• THE-COFFEE-GUIDE.gif 
  • QA 018
    Question:
    What are the credit risks involved in direct sales?
    Background:
    Some organizations promote the benefits of 'direct selling' by small producers to specialty roasters, particularly in the USA, but seem to under-estimate the credit risks this may involve. We think it would be helpful if you could expand on the excellent text in chapter 10 of the Coffee Guide to deal with this particular aspect?
    Asked by:
    Exporter - India
     
    Answer:

    We can only respond in general terms by describing the manner in which green coffee is traded and financed in the USA.  We would also point out that our answer is not intended to discourage direct sales but rather to highlight some of the issues that are not always taken into consideration.

    The US coffee trade operates almost entirely on credit. Even mainstream roasters usually buy on the basis that they pay ten days after quality approval. Most business is done basis approval after arrival which means roasters take delivery ex warehouse (ex dock) and seldom if ever buy FOB.

    In the US specialty trade there are many small independent roasters.This is one of the attractions in that it brings great diversity. But it is a standing rule that all business is on credit, ranging from 30 days after delivery to much longer periods. Under-capitalization is an oft-encountered problem as is lack of understanding of the coffee business itself.

    Suppliers can lose out entirely when, for example, a bank forecloses on overdue loans or overdrafts an individual roaster may have. It is common practice that US banks execute security agreements when extending credit - such agreements basically cover everything and anything the company (and sometimes its shareholders or partners) may possess: stocks (whether paid for or not!), accounts receivable, buildings, equipment and machinery, instruments, furniture and fittings. Even intangibles such as trademarks for example… See 10.05.02 for more.

    As happens, the first a supplier may know of a bank's foreclosure is when he finds that the debtor's operating assets have been sold: new owners have taken over everything, other than the outstanding debts of course. So-called receivables (suppliers' invoices) will only be paid if sufficient funds remain after the secured creditors have been paid. Often this is not the case.

    It is very difficult if not impossible for producers and exporters of specialty coffee to safeguard themselves against this type of very real credit risk. We agree with you that much of the discussion re 'direct selling' and 'by-passing middle-men' does not always pay sufficient attention to the credit issue, and does not recognise the vital role importers play in this respect. Unfortunately there are no industry statistics on the number and importance of defaults that occur.

    Of course there is another side to this as well: generally speaking producers and exporters alike will find it very difficult, possibly impossible, to get agreement from their own bankers for transactions in which goods are supplied on what mostly is unsecured credit, particularly so when a roaster insists on only paying after approval of the goods on arrival. This is something even the finest credit insurance cannot cover…

    Finally, it is also worthwhile to point out that in general there is a large difference between selling FOB to a trader and CIF to a roaster, and not only on the credit side. For example there is a market risk when goods get rejected due to quality problems, vessels are cancelled or need to be re-routed etc. These are different but also very real types of risk.

    Posted 15 May 2005

    Related chapter(s):
    Related Q & A: