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Creating value through cash savings. (Corporate Trade).

Amid political uncertainty, a turbulent economy and continually waning consumer confidence, virtually every industry -- from travel and real estate to advertising and retail -- has faced a gloomy big picture. And, with sales generally down across the board, top management is turning to traditional strategies to generate cash: slashing overhead, accelerating billing, delaying payments to vendors or some combinations thereof.

Companies are also turning to liquidation or discounting to rid their shelves and warehouses of under-performing assets and to avoid the possibility of losing even more revenue. As companies introduce new products and sometimes overestimate demand, technology becomes outdated or changes in the marketplace affect the value of real estate and capital goods, companies may inadvertently dispose of these under-performing assets at 15 percent or 20 percent of original value. While simply discounting or liquidating has proven to be a quick fix, senior financial executives are now realizing that creating incremental value from these assets far in excess of the liquidation or discount amount is now essential for future sustainability and growth.

A less traditional strategy for resolving the pain caused by these under-performing assets or excess inventory is through corporate trade, a process that may recover up to 100 percent of original value through the creation of future cash savings.

The International Reciprocal Trade Association (IRTA) states that each year more than $7.5 billion in sales is transacted through the corporate trade industry. This figure is growing at an estimated rate of 8 percent faster than the GNP's rate of growth, and can be attributed to a number of factors, including the existence of surplus inventory, falling sales, unproductive assets and excess capacity. IRTA estimates that 300,000 companies will turn to corporate trade as a financial alternative this year alone.

Corporate trade is typically utilized to lower future cash expenditures or expand media expenditures without an incremental cash outlay. It is a flexible concept not tied to a particular industry, product class or asset category. Corporate trade may easily be applied across any business that regularly advertises, purchases printing, travel related products, sponsorships and other goods and services offered by the trading company.

Corporate trade has been in use for about 40 years in one form or another. Many Fortune 500 companies today utilize this technique to acquire a portion or all of their electronic (national cable, interactive, spot radio and TV network), print, newspaper, out-of-home media or even other goods and services, like travel, sponsorships, printing, freight and premium merchandise.

Simply stated, corporate trade creates incremental value from excess or under-performing assets, such as merchandise, real estate or capital goods, where current fair market value may be less than the recorded carrying amount.

Accounting and Financial Statement Treatment

Authoritative accounting guidance in the U.S. for corporate trading is set forth in Emerging Issues Task Force Abstract 93-11 (EITF 93-11), "Accounting for Barter Transactions Involving Barter Credits" and Accounting Principle Board Opinion No. 29 (APB 29), "Accounting for Nonmonetary Transactions."

EITF 93-11 documents and sets forth the consensus reached by the task force that APB 29 applies to corporate trading or barter transactions. Specifically, the task force determined that, in reporting the exchange of a nonmonetary asset for barter or trade credits, it is presumed that the fair value, as determined by the market of the nonmonetary asset exchanged (receivables, inventory, capital equipment, real estate or leases) is more clearly evident than the fair value of the barter or trade credits received.

The trade credits should generally be reported at the fair value of the asset exchanged or given up. EITF 93-11 states that this presumption might be overcome if an entity can convert the trade credits into cash in the near term, as evidenced by historical practice of converting trade credits into cash shortly after receipt, or if independently quoted market prices exist for items to be received upon exchange of the trade credits. It should also be presumed that the fair value of the nonmonetary asset does not exceed its carrying amount unless there is persuasive evidence supporting a higher value.

To the extent that use of the trade credit is reasonably assured so that the company would realize its full economic benefit, an impairment on the nonmonetary assets exchanged may not be required. Naturally, were full realization of the trade credit not assured at the outset of a transaction, the trade credit's economic benefit would be recognized as it was utilized. Based on this assessment, the value of the traded asset -- representing the amount a willing buyer would pay up to its historical carrying amount -- is reclassified to prepaid marketing expense.

Any impairment on the trade credit should be recognized if 1) it subsequently becomes apparent that the fair value of any remaining credit is less than the carrying amount; or 2) the enterprise probably will not use all of the remaining trade credit.

Corporate Trade Use Example

A large appliance company has excess or slow-moving inventory, receivables or real estate that it would like to convert to advertising.

The trading company will purchase the current inventory and pay the client in the form of a trade credit. The trade credit can then be used to pay for a portion of future media costs. For example, a large appliance company found that it had an excess of 10,000 microwave ovens. Normally, the microwaves carried a wholesale price of $100 each, or a total wholesale value of $1,000,000. Currently the microwaves are worth, at most, $30 each on the market, though still new and in sealed cartons.

The corporate trading company agreed to purchase the entire inventory and offered the appliance company the full wholesale value of $1,000,000 in trade credit toward a media budget of $4,000,000, with the balance of $3,000,000 payable in cash. By utilizing corporate trade, the client was able to save $1,000,000 in cash. In this case, the appliance company realized the full economic benefit of the product given up (wholesale value rather than liquidation value), an added $700,000 of value beyond liquidation value, while it still provided for full agency commission or fee.

Since the utilization of trade credits represents future cash savings from amounts that would otherwise be disbursed, corporate trade creates value and future cash savings. These days, creating cash savings and enhancing cash flow are vital to the survival and sustainability of companies across all industries.

RELATED ARTICLE: Considering a Corporate Trade Transaction? Key Factors For Review:

* Can the trade credit be easily retired?

* Does the trading company have the scale and depth of business expertise required to fulfill your needs?

* Does the trading company have a successful track record of retiring trade credits over the last five years?

* Is proof-of-performance accompanied by affidavits and post-buy analysis, in the case of media, routinely provided?

* Can the trading company provide complete, professional, in-house media staff with agency-trained buyers who have sufficient experience?

* Are the purchases of goods and services at the same quality and at the same price that would other wise be purchased?

* Does the demonstrated ability exist to re-market merchandise, real estate and capital goods to specified end-users in a manner that protects current distribution and pricing?

Source: IRTA

Richard Vendig is the CEO of Active international, a global trading company. He can be reached at rvendig@active international, com.
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Title Annotation:related article: Considering a Corporate Trade Transaction? Key Factors For Review
Author:Vendig, Richard E.
Publication:Financial Executive
Geographic Code:1USA
Date:Jul 1, 2003
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