It Depends

Participants in my classes and workshops quickly learn three things about my style of teaching: (a) I like to ask questions to stimulate thinking, which results in group interaction, (b) questions do not have simple answers, and (c) questions can often be answered with two words.

Here are two examples:

1. Who takes the foreign exchange risk, buyer or seller? Frequently someone will answer, "The buyer."

After a few seconds, another will counter with, "The seller."

A few seconds later, another will come up with, "Both."

Then, after a short period of silence, someone will say, "It depends." And that is the two-word answer I was looking for.

I'll then ask, "On what does it depend? How do we find out who takes the risk?"

A participant will say, "By reading the contract?"

"Yes," I'll reply, "That is correct. Where do we look in the contract?" No one is quite sure how to answer this one. So I'll continue, "It's as simple as looking at the currency stated in the contract."

The answer to the question, "Who takes the foreign exchange risk?" The party willing to deal in the other party's currency. For example, when U.S. exporters requests payment in USD, they are forcing the foreign buyer to deal in USD and the buyer is at risk of any movements between his own currency and USD. On the other hand, if U.S. exporters requests payment in Euros (or any other currency), they are at risk.

2. Who arranges for the main carriage of a shipment, buyer or seller?

Again, some participants will reply, "seller," and others, "buyer." Finally someone will correctly say, "It depends."

"It depends on what?" I'll ask.

Someone usually knows, "The contract."

"What do we look for in the contract?" I'll ask.

The answer is, "The Incoterm®."

If the buyer and seller have agreed to one of the E or F Incoterms®, the buyer is responsible for arranging the main carriage. If they agree to a C or D Incoterm®, the seller is responsible.

While the two words, "it depends," correctly answer many questions, I caution my students that I will not accept it as a correct answer for any questions on the mid-term exam.

International Trade: International Trade in the Bible

Have you ever wondered if any records of international trade exist in the Bible?  They do. King Solomon imported cedar and pine logs from Tyre and Lebanon, 420 talents of gold as well as Almugwood and precious stones from Ophir, gold, silver, ivory, apes, baboons, horses and chariots from Egypt and other countries. Other ancient Israeli Kings also imported and exported goods.

But, what is the first recorded incident? Go all the way back to the first book of the Bible, Genesis.

We read of a caravan of traders from Gilead whose camels were loaded with spices, balm and myrrh to take to Egypt. That is the first recorded incident. But, the story doesn’t stop there.

On their way to Egypt, the traders came across a group of men who had a dilemma. These men were brothers who had just kidnapped someone: their younger brother!

The traders offered to buy the kidnapped brother in exchange for silver and sell him as a slave in Egypt. After selling him to the traders, the brothers deceived their father by reporting their brother dead. This is the second recorded incident. But, the story doesn’t stop there.

The traders sold the slave to Egypt's captain of the royal prisoners. The slave gained favor with one of the king’s officials and ultimately was put in charge of storing grain for an impending famine.

The famine spread beyond Egypt and their ample grain supplies became known in other countries. Ultimately, the slave’s brothers faced starvation and traveled to Egypt to buy grain for their families. This is the third recorded incident. But, the story doesn’t stop there.

Little did they recognize that they negotiated the purchase of grain with their long forgotten brother! He recognized them but did not reveal his identity at first. After a second visit to purchase more grain, he revealed his identity and invited his brothers and his father to move to Egypt for sustenance until the famine ended. It was a happy reunion for the son with his father, who had given him up for dead.

After the father died, the brothers feared their powerful younger brother would hold a grudge and seek revenge for what they had done to him. Instead, he replied with these unbelievable words of forgiveness, “You intended to harm me, but God intended it for good to accomplish what is now being done, the saving of many lives” (New International Version).

The father’s name was Jacob. The younger brother’s name was Joseph. The lives saved were the sons and descendants of Jacob, the Israelite people.

God used the first recorded incident of international trade to trigger a sequence of events that saved the future nation of Israel from extinction! Friends, we are indeed involved a noble profession. Who knows how our international transactions today will be used to shape future events?

And lastly, as an interesting twist to this story, the records indicate that the caravan of traders who traveled to Egypt with Joseph were descendants of Ishmael, a brother to Jacob’s father, Abraham. This made them Joseph's cousins and ancestors to today’s Arab nations!

Read these events for yourself in Genesis chapters 37 – 50.

 

Taken from: "More Bankers Insights on International Trade", to preview and/or order as an e-book, go to www.RoyBeckerSeminars.com and click on "Order Roy's Books"

International Trade: DEQ or DOA?

  
A credit manager shared this story which took place when he worked for a US grain company. The story has appeal only because the risk associated with it is so unimaginable and is therefore worth sharing here.

When companies ship large quantities of commodities such as grain or oil, the shipper normally contracts a charter vessel. As opposed to a conference vessel, which makes scheduled ports of call, a chartered vessel sails from point A directly to point B as contracted by the charter party.

The grain company chartered a vessel to carry grain from a U.S. port to a port in the Middle East. The contract based delivery on the Incoterm® 2000, Delivered Ex-Quay (DEQ) which requires the shipper to bear all costs, risks and responsibilities to have the goods unloaded at the port of arrival, and placed at the disposal of the buyer. The buyer agreed to make the payment with a letter of credit as soon as the captain of the vessel signed a statement certifying the goods were unloaded at the dock.

Shortly before the arrival of the vessel, the captain died unexpectedly. Since the letter of credit required the captain’s signature, the bank refused to pay. The grain company had no alternatives because the crew had unloaded the goods and the buyer took possession of the grain.

The seller spent a great deal of time and money in court seeking a legal solution to this dilemma.

While the probability of this happening seems small, one must always consider it. Having payment contingent on one person’s signature carries the risk of that person being unwilling or unable to sign the document, such as in this extreme case with the person being dead on arrival.

With the Incoterms® 2010 rules, the DEQ term has been deleted. The new rule, Delivered at Terminal, DAT, tasks the seller with the same responsibilities as the DEQ term.

 

Taken from: "More Bankers Insights on International Trade", to preview and/or order as an e-book, go to www.RoyBeckerSeminars.com and click on "Order Roy's Books"

International Trade: Just When Ewe Thought Ewe Heard it All

A student in one of my university classes put me on to this story. With his recollection of the event and information gleaned from “Facts on File,” I have recounted this story, which you will hardly be able to believe.

In the summer of 2003, a ship set sail from Australia with 57,000 sheep on board. The Dutch-chartered ship arrived in Jeddah, Saudi Arabia, for slaughtering in accordance with Islamic custom. Animal rights groups protested the condition of the accommodations of the sheep on the voyage, calling it inhumane.

After examining the sheep, a Saudi Arabian veterinarian found that 6% had scabby mouth disease, a relatively common low-grade infection, and refused to allow them to enter the country.

Since this violated the toleration of 5% diseased animals according to the contract, the buyer refused to accept the animals. Of course, the Aussies disputed this finding, claiming the infection rate was a mere 0.35%. After the rejection, the captain moored in the harbor awaiting further instructions.

Since Saudi Arabia had paid for the sheep, they demanded a refund of $3.1 million USD. The Australian government searched for another buyer but finding none, offered to give the sheep to Pakistan and the United Arab Emirates. Both countries refused to take them.

Meanwhile, as the ship moored in the Persian Gulf an estimated 5,000 sheep died in temperatures that reached 104°F. With time running out, Australia considered their options; throwing the sheep overboard or bringing them back. They rejected both.

Australian Agricultural Minister, Warren Truss, said that Australia had negotiated with 57 countries about taking the sheep, and all refused.

Finally, Eritrea, having suffered from a food shortage, agreed to take the sheep, but only after the free offer had been sweetened with a million dollars in aid and 3,000 tons of animal feed.

As bizarre this story is, let’s focus on the financial risk of the seller, in this case the Australian government. Since Saudi Arabia paid for the shipment prior to the ship arriving in Jeddah, Australia was forced into the position of having to return the funds.

 

Refusal to take the shipment centered on the inspection of the animals upon arrival. This situation could have been averted if the parties had agreed to the inspection by a Saudi Arabian veterinarian at the port of departure instead of at the port of arrival. In that case, the shipment could have been stopped before it left port, when the veterinarian discovered the 6% rate of diseased animals.

But then, I wouldn’t have such a great story to include in my blog!

Taken from: "More Banker’s Insights on International Trade - 101 Lessons Based on Practical Experience," Published by Roy Becker Seminars, www.roybeckerseminars.com

How Hector’s Blunder led to a Standby Letter of Credit

As a self-employed contractor, Hector won a city contract to move some rubbish from property A to property B with his dump truck. Unknowingly, when he dumped the rubbish at property B, some of it spilled onto the adjoining property C. Property C owner called the city and insisted the rubbish be removed as quickly as possible.

Since the city blamed Hector for the mistake, they demanded that he remove the rubbish from property C. Additionally, they asked him to put up a letter of credit for $2,000 to compensate the city in the event he failed to clean it up forcing them to hire another contractor to complete the work.

Hector had a relationship with the bank I worked for at the time, and he made an appointment to discuss the transaction with me. Since he had a savings account with sufficient funds to secure the transaction, we issued the standby letter of credit to the city which instructed them to collect funds from the bank with a statement as follows: “We hereby certify that Hector has failed to clean up the rubbish from property C, as agreed.”

Let’s discuss how the standbyletter of credit mitigated risk. First, the city knew they bore ultimate responsibility to the owner of property C. However, they faulted Hector for being careless in following instructions. In order to place the responsibility on Hector, they required the standby letter of credit as assurance that they would receive compensation if Hector failed to clean up the rubbish. If they wanted payment, they simply had to present the simple statement to the bank.

Hector accepted responsibility, promised to clean up the rubbish and put up the standby letter of credit. His risk was that the city could demand payment from the bank even though he cleaned up the mess. The bank would pay the money if the statement complied with the terms of the letter of credit. Hector would have no recourse to the bank but would take issue directly with the city. In the event it went before a judge, Hector would supply proof that he had indeed cleaned up the rubbish and produce the city’s statement, declaring it improper. The judge would then rule on the evidence.

Hector apparently fulfilled his obligation because the city never demanded payment on the standby letter of credit and at the expiration date, the bank released the funds in the savings account. This illustrates how standby letters of credit typically work. Usually not used, they become available only when something happens that should not happen, or something doesn’t happen that should.

Note: the standby letter of credit did not guarantee performance. The bank did not guarantee that Hector would perform the work. The bank simply committed to compensate the city if Hector did not perform.

Very versatile, Standby Letters of Credit can mitigate risk in a variety of scenarios as this lesson illustrates.

 

Taken from: "More Banker’s Insights on International Trade - 101 Lessons Based on Practical Experience," Published by Roy Becker Seminars, www.roybeckerseminars.com

International Trade: Sky Ride

A company in Colorado manufactures a thrill ride used in theme parks, called the Sky Ride. Until a few years ago, they sold only to theme parks in the United States. During the cold winter months sales declined, and the company laid off a major portion of their staff every October, and asked them to come back again the following March.

While this winter break appeared great for the employees that could afford to go skiing every day, most had to find other employment and they did not return the following March. Consequently, each March, the company faced the challenge of hiring new staff for the summer months ahead. This high turnover of staff became very expensive, as they had to train new employees every March.One day, in the course of discussing business strategies, an employee asked, “Why aren’t we selling our rides to countries in the southern hemisphere? Their seasons are opposite of ours and we could stay busy year-round instead of only during the summer.”

Senior management accepted the suggestion and developed a plan for marketing into South America and Australia, enabling the company to increase sales and keep the workforce employed year-round.

In my classes at the universities, we use the first class to discuss the question, What motivates a company to go global? Of course, many reasons exist including: (a) the product does well domestically, (b) management is committed, (c) they have adequate cash flow, and (d) they have excess capacity.

In the case of the Sky Ride manufacturer, going global allowed them to use existing capacity to its fullest potential, keep good employees year-round, and enjoy increased revenues without incurring extra expenditures.

Taken from: "More Banker’s Insights on International Trade - 101 Lessons Based on Practical Experience," Published by Roy Becker Seminars, www.roybeckerseminars.com

International Trade: The Big Rocks and the Little Rocks

The rules for letters of credit, UCP 600, contain a curious article, entitled “Instalment Drawings or Shipments,” reads as follows: “If a drawing or shipment by instalments within given periods is stipulated in the credit and any instalment is not drawn or shipped within the period allowed for that instalment, the credit ceases to be available for that and any subsequent instalment” (Article 32).

In other words, if a letter of credit requires shipment #1 on July 1, shipment #2 on August 1, shipment #3 on September 1, the beneficiary must ship on or before those dates. If the beneficiary misses the first shipment of July 1, and ships on July 2, the beneficiary risks being paid for that shipment and also risks cancellation of the letter of credit.

While this may seem like a quirky requirement, it serves a purpose as the following lesson illustrates.

A contractor agreed to build a levee in the Gulf of Mexico. He ordered three trainloads of rocks from a quarry. Each trainload consisted of 100 cars. The first shipment contained large rocks, the second medium sized rocks and the third small rocks. Obviously, the first shipment of large rocks would form the base of the levee in the bottom of the Gulf, followed by the medium rocks and small rocks at the top.

The quarry asked for a letter of credit for payment and the contractor instructed the issuing bank to insert a condition that each shipment takes place on the tenth of each month for the next three months. Due to an unfortunate logistical blunder, the quarry did not ship the first shipment as required. Worse, the second trainload arrived before the first, creating chaotic calamity at the levee.

 

Since no storage space existed to hold the medium sized rocks while awaiting the shipment of the large rocks, and the contractor ordered the train returned and refused payment on the letter of credit in accordance with Article 32.

What seems a peculiar article, served its purpose in this lesson.

Taken from: "More Banker’s Insights on International Trade - 101 Lessons Based on Practical Experience," Published by Roy Becker Seminars, www.roybeckerseminars.com