4 Reasons Why Incoterms Understanding is Vital for a Undisrupted Global Supply Chain (2024)

From our previous discussion on Incoterms (International Commerce Terms), Incoterms are standardized terms used in international trade to clearly define the seller’s and buyer’s obligations as part of a contract. Understanding incoterms is vital. Although many different Incoterms exist, sellers and buyers often underestimate the value of Incoterms and their impact upon international trade. Take a look at some of the primary ways Incoterms are fundamental to international shipping and trade.

Incoterms Reduce Risk.

Many would argue clearly defined language in a contract is sufficient to ensure all parties maintain their obligations in international trade. However, language barriers and connotations of terms in one location may not be reflective or understood in another location.

For example, country A traditionally defines tariffs as fees imposed by the local government. Country B defines tariffs as taxes, fees, and surcharges imposed by federal, state, and local governments.

The use of Incoterms eliminates inconsistencies in language by giving all parties the same definition of specific terms within a trade agreement. As a result, the risk of problems during shipment is reduced since all parties clearly understand their responsibilities in performing trade under the given contract.

Failure to Use Incoterms Leads to Problems.

Parties in international shipping must understand how Incoterms vary. Failure to understand the correct definition of each Incoterm used will lead to problems throughout the subsequent supply chain. Furthermore, misused Incoterms may affect payment of goods, delivery schedules, increased costs, poor inventory control, and negative customer interactions. From distribution centers to shipping recipients, improper or missing Incoterms dramatically disrupts the flow of goods and damages a given company’s reputation this is why understanding incoterms is vital.

However, Incoterms do not govern the ownership of merchandise; they are specific to shipping practices. Therefore, the ownership of goods cannot be defined by Incoterms, and shippers must beware of illegitimate business practices that try to use Incoterms in this capacity.

Incoterms Affect Monetary Gain and Competitive Advantage.

Since Incoterms define the monetary and procedural aspects of all international shipping practices, Incoterms are essential to ensuring proper, timely payment of goods and services. When Incoterms are not used correctly, a supply chain entity is not fully accepting payment for all goods and services. This occurs as changes and misunderstandings in differing cultures clash over responsibilities.

Similarly, Incoterms ensure all parties are able to maintain a competitive advantage in the international supply chain. If a given shipper’s governing authority were to make adjustments to local terminology, this terminology could directly impact the competitive advantage of companies. One company may benefit from the local terminology while the other company endures limitations on capacity and shipping regulations in the affected country. As a result, the incidence of bribery and unfair business practices is reduced when Incoterms are used in international trade. This is essential to avoiding potential penalties and fines in global trade.

Incoterms Change and Vary in Responsibility.

Incoterms are updated every 10 years to reflect changes in the global supply chain. Typically, the responsibility of defining Incoterms for a given contract apply to the buyer. However, the responsibility of using Incoterms correctly shifts from buyer to seller and depends upon the exact nature and type of transport employed. These rules are set forth by International Business Training and should be consistently, frequently reviewed to ensure clarity and accuracy in all international transactions. As a result, sellers and shippers can maintain compliance with changing laws in international trade.

Incoterms play the strongest role in ensuring all international trade is performed in a standardized, thorough manner. Without Incoterms, buyers and sellers would suffer from constant changes in language and difficulties in shipping practices. Fortunately, Incoterms clarify obligations and help shippers maintain standard practices throughout the process. Essentially, Incoterms are comparable to the fuel in a shipping vessel; the products cannot move appropriately without them.