Introduction In a growing globalized world where cash flows and flows of funds are getting more complex one

would expect businesses to be completed in seconds through electronic transactions, which most times is also the case. Nevertheless, the oldest form of trading and its numerous variations regain each day their importance in international trade. Countertrade has become an important element of the world economy, for all countries whether industrialized, emerging or developing since World War 2. Despite the move towards freer trade it may be surprising to find that barter and Countertrade (CT) are actually growing faster than world trade. International CT is a global phenomenon which involves interaction between parties in different countries and links sales with purchases so that each party to a transaction is both buyer and seller at some stage. It is paradoxical that these forms of trade, predating the use of money and trade finance continue to grow in importance. Importance of countertrade and its share in the world market is steadily increasing and it is becoming one of the important opportunity for doing international trade. As trade statistics only include monetary transactions an increasing slice of world trade is being ignored in trade analysis, economic, trade and policy decisions. Despite the general perception that CT is more prevalent in centrally planned economies, their transformation to more market based economies has not reduced the incidence of CT as predicted. Instead more countries have come to embrace CT. However, it would seem that although the number and value of transactions is continuing to increase the modalities and motivations are changing. Limited attention has been given to the

strategic possibilities for the use of CT in the process of internationalisation. What Is Countertrade? Countertrade is a resourceful way to arrange for the sale of a product from an exporter to a company in a country that does not have the resources to pay for it in hard currency. The problem is usually with the importer but may be with the country's limited reserves as well. An international credit executive who arms his salespeople with an innovative countertrade solution gives the sales force a competitive advantage. In some cases, the company that cannot come up with a countertrade initiative will not be able to sell in certain markets. The most well-known form of countertrade is barter-the

simultaneous exchange of goods. Countertrade experts say it is also the form least Used.

Definitions “International Countertrade”, C. M. Korth defines countertrade as “a general term covering all forms of trade whereby a seller or an assignee is required to accept goods or services from the buyer as either full or partial payment. The UN defines Countertrade as "commercial transactions in which provisions are made, in one of a series of related contracts, for payment by deliveries of goods and/or services in addition to, or in place of, financial settlement".

Four Countertrade Strategies The countertrade strategies of American companies may be divided into four general types, defensive, passive, reactive, and proactive. Defensive, passive, and reactive strategies correspond to the company advantage policy, while proactive strategy is derived from the mutual advantage policy.
 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. Others participate in barter deals by having an intermediary like an independent trader take title to the goods on each side, therefore making the transaction appear to be conventional import and export rather than a swap. No matter what kind of deal is made, however, these companies will insist that they do not countertrade. They seldom have in-house trade units. A variation of the defensive strategy is that of companies that say they do not countertrade, although they do it openly and regularly with Eastern European countries and China. They seem to think that this trade does not count, offering the excuse that "it's the only way to do


business in socialist countries." They may also be defining countertrade as practice restricted to developing countries. Incidentally, most industrial country governments that practice military offset among themselves follow a defensive countertrade strategy. The beneficiary countries call their requirements "industrial benefits" and swear that they are against countertrade; the partner countries go along with this by refusing to include military offset in the definition of countertrade. Examples of companies following a defensive countertrade strategy are Bell Helicopter, Textron, EBASCO, Gould, and Borden.
 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. These companies will accept contractual offset and countertrade obligations, but only on their own terms. They will rarely obligate themselves to export development or indirect offsets such as counterpurchases. However, they will use countertrade for sourcing, which is a form of export development. Passive strategy companies regard countertrade primarily as a form of export financing. They will not initiate countertrade or offer it as a sales incentive; rather, they will wait until the buyer country requests

countertrade. Some of these companies have small in-house countertrade units. Most chemical companies and manufacturers of chemical products have passive countertrade strategies. These include DuPont, Dow Chemical, Cyanamid, Smith-Kline, and the chemical divisions of Amaco and the Ethyl Corp. Some of the defense companies with product leverage also have passive strategies, including Lockheed-Georgia, Martin Marietta Aerospace, Texas Instruments, Sperry Corp., and Singer Co. Other companies using passive countertrade strategies are Alcoa, Polaroid, S.C. Johnson & Sons, and Nabisco.
 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. Although they may consider countertrade as a permanent feature of their international operations, they do not see it as a marketing tool for expansion. Reactive companies often have large in-house countertrade units, and use outside trading companies when necessary. They rarely have in-house world trading companies. Most defense companies have reactive strategies. Among these are the defense divisions of Litton, Grumman International,

Garrett, BMY, TRW, Perkin-Elmer, Emerson Electric, General Dynamics, Northrop, Allied Signal, McDonnell, Motorola, ITT, Raytheon, and LTV Aerospace and Defense Co. Non-defence include companies with reactive countertrade Industries, strategies Chrysler, Kodak, Xerox, Dresser

Burroughs, and IBM.

 Proactive: Companies with proactive strategies have made a







aggressively as a marketing tool, and are interested in making trading an active and profitable part of their business. They regard offset and counterpurchase as an opportunity to make money through trading, rather than as an inconvenience. Proactive companies participate in all kinds of countertrade, including global sourcing, releasing of blocked funds, trade development, and trade financing. They often have in-house world trading companies, and will sometimes liquidate countertrade obligations for other companies. Examples of companies with proactive countertrade strategies include Cyrus Eaton, Occidental Petroleum, Continental Grain, Caterpillar, Monsanto, General Foods, Goodyear, Rockwell, General Electric, FMC, Westinghouse, Tenneco, 3M, General Motors, Ford, Coca-Cola, United Technologies, Pepsi-Cola, and the civilian product divisions of McDonnell and Lockheed

Types of counter trade Countertrade is quite simply the exchange of goods for goods, but it is also a barrier to free trade. The simplest form of countertrade - barter - dates from ancient times, but more recently various other forms of countertrade have been used in trade between rich and not so rich countries. Due to shortages of foreign exchange and a lack of markets for their products, many nations have engaged in countertrade. For example, Iraq obtained warships from Italy in exchange for oil; Spain obtained Colombian coffee in exchange for Spanish buses. Countertrade is a barrier to free trade because the sellers are obliged to take goods they would not otherwise buy, and in doing so, they close off a market from free and open competition.
 Barter: Is the direct exchange of goods between two parties.

The One

advantage disadvantage

of is

barter that unless


its are

simplicity. swapped


simultaneously, one party is financing the other until the exchange is complete. A second is that the goods exchanged may not be goods one or both parties really want, or may be ones that are difficult to convert into cash.


Counter purchase: The assumption by an exporter of a transferable obligation through a separate but linked contract to accept as full or partial payment goods and services from the importer or importing country. The contract usually stipulates a period during which the counterpurchase is to be completed, and the goods and services received in return are pre-specified, subject to availability and to changes made by the importing country. In essence, counterpurchase represents an intertemporal exchange of goods and services or the bundling of two transactions, namely current buying and future selling.Is a reciprocal buying agreement (not a direct exchange of goods). The advantage is that both parties get goods they can use or sell. The disadvantage, however, arises when one or both parties have to engage in a further transaction to dispose of the goods to obtain more useful goods.

 Offset trading: Is an obligation imposed on exporters by

governments which requires local industry to be given the role of producing goods to offset the purchase price of expensive products. Offset trading can be done through co-production, sub-contracting, joint ventures, licensing or turnkey arrangements. The offset arrangement is common with expensive items such as military equipment, aircraft and ships. The principal reason for this form of countertrade is to offset the negative effects of such large purchases on the balance of payments of the importing country. Offset trading offers the advantage of offsetting the balance of

payment effects for the country importing large outlay items. The disadvantage is that it requires the exporter to deal with a firm in the importing country, which may not be the exporter's preferred
 Switch trading: It involves at least three parties. A switch

trade is used when the products received are of no use to the exporter or cannot be converted to cash. The original exporter may then barter the goods received for other products which may be sold for cash. This chain of transactions may be repeated a number of times. As a result, this expands the number of goods that may be bought and sold. Switch trading is useful to a country with unique requirements or goods and can open untapped markets. The advantages in switch trading are that it enables the parities to achieve a satisfactory outcome and expands export markets. It is, however, sometimes difficult to arrange and may require the services of specialist brokers course

 Buyback or compensation trading: This is probably the

most common form of countertrade. It usually consists of the export of a technology package, the construction of an entire project or the provision of services by a firm. The buyer in return pays back the supplier by delivering a share of the output of the project in the future. For example, in 1980 the German, French, Italian and British governments subsidized companies to construct a $US 4 billion natural gas pipeline in the former


Soviet Union . The former Soviet Union paid for the project with natural gas. The advantage of buyback trading is that it acts as a substitute for FDI in countries which do not welcome FDI. The disadvantage is that few situations are amenable to this form of countertrade. Reasons why counter trade is used:

Money - some people cannot pay in the currency you want "to enable trade to take place in markets which are unable to pay for imports. This can occur as a result of a non-convertible currency, a lack of commercial credit or a shortage of foreign exchange"

The Political Environment - 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 - 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."


Documentation Never assume that the other party will perform in a certain way when entering a countertrade arrangement. The documentation, typically prepared by the party arranging the transaction, should:
• • • •

connect all parties together; state the purpose of the trade; state the responsibilities of the participants; and summarize how the transaction will run.

The documentation should include:
• • • • • •

the terms of the underlying contract(s); the requirements of each party; any local regulations that affect the trade; timing; any financing requirements; and how the arranger will receive its fee.


Adverse effect and managing risk In Countertrade Transactions One of the unique risks of countertrade transactions is that companies often find themselves handling products with which they are not familiar. This is probably the greatest risk in a countertrade transaction. 1. Liability for the Product on Resale If you acquire title to the product (and even if you do not acquire title under certain circumstances) and the product causes damage to third parties, fails to meet the standards normally expected for the product, or fails to meet the warranties and/or guarantees for the product being sold, you can find yourself liable to third parties...including your customers and independent third parties. As a manufacturer of a mechanical product or a supplier of technology, to find yourself the seller of medical equipment, consumer goods, raw materials, et cetera, for which there is a legal claim can be a very disturbing and expensive learning lesson. Managing risk: The suggestion for managing the risk is do not take title to the product; this should be obvious advice. One suggestion is to use a trader or other intermediary who can be responsible for the potential liability. Either they can ensure that the product does meet the requirements of the market or the contract, or they can better deal with the failure by substituting alternate product, or dealing with the claim or lawsuit.

2. Currency Risks There are really two main currency risks. The first is nonconvertibility, i.e. the currency will not be convertible when received or required. As many countertrade transactions are designed to avoid this problem, this is less of a risk than might be expected. The second risk is that the currency will have fluctuated in value, and that you will receive fewer dollars than you expected. Managing risk: The risk of non-convertibility through government action can probably be covered by political risk insurance. Alternatively, you could get a government guarantee that you will be allowed to convert currency as required. Of course this may not be much of a guarantee if the government changes its mind or a new government is in place, but it also might be insurable. Currency fluctuations are often capable of being protected by currency hedging contracts. These are possible on all hard currencies and on many soft currencies through specialist traders. 3. Non-Performance This is obviously the most common risk in any transaction. This risk may be higher in countertrade transactions, as you are probably dealing with less developed countries and less sophisticated sellers. Non-performance can take many forms, including complete failure to deliver, late delivery, partial delivery, or delivery of damaged, defective, or out-of-specification product.

The effect of non-performance will be different under different contracts, and depends on the nature of the non-performance. It can render the sale of your product impossible, and/or failure could leave your company open to claims or lawsuits from unhappy buyers. Managing risk: 1) Make reasonable contracts. The most effective manner is to ensure that the transaction works. The surest arrangement is to deal with competent and experienced partners. But, as we are all aware, this may be extremely difficult in countertrade transactions, especially in developing countries and in countries which are changing from a centrally planned economy to a free market economy. A good solution is to make contracts which you are comfortable that the other party can meet. There is no point in forcing another party to accept a contract which you are convinced that they cannot fulfill. 2) Use traders. Another solution is to use other parties that are experienced in the country and/or product to handle the import/export of the products. In other words, use an experienced trader. Generally a trader can better assess and manage the risks than an industrial company attempting to sell its product to the third-world country. The use of third party experts will probably assist you to avoid many risks, and will make the transaction more likely to occur.


3) Use insurance. You may be able to insure the risk under certain circumstances. Political risk insurance has far broader coverage application than you might expect. It is available to cover the failure of the seller for almost any reason, not just failure to perform because of government action. The insurance is generally available only for sales by government-owned enterprises, although other similar coverages may be available. 4) Get guarantees. If you cannot ensure that performance will occur, you should protect yourself from the effects of failure, as much as possible. In general, some form of guarantee of performance is usually prudent, these guarantees can include standby letters of credit, performance bonds, bank guarantees, cash deposited in an escrow account, product delivered to a neutral party, or government guarantees, etc. 4. Payment Risks & Creditworthiness Payment risk is not a common risk for the countertrade transaction, as you are purchasing, not selling product. However, if your barter transaction requires that a short-fall be paid in cash, there may be a payment risk. There is a credit worthiness issue if you are required to make a claim against the seller.


A party failing to pay because it is bankrupt or because it doesn't want to pay, for whatever reason, is an extremely difficult problem in an international transaction. Managing the risk: The traditional method is to use a letter of credit (L/C) from a reputable bank. If the (L/C) is not from a reliable bank, it can often be confirmed by a reliable bank. Or the L/C can be insured or discounted. Other methods of handling this risk are to insist on security deposits, or to require guarantees from other parties working with the seller who are easily sued. 5. Timing Risks Timing can be a risk in many ways. If your supplier fails to deliver in time, you may be liable to another party who was expecting to receive the product. Other timing risks impact on currency risks or payment risks. For example, if your L/C expires before delivery, you are not guaranteed payment. Or if your hedging expires before delivery, you may not receive the money you expected. Managing the risk: This risk should be generally managed in the same manner as non-performance. The risk of delay impacting on your hedging contracts or your L/Cs requires careful management of your countertrade contract.


6. Risks Arising From Government Regulations There are several legal risks to international trade transactions, such as anti-dumping, embargoes, quotas, licensing, sovereign immunity and foreign corruption a) Dumping. This occurs when a seller sells a product into another market at prices less than the home market, or at prices less than its cost. Often it is more difficult to obtain the real price for the countertrade product than it is for traditional sales. The penalty for dumping is an "anti-dumping duty" which is chargeable to the importer of the product. Obviously this could have a detrimental effect on pricing and the countertrade transaction. Managing the risk: The safest method of handling dumping problems is to use a trader or to act as a broker and have another party import the product. If you must be involved, you should provide in your contract that any anti-dumping duties are for the account of the seller and should obtain security for this if it is a likely risk. b) Quotas. These are agreed limits on the volume of product that can be imported into a country. For example, there might be an agreement between China and the USA in which only 20 million items of a textile product can be imported into the USA in any one year.


If your countertrade transaction involved the import of the next 2 million items, you would not be allowed to import them. The transaction would therefore fail or be delayed until the quota opened again in the succeeding year. If you have already delivered your product to the Chinese importer, you might have to wait for some time. And this could have a negative impact on your profitability. One of the problems with the quota system is that the Customs Service in the importing country will simply refuse to allow additional product to land. It is difficult to obtain accurate information on what quantity has landed, and the situation can change very quickly if new product lands between your inquiry and your product's landing. Managing the risk. Quotas should also be left to the seller to obtain, as the responsibility for managing quotas rests with the exporting country. Alternatively, you could use a trader to avoid the risk. c) Embargoes. Certain countries, e.g. Iraq, are subject to embargo regulations, and any attempt to deal with products from these countries or to deal with companies/individuals from these countries may be a criminal offense.


Managing the risk. While you may know that you cannot deal with Iraq or other countries subject to embargo, you may not know, say, whether or not the company in Cyprus (which has offered you steel from Romania) is owned by a company in an embargoed country. It is often extremely difficult to ensure that you are not dealing with a restricted company. There is no easy solution to the problem, and checking the regulations to determine whether your partner/seller is subject to embargo is time consuming, and probably not reliable. d) Licensing. Failure to obtain a required license can mean that your product is not exportable from a selling country, or importable in a buying country. And this could obviously have an extremely negative impact on your countertrade transaction. It is standard risk in all international trade transactions, and there has been much litigation resulting from parties failing to obtain licenses and determining who had the obligation to obtain the license. Managing the risk. In order to avoid problems with licenses, the obligation of either of the parties to obtain the necessary licenses must be clearly agreed to in the contract.


e) Sovereign immunity. This is not the result of government regulation, but is a legal doctrine which prevents lawsuits against foreign sovereigns. In other words, you cannot sue foreign governments. Unfortunately many foreign governments operate business or quasi-business operations, and sometimes these organizations are provided with sovereign immunity. If you deal with one of these entities and attempt to sue on a failed transaction, you will be prevented from doing so by most courts. Managing the risk. A simple and expedient solution to the problem is to ensure that the other party waives any defense of sovereign immunity.


Countertrade Examples
1. Pepsi & Vodka

The countertrade arrangement where the rights to sell Russian vodka in the US in exchange for Pepsi (to be sold in Russia) was a huge story years ago John G. Swanhaus, Jr., vice president, Pepsi Cola Company As president of PepsiCo Wines & Spirits International, a major part of his responsibility was PepsiCo's supply to the U.S. market of Stolichnaya Russian Vodka as part of a countertrade agreement to sell Pepsi products in the Soviet Union. Pepsi & Vodka -how did it work, Pepsi-Cola delivers syrup that is paid for with Stolichnaya Vodka. Pepsi has the marketing rights of all Stolichnaya Vodka in the U.S. Recently Pepsi has made another innovative step by taking 17 submarines, a cruiser, a frigate, and a destroyer in payment for Pepsi products. In turn, this rag tag fleet of 20 naval vessels will be sold for scrap steel, thereby paying for Pepsi products being moved to the Soviet Union.


Conclusion Countertrade commitments do not come without risk. Risk, however, can be minimized with proper planning, appropriate products, internal communication and an effective protocol contract. When all aspects of a countertrade agreement are in place, countertrade is a great tool to create and improve international sales Choosing a CT strategy has implications for the modalities selected in particular the key characteristics of temporality, commitment and company advantage. In turn the CT strategy pursued will in part determine the contribution to internationalisation. Such contribution can be measured along the dimensions identified in the internationalisation literature. Empirical evidence is supportive of a two-stage model in which the second stage, the internationalisation process is moderated by the choice of CT strategy. The companies described here show wide diversity in CT used and in their internationalisation processes. It provides a challenge for further conceptual and empirical development to refine the model. This paper gives initial thoughts on the relationship between CT and internationalisation and suggests an approach to gain further understanding.



Introduction What is counter trade? Four countertrade strategies Types of counter trade Reasons why counter trade is used Documentation Adverse effect managing risk in countertrade conclusion

1. 2. 3. 4. 5. 6. 7. 8.

Project on: adverse effect of countertrade ROLL NO: 21 & 26 SUBJECT: international banking finance SUBMITTED TO: kanthi MAM


Four Countertrade Strategies 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." 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." 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." 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."


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