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COUNTER TRADE

Counter trade is a practice where price setting and trade financing are tied together in one transaction. In situation wherein the importer is not able to make payment in hard currencies, some other forms of counter trade take place. Countertrade consists of transactions which have as a basic characteristic a linkage, legal or otherwise, between exports and imports of goods or services in addition to, or in place of, financial settlements. Countertrade can be used as an effective international business tool. Countertrade plays a part in 20-25 percent of world trade. Various factors contributing to counter trade include: y y y y y y Importing countrys inability to pay in hard currency. Importing countrys regulations to conserve hard currency. Importing countrys concern about balance of trade. Exploring opportunity in new markets. Gaining access to capital goods markets in countries with shortage of hard currency. The world debt crisis has made ordinary trade financing very risky and large banks and financial institutions are "risk adverse" in many of the hostile regions of the world opening to trade. The Political Environment regarding local jobs and industry "to protect or stimulate the output of domestic industries (including agriculture and mineral extraction) and to help find new export markets" The Political Environment regarding rules and regulations to protect the host country "as a reflection of political and economic policies which seek to plan and balance overseas trade" "To gain a competitive advantage over competing suppliers." Countertrade is often viewed as an excellent mechanism to gain entry into new markets. The party receiving the goods may become a new distributor, opening up new international marketing channels and ultimately expanding the market especially where problems are challenging to solve

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.

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Elderkin & Norquist, in their book "Creative Countertrade," say that companies countertrade in order to:
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Expand or maintain foreign markets Increase sales Sidestep liquidity problems Repatriate blocked funds Clean up bad debt situations Build customer relationships Keep from losing markets to competitors Gain foreign contracts for future sales Find lower-cost purchasing sources

COUNTER TRADE STRATEGIES (By C.G. Alex and Barbara Bowers)


1. Defensive. "Companies with a defensive countertrade strategy ostensibly do not countertrade at all; however, they make many countertrade-type arrangements with buyer countries. These companies will avoid any contractual countertrade obligations, but they make it clear to the country that they will reciprocate in some way for the sale. Some companies will sell their products at rock-bottom prices and promise to help the country with export development." 2. Passive. "Companies with passive countertrade strategies regard countertrade as a necessary evil. They participate in countertrade at minimal level, on an ad hoc basis. Some companies operate this way because they have product leverage (i.e., little or no competition), while others follow the passive strategy because of disinterest in countertrade." 3. Reactive. "This is the most common strategy among American companies. Companies with reacting strategies will cooperate with the buyer country in offset/countertrade requirements; they use countertrade strictly as a competitive tool, on the theory that they cannot make the sale unless they agree to countertrade." 4. Proactive. "Companies with proactive strategies have made a commitment to countertrade. They use countertrade aggressively as a marketing tool, and are interested in making trading an active and profitable part of their business. They regard offset and counter purchase as an opportunity to make money through trading, rather than as an inconvenience." Both exporters and importers find counter trade a useful tool in international transactions. Exporters favour it because counter trade: y y y y y Provides an opportunity to access the markets that do not have capability to pay in hard currency. Facilitate higher capacity utilization. Helps in finding alternate markets for their goods. Establishing long-term relationship with international buyers Increase profits and market share

Importers favour counter trade because of following reasons:


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It is an effective source of financing for their purchase. It facilitates conservation of foreign exchange. It is used to cope up with statutory requirements related to foreign currency. It helps them to reduce their debt liability. It serves as an effective instrument for industrial growth in countries with constraint foreign exchange. It helps them to establish long-term relationship with suppliers.

VARIOUS FORMS OF COUNTER TRADE


BARTER
Barter is the simplest and the most ancient form of counter trade in which direct and simultaneous exchange of products of equal value take place. Since on product is exchanged for another in barter trade, the role of money as a medium of exchange is eliminated. Barter makes international trade transaction possible between cash constrained nation.

PepsiCo Case
PepsiCo entered one of the largest barter with Russia valued at US$ 3 Billion. PepsiCo had been engaged in business with Russia since 1974, shipping soft drinks syrups, bottling it as Pepsi Cola, and marketing it within Russia. In 1990, Pepsis sales volume amounted to US$ 300 Million comprising about 40 million cases from about 26 bottling plants in Russia. PepsiCo found it difficult to take out profits from Russia, has hard currency was not just available. Therefore, PepsiCo entered in an agreement to export Stolichnaya Vodka to US, where it was sold through an independent liquor company. In 1990, a new deal was signed that included the sales or lease of at least 10 Russian tanker ships ranging from 28,000 to 65,000 tons. The proceeds of this transaction were to be used to expand the ongoing PepsiCo business in Russia by expanding Pepsi Cola through national distribution channels. Barter is of two types:

SIMPLE BARTER
In simple barter there is no involvement of money, and goods are exchanged for other goods. This type of barter has been in practice for centuries right from the ancient civilization of Indus valley, Mesopotamian, Greek, and Rome.

Country X
Exporter/Importer

Goods/Services

Country Y
Exporter/Importer

Goods/Services

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CLEARING ARRANGEMENT
Under the clearing arrangement, the transaction of the goods and services extends over a long time. Generally, under such arrangement, the governments of exporting and importing countries enter into an agreement to purchase the goods and services over an agreed period of time. Besides, the currency of transaction, such as Rupee and Ruble, is also agreed upon. Such form of counter trade existed between India and USSR under the Rupee Payment Agreement with an objective to preserve the hard currency and facilitate bilateral trade.

Country X
Exporter/ Importer

Bilateral clearing Account

Country Y
Exporter/ importer

Goods/Services

SWITCH TRADING
Switch trading involves third parties in the transaction. In case an importer in country Y has neither the goods that can be used for barter nor the capability to make payment in hard currency, a switch trader in trader in third country is involved. The switch trader in country Z imports the goods or services from the importer in country Y makes payment either in cash or by way of barter in terms of goods and services to the exporter in country X.

Country X
Goods/Service A

Country Y
Importer

Exporter

Payments or Goods/Service

Goods/Service B

Country Z
Switch Trader

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COUNTER PURCHASE
It is also known as parallel barter wherein two contracts or a set of parallel cash sales agreement take place, each payable in cash. Counter purchase, unlike barter, involves two separate transactions, each with its own cash value. Brazil has long been exporting vehicles, steel, and farm products to oil producing countries, from where it buys oil in return.

Country X
Exporter

Goods/Service

Country Y
Importer

Payment (Hard Currency)

Goods/Service

Country Z
Third party manufacture/ Supplier or importer

Payment (Hard Currency)

BUY-BACK (COMPENSATION)
While supplying capital goods and technology in international markets, firm often enter some sort of buy-back arrangement wherein the output of the equipment and plants is taken back. A large number of industrial units that buy such capital goods and machinery find it difficult to arrange finances for such large investments. Therefore, the buy-back arrangements not only serve as an important tool for financing their capital goods investment but also assure them of market outlet for their resultant output. Hence, buy-back arrangements are very common in international marketing of capital goods and technology. Such buy-back arrangements may involve full compensation by way of purchasing the output from the capital goods supplied or it may be partial wherein a part payment is received in hard currency, whereas the balance is compensated by way of purchasing the output.

Country X
Exporter (Capital Goods or technology) or Licenser

Capital Goods or Technology Payment (Hard Currency)

Country Y
Importer or

Output from capital goods/Technology Payment (Hard Currency)

Licensee

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OFFSET
Offset has traditionally been used by governments around the world when they have made major purchases of military goods but is becoming increasingly common in other sectors. There are two distinct types: A. Direct offset: "the supplier agrees to incorporate materials, components or subassemblies which are procured from the importing country. In some large contracts, successful bidders may be required to establish local production. Direct offset has been particularly common for trade in defence systems and aircraft." B. Indirect offset: "the purchaser requires suppliers to enter into long term industrial (and other) co-operation and investment but these are unconnected to the supply contract and may be either defence related or in the civil sector." The overall objective of offset either, direct or indirect, in the defence sector generally to promote import substitution and to minimise the balance of payments deficit for military purchases by developing an indigenous industrial defence capability. Under the offset arrangement, the importer makes partial payments in hard currency besides promising to source inputs from the importing country and also makes an investment to facilitate production of such goods.

Country X
Exporter

Export

Country Y
Importer (Importing country s government)

Payment (Partial) (Hard Currency) Investment

Input Sourcing Counter Trade

TOLLING
Manufacturers, in regions such as the Former Soviet Union, may sometimes be unable to service customers because they lack the foreign exchange to buy raw materials. In a tolling deal, a supplier himself provides the raw material (steel ingots, say) and hires capacity of the factory to turn it into finished goods (e.g. steel tubes). These are then bought by a final customer who pays the supplier in cash - throughout the process the supplier retains ownership of the material as it is processed by the factory." - This is similar to Contract Manufacturing where the Contractor provides much of the materials.

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SOME CRITICISM FOR COUNTER TRADE


Despite several benefits, as discussed above, counter trade is not free from criticisms: y y It has a distorting effect on the free market competition as considerations other than currency payments are involved. As only a limited number of exporting firms are willing to enter in counter trade, importers often has restricted choice and generally tend to pay higher than the free market. Counter trade seldom improve the foreign exchange of importing countries that are generally low or medium-income countries. Large international firms often engage in dumping the obsolete technology and plant and machinery in low and medium income countries by way of counter trade.

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REFERENCES
1. INTERNATIONAL MARKETING By R.M. Joshi 2. CREATIVE COUNTERTRADE BY-Elderkin & Norquist. 3. INTERNATIONAL DIMANTION OF MANAGEMENT BY-Arvind v. Phatak.

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