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International Marketing

Unit10: International Pricing & Financing Strategies Structure 10.1 Introduction 10.2 The international financial system 10.2.1 10.2.2 Post war Europe Today's system

10.3 Foreign exchange 10.3.1 Forecasting exchange rates

10.4 Pricing products in International Markets 10.4.1 10.4.2 10.4.3 10.4.4 10.4.5 10.4.6 10.4.7 10.4.8 10.4.9 10.4.10 10.4.11 Skimming Penetration Pricing Market Holding Reference Prices Export pricing Methods Dumping Devaluation and revaluation Inflation Transfer pricing Joint ventures Global pricing

10.5 Selected International Pricing Issues 10.5.1 Alternatives to hard currency deals

10.6 Financing of exports 10.6.1 10.6.2 Internal sources External sources

10.7 Conclusion 10.8 Summary

Learning Objectives: After studying this unit you should be able: To explain the evolution of the international financial system from Post war Europe to today's system To describe the functioning of Foreign exchange & forecasting exchange rates To understand the procedure & policy of pricing products in International Markets by using different strategies like Skimming, Penetration Pricing, Market Holding, Reference Prices, Export pricing Methods, Dumping, Devaluation and revaluation, Inflation, Transfer pricing, Joint ventures & Global pricing To explain some International Pricing Issues like alternatives to hard currency deals To understand the intricacies of financing of exports from Internal sources as well as External sources

10.1 Introduction: Pricing products or services in international marketing is not an easy decision. Price is, in part, a function of cost, and the foreign exchange rate is an important determinant of a company's cost of production. When borrowing capital to do business, the cost of that capital can be very influential in the price decision. 10.2 The international financial system: When conducting business across international boundaries, and dealing with foreign exchange, the risks raise enormously, especially the impact on financial resources and decisions, and particularly on pricing strategy. Foreign exchange is the way business can be conducted across national boundaries. Customers buy value, reflected in the price and intangible attributes of the product. Price is a function of cost in part, and foreign exchange affects the cost position. Foreign exchange rates, therefore, directly impact on the production quality and effectiveness of a company's marketing effort. 10.2.1 Post war Europe:

In 1944, the Allies met at Bretton Woods to create an international monetary framework that would support post war construction and economic growth. Subsequently two organisations developed, the International Bank for Reconstruction and Development (IBRD or World Bank) which was chartered to help war-torn countries' economic reconstruction and the International Monetary Fund (IMF) which was chartered to oversee the management of the international financial system. The main elements were fiscal exchange rates for all currencies, tight bands of fluctuation around the pegged rates, a dollar defined in gold equivalent and controlled adjustment in fixed exchange values. In 1971 the gold system collapsed because of the US balance of payments deficit. Particularly, the Third World was accumulating dollars and they far exceeded the US supply of gold. 10.2.2 Today's system:

What emerged from the collapse was a managed dirty float (due to supply and demand) with special drawing rights (SDR). "Dirty" refers to actions by governments participating in exchange rates to influence rates, "managed" refers to the effort by governments to influence exchange rates with fiscal or monetary policy instruments. SDRs were created by the IMF to supplement the dollar and gold reserves. Its allocation is based on a formula which takes into account factors such as share of world trade and can be used to help balance of payments situations or settle financial obligations like swaps, donations and security for financial obligations. Most countries of the world are members of the IMF which, amongst its many functions, exercises surveillance over exchange rate policies of members, manages the SDR, provides temporary balance of payment assistance and technical assistance. 10.3 Foreign exchange: Foreign exchange is currency bought or sold in the foreign exchange market. The "market" is the total of persons who buy and sell and involves various financial and other institutions. The "spot" market is for the immediate delivery, or in the interbank market within two business days, of foreign exchange. The forward market is for future delivery. The principal players are the banks (interbank market) and others including the London International Futures Exchange (LIFE). London, New York and Tokyo are the major markets with a turnover worldwide in excess of US$ 200 billion per day. The foreign exchange market is very dynamic. The price of one currency in any other currency is the result of forces of supply and demand in the foreign exchange market. The demand for one currency may be due to consumers wishing to buy from overseas or a belief that one country's currency is stronger than another's. In Africa, where exchange controls occur in some countries, this can lead to an official or unofficial black market. Also currency

allocation is a feature which tends to slow down business or hinder its development. If a country sells more than it buys, its currency value will rise and vice versa. If foreign exchange rates were set simply by money exchanged for goods and services then forecasting exchange rates would be easy. However, short and long term capital flows, speculative purchases and sales distort the picture. Governments intervene to dampen fluctuation in exchange rates. Often they get involved in extensive trading to stem the rise in currency value so exports are not harmed. 10.3.1 Forecasting exchange rates:

Exchange rates are very difficult to forecast due to a multitude of factors. Forecasts are, therefore, a continuation of economic analysis and judgment. In forecasting foreign exchange rates it is important to take account of purchasing power parity (PPP), that is, one unit of currency should buy the same amount of goods and services as it bought in an equilibrium period, despite differential rates of inflation. The lower the level of inflation, the greater will be the PPP effect. If prices in local currency rise faster or more slowly than prices in the rest of the world, an equal adjustment of the exchange value of the currency in the opposite direction will restore equilibrium to relative price levels. Unfortunately as levels of inflation are difficult to predict and foreign exchange transactions are other than solely for purchasing goods and services, the PPP is not a very reliable forecasting technique. Other factors affect the foreign rate of exchange other than just PPP. These are: Economic factors - balance of payments, monetary and fiscal policy, inflation, real and nominal interest rates, government controls and incentives, etc. Political factors - philosophy of leaders, elections Psychological factors - expectations, forward market prices, traders' attitudes.

One of the issues in analysing a country's competitive position is the critical adjustment of the exchange value of a country's currency. The index is a trade weighted index (based on world trade share). Indices are issued by various bodies like the IMF. 10.4 Pricing products in International Markets:

Three basic factors determine the boundaries of the pricing decision - the price floor, or minimum price, bounded by product cost, the price ceiling or maximum price, bounded by competition and the market and the optimum price, a function of demand and the cost of supplying the product. In addition, in price setting cognisance must be, taken of government tax policies, resale prices, dumping problems, transportation costs, middlemen and so on. In setting prices, it must be made clear what the objectives and policy are. Few organisations can now be pure profit maximisers - there is hardly a sector of industry where competition, or potential competition is not prevalent. Three frequently encountered price polices are as follows: 10.4.1 Skimming:

The market skimming pricing strategy is a deliberate attempt to reach a market segment that is willing to pay a premium price for a product. In such instances, the product must create high value for buyers. This pricing strategy is often used in the introductory phase of the product life cycle, when both production capacity and competition are limited. By setting a deliberately high price, demand is limited to early adopters who are willing and able to pay the price. One goal of this pricing strategy is to maximize revenue on limited volume and to match demand to available supply. Another goal of market skimming pricing is to reinforce customers' perceptions of high product value. When this is done, the price is part of the total product positioning strategy. When Sony first began selling Betamax videocassette recorders (VCRs) in the United States, it used a skimming strategy. Harvey Schein, who was president of Sony of America at the time, recalled the response to the $1,295 price tag. It was a great success. When you have a new product that is as jazzy as a videotape recorder, you really skim off the cream of the consuming public. The Betamax was selling for over a thousand dollars. . . . But there were so many wealthy people who wanted to be the first in the neighborhood that it flew off the shelf. The initial success of the Betamax proved that consumers were willing to pay a high price for a piece of consumer electronics equipment that would allow them to watch their favorite television shows at any time of the day or night. 10.4.2 Penetration Pricing:

Penetration pricing uses price as a competitive weapon to gain market position. The majority of companies using this type of pricing in international

marketing are located in the Pacific Rim. Scale-efficient plants and low-cost labor allow these companies to blitz the market. It should be noted that a first-time exporter is unlikely to use penetration pricing. The reason is simple: Penetration pricing often means that the product may be sold at a loss for a certain length of time. Companies that are new to exporting cannot absorb such losses. They are not likely to have the marketing system in place (including transportation, distribution, and sales organizations) that allows global companies such as Sony to make effective use of a penetration strategy. However, a company whose product is not penetrable may wish to use penetration pricing to achieve market saturation before the product is copied by competitors. When Sony developed the portable compact disc player, the cost per unit at initial sales volumes was estimated to exceed $600. Since this was a "no-go" price in the United States and other target markets, Akio Morita instructed management to price the unit in the $300 range to achieve penetration. Because Sony was a global marketer, the sales volume it expected to achieve in these markets led to scale economies and lower costs. The Sony example illustrates the penetration approach to pricing as it is practiced by Japanese firms. The Japanese begin with market research and product characteristics. Up to this point, the processes are parallel in the United States and Japan. At the next step, the processes diverge. In Japan, the planned selling price minus the desired profit is calculated, resulting in a target cost figure. It is only at this point that design, engineering, and supplier pricing issues are dealt with; extensive consultation among all valuechain members is used to meet the target. Once the-necessary negotiations and trade-offs have been settled, manufacturing begins, followed by continuous cost reduction. In the U.S. process, cost is typically determined after design, engineering, and marketing decisions have been made in sequential fashion; if the cost is too high, the process cycles back to square one-the design stage. 10.4.3 Market Holding:

The market holding strategy is frequently adopted by companies that want to maintain their share of the market. In single-country marketing, this strategy often involves reacting to price adjustments by competitors. For example, when one airline announces special bargain fares, most competing carriers must match the offer or risk losing passengers. In global marketing, currency fluctuations often trigger price adjustments. Market holding strategies dictate that source country currency appreciation will not be automatically passed on in the form of higher prices. If the competitive situation in market countries is price sensitive, manufacturers must absorb the cost of currency appreciation by accepting lower margins in order to maintain competitive prices in country markets.

A strong home currency and rising costs in the home country may also force a company to shift its sourcing to in-country or third-country manufacturing or licensing agreements, rather than exporting from the home country, to maintain market share. IKEA, the Swedish home furnishing company, sourced 50 percent of its products in the United States in 1992, compared with only 10 percent in 1989. Chrysler-Daimler and BMW built manufacturing and assembly plants in the United States to produce Mercedes and BMW sport-utility and two-seater sport car vehicles for the United States and the world market. This was a decision to invest in new locations for capacity expansion. Market holding means that a company must carefully examine all its costs to ensure that it will be able to remain competitive in target markets. In the case of the German automobile manufacturers, the expansion of production outside Germany meant that the companies were no longer tied exclusively to German costs in their manufacturing. When the currency of a country weakens, it becomes more difficult-to compete on price with imported product. However, a weak-currency country can be a windfall for, a global company with production operations in a weakcurrency country. When the Indonesian rupee fell from 2,400 to 18,000 and then recovered to below 8,000 to the U.S. dollar during the Asian Flu of the late 1990s, global companies with production operations in Indonesia made windfall profits. Their costs in rupiah increased 100 percent but the value of their production in dollars or any "hard" currency increased by 300 to 700 percent. Thus, while the country was in a crisis, many of the global companies in Indonesia were having their best years ever. 10.4.4 Reference Prices:

Consumers often develop internal reference prices, or expectations about what something should cost, based mostly on their experience. Most drivers with long commutes develop a good feeling of what gasoline should cost, and can tell a bargain or a rip-off. Reference prices are more likely to be more precise for frequently purchased and highly visible products. Therefore, retailers very often promote soft drinks, since consumers tend to have a good idea of prices and these products are quite visible. The trick, then, is to be more expensive on products where price expectations are muddier. Marketers often try to influence people's price perceptions through the use of external reference pricesindicators given to the consumer as to how much something should cost. Examples include: Manufacturer's Suggested Retail Price (MSRP):

This is often pure fiction. The suggested retail prices in certain categories are deliberately set so high that even full service retailers can sell at a "discount." Thus, although the consumer may contrast the offering price against the MSRP, this latter figure is quite misleading. Special Sale Price:

For this strategy to be used legally in most countries, the claim must be true (consistency of enforcement in some countries is, of course, another matter). However, certain products are put on sale so frequently that the "regular" price is meaningless. Reference prices have significant international implications. While marketers may choose to introduce a product at a low price in order to induce trial, which is useful in a new market where the penetration of a product is low, this may have serious repercussions as consumers may develop a low reference price and may thus resist paying higher prices in the future. 10.4.5 Export pricing Methods:

Actual pricing methods are usually cost, market, or competition oriented. However, in the international arena, other factors come into play. 10.4.5.1 Cost plus pricing: Companies new to exporting frequently use a strategy known as cost -plus pricing to gain a toehold in the global marketplace. There are two cost-plus pricing methods: The historical accounting cost method: The older is the historical accounting cost method, which defines cost as the sum of all direct and indirect manufacturing and overhead costs. The estimated future cost method: An approach used in recent years is known as the estimated future cost method.

Cost-plus pricing requires adding up all the costs required to get the product to where it must go, plus shipping and ancillary charges, and a profit percentage. The obvious advantage of using this method is its low threshold: It is relatively easy to arrive at a selling price, assuming that accounting costs are readily available. The disadvantage of using historical accounting costs to arrive at a price is that this approach completely ignores demand and competitive conditions in target markets. Therefore, historical accounting cost-plus prices will frequently be either too high or too low in the light of market and competitive conditions. If historical accounting cost-plus prices are right, it is only by chance.

However, novice exporters do not care-they are reactively responding to global market opportunities, not proactively seeking them. Experienced global marketers realize that nothing in the historical accounting cost-plus formula directly addresses the competitive and customer-value issues that must be considered in a rational pricing strategy. Price escalation is the increase in a product's price as transportation, duty, and distributor margins are added to the factory price. 10.4.5.2 Competitive pricing: While costs are important they should be looked at alongside the prices of competitive products in the target markets. Once these price levels have been established the base price, or price that the buyer will pay for the product, can be determined. This involves four steps: i) Estimation of demand schedules ii) Estimation of incremental and full manufacturing and marketing costs to achieve projected sales volumes iii) Selection of price which offers the highest contribution iv) Inclusion of other elements of the marketing mix: These steps are by no means easy. Costs are difficult to assess properly as are demand conditions. In products of a raw commodity nature or those traded on the international market subject to world prices, often the producer has no alternative but to take the going price - a price governed by competition, especially on the supply side. 10.4.5.3 Market pricing: In certain products one can charge "what the market can bear". If the supplier is one of a few, despite all the problems associated with price fixing, the market may be able to bear a high price. In other cases the product may be so unique that the company should capitalise on its rarity by charging a high price. The problem is, encouraged by the profit margins, more entrants are drawn into the market. 10.4.5.4 Price escalation: One major feature of international pricing is the increase on the price due to the application of duties and so on.

10.4.6

Dumping:

In the context of international trade law, dumping is defined as the act of a manufacturer in one country exporting a product to another country at a price which is either below the price it charges in its home market or is below its costs of production. The term has a negative connotation, but advocates of free markets see "dumping" as beneficial for consumers and believe that protectionism to prevent it would have net negative consequences. Advocates for workers and laborers however, believe that safeguarding businesses against predatory practices, such as dumping, help alleviate some of the harsher consequences of free trade between economies at different stages of development (see protectionism). A standard technical definition of dumping is the act of charging a lower price for a good in a foreign market than one charges for the same good in a domestic market. This is often referred to as selling at less than "fair value." Under the WTO Agreement, dumping is condemned (but is not prohibited) if it causes or threatens to cause material injury to a domestic industry in the importing country. 10.4.7 Devaluation and revaluation

Devaluation is the reduction and revaluation an increase in the value of one currency vis-a-vis other currencies. Under the floating exchange rate system devaluation and revaluation occur when currency values adjust in the exchange rate system in response to supply and demand. The idea behind devaluation is to make the domestic price more competitive and so more of the product can be bought for the same foreign currency. However, it can be negated by the higher price and costs induced by inboard goods and services which make up the export product. If the product is inelastic in demand, prices can be maintained if the competitive position is strong. In revaluation, the revaluing country's prices are more expensive. These price increases may be passed on to the customers, absorbed or the domestic price may be reduced. 10.4.8 Inflation:

Inflation is a world wide phenomenon, and requires periodic price adjustments. Inflation accounting methods attempt to deal with the phenomenon. It is essential to retain gross and operating profit margins. Actions to maintain margins are subject to government controls, competitive behaviour and the market itself. Price adjustments may affect the demand for products, and this is the ultimate arbiter of price alterations. 10.4.9 Transfer pricing:

Transfer pricing is more appropriate to those organisations with decentralised profit centres. Transfer pricing is used to motivate profit centre managers, provide divisional flexibility and also further corporate profit goals. Across national boundaries the system gets complicated by taxes, joint ventures, attitudes of governments and so on. There are four basic approaches to transfer pricing. Transfer at cost: few practice this, which recognises foreign affiliates contribute to profitability by operating domestic scale economies. Prices may be unrealistic so this method is seldom used. Transfer at direct cost plus overheads and margin. This is similar to that in transfer at cost. Transfer at a price derived from end market prices: very useful strategy in which market based transfer prices and foreign sourcing are used as devices to enter markets too small for supporting local manufacturers. This gives a valuable foothold. Transfer at an "arm's length": this is the price that would have been reached by unrelated parties in a similar transaction. The problem is identifying a point "arm's length" price for all products other than commodities. Pricing at "arm's length" for differentiated products, results not in a specific price, but prices which fall in a predeterminable range. Many governments see transfer pricing as a tax evasion policy and have, in recent years, looked more closely at company returns. Rates of duty encourage the size of the transfer price: the higher the duty rate the more desirable a lower transfer price. A low income tax creates a pressure to raise the transfer price to locate income in the low tax setting. Harmonisation of tax rates worldwide may make the intricacies of transfer pricing obsolete. Government controls, like cash deposits on importers, give an incentive to minimise the price of the imported item. Profit transfer rules may apply which restrict the amount of profit transferred out of the country. 10.4.10 Joint ventures: These present an incentive to transfer price goods at a higher rate than one that would have been used in transfer pricing goods to their own wholly owned affiliates because the company's share of the joint venture earnings is less than 100 percent. It is important, therefore, to work out an agreement in advance. The tax authorities' criteria of arms length prices are probably the most appropriate for joint ventures. 10.4.11 Global pricing:

There are three possible global pricing policies - extension (ethnocentric), adaptation (polycentric) and invention (geocentric). a) Extension: Fix the same global price. A very simple method but does not respond to market sensitivity. b) Adaptation: Different prices in different markets. The only control is setting transfer prices within the corporate system. It prevents problems of arbitrage when the disparities in local market prices exceed the transportation and duty costs separating markets. c) Innovation: This is a mix of a) and b). This takes cognisance of any unique market factors like costs, competition, income levels and local marketing strategy. In addition it recognises the fact that headquarters price coordination is necessary in dealing with international accounts and arbitrage and it systematically seeks to embrace national experience.

10.5 Selected International Pricing Issues In some cultures, particularly where retail stores are smaller and the buyer has the opportunity to interact with the owner, bargaining may be more common, and it may thus be more difficult for the manufacturer to influence retail level pricing. Transfer pricing involves what one subsidiary will charge another for products or components supplied for use in another country. Firms will often try to charge high prices to subsidiaries in countries with high taxes so that the income earned there will be minimized. Antitrust laws are relevant in pricing decisions, and anti-dumping regulations are especially noteworthy. In general, it is illegal to sell a product below your cost of production, which may make a penetration pricing entry strategy infeasible. Japan has actively lobbied the World Trade Organization (WTO) to relax its regulations, which generally require firms to price no lower than their average fully absorbed cost (which incorporates both variable and fixed costs). 10.5.1 Alternatives to hard currency deals:

Buyers in some countries do not have ready access to convertible currency, and governments will often try limiting firms ability to spend money abroad. Thus, some firms have been forced into non-cash deals. In barter, the seller takes payment in some product produced in the buying countrye.g., Lockheed (back when it was an independent firm) took Spanish wine in return for aircraft, and sellers to Eastern Europe have taken their payment in ham. An offset contract is somewhat more flexible in that the buyer can get paid but instead has to buy, or cause others to buy, products for a certain value within a specified period of time. 10.6 Financing of exports: Financing exports is a major decision area and one of some considerable complexity. Sources of funds can be both internal and external to the organisation. Internal sources include subsidiaries and transfer within groups. External sources include the international money markets, factoring, leasing, hire purchase export credit guarantee schemes etc. A discussion on sources of funds is appropriate in a chapter on pricing as it is a "cost" which affects the end price and must be accounted for in selling prices. 10.6.1 Internal sources:

The subsidiary:

Self-funding obviates the need for currency transfers and avoids exchange rate fluctuations. It also lessens the burden on the parent company. The major problem may be the lack of sufficient funding which requires parent contribution. Transfers within group:

This may take the form of loans, investment capital, material and/or licenses. Remittances back in interest, dividends, etc. will depend on tax liability operating in the host country (see previous sections). While transfers are a greater risk than internal subsidiary funding they are more flexible in dates of payment, direction (one subsidiary to another) and type and scale. 10.6.2 External sources:

Host country borrowing:

This offers two advantages. Firstly it reduces the loss if expropriation occurs and secondly, interest payments raised locally can be paid out of revenues, leaving only excesses for exposure to transfer risk. Export credit schemes and pre and post-shipment support facility:

Export credit guarantee facility: The export credit guarantee (ECG) facility contributes to the growth and diversification of an export base by providing collateral support through guarantees to the banks extending pre- or post-shipment financing to enterprises for nontraditional export production and sales. The facility will help such exporters to secure financing and the facility will increase confidence among foreign buyers that exporters can fulfill their contractual commitments as reliable suppliers. The facility is expected to be financially self-supporting in the long run, which means that the guarantee fee income will have to cover administration costs and claim payments. In order to fulfill its export development function, however, certain risks and guarantee losses will be inevitable and will have to be accepted.

Pre- and Post-Shipment Support Facility: a) Pre-shipment credit scheme The objective of this facility is to support, through provision of finance: Exporters who import certain inputs in order to complete manufacture of their exports Exporters who require working capital in order not to disrupt the production process while awaiting export proceeds that are due on credit terms. Because of the export nature of this finance it must be provided on terms more favourable than borrowings that are purely for domestic consumption. Therefore, all traders and exporters engaged in export business of any form should be eligible for assistance, particularly the non-traditional exporters. b) Post-shipment credit The objective of this scheme is to support, through provision of finance, the needs of the exporter during the period between shipment of goods and receipt of payment from abroad. The need for post-shipment credit will vary according to the method of payment and nature of goods.

c) Eligibility Exporters/traders may be eligible for assistance in respect of the following: all types of advances packing credits pre-shipment loans post-shipment loans through discounting bills or letters of credit, for the purpose of purchasing raw materials, manufacture, processing, packaging etc. of firm export orders. Donor agencies and foreign investors: Financial institutions like the World Bank, bilateral and multilateral aid and direct foreign investment can all be useful sources of funds. Projects executed by the Food and Agriculture Organization (FAO) and other donor agencies can provide "seed" capital or complete capital for agricultural projects which may yield goods and services for international marketing. Whilst "capital" in this situation primarily refers to monetary elements, technology, training and management skills are also important forms of "capital". Credit from foreign distributors or direct foreign investment, or contributions from donor agencies in production and/or marketing facilities can all play a role in the "initial" take off of agricultural commodities. Banks: Banks provide a number of facilities for potential separators and current exporters. i) Overdrafts and loans The security for these is the documents of title to the goods, and evidence that goods have been consigned to, or to the order of, a bank overseas. Until confidence is established, in the event of a default by an importer, banks will look at the exporter. ii) Negotiations of outward collections Financing by a bank of export documents is normally on the understanding that the transaction is with recourse to the exporter, in the event of a default. Banks tend to ask for irrevocable authorisation enabling them to dispose of the goods and retain the sale proceeds.

Documentary bills for negotiation by banks which have a subsidiary or branch in the drawer's country may be claimed "exchange as per endorsement". The negotiating bank pays the face amount of the bill to the drawer, calculates the equivalent foreign currency amount due on maturity from the drawee, and endorses these details on, say, the Bank of England. So the drawee receives and the drawee pays in their respective currencies. iii) Documentary letters of credit In some cases there may be provision for pre-shipment finance. By having a "red clause" inserted in a credit a beneficiary is able to receive advance payments. When issuance drafts are called for, the normal practice is for the credit to contain terms to the effect that the drafts are to be negotiated to obtain payment as if the issuance drafts were at sight. Acceptance and discount facilities are also available. Government: As well as credit issuance schemes, government may also operate an export reimbursing fund or retention scheme. For example, if an industry earns foreign currency through exports, a proportion of the earnings may be available for importation of goods and services. Factoring: Factoring is a word often misused synonymously with accounts receivable financing. Factoring is a financial transaction whereby a business sells its accounts receivable (i.e., invoices) at a discount. Factoring differs from a bank loan in three main ways. First, the emphasis is on the value of the receivables, not the firms credit worthiness. Secondly, factoring is not a loan it is the purchase of an asset (the receivable). Finally, a bank loan involves two parties whereas factoring involves three. The three parties directly involved are: the seller, debtor, and the factor. The seller is owed money (usually for work performed or goods sold) by the second party, the debtor. The seller then sells one or more of its invoices at a discount to the third party, the specialized financial organization (aka the factor) to obtain cash. The debtor then directly pays the factor the full value of the invoice. Forfaiting: Forfaiting, or Medium-Term Capital Goods Financing, means selling a bill of exchange, at a discount, to a third party, the forfaiter, who

collects the payment from an, essentially, overseas customer, through a collateral bank(s), and, thus, assuming the underlying responsibility of exporters and simultaneously providing trade finance for importers by converting a short-term loan to a medium term one. Forfaiting as an export financing option has been approved by the Reserve Bank of India vide its circular A.D (G.P Series) No. 3 dated February 13, 1992. Apart from Exim Bank, all Authorised Dealers have also been permitted vide RBI's circular No. 42 A.D.( MA) Series dated 27th October 1997, to act as intermediaries between the Indian exporter and the overseas forfaiting agency, and provide necessary certification for GR Forms. Forfaiting is the discounting of international trade receivables on a without recourse basis. Confirming houses (and export houses): Confirm to the exporter that payment will be made, and to the importer that delivery will be effected in accordance with the underlying contract. Therefore, they eliminate much of the risk element inherent in open account trading. Leasing and hire purchase: Leasing or purchasing on hire often releases the burden of full payment in advance. It also gives the option or facility to buy later and/or to make sure the item is maintained at no cost. This could be important where spare parts may be of concern. International financial markets: Borrowing money outside national boundaries offers a number of advantages: Interest rates in a specific currency may be lower in some financial markets than in others In country rates are too high or sums insufficiently large enough Exchange control barriers may exist in country. Sources of international money (excluding donor funding): o Foreign currency finance: Professional exporters understand how to use foreign currencies in their costing and negotiations. Foreign currency may be borrowed or insurance taken out by covering forward. Exporters are not in the business of currency speculation per se.

Eurocurrency finance: Eurocurrencies are funds of major world currencies owned outside the relevant national boundaries. They can be borrowed in sizable amounts. Interest rates are often lower than the borrowing rate for the same domestic currency. Currency swaps: Negotiations of outward collections and documentary letters of credit may be open to some but not all firms as they may not have an international credit rating. Currency swaps are a way to gain access to foreign capital at favourable rates. Swaps involve the exchange of debt from one currency to another. The problem is that, although the swap is covered by contract, each party remains responsible for the original loan (principle) it has incurred in its own currency. It is better, therefore, to get an idea what the balance on exchange might be at the outset and certainly to understand the counterpart.

Currency transactions: In every currency transaction there are risks which are the effects of currency exchange rate fluctuations on the realised value of such transfers. Shifts of rates up or down could lead to a bonus or a loss between sellers and buyers. The purpose of this section is to explore how the exposure to transaction risks affects prices and can be accounted for. Risks can be tackled at two levels - policy and individual level. o Policy level:

Risks can be reduced by raising in-country finance, by use of internal sources and by anticipating currency moves, hence allowing the organisation to devise a pricing policy which will balance out wins and losses. By holding price for a longer period and by balancing out the value of products marketed in foreign countries with imports or other cash obligations, net exposure is reduced. However, it is difficult to achieve in practice. o Individual transaction level:

In currency movements there are risks to buyer and seller. As a supplier there are advantages in operating in your own currency, because the customer bears the risk. As a buyer, purchasing in exporter's currency you can accept the transaction risk by waiting to buy the necessary foreign currency at the time of settlement or alternatively you can try to reduce the risk by entering a forward

exchange deal (known as "money market" cover). These are explained further below. Pricing and the use of foreign currencies:

An organisation which is prepared to quote prices and invoice in the buyer's currency can obtain many advantages. In the first place it has a marketing attraction because it simplifies the whole transaction for the buyer, telling him immediately what the cost is to him, and it demonstrates the exporter's efficiency. Secondly, because most sales are made on credit terms, there is a possible extra profit available by selling the expected currency receipts on the forward exchange market. No operation in foreign currency need present any problems as the banks are fully equipped to provide all the information and facilities required. The London foreign exchange market is the most efficient and comprehensive in the world. Any foreign currency received in payment of exports can be readily sold through the exporter's bank. Forward market:

Where credit terms have been given and goods have been sold at a price expressed in foreign currency, the risk of changes in the exchange rate can be covered by selling the expected currency forward. All that is necessary is for the exporter to inform his bank that he expects to receive a certain sum in a foreign currency on such a date and establish with the bank a "forward" contract. The bank will quote NOW a rate at which it will buy the currency on that date. The exporter thus knows exactly how much of his own currency he will receive when the payment is made. The forward rates are quoted in the press daily for the principal currencies, usually for one, two, three and six months. For some of the major currencies it is possible to get quotations for up to two or three years and in the case of the US dollar a period of up to eight years has been arranged. The quotations are shown at a premium or discount to the spot rate. Where the exporter cannot be certain as to the exact date when he will receive payment an "option forward" contract can be arranged. The "option" is not whether to proceed or not but merely as to the date of delivery of the currency. Say, for example, an exporter has sold on 90 day terms but expects a little slippage, he can sell the currency forward for three months fixed option one further month. He may then deliver the currency any time from the end of three months up to the end of the fourth month. Exchange risk:

London is by far the biggest money market in the world (480 authorised banks compared with 200 in the US and 100 in Frankfurt/Zurich). An exporter may see that a profitable deal at today's exchange rates would become unprofitable if there were a serious shift in the exchange rate before payment was received. Exporters are not in the business of exchange gambling, they have enough work making profits on exports anyway without running any additional risk by speculating in exchange. So how can the exporter eliminate the exchange risk? i) Invoice in domestic currency. This is the easy way out. Unfortunately all the exporter is doing is to transfer the exchange problem onto his customer. There may be occasions when it is better to invoice in sterling, however, and we need to be professional enough to identify these occasions. ii) Invoice in foreign currency having fixed the rate in advance with the bank. There is a free market in forward currency contracts. The exporter's bank will quote a price for the date when the export receipts are expected, and if the deal is worth 20,000 or more, the cost to the exporter for the quote is likely to be nothing. The bank makes its profit on the differential between its buying and selling prices. If a foreign currency is at a premium on the forward market, the forward contract with the bank will guarantee the exporter more sterling than at today's exchange rate. So if the exporter gets a quote from the bank, he knows how much extra sterling he is due to get when the foreign currency arrives and he can use this information to his advantage during the negotiation. So professional exporters are advised to keep their eyes on the forward market. iii) Invoice in foreign currency, fixing exchange rate on the invoice. Here, obviously the exporter has to take a view on what will happen to the exchange rate. At least if he uses the forward rate being quoted by the bank he may be no worse off than if he had contracted forward with the bank. However the customer may well not like this method. iv) Borrow foreign currency from a bank, sell in dollars, and repay the loan with the proceeds of the sale. The cost of this may be less than it would cost the exporter to sell forward a currency which is going to a discount. v) Offset imports in one currency with exports in the same currency so avoiding the need to change currencies and risk exchange loss. Currency baskets:

Organisations which have to trade in several currencies may seek to reduce transaction risk by adopting a portfolio or currency basket approach. There are two ways a) holding a basket of currencies or b) using a currency basket. For example, the UAPTA and the European ECU is a weighted average of member currencies and so fluctuates less than, say, between two currencies. Basket currencies sometimes reduce the accounting complexities faced when doing business in different currencies. Options, hedging and futures market:

The options and futures market is extremely complicated. The option writer is the one who bears the main risk in the event of negative exchange. The client is taking out a form of insurance and the commission charged by the option writer (which can be subtracted) is the premium to cover this. Spot marketing trading

Many market exchanges are done "on the spot". In such transactions, goods, services or money are transferred simultaneously between buyer and seller. Trade takes place on goods which have already been produced and the going price acts as the source of contracts, incentives and other relevant information. Spot market transactions can occur across several types of markets, including auctions, private treaty, etc. Auctions act is a "price discovery" mechanism. Auctions also have very low transaction costs. Spot market trading has many advantages: i) It puts constraints on the individual - budgetary and purchasing. ii) Prices can be adjusted to market conditions almost on the spot, thus giving great flexibility. iii) The market price system gives incentives - the price automatically adjusts to productive effort or non-production. If the spot price is high and attractive, new producers may enter the market and be rewarded. If there are supply differences then the price adjusts upwards also. Of course, the converse happens with gluts. iv) It gives information to economies with market prices "summarising" all, or most, of the information on transactions required to conduct trade. 10.7 Conclusion: Pricing in international marketing is an extremely complex affair due to the political and economic risks involved. Yet astute handling of the elements of price can give the organisation an advantage in terms of currency gains, but

this should not be the reason why organisations should get into foreign transactions. When the value added process begins to gain momentum, then all the elements of international pricing need to be considered. In all cases it is often good policy to get help from international bodies like banks and finance houses. The price of a good or service is the value society places on it to obtain it. Pricing decisions on the marketing mix are compounded when marketing across international boundaries. Prices are fixed, usually on the basis of cost, competitive or market considerations and may be pitched high or low, depending on supply/demand and intangible (image) factors. The process of price fixing is compounded by exchange rate considerations, currency fluctuations, inflation, devaluation or revaluation, transfer and price escalation considerations. Pre-financing in export is often essential as sellers have often to bear the costs involved before obtaining the revenue from the sale. Sources vary, including internal and external sources. In order to make sure that the export system is supported and encouraged, many countries have an export credit guarantee system which helps reduce the financial risks involved. Other methods of obtaining revenue in a risk situation are by operating in the futures and options market. However, these are not as prevalent in less developed countries as in more developed ones. 10.8 Summary In this unit we studied International Pricing & Financing Strategies including the international financial system from post war Europe days to today's system. We also learnt the meaning of Foreign exchange & the procedure for forecasting exchange rates. We then understood the various strategies of pricing products in International Markets like Skimming, Penetration Pricing, Market Holding, Reference Prices, Export pricing Methods, Dumping, Devaluation and revaluation, Inflation, Transfer pricing, Joint ventures & Global pricing. We also studied some of the selected International Pricing Issues & the methods of financing of exports through internal sources as well as external sources.