Nuances that must be considered for these two rules.
Photo courtesy of Comark
This is the fourth installment in a continuing series by John Vogt, former Halliburton vice president of global logistics. You’ll gain the critical information needed to reduce shipping risks to your company whether you’re the buyer or shipper. Look for John's new installments in the first issue of BreakbulkONE each month.
In the current Incoterms version, four rules focus on the movement via ocean and inland water. These have been in the Incoterms ruleset since inception, although one has had a name change to match the current convention of three letters.
The four rules are FAS (Free Alongside Ship), FOB (Free on Board), CFR (Carriage and Freight)–originally known as C&F (Carriage and Freight)–and CIF (Carriage, Insurance and Freight). These water-only terms have become a separate stream of rules dealing with the movement via ocean or inland waterway, while the ‘all modes’ movements reside in 7 separate rules.
It is interesting to remember that when these water rules were first created, containers didn’t exist, and loading ships was done by stevedores walking the goods onto the vessel and into the hold. Even the largest cranes of the day could lift only a very limited weight. That was very different from today with the heavy lift capabilities in many ports.
In keeping with the concept of moving down the logistics chain from the supplier, in this article I am going to review the FAS and FOB terms as a first step to understanding these water-only rules. Nuances of these rules have changed since their inception in 1936 but remain essentially the same.
FAS requires the goods to be delivered to and placed on the quayside by the seller. This must be onto the quay agreed with the buyer, who will be arranging the carriage by ship. The buyer will specify the quayside at which the ship will be required to berth. Remember that the delivery of a container to a container terminal is done using the FCA rule as the delivery is not to a quayside for immediate loading, but to the terminal and then to the quayside.
The delivery to the quayside is often of value when a large item is to be lifted onto a vessel from the quayside. This may also serve for crated cargo that may be progressively assembled on the quayside for some days before the vessel berths. This will allow the vessel to be loaded as fast as possible and not have to wait for goods while paying for the berth.
The export formalities for the goods must be done by the seller. Interestingly, the risk passes to the buyer when the goods have been placed on the quayside. That means packaging must be suitable for storage on the quayside, and the quayside must be secure otherwise the buyer’s risk rises dramatically. Consider this carefully when the port of loading is in a country with high levels of crime (perhaps refer to the Corruption Perception Index (https://www.transparency.org/en/cpi/2021) for guidance).
With the FOB rule, the goods are delivered when they are stowed, that is, loaded on board in a hold or on the deck of a ship. Risk passes when the goods are stowed, and all the work and expense to this point belongs to the seller. The seller must provide the goods, transport them to the quayside where the ship is berthed, and load them onto the ship into the correct hold or deck placement for correct stowage to occur. This is particularly valuable when one is delivering a large component, and the seller wants to organize the transport to, as well as the loading onto the ship.
The two rules are largely the same, just the last action of loading the ship differentiates them. The implication for the use of FOB is that the seller is going to pay all costs and take all the risks until the goods are stowed on the ship.
There are some nuances that must be considered for these two rules. The delivery point is defined in its location (precision is required as has been emphasized), but also delivery can be further qualified by other aspects:
- An agreed date; or
- Within the period notified by the buyer; or / and
- In the manner customary at the port.
A date or period can be set in the Incoterms rule, although it is not mandatory. Setting a period has advantages as it defines the expected ship arrival period and hence the point by which all goods must be in the port and available for loading. The buyer, who is organizing the onward movement from the port, can advise the seller of the period for loading as it is updated by the ship. There is obviously the caveat that the buyer’s vessel must give “sufficient notice” as is stated in the rules to the seller, meaning the ship must give the seller reasonable time to plan and prepare for the goods to be moved to the port and loaded if the FOB rule is used.
Beware the glib insertion of a fixed date or period in an agreement! Circumstances change and, if the vessel arrives outside of the period, then difficulties can arise. The rule is no longer clear, and the risk potentially passes to the buyer. It is far better to have the period advised by the buyer with the caveat that the “sufficient notice” period is agreed beforehand in writing. This eliminates risk and focuses the seller to plan and be prepared to deliver the goods to the buyer within this agreed “sufficient notice” period.
One peculiar clause exists, which is the “manner customary at a port”. This phrase has existed through the history of Incoterms rules. Its meaning has probably been obscured over time and needs a little thought here. It tends to imply that the port operations for a particular type of goods are standardized for a port for all berths, which might have been true in the inception years of the Incoterms but is not necessarily true today.
The clause implies that special handling requirements must be agreed with the port before being utilized. It also implies that the choice of port may be based on what is customary at a port and what drives that “customary” definition be it equipment, specialized facilities, or even vessel restrictionsfor the port. Think a little deeper about “what is customary” before you just choose a port if you have multiple choices of port, or particular berths within the port, available for the movement and have them agreed before the trade.
More modern developments have added another complexity to these rules. Today, goods can be traded while on the ship, such as happens in the commodity sector where items can be traded on the Commodity Exchanges multiple times before delivery. These rules allow for the seller to deliver the goods to the ship, or alternatively purchase goods that are already on the ship to fulfill the contract with the buyer. The problem with using these rules with the purchase of the goods on the ship, is that the trade occurs within the jurisdiction of the seller’s country, and it may attract sales or value added tax. This will be a topic for more in-depth review in future articles as this trading holds for other rules as well, where it is financially more valuable.
The seller must complete all formalities for export. The seller must know what is required for the goods to be exported, beyond a certificate of origin and a Commercial Invoice. But for an effective trade the buyer also needs to advise the seller what other documents may be needed for the import. It is pointless for goods to be exported efficiently, only to grind to a halt while waiting for, say, a Manufacturer’s Certificate that is required in the import country. These need to be arranged and agreed before the trade commences, as the goods and vessel constitute large costs.
The question of stowed is also of importance for FOB. The risk previously was defined as transferring from seller to buyer when the goods crossed the rail of the ship. It is only in the last few revisions that this was changed to stowed on board the ship. In the original concept of the rules, goods were carried across the rail by hand. Once cranes and other loading methods arrived, one can see legal issues with the risk transfer point being in the air when the goods crossed the rail. The argument of the precise point the goods slipped from the sling could be seen as humorous, but only if it is not your goods!
Let’s also look at a large item being loaded on the ship. For this move, anything which can snag or be damaged is removed, and shipped with the large item. These fittings and fixtures such as valves and instruments are generally containerized or crated for protection. What most frequently happens is the container with these fittings and fixtures sails on the same ship as the large item. The FCA rule is not appropriate for these containers as they do not move through the container terminal, but either FAS or FOB is appropriate as the container would be loaded onto the ship in the same manner and period as the large item, with the same risk transfer.
This completes the terms which cover the movements within the seller’s country. The terms EXW, FCA, FAS and FOB describe the movement and delivery of goods in all circumstances that are needed for a trade within the seller’s country. In the coming article we will look at the “C” terms, which are very different particularly regarding risk transfer and costs. We will also pick up a little extra detail on routes, and export and import formalities, just to round out our knowledge of movements.
Missed Jon Vogt’s Previous Articles? Find Them Here:January: Why Everyone Needs a Better Understanding of Incoterms
February: For Incoterms, Devil is in the Details
March: Why Use Ex Work Incoterms Rule
April: Why FCA Can Be a Four-Letter Word
Do you have an Incoterms® experience to share that you'd like John to comment on that could be included in a future article? Submit to Breakbulk's Leslie Meredith at [email protected] and include description, locations (origin and delivery), Incoterm used and lesson learned if applicable.
About the AuthorJohn has his own consulting company and, at the end of his 42 years in industry around the world, was the Vice President of Global Logistics for Halliburton. Thereafter he spent five years as a Professor of Record for the University of Houston-Downtown MBA for International and Supply Chain courses. He has experience as a Board Director and has traveled the world to improve trade.
In his career, he has driven the correct use of Incoterms as part of the trade improvements he has implemented to drive efficiency and effectiveness. In his role as a professor of record, he taught multiple courses on the use of Incoterms and trade-related agreements. Alongside his colleague Dr. Jonathan Davis (Associate Professor, Supply Chain Management Chair GMSC Department, Marilyn Davies College of Business, University of Houston-Downtown), he has published three formal research papers on Incoterms with two more in consideration, making him the most published Incoterms researcher. He has also published numerous articles, presented papers at multiple international conferences around the world on logistics, trade and compliance including Incoterms. He has served as track chair for multiple conferences as well.
John has a Ph.D. (Logistics), an MBA, and a B.Sc. (Engineering), holds the title of European Engineer (Eur. Ing), is a Chartered Engineer (UK) and has been elected as a Fellow of the Institute of Engineering and Technology (UK). You can reach John at [email protected].
