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Countertrade and the Marketing/Purchasing Interface

Author(s):

Dr. William R. Smith, Jr.
Dr. William R. Smith, Jr., Assistant Professor of Marketing, University of Missouri - Columbia, Columbia MO 65211, 314/882-5442.
C. Dan West
C. Dan West, President, West Trade International, St. Louis MO 63105-1725, 314/727-5522.

79th Annual International Conference Proceedings - 1994 - Atlanta, GA

ABSTRACT
Countertrade appears to be growing in importance in international commerce. Discussions with purchasing and marketing professionals indicate that it is not unusual for tensions to arise between these two critical functional areas within firms when countertrade transactions are being discussed internally, negotiated with the potential trading partner, and implemented. This paper discusses these tensions and prescribes potential remedies for reducing or eliminating them.

DEFINITION AND FORMS OF COUNTERTRADE
There seems to be little argument that the use of countertrade is growing around the world (see e.g., U.S. International Trade Commission 1985). There is also little disagreement over the contention that for businesses to survive and flourish they will have to pursue international markets. Proponents of the use of countertrade (CT) feel that this trading technique can make a vital contribution to a firm's efforts at expanding into many international markets.

Countertrade can be defined as any trading practice which conditions the completion of an export transaction on a separate purchase of goods or services by the original exporting party from the original importing party. The key feature of such transactions is the conditionality that effectively connects two otherwise separable transactions. Table 1 describes the basic forms of CT.

TABLE 1: FORMS OF COUNTERTRADE

BARTER:
Exchange of goods for goods with no money changing hands, executed under one contract. Requires a double coincidence of wants. Example: 1985 deal in which Avon exchanged cosmetics worth $4 million for Russian china and crystal of equal value. No money was used.

COUNTERPURCHASE:
Exporter agrees to buy some product made in the importing country (usually 20 to 100% of the value of the export). Two contracts are linked by a protocol agreement and settled in currency. Example: 1978 deal in which Caterpillar sold tractors to Albania and agreed to purchase Albanian wine worth 30 % of the value of the tractors. Both contracts were settled in U.S. dollars.

COMPENSATION:
Exporter sells product, often a "turnkey" manufacturing plant, and agrees to purchase a portion of the output of this product as payment. Also referred to as "buy-back," these arrangements often last for 20 years or longer. The value of products bought back often exceeds the value of the original sale. Example: 1974 deal wherein Occidental Petroleum sold a fertilizer plant to the Soviet Union and agreed to be paid with fertilizer from the plant over twenty years.

OFFSET:
Exporter allows a portion of its product's production to occur in the importing country or buys some of the product's inputs in the importing country. Example: McDonnell-Douglas allowing a Dutch firm to make the tail section of fighter jets to be sold to the Dutch.

COUNTERTRADE'S IMPACT ON THE MARKETING/PURCHASING RELATIONSHIP
Discussion of CT with its practitioners indicates that it can impact both external and internal relationships. For example, an external relationship with an existing customer could be enhanced (damaged) through a firm's willingness (unwillingness) to engage in CT when a customer finds itself in need of utilizing this form of exchange. New customer relationships can be established and fostered through a firm's demonstrating its flexibility by engaging in this non-traditional form of trade. Relationships with suppliers can also be impacted. For example, if a firm agrees as part of a CT transaction to receive goods that will be used in its own production processes the clear implication is that an existing supplier will be displaced. This has the potential for destroying an existing external relationship as well as causing tension within the firm. A purchaser who has developed a long- standing and satisfactory relationship with this displaced supplier is not likely be happy with such a development. If the purchasing area of the firm perceives that the marketing area was responsible for this transaction, their animosity may well be directed toward the marketers.

Internal friction can also be generated toward purchasing if marketing and other interested parties feel that purchasing attitudes and actions toward CT opportunities have caused sales to be lost. The frustration of a cross- section of countertraders in their relationship with the purchasing area within their firms was recently confirmed by a survey conducted by one of the authors of this paper. Data were collected from members of the American Countertrade Association (ACA) at its meeting in the fall of 1993. The ACA is the world's largest CT organization. It's membership includes firms such as Boeing, Procter and Gamble, IBM, General Motors, Pepsico, and AT&T.

54 of the approximately 80 attendees at the ACA meeting completed part or all of the survey. 70 percent of the respondents to the survey indicated that the use of countertrade by their firms had created friction between various departments within the firm. When asked to indicate which department the countertraders had experienced the greatest difficulty in working with on CT transactions, the most popular answer was purchasing with about a third of those responding (other popular answers were the accounting and legal departments). 20 of 50 respondents indicated that they had received complaints from their firm's purchasing department about its role in CT transactions. It certainly appears that a firm's attempts at increasing sales through the use of CT has the potential to cause tension between purchasing, marketing and other functional areas within the firm.

Other research has also pointed to some of the types of concerns that purchasing departments might have with various aspects of CT. Lecraw (1989) found support for his hypothesis that firms that had a greater ability to accommodate CT take backs in their usual business operations (e.g., use take backs in the firm's production processes or for needed operating supplies) would experience greater success in CT. One would suspect that firms experiencing success in CT would experience less complaining behavior from all functional areas of the firm, including purchasing.

Forker (1991) focused her research specifically on purchasing professionals and found support for the propositions that (1) purchasers who have participated in CT have a more positive view of it than those who haven't, (2) executives ask for the purchasing department's advice less than half the time when a CT transaction is being considered, and (3) the purchasing department's evaluation of a potential CT transaction is important to executive management when it is sought. One caveat when considering the findings from Forker's study is that she was working for the Center for Advanced Purchasing Studies when the survey was conducted and it is possible that some of the questions asked were biased and therefore led to biased responses. This could be especially true as regards purchasing's self- assessment of top management's consideration of purchasing's advice on CT transactions. It is obvious from this study, however, that purchasing professionals often feel that their concerns are not given adequate consideration when CT transactions are being considered. This can certainly lead to tensions within the organization and specifically a resentment of the marketing/sales area by the purchasing department.

SOME POSSIBLE THEORETICAL EXPLANATIONS OF CT
If all functional areas within a firm are going to be supportive of the firm's efforts to increase revenues and profits through the use of CT it is important that they understand why the firm and its trading partners might be interested in CT as an alternative form of trade. Signalling theory seems to offer some potential for a theoretical explanation of CT's use. The crux of this theory is that an information asymmetry exists between a potential buyer and seller and that the use of "signals" will help alleviate this asymmetry. A seller has information about product attributes that a buyer does not have. The seller cannot simply state this information because the buyer will disbelieve the claims. To be credible, the seller must somehow set up a mechanism which would inflict self-harm if its product claims are not accurate. For example, if a firm agrees to purchase some of the output of a factory that it sells it is in the firm's best interest to be certain that the factory will produce a high quality product.

A firm can use a willingness to CT as a signal to a potential trading partner in a new market that it will be flexible in working with him and that a long term relationship is desired. Anecdotal evidence indicates that it takes years for a firm to build trust in its customers that it is committed to serving their unique needs. CT allows the firm to signal its commitment in advance, thereby gaining a significant advantage over firms who follow the traditional route to establishing trust with a foreign trading partner.

Transaction costs economics (Williamson 1975) appears to have potential for explaining certain aspects of CT's use. A motive sometimes cited for non- market economies (NME's) and less-developed countries (LDC's) to demand CT is a desire to utilize the marketing channels and skills of firms in industrialized countries (see e.g., Kaikati 1982). This results from an asymmetry in market information and marketing skills. By bundling the "purchase" of marketing expertise in with its international trading activities, an NME/LDC trader can obtain marketing services at lower costs than when building its own expertise or making separate "purchases" of services from independent providers. CT is actually efficiency enhancing as overall transaction costs are reduced when each trading partner sells a good/service in which it has a comparative advantage.

An example of such a situation is the arrangement that PepsiCo has with Russia involving vodka. PepsiCo wanted to sell its soft drinks in Russia but the Russians would not allow this without some reciprocal purchase. The Russians provided a list of products that PepsiCo could counterpurchase and vodka was on the list. One of PepsiCo's subsidiaries was a winery that had an extensive distribution network in the U.S. PepsiCo decided to buy vodka in return for the Russian purchase of its soft drinks and distribute the vodka through its existing U.S. channel. PepsiCo was, in effect, selling its marketing services. Assuming that PepsiCo would not sell these services at a loss, overall U.S. channel profitability is enhanced and the Russians have a new market for their vodka with the marketing expertise built in.

CT may also be affected by the nature of competition within an industry. The market structure of an industry (monopoly, monopsony or oligopoly) may offer promising insights into CT activity. For example, if an industry is oligopolistic in nature and one of the players begins to use CT as part of its competitive strategy, theory indicates that the other competitors will likely follow suit.

Monopsony power on the part of a firm's customer also presents some interesting prospects for the use of CT. With buying power concentrated in one (or a few) customer(s), the buyer is in a strong position to enforce CT demands and the seller may be dependent on the buyer/monopsonist for its very survival. In the case of a monopolist there is little likelihood that he would respond favorably to CT demands unless he felt it was in his best interests to do so. The customer has no alternative source of supply and is completely dependent on the monopolist in the short run. These are just some examples of how market structure might affect CT.

Management attitudes toward the use of CT could also have an effect on its use. One type of attitude theory is expectation theory. This theory indicates that a person valuing an outcome and perceiving that a business technique can be instrumental in achieving it would have a positive attitude toward that business technique. For example, if a firm desires to increase exports and feels that CT is likely to help achieve this goal, it is likely to have a positive attitude toward the use of CT.

Expectations concerning the future volume of CT demands that a firm will encounter might also affect its attitudes toward CT's use. If a firm feels it will experience large CT demands in the future it is likely that it will feel the use of CT will be a critical factor to its future success. The stronger these expectations, the more likely that the firm's propensity to countertrade will increase.

The above-cited theory bases are examples of how theory may be brought to bear in explaining the use of CT by both buyers and sellers. Examining CT in the context of such theoretical approaches could afford practitioners in all functional areas of a firm an alternative view of their firm's involvement in CT and could lead to greater understanding and cooperation across areas.

OBSERVATIONS AND RECOMMENDATIONS
It is interesting to note that 5 of 51 respondents to the above- mentioned survey of ACA member companies indicated that their firm's CT activities were housed within purchasing and several more indicated that their firm's separate CT unit consisted primarily of people who had come out of the purchasing area. However, even in these situations there were some respondents that indicated that they had received complaints from purchasing about its involvement in CT transactions.

There were other interesting observations made in the ACA survey as to purchasing's role and involvement in CT. Responding countertraders were asked to indicate in an open-ended question how they would want to have the firm's purchasing department assist them in their CT efforts. Some of the comments were: (1) CT would like to receive reports from purchasing indicating where the firm had historically sourced from and a prioritization of the goods and services needed by purchasing, (2) CT would like to have total involvement of purchasing in all aspects of the firm's CT transactions, (3) CT would like for purchasing to force the firm's suppliers to assist the firm in meeting its CT obligations, (4) CT would like for purchasing to assist in collecting data about CT opportunities, (5) CT would like for purchasing to be more flexible in assisting CT in disposing of CT take backs and more receptive to CT generally, and (6) CT would like to have purchasing's assistance in the negotiation of CT transactions, specifically in identifying potential problems with the goods that will be taken back in the CT. These comments are indicative of overall comments. The most frequent comment related to CT's frustration at not being able to receive accurate and timely reports of the goods and services most in demand by purchasing so they could use that information in deciding what types of products to negotiate to receive in their CT arrangements.

Another question in the ACA survey requested that those who had received complaints about various aspects of CT from the purchasing department indicate how they had addressed these complaints. The most frequently cited approach to addressing purchasing concerns was to appeal to their professionalism and concerns for meeting overall company goals while engaging in some sort of educational campaign regarding the merits of CT. Other more specific approaches cited were to: (1) indicate to purchasing that this sale would be lost if the CT aspect were not included, (2) bring purchasing into an active role in the CT process from the start and actively seek their advice, (3) pay purchasing a fee for handling CT take backs, and (4) give up on dealing with purchasing and bypass them by appealing to top management or going to other potential buyers for CT take backs.

It seems obvious from the comments received in these open-ended questions and from earlier research that one of the best ways to avoid tensions between purchasing and other areas of the firm when CT is an issue is to have purchasing actively involved in the CT situations from their inceptions. This does not mean that purchasing will like all aspects of a CT arrangement but if they are involved early on they will have a longer period of time to make whatever arrangements are necessary to deal with the aspects of the transactions that they are uncomfortable with. This should also increase the likelihood that purchasing will cooperate with marketing and other areas of the firm in future CT situations. It does seem critical that purchasing be willing to provide other areas of the firm with prompt and precise data about products that could be used internally by the firm. This will allow the parties responsible for negotiating CT transactions to make better decisions about what CT take backs they should be attempting to obtain. Marketing and other areas of the firm should also make strenuous efforts to work with purchasing and to develop clearer understandings of purchasing's concerns. While marketers and countertraders may realize the importance of developing long-term relationships with their customers, they must also understand the critical importance of such relationships with the firm's suppliers. The purchasing professionals certainly understand this and are very concerned about the possibility that CT transactions could destroy or diminish profitable relationships that have taken many years to build.

REFERENCES

  1. Forker, Laura B., "Countertrade: Purchasers' Views and Experiences.", NAPM Insights, April 1991, 9.

  2. Kaikati, Jack C., "Marketing Without Exchange of Money." Harvard Business Review, November-December 1982, 72-74.

  3. Lecraw, Donald J., "The Management of Countertrade: Factors Influencing Success." Journal of International Business Studies 20, (Spring 1989): 41-59.

  4. U.S. International Trade Commission. Assessment of the Effects of Barter and Countertrade Transactions on U.S. Industries. Washington, D.C., October 1985.

  5. Williamson, O.E. Markets and Hierarchies: Analysis and Antitrust, Implications. New York, Free Press, 1975.

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