Trade is what keeps economies and nations alive. Trade demands create domestic production and the inflows of funds from overseas. Countries that have limited domestic resources, such as Singapore, must be able to keep up with domestic production of various goods and services so as to maintain a trade surplus, as they cannot produce everything they need in within their own borders.
Exporting is increasing yearly, globally. This is due to various factors. First, both large and small firms export – not just large firms. Also, under the World Trade Organization (WTO) there has been a decline in trade barriers. This holds true for other regional trade agreements such as the European Union (EU) and North American Free Trade Agreement (NAFTA).
When a firm decides to export to another country, it needs to address the following:
- Market opportunities – which can it identify?
- Foreign exchange risk – how can it protect itself?
- Import and export financing – does it understand the banking systems?
- Challenges of doing business in a foreign market – does it know what it will face?
Opportunities and Risks
Exporting is a means to increase a company’s overall market size. This usually occurs when a company has reached a certain saturation or limit in its domestic market and it needs to expand. This is why large firms tend to aggressively explore new export possibilities. While it is true that many small firms export, they tend to be more reactive and let opportunities come to them. Many companies, especially small, tend to underestimate the potential of the export market, and are overwhelmed by the intricacies, laws, and regulations surrounding exportation.
Below are common pitfalls of exporting:
- Insufficient or inadequate market research and analysis
- Lack of understanding of competitive conditions
- An absence of product customization for foreign markets
- Inferior distribution or marketing program
- Ineffective or poor marketing campaigns
- Difficulty finding financing
- Miscalculation of the amount of expertise needed to enter a foreign market
- An underestimation of the differences in a foreign market
- A perception that the way of doing things back home is superior and will work abroad
- An underestimation of the bureaucracy and red tape involved
However, if the proper groundwork is done, firms can avoid many of the aforementioned perils of exporting. For example, some countries offer exportation advice and help to local companies. Both Japan and Germany have established export institutions.
US firms do use the U.S. Department of Commerce to find export information. Also, the International Trade Administration and the U.S. and Foreign Commercial Service agency can even offer prospecting lists to firms. Another resource is the Small Business Administration, as well as local and state governments.
Another means is via export management companies (EMCs). These are companies that provide all the services a firm needs to export. They can work as the export department for a company or simply on behalf of the exporter.
There are two basic types of EMC relationships. The first is working with a view to let the exporting firm take over once the groundwork has been done. The second is for the EMC to have an ongoing responsibility to export, market, and sell the firm’s products overseas. But firms that rely too heavily on the EMC may never learn the ins and outs of exporting, and thus will never build such skills.
Exporting has its risks, but these risks can be mitigated in various ways.
- As previously discussed, an EMC can work as a consultant to identify markets and sort through the regulations on behalf of the company.
- Also, firms should focus on only one or just a few markets initially.
- To start, enter markets on a small scale, so as to limit the damages caused by any potential failure.
- Companies need to be realistic about the time, commitment, and resources needed.
- Firms should do their best to establish good relationships with distributors and clients.
- Whenever possible, locals should be employed in the foreign markets.
- Companies should exercise a proactive attitude.
- Firms should adopt local production in the countries they export to.
Transferring of funds internationally, to parties with which one has never done any prior business is often complicated, as there will likely be a lack of trust between them. To overcome this lack of trust, reputable international banks are included in the transaction.
1. Importer receives bank’s promise to pay on behalf of importer
2. Bank promises to pay exporter on behalf of importer
3. Exporter makes shipment to the bank, trusting the bank to pay
4. Bank pays the exporter
5. Bank sends shipment to importer
6. Importer pays the bank
A letter of credit can be issued by a bank on behalf of the importer. This states that the bank will pay a certain amount to another party (usually the exporter), upon receipt of certain documents. A letter of credit instills trust as a bank is involved.
A draft, or bill of exchange, is the means normally employed for international payment. A draft is a document from an exporter that instructs an importer (or an importer’s agent) to pay a certain amount of money at a certain time. There are two types of drafts: Sight drafts and time drafts. Sight drafts demand payment upon presentation, while time drafts request payment in 30, 60, 90, or 120 days.
A bill of lading is a document from the common carrier which transports the good to the exporter. It is a receipt, a contract, and a document of title.
Financial Export Assistance
Companies that wish to export can look to their government for guidance and assistance in their financial matters. In the US, the Export-Import Bank (Eximbank) offers financing, while the Foreign Credit Insurance Association offers export credit insurance.
The Export-Import Bank provides financial aid to those exporting, importing and exchanging commodities between the US and other nations. Eximbank is an independent US government agency. The main services it offers are loans and loan guarantees.
The Foreign Credit Insurance Association (FICA) is the body in the US that provides export credit insurance. Such insurance guards US exporters against importers that do not make payments. FICA offers insurance coverage against both political and commercial risks.
Such bodies are necessary to facilitate the US export of goods, and to help maintain a healthy domestic economy.
At times, standard goods-for-cash payment structures do not work, are cumbersome, expensive, or simply impossible. In these cases, companies can adopt countertrade.
Countertrade involves the exchange of goods in barters or other ways in place of money. For example, if a nation’s currency is not exchangeable or no good overseas, they may offer a commodity or other product in place of cash.
Countertrade was common in the USSR in the 1960s when its currency was nonconvertible. It was their only means of purchasing foreign goods. Countertrade grew in the 1980s as many other nations did not have the foreign reserves required to make imports. Countertrade increased yet again during the Asian financial crisis in 1997, as many currencies became devalued and had severely limited buying power.
One example of countertrade was when the USSR paid Coca-Cola in vodka. Poland did the same with Coca-Cola but paid in beer.
Countertrade can be separated into five variants:
4. Buyback or compensation
5. Switch trading
Barter is simply the direct trading of goods and or services between two parties with not monetary exchange. It is normally used in one-off deals with trading partners that are not trustworthy or that lack any credit. Barter is the simplest and most restrictive type of countertrade.
Counterpurchase is a mutual buying agreement which involves one party agreeing to buy a pre-specified amount of goods or services from a nation to which a sale is made.
Offset is like counterpurchase in that one firm agrees to buy goods with a certain percentage of the proceeds from the initial sale. The difference is that this party can conclude its transaction with any company or partner in the country to which the sale is made.
A buyback involves a firm building a facility or making an investment in a country and then it receives a percentage of that investment’s profits as partial payment for the initial contract.
Switch-trading occurs when a third party trading house purchases a company’s counterpurchase credits and resells them to another company that can make better use of them. The trading house makes a profit along the way.
Countertrade and its variants can be beneficial when it offers a company a means to finance an export transaction in the absence of other means. Companies that do not wish to engage in countertrade activities can lose export opportunities to other domestic competitors that may be willing to enter such agreements. Some governments may require that exports undertake countertrade when dealing with certain other countries.
However, countertrade can often result in firms ending up with massive quantities of unusual products that may be difficult to resell or dispose of. In such cases firms may have to establish in-house trading and distribution divisions to deal with the countertrade goods. Naturally, countertrade is best handled by large, diversified, multi-national corporations that have existing distribution channels and networks.
By Vladamir Gonzales