CERTIFIED GLOBAL BUSINESS PROFESSIONAL Online/Distance Learning Course SECTION 16 COSTS, PRICING ISSUES, GRAY MARKETS, AND PRICING STRATEGIES ALAN L. WHITEBREAD

CERTIFIED GLOBAL BUSINESS PROFESSIONALOnline/Distance Learning Course

SECTION 16

COSTS, PRICING ISSUES, GRAY MARKETS, AND PRICING STRATEGIES

ALAN L. WHITEBREAD

UNDERSTANDING INTERNATIONAL COSTS

• PRODUCT COST

• TRANSACTION COST

• LANDED COST

• TOTAL COST

• MARKET FORCES

• PRICE STRATEGIES

• TRANSFER PRICING

• DUMPING

• GRAY MARKETS

• COUNTERTRADE

• COLLECTION ISSUES • Duty and Tax

INTERNATIONAL PRICING ISSUES

• CORPORATE OBJECTIVES

• CHANNEL ISSUES • MARKET SEGMENT ISSUES• PRODUCT LINE DEFINITION

– Positioning, Product Life Cycle• COMPETITION / COUNTRY PRICING

• LEGAL & REGULATORY ISSUES • SERVICE ISSUES

• FOREIGN EXCHANGE

MARKET FACTORS AFFECTING PRICING STRATEGIES & DECISIONS

• PRICE SCHEDULES– Terms and conditions– How many should you have?

• TERMS OF SALE– Should there be different ones?

• THE COST ESCALATION TO BUYER IS DUE TO– Packaging, handling, and shipping PLUS– Tariffs, duties, taxes, and fees

INTERNATIONAL PRICING ISSUES

COST TO SELLING PRICE EXAMPLES

Standard cost

of components Cost plus Marginal cost

Price is a function of the selected cost system in the following examples.

Production 5.00 5.00 5.00

Foreign Product 0.00 0.50 0.50

Overhead 0.50 0.50 0.00

G & A 1.50 1.50 0.00

Foreign marketing 0.00 1.00 1.00

Margin (30%) 3.00 3.64 2.79

Selling Price 10.00 12.14 9.29

BUYER PRICE ESCALATIONStandard cost Cost plus Marginal cost

Price is a function of the selected cost system in the following examples.

Net Price 10.00 12.14 9.29

Transportation CIF 1.00 1.00 1.00

Tariff [12% of CIF] 1.32 1.58 1.23

Landed cost 12.32 14.72 11.52

VAT 10% 1.23 1.47 1.15

Distributor margin 25% 4.52 5.40 4.22

Retailer cost 18.07 21.59 16.89

INTERNATIONAL SHIPMENT COSTS

• International shipment costs are frequently increased due to

– PRODUCT MODIFICATION [INCLUDING PACKAGING], and

– CONTAINER ISSUES, and

– DOCUMENTS AND FEES.

INTERNATIONAL SHIPMENT COSTS

• ADDITIONAL ADDITIONS TO INTERNATIONAL BUYER COSTS INCLUDE– COMMISSIONS AND INCENTIVES

• Resellers fees

– INSURANCE• Air or marine• Supplemental

– FREIGHT– ADVERTISING & RELATED EXPENSES

• MARKET• New / emerging – developed – mature /

declining

• PRODUCT LIFE CYCLE• Stage

• Introduction, Growth, Maturity, Decline• Competitive positioning and FABs

• COMPETITION

GLOBAL PRICING ISSUES:MARKET FORCES AND SENSITIVITY

GLOBAL PRICING

• Polycentric pricing– Allow little flexibility at the local level [national]

• Geocentric pricing– Use comparison prices and margins [regional]

• Ethnocentric pricing– One price for all countries [global]

• MARKET PENETRATION PRICING• is used to grow share & volume. This has

very dangerous long-term issues.

• SKIMMING PRICING• High price / high quality positioning• Very high initial price to recover new

product development costs as rapidly as possible. Very sharp price declines follow.

PRICING STRATEGIES:NEW PRODUCTS

• Adjust prices so that source-country currency appreciation does not automatically pass through to the customer.

• RESULT: You may have to accept lower margins in the target market.

Why would you use this strategy?

See the next slide for help.

PRICING STRATEGIES:CURRENCY NEUTRALIZATION

USD TO EURO

0.68

0.7

0.72

0.74

0.76

0.78

0.8

0.82

0.84

0.86

CURRENCY NEUTRALIZATION

If you projected the USD would continue to rise like the dotted line,

you may want to consider a currency neutralization strategy to

keep your products reasonably priced in the EURO nations.

0.92

• PRICE FLOOR – The selling price is bounded by cost factors.

• PRICE CEILING– The selling price is bounded by competitive

pressures.

• OPTIMUM PRICE– Is a selling price somewhere between floor and

ceiling that meets your corporate objectives.

PRICE THEORY

• The price paid by another legal entity of the organization when the product crosses a national border. The three tests are

• Arms-length price • [unrelated parties]

• Most favored customer • [best]

• No significant tax implications • [tax evasion of duties, income, …]

GLOBAL PRICING ISSUESTRANSFER PRICING

• … a nation exports a product at a price lower than the price it normally charges on its own home market – Is the price permanent or temporary?

• Three methods of calculating “normal value”– 1-price in the exporter’s domestic market

– 2-the price charged by the exporter in another country

– 3-production costs, other expenses, and normal profit margins

DUMPING: DEFINITIONhttp://www.wto.org/english/thewto_e/whatis_e/tif_e/agrm7_e.htm

http://www.wto.org/english/thewto_e/whatis_e/tif_e/agrm7_e.htm

• COMMONLY DEFINED IN SELLING GOODS IN A MARKET BELOW COST

• What is the cost basis?

• How long was it being sold below cost?

GLOBAL PRICING ISSUESDUMPING: WTO VS. PRACTICAL

TARIFF CALCULATIONS:COMPONENTS vs. FINISHED PRODUCT

Standard cost Cost plus Marginal cost

Landed Cost 10.00 12.14 9.29

Tariff (complete)

(18%)

1.80 2.19 1.67

TLC (complete) 11.80 14.33 10.96

Tariff (parts)

(6%)

0.60 0.73 0.56

TLC (parts) 10.60 12.87 9.85

Difference 1.20 1.46 1.11

• COMMONLY DEFINED IN SELLING GOODS IN A MARKET BELOW COST• What is the cost basis?• Is it permanent or temporary?

• PENALTY• Antidumping duty • Counterveiling duty (USA)

GLOBAL PRICING ISSUESDUMPING: WTO & PRACTICAL

• GRAY TRADE• Channel members offer unauthorized

lower prices because of differences in exchange rates.• Notice what happens in the following example. The

manufacturer’s price in Spain is undercut by €1,150.

[1] 8,500 Euros

[2] 9,350 Euros

Distributor in Frankfurt, Germany

Price of the Spanish

manufacturer to a distributor in Spain is 10,500

Euros

GLOBAL PRICING ISSUES

• Transactions that involve at least partial payment in some form of non-cash unit. There are numerous forms of countertrade.

• Clearing agreement – Two entities agree to import a set amount of

merchandise from each another.

COUNTERTRADE

2. Mexican Buyer pays for US Exporter’s cotton by shipping Mexican oil to the US Exporter.

1. US Exporter ships cotton to the Mexican Buyer.

US Exporter/Buyer Mexican Exporter/Buyer

COUNTERTRADE: BARTER

• DUTY – A tax paid on the importation of selected items.

• DUTY DRAWBACK– A process which allows a firm to have the paid

duty refunded to them if the product was never sold in that country.

GLOBAL COLLECTION ISSUESDUTY AND DUTY DRAWBACK

• A VAT is roughly the equivalent of US sales taxes but on a national level.

• Purpose– Reduce trade deficits– Provide government financing

GLOBAL COLLECTION ISSUESVALUE ADDED TAX [VAT]

SECTION 16: REVIEW

• You should now have knowledge of– International pricing issues, factors, strategies– The importance of the selection of the cost

schedule and its potential impact on selling price and/or profitability

– International buyer price escalation– International shipment cost components– Currency neutralization– Transfer pricing– Dumping

SECTION 16B: REVIEW 2

• You should now have knowledge of– Tariff calculations: components vs. finished

products– Gray trade– Countertrade / Barter– Duty, duty drawback, and VAT


SECTION 17A

BASICS OF INTERNATIONAL FINANCIAL INSTRUMENTS:FOREIGN EXCHANGE AND CURRENCY TRANSACTIONS

ALAN L. WHITEBREAD

FINANCIAL CRISES - CONTAGION

• July 2, 1997 – The Thai Baht collapses due to– growing current-account deficit, and– excessive short-term foreign borrowing, and– banks weighed down by speculative property loans,

and– corrupt government and business practices!

• It was followed quickly by the collapse of the– Indonesian Rupiah – Malaysian Ringgit – Philippine Peso

HYPERINFLATION: ZIMBABWE 2006

Interest Rates11/09/06

Overnight 300%

Interbank 23%

Inflation RateJuly, 2006

CPI 198,559.1

M-O-M 25.11%

Y-O-Y 93.64%

FAMOUS HYPERINFLATIONS

• Germany August, 1922 to November, 1923– August, 1922 Index =1– July, 1923 Prices increase 41% per day– November, 1923 Index = 1,030– Monthly inflation rate = 19%

• Hungary August, 1945 to July, 1946– Monthly inflation rate >19,000%– Roughly 19% per day– July, 1946 prices increase > 333% per day

CURRENCY DEVALUATION

• The process of converting a larger numerical value of an old currency for a lesser numerical value of a new one with no translation loss.– The Azerbaijan central bank devalued their

currency starting Jan. 1, 2006. You could convert 5,000 old Manats for 1 new Manat. There are 100 Gapiks in a Manat.

• The opposite of this is revaluation. It is a much more rare currency event.

FOREIGN EXCHANGE

• THE VALUE OF ONE CURRENCY EXPRESSED IN TERMS OF ANOTHER.

• MANAGING RISK – CURRENCY REGULATION [TYPES, VOLUME]

• IMF CLAUSE VIII– GUARANTEES CURRENCY CONVERSION

– THERE ARE POTENTIAL P&L AND BALANCE SHEET ISSUES DUE TO TRANSACTIONS AND / OR FINANCIAL STATEMENT CONSOLIDATION.

• ISSUES– INFLATION– GOVERNMENT POLICIES

• Taxation, investment, money flow, …

FOREIGN EXCHANGE

• Fiscal Policy includes

– Taxation

– Monetary Policies

– Interest Rates

Issues Affecting Foreign Exchange Rates

Brazilian ImporterUS Exporter

The EXPORTER and IMPORTER enter into a Sales Contract requiring payment to be made in Brazilian Reals. So the IMPORTER must convert the Reals into their home currency. Businesses use a foreign exchange table or a cross-exchange table to determine rates.

Sales Contract Payable in Foreign Currency

CROSS-EXCHANGE TABLE

USD GBP EUR JPY

USD - 1.616 1.1378 0.0084

GBP 0.619 - 0.7041 0.0052

EUR 0.879 1.420 - 0.0074

JPY 118.9750 192.2800 135.3500 -

YOU BUY AT

YOU SELL FOR

HEDGING TOOLS

• Common tools– Spot contracts– Forward transactions / Futures transactions– Options [contracts]– Currency swaps

• Less common tools– Window forwards– Non-deliverable forwards

HEDGING: CURRENCY EXCHANGE:THE INTERBANK MARKET

• A way of converting one currency into another. • Types

– Spot contract • Allows you to buy or sell foreign currency at today's exchange rate,

with final settlement occurring usually within two business days.

– Forward transaction [trades over-the-counter] [unconditional]• A way of eliminating exchange rate risk with a foreign currency

transaction in the future. This enables you to buy or sell a currency at a fixed rate on a specified future date. By linking this date to the date of your currency payment, you in lock in the exchange rate you want and eliminate the risk of future volatility. Settles two or more days in the future and can be medium or long term.

– Futures transaction [trades on an exchange] [unconditional]• Very similar to a forward transaction.• See http://en.wikipedia.org/wiki/Futures_contract for details.

http://en.wikipedia.org/wiki/Futures_contract

CURRENCY TRADING: FUTURES TRANSACTIONS - CONTRACTS

• Transactions are mandatory.• The agreed-to price is the “strike price”.• Trades are always on the first Friday of each

month.• Currency call option

– The right to buy a currency at the strike price within a specified period of time

• Currency put option– The right to sell a currency at the strike price within a

specified period of time

• A financial tool used to protect against losses from currency fluctuations.– You are a BUYER outside the U.S. and believe

the dollar will strengthen [and your national currency will weaken]. You will be paying in your national currency. You should hedge your position by buying a futures contract for U.S. dollars. This would lock in the exchange rate so that you know your purchase price at the time of purchasing the hedge.

HEDGING: FUTURES CONTRACT

CURRENCY TRADINGFUTURES MARKET: OPTIONS CONTRACTS

• Traded in Chicago on the International Money Market [IMM].

• The transaction is not mandatory [e.g. conditional].

• You must meet margin requirements.• Off Exchange Currency Options [OEX-

FORCO]

– British Pound, Canadian Dollar, Euro, Japanese Yen, and the Swiss Franc

CURRENCY TRADINGFUTURES MARKET: OPTIONS CONTRACTS

• Guarantees a worst-case exchange rate for the future purchase of one currency for another currency for a fee.

• Unlike a forward contract, the option does not obligate the buyer to deliver a currency on the settlement date unless that option is exercised.

• Foreign exchange options protect you against unfavorable currency movements and allow you to participate in favorable movements.

HEDGING: CURRENCY SWAPS

• A way for an entity with [1] recurring cash flows in a foreign currency, or [2] seeking financing in a foreign country, to eliminate exchange rate risk.

– You simultaneously purchase and sell a given currency at a fixed exchange rate and then re-exchange those currencies at a future date.

– This allows you to fix the exchange rate for a stream of cash flows in one currency into another currency.

HEDGING: CURRENCY SWAPS

• Characteristics– It is a continuous market.– There is a specified amount, rate, and date of

exchange.– There is no last trade information so you are

blind to the latest trade data. – The minimum trade is $1,000,000.– It is self-regulating—there is no oversight

body!

SECTION 17A: REVIEW

• You should now have knowledge of– Contagion, hyperinflation, devaluation, and

revaluation– Foreign exchange rate issues and payments– Hedging tools

• Spot contract, forward transaction, futures transaction, options, currency swaps


SECTION 17B

BASICS OF INTERNATIONAL FINANCIAL INSTRUMENTS:METHODS OF PAYMENT

ALAN L. WHITEBREAD

METHODS OF PAYMENT

• International trade presents a spectrum of risk, causing uncertainty over the timing of payments between the exporter [Seller] and the importer [Buyer].

• After reviewing the slides read the Trade Finance Guide by the U.S. DOC International Trade Administration in the Reading sections to get more detail about the individual payment methods.

METHODS OF PAYMENT

Least RISK TO THE EXPORTER Most

Most COST FOR THE BUYER Least

Cash in Advance

Confirmed Irrevocable

L/C

Irrevocable

L/C

Sight Draft for

Documents Against Payment

Time Draft for

Documents Against

Acceptance

Consignment Open Account

Documentary Collection

Least AMOUNT OF TRUST IN THE RELATIONSHIP Most

CASH IN ADVANCE

2. The EXPORTER only ships goods after receiving and validating payment from the IMPORTER.

IMPORTER EXPORTER

1. The IMPORTER pays for goods per the EXPORTER’s terms.

This is the most favorable term for the SELLER.

CASH IN ADVANCE

• THE MOST LIKELY USE IS IF– The Buyer is a new firm; or– There is little or no credit information in the

Buyer's country; or– Expert sources put Buyer's country as high-

risk; or– There is significant currency fluctuation or

currency exchange issues in that country; or– There are small and/or Internet transactions

OPEN ACCOUNT

2. The IMPORTER pays after the goods are received in accordance with the terms agreed to with the EXPORTER.

IMPORTER EXPORTER

1. The EXPORTER ships goods only after IMPORTER’s credit has been checked and a line of credit has been established. Credit is based on history and there is no guarantee of payment.

This is the most favorable term for the BUYER.

OPEN ACCOUNT

• THE MOST LIKELY USE IS FOR– a very good customer with a long history of

good prompt payment; or– orders from multinationals; or– subsidiary payments.

DOCUMENTARY COLLECTIONS

• Documents against payment is when– the presenting bank may only release the

documents simultaneously with payment from the BUYER.

• Documents against acceptance is when– the presenting bank may only release the

documents against formal acceptance of a draft [bill of exchange] by the BUYER guaranteeing payment n days after the goods were shipped.

THE BANK ROLES IN A DOCUMENTARY COLLECTION

1. Facilitate the transaction and verify documents.

2. Assure compliance with the collection order.

3. Act [in good faith] as agents for collection

• Provides rules for collections

• Banks are under no obligation to do collections for a client.

Uniform Rules for Collections No. 522[URC 522 - 1995]

AN INTERNATIONAL DOCUMENTS AGAINST PAYMENT FLOW CHART

1. BUYER receives an Inquiry Letter [IL]

from SELLER.

2. BUYER examines the IL and makes a

counter offer to SELLER .

3. SELLER notifies BUYER it agrees with

the counter offer.

4. SELLER issues a Pro Forma invoice to

the BUYER.

5. BUYER takes the Pro Forma invoice to its BANK to apply for

a L/C.

7. SELLER verifies L/C is correct.

6. SELLER receives L/C from BUYER via SELLER’s BANK and

BUYER’s BANK.

8. SELLER notifies BUYER all is in order and the order will ship

on x date.

AN INTERNATIONAL DOCUMENTS AGAINST PAYMENT FLOW CHART

9. SELLER ships merchandise.

10. SELLER sends export documents to SELLER’s BANK for

collection

11. SELLER’s BANK sends the documents to BUYER’s BANK.

12. BUYER’s BANK notifies BUYER it has received the export

documents.

13. BUYER inspects the documents. If they are in order

BUYER accepts the draft and authorizes BUYER’s BANK to remit payment at

maturity.

15. BUYER’s BANK releases the export

documents to BUYER.

16. Only upon payment, can BUYER

collect the goods.

14. BUYER’s BANK remits payment at

maturity

This is accurate for an ocean waybill only! If BUYER has an air, rail, or truck waybill they can collect the goods even

though payment is not approved!

SIGHT DRAFT DRAWN ON BUYER’S BANK

U.S.$Lubbock, Texas, U.S.A.

At

PAY TO THE ORDER OF

DOLLARSfor value received and charge to the account of

To:

Draft No.By:

March 15, 2003 30,598.00

Sight

JET III Export Trading Co.

Thirty Thousand Five Hundred Ninety-Eight and No/100-------------

Brazilian Importer Co., Ltd.No. 75 Lin An RoadSao Paulo, Brazil

Banco do Brasil, S.A.Sao Paulo, Brazil


A Sight Draft is payable on demand [when it is presented].

AN INTERNATIONAL DOCUMENTS AGAINST ACCEPTANCE FLOW CHART

1. SELLER receives an Inquiry Letter [IL]

from BUYER.

2. SELLER examines the IL and makes a

counter offer to BUYER .

3. BUYER notifies SELLER it agrees

with the counter offer.

4. SELLER issues a Pro Forma invoice to

the BUYER.

5. BUYER takes the Pro Forma invoice to its BANK to apply for funds if necessary.

7. SELLER verifies documents are

correct.

6. BUYER receives documents from SELLER

through the involved banks.

8. SELLER notifies BUYER all is in order and the order will ship

on x date.

AN INTERNATIONAL DOCUMENTS AGAINST ACCEPTANCE FLOW CHART

9. SELLER ships merchandise.

10. SELLER sends export documents to SELLER’s BANK for

collection

11. SELLER’s BANK sends the documents to BUYER’s BANK.

12. BUYER’s BANK notifies BUYER it has received the export

documents.

13. BUYER inspects documents. If they are in order BUYER accepts the draft and authorizes BUYER’s

BANK to remit payment at maturity.

15. BUYER’s BANK remits payment at

maturity.

14. BUYER’s BANK releases the export

documents to BUYER. BUYER can

collect the goods.

Unlike a Letter of Credit, this is a commitment of the BUYER to pay—not

the BUYER’S BANK to pay!

TIME DRAFT DRAWN ON BUYER’S BANK

U.S.$Lubbock, Texas, U.S.A.

At

PAY TO THE ORDER OF

DOLLARSfor value received and charge to the account of

To:

Draft No.By:

March 15, 2003 30,598.00

90 Days Sight


Thirty Thousand Five Hundred Ninety-Eight and No/100-------------

Brazilian Importer Co., Ltd.No. 75 Lin An RoadSao Paulo, Brazil

Banco do Brasil, S.A.Sao Paulo, Brazil


A Time Draft is payable on n number of days after the documents are presented.

LETTER OF CREDIT [L/C] DEFINITION

A written document by the Issuing Bank given to the SELLER [beneficiary] at the request, and in compliance with the instructions, of the BUYER [Applicant or Account Party] to make a payment;

OR

by accepting or negotiating bills of exchange up to a stated amount, within a prescribed time, and against specified documents.

LAWS AND RULES GOVERNINGLETTERS OF CREDIT

• The International Chamber of Commerce’s Uniform Customs and Practices [UCP] for Documentary Letters of Credit Publication No. 500. [UCP 500]

• Uniform Commercial Code [UCC] - Article 5

• Allows for acceptance, partial acceptance, or rejection of amendments to Letters of Credit.

• Provides issuance rules for banks

• Defines the roles of various banks

• Defines acceptable dates

• Provides guidance for transfers and transport documents

UCP 500

• UCP 500– See

http://wer2031.coolfreepages.com/docs/UCP500.htm for detailed information.

• eUCP – bridges the current UCP of paper-based documents

with the processing of the electronic equivalent documents

– Find detailed information on the Internet. • International Standby Practices 1998 [ISP98]

became effective Jan. 1, 1999– Search the web for detailed information.

UNIFORM CUSTOMS AND PRACTICES UCP 500

http://wer2031.coolfreepages.com/docs/UCP500.htm

THE BANK ROLE IN AN L/C

1. Facilitate the transaction and verify documents.

2. Dishonor-the bank may not refuse an L/C due to– Breach of contract or non-conformity of goods– Bank believes it would not be reimbursed

3. Rule of Strict Compliance– The documents are linked to the same goods– The goods must be fully described

• Defines injunctive relief

– In other words, money alone cannot compensate for the damage.

• Outlines remedies

• Provides guidelines for security interest and subrogation of the parties.

• Addresses warranties

UCC

LETTER OF CREDITA THIRD PARTY COMMITMENT

Bank

Lette

r of C

redi

t App

licat

ion

& A

gree

men

tLetter of C

redit

Sales Contract Seller/

Exporter/

Beneficiary

Buyer/

Importer/

Applicant

LETTER OF CREDIT

IMPORTEREXPORTER

1. EXPORTER and IMPORTER enter into a Sales Contract requiring a specific type of L/C be used as the method of payment for transactions under the Sales Contract.

LETTER OF CREDIT

IMPORTER’s [ISSUING] BANK

2. IMPORTER [or the Applicant] requests its Bank to issue a L/C in their behalf to [technically “and in favor of”] the EXPORTER. IMPORTER’s Bank requires IMPORTER to complete and sign an Application & Agreement for a Commercial Letter of Credit. IMPORTER’s line of credit is reduced by the amount of the L/C when it is issued.

IMPORTER

LETTER OF CREDIT

3. IMPORTER’s [ISSUING] BANK issues a L/C and sends it to the BUYER’s [ADVISING] BANK electronically through SWIFT [Society for Worldwide Interbank Financial Telecommunications]. A few L/C’s are delivered in other methods.

IMPORTER’s [ISSUING] BANKBUYER’s [ADVISING] BANK

LETTER OF CREDIT

TRANSPORTATION COMPANIES

EXPORTER

4. EXPORTER contracts with a TRANSPORTATION COMPANY, either directly or through a FREIGHT FORWARDER or CUSTOMS BROKER, to pick up and deliver merchandise to IMPORTER’s named place per the INCOTERM.

USE A FREIGHT

FORWARDER?

LETTER OF CREDIT

EXPORTER’s [NEGOTIATING]

BANK

EXPORTER

5. EXPORTER, either directly or through a FREIGHT FORWARDER or CUSTOMS BROKER, prepares and sends documents required under the L/C to the EXPORTER’s NEGOTIATING BANK for payment.

USE A FREIGHT

FORWARDER?

LETTER OF CREDIT

7. The EXPORTER’s [NEGOTIATING] BANK sends Exporter’s documents to the IMPORTER’s [ISSUING] BANK.

6. The EXPORTER’s [NEGOTIATING] BANK, checks documents against the terms and conditions of the L/C. If they are in full compliance, EXPORTER’s [NEGOTIATING] BANK remits full payment to the EXPORTER.

IMPORTER’s [ISSUING] BANK

EXPORTER’s [NEGOTIATING]

BANKEXPORTER

LETTER OF CREDIT

8. The IMPORTER’s [ISSUING] BANK, checks documents against the terms and conditions of the L/C. If they are in full compliance, IMPORTER’s [ISSUING] BANK sends EXPORTER’s documents to the IMPORTER.

IMPORTER’s [ISSUING] BANK IMPORTER

In this example, we will assume the ISSUING BANK forwards payment to the NEGOTIATING BANK at this point.

LETTER OF CREDIT

10. Once the merchandise is cleared, the TRANSPORTATION COMPANY picks up and delivers EXPORTER’s merchandise to the IMPORTER.

9. IMPORTER, either directly or through a CUSTOMS HOUSE BROKER, sends documents to CUSTOMS and the TRANSPORTATION COMPANY to clear EXPORTER’s merchandise through CUSTOMS.

IMPORTER

TRANSPORTATION COMPANY

CUSTOMS

LETTER OF CREDIT ATTRIBUTES

• Irrevocable – Terms and conditions of the L/C cannot be

amended or cancelled without the written agreement of all parties to the L/C.

• This type is strongly preferred by financial institutions and sellers and is the most common form.

OR• Revocable

– The issuing bank [on behalf of the BUYER] may amend or cancel simply by notifying the accepting bank.

• The most likely use is for a parent company to cover a very large purchase for one of its subsidiaries. It is rare.

LETTER OF CREDIT ATTRIBUTES

• Confirmed – SELLER’s bank has verified the L/C and the

issuing bank and has added its guarantee for payment to SELLER for the L/C issued by BUYER’s bank.

OR• Unconfirmed

– SELLER’s bank does not guarantee payment for the L/C issued by BUYER’s bank. Only the issuing bank is assuring payment.

TYPES OF LETTERS OF CREDIT

• Transferable – This must be marked as “transferable” on it face.– It allows two or more parties to be paid from the L/C

while keeping their identities unknown to each other.

• The most likely use is for an exporter acting as an intermediary of some type.

• For instance, a transferable L/C is issued to the exporter. The exporter pays its supplier. The L/C is transferred to the exporter which then receives the balance of the L/C.


• Back-to-Back – It is marked as “back-to-back” on it face and separate

from the original L/C.– It allows some payments before collections are

received.

• The most likely use is for an exporter having to pay suppliers to complete an order before the customer pays for the goods.

• For instance, an exporter has an L/C. Then a Back-to-Back L/C is issued to pay the exporter’s named suppliers within a certain amount of time but before payment is due on the original L/C.


• Revolving – It allows a credit limit to allow a free flow of goods

until the expiration date. Thus, it eliminates the need for opening an L/C for every shipment.

• The most likely use is for a BUYER wanting to purchase merchandise from numerous suppliers on a regular basis.

• For instance, BUYER opens a Revolving L/C for $1,000,000. Buyer can then arrange for payment “in favor of” however many suppliers and amounts as long as it does not exceed the original amount unless amended.


• Red Clause – It allows payment to an exporter before documents

are presented. This provides pre-export financing for the purchase or manufacture of the goods.

• The most likely use is for a BUYER to provide credit for a small but key supplier. Payment can be in part or in full as specified and is financed by BUYER’s bank.

• Green Clause – Very similar to a Red Clause L/C but advances are

made only on presentation of SELLER’s warehouse receipts. It is very rare in the U.S.


• Standby – It is used to guarantee that a party will fulfill all its

obligations.

• The most likely use is for a parent company to provide access to a certain amount of money for subsidiary if it is needed for usually specified reasons.

• It may also be used similarly to a performance bond. In this manner, if the SELLER can not perform according to the sales contract, BUYER can draw the balance from the Standby L/C.

LETTERS OF CREDIT

• Letter of Credit Review– Conduct a through review of all the checklist

items for an L/C to minimize bank charges for discrepancies.

– See Readings.

• Letter of Credit Common Discrepancies – See Readings

2. The MANUFACTURER’s [SALES] REPRESENTATIVE sells the goods for a commission and the EXPORTER receives payment. Payment of the commission occurs according to agreed terms usually after the EXPORTER receives payment.

1. EXPORTER delivers goods to a MANUFACTURER’s [Sales] REPRESENTATIVE under agreement that the Manufacturer’s Representative sells the merchandise for the EXPORTER.

MANUFACTURER’s [SALES]

REPRESENTATIVEEXPORTER

Consignment may also occur at distributors [industrial products] and dealers or retailers [consumer products].

CONSIGNMENT

• Negotiable instruments [time drafts] to finance the export, import, domestic shipment or storage of goods.

• Must be drawn on and accepted by a bank.

• It is accepted only when a bank writes “accepted” on the draft which shows its agreement to pay the draft at maturity.

• A bank may accept the draft for either the drawer or the holder.

BANKER’S ACCEPTANCE

• The same as a Banker’s Acceptance except it is between firms and does not involve a bank.

TRADE ACCEPTANCE

• Society for Worldwide Interbank Financial Telecommunication [SWIFT]

http://www.swift.com

• TradeCard– http://www.tradecard.com/

ELECTRONIC METHODS OF PAYMENT

http://www.swift.com/

http://www.tradecard.com/

SECTION 17B: REVIEW

– Selected methods of payment• Cash In Advance, Open Account• Documentary Collections [against payment, acceptance]• Documents Against Payment flow chart and Sight Draft• Documents Against Acceptance and Time Draft• Letters of Credit

– UCP 500– UCC Article 5– Names of parties– L/C flow chart– Types of L/C’s

• Banker’s Acceptance• Electronic methods of payment: SWIFT and TradeCard®


SECTION 17C

BASICS OF INTERNATIONAL FINANCIAL INSTRUMENTS:CREDIT AND COLLECTIONS

ALAN L. WHITEBREAD

SALES EFFORTS

• You must define the terms and conditions of sales your sales people may offer!– What are the limits of authority for a sales person?– What, if any, changes are allowed to the sales

contract?– Which INCOTERMs can be used?– What are the payment terms?– What are the conditions of sale?– What is the pricing?– How can they get approval for an exception?

CHECKING CREDIT WORTHINESS

• The equivalent of a D&B U.S. credit service is not available in most nations.

• You can get some foreign company references from U.S. credit reporting firms but they tend to be expensive compared to a credit check on a U.S. firm.

• You must thoroughly check– Bank references– Trade references– Industry credit associations

INTERNATIONALCREDIT ASSESSMENT

• A variety of information is required.– Credit Bureaus / Services

• D&B, Hoover’s [now part of D&B], Experian, others• Generally $100-300 per international credit report

– Trade references • Be careful—it could be a relative.

– Bank references • Be careful! Is it a bank? If it is, is it real?

– Industry Credit Associations

INTERNATIONAL COLLECTIONS

• Good, established customers

• New customers– Risk can be minimized through “irrevocable L/C’s

confirmed by” [your bank name goes here] national bank.

• Questionable to bad customers – Often use difficult, evasive, or stalling tactics– Are always looking for additional concessions

BANK GUARANTEES

• Bid bond– A surety bond is filed by bidders which guarantees that the successful

bidder will sign a contract and furnish a performance bond.

• Advance payment guarantee– This provides protection for BUYER[s] who are asked to provide

payment before goods or services are supplied. If SELLER fails to fulfill their contract, BUYER has recourse to the guarantor to recover any advance payment they have made.

• Performance bond– This guarantees the fulfillment of the contract and payment to all

subcontractors and material suppliers. It is submitted by the winning bidder upon award of the contract.

• Staged payment structure– Allows specific payments at specific points in time or at the fulfillment of

key events.

NONPAYMENT

• Nonpayment may occur for

– Cancellation / failure to grant U.S. export license or country import license, or

– Civil unrest, or

– Foreign currency controls, delays, or shortages

NONPAYMENT

• Numerous collection challenges exist.– Collection in country– Arbitration, mediation, conciliation– Legal action [Litigation]

LITIGATION

• Use garnishments or attachments to tie up Buyer’s assets at the beginning.

• Use fear of the court system.

• Results are always uncertain.

• Can be very expensive—potentially multiples of the cost of the suit in the U.S.

MINIMIZING THE RISK OF NON-PAYMENT

• Cash in Advance [CIA]

• Payment against documents

• “Irrevocable L/C confirmed by a US bank”

• Security interests in or liens against the property being sold or delivered– Not available in every country

• Purchase export credit insurance

SECTION 17C: REVIEW

• You should now have knowledge of– International credit assessment– Bank guarantees

• Bid bond, advance payment guarantee, performance bond, staged payment structure

– Non-payment, litigation, and minimizing the risk of non-payment


SECTION 18

ADVANCED INTERNATIONAL FINANCING OF EXPORTS:BORROWING, FINANCING, AND GOVERNMENT ASSISTANCE

ALAN L. WHITEBREAD

SECTION 18

• This section contains one set of lecture slides.

– It examines working capital, seller financing, carrier financing, TradeCard®, buyer financing, EXIMBANK, and OPIC..

WORKING CAPITAL MANAGEMENT

• This is the management of short-term assets and liabilities.

• Net working capital equalsCurrent assets – current liabilities

• Some of the key questions it must answer include– How much cash should we hold?– How much inventory should we carry?– What are the financial implications of our credit policy?– Where can we get short-term loans up to $...?

FUTURE VALUE [FV]

• The value of a fixed amount n time periods in the future.

• Assume you start your career making $35,000 per year [S]. Also assume you never change jobs but keep up with the average rate of inflation [r = 4%] for your entire 42-year career [n=42]. What would you be making when you retired.– The formula is FV = S * [1+rn]– Build a spreadsheet and calculate the answer.– Did you get $181,747.40?

COMPOUNDING

• The value of identical cash deposits at the end of each time period for n periods.

• Assume you deposit $1,200 per year in a savings account and earn an interest rate [net after taxes] of [r = 3%] for your entire 42-year career. How much money will this provide toward your retirement?– The formula is C = S * [1+r]n

– Build a spreadsheet and calculate the answer.– Did you get $101,380.67?

PRESENT VALUE [PV]

• The value of a fixed amount n time periods expressed in today’s currency.

• Assume you are making $100,000 [$S] per year. Your employer offers you a five-year contract [n=5] that will increase your annual salary to $150,000 per year in the fifth year. Assuming a 9% [r] inflation rate, will this be worth more or less than you are currently making?– The formula is PV = S * [1/[1+r]n]– Build a spreadsheet and calculate the answer.– Did you find that the $150,000 in year five was worth only

$97,489.71 in today’s money?

DISCOUNTED CASH FLOW [DCF]

• This is the process of valuation by finding the present value [PV] of some amount in the future.

• It can be calculated for a single amount or for multiple amounts over time.

• The quick way to find the appropriate rate is to consult a PV table in a corporate finance or a managerial / corporate finance book.

SELLER FINANCING: BANKS

• Types:– Line of Credit– Revolving Line of Credit– Letters of Credit

• Benefits:– Cost

• Disadvantages: – Documentation Requirements

• Documentation Requirements:– Inventory, Accounts Receivable and Accounts Payable

Report– Evidence of Insurance Coverage of Inventory– Personal guarantee

BORROWING BASE EXAMPLE

• The following two slides provide a hypothetical example of how a bank may value your various assets when you are applying for some type of credit.


• Cash• Stocks/Bonds• Accounts Receivable

– Open Account • Insured• Uninsured

– Documents Against Payment• Insured• Uninsured

– Documents Against Acceptance• Insured• Uninsured

– Letters of Credit• Confirmed• Not Confirmed

• Inventory

• 100%• 50%

• 75%• 40%

• 75%• 60%

• 75%• 20%

• 90%• 80%

• 60%


• Asset Value

• Less Payables– Outstanding Checks– Open Account Payables

• Less Loan Amount

• Less Outstanding L/Cs/Guarantees

• Net Margin

SELLER FINANCING:EXPORT FINANCE / FACTORING FIRMS

• Types [up to 180 days]– Receivable Based Lending– Asset / Receivable Based Lending

• Benefits:– Eliminates Buyer Risks– An Additional Source of Funding– Improves Liquidity

• Disadvantages: – Cost [minimum of 2% - 4%]

SELLER FINANCING:FORFAITING

• Receivable Based Lending [180 days to 7 years]

• Benefits:– Eliminates Buyer Risks– An Additional Source of Funding– Improves Liquidity

• Disadvantages: – Cost – More expensive than export insurance– Not generally available for high risk countries where it is

needed

Types:– Trade Acceptance– Deferred Payments

• Benefits:– An Additional Source of Funding– Improves Liquidity– Lower Interest Rates

• Disadvantages: – Normal only available to long term customer

relationships

FINANCING INTERNATIONAL SALES:SELLER FINANCING

SUPPLIER FINANCING:SUPPLIER / CORPORATE FUNDS

• Terms and conditions of sale at 30, 60, or 90 days net or as agreed in contract

• Benefits:– An Additional Source of Funding– Improves Liquidity


relationships

• Documentation:– Purchase Order

CARRIER FINANCING

• Freight Charges Open Account• Benefits:

– An Additional Source of Funding– Improves Liquidity


relationships

• Documentation:– Service Contract

TradeCard

• All of the previous financing methods• Benefits:

– An Additional Source of Funding– Improves Liquidity

• Disadvantages: – Only for transactions under $100,000

• Documentation:– Depending on type of Financing

• TradeCard [includes numerous reports about improving your supply chain operations] at

– http://www.tradecard.com/

http://www.tradecard.com/

BUYER FINANCING

• Bank– Lines of Credit– Revolving Lines of Credit– Letters of Credit– Bankers Acceptance

• Supplier– Trade Acceptance

Types:– Line of Credit– Revolving Lines of Credit– Letters of Credit– Bankers Acceptance

• Benefits:– Cost

• Disadvantages: – Documentation Requirements

• Documentation Requirements:– Inventory, Accounts Receivable and

Accounts Payable Report– Evidence of Insurance Coverage of Inventory– Personal Guarantee

FINANCING INTERNATIONAL SALES:BUYER FINANCING THROUGH BANKS

CONFIRMING HOUSE

• Primarily European [esp. UK] firms

• Uses its credit where there is– a high cost of money, or– for a country with a high risk credit environment

• Exporter may receive payment from the confirming house when the goods are shipped.

GOVERNMENT ASSISTANCE:EXIMBANK

• Supported countries– http://www.exim.gov/tools/country/country_limits.html#tblL

• Products– Working capital [90% - 100% bank coverage]– Insurance [generally up to 85% of contract value]– Loan guarantee [up to 100% to $10,000,000]– Direct loan [generally over $10,000,000]– Special initiatives

• http://www.exim.gov/products/special/index.html

http://www.exim.gov/tools/country/country_limits.html#tblL

http://www.exim.gov/products/special/index.html

GOVERNMENT ASSISTANCE:OPIC

• Overseas Private Investment Corporation [OPIC]

– Economic development in new and emerging markets

– Foreign direct investment [FDI]

GOVERNMENT ASSISTANCE:OPIC

• Products– FDI Political risk [to 270% on initial

investment]• Currency inconvertibility• Expropriation• Political violence

– Lending • Many programs; any size of business

– Investment and private equity funds

COMMERCIAL SOURCES OF PRIVATE EXPORT CREDIT INSURANCE

• These reimburse the seller for losses due to a buyer’s bankruptcy, insolvency, or payment default. It extends to include non-payment due to political events in the buyer’s country, such as currency inconvertibility or import license cancellation

• It enables you to offer open terms of payment to Qualified Buyers. Some sources include – CNA– Hartford– Chubb– Many others

SECTION 18: REVIEW

• You should now have knowledge of– Working capital issues– Financial concepts– International credit assessment– Bank guarantees

• Bid bond, advance payment guarantee, performance bond, staged payment structure

– Non-payment, litigation, and minimizing the risk of non-payment


SECTION 19

WORLD AND REGIONAL BANKS;CUSTOMS SERVICE DEALINGS

ALAN L. WHITEBREAD

The World Bank Group is one of the world's largest sources of development assistance. In FY 2002, it provided more than US$19.5 billion in loans to its client countries. It works in more than 100 developing economies with the primary focus of helping the poorest people and the poorest countries...184 MEMBER COUNTRIES

Institutions include: World Bank GroupIBRDIDAIFCMIGA and ICSID

THE WORLD BANKhttp://www.worldbank.org/

http://www.worldbank.org/

THE WORLD BANK FUNDS – FY2004

• International Board for Reconstruction and Development [IBRD] – Low interest loans for major development projects

in underdeveloped nations– 87 projects - $11 billion - 33 countries

• International Development Association [IDA]– Interest-free loans and grants– 158 operations - $9 billion - 62 countries

REGIONAL DEVELOPMENT BANKS

• AFRICAN DEVELOPMENT BANK GROUP• ASIAN DEVELOPMENT BANK• EUROPEAN BANK FOR RECONSTRUCTION

AND DEVELOPMENT• INTER-AMERICAN DEVELOPMENT BANK• CARIBBEAN DEVELOPMENT BANK• Many others

INTERNATIONAL MONETARY FUND [IMF] http://www.imf.org/

• The IMF has grown from less than 50 members in 1945 to 184 member countries in 2003. It was established to

1. promote international monetary cooperation and exchange stability,

2. foster economic growth and high levels of employment, and

3. provide temporary financial assistance to countries to help ease balance of payments problems.

The IMF is also a great source of country data and special studies.

http://www.imf.org/

U.S. CUSTOMS SERVICE GOALS

1. Assure compliance with U.S. laws

2. Prevent smuggling

3. Prevent money laundering

4. Collect tariffs and fees

5. Oversee export controls

DEALING WITH FOREIGN CUSTOMSWHAT IS THE PROBLEM?

• Is there a problem?

– 2006: it takes an average of two hours to clear a container in Liverpool, UK but 20 days in Eritrea.

• Is the product misclassified?

• Are duties higher than anticipated?

• Why won’t the customs office clear the shipment to your buyer/importer?

WHAT HAVE YOU DONE TO RESOLVE THE PROBLEM?

• Have you

– involved the buyer/importer?

– involved your shipping company?

• Do you believe you've done everything you can do to resolve the issue?

– If so, do you have all copies of all correspondence and documents related to the dispute?

U.S. CUSTOMS ENFORCEMENT PENALTIES[Plus other laws and penalties are likely to be invoked.

Records

$10,000Willful

-$100,00knowing

Negligence

Twice revenue loss

OR20% ofdutiable

goods value

GrossNegligence

Four times revenue loss

OR40% ofdutiable

goods value

Fraud

MarketOR

resale valueof the goods

seizedOR

forfeited

Criminal

Goodsseized

ORforfeitedPLUS

$500,000per count

PLUS5 years in

Jailper count

Least severe to most severe penalties per charged count.

ADVANCED DOCUMENTS:SPECIAL FORMS

• Certificates• Analysis• Disinfection• Free Sale• Resale• Origin• Hazardous Cargo• Health • Inspection• Phytosanitary or Sanitary

– Food or animals are clean, safe, and meet applicable standards

• Pre-shipment Inspection• Validated License• Many, many others

• THESE ARE PRODUCT DEPENDENT AND SOMETIMES COUNTRY DEPENDENT FOR EXPORTS AND FOR IMPORTS!

SECTION 19: REVIEW

• You should now have knowledge of– The World Bank Group– Regional Development Banks and their role– IMF– U.S. Customs

• Goals• Dealing with customs• Customs enforcement penalties

– Advanced documents: special forms


SECTION 20

SALES AND AFTER-SALES SERVICE

ALAN L. WHITEBREAD

SERVICES MARKETING

• SIMILAR TO PRODUCT MARKETING

• SIGNIFICANT DIFFERENCES EXIST

• YOU MUST SET REALISTIC EXPECTATIONS TO SUCCEED

CHARACTERISTICS OF SERVICES

• SERVICES ARE SIMULTANEOUSLY PRODUCED AND CONSUMED. THEY ARE– INTANGIBLE

• Cannot be felt, heard, seen or tasted before purchase

– INSEPARABLE• Cannot be separated from its provider

– PERISHABLE• Must be consumed when available; no storage or inventory

– VARIABLE• Quality depends on who, where, when, and how

SERVICES - DIFFERENCES

• HETEROGENEITY IS KEY– Less standardization / less uniformity is

desired by marketers– Services are extremely difficult to compare

• Why? • What are the benefits of this?

– Personalization and the personal service perception

SERVICES – INTERNATIONAL DIFFERENCES

• The personal contact

• Cultural sensitivity

• What other differences can you identify?

SERVICES – GOODS CONTINUUM

Groceries Autos Restaurants Rental Movies

Medical Care

How do channels change for services?

How to sales organizations change for services?

How does the IMC change for services?

TANGIBLE INTANGIBLECHARACTERISTICS

Pure Product

Pure Service

Mostly Service Some

Product

Hybrid: Nearly

equal mix of Product & Service

Mostly

Product Some

Service

CONSUMER DIMENSIONS OF SERVICES

• SEARCH– Potential customers can examine or try prior to

purchase• Examples: color, style, fit, smell, …

• EXPERIENCE– Product characteristics that potential customers can

determine during / after consumption• Examples: vacations, …

• CREDENCE– Attributes that are difficult for potential customers to

evaluate even after they have been experienced• Examples: medical diagnosis, surgical operation, …

SERVICES – GOODS CONTINUUM

Groceries Autos Restaurants Rental Movies

Medical Care

TANGIBLE INTANGIBLECHARACTERISTICS

Pure Product

Pure Service

Mostly Service Some

Product

Hybrid: Nearly

equal mix of Product & Service

Mostly

Product Some

Service

HIGH IN SEARCH

QUALITIES

HIGH IN EXPERIENCE

QUALITIES

HIGH IN CREDENCE QUALITIES

TYPES OF SERVICES

• Government services

• Professional services

• For-profit services

• Nonprofit services

PRODUCT & SERVICES CONCEPT:THE AUGMENTED PRODUCT

CORE

BRANDED

AUGMENTED

CONSUMER

Delivery

Installation

Training

Maintenance/repair

Field upgrades

BUSINESS [B2B]

Customization

Design

Engineering

Installation

Training

Maintenance/repair

Field upgrades

THE SERVICE CONCEPT IN ACTIONExpress carriers like DHL, FedEx, UPS and others

1

3

5

7

8 2

6 4

CORE BUSINESS:

The overnight transportation and

delivery of packages

Help Solve Problems

Issue Invoices[Billing] and

Credits

Provide Item Tracing and

Expediting

Assist with Documentation[Domestic and Foreign]

Take Orders

Provide Supplies

Provide Pickup Service

Provide Advice and Information

DIFFERENTIATING SERVICES

• HAVE A UNIQUE OFFER• ORDERING / ACCESS EASE• DELIVERY EXPERIENCE

– Including installation and training

• IMAGE• INNOVATIVENESS• VALUE

– LOCATION / REMOTE– PERCEPTION

SERVICE EXCELLENCE

• A STRATEGIC CONCEPT• ORGANIZATIONAL COMMITMENT• HIGH STANDARDS• CONTINUALLY MONITOR AND

IMPROVE QUALITY• SATISFY PUBLICS

– Customers, employees, vendors, shareholders, …

• MANAGE PRODUCTIVITY

CUSTOMER SERVICES & SUPPORT

• DETERMINING METRICS– WHAT ARE THEY?– WHAT ARE THE RELEVANT MEASURES?

• CRITICAL-INCIDENT TECHNIQUE

• IMPORTANCE-PERFORMANCE ANALYSIS

EXPORT SERVICES: FINANCING

• Intangible nature causes financial security [collateral] concerns– Performance guarantees– Liability concerns

• Export regulations control certain services– Information services– Encryption

INTERNAL SERVICES

• EVERYONE IS A CUSTOMER– Stress teamwork

• cooperation

– Benefit from empowerment• rapid response / better decisions

– Value individual contribution• rewards

– Value individual needs• training

SECTION 20: REVIEW

• You should now have knowledge of– The characteristics of services

– The Services-Goods continuum

– Consumer dimensions of services

– Differentiating services

– Service excellence and metrics

– Export services and financing

– Internal services