try to maintain two-way communication, and take the interests of the other
party into consideration.

1.4) Strategies

Learning the basics of preparation, setting the tone, the nature of business
relationships, and communication during negotiations is far more important than
learning the strategies and tactics of negotiating. Strategies and tactics must be used
very carefully or else the dealings and reputation of the Trading House could be
seriously affected. Some strategies are based on compromise while others are more or
less aggressive or conciliatory. It is important to know how to use the right strategy at
the right time.

2) STRENGTH IN NEGOTIATIONS

There are several types of strengths in negotiations. For example:

• The power derived from the competition s weakness;


• The extent of your personal commitment to your product, company, client, and
personal standards;
• Your desire to get the business and willingness to put in the required amount of
effort in order to obtain it;
• Your ability and willingness to take risks.

There are risks in both the transaction itself (price, payment, damage, loss, etc.) and in the
personal and professional traits of the parties involved.

• The strength of legitimacy or of regulations must be taken into account. The posted
price or the price of commodities listed in the stock exchange are examples of this
(e.g. coffee, grain, etc.).

• The extent of your information about the other party regarding his tastes, personal
interests, duties and obligations, professional limitations, organization, environment,
clients, and suppliers, etc. This information can help you make offers and discuss
on the same wavelength . Another way of preventing refusals and steering the
negotiations in the right direction is to limit the amount of information given to the
other party while trying to obtain information from him that he may involuntarily or
inadvertently provide.

• The time factor in trading: quick responses during negotiations are important, even
if the whole operation takes months to complete from contract time to final
execution.
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It is important to learn how to devote the appropriate amount of time to the different
elements of the transaction. Sometimes, quick reactions may be too fast. By showing the
need to settle business quickly, the trader can become vulnerable. On the other hand,
settling a transaction too slowly may give the other party the impression that there is a
lack of interest on your part. The other party may even go elsewhere to complete the
transaction.

CONCLUSION

Some points regarding negotiations should be reiterated:

• The seller and buyer should both be interested in making a deal.

• Negotiations should be carried out in such a way that the other party never feels
blocked. An honourable way out should always be made available to the other
party. This allows him to make choices and not feel that the solution is
inappropriate. He can therefore reconsider his first proposals without feeling
cornered. Negotiations should not stray from their goals because of a personality
conflict.

• Negotiations should be based on objective criteria such as market conditions, the


competition s prices, and production costs. These criteria and other personal stakes
can cause conflicts and never-ending discussions that can only be frustrating.

• Response time is one of the most important factors in a successful transaction,


even if the response is negative. However, one should not force a response from
someone who may end up feeling pushed or cornered. Opportunities come and go,
and market conditions change all the time.

• Negotiators should always have alternate solutions available and make it clear that
they are ready to make an effort when the time comes. This predisposes the other
party to greater flexibility as well.

• Compromises are not one-sided. When one side makes a concession, so should
the other. The person who makes the compromise should ensure that the other
party simultaneously accepts to compensate for it. If the other party does not
reciprocate, then the first party can withdraw his offer.

Evaluating the negotiations in which a Trading House has previously been involved is a
valuable means for learning and improving one s technique through experience. Since
there are plenty of situations where negotiations have been necessary, it is easy to
improve.
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Negotiating is an acquired art in a constantly evolving balance of power. Both


parties have the same objectives: maximizing profits and creating a long-term
business relationship. The rest is a matter of skill, diplomacy, and the personalities
of the negotiators.

3) OFFERS AND COUNTER-OFFERS

3.1) The offer

An offer must clearly show that the offeror is prepared to execute the contract in case
of acceptance. It is advisable to have a time limit on the offer. If you are short of time
when preparing an offer, indicate that it is only to be used as an indication. If the offer
is only preliminary, it should be clearly stated that a definitive offer will follow and
that only the definitive one will be legally binding. If the offer depends on a certain
event, it is important to make the offer conditional on event..

The acceptance of an offer is considered a legal contract whereby one company is


bound to another for a specific purpose. A contract can take many forms: it can be
officially typed up with all the terms of sale, signed by the buyer and the seller; a
proforma invoice prepared by the supplier and confirmed by the buyer; or a quotation
by the supplier which has been accepted by the buyer by mail, fax, cable, or any other
means acceptable to both parties.

Each point in the offer must therefore be carefully drafted to ensure that the potential
buyer understands every last detail. When the first draft of an offer is completed, the
trader should reread it for clarity and check if all of the following points are covered:

• Product description
Ø Type or quality
Ø Technical standards (one can also refer to brochures, technical drafts,
samples...)
Ø Weight, dimensions, volume
Ø Packing

• Quantity to be delivered
Ø Number or quantity (precise information regarding maximum/minimum
allowable delivery)

• Price
Ø Price per unit and total price
Ø Currency of payment
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Ø Clause regarding price fluctuations

• Terms of delivery
Ø Type of Incoterm used

• Payment terms
Ø Date and place of payment
Ø Payment guarantee: Letter of credit, cash against documents, etc.
• Shipment date or lead time
Ø Possible date of shipment from place of origin. If providing the exact
date of delivery is impossible, it is advisable to use the expression, first
available vessel or sailing.
Ø Estimated transit time
Ø Possibility of partial shipments
Ø Schedule of multiple shipments

• Validity of an offer
International convention and most courts of law consider that an offer is valid
the moment the offeree receives it (which explains the importance of using a
fax, telex, telephone or other instantaneous means of communication). The date
an offer becomes valid is important for the calculation of the acceptance date
and to evaluate a reasonable time limit if one has not been clearly indicated.

• Duration of the offer or expiry date and time of offer


Ø Two terms are often used to limit the Duration of offer : immediate
acceptance and prompt acceptance. The first term requires acceptance
within twenty-four hours or else the offer will be considered null and
void. The second term usually requires acceptance during the week
following the offer.
Ø Offer without obligation. Price indication only or indicative offer only.
Ø The quantity or delivery date may be subject to production.
Ø Offer subject to... prior sale, departure of ship, final confirmation, etc.

Other conditions can also be present. Most product sectors are governed by
usual practices of the trade that are understood by all parties. For example,
fish are sold subject to catch unless the goods are already in a warehouse.
The prices of plastic products vary according to crude oil prices. The same
applies for grain where prices can fluctuate from one hour to the next. Corn oil
can fluctuate with the price of corn.

• Country of origin
In some cases, the country of origin indicates the quality of the product. It also
indicates the level of import duty payable.

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• Other conditions
Ø Legal jurisdiction, applicable law, arbitration clauses.
Ø General terms of sale.

3.2) The counter-offer

There are three possible responses to an offer: acceptance as offered, refusal, or


counter-offer, commonly called a bid . The counter-offer can refer to the total offer
or to just one element. Any form of counter-offer is considered a refusal of the initial
offer and annuls it: this means that the offeror is no longer bound by his offer. He
does not have to prolong or amend the offer, and all responsibilities related to the offer
no longer apply.

It is wise not to start from a position not too far apart from the offer, otherwise the
chances of reaching an agreement will be reduced. The counter-offer should not bring
about the removal of the original offer. Taking ridiculous positions simply to test a
supplier or buyer is not an appropriate tactic. If this type of situation arises, it is
advisable to keep some self-respect and stop participating in a discussion that makes no
sense. Remove yourself from the discussion politely and leave the door open for
possible future conversations that may be on a more realistic basis.

The best strategy is to make the other party understand that it is in his best interest to
improve his position. For example, you can tell him what the competition s terms are
under the same conditions, in order to get a reaction from him.

Always ask for an explanation when the other party requests a lower price. Part of a
buyer s job is to lower the price. However, the lower price does not always get the
sale. It could well be that the initial price is already very good compared to the
competition s. Only well-documented proof can justify lowering a price. The
supplier s reaction and his flexibility regarding the price will indicate his ability to
negotiate further and give an idea of how the rest of the transaction will be carried out.

When the other party has made a counter-offer, the original offeror must accept or
refuse. All elements of the bid must be closely evaluated because they represent a
totally new deal. If the terms of the counter-offer appear profitable, the Trading House
will accept it and it will become a binding contract.

The Trading House may also issue a new counter-offer (counter-counter-offer), and the
other party will no longer be subject to the obligations of his bid. Negotiations can go
on like this until the parties either agree or terminate their discussions.
An offer can be accepted by informing the other party of one s acceptance. It can also
be accepted by following the instructions in the offer (e.g. by issuing a letter of credit
in favour of the Trading House, if that is one of the conditions).

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3.3) Other elements of the negotiation

• Lack of formality
The form in which offers and acceptances are presented can vary. They can be made
verbally, by mail, fax, telex or, today, by e-mail. This lack of formality applies to the
form of communications used. When parties have worked together for a long time,
a verbal agreement may suffice. However, it is strongly recommended that one
confirm the offer or acceptance in writing.

Flexibility simplifies business relations, but it is also a permanent source of risk. A


written document is not required to prove the legal presence of an agreement. But,
should legal action be taken, it is hard to prove that the agreement exists and the
nature of its contents. The most current practice is the written confirmation of the
agreement, by either party, repeating all the elements of the agreement that was
reached. This allows the other party to check if the confirmation reflects exactly
what has been agreed upon and to correct any discrepancies. If this correspondence
remains without reply, it is considered that the contents have been accepted.

• Revocability or irrevocability of an offer


A “firm” offer can be revoked if the cancellation arrives before the offeree sends an
acceptance, but only if he accepts the cancellation. An offer is considered firm if it
expressly states so or if the terms of the offer make it clear that it is irrevocable. The
terms which make an offer firm can include a time limit for acceptance, the
previous practices, customs, or habits of the offeror and offeree, and the type of
information included on previous documents. There are no rules which make it
preferable to have a revocable or an irrevocable offer. It is only a matter of
circumstances.

• Termination of an offer
Whether an offer is revocable or irrevocable, it is no longer valid when rejected by
the offeree, or if the offer expires without having been accepted by the other party.
When making a firm offer, it is often preferable to clearly state the expiry date (and
time, in the offeror’s time zone) of the offer.

• Acceptance of an offer
The offeree is responsible for accepting an offer. Even if, in some cases, no
response from the offeree means that he has accepted, one should not rely on the
silence of the other party to finalize a contract. Even if the offer clearly indicates that
no response is considered an acceptance, this is not always recognized in a court of
law.

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4) THE VIENNA CONVENTION

This is the name given to the United Nations Convention on Contracts for the
International Sale of Goods . The Convention has been in force in Canada since May 1st,
1992. It has been adopted by 34 countries, among which are the United States, Mexico,
France, Germany, Italy, The Netherlands and China. To-date, it has not been ratified by
Japan and great Britain.

The Convention applies to the sale of goods between parties whose places of business are
in different States, when these states have accepted the Convention. It can also apply
when only one of the contracting parties resides in a country that has accepted the
Convention. For example the Convention will apply to a contract, between a company in
Great Britain and a Quebec firm which is subject to Quebec laws, because the
Convention is also part of Quebec laws.

In order to avoid uncertainty and confusion as to the applicability of the Convention, one
of the parties must declare, at the start of the negotiation, if the terms of the Convention
will favour or be contrary to its interest. If the parties agree to exclude the applicability
of the Convention, an exclusion clause of the contract must clearly state this. The clause
must also specify which internal law of the State will apply to the contract, in spite of the
terms of the Vienna Convention.

In brief, the parties can freely contract business without recourse to the
Convention. The contract is valid and its clauses take precedence on those of the
Convention. Only in cases of dispute on points NOT covered by the contract can
the parties refer to the relevant clauses of the Convention.

The clauses of the Convention referring to offers and counter-offers have already been
covered in the present text. However, we wish to complete the presentation by
interpreting some of the other clauses of the Convention relating to the formation of the
contract, the respective obligations of the seller and the buyer, and the transfer of risks.

4.1) Formation of the contract

A proposal for concluding a contract addressed to one or more specific persons


constitutes an offer if it is sufficiently definite and indicates the intention of the offeror
to be bound in case of acceptance. A statement made by or other conduct of the
offeree indicating assent to the offer is an acceptance. Silence or inactivity does not in
itself amount to acceptance.

4.2) Obligations of the seller

The seller must deliver the goods, hand over any documents relating to them and
transfer the property in the goods, as required by the contract.
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If the seller is not bound to deliver the goods at any other particular place, and if the
contract involves the carriage of goods, the seller must hand over the goods to the first
carrier for transmission to the buyer. The seller must give notice to the buyer of the
consignment, specifying the goods.

If the seller is bound to arrange for the carriage of the goods, he must make such
contracts as are necessary for the carriage to the place fixed by means of transportation
appropriate in the circumstances and according to the usual terms for such
transportation.

If the seller is not bound to effect insurance in respect of the carriage of the goods, he
must, at the buyer s request, provide him with all the information available to enable
him to effect such insurance.

The seller must deliver the goods on the date determined by the contract or within a
reasonable time after the conclusion of the contract. If the seller delivers goods before
the date fixed, the seller may refuse to take delivery.

The seller must deliver goods which are of the quantity, quality and description
required by the contract and which are contained or packaged in the manner required
by the contract. The goods must be fit for the purpose for which goods of the same
description would ordinarily be used. They must possess the qualities which the seller
has held out
to the buyer as a sample or model, and be contained or packaged in the manner usual
for such goods or in a manner adequate to preserve and protect the goods. If the seller
delivers goods in greater quantity than provided in the contract, the seller may refuse
the excess quantity. If the buyer takes delivery, he must pay for it at the contract rate.

The seller is liable for any lack of conformity which exists at the time when the risk
passes to the buyer, even though the lack of conformity becomes apparent only after
that time. The buyer must give notice to the seller of a lack of conformity of the goods,
specifying the discrepancy, within a reasonable time after he has discovered it or ought
to have discovered it. In any case, the buyer loses the right to claim, within two years
of delivery at the latest, unless this time limit is inconsistent with a contractual period
of guarantee.

The seller must deliver goods which are free from any right or claim by any third party,
unless the buyer agrees to take the goods subject to that right or claim.

If the goods do not conform with the contract, and whether or not the price has been
paid, the buyer may reduce the price in proportion of the value that the goods actually
delivered bears to the value that conforming goods would have had at the time of
delivery.
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4.3) Obligations of the buyer

The buyer must pay the price for the goods and take delivery of them as required by
the contract. If the buyer is not bound to pay at a specific time, he must pay when the
seller places either the goods or the documents controlling their disposition at the
buyers disposal. The seller may make such payment a condition for handing over the
goods or the documents. The buyer is not bound to pay until he has had the
opportunity to examine the goods, unless the terms of the contract are inconsistent with
his having such an opportunity.

4.4) Passing of risk

Loss or damage to the goods after risk has passed to the buyer does not discharge him
from the obligation to pay the price, unless the loss or damage is due to an act or
omission of the seller.

If the contract involves carriage of the goods and the seller is not bound to pass them
over at a particular place, the risk passes to the buyer when the goods are handed over
to the first carrier for transmission to the buyer according to the terms of sale.

If the seller is bound to hand over the goods to a carrier at a particular place, the risk
does not pass to the buyer until the goods are handed over to the carrier at that place.
The fact that the seller is authorized to retain documents controlling the disposition of
the goods does nor affect the passage of the risk.

4.5) Exemptions

A party is not liable for a failure to perform any of his obligations if he proves that
the failure was due to an impediment beyond his control and that he could not
reasonably be expected top have taken the impediment into account at the time of
the conclusion of the contract or to have avoided or overcome it or its consequences.

To be considered as force majeure , the impediment must be unpredictable,


irresistible and external to the will of the party concerned. In essence, it must be such
that a prudent and diligent action on his part would not have prevented it.

It must be noted that there are 101 Articles to the Convention and it may be
useful to consult the full text in annexed to this chapter.

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CHAPTER 6

TRANSPORT AND LOGISTICS

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CHAPTER 6

TRANSPORT AND LOGISTICS

1) THE CHOICE OF TRANSPORT MODE

A good transport strategy is a key element to your export success. In fact, the appropriate
transportation method can be determined based on six factors: The geographical location
of the seller and the client, the nature of the product to be shipped, the delivery time, the
packing requirements, the financial requirements and the risks of theft and damage.

The sales terms used in your export contract will determine which party will be assuming
the transportation charges, seller or buyer. But in any case those charges will always be
reflected in the actual cost of your product and will determine its competitiveness on the
projected markets.

A good Trading House should elaborate its own transport strategy. This will allow it to
chose its own shipping method, thus controlling its cost and delivery times, as well as
minimizing the risk of loss and damage. The Trading House must become the shipping
expert on it s designated markets.

But before choosing a transportation method, you must go through the following four
steps.

1.1) Step one: understanding our own needs

The costs of the available transportation methods should determine the choice. But
other factors must be considered such as the product s own characteristics: weight,
dimensions, fragility, value and packing requirements. This should determine the risk
of loss or damage to the goods.

1.2) Step two: understanding the client’s needs and capabilities

If the client possesses his own transport resources (for example a truck fleet) he will
undoubtedly want to handle some parts of the transportation. The Trading House can
also often benefit from its client s experience by utilising a freight forwarder known
to the client and even obtain more advantageous transport rates.

You must also understand your client s cargo reception and handling system. This
could influence how you can pack and ship the product (bulk, packed, on pallet or in
a container)

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1.3) Step three: evaluate the carriers

While considering the cost of the different carriers, you must also consider the scope
of their service, the frequency of their departures and their transit time. Your choice
must also account for their professional competence and their reputation.

1.4) Step four: getting the best price

You must be very careful when evaluating your shipping cost. Many factors can
influence the price (freight, packaging, loading, unloading, warehousing, numerous
handlings and insurance rates).

But in certain cases you will have to pay more if you want a personalized service,
quicker deliveries or any other special attention. These factors can sometimes play a
role in the efficient delivery of your products.

A reliable carrier is very important to ensure


your clients’ satisfaction
and
the continued growth of your business relationships

2) THE TRANSPORT OPTIONS

You can count four basic options: truck, rail, air and ocean transport; they all have their
advantages and inconveniences. We will review them later. Even though you can compare
them, in many instances they are not really in competition, but rather complementary to
each other. In some cases an option simply does not even apply. Usually the final solution
will depend on the actual needs of the two principal parties, the buyer and the seller, the
readiness of the product and the cost of the operation. Note that the extent of packaging
required depends also on the transportation mode chosen.

On the international scene, the transport options are usually more complex than on the
domestic markets. For an international transaction you must deal with a mixture of
different modes because trucking is usually associated to sea freight, air freight or rail.
We thus consider that all international traffic is intermodal or multimodal.

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2.1) Ocean freight

Ocean freight imposes itself as soon as you talk of an overseas shipment or when you
deal with large volume commodities. The size of the hatches being greater than any
other modes, the economy of scale makes it very affordable.

For smaller volumes, the ocean container has become the basic tool to handle most
commercial overseas shipment. By simplifying all phases of the transportation chain it
allows for major benefits in your transportation cost. It is an intermodal piece of
equipment that can be transferred from ocean to rail to truck; this makes it the ideal
tool for consolidations. The space inside the container can be quoted at a fixed price,
irrespective of the quantity you are shipping. This greatly simplifies your unit cost
calculations.

Ocean transportation is becoming extremely specialized, and even though the


container seems the ideal tool, there exist many different types of vessels that could be
better suited to your needs: bulk carriers, oil tankers, wine carriers, RO-RO Vessel
(Roll-On / Roll-Off), container ships, etc.

Ocean transportation, more than the other modes, requires the utmost care. Since the
volumes are usually greater and more cumbersome you must be able to control every
aspect of the movement. Ports and terminals are highly congested areas and their use
is very expensive. Also port charges and customs vary greatly from one country to
another. The shipper must be very careful when he calculates his selling price.

2.2) Types of Ocean services

There are three types of ocean services:

1) Liners : Shipping Lines that offer regular services and sailings on specific
routes.
2) Tramps :Vessels not attached to any specific trade lanes. They offer their
services on demand.
3) NVOCC : (Non Vessel Operating Common Carriers) or NVO (Non Vessel
Owning). Companies that offer regular ocean freight services but
that
do not own vessels. (slot charterers, groupage operators etc.)

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2.3) Liners and Conferences

A shipping company that operates a liner service can, by choice, be part of an ocean
Conference. The Conference groups shipping lines that service ports in a specific
region. For example, one Conference covers the traffic between ports on the Canadian
East coast and North European ports. It is called the North Atlantic Eastbound
Conference.

Many reasons may motivate the use of conference lines:

1) Stable and uniform rates from one line to another;


2) Regular service and fixed sailings;
3) The possibility of obtaining preferred rates by negotiating an exclusivity contract
with the Conference.

You can also negotiate with a conference member a reduced rate for a specific
transaction, commodity or season, etc. This reduced rate will be published and all
members will respect it and it is made available to all shippers.

Certain carriers will prefer to offer a regular ocean service outside the conference thus
offering its own tariffs.

2.4) Ocean freight cost

Ocean freight cost is usually calculated on the basis of several criteria: the
commodity, the weight and the volume to be carried. The ocean freight is based on a
weight/volume factor of 1,000 kg for 1 cubic meter of volume, the carrier using the
highest revenue-generating factor.

Example: If you have a freight rate of $100 W/M (weight or measure) for a specific
commodity and a crate that weighs 2,500 kg with a volume of 5 cubic meters, your
ocean freight cost will be:
5 cu.m x $ 100 = $ 500, instead of 2.5 tons x $ 100 = $ 250
Containers are usually assessed a lump sum price from port to port or terminal to
terminal. The container is supplied by the carrier and you are responsible to load it.
The cost remains the same whether you fill it up or not. Containers are limited by
weight and inside space. Ocean freight rates can vary tremendously and you must
make sure of what is included in your rate:

• port charges
• terminal charges
• adjustment factors (fuel or currency)
• etc.

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2.5) Transhipment

It is generally agreed that the best ocean routing is usually a direct routing without a
transhipment. Your merchandise is more susceptible to arrive intact if it is subject to
less handling on the way. You must consider if a lower cost is worth the higher risk.

Also it is important to note that some letters of credit can prohibit shipping with a
transhipment. Usually banks do not consider a container transfer from one ship to
another as a transhipment as long as the Bill of Lading covers the total voyage.

2.6) “NVOCC” (Non Vessel Owning Common Carrier) and “NVO” (Non Vessel
Owner)

They are known as ocean service providers or consolidators. They are companies
that offer ocean freight services but do not operate ocean vessels. These companies
specialize in ocean groupages, transhipment and intermodal movements. They can
issue Bills of Lading and offer the same services as steamship lines.

When a freight forwarder offers a groupage service and issues his own Bill of Lading
he is considered an NVOCC or NVO.

2.7) Tramps

The vast majority of ocean carriers are tramp vessel operators. They operate on the
principle of supply and demand. These vessels can be chartered to handle large
volume commodities or when regular services are not available. For example:

• If no steamship lines offer a direct service, or


• If you require special equipment for liquids, gases, bulk grain, fruits, animals or
heavy machinery.

2.7.1) Freight Rate and Charter Party

There are several ways to establish a freight rate for a chartering contract.

• VOYAGE CHARTER: A contract for a specific trip


• TIME CHARTER: A contract for a specific time period
• COMMODITY CONTRACT: A contract for a specific quantity

The agreement between a shipper and a vessel owner is called a Charter Party. This
document spells out the responsibility of both parties involved, such as:

• loading/unloading charges
• port charges
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• wharfage
• bunkers
• demurrage
• working days
• etc. etc. etc.

Note: Chartering a vessel is a very complex procedure, it is important to work


with a specialist such as a chartering broker who will protect your interests.

2.7.2) Port handling charges

In addition to the INCOTERMS (see Annex 5) which are usually used in your sales
contract to set out each parties responsibilities, other terms are commonly used in
shipping. Carriers will use specific terms to determine if certain port charges are
included in their freight rate.

• F.I.O. (Free in and out): Loading and unloading of vessel in the ports are not
included in freight rate.

• L.I.F.O. (Liner in - Free out): Loading of vessel included but unloading not
included in freight rate.
• F.I.L.O. (Free in - Liner out): Unloading charges are included but loading
charges are not included in the freight.

• FULL LINER TERMS (Liner in - Liner out): Both loading and unloading
charges are included

2.7.3) Demurrage charges

Demurrage charges are assessed when a ship is held in port in excess of the agreed
time period allowed for loading and unloading. The amount, usually substantial, is
agreed upon signing the Charter Party with a tramp vessel.

These charges can also apply for ocean containers when they are not returned to the
carrier in the prescribed time periods.

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2.7.4) A few tips

• Always ask the freight forwarder or the carrier if the port charges are included,
local and overseas.
• Check if any other surcharges are or could be added to the rate.
• Check the currency and the validity of the price.
• Check if containers and the space on the vessel is available.
• Check with a few carriers and freight forwarders before making your final
decision.
• Remember that space on deck is less expensive but is often charged higher
insurance premiums.

Many Trading Houses negotiate on their own and obtain very favourable conditions.
But on smaller markets it is advisable to work with a specialist such as a Freight
forwarder.

2.8) Road transportation

When your merchandise is moving on the same continent and when time and distance
dictate, trucking is undeniably the privileged mode of transportation. The main
advantage of trucking is its flexibility. A truck can go wherever, whenever as long as
a road leads there. It is in fact a self serving mode: a truck can pick up a parcel from
the shippers door and deliver right through to the consignee s door even in the most
remote areas. This is referred to as a door to door service.

Another advantage is the ease of grouping deliveries with truck transport. This
practice is possible due to its low cost and accessibility for the user. Annex 1
demonstrates two possible scenarios.

A third point in favour of road transport is its cost compared to airfreight. Trucking
can easily compete with airfreight on short to medium hauls but the cost is much
lower.

There are also some inconveniences.

The first inconvenience is probably how the cost goes up as soon as distances get
greater. In fact, on long distances road transport loses its usefulness, and other
transport modes become suddenly more attractive. Sometime the laws of the country
do not allow for choice, such as Mexico that imposes the use of certain modes.

Another problem are the weight and size limits of the cargo that can be handled
without permits. The actual size and weight of some industrial pieces forbid the use
of a road vehicle. Also you must consider that in North America, states and

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provinces can have different limits. They are strictly enforced and complicate
shipping between countries.

The reliability of a carrier can be verified (see Annex 2).

2.8.1) The cost of truck transport

Generally, freight costs are based on a pre-classification of merchandise and are


quoted in dollars per 100 lbs. The classification is based on the value, the density, the
perishable nature, and the risk of loss and damages to the goods. When fixing its
rates the carrier also considers the following:

• competition from other carriers and transport modes;


• the declared value;
• your annual volumes;
• the handling features (on palettes, bulk, etc.);
• the handling equipment required;
• the delivery requirements;
• the possibility of return loads (back hauls)

Finally, the carrier will offer rates for full loads (FTL- full truckload) and for part
loads (LTL-less than truckload). He can also offer lump sum rates for full loads.
2.8.2) A few tips

• A good description will ensure the proper classification of your product and
that the proper freight charges are assessed.
• Try grouping your shipments when possible.
• Check the rebate offered by the different carriers
• Before choosing check all possibilities:
Ø common carriers
Ø truck brokers
Ø freight forwarders

2.9) Rail transport

When shipping large quantities on land, rail freight remains the most efficient method
to handle your cargo. Some manufacturing plants, to be more competitive, have their
own rail siding to benefit from the rail s lower transportation cost. Some
commodities handled by the rail are for example: Western grain, coal, steel and many
other low-value commodities

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2.9.1) The pros and cons of rail freight

The prime advantage of rail freight is its low cost, which makes it ideal for large bulk
commodities. To better handle these commodities the rail system even developed a
full array of specialized railcars which ensure its dominance. Rail is also well suited
for oversized movements, such as large and heavy machinery.

On the other hand, the rail s major drawbacks are its speed, or lack of it, and the
additional cost associated with preparation of the railcars. When shipping by rail, you
must always c
onsider the cost of loading and securing which have to be performed to rail standards.

Another inconvenience is the higher risk of damage associated with rail. The many
shocks of frequent coupling and humping makes it the roughest transport mode.

Finally, many localities are not served by the rail, so road transport is the only choice.

Annex 3 proposes a few tips to help the rail shipper.

2.9.2) The cost of rail transportation

The freight rate is based on the classification of the merchandise. As with trucking, it
is based on the value, the weight and dimensions, and the risk of damage of the
proposed product. There are two base rates to work with, one for a full railcar (CL-
carload) and one for partial railcars (LCL-less than carload). These rates are quoted
in segments of 100 lbs and can be very high for small volumes of merchandise, but
also go down quickly when the weight to be carried increases.

2.9.3) Pool car operators

Pool car operators are also known as groupers by rail. They rent boxcars in order to
consolidate small shipments. The Pool car rates are generally lower than LCL rates.

2.9.4) A few tips

• Make sure to use the services of a railroad specialist. They will assist you with
the loading and securing of the railcars. They will also advise you on the most
suitable packing for rail transportation.

• Compare the services and prices of the different rail companies; in the USA
many options are available.

2.10) Airfreight
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The youngest of all basic transportation modes, airfreight is certainly the fastest
growing. Its speed will make it the preferred method for valuable, delicate or
perishable products.

The high quality service does have its cost. If airfreight is ideal for high value
merchandise it quickly becomes uninteresting for low-value shipments.

Air freight forwarders will also offer groupage services. It is also strongly
recommended to use them to reduce your airfreight cost.

In airfreight the principal consideration will always be the cost, but you should also
consider the savings associated with a reliable and fast delivery. Many companies
involved in Just-In-Time and Supply Chain management now consider airfreight as an
integral part of their supply and distribution network.

Finally as with rail, to go door-to-door, the air carriers must rely on trucking to complete
its service.

2.10.1) Advantages and inconveniences of air

The prime advantage of this transport mode is its speed. it is ideal for perishable
goods, flowers, livestock, etc. For high-value shipments that have to be financed, it
can get the product faster to the market. Speed can sometimes compensate the higher
cost.

Some of the inconveniences are its higher cost, the weight and volume limits, and
dangerous goods restrictions.

2.10.2) The cost of airfreight

The cost of airfreight is quoted in kilogram, with a particular attention to the


weight/volume factor (1 kg / 6,000 cm3). The rate can vary according to the type of
merchandise but, in fact, more than 80% of all airfreight shipments travel under the
same classification FAK (Freight All Kind).

The Trading House can expect some rebates during low seasons or on certain less
crowded flights or slower destinations. Freight forwarders also offer groupage
services that can greatly reduce your cost.

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3) INTERMODAL AND MULTIMODAL TRANSPORTATION

We refer to intermodal or multimodal transport when two or more transport modes are
used as a single freight movement. For example:

• Piggyback (rail and truck)


• Air couriers (air and truck)
• Ocean containers (sea, rail and truck)

Because intermodal transport is not a mode in itself, the combination of the different
systems to transport one commodity did create certain regulatory conflicts, such as
ownership and documentation. In order to correct all these ambiguities, authorities must
consider amending some of the laws to accommodate these new relationships.
The ocean freight container is probably the tool that most contributed to the evolution of
intermodal transport, as it is carried by rail, sea and road. Today most manufactured
products are carried by sea containers. It is becoming so important that steamship lines
are acquiring their own rail systems to gain access to this growing market.

On land piggyback or rail intermodal has made incredible steps. When first started it
was only offered by rail carriers in order to offer a door-to-door service and compete
with trucking. The services are getting better, with quicker deliveries, additional trade
lanes, greater savings and easier access. Piggyback is changing our ways of shipping on
land.

Airfreight also developed some intermodal systems, such as international couriers, that
combine air and road to offer quick worldwide door-to-door deliveries.

Intermodal transportation is now fully part of our shipping world and a good Trading
House should make sure it understands all its complexities.

4) GROUPAGE SERVICES

If your shipping volumes are not sufficient to fill containers, it is possible to group your
shipments with others. These groupage services are usually offered by freight forwarders
and carriers. A groupage allows you to benefit from the lower cost of container shipping
but for smaller quantities.

5) CONTAINERS

Containers have been adapted to all modes of transportation (sea, rail, road and air) and
for different commodities. In fact, you can find containers specially designed to meet
your needs. The basic containers are: dry boxes, high cubes, open top, refrigerated and
flat racks.

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Containers will allow you to save on your shipping, handling and packing cost, plus
diminish your risk of loss and damages. Containers are of standard dimension in
accordance with their uses, it is important to understand their utility. See Annex 4 for
models of containers.

6) WAREHOUSING

Warehousing can be an important element of the logistical operation and can add
important costs to the traffic. There are three elements to warehousing costs: the space
rental which is charged per month, the handling charges at the warehouse and the interest
costs of undelivered inventory.

Warehousing is not only a stop in transit, it is also a series of handling procedures that
will add to your cost. The nature of the product will usually determine the special
handling procedure and the required precaution to satisfy all parties. Remember the more
warehouses your merchandise goes through the higher the risk of damage. It is very
important to consider this aspect before choosing a routing.

Warehouses are found everywhere, either at the departure or arrival point, but also all
along the way such as in ports, rail or truck terminals. Ocean freight is the transport
mode most associated with warehouses. Make sure to consider all of this before rejecting
a costlier option, such as airfreight. Here again a precise calculation could reveal the
better option. The Japanese, fully aware of the costs of warehousing inventory, have
developed the principle of Just-In-Time that is today accepted around the world.

7) PACKING, MARKING AND LABELLING

7.1) Packing

Packing represents, on average, 5% of cost of the cost of goods. Particularly in cases


of low-value products (unit price), the percentage can even be higher.

Beside its basic function of protecting goods against rough handling and transport in
itself, good packing reduces risks of theft. It also avoids the attribution of inherent
vice that insurance companies assign to explain their refusal to indemnify an exporter
for damage to goods resulting from inadequate packing.

Insurance companies are very strict in regards to packing and reject claims where
there is evidence of inadequate packing. The buyer can also be strict as packing is
often seen as his image and can tarnish the company s reputation if packing is not
solid or not attractive enough.

The shipping of goods overseas requires special packaging as opposed to domestic


transport packing. It is important to remember that most of the damage and theft
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during transportation are related to poor packing. The choice of packing must take
into account two major factors: security (against theft, damage and deterioration) and
economy (costs, weight and volume). These factors are evaluated according to the
nature of the product and the mode of transport chosen.

Remember that packing is related to the nature of the product shipped, the mode of
transport used, and to handling practices in the country of destination.

7.2) Marking and labelling

Manufacturer-exporters often neglect marking and labelling. If these are done


inconsiderately they can even cause loss and damage, as well as difficulty of
identification which cause delays and misunderstandings. Marking and labelling must
supply information necessary to the routing of goods (without being too specific as to
the nature of the product, thus avoiding too much curiosity). It should also supply
information that the destination country may require and in an understandable
language for all parties. The use of symbols meets all these requirements and they
are now common throughout the world.

Many inscriptions must be shown on outer packing of goods destined for export.
Some indications are for the carrier, others are required by the importing country.
These instructions are necessary to better process the shipments.

Marking and labelling must be visible, indelible, in accordance with requirements and
translated into the importer s language.

7.3) Marking of origin

Many countries require that the country of origin be clearly identified on the imported
products. Sometimes, marking are required because their absence could be wrongly
understood as to the country of origin.

7.4) Marking of shipments

Indications for handling and other inscriptions identifying goods and the routing must
be shown on the outer part of the packing. Inscriptions must correspond to
information shown on the Bill of Lading. Moreover, some countries require
additional information shown on invoices or on other export documents.

Marking should be carefully handled. Errors or omissions could lead to all kinds of
complications.

8) DOCUMENTATION
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Documentation enables us to follow the shipment and be informed of any hazards that
could arise during the routing. Exported goods could be stolen, damaged, delayed, even
have its routing changed. Documentation is also the shipment s identification. It is a link
between the different parties (carriers, forwarders, handlers, insurance companies,
warehouse, etc.) and the goods. The following are some of the documents that the seller
is usually required to present to the bank in order to be paid.

• Road Bill of Lading and Airway Bill


Document in which the carrier acknowledges receipt of goods and loads them on board.
With this document, the carrier agrees to deliver the goods to destination in the same
condition as originally received by the shipper.

• Ocean Bill of Lading


Ocean carriage contract and document of title. This document, completed and issued,
acts as an instrument/tool in international payments.

• Commercial invoice
This document links the seller to the buyer. The commercial invoice must have the most
information possible and should be issued according to the client s requirements,
particularly in specifying the terms of transaction. It should be in conformity with the
laws of both countries.

• Packing list
This shows: number of cartons, description of contents, weight, and any other
identification marks.

• Certificate of origin
A document attests to the origin of the goods. It must be certified by a known authority
in the export country.

• Insurance certificate
A document certifying that the goods are insured under a cargo insurance policy.

9) ROUTING: CRITERIA AND RESTRICTIONS

Total cost should take into account all the transportation s elements ( routing ), not only
the freight, such as:

• shipping delays
• shipment of goods to wrong destinations
• opening of cartons (for verification) resulting in damage and loss
• problems with customs authorities resulting in fines and even seizure of goods
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The variety of transport systems and services, along with the unavoidable need to use
them, require both a flexibility in the choice of routing and a precise cost analysis of the
operations. Not only should carriers costs be minimized but also those of intermediaries
such as warehousing fees, handling, customs clearance, etc.

There are also less visible costs but nonetheless important. For example:

1) Direct handling fees of operation. When goods are loaded from a truck to a
container, or from a vessel to a truck, there is often damage or loss. It is then hard to
ascribe responsibility to a particular carrier or handler. This results in losses for the
shipper or the consignee.

The insurance company could pay part of the but the lack of proof for responsibility
or the low value of small claims makes it difficult for them to open claim files and
obtain recovery from the responsible parties.

2) Your interest costs can fluctuate according to transit times or frequency of departures.
If a less expensive mode of transport takes more time to reach destination, it could
result in slow cash....

The frequency of the departures can have the same effect. If it takes 45 days for the
vessel to depart from Montreal, it would be more economical to depart from New
York, for example, if the gain in time compensates for the additional cost.

10) CUSTOMS CLEARANCE

Custom procedures can greatly differ from one country to another. Authorities in the
destination country and sometimes in the country of departure can require the
presentation of certain documents such as an export or import license. Those documents
can usually be easily obtained, depending on the regulations of the countries.

In some countries, long delays can cause hefty storage charges and considerably increase
your risk of damage or even the loss of all or part of the shipment. It is necessary to be
very careful in planning your procedures.

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11) FOLLOW UP ON SHIPMENTS

This is the most subjective part of the operation, and it can have a major impact on the
client. Both the shipper and consignee need to know the progress and status of their
shipments. A link between the different parties has to be maintained in order to calm one
down and reassure the other.

The damages, missing parts or even total losses are proportional to distance and amount
of handling involved. In the case of less experienced shippers or those with particularly
fragile or complex goods, it would be more advantageous to deal with freight forwarders
since they are more likely to monitor your shipment. Trading Houses usually have their
own traffic service which closely controls this operation.

12) COST CALCULATION

When calculating their transport costs, companies should always look at the total price to
identify the best transportation service.

The first aspect is to make sure that the information provided to transport companies and
freight forwarders is accurate. They cannot be held responsible if the information you
have supplied does not correspond to reality.

Upon receipt, the quotations should be analysed in order to clearly understand the
services offered. It is important to compare all offers as some cost items which are
hidden or not mentioned could cause you serious inconvenience. The following elements
should always be verified:

• frequency of departures
• transit times
• transhipment
• loading, unloading and container stuffing charges
• harbour fees (local and overseas)
• adjustment factors (bunker or currency)
• handling
• vessel bumping
• cancellation risks
• equipment availability
• space availability
• delivery and pick up charges
• damage risks
• transfer points

An understanding of all these points will allow you to better control your transport costs.

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13) THE ROLE OF INTERMEDIATES

13.1) Introduction

In order to better control your international movements, it is very important to know


the role of the different transport intermediaries. They have essential roles that you
can benefit from.

Depending on their specialization they can take charge of all or part of your logistics
needs. Some of the services offered are only available through an intermediary and
his role can be vital to the success of your transactions.

13.2) Major intermediaries

13.2.1) The customs broker

Often mistaken as a transport intermediary, the customs broker is essentially a


specialist of customs rules and procedures. However, he can generally offer
forwarding services.

13.2.2) The transport broker

This specialist of land transportation matches his client s shipments with the
appropriate trucking company for delivery to destination. Trucking companies also
use the broker s services to make their back hauls profitable. A good transport
broker should possess an extensive list of contacts in order to offer a fast and reliable
service to their clients and truckers. Moreover, brokers can also help you with your
partial shipments (part loads).

The function of a transport broker is regulated in the United States, but not in
Canada. You should be well informed of the reliability and skills of the brokers you
wish to entrust with your shipments.

13.2.3) The shipping agent

He is the specialist of intermodal Road/Rail Piggyback . A shipping agent will help


you with your high volume shipments that are not time sensitive. The shipping agent
negotiates special agreements with rail companies and guarantees them freight
volumes, this allows them to offer advantageous rates.

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13.2.4) The ship broker

His main role is to act as an intermediary between the ship owners and an exporter
who wants to charter a vessel. In addition to negotiating the cost and duration of a
charter, the ocean broker prepares and drafts the contracts between the two parties.
As this type of transaction is complex, he also acts as an advisor, negotiator and even
sometimes as official representative of either the charterer or the ship owner.

13.2.5) The freight forwarder

He is a specialist of international transport and acts for account of export or import


firm with carriers and other sub-contractors. As an international commerce
intermediary, he usually assumes logistic, legal and financial responsibilities of the
different international movements.

Through his worldwide network of agents or his overseas offices, the forwarder
assists his clients on all worldwide transactions. (See Annex 6 for questions to ask a
freight forwarder).

According to the client s needs, the forwarder can assist in one or more of the
following activities.

• Transport Consulting
Even before closing a sale s contract, the forwarder can advise you with regards to
costs, the most appropriate modes of transports and required insurance coverage, etc.

• Transportation planner
Not only can the freight forwarder choose the transport mode most suitable to your
goods, but he can also select the fastest, most economical and efficient routing. He
books the required space with carriers, negotiates the cost and the picks up your
goods.

• Consolidation services
Moreover, most forwarders offer groupage and consolidation services for air, ocean
and road transportation.

• Preparation of international documentation


On your behalf, the forwarder takes charge and prepares all the forms, certificates and
other related documents required by the exporting or importing country authorities.

• Assistance with packing and marking


The forwarder can inform you on the most economical and adequate packing and
marking methods.

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• Suggestions for insurance coverage.


A good forwarder advises his export client on insurance coverage that he should
contract. However, the exporter can negotiate directly with his insurance broker in
order to obtain his own coverage.

• Handling customs formalities


Most often, the forwarder also acts as a custom broker. He can, on your behalf, take
care of the procedures pertaining to the import of goods in Canada as well as in a
foreign countries. This is usually done through foreign correspondents or affiliates.

• Follow up
There are many steps in shipping goods to foreign countries. It is therefore very
important to monitor and keep track of shipments. Your forwarder can assume this
responsibility and make sure that your goods be delivered to your client in the
prescribed delays.

14) INTEGRATED LOGISTICS

The number intermediaries required to dispatch goods from point of origin to final
destination may sometimes be more than ten. Such complex operations require an
extensive sense of organization. In order to bring new solutions to importers and
exporters, the principle of Integrated Logistics has been developed.

This is a simple concept which consists in sub-contracting the total movement to one third
party, from pick up of goods at original supplier to final destination.

From its unique position, the freight forwarder is the most qualified specialist to offer
Integrated Logistics. Through his worldwide network he is able to control all your needs,
such as:

• computerized follow up of orders (P.O. tracking), EDI


• taking charge of goods
• pick up of goods
• warehousing at origin
• bar coding
• consolidation
• deconsolidation of deliveries
• marking
• packing and re-packing
• EDI data entry
• choice of carriers
• computerized follow up
• warehousing

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• distribution
• follow up of inventory
• internal employee(s) assignments
• etc.

Integrated Logistics is a new concept that is expanding rapidly. The basic principle is
the capacity of the intervening party to adapt to its client s logistic needs.

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CHAPTER 7

EXPORT COSTING AND PRICING

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CHAPTER 7

EXPORT COSTING AND PRICING

INTRODUCTION

There are several elements involved in the calculation of the sale price for a given product
that is to be exported. On a purely mathematical level, the price must include
manufacturing, transportation, various administrative, and additional costs such as for
markings, packaging, but most of all, it must include a profit margin. Establishing the
profit margin can often be difficult since it depends both on international competition and
the manufacturer/exporter s wants.

This chapter deals with the methods availanble to the manufacturer in calculating the
export price of his product. This couild easily be worked out by adding a profit margin
to all the production costs. However, a manufacturer s sale price can take on new
meaning when put in the context of marketing. Price is the market value of a product or
service. Value can vary according to culture and type of product.

Manufacturers must be aware that production costs are not the only costs in their sale
price. The foreign buyer will have to pay for all the additional costs ( see Annex 1).
Even if manufacturers quickly learn that anything can be sold and that there are no
stupid products, they have to realize that competition in the international market is
tough and that exporters from other countries are also willing to sell at all costs even if
this means at any price .

Products must first be introduced in a new market in order to break the ice. Once a
network is in place, the exporter can then raise his sale price if he discovers that the
product s quality/price ratio is too low compared to the competition s.

1) EXPORT SALES

An international transaction is not a national transaction onto which are added


transportation and other direct export costs. Products for the international market must
be handled differently when calculating production costs. Obviously, production costs
for exports are lower since some costs such as customs duties on imported raw materials
for production purposes are recovered when the manufacturer re-exports the product and
fills out the appropriate customs forms for drawbacks.

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1.1) Components of production costs

Production costs are the sum of all direct and indirect costs involved in the
manufacturing of a product, and can be classed in two categories: variable and fixed
costs.

1.1.1) Variable costs

Variable costs are those direct expenditures for the raw materials and assembly-line
labour that go into each unit produced. These costs are proportional to the quantities
manufactured and are not influenced by other unrelated expenses.

1.1.2) Fixed costs

Fixed costs apply to the entire production process (regardless of quantities) which
explains why they are called fixed costs. They only affect the cost per unit indirectly
since fixed costs are spread over all the products manufactured. For example, fixed
costs include building-related costs and the salaries of administrative and general
maintenance personnel.
Variable and fixed costs can be summarized as follows:

VARIABLE COSTS FIXED COSTS


Raw materials Heating
Direct labour costs Building depreciation
Supervision Electricity (in part)
Electricity (in part) Management s salaries
Packaging Insurance
Equipment depreciation Salary of administrative personnel
Financing President s salary
Duties on raw materials imported Municipal and business taxes
Transportation
Sales costs
Volume discounts

It is important to remember that all managers who sell their products on the domestic
market are looking for optimum production levels which means that the manufacturing
plant is working at full capacity. Managers always try to obtain maximum output from
manufacturing divisions so that as many items are produced as possible in the same
installations in order to reduce the burden of fixed costs that each unit produced must
carry. It should also be noted that fixed costs must be totally spread across all
products to be sold on the domestic market.

It would be pointless to use exports in order to try to reduce fixed costs on products
sold on the domestic market because foreign markets are inconsistent and they can take
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a long time to develop. The manufacturer must not rely on exports to make
production profitable. Domestic sales should be profitable enough by themselves.

Exports only serve to increase total profits and should never be considered as a life-
saving operation for a company that is having difficulties. It is important to remember
that whatever the manufacturer gains by exporting should be considered a surplus in
profit and not a means for making an operation viable. To illustrate this concept, let us
imagine the following cost structure:

A manufacturer produces for the domestic market. His costs per unit produced are as
follows:

Variable costs $0.60


Fixed costs $0.40
Factory costs $1.00
Profit $0.20
Factory price $1.20

For one reason or another, his plant is not working at full capacity. The manufacturer
sees exporting as an opportunity for using his full plant capacity.

What happens to the two components of his factory costs when we apply them to
exports?

a) VARIABLE COSTS: some of the cannot be charged to exports, for example:

• Customs duties on raw materials which can be recovered on proof of export


• Transportation if the terms of sale are ex-works
• Advertising, as this is usually done by the importer in his own country
• Financing since the manufacturer is generally paid by letter of credit when the
goods are shipped
• Volume discounts, because this most often used to ensure the loyalty of local
buyers

Under these cisrcumstances, let us assume that the variable costs would only be $0.45
instead of $0.60.

b) FIXED COSTS: we have already explained why they do not apply to exports and
will, therefore, be excluded from the factory price.

Thus, the factory cost of the product to be exported will only consist of variable costs.
In this example, the factory cost will amount to $0.45/unit while production costs for
the local market will continue to be $1.00/unit. Suppose that the manufacturer decides
to export his product at cost , then the company would not make any additional profits
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- but it would not lose anything either. This is an extremely important point that has to
be constantly repeated because a lot of manufacturers still tend to compare the two sale
prices ($1.20 for the domestic market and $0.45 for the international market) and come
to the wrong conclusion. They think that their company is losing money ($0.75)!!! by
selling on the international markets.

1.2) How should gains generated by exports be treated?

Going back to the example, we now know what the factory costs are for exports. The
manufacturer has several options, depending on the international competition. The
table summarizes the possibilities and accounting methods.

It is assumed that total factory production is 110,000 units: 100,000 units will be sold
on the local market and 10,000 will be sold on the international market. Three
scenarios are proposed.
Scenario A: No profits on exports

• The product is sold on the domestic market for $1.20.


• The product is sold on the international market for $0.45.
• Exports generate neither profits nor losses. Thus, as far as profits are concerned, it
does not matter whether the company exports or not.

Scenario B: Profits on exports do not include fixed costs

• The factory price for exports was set at $0.60 while domestic sales are still
$1.20/unit.
• The table shows that the company increases its overall profit by $1500 through a
successful export policy.
• The profits on exports do not include fixed costs which are only spread over domestic
sales.

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PER UNIT TOTAL PRODUCTION

COSTS Sale Total Total Total


price costs sales profit
Fixed Varia. Total

Scenario A
- Domestic 0.40 0.60 1.00 1.20 100000 120000 20000
- Exports - 0.45 0.45 0.45 4500 4500 0
- Total - - - - 104500 124500 20000

Scenario B
- Domestic 0.40 0.60 1.00 1.20 100000 120000 20000
- Exports - 0.45 0.45 0.60 4500 6000 1500
- Total - - - - 104500 126000 21500

Scenario C
- Domestic 0.385 0.60 0.985 1.20 98500 120000 21500
- Exports 0.15 0.45 0.60 0.60 6000 6000 0
- Total - - - - 104500 126000 21500

Scenario C: Profits on exports include fixed costs

• Profits are used to reduce the fixed costs spread over domestic sales.-
• Exports are charged $0.15 per unit as fixed costs. This allows domestic costs to
drop from $0.40 to $0.385 per unit. This is the result of spreading the total of
fixed costs proportionately on the total production
• Instead of declaring a profit on exports, the manufacturer shows the increased
profit against domestic sales.

SUMMARY

In order to obtain the optimal factory price that will allow for the manufacturer to
penetrate the world market, he must differentiate between domestic and
international sales.

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Three conditions are necessary for successful exports:

1) The viability of the enterprise is already assured by local sales.

The company should already generate profits on the domestic market so that fixed costs
are taken care of in order to avoid prohibitively high export costs.

2) The domestic market is starting to become saturated.

A saturated domestic market means that there would not be any buyers for potential
additional production.

3) There must be a (potential) excess production capacity.

Excess production capacity allows for a certain degree of flexibility in the production
line. Adequate supplies for the generally stable domestic demand can be guaranteed
while allowing for the less fluctuating international demand. Excess production capacity
can stem from several sources:

• Production facilities are available but are not used due to the saturation of the
domestic market.
• An additional shift could be started (usually the night shift).
• Excess capacity is available due to a seasonal slack in local demand.
• Extra floor space in the plant that could incorporate another production line. In
this case, the exports would have to include all related additional costs (fixed and

variable). This would require feasibility studies and preliminary analysis.

The need for the lowest factory price available comes from two major considerations:

1) Since the consumer is further away, there is more competition from other countries,
often with lower labour costs.
2) The consumer of the exported product is much further away than the local
consumer. There are more intermediaries involved in the transaction and thus costs
are higher. The factory price accounts for a smaller percentage of the retail price.

The manufacturer must not rely on exports to make production profitable.


Domestic sales should be profitable enough by themselves.

Exports only serve to increase total profits and should never be considered as a life-saving
operation for a company that is having difficulties. It is important to remember that
whatever the manufacturer gains by exporting should be considered a surplus in profit and
not a means for making an operation viable.

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2) MANUFACTURING STRENGTHS REQUIRED FOR EXPORTING

Exporting is a growth strategy - merely one of many possible strategies. A company that is
having difficulties should not use growth as a means for resolving its problems. It is better
to find solutions before launching into new operations which will require large initial cash
layouts. It is important to understand the company s situation and to see it in a realistic
light because a weak company may only accelerate its own demise by attempting to export.
A manufacturer who deludes himself about his company s stability and financial capacity
will not be able to respond quickly enough to opportunities that arise from his marketing
efforts on foreign markets.

2.1) Impact on the trader/manufacturer relationship

In order to reinforce the relationship between the manufacturer and the trading house,
both parties should discuss the budget allocated to exports before beginning to work
together. A trader obviously does not want to look for buyers or recommend product
modifications or specific promotional tools only to find out that the manufacturer s cash
flow is so tight that budgets for exports are non-existent.

When funds are available, they should be properly allocated in order to obtain the
desired results. When there is a shortage of funds, the trader and the manufacturer often
waste all their energy on discussions rather than trying to find a market for exports.

3) PRICING

One of the first steps for accessing export markets is setting an export price that takes the
needs of both the manufacturer and importer into consideration. The price of goods to be
exported are all too often calculated on the basis of domestic prices to which transport and
insurance costs are added. The end result is that the export price is too high - or sometimes
it is too low. A trading house has to remember that foreign buyers have prices from a
variety of countries for comparative purposes and that they are looking for the best price
available.

A trading house s strength lies in its ability to negotiate fair prices that will guarantee the
loyalty of a clientele.

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3.1) Factors that influence prices

In a given market, a trading house s asking price is influenced by:

• The supplier s production, marketing, and delivery costs;


• The competition;
• Supply and demand.

It is difficult and costly to obtain information regarding the competition s prices in a


foreign market. Data published by international organizations is limited to price indices
for a limited number of commodities or products. In the best of situations, they only
provide a general idea of the prevailing situation in a given market. It is therefore
important for a Trading House to visit foreign markets regularly to obtain valuable
information on the competition s prices or the method used for setting prices for
equivalent products.

3.2) The steps involved in setting prices

The following steps are used for setting prices:

1) Try to find out the manufacturer s production cost, marginal cost, and profit
margin.
2) Decide on the profit margin required for Trading House operations;
3) Establish the marketing and delivery costs (agents, carriers, insurance, etc.);
4) Find out about the competition s prices;
5) Select a pricing strategy (geared to mass sales or specific target groups);
6) Prepare price quotations;
7) Set a margin for manoeuvring (in other words a base price).

3.3) Recommendations before calculating costs

Before actually pricing a product, a Trading House should think of other factors which
may influence a client s decision such as customs duties in the importing country,
inflation, payment terms, delivery lead times, etc.

3.3.1) Customs duties


The importer usually pays customs duties unless he insists upon a delivered, duty paid
price, which is common practice in the United States. Whatever the case, customs duties
are an important part of costing since they influence the buyer s final selling price and
they can affect the buyer s and the trader s profit margin. The Trading House may also
have to provide information to his client for product classification. The Trading House
also has to take into consideration any preferential tariffs that may give preferential
treatment to the competition.

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3.3.2) Payment terms

Payment terms and delivery lead time play an important role in a buyer s decision. The
client is often prepared to pay extra for:

• Not having to put a strain on his cash flow if given credit.


• Not having to maintain a large inventory if the goods can be delivered at the rate that
he needs them.

4) ELEMENTS OF NEGOTIATION WITH THE SUPPLIER

Including any factory costs that have nothing to do with export sales is a sure way of
making a product less interesting for foreign buyers who attach a great deal of importance
to prices. Two reductions are necessary when calculating export prices.

First of all, the supplier can often obtain duty drawbacks upon exporting. If the supplier
has paid duties on material incorporated in a product to be exported, he can claim a 100%
drawback when the export is within 4 years of the date of entry into Canada. If the
manufacturer has bought imported goods from an importer who paid the duty, he can
request the details from the importer and present the drawback application to the Customs
on a form AK32. The manufacturers customs broker can help him with details on this
subject. This should contribute to a lowering of the manufacturer s export price.

The Trading House can take the same steps when exporting goods that include imported
components on which duties were paid.

Canada Customs form E-15, signed by a a Customs officer at time of export, is used as
proof for requesting the drawback from Canada Customs. The application must be
submitted within 90 days after the date of export.

Secondly, a manufacturer must not include the cost of local marketing or warranties that
are not offered to the foreign buyer. This is a sure way to not be competitive.

4.1) Federal and Provincial sales taxes

The Goods and Services Tax (GST) and the Quebec Sales Tax (PST) have an almost
neutral effect on price in so far as whatever tax is disbursed by the Trading House gives
rise to an equal tax credit from Federal and Quebec Revenue departments. The only
effect on price results from the possible time lapse between paying the tax and obtaining
reimbursement. Essentially, this delay can affect the trader s cash flow. Only the
interest cost of financing the tax portion of the product s cost must be considered.

Some Trading Houses may have to pay substantial amounts of GST and PST while
holding inventory before exporting and will only be able to claim the tax credit after
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shipping the goods. In 1991, Revenue Canada amended the regulations to allow
authorized Trading Houses to issue certificates to their suppliers which will permit
them not to charge the tax on goods destined for export. For information on GST and
PST credits, contact your local sales tax branches. Presently, it s the Ministère du
Revenu du Québec that is handling both taxes in a coordinated manner.

5) SETTING COMPETITIVE PRICES

In general, when a Trading House has a good idea of the supplier s price structure and
terms, it can establish the export price by using one of the following methods:

5.1) Selling at marginal cost

This method consists in considering exports as an operation that is in addition to the


manufacturer s domestic sales. The supplier s fixed costs are thus completely absorbed
by sales on the Canadian market.

The export price only includes variable manufacturing costs, direct export costs
(transportation, insurance, commission, etc.), and a profit margin. Every dollar in the
profit margin is considered net profit to the enterprise (marginal revenue).

A good number of Trading Houses use this formula frequently in order to penetrate
foreign markets. However, this method comes with its own set of prerequisites.

First of all, the Canadian supplier must have surplus production capacity. Furthermore,
the Trading House must be absolutely sure about the competition s prices since it will
adjust its profit margin in order to have comparable prices.

The aim of this method is to have an export price that is both competitive and profitable.
The marginal costing method is the basis for export pricing.

5.2) Selling at the right price

In order to establish export prices based on the local market, the sales, marketing, and
promotion costs that are related to the local market should be removed. Transportation,
insurance, packing and other export-related costs should then be added. Furthermore,
the investment required to penetrate the market should also be taken into consideration
(market studies, trips abroad) as well as a portion of overhead.

The right price method (see annex 2 for some examples) is often used by Trading
Houses who have difficulty finding out the competition s prices.

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5.3) Selling at the foreign market price

When dealing in basic or standardized products, the Trading House s margin for
manoeuvring is reduced with regard to its pricing policy.

It can only follow the pricing set by the competition and try to work on the market
without upsetting competitors. The Trading House should not engage in price wars
where it risks becoming the biggest loser of all.

6) PRICING FOR EXPORTS

When setting the price of a product, the Trading House would do well to remember that
pricing is one of the major components of marketing. The marketing mix is a combination
of controllable variables. The four P s that have the most impact on buyers are Product,
Place (distribution and transportation), Promotion, and Pricing.

6.1) According to sales objectives

When the price of Canadian products is higher then the competition s abroad, the
Canadian Trading House must consider several strategies to make its product more
appealing to buyers. The Trading House should obtain detailed information on the
competition and offer importers a price that will allow it to:

• Access the market by starting out with a profit margin that is lower than expected
and raise it as the sales volume grows. Selling at a lower price can remove
competition and attract a large number of clients (demand must be price related so
that lower prices generate higher sales). This pricing strategy involves offering large
quantities of the product to supermarkets, retail chains, and other volume buyers.
This sales strategy is called the PULL method.

• If the product is unique or there is little competition, the market should be targeted
to obtain the highest profits before the arrival of any competition (the high price and
profit margin of the product will quickly attract competition). Demand for the
product should not be price related. This pricing strategy often involves the PUSH
method which calls for customized sales with a personalized approach.

• Offer volume discounts, sales, and promotional deals to attract clientele.

• Use other sales methods by offering better terms of payment or delivery than the
competition.

• If it is not possible to offer a competitive price, focus on the non-monetary aspects


of the product: brand name, packing, steady supply, speedy service, etc. For
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industrial products, this means focusing on the services offered when the product is
first bought, continuous innovation, guarantees that technical know-how will be
provided, etc.

6.2) According to the quality of service offered

Being able to offer credit terms is a major factor in obtaining sales. The ability to
finance a buyer often plays a decisive role in obtaining a sale.

However, since the Trading House s capital may be frozen for 30, 60, 90 or more days,
it must calculate the interest paid for financing during the period.

Its line of credit must also be adequate enough to allow credit terms without restraining
the volume of sales. In theory, if the Trading House is paid at 30 days, it can turn over
its capital 12 times per year, but at 90 days it can only turn it over 4 times; in this case
the profit margin must be a lot higher.

Terms of sale are also very important. To obtain a sale, the Trading House could adjust
its deliveries to the client s needs. However, when resorting to these methods, the
Trading House increases its costs, reduces its profit margin, and assumes more risks.

6.3) According to the type of product offered

Profit margins vary by industry. For example, the profit margin on foodstuffs is lower
than on a computer due to the technological support and marketing required to sell
finished goods. This is true for both domestic and foreign markets.

6.4) According to the terms of sale

The sale price set by the Trading House will vary according to the Incoterm used. The
Incoterm used will determine:

• The place of delivery


• The sharing of risk and the cost of insurance
• The responsibility for transportation costs
• Who pays port dues, handling, and duties
• If commissions are included in the price.

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CHAPTER 8

METHODS OF PAYMENT

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CHAPTER 8

METHODS OF PAYMENT

1) PAYMENT TERMS

Given the fierce international competition, the negotiation of payment terms is an


important factor in every transaction. A buyer tries to obtain the longest possible
financing available and will sometimes even accept a higher price in exchange for better
payment terms. Payment terms are a key factor in quotations.

The two types of payment terms

The time of payment indicates the type of payment terms used:

1) Payment before delivery: Prepayment, cash on delivery, cash against documents,


payment on account

2) Payment after delivery: Letter of credit, documents against acceptance, open account.

2) PAYMENT BEFORE DELIVERY

2.1) Prepayment

When prepayment is made, the risk of not being paid is non-existent and financing
costs are reduced to a minimum. The foreign buyer avoids the risk of devaluation of
his currency and he can also negotiate more favourable terms. However, he assumes
the risk that the goods may not comply with the order. This form of payment is very
rare and is mostly used in cases where the buyer is forced to finance the exporter or
provide incentive for him to produce the goods.

2.2) Payment on account

Partial payments spread out before delivery diminish some of the risks, and in some
ways, protect the Trading House from client requests to modify the contract before
delivery. This method of payment does not free the seller from taking all the
necessary precautions for ensuring that the total and final payment is obtained.

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2.3) Cash on delivery (COD)

This payment method is usually used when shipping small parcels or exporting goods
of low value or rare products.

2.4) Cash against documents (CAD)

This is a very common payment method in international trade. It is also one of the
safest methods since the exporter has title to the goods up until he is paid by his local
bank. The exporter s bank will only give the documents to the buyer (and thus
transfer the title of the goods) upon payment.

With the payment terms cash against documents and cash against acceptance, the
carrier or freight forwarder gives the shipping documents to the exporter who then
gives a complete set of documents to the bank:

• Bill of lading
• Commercial invoice
• Customs documents
• Certificate of origin
• Insurance policy or certificate
• Packing list, etc.

The exporter s bank then sends the documents to a branch in the buyer s country or
directly to the buyer s bank. The buyer is advised by telex or by fax that the
documents are being sent. The documents are sent in a manner that ensures that they
arrive before the goods.

The buyer must then pay his bank in order to obtain the documents that will allow
him to take delivery of the goods. The buyer s bank then sends the payment to the
exporter s bank.

The risks of cash against documents

This payment method is not entirely risk free:

1) The buyer can simply not go to the bank or refuse the documents in order to try to
negotiate new terms. If the parties do not come to an agreement, it may not be
possible to have the goods returned (they may be identified with the buyer or his
market, or they may be perishable goods). They must then be sold to the highest
bidder, obviously at a loss. They buyer may sometimes even be the original
client...

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2) In some countries, the documents may be given to the buyer by mistake .

3) The payment may be late when the banks involved do not forward the documents
or payment right away. This happens when the documents are not in order.

The Trading House will try to cover itself when in doubt about the buyer. For
example, it may ask a first-time buyer for partial payment before shipping the goods.

To ensure that the buyer does not obtain the goods before payment, it is advisable to
prepare all documents as well as labels and cases in the bank s name for account of
the client.

2.5) Letters of instruction

Instructions are generally given to the bank on a standard form that will accompany
the documents. It provides specific instructions for the bank in case of difficulties in
the transaction. The more precise the instructions, the faster will be the execution and
the payment.

IMPORTANT INSTRUCTIONS

1) The client s address should be clearly indicated.


2) The name of the collecting bank (foreign bank) should be given.
3) Is the payment due upon presentation of the documents, or for example, upon
arrival of the vessel?
4) Can the documents be handed over against a deposit made in the country s
currency or in hard currency?
5) What measures should be taken if the documents are not accepted: Protest,
return of documents, etc?
6) Precise instructions on the transfer of funds.
7) Who pays the collecting bank s fees?

3) PAYMENT AFTER DELIVERY

3.1) Letters of credit

The payment methods described above present a risk for the seller since the buyer
may renege on the contract.

The letter of credit was therefore created as an efficient tool that has now become the
most common payment method in international trade.

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3.1.1) Uniform Customs and Practice

The letter of credit is reliable mostly because of the success of the Uniform Customs
and Practice related to letters of credit. They have been designed and published by
the International Chamber of Commerce (ICC) since 1933. The current version was
adopted by the board of the ICC in 1993.

Even though this standardization was done by a private organization, the Uniform
Customs and Practice for Documentary Credits are practically universal. Users and
banks around the world refer to it. Some courts of law even recognize it as common
practice and apply it in cases where the parties have not mentioned the Uniform
Customs and Practice in their contract.

3.1.2) How a letter of credit works

There are four phases in a letter of credit:

1) The contracting parties stipulate in the sales contract that the payment will be
made by letter of credit.

2) The buyer instructs his bank (the issuing bank) to issue a L/C.

3) The issuing bank agrees with the seller s bank (the advising bank) that the latter
will negotiate or accept the documents presented by the seller (shipping
documents and other documents stipulated in the letter of credit).

4) The advising bank notifies the beneficiary that it will make payment, negotiate, or
accept upon presentation of the documents. The advising bank can be involved in
the transaction without actually agreeing to make payment or it can confirm the
letter of credit opened by the issuing bank. It then becomes a confirming bank
that has agreed to pay on condition that the documents comply with the letter of
credit requirements.

There are two key elements in the letter of credit mechanism:

1) Everything is based on the presence of either one or two banks between the
parties.

2) Payment is made when documents that comply with the terms stipulated in the
letter of credit are presented to the bank within a specific time limit.Once the
expiry date has passed, the letter of credit is no longer valid unless all
interested parties agree to extend it.

This lends an abstract and formal tone to the letter of credit.

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Letters of credit are, in fact, legally independent of the commercial operation to


which they are related. Improper execution of the contract does not paralyse
the letter of credit when the documents are in order. Everything is based on the
strict conformity of the documents that must be presented before the expiry of
the letter of credit.

Even when the contract is properly executed, the Trading House cannot demand
payment from the bank if there are discrepancies between the documents presented
and the terms of the letter of credit, or if the documents are presented too late. The
buyer must agree to modify or extend the letter of credit.

If the documents contain some unimportant errors, the bank may agree to pay on
condition that it has the right of recourse against the beneficiary.

These characteristics make the letter of credit both a tool for payment and a line of
credit.

The letter of credit ensures that the seller will receive payment (with the guarantee of
a bank) as soon as he delivers the goods to a designated place and has the documents
to prove it.

When the documents required (bills of lading, insurance documents, certificates of


origin, invoices, etc.) ensure that the delivery is made according to the terms of the
contract, the buyer is able to indirectly ensure that the contract is executed properly.

Furthermore, some forms of letters of credit allow the seller (beneficiary) to obtain
advances in order to pay his suppliers and his carrier.

3.1.3) The role of banks in letters of credit

Payment methods can be distinguished by the role and extent of the engagement of the
banks. Variations are based on the operative mode and the time required for
payment.

The engagement of the issuing bank can be either revocable or irrevocable. A


revocable letter of credit is of no interest to the seller since the buyer s bank makes no
commitment to pay the beneficiary (seller). In practice, there are only irrevocable
letters of credit.

In it s simplest form, an irrevocable letter of credit is notified by the issuing bank with
the intervention of the advising bank (usually the beneficiary s bank). There is a
contractual bond between the payer (buyer) and the issuing bank as there is between
the issuing bank and the beneficiary. There is no contractual bond between the
advising bank and the beneficiary.

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The irrevocable engagement of the issuing bank means that the bank agrees to pay in
the place of the buyer, according to the terms of the letter of credit. There are still
certain risks involved such as the creditworthiness of the bank (watch out for letters of
credit opened by unknown banks in faraway countries), or the impossibility of
transferring funds between the foreign country and the beneficiary s country.

However, when the second bank (advising bank) confirms the letter of credit
from the first bank, it replaces the issuing bank in the eyes of the beneficiary
(Trading House) with the same terms provided by the issuing bank. The Trading
House then has a commitment from a local bank which eliminates certain political and
economic risks.

The confirmation of an irrevocable letter of credit by a local bank provides the


Trading House with a practically absolute guarantee of payment.

Methods and terms of payment


The beneficiary is usually paid when the documents are accepted by the bank. This
normally takes three or four days after the documents are presented. This applies
when the letter of credit is payable at sight.

A term letter of credit is paid later on: This applies when the payment is deferred on
the letter of credit or when drafts are accepted. In this situation, the Trading House
agrees to give the client payment terms. When the documents are presented, the bank
will accept a draft drawn on itself which is payable to the Trading House. It will pay
the note when it becomes due.

Revolving letters of credit


When trading partners do repeat transactions, it is more practical to have an
automatically renewable letter of credit for the same amount, or after the credit has
been used, that is renewed for a given time period. For example, in the case of a
delivery of 6000 tons of sulphur at the rate of 1000 tons per month for six months, a
revolving letter of credit can be issued for the first 1000-ton lot. Upon delivery, the
letter of credit is automatically amended to allow for payment of the second lot, and
so on.

Transferable letters of credit


This payment method is particularly useful in international trade and in business when
a Trading House works as an agent. Its revenue comes from the profit margin
between the buying and resale price when it does not have sufficient financing to pay
for the goods. The Trading House will then ask the buyer to open a transferable letter
of credit. The Trading House can then ask its bank to allow a third party to use a
portion or the entire credit.

When a transferable letter of credit cannot be obtained, a “back to back” letter of


credit can then be used. In this scenario, the letter of credit in favour of the Trading
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House is given to the bank as guarantee for the issuing of a second letter of credit in
favour of the supplier.

3.1.4) Some practical advice

• The terms of the letter of credit must be negotiated at the same time as the sales
contract. The contract between the buyer and seller is binding. The letter of
credit is merely a means for providing certain guarantees to both parties.

• As soon as the letter of credit is received, the Trading House should verify that
the terms are the same as in the sales contract (product, quantity, amount and
validity of the letter of credit, instructions, irrevocability, confirmation). If the
letter of credit differs from the terms of the contract, have it amended
immediately.

• The Trading House must ensure that the documents presented comply with the
delivery dates and validity of the letter of credit. None of the documents
presented must depend on the good will of the buyer. It must not be dependent
upon the buyer to issue any of these documents.

• A Trading House seeking payment by letter of credit can offer to pay for all or a
portion of the letter of credit costs. It is worthwhile to assume these charges since
it accelerates payment and makes it more secure.

3.2) Documents against acceptance

The payment methods above are used to settle a transaction rapidly where there is not
complete trust between the buyer and the seller or to protect oneself from outside
circumstances beyond the control of both parties.

When the parties have a relationship of mutual trust, payment may be facilitated for
the buyer. Documents against acceptance or an open account may be used.

3.2.1) Documents against acceptance procedure

The procedure used is the same as for cash against documents except instead of
paying immediately to obtain the documents, the buyer signs drafts or notes that
ensure payment on a predetermined date. When the documents against acceptance
method is used, the letter of instruction is particularly important.

The buyer (drawee) gives his bank a draft in favour of the seller (drawer). The draft
is only as good as the signature of the drawee and will only be honoured if there are
sufficient funds in the buyer s account. The draft is the same as a promissory note
signed by the buyer stating that he will pay the sum at a future date.

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The bank sends the draft and the note to the seller who must present them for
payment when they become due. This is usually done by the same bank that has
handed the documents over to the buyer.

In order to protect himself from default on the part of the buyer, the seller can ask the
buyer to have the draft certified by his bank or endorsed by a third party who is
approved by the buyer. A guaranteed draft is the equivalent of a bank draft and the
sum due will be paid whether the buyer has the funds or not.

An endorsed draft allows the seller to obtain payment from the endorser (or
guarantor) after the buyer refuses to honour it. This can lead to legal action.

3.2.2) Open accounts

The goods can also be delivered after making prior arrangements with the buyer who
agrees to pay within a given time limit. No formalities are required since this is done
without a letter of credit, collection, draft, etc... This is called a transaction on open
account.

This is common practice for local sales. Since the buyer and supplier are in the same
country, they are subject to the same laws and therefore legal recourse is simplified in
case of default.

The following steps should be taken before extending open account terms. Ask the
buyer for bank and commercial references and verify all references.

• The buyer s bank will provide a financial profile of the client to indicate:

- How long the buyer has been a client with the bank; if he has a line of credit, and
if so, a general idea of the size of the line of credit;
- If the line of credit is fully used;
- If the client has a good reputation, etc...

These references are only given from one bank to another. The Trading House must
request this information through his bank. In Quebec, since the new Code Civil was
introduced in 1993, the banks must obtain a written authorization from the its own
client before they divulge credit information, even to another bank.

• Call the companies that were given as references in order to find out:

- How long they have known the buyer;


- The credit terms they give the buyer;
- If the buyer pays on time or is late.

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• The buyer can also be asked to fill out an information sheet and provide a copy of
his financial statements.

Based on this information, the Trading House can decide how much credit to extend
(highest limit) and what terms will apply (e.g. 30, 45, or 60 days). The Trading
House delivers the goods, the client signs the delivery slip, and the Trading House
invoices the buyer indicating the date the payment is due.

The same procedure is used for exports on an open account. The difference between
a local and an international sale becomes apparent when the buyer refuses to pay.
Legal action is far more complicated when the parties are under different
jurisdictions. It should be noted that a Quebecer has as much difficulty suing a client
in another province as he has with a client in another country.

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CHAPTER 8

REVIEW QUESTIONS

1. Are revocable letters of credit commonly used? Why?

2. Are irrevocable and confirmed letters of credit commonly used? Why?

3. What is the difference between an irrevocable letter of credit and a confirmed


irrevocable letter of credit?

Complete the following statements:

4. Cash on Delivery is mostly used when

5. If a payment is to be made against documents, letters of instruction are


particularly useful when

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EXERCISE

A Trading House received an order from Guyana for five containers of refrigerators
worth a total of $100,000. Since the Trading House knew the buyer, it decided to offer
favourable terms of payment - the invoice became payable 45 days after delivery of the
goods. Furthermore, the Trading House did not request any form of guarantee of
payment.

The goods were shipped by sea and the documentation was sent to the client s bank.
However, after 45 days, the payment was not received. The trader contacted his client
who said that the goods had not yet arrived. The trader doubts what the client says.

What should the trader do to verify the client s allegations, and how can he obtain
payment for the goods?

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CHAPTER 9

FINANCING INTERNATIONAL TRANSACTIONS

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CHAPTER 9

FINANCING INTERNATIONAL TRANSACTIONS

INTRODUCTION

International and domestic financing involve the same basic facts: the banker must know
the client's business and establish sufficient lines of credit to meet the company's essential
needs. The banker finances the company's working capital requirements more
specifically, inventory, inventory in transit and receivables, which correspond to
short-term financing. The banker also finances capital assets and consolidations of
working capital, which correspond to medium and long-term financing.

Few companies have sufficient working capital to self-finance their short, medium or
long-term transactions. Even if they are in a position to do so, it is in a company's interest
to properly consider its financing requirements in order to avoid upsetting its balance
sheet.

A company generally establishes its cash flow on a daily basis, meaning it provides for its
outlays versus its receivables. In the event of a shortfall, it uses its line of credit.

If a company wants to expand and diversify its sales, for instance by exporting to
international markets, it must obviously review its strategic planning and overall financing
policy. It must therefore consider the following basic points:

• Target a market: choose the countries best suited to the marketing of its products.

• Conduct market research: study prices in terms of the competition, tariff and
customs barriers and other standards applicable to target countries.

• Establish a price and marketing policy to secure a solid foothold in the target
market.

• Acquire staff knowledgeable about international business or obtain advice from


international brokers.

• Check production capacity to ensure it can meet market demand and possibly
consider increasing production through capital investments (equipment,
machinery, buildings, services, etc.).

These five steps will enable a company to determine the increase in its production costs
and the resulting financial costs.

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1) SHORT-TERM FINANCING

The various financing terms are generally as follows:


• short term: 30 to 60 days, with a maximum of up to 360 days;
• medium term: 1 to 5 years; and
• long term: 5 years and over.

A company must finance its working capital requirements and make sure all receivables
are guaranteed to avoid any loss which might jeopardize the company.

The first step is choosing the country: a company must be familiar with the political and
market risks associated with the country with which it wishes to trade. The second step is
conducting a financial investigation of the buyer and its bank. The results will enable the
company to make an enlightened decision about starting up trading negotiations.

The banker and the Export Development Corporation (EDC) can assist the company in
this process and provide advice for securing its sales.

Traditionally, the banker finances up to 75% of sound receivables for periods not
exceeding 90 days, and up to 50% of inventory. According to this formula, receivables
are often open accounts without any payment guarantee being given to the company. This
is the case of the Canada/U.S. domestic market.

The same financing criteria are applicable to the international market and may vary
according to guarantees obtained by the company to secure its receivables. Receivables
can be guaranteed by standby documentary credits, bank guarantees or contracts of
suretyship, or may be redeemed outright by a forfaiting company. This last option enables
the company to sell its receivables without recourse and to obtain immediate liquidity.

It should be noted that a company conducting its sales through commercial letters of
credit fully secures its sales because the letter of credit represents a contract binding on
both parties (buyer/seller), an irrevocable purchase order and a payment guarantee. A
documentary credit fully protects the company against any stop payment or trade dispute
except where the company fails to comply with the terms and regulations of the
documentary credit.

If the company trades with buyers residing in high-risk countries, or if the buyer's bank is
small scale, it will seek to convert its foreign risk to Canadian risk by requesting a credit
confirmation.

Examples:
• A documentary credit issued by a Peruvian bank would be confirmed by a Canadian
chartered bank, the confirmation being equivalent to an additional guarantee issued by
the latter in favour of the company.

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• A documentary credit issued by a small bank in Ohio would carry a financial risk
because of the bank's small size and should be confirmed by a Canadian chartered
bank.

After negotiating its documentary credits (at the confirming negotiating bank or simply
with its usual banker) the company may therefore obtain the discount and immediate
liquidity. A confirmed documentary credit opened by a 90-day acceptance in favour of
the company becomes a first-class receivable which may be financed (discounted),
thereby enabling the company to avoid waiting 90 days before being paid.

In some cases, banks cannot confirm documentary credits. However, the EDC may
possibly take over and insure up to 90% of the documentary credit on condition that it is
open to the market of the country having issued the documentary credit.

Some buyers refuse to open documentary credits as it is their policy to place orders under
an open account. Once again, the EDC may insure up to 90% of the receivable (contract
insurance), enabling the company to reduce its risk.

The Société de Développement Industriel (SDI) also guarantees lines of credit to banks
and extends participation loans to companies. In some cases, it insures 50% of foreign
receivables, the bank assuming the remaining 50%.

The company therefore benefits from various financial vehicles provided by governments
or banks to finance its development.

2) MEDIUM AND LONG-TERM FINANCING

The principles of medium and long-term financing are almost identical to those of
short-term financing with regard to analyzing the country risk, evaluating the buyer and
the bank issuing the credit, or seeking guarantees to secure the contract established
between the company and its buyer. The basic difference between short and medium or
long-term financing is that, in general, in the short term, a company will calculate how
long it will take to convert its receivables into liquidity whereas, in the medium or long
term, it calculates its self-financing capacity, since financing is obtained to purchase
equipment, machinery, etc.

For sales of equipment, machinery and long or medium-term service contracts, a


company is often faced with requests from the buyer to provide a contractual guarantee,
namely a performance guarantee or a holdback bond. In the case of public tenders, a
company is also asked to issue bid security guarantees (contractual guarantees and
contracts are explained in the previous chapter).

In general, for so-called "direct-credit" financing in the context of importing or exporting


equipment or machinery goods, a company prepares its cash flow and seeks the best
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possible financial structure. Banks and the EDC are institutions which enable companies
to carry their projects through to completion. The EDC grants lines of credit to certain
countries and can therefore finance up to 85% of some long-term projects and guarantee
the contract for the export company. However, the buyer must advance the remaining
15%, either using its own funds, or through short-term bank financing. The export
company therefore seeks:

• to have the contract guaranteed;


• to obtain the best market rates for the loan term; and
• to obtain financing through banks or the EDC.

The direct loan extended to the exporter is combined with security provided to the banker
by the exporter. Such security may be conventional guarantees (land, buildings, pledge of
equipment, personal security, etc.) or guarantees related to the project, such as the EDC's
contract insurance covering up to 90% of the buyer's risk. If the buyer or importer
requires performance guarantees or holdback bonds, the EDC can also provide the
banker with a counter-guarantee or holdback covering up to 100% of the banker's risk.
The exporter can, in turn, obtain insurance from the EDC covering 90% of any unjustified
call of security.

The exporter often requests a down payment on start-up of a project. The buyer then
requires a bank guarantee for the counter-value of the down payment. This guarantee can
also be issued from the exporter's line of credit and counter-guaranteed by the EDC up to
100% as mentioned previously.

The other financing method, the so-called "buyer's credit", consists in using the buyer's
credit facilities. The buyer's bank endorses one or more promissory notes in favour of the
exporter, thereby enabling the latter to be financed by the importer's banker or its own
banker. The endorsed note or notes are discounted or financed by one of the two bankers.

Domestic or international leasing facilities may also be considered. The lender retains
ownership of the financed property, while the borrower becomes the user. Credit is in the
form of rental of the financed property. All acquisitions of major items such as aircraft,
buildings and heavy equipment are financed in this manner. The company gains a
considerable advantage, as rent can be deducted from its earnings.

CONCLUSION

Whether for short, medium or long-term financing, a company must know how to
structure its financial operations according to the various financial instruments and
vehicles available from banks and government agencies. A list of such products is given
in the appendix.

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CHAPTER 10

THE RISKS OF INTERNATIONAL TRADE

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CHAPTER 10

THE RISKS OF INTERNATIONAL TRADE

INTRODUCTION

All human enterprise has an element of risk. In his daily activities is person can face
risks on his health or welfare, whether from natural causes or from inadvertance, but he
is used to taking certain precautions to minimise, eliminate or manage certain well-
identified risks.

When he launches a commercial enterprise, new risk factors will appear that could result
in financial loss or even business failure. These risks are also easily identified by their
commercial nature or as a result of the movement of goods. However, because there are
few bankruptcies in relation to the number of ventures, we must conclude that there are
ways to protect the health and prosperity of the business on domestic markets.

On the international scene, risks are magnified by the geographic and cultural distance
that separates trading partners. One must therefore perfectly understand and evaluate the
difficulties in order to find ways to smooth the obstacles arising from the differences in
order to permit commercial relations to flourish.

The international trader is at risk from the very beginning of a negotiation because of the
multitude of participants in the transaction, from the original supplier through the various
handlers, carriers, insurers, bankers, etc., to the final buyer. But there is no risk IF:

• the supplier is trustworthy


• the merchandise exists
• the quality is assured
• the carriers are serious and efficient
• the insurers are reasonable
• the bankers are understanding
• the buyer is honest and his financially sound
• the market is stable and the competition well known
• the political climate is stable
• the financial markets are efficient
• the currencies are convertible and the exchange rates fixed

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• the cultural and linguistic differences are without consequence


• the contracts are solid and safe
• the arbitration and judicial courts are fair, and
• there are no unforeseen natural catastrophes, disasters or calamities ...

or IF one can protect himself from the malfunction of any one of the above elements.
This implies that the Trading House is able to manage all the risks, without any
administrative or technical errors. One must know how to correctly perceive each risk
and to manage or hedge them with those mechanisms which have been put in place in the
centuries since the dawn of trade.

1) PERCEPTION OF RISK

Individuals have different reactions to risk-taking. Traders act according to their


perception of the situation and the individuals involved in the transaction. All the basic
technical means for reducing risks are used. This is when a trader s experience,
negotiating ability, quick reactions, capability, flexibility, and good judgement come into
play. Being able to circumvent risks, regardless of all obstacles, and being paid all
depend on the individual s talent in the course of the transaction as well as the techniques
used. Although most people consider risk as a quantifiable potential loss, traders
perceive it more as a gamble for gain.

An international trade transaction is full of risks of financial loss. However, the trader
cannot become totally absorbed with the risks. Rather, he should enjoy risk-taking, and
learn how to manage risks.
The trader should generally try to obtain as much information as possible about the client
before delivering the goods, or request an irrevocable letter of credit confirmed by a
Class A Canadian bank.

Knowing one’s trading partners is one of the recipes for success. It is important to
discuss business with the buyer in order to be able to understand his needs, tactics, and
operating method. The more a trader knows, the less likely he will be surprised later on.

Export risks increase with the distance between the exporter and the end-user, and with
the political, economic, financial, legal, and commercial differences between countries.

In short, there are many types of risks from many different sources.

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2) RISK CATEGORIES

The international trader sees only one risk in all the activities that make up an
international transaction: that of not being paid. Many authors have categorized
risks as political, economic, financial, commercial, etc. In practice we could retain only
two large families of risks:

1) Those arising from political and socio-economic conditions in the importing country
2) Those that pertain to the specific qualities of the commercial transaction between the
contracting parties.

2.1) Risks arising from political and regulatory conditions.

This is the first type of risk that comes to mind. However, if the losses from political
risks were actually counted, they would not seem all that important. This is no doubt
because we tend to protect ourselves against political risks more than against any
other type of risk.

The type of questions that should be asked regarding political risks are the following:

• Does the country tend to be politically unstable?


• Is a revolution or political coup likely to happen?
• Is there a history of armed conflict between the country and its neighbours?

If the answer is yes to any of the questions above, it would be better to avoid doing
business with the country in question since the political risk would obviously be too
great. There are exceptions to the rule. All crises breed opportunities .

There is a large number of political risks since transactions can be affected by


everything that governments do. These risks are influenced by the economic,
political, and social situation in the buyer s or supplier s country and they are
something over which the Trading House has no influence. In this context, risk
management means being able to foresee any changes that may be detrimental to
commercial activities.

One tends to think of political risks in terms of a war, a coup d etat, social unrest, or a
revolution because these are eminently political activities. However, government
measures such as the confiscation of goods, nationalization, new fiscal foreign policy,
embargoes, and boycotts can be just as detrimental to transactions.

Other forms of political risks are regulatory risks which cause bans or restrictions
(customs, non-customs barriers such as import permits, quotas, and mandatory
deposits), blockades or moratoriums on the transfer of funds as well as the creation of
new laws.

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It should be noted that the existence of foreign exchange controls is also a form of
political risk since it devolves from government action. And yet, these difficulties are
sometimes inevitable when a country becomes insolvent and refuses to authorize the
transfer of funds in the currency stipulated in the contract.

The leading socio-economic data we should look for before even considering
business with a given country are:

• The economic diversity of the country. An economy dependent solely on, say, the
export of one raw material for its foreign exchange revenue is too fragile if
commodity prices drop.
• The potential resources of the country and their level of development
• The purchasing power of the population
• The local demand for imported goods and the degree of persistance in spite of
economic restrictions (if any).
• The country s fiscal policy regarding foreign exchange and its ability to borrow on
international money markets; the extent of its foreign debt; national foreign
exchange reserves.
• Balance in the budget.
• Stability of national currency in relation to foreign currencies.

Several factors can influence the transaction

• Must the importer obtain a foreign exchange allocation?


• Does the buyer have a limit on foreign exchange above which he must obtain
permission from bank authorities?
• Will the buyer have alternate sources of foreign exchange?
• Will the trader have to be paid in local currency and run the risk of not being able
to convert it into freely traded currency.

2.1.1) Legal risks

Working with a foreign country implies that the trader accepts to work under foreign
laws - which he is rarely familiar with. The following points should be taken into
consideration:

• Commercial regulations (customs, labelling, packaging).


• Language regulations.
• Possible requests for documents and customs procedures.
• Possible recourse in the case of delays or non-payment.
• Commercial laws, sales contracts, rights of creditors and debtors, bankruptcies,
negotiation tools.

2.1.2) Risks due to geographical impediments


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These risks are related to physical geography and economic infrastructure. The
following questions should be considered:

• How frequent are natural catastrophes, and how well does the country deal with
them? (For example, tornados in the United States are less of a problem than
hurricanes in Jamaica).
• Danger of the merchandise being stopped in transit (Sudan, Iran, El Salvador).
• Extent and availability of the communication networks (roads, railways,
telephones (Zaire).

2.1.3) Market risks

Commercial risks are universal. The following risks are not limited to a specific
country or to international trade itself:

• The main competitors and their commercial position, their market share,
experience, and performance, and their competitiveness in relation to our own
products and commercial position.
• Working methods and commercial ethics.
• Regulations regarding business practices (ex: door-to-door sales, etc).
• The legal status of the client: individual, partnership, incorporated company,
etc.
• Continuity of operations.
• Reasons for the firm s success: Is it due to one person s efforts or to the overall
structure of the organization?
• The company s commitments and management policy.
• It s payment practices and reputation (client and supplier references).

2.2) Risks relating to the commercial aspects of the transaction

2.2.1) Commercial risks

Commercial risks are primarily related to product quality, conformity to


specifications, and delivery schedules. These types of risks are generally not insurable
since they are inherent to transactions. One of the most common problems is physical
damage to the goods caused by fortuitous circumstances which involve accidents
during handling and transportation. These risks can be insured.

Given the relatively small profit margins obtained by Trading Houses, it is important
to manage transaction-related risks properly.

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One period of risk lies between the time when the offer is made and the transaction is
confirmed. The longer the delay, the more likely the chances that supply and demand
will fluctuate as well as the commercial environment (seasonal nature of products,
shortage of hard currency in the importing country, etc.). One must always be
attentive during this period even when dealing with a regular client since the client
may receive a better offer from the competition or use your quotation to negotiate a
better deal with another company. When this occurs, the trader spends time and
resources with no results.

After confirming a transaction, every precaution should be taken to ensure that the
supplier s product conforms with the client s requirements and that it is delivered on
time. When dealing with a product that has not yet been manufactured (especially
industrial equipment), the trader should follow the manufacturing process until the
final product is ready for shipment.

Other commercial risks stem from the competence of the parties involved in the
transaction. These risks can be avoided with the experience acquired over time and
constant vigilance over every step of the transaction. Loss can occur when the market
situation is not evaluated properly or simply when the information used at the time of
the offer is incomplete or wrong.

When a commercial partner defaults on a contract or when a buyer makes unfounded


claims, the Trading House risks losing its money and its reputation because the
Trading House is one link in a commercial chain. If the supplier defaults, the Trading
House is still bound to its buyer. The same applies when the buyer defaults - the
Trading House must then take delivery of the goods and look for another buyer.

The obligations of one of the trading partners do not disappear because of the
default or failure of his opposite number.

2.2.2) Financial risks

Financial risks can arise from several sources but the primary causes are with the
Trading House s own partners - the supplier and the buyer. If one of the parties is
insolvent, the Trading House will not receive the goods from the supplier or be paid
by the buyer.

Once the transaction is in progress, the Trading House may be short of financing
between the time that the order is confirmed and when it is paid. Later on, when
presenting the documents to the bank, the Trading House also runs the risk of late
payment or even not being paid due to an error in the documentation.

As is the case with commercial risks, the expertise of the individuals involved plays an
important role in the success of the transaction. A lack of knowledge or expertise
may stem from ignorance or disregard for international customs and practices
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regarding the collection methods and letters of credit, or delays or errors in the
payment procedures of the banks. In some cases, it is merely an abuse of the
supplier s guarantees.

3) FOREIGN EXCHANGE FLUCTUATIONS

Foreign exchange risks are also part of financial risks. In international trade, any party
who does not deal in his own currency may lose money due to currency fluctuations.

Most foreign transactions are carried out in hard currencies. Exchange rates are therefore
a major factor in international trade. The sections below describe the various approaches
to exchange rates:

Spot transactions
The spot rate is the exchange rate which applies to the currency transaction at the moment
when it occurs. The transaction must be settled within two working days.

Forward rate
A forward rate applies when the currency is to be delivered after a 2-day period and up to
1 year. The rate, amount, and the date of payment are the elements of a currency future
contract. This practice is particularly useful for companies who are able to estimate their
foreign currency payables and receivables accurately.
Currency contracts can include a clause about currency deliveries to be made within, say,
a preset thirty-day period. This is known as an open contract . It is very useful for
exporters when they do not know the exact date when the payment will be made.

Swap transactions
The buyer sells currency to the bank at a near value date (usually spot) for goods to be
bought at a future date, and simultaneously buys foreign currency for a specified future
date at an established rate. Foreign exchange swaps are available in many currencies for
periods up to one year. Longer-dated swaps may also be available. This is a means for
the buyer to protect himself against inevitable fluctuations and for establishing the true
value of financing costs before the transaction date.

This is good practice when the exporter knows how to manage accounts payable and
receivable properly within the same currency, or when he wants to use surplus cash flows
in one currency to cover shortfalls in another.

A typical example would be a Canadian company that imports raw materials from the
United States and exports manufactured goods to the USA. A swap transaction
eliminates all foreign exchange risks for the party financing the two transactions.

This method is also used when financing comes from abroad. The borrower can pay for
foreign products imported with money made available from a foreign client.

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3.1) Covering foreign exchange risks

Trading House have several alternatives for managing this type of risk:

Contractual methods

Invoicing in one s own currency eliminates foreign exchange risks. However, this
only transfers the risk to the importer who may not be prepared to accept it. This
approach can be justified when the importer is able to obtain better futures coverage
in his own country.

When invoicing in another currency, traders may stipulate a fixed contractual


exchange parity or include a clause on foreign exchange fluctuations. If the currency
of the contract fluctuates, an adjustment is made to the amount due.

This clause can be written so as to spread the risk between the two parties. It can
even stipulate that the exchange rate used for payment will be obtained by taking the
average of the exchange rate on the date the contract was signed and the date of
settlement.

Internal method

It is common practice for a Trading House may try to cover itself by buying and
selling in the same currency.

Banking methods

Currency advances for exports involve borrowing money in the currency of the
contract of equal value to the export. The currency must be converted immediately in
order to obtain Canadian dollars. This method allows the trader to set the exchange
rate for the amount of foreign currency required for payment by the importer. The
foreign exchange risk is then limited to the interest paid on the foreign currency
borrowed. The Trading House then pays back the loan with the payment on the
exports as well as the interest owing.

Term coverage involves setting a time limit of up to one year on foreign exchange
fluctuations. The Trading House sells the currency it will receive to the bank for
delivery on a specified date at a forward rate which is quoted on the money markets.

The Trading House and the bank should try to have the payment date and the expiry
date of the forward rate coincide. In this manner, the Trading House can know the
value of the foreign currency at the time of payment, regardless of the exchange rate
at the time of the transaction.

3.2) Foreign exchange controls


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Currency restrictions are very common in centralized economies and relatively poor
countries. They allow governments to ensure that enough hard currency is available
for importing goods that are basic necessities. It is a means for keeping hard
currencies within the country, and allowing it to meet its international obligations.
Currency restrictions also help the government maintain its balance of payments.

The government can therefore control all imports and only allow those which fall
within its program. This is why importers in these countries have to obtain a foreign
exchange allocation before buying a product.

It is fairly easy to import from these countries since exporters seize all opportunities
to obtain hard currencies.

Exporting to these countries is a different story. Depending on the balance of


payments at a given moment, it may be impossible to obtain payment within a
reasonable period of time which makes it risky to export merchandise.

When a country s economy is totally dependent on the export of one particular


product, often a food commodity, it is particularly vulnerable to fluctuations in
weather and market prices.

An exporter could easily find himself in a position where the foreign buyer may want
to honour a debt, but simply cannot, because of a lack of hard currency. Delays in
payment can then be very lengthy, or the exporter may not be paid at all.

It is advisable to avoid doing business with countries that have fragile economies, and
to keep abreast of changes via Canadian banks or other financial institutions who have
their own information networks. It is also important to remember that all situations
are temporary, which only reinforces the trader s principle that the most important
element of trading is information.

4) OVERDUE FOREIGN RECEIVABLES

It s better to be safe than sorry certainly applies in this case. Stay in constant contact
with a debtor client in order to identify difficulties and adjust to them as quickly as
possible. It is useful to find out the sales pattern of the product because it helps evaluate
how soon a payment should be forthcoming. Good products sell well and are paid
promptly since the client will inevitably want to buy more.

It is better to avoid sending a second order to a client who has not paid on time for the
first one. Generally speaking, payment methods other than irrevocable and confirmed
letters of credit generate non-payment risks. When transactions are on an open account
basis, a bank s letter of guarantee can sometimes remove the non-payment risk.

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Overdue foreign accounts are classified in the same manner as national accounts: Easy,
difficult, and impossible to collect.

When payments are easy to collect, patience and perseverance are called for. Client
relations are easy to re-establish.

When payments are difficult to collect, a 5-10% discount can often solve the problem.
However, it is sometimes necessary to use the services of third parties: federal credit
bureaus, companies who specialize in recovering bad debts (e.g: Dun and Bradstreet
Inc.), Canadian Chambers of Commerce abroad, Canadian embassies, or lawyers with
offices in the country in question.

When collection seems impossible, it is preferable to damage the client s reputation by


writing letters describing his behaviour to his embassy, consulate, and chamber of
commerce. This method is far more effective than any form of legal recourse.

4.1) Settling disputes

The buyer usually asks that the laws within his country apply in case of dispute. The
best thing to do is include an arbitration clause in the contract that makes reference to
the International Chamber of Commerce. The clause can be designed to include its
method of application such as the stipulation that the judgement of a third party will
settle a dispute. The third party s fees are usually paid by both the buyer and seller.

4.2) Arbitration

Arbitration has become increasingly important with the increase in international


commercial activity because it is faster and less expensive than the traditional legal
methods.

However, the role of arbitration is primarily to prevent lawsuits rather than to resolve
problems between commercial parties. An arbitration clause in a contract serves as a
warning to the parties and it can influence their behaviour during a transaction.

Furthermore, if the parties chose recourse to arbitration services, the approach used
will be more conciliatory than confrontational in order to preserve the relationship
between the parties and pave the way for future transactions.

Putting a commercial dispute to an arbitration tribunal is only used as a final recourse


where a rapid and less costly ruling will be made in favour of one of the parties. This
ruling is final and cannot be appealed.

Nevertheless, since arbitration is a relatively new method for settling commercial


disputes, there are sometimes difficulties in executing the decision in some countries,
or there is discrimination against foreign companies. For further information, contact:
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Quebec National and International Arbitration Centre


(Centre d Arbitrage commercial national et international du Québec)
295 boul. Charest Est, Suite 295
Québec, Qc. G1K 3G8
Tel: (418) 649-1374 Fax: (418) 649-0845
Also in Montreal - Tel.: (514) 393-3794

In disputes relating to the quality of merchandise, it is useful to have obtained


testimonies and certificates issued by independent agencies. The Société Générale de
Surveillance (SGS), with head offices in Geneva and representatives around the
world, can provide an independent assessment of the goods to support a claim.

Unless dealing with very large sums of money, it is not at all profitable (except
for the lawyers involved) to take legal recourse since the costs will reduce any
profits regained.

Traders will strive for an amicable understanding.

5) INSURANCE

Insurance is a means for reducing some of the risks inherent in international transactions.
When an exporter cannot take on risks by himself, he tries to share them with, or pass
them on to other parties.

There are two categories of risk management:

(1) Insurance that covers the transportation of merchandise.


(2) Insurance that covers political and non-payment risks.

5.1) Insurance for merchandise in transit

The chapter on transportation explains the risks that the operation involves. The best
ways to avoid these risks are explained below:

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Ground transportation insurances

Road and rail transport companies are responsible for the merchandise which they
must deliver in the same quantity and condition as received from shipper.

The law protects shippers from loss or damage incurred in transit. Because of some
conditions relating to packaging and stowage that are required by transport
companies, and which can limit the amount claimed, some exporters buy extra
insurance.

Air transportation insurance

Air cargo carriers are responsible by law for the merchandise they carry. However, it
is important to know that the company s liability is limited to a certain sum per unit
(approximately US$20 per kilogram). It is however possible for the exporter to take
extra insurance with the transport company or with an independent insurer as is the
case with rail and road transportation.

Marine insurance

Shipping by sea is the most commonly used method of transportation in international


trade. The large volume of goods transported by sea and the number of
transshipments made in complicated routings makes for greater risks, and losses that
are more costly.

Over time, marine insurance has developed a vocabulary and operational method of
its own. The shipping line s responsibility is limited in case of a claim. Furthermore,
there are a number of exemptions for shipping lines as described in the Hague rules
(see Annex 2).

There are three types of clauses for cargo insurance:

1) “Free of particular average” clauses with the lowest insurance rates which do
not cover the items in the Brussels Convention mentioned above.
2) “With Average” clauses which cover partial losses from risks at sea.
3) “All risks” clauses which also cover damages to the outside of cases as well as
fortuitous disappearance , pilferage, etc....

Risks of war or similar risks are not covered by regular marine insurance. They are
only covered by specialized insurance companies who deal with this type of risk on a
case by case basis. However, these risks are usually covered automatically by the
same company which underwrites the basic coverage.

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5.2) Protection against non-payment

The best protection is an irrevocable letter of credit, confirmed by a Class A


Canadian bank.

This type of letter of credit ensures that the payment will be made as long as the
documents presented to the bank conform with those stipulated in the letter of credit,
as explained in the chapter on financing.

If the letter of credit is not confirmed, it is easy to check the issuing bank s reputation
with one s own bank. If the bank has a good reputation, the trader can be content
with an irrevocable letter of credit. However, in this case, a confirmation should be
fairly easy to obtain.

Sometimes, payments on a non-confirmed letter of credit take from 7 to 10 days


instead of 2 or 3 for one that has been confirmed.

In international trade, prudence is a must. The safest payment vehicle is an


irrevocable and confirmed letter of credit which is paid after presentation of
appropriate documents. Verification of all L/C details must be done before the goods
leave the port or airport of origin. If there is any doubt in the trader s mind about the
terms of the letter of credit, he should not send the merchandise. Then the only
thing lost is the sale.

Another thing to remember is that the most important document is one over which the
trader has no control. The bill of lading has to be issued by a shipping line - not a
freight forwarder. Banks do not accept bills of lading issued by freight
forwarders.

Should there be any difficulties collecting, do not forget that the bank is responsible
for payment if it gives the documents to the client. If the bank does not pay, the
Trading House has only to request that the documents be returned.

5.3) Export credit insurance by Export Development Corporation (EDC)

This Canadian institution is probably the one best able to respond to the needs of
manufacturers/exporters. It can cover risks that are not covered by the terms of
letters of credit. Although the Export Development Corporation (EDC) is best
known for its insurance, awareness of its financing activities is becoming widespread
(see also chapters 9 and 10 on Methods of payment and Export financing).

The EDC covers two types of often overlapping risks: political and commercial risks.
It does not cover administrative risks due to negligence on the part of the exporter
such as disregarding legal, commercial, health, or other types of regulations in the
importing country.
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Companies of all sizes can insure their exports against non-payment risks. The EDC
generally takes responsibility for 90% of commercial risks including insolvency,
default on payment, reneged or cancelled contracts by the buyer, blocked funds, war
or revolts, the cancellation of import licenses in the importing country, and the
cancellation of export licenses in Canada.

Most exported goods, services, and technology can be insured if they have over 50%
Canadian content . Some exceptions to the 50% minimum rule can be made in
special situations. Exporters can obtain insurance that protects the sale of goods and
services for a maximum short-term period of 180 days, food exports for a maximum
three-year period when justified by international competition, and medium-term
insurance for up to five years on the sale of goods and services.

In order to facilitate banking arrangements for the exporter, the EDC will agree to
remit the funds from a claim to a bank or financial institution based on the exporter s
insurance policy.

The list of services offered by EDC are adjusted as international trade conditions
evolve. New products are developed to respond to the needs of exporters, while
other are discontinued if no longer useful. For a brief exposé of EDC services, refer
to Annex 3.

6) TRADING HOUSES AND EDC EXPORT CREDIT INSURANCE

Trading Houses tend to use EDC insurance against non-payment less than manufacturers
for several reasons.

First of all, Trading Houses products do not always have a high enough Canadian
content. The EDC only insures products that are at least 50% Canadian.

Secondly, many transactions are paid by irrevocable letters of credit and often confirmed
by Class A Canadian banks. EDC insurance is thus not required since payment is
practically guaranteed unless there are delivery or documentation problems.

Furthermore, Trading Houses usually sell within a well-established network of contacts.


Risks are lower since the parties know each other.

Finally, the average loss of sales in Canadian products does not justify the cost of insuring
all trade risks (good and bad) as required by EDC insurance policies.

In spite of the above comments, it is worthwhile to investigate the advantages of Specific


Transaction Insurance for Trading Houses.

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EDC insurance is extremely useful for obtaining pre-financing from banks for
manufacturers who need funds to produce an order. Since the EDC takes 90% of
the risk, the banks only have 10%. Given that production costs are usually lower
than 90%, banks are in fact assuming little or no risk by financing the operation.

7) MANAGING RISKS

It is impossible to eliminate all the risks in international trade. Adequate precautionary


measures can, however, help reduce risks to an acceptable level.

Proper risk management means taking precautionary measures before the risks can
actually become reality. Regardless of all precautions, the Trading House may still have
to become involved after the damage has been done. The aim is to limit the
consequences and side effects as early as possible.

How can a Trading House manage risks?

7.1) Refusing to take risks

This is the most radical approach since a Trading House that avoids risks by
eliminating the cause will also reduce its sales volume and profits. The Trading
House must weigh the advantages and disadvantages of taking on a transaction,
introducing a product onto a new market, or signing a contract. The decision-making
process involves calculating risks involved in the entire activity and the subsequent
overall results that would ensue.

Refusing to take a risk is justifiable in the following cases:

• The potential danger is so high that the very existence of the Trading House is
endangered.
• It is impossible to effectively reduce risks through appropriate measures.
• The risk is so high that no insurer will guarantee the transaction (for example,
when dealing with the sale of arms or viruses).

7.2) Limiting risks

Organizing and managing information properly helps detect any underlying risks.
Certain sales-related risks can be reduced or transferred at the time the Trading House
negotiates the terms of the transaction and draws up the contract.

7.3) Transferring risks

Transferring risks means transferring them to somebody else. For example, this can
be done when selling through a buyer who assumes the risks instead of via an
intermediary. Even so, the trader must ensure that the buyer is creditworthy. Another
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means of transferring risks is to limit one s responsibility within the general terms of
sale or the sales contract. A sale can also be made ex-works or FOB to avoid
transport risks.

Transferring risks is nearly always a matter of the wording of a contract. One should
therefore ensure that this clause of the contract is worded clearly to avoid any claims
later on in case of an accident.

7.4) Sharing risks

This is where the expression don t put all of your eggs in one basket really hold
true:

• Trading Houses spread risks across several markets, distribution networks, and
diversified clientele.
• They prospect and penetrate new markets and add new products to their
activities.
• They do not sign exclusive contracts, preferring to use several networks
concurrently.

8) PRACTICAL SOLUTIONS

In order to avoid collection problems, it is extremely important to do an in-depth credit


check on the buyer. The second precaution is to word the sales contract properly and
ensure that the goods correspond exactly with the description in the contract. Traders
must follow all of the importer s instructions regarding documentation. Most collection
problems are due to the fact that the importer s packing, marking, or shipping instructions
were not followed.

When payment is not received, the trader must first find out why. The goods may have
been damaged or they may not have been accompanied by the proper documentation.
When the problem is document related, the Trading House should correct the problem as
quickly as possible.

When the importer is clearly at fault, the Trading House has several alternatives. The first
step is to use persuasion to collect the payment. The foreign bank or a collection agency
can be very helpful by putting pressure on the importer in conjunction with the trader.
Legal recourse and lawyers fees should be avoided because there are too many
potentially conflictual situations in international trade.

The majority of cases are solved through discussion and negotiation. Traders must be
especially persistent since the distance between the parties is a major drawback which
limits their power of negotiation.

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Imagination and creativity are a must for resolving conflicts and collecting payments. The
problem can usually be resolved quickly by granting a discount, which is often the
buyer s motive when refusing to pay.

If this method does not provide results, the trader must place a protest on the draft. This
is a legal means for registering a debt. It is the basis for making a claim against an
importer who cannot or will not pay. The buyer may have refused to pay a draft on the
due date. Preparing a protest is always called for.

The protest documents are prepared by a notary in the buyer s city. The notary then gives
the documents to the buyer and demands payment. A default on the part of the buyer
gives the Trading House rights that will be recognized in court. This is the first step for
obtaining payment through legal methods.

When a protest is not successful, the Trading House can use arbitration. Major trading
nations generally have standard arbitration procedures.

A Trading House’s success lies in its ability to collect its accounts receivable.

CONCLUSION

It is important to define the risks for every transaction in order to decide how to cover
them. Coverage can be obtained by using external methods (e.g: buying and selling in the
same currency, good references, buyer s guarantees, etc.) or by using the services of
insurance and guarantee companies. Insurance and guarantees do not eliminate risks, they
merely assume a portion of the financial risks.

Using insurance and guarantees should only be considered when all of the other
possibilities for eliminating, limiting, or transferring risks have been explored.

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CHAPTER 11

SETTING UP AND OPERATING A TRADING HOUSE

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CHAPTER 11

SETTING UP AND OPERATING A TRADING HOUSE

1) THE WORKINGS OF A TRADING HOUSE

1.1) Internal structure

Most Quebec trading houses have similar structures: management which supervises
traders who share the services of support staff: traffic, documentation, and other
support staff.

1.2) Management

There are a variety of management styles in trading houses. However, the role of
management is generally the same:

• Provide the infrastructure: telecommunications, secretarial services, accounting,


statistics, client and supplier files.

• Ensure that financing is available.

• Develop working relationships with banks, insurers, and freight forwarders.

• Coordinate the operations between traders.

• Manage the working capital.

• Manage foreign currency operations.

• Approve new client accounts and the payment terms provided.

• Evaluate and approve outside representatives and agents.

• Hire new staff and provide training.

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1.3) Traders

A trader s job includes the following:

With regard to transactions:

• Actively search for foreign and local markets and suppliers.

• Calculate export costing.

• Negotiate foreign and local sales and buying including product specifications,
delivery lead times, and payment methods.

• Ensure that the contract is properly executed.

• Approve transaction-related payments for which he is responsible and monitor


costs.

• Supervise the collection of invoices.

• Follow up on claims.

With regard to business development:

• Answer all local and foreign requests for information and follow-up on them.

• Maintain contact with the government agencies which promote exports.

• Participate in trade fairs and missions.

• Organize local visits and stay in contact with clients and suppliers.

The trial period for a new trader is approximately one year. Traders usually receive a
fixed salary during this training period which is often lower than the starting salaries in
other fields. However, as the trader acquires experience, his network of clients and
sales volume increases. This is usually when a trader prefers to be paid on
commission which also suits the company since fixed costs do not increase too much
over time.

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Another way of paying and motivating a trader is to offer him shares in the company.
This guarantees that personnel will stay longer and be more responsible while
increasing the employee-partner s job satisfaction.

A trading house s future is based on its sales and human resources which means that
it is advisable to encourage the best employees to stay with the company.

The generally low profit margins and constant fluctuations in world markets force
trading houses to be prudent and to strictly monitor fixed costs.

1.4) Support staff

1.4.1) Traffic and documentation

The tasks carried out by the traffic and documentation staff include:

• Provide traders with pertinent information regarding transport costs.

• Organize the transportation and make the booking .

• Monitor packing.

• Ensure that the goods are inspected before being shipped.

• Prepare the necessary transport documents that are required in the letter of credit
or in the contract.

• Prepare declarations for marine insurance.

• Assemble the proper documentation and present it to the bank.

• Keep track of goods in transit and in the warehouse.

• Prepare documentation with respect to insurance claims.

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1.4.2) The principal tasks of the accounting staff

• Check and pay supplier invoices.

• Follow up on accounts receivable.

• Book-keeping (manual or electronic).

• Prepare monthly and yearly statements.

• Interface with the banks.

• Prepare salary cheques.

• Produce internal statistics.

1.4.3) Secretarial tasks

• Operate fax, telex, and photocopying machines.

• Answer phones and direct calls.

• Ensure that information is circulated in the office.

• File correspondence.

Although secretarial tasks may appear trivial, they are extremely important if a trading
house is to run smoothly.

Lastly, it should be noted that information is one of a trading house’s major


assets. It is important to file all documents properly to facilitate retrieval.

Obviously, in small trading houses where a trader works alone or with an associate,
the above-mentioned tasks must be shared by the associates or managed by the trader,
with or without support staff.

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2) MANAGING WORKING CAPITAL

Managing a trading house s working capital is more complicated since it has to take
several additional factors into account:

• The movement of funds in several currencies.


• The methods for transferring funds are often specific to international trade.
• Foreign exchange regulations can limit or delay the circulation of funds as well as
foreign exchange coverage.

In order to manage its working capital properly, a trading house must know or be able to
estimate daily, monthly, and quarterly cash flows according to its needs. Cash flow
requirements can be projected by factoring in the following elements for each currency (in
most cases this is in Canadian and American dollars):

• Amounts receivable (where payments have a due date and delays can be
estimated based on a client s track record).

• Amounts payable where due dates are known in advance and common practice
dictates allowable delays.

• Direct transaction-related costs (transportation, insurance, warehousing, etc.).

• Fixed costs (salaries, etc.).

• Interest payable.

• Estimated value of buying and selling orders that have not yet been invoiced.

• Cash on hand (in the bank).

• Loans outstanding with known or estimated repayment schedules.

This procedure allows the trading house to manage its working capital properly by
projecting the sums required in bank advances to cover temporary needs, and ensure that
the line of credit combined with the company s funds will be sufficient to cover all needs.
It also permits it to evaluate the foreign currency requirements or surpluses that need to
be purchased or sold.

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3) SETTING UP A TRADING HOUSE

There are almost no barriers in starting a trading house. A career in trading is as much a
personal choice as becoming a doctor, lawyer, engineer, etc... All choices require
personal investment in time, money, and energy. These disciplines can be mastered
through formal training and practice over several years. The art of trading is not acquired
in an academic environment, but it requires the same amount of time to reach the same
level of income.

Traders should be able to discern potential profits in a product or market and love to
negotiate. (Shy people should refrain from becoming involved since trading can often be
an aggressive albeit creative profession).

3.1) Choosing a business strategy

When developing a business strategy in the beginning, it is important to establish a


direction for the company. Three questions need to be answered:

1) Will the trading house act as an agent or principal?


2) What products/markets will be targeted?
3) What size of transaction will be considered?

3.1.1) Agent or principal?

This is the first question to ask when setting up a trading house: Will I work as an
agent or principal?

Oddly enough, we tend to think that this decision depends on the amount of capital at
the entrepreneur s disposition. In Annex 2 T.H. inc. - A company study , we see
how the basic expenses of both types of companies - agent and merchant - are
practically the same. The only difference is the capital required by merchants to pay
for goods.

3.1.2) Choosing products and markets

A trader can base his choice of products or markets on market studies or even on
intuition - in either case, the choice is rarely an objective one. For example, trading in
arms, cigarettes, or alcohol can generate large profits, but the trader may have
consider it immoral to deal with these products - not to mention dealing in banned or
illegal goods. Trading in baler twine or coat hangers can be lucrative but not very
exciting - year in and year out.

Choosing a market is also a subjective decision. Knowing and understanding a


culture combined with a facility in human relations can play as important a role as the
desirability of a market or even the frequency of shipping services.
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3.1.3) Size of the transactions

The size of a transaction is more important to a merchant than an agent since it


establishes the amount of capital required by the company as well as the composition
of its personnel. Annex 1 illustrates the effect that the size and rhythmof transactions
can have on a firm s cash flow.

An agent can rely on his reputation to negotiate very large transactions (for example,
50,000 tons of sulphuric acid). However, a merchant financing the operation must
also depend on the capital available to him.

A trader s experience in previous jobs makes it easier to answer these questions. It is


preferable to have some working experience in Canada or abroad in the same field, or
directly with imports and exports along with knowledge of how trading works.

It is important to know one s products well (previous experience in the sector is


extremely helpful), and to have the ability to find the perfect market niche.

However, all of the qualifications and experience acquired in the past can only be of
service if the trader is able to establish a network of contacts abroad. These contacts
are the key to a trader s success.

A trader must be able to build, maintain, and constantly develop new stable and
trusting relationships.

Furthermore, he must be financially independent. Banks generally do not lend money


to new trading houses. The main problem for new trading houses is obtaining
financing (some traders have even mortgaged their houses to get started). It is hard to
say how much capital is required to set up a trading house. A business plan with
extremely low overhead, including a very low salary for the owner makes it easier to
limit capital requirements. A trader must obviously have some money set aside for
personal living expenses in the beginning, and he should not depend on a salary or
company profits.

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4) CONCLUSION

In order to succeed in trading, you have to surmount the following difficulties:

• When exporting, you must find suppliers who are willing to compete on the
international market (product, price, promotion, and modifications).

• When importing, avoid the pitfalls of established distribution networks which


work as cartels.

• Lastly (which is the hardest part), avoid being cut out as an intermediary by
clients and suppliers. One way to protect yourself is to offer customized service
and become indispensable to both parties (this requires a lot of skill).

However, these recommendations will not prevent a trading house from making mistakes,
the most common of which are:

• Not preparing a detailed business plan.

• Lacking the determination required to surmount the first problems encountered.

• Not providing the initial capital which is necessary when starting up a trading
house.

• Choosing agents, clients, or suppliers improperly.

• Spreading yourself across too many markets instead of concentrating on only one
where you should establish a base that will become more profitable and grow
over time.

• Trying to do everything yourself instead of using the services of specialized


companies.

In short, to succeed in international trade, you should have related work experience,
choose your market well, be financially independent, and more importantly, have a good
network of buyers and suppliers in Canada and abroad. If all of these conditions are met,
it will then be possible to make a comfortable living after the first few years.

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