Supply Chain

How Barter Can Aid Storm Victims

Long used to solve an array of marketing problems, "corporate trade" deals can enable companies to wring value out of unused goods. With some creat...
Helen ShawSeptember 22, 2005

The disaster wreaked by Hurricane Katrina has prompted businesses to donate time, products, and money. Possibly unknown to many financial executives is a way that companies with large underperforming or non-performing assets could donate those goods to a charity and get cash for their fair value in the process: corporate barter.

When a marketing blunder or a logo change prevents perfectly decent products from being sold through the usual channels, such assets become ripe for swaps with other corporations. After the catastrophic December 2004 tsunami, for instance, a pharmaceutical company had 48 million prescription pain-relief and anti-inflammatory pills it wasn’t selling, according to Clarence Lee, CFO of Icon International, a corporate barter company owned by Omnicom.

The drug company had bought pills manufactured by another company that doctors commonly prescribed along with theirs. The idea was to sell both drugs in tandem under a new name. But physicians persisted in prescribing the drugs as they previously did because they did not remember the new product’s name, explained Lee, who said he couldn’t identify the company because of a client confidentiality agreement.

Icon paid the pharmaceutical company $7.5 million in cash for the medicine, which could have been destroyed, sold to another company for remarketing, or donated. The parties agreed to donate it. Icon provided the medicine to AmeriCares, a charitable organization that supplies humanitarian aid and disaster relief, which used the medicine in the Pacific Rim as part of the charity’s relief efforts after the tsunami. In exchange for the $7.5 million, the pharmaceutical company committed to buying $52 million of media advertising—ads it would need to buy in any event—from Icon over three years.

At Icon’s request, the Food and Drug Administration certified the drugs’ viability in a letter to AmeriCares. Further, Icon received a charitable tax deduction for its cash payment for the medicine. For its part, besides the cash, the pharmaceutical company got to take credit for the donation.

Just as the pharmaco’s barter produced the effect of a donation of medicine, companies with hefty amounts of unused or underperforming assets could help relief efforts in Katrina-devastated areas and get value from the transaction, barter-company experts say.

Besides medical supplies, the assets could be clothes, machinery, or many other kinds of excess goods or capacity. “A number of clients have called us to ask if they can use their cash purchase obligations or trade credits [with the barter company] to buy hotel rooms” for hurricane victims, said Lee. So far, Icon’s clients have been unable to “donate” their hotel credits because extended-stay hotels across the Gulf Coast have been sold out. “The problem is that hotels are booked and know they can get full rates,” he explained.

High Spirits and Hardware Deals

Perhaps companies can find other ways to use barter—also known as “corporate trade”—to help storm victims. In general, barter companies make profits because they buy such goods and services as media, cargo space, and hotel rooms before they’re used and therefore get them at a discount. When the barter firm resells an airplane seat or a hotel room, for instance, it can sell it at the prevailing market price and take advantage of the difference in the cost of a product over time.

The corporate barter industry’s revenues are about $1.75 billion, estimates Lee. “By engaging in a barter, a company doesn’t need to take a loss on the asset and can receive full value of that asset going forward by using trade credits to offset cash outlays of things they buy,” explains Elliot DeBear, senior vice president at Active International, a corporate trade firm.

Businesses, however, have used barter to solve an array of different problems. For example, Allied Domecq, a company that manufactures and sells spirits and wines, had $5 million worth of spirits that the marketing team no longer wanted sold because of label and bottle changes, said Regenia Cafini, Allied Domecq’s controller for North America.

The spirit-maker, which owns Dunkin’ Donuts and Baskin-Robbins and other brands, entered into a $5 million corporate-trade transaction. Icon paid $5 million in cash to Allied Domecq, which agreed to buy over $5 million in goods and services, mostly consisting of advertising, from Icon. The spirits’ ownership and risk of loss was transferred to Icon, and the barter firm managed the logistics of taking physical possession of the goods. Allied Domecq has a reason to fulfill its part of the deal by buying advertising through Icon: the contract lists penalties if the client doesn’t comply.

In another case, Ace Hardware Corporation two years ago engaged in corporate barter to jump-start the promotion of one of its brands. The company, a $3 billion co-operative that has 4,800 retailers across the country, wanted to replace a supplier’s builders’ hardware products—including such things as hinges and door stops—with those of an Ace private-label brand. “The challenge was that we had a significant amount of inventory with an existing vendor in our stores,” recalled Peter Ting, assistant controller at Ace.

Although the company could have marked down the product in all the stores, its structure as a co-op made it hard to do across the board. A price markdown would have entailed sending a memo to the 4,800 stores and stating a time period for the sale, according to Ting, who said that it would not have been cost effective to do that. In the end, Ace chose Active International to engineer a $6 million buyback. Active bought the products from the retail stores for $6 million in trade credits, and, in exchange, Ace agreed to use the credits with Active in the next five years by purchasing goods and services. “There are other areas we continue to evaluate for using credits,” notes Ting, “including computers, supplies, rental cars, hotels, and ocean freight.”

Along with its obvious benefits, however, barter entails performance risks for corporations. For example, some barter companies have shuttered their doors before fulfilling their end of deals. Cafini said the previous barter company her company had worked with had gone out of business before their entire transaction could be completed.

Another top concern for trade clients is to have control over the quality of the goods purchased— for example, not many companies want to buy a radio advertisement slated to run at 2 a.m. Negotiations over the barter trade can include such things as the timing of the ad and the amount that’s bought. “You only want to barter things that will have other value in your business,” advises Cafini.

For Cafini, the due-diligence required in advance of the deal and the amount of learning entailed to understand corporate trade were significant challenges. Through the due-diligence process, Cafini learned about the inefficiencies within her company and its outside advertising agency. “Sometimes that’s painful,” she said.

Indeed, the existence of excess inventory is something many companies would rather hide and write off, rather than having to assess it and work with various corporate departments to organize a barter deal, notes Lee.

But one particular positive can outweigh those negatives. In a word, that upside is cash. “The fact that we could take these goods immediately and get value from them in today’s dollars, and knowing that we had enough to spend on the purchase side of the obligation without materially changing our business—that was the value to us,” explained Cafini.