Considering all the costs of international trade

30/08/2013

Two business people

Two business peopleThe biggest mistake you can make in international trade is jumping in head first without having done your homework. And while engaging in global business can be rewarding and lucrative, having a lack of understanding of all the factors and costs involved can lead to problems that are both stressful and expensive.

Although we all know the value of research, there are a number of factors that can go unconsidered. Being aware of these factors and the resulting options they entail enables you to choose the best possible markets for your product in terms of cost and level of competition.

Packaging and labelling
When researching potential new markets for your product, you need to consider whether or not your product will require specific permits, packaging alterations or specialized tailoring to meet the regulatory standards of the countries with which you wish to trade. You also need to ensure your product meets the specific needs of the customers within these countries, which could be different from the needs of the customers in your current market. In fact, you may even discover that your product isn’t allowed in certain countries. All of these situations come with either a price tag that must be factored in to the total landed cost of your product into foreign markets, or they help to determine whether a market is viable at all.

Once you have a good idea which countries you are interested in trading with, and you are certain your product is or can be made market-ready cost-effectively, you need to start thinking about the costs involved in getting your product from you to your buyer.

Incoterms and freight forwarding
Perhaps the number one thing you need to think about when you’re drafting a foreign trade cost-analysis is the International Commercial Term (Incoterm) you plan to use.

Incoterms are internationally recognized trade terms. They are routinely referenced in contracting and trade finance, and they are critical for resolving contractual disputes. By formally incorporating Incoterms into a contract, the exporter has a basis for referring any subsequent contractual dispute to an independent arbitrator. Furthermore, Incoterms can help you avoid litigation because their clear definitions prevent the misunderstandings that can arise from a poorly drafted contract. In the event of a legal dispute, the courts will assume that parties who’ve used Incoterms have accepted the definitions and responsibilities described in Incoterms 2010, the most recent edition. (FITTskills, International Trade Finance: Sixth Edition, 2013.)

Incoterms are as important to me being a freight forwarder as is the agreed cost of the goods because Incoterms change so much in terms of who’s taking on the risk. Your Incoterms will take care of so many questions. – Suzanne Cascanette, CITP and Corporate Logistics Manager for the Royal Canadian Mint.

The Incoterm you choose also determines which parties in the transaction are taking control of the many different costs, including freight, insurance and tariffs, as well as the task of clearing customs.

When choosing an Incoterm, you must consider the mode(s) of transportation you plan to use during your freight forwarding. For example, a lot of companies make the mistake of using the FOB (Free On Board) Incoterm when they are shipping by land or air, even though this Incoterm is only legally supposed to be used for ocean transport, says Cascanette.

“They say FOB their dock, when what they really mean is a Free Carrier (FCA) or Ex Works (EXW).”

This isn’t to say that the simplest mode of transportation is always the best, as using multi-modal forms of transportation can save you money.

“You can be really creative with your freight forwarding if you understand your lead times and your deadlines,” says Cascanette. “For example, you could ship something to Europe by boat, and then use a plane the rest of the way, rather than going air-freight all of the way.”

Freight forwarding is a very competitive market right now, and providing your buyer with the best options is a definite service, she says.

In the end, the price your buyer pays for your product is a balance between the packaging and purchase price of the product and the freight costs. The less you spend on freight, the lower the price will be that you can offer to your buyer, and thus the more competitive your product becomes on the global market.

The value added tax (VAT) is another cost that needs to be considered, says Cascanette. From the point of view of your buyer, the VAT is the tax on the purchase price of the goods. In Canada, we refer to this tax as our goods and services or harmonized tax (GST/GHT). Cascanette suggests that exporters should always allow the importer to take responsibility of the VAT, as it is much easier for the overseas country to use their own VAT as part of their tax rebate.

Once your product makes its way through freight and reaches its destination country, the next step you have to consider is clearing customs. The viability of a market for your product can depend entirely on the import tariff associated with your product.

Tariffs
Every product entering a country has a tariff-classification based on the product’s Harmonized System Code (HS Code). This code classifies traded products based on their form and function, and can change depending on a number of factors. Fresh or frozen vegetables might have one HS code, but export those same vegetables in a pickled format and you can be looking at a completely different code. The tariff classification system can get quite confusing, but it’s important to take the time to determine the proper code for your product.

Tariff classification is a world of its own. People will get into a country with their product and wonder why they’re having so many problems, and a lot of the time it’s because their product has been misclassified. You need to properly describe your product to get the right tariff classification. – Bob Armstrong, CITP and President of Atlas Armstrong Trade and Logistics Advisory Services Inc.

If you are unsure of the HS Code for your product, it may be a good idea to consult a customs broker. In fact, you should do this even before you decide to engage in trade with a country. There might be foreign interest in your product and there might be demand from a certain market, but if the tariff your buyer will have to pay on that product is too high then your product will have no competitive edge.

There are a lot of companies on Canada’s east coast that produce and sell frozen French fries. For a long time, they were unable to sell their product to Iceland because their product had a 76 percent import tariff. Early in 2008, Canada signed a free trade agreement with the European Free Trade Association (EFTA) countries, which lowered that tariff to 46 percent in Iceland. Suddenly, selling French fries to that country, along with a range of other products, was a viable option.

While tariff classifications remain standard, countries are free to set and change the rate of tariff on different products coming into their country.

Tariffs are generally put in place and altered to protect a country’s industry, says Armstrong, but the tariff rate on certain products can be free if your country has a preferential trading agreement.

“If your country has a better agreement with a specific country then you might be better off trading with them because the process will have a lessened cost,” he says. “However, you must also factor in the freight costs.”

Most free trade agreements also carry rules of origin. This means that products need to meet certain criteria in order to get the preferential treatment, such as a free or lowered tariff rate. Even though your product was made in Canada, was it ALL made in Canada?

Alternately, the tariff rate on your product may come with a cost, and you need to be aware of what your competitors are paying. Knowing this can help you determine whether or not your product is competitive, and whether or not it’s worth your time to embark on a trade mission.

Documentation
Having the proper paperwork and having met all of a country’s requirements when you’re exporting is another vital step. Improper documentation can result in what can be one of the most serious unplanned costs of export: storage.

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If you fail to give the proper documentation, you will be held up at the border until you get new documents, says Cascanette. These documents often need to be originals that have been certified by the Chamber of Commerce, all of which equates to more time and money.

“Storage is probably the scariest of all costs because once something goes wrong, you really are at the mercy of that warehouse keeper to give you a fair rate until you can get your goods moving again,” says Cascanette. “Storage can accumulate very quickly.”

To trade, or not to trade?
International trade involves many factors and layers of complexity, and it isn’t really acceptable anymore to plead ignorance when it comes to the rules. There are penalties in place for importers and exporters who don’t follow them, says Cascanette. And if you don’t know where to find the information you need then it’s up to you to pay an expert to help you through it.

But at the end of the day, becoming adept at international trade can simply be a matter of educating yourself and forcing yourself to get comfortable with all of the terms and potential factors at play.

“It’s about doing your homework,” says Armstrong. “Know before you go, that’s what I always tell people.”


Article originally published July 5, 2012

About the author

Daniella D'Alimonte

Author: Daniella D'Alimonte

With her background in writing, marketing and business journalism, Daniella focuses on crafting quality stories and relevant content to inform and inspire the international business community.

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