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What Is FOB Pricing And How Does It Work?

What is FOB pricing, and how does it work?

If you’re a business owner or an aspiring business owner that’s involved in import and export, one of the concepts that you need to have a thorough understanding of is FOB. FOB stands for Free On Board, and it is a common Incoterm that is used freely when negotiating the cost of importing goods to the UK.

Why is it important to have an understanding of various Incoterms? Incoterms is a shortening of international communication terms, and you’ll find them on various contracts and quotes. These words are used to clearly define who is responsible for the costs involved when it comes to importing and who bears the risk, making them a large part of import/export negotiations.

In this article, we’ll discuss FOB price meaning, how it works, and some of the other intricacies involved in FOB.

What is FOB?

FOB stands for Free On Board. AS we have already mentioned, it is an Incoterm that is most commonly used when it comes to sea freight importation. Under FOB terms, it is the seller that is responsible for the costs leading up to goods being loaded onto the ship.

The purchaser is then the one who pays the shipping cost and would hold the responsibility for any goods that became damaged during the shipment period.

“FOB shipping point”, “FOB destination”, freight collect”, or “FOB origin” are terms that indicate that the buyer is the one at risk once the seller has shipped the product.

“FOB destination, freight prepaid”  means that the seller is the one who retains the risk until the goods safely reach the buyer.

How does FOB work?

Knowing how FOB works is fundamental in beginning any sort of import/export negotiations as a business owner. While FOB was once a term that was used exclusively for goods transported by ship, it now slabs almost all types of transport.

Under FOB terms, it is the seller that needs to make the necessary arrangements to get the goods to the port in the country of origin. The costs involved here are usually:

  • Local haulage
  • Loading and export customs
  • Clearance

From this point, it is the buyer who takes over responsibility for all of the costs and risks that may be involved in the process.

Any official contract between a vendor and a client needs to have very clear FOB terms that are easy to find in the purchase order. It should clearly state which party is responsible for shipping costs and insurance costs. However, you should also note that FOB status is not what determines the ownership of the goods. Ownership is determined by the bill of sale.

What is FOB price meaning?

Under the usual FOB terms, the buyer is the one who becomes responsible for the costs involved in shipment once the goods have been delivered to the port and loaded onto the ship. You will carry the responsibility for paying for shipment, insurance, as well as having your goods unloaded, clearing customs and then making their way to your premises or storage facility. It is quite an intimidating process that can definitely be challenging the first time around, and it is safe to say that there are many costs involved for the buyer when it comes to FOB shipping.

One issue that should be taken into consideration is that international payments and transactions can work to be quite costly, thus increasing your overall costs and bringing down your profit margin. Words no business owner wants to hear! You can expect upfront fees that are held for international transactions, and exchange rates are often rounded up by banks. So if you are making international transfers, there are definitely a few things that you should be aware of.

How to save money when it comes to FOB?

As we have already mentioned, international bank transfers can be very costly. And that is why it is sometimes a better idea to go through alternative payment options that actually specialise in making international payments more affordable. One of these options includes TransferWise, which uses an accurate exchange rate as well as a small transfer fee that is completely transparent. When paying with an application such as TransferWise, you can expect to pay a lot less than you would if you were making a traditional international payment through a high street bank. And the cherry on top is that TransferWise is completely safe and is FICA regulated! TransferWise is just one of many of the modern payment options that are well worth looking into.

Another cost that you need to take into consideration is the increasing costs, as the more often that a company orders goods it is expected to more in shipping costs and insurance costs. Additional costs also occur when having to hire labour to unload the goods and the renting of a warehouse facility to store the goods that you have ordered. So how do you lower some of these costs? It often helps to order greater quantities at one time so that the number of individual shipments is reduced.

What is an example of FOB?

To further understand FOB, it’s always a good idea to have a look at an example, no matter how simple or fictional it may be.

For example’s sake, let’s say that ‘Chippy’s Clothing Brand’ manufactures T-shirts in Mumbai, India and sells them to a retailer in the UK called ‘Sailor Season’. When the FOB shipping point is marked as Mumbai, it is Sailor Season that would be held responsible for any damage or destruction of goods. It would be up to them to pay for shipping and insurance.

Alternatively, if the shipped goods were marked with a FOB destination of UK, it would be up to Chippy’s Clothing Brand to ensure that the goods reach Sailor Season in the UK, and they would be responsible for any loss or damage.

What are FOB risks?

Before you sign anything that may be related to FOB, it’s important that you have a well-rounded idea of all of the risks involved.

When you import products from overseas using the standard FOB terms, then it is you, the buyer, that will be responsible for all of the costs and the risks that are associated with the shipment. Your responsibilities will start from the moment that your goods are loaded onto the vessel.

To mitigate these risks, it is always recommended that you take out a respectable and trusted insurance plan that offers you comprehensive insurance if something were to go wrong.

What are some of the criticisms of FOB?

Despite FOB’s popularity, it is definitely not free from criticism or speculation. The complexities surrounding FOB contracts are oftentimes misunderstood, mostly to the detriment of the buyer. Many import/ export specialists believe that more sophisticated contracts are needed, as well as more information about FOB being readily supplied.

Both buyers and sellers should have an in-depth understanding of FOB and what is expected of each of them to ensure the smooth and safe transfer of goods from the seller to the buyer.

But the criticism of FOB does not stop there. Some other obvious disadvantages of FOB include the following:

  • Higher unit prices- The price of units under FOB contracts are usually higher than other options such as EXW shipments. This can also be somewhat deceiving as it does not exactly mean that the overall cost will be higher, simply that the unit prices are often more, which makes buying in great quantities expensive.
  • Mark-ups on local transport costs- It is the role of the supplier or seller to get the goods from their factory or warehouse to the port. You have no control, as the buyer, on this leg of the journey. Many buyers end up having to pay high mark up costs on these local transportation services.

What are some of the advantages of FOB?

While we have already discussed the disadvantages of FOB, it is time now to discuss the advantages. FOB is, after, all one of the most commonly used Incoterms, with millions of buyers and sellers making use of its terms.

The main advantage to these terms is that the seller is responsible for the local export process, which involves the seller having to move the goods from the warehouse to the port as well as deal with the export process and loading the goods onto the ship. While some sellers can add a markup to their services, it is still an advantage to have the seller deal with this process, as it can be frustrating and nearly impossible to navigate this process from another country. It is much easier to have someone who is local and familiar with the process handle it.

The other major advantage is that the buyer uses the one that has control over the international shipping costs and arrangements. As the buyer, you get to decide which shipping company you want to use, as well as what insurance company you want to go through. By getting to make these arrangements yourself, you have a large degree of control over your shipment, and you’ll most likely be kept up to date by the shipping and insurance agencies that you use.

So who is the ideal candidate for FOB shipping, considering both their drawbacks and advantages? FOB shipping is popular and has a large appeal for a wide variety of businesses in the UK, and is probably the most commonly used Incoterm. FOB shipping terms are used by massive suppliers such as Alibaba, among others.

How do I organise a FOB shipment?

Once you have done all your research and you are ready to buy goods on FOB terms, you may want to look into finding a freight forwarder to assist you with getting the processes of UK import and transportation set up. This simplifies things, especially if you are new to the process, as you only have one point of contact to deal with.

The other option you have available to you is making all the arrangements yourself. For this, you will need to consider all the steps of the process. Remember that as the buyer, you will be responsible for the sea freight from the country of origin, local haulage to your shop or warehouse, customs and clearance processes, and more. If you are battling with all of the paperwork and details involved, you may want to turn to a customs broker for help.

Depending on which route you want to take, you may end up paying more and wasting more time. Know your limitations and call in professional help when needed.

What other options do I have available to me?

Apart from FOB, you do have a number of other Incoterms available to you. FOB is definitely not your only option. Another widely used Incoterm and option is CIF, which stands for Cost, Insurance, Freight. CIF is very different to FOB in that under CIF terms. It is the seller that pays all of the costs involved and assumes responsibility for the goods until they reach the buyer’s point of destination. It transfers responsibility quite a lot but also gives the buyer very little control.

Another popular option that you have available to you is known as EXW or Ex Works. Ex Works is essentially the opposite of CIF as the buyer is responsible for all of the costs involved in the process of transporting the goods from their origin to the UK. This Incoterm is attractive to many buyers as they get complete control over the process, but they will be liable for any surprise costs and issues that may occur.

Whatever choice you make when it comes to import/export, just make sure that you understand Incoterms thoroughly and perhaps speak to a business advisor before making any hard and fast decisions regarding FOBs. In time you will become fluent with this type of terminology and have the experience necessary to make informed decisions.

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