As the international shipping and trading community continues to expand in size and scope, the wealth of opportunities that it offers businesses all over the world also increases. While this is certainly a good thing, it does come with a couple of drawbacks.
As every new or experienced importer/exporter knows, there are several complexities that arise in the world of commerce in this day and age. It is for the reason that things like domestic freight terms and various shipping terms were devised. The ultimate aim of which is to assist in making international trade and commerce easier, smoother and less complicated.
One of the most effective solutions that have been devised in this area is the International Commercial Terms, or Incoterms, as they are more popularly known.
It’s been reportedly proven that buyers and sellers who have a working understanding of Incoterms trade more efficiently and with lesser complications.
Incoterms – What it is and why it’s so important
Incoterms are a special way of communicating between buyer and seller. It is basically an international trading language unique to importers and exporters designed to help both groups fully grasp what responsibility is expected of one party and how it is to be executed.
With international trade, there are a lot of moving parts. Consequently, the whole process can be highly susceptible to mishaps due to communication mix-ups. Terms like FOB Australia, CIF shipping and EXW price help trading parties sort out details like logistics, transportation solutions, as well as financial responsibilities.
It also extends to helping importers and exporters identify what tasks are to be executed, who bears the risks associated with it and the details of when and how the cargo in question will leave the origin country and arrive at its destination location.
At its core each Incoterm meaning clearly highlights everything that regards the obligation that one trader owes the other. It provides a compact system that helps clear up the ambiguities that come with international trade.
It follows a simple yet effective structure. As you may have noticed Incoterms come with three-letter acronyms (FCA, FOB, CIF, and so on). A location name is then added to this acronym. All the location name does is supply information on the handling of transportation costs.
With regard to these domestic freight terms and shipping terms it should be noted that while many of them can be used for cargo coming through any means of transport, some terms are highly specific to one method of transport.
Reasons You Need Knowledge of Incoterms
While it definitely comes with a considerable amount of stress, having an in-depth understanding of Incoterms is always in your best interests.
Some major reasons you need this information include:
It Minimises Risk of Shipping
Even though the resources a contract supplies should be more enough to clarify obligations, the fact that each region defines tariffs, surcharges and fees in different ways and at different tiers necessitates a level of clarity that only Incoterms can provide to minimise risk.
It Streamlines Your Supply Chain
Not using Incoterms at all or using it incorrectly may negatively impact your delivery schedule, delay the payment for your goods and even increase costs in unexpected ways. With Incoterms to guide you, you have a specific shipping practice that is clear to both parties which helps streamline the entire process.
It Directly Impacts Your Competitive Edge and Bottom Line
There’s often a clear difference between importers who use Incoterms and those who don’t. For Incoterms users, you find that responsibilities and obligations are well-highlighted ahead of time, leaving room for little confusion. There is a set process and point at which risk is transferred, so payment and services are not supplied at random but follow a strict schedule.
This maximises work rate and increases efficiency, making Incoterms users more profitable in the long run.
Incoterms are revised often enough to reflect significant changes in the global market. Here is the latest edition that reflects costs and risks in the most concise manner.
In greater detail, here are major Incoterms you should be aware of.
Arguably the most popular Incoterms, the Ex Works meaning follows a basic principle. With Ex Works or EXW Incoterms, all that the seller will usually be in charge of is seeing the goods to a set location after which the buyer takes over. The buyer will cover everything from loading to transportation and the risk involved. As you can imagine, this makes EXW price significantly different when compared to that of other Incoterms.
Dissimilar to both the FCA shipping terms and FAS Inco (which are considerably less popular but still well-used), Free On Board or FOB, the seller is expected to do more than just deliver the goods at the established location. For instance, with FOB Australia, not only must the seller deliver the cargo at any ship of the buyers’ choice in the country, they are also expected to load it as well. That is essentially what the “Free On Board” represents.
Operating on FOB Incoterms or using FOB shipping also directly implies that cost and risk is split between buyer and seller even after the cargo has been moved into the ship, further establishing the difference between FOB and FCA Inco.
Cost and Freight (CFR) Incoterms as well as CFR shipping is relatively uncomplicated to grasp. Essentially, CFR Incoterms definition refers to cases where the seller is directly responsible for the financial implications of delivering the cargo to its destination location. With CFR shipping, the seller is expected to pay all transportation costs. However, according to CFR Incoterm definition, all risk associated with the goods is held by the buyer from the moment the cargo is loaded on the ship.
Cost, Insurance and Freight (CIF) Incoterms is remarkably similar to CFR shipping with one major distinction; Unlike with CFR Incoterms, the seller is expected to take even larger responsibility where CIF shipping and CIF Incoterms is concerned. In addition to paying for the shipping costs of the merchandise like with CFR shipping, CIF Incoterms also requires the seller to organize and handle insurance for the cargo as well.
All the Delivered Duty Paid (DDP) Incoterm translates to in international trade and commerce is that the seller carries all financial responsibility and risk for clearing the cargo through customs and delivery.
Less commonly used Incoterms include,
Free Carrier or FCA shipping terms such as FCA free carrier Incoterms are specifically used to refer to a trade scenario where the buyer is responsible for the transportation of the cargo once it is handed over to the first carrier by the seller. When FCA terms like FCA transport terms are in use, you know the goods are to be handed over at a predetermined location in the seller’s country and the buyer essentially takes over all the costs of the operation afterwards.
This is short for Free Along Ship and these terms are used to describe transactions where the seller must deliver the cargo right by (alongside) the freight ship that will be used to transport the merchandise. Unlike FCA terms and FCA Inco, all risk and responsibility is transferred from seller to buyer only after the cargo has been placed alongside the ship.
With these terms in operation, risk is transferred directly from seller to buyer from the moment that the cargo makes contact with the first carrier. However, until then, the seller is responsible for handling freight shipping and insurance costs until the goods reach a pre-established destination location.
Also very distinct from CFR shipping and CIF shipping, Carriage Paid To (CPT) shipping simply implies that once the destination place has been firmly determined, the seller is to handle all customs charges for clearing the cargo for export and delivering it where it is supposed to be.
Delivered at Place Unloaded (DPU) Incoterm, similar to DDP Incoterm establishes that most obligations fall firmly within the purview of the seller. Not only is DPU Inco a change of name from Delivered At Terminal (DAT) Incoterm, it also clears the misunderstanding associated with it.
Essentially, this particular Incoterm remains till date the only term that makes it the responsibility of the seller to also unload the cargo at the set destination after delivery.
Delivered At Place or DAP delivery Incoterms is the last in this line. The DAP terms Incoterms meaning is quite simple. Also updated recently, the DAP term is taken to mean that the duty of delivery rests solely with the seller. With DAP delivery Incoterms in effect, the destination location is usually the buyer’s premises.
While DAP Incoterms ensures that the seller handles the cost of freight shipping, this doesn’t extend to covering risk. Due to this, DAP term tends to be more favorable for some destinations more than others.
You should note that while an Incoterms meaning is usually quite succinct, that doesn’t make it infallible. For example, an Incoterm meaning won’t necessarily highlight plausible solutions when breach of contract has occurred. It also has its limits where contractual rights and obligations are in question.
As such, working with a partner who can guide you through the steps is invaluable to saving time and resources.