How to Avoid Losing Both Goods and Payment under FOB Terms

Statistics show that 70% of China’s export transactions are concluded on FOB terms. However, experts point out that FOB carries greater risks for exporters and may lead to the loss of both cargo and payment. This article aims to offer useful guidance to readers.

An increasing proportion of China’s export contracts adopt FOB price terms. In such transactions, few consignees nominate shipping lines, while many appoint overseas freight forwarders, which is inconsistent with the definition of FOB. What are the drawbacks of concluding export contracts on FOB terms? Why is its application growing? How should exporters respond?

Why FOB Is Gaining Popularity in Export Business

In the 1980s, China’s foreign trade was under state control. Except for a small number of Sino-foreign joint ventures, foreign trade rights were limited to specialized foreign trade corporations at central, provincial and municipal levels. It was not until the late 1980s that such rights were extended to prefectural and county-level foreign trade companies and key manufacturers. At that time, China’s shipping market was not yet open to the outside world. The ocean trunk services operated by COSCO were far from meeting export transportation demands, and a large volume of export goods had to be transshipped via Hong Kong. To protect domestic shipping and insurance industries, the state advocated CIF for exports and FOB for imports, which became the principle for negotiating transport clauses in foreign trade at that time. Nevertheless, multiple transshipment legs for export cargo often led to inaccurate information about on-carriage vessels, with vessel names revised repeatedly. Some buyers also insisted on FOB with nominated carriers to prevent sellers from applying for advanced or anti-dated bills of lading.

Since China opened its shipping market in the 1990s, foreign liner companies rushed to establish operations at major coastal ports in China, especially the Port of Shanghai. The entry of foreign carriers made it possible for overseas buyers to nominate shipping lines. Meanwhile, Sino-foreign enterprises flourished, and import & export rights were granted to manufacturers and research institutions. The landscape was no longer dominated solely by specialized foreign trade firms; instead, a broad-based foreign trade pattern took shape. In addition, international trade shifted from a seller’s market to a buyer’s market. Apart from state-owned enterprises retaining traditional practices of CIF exports, other enterprises adopted pricing strategies based on market conditions, pushing up the volume of FOB shipments.

As overseas shipping companies expanded into China’s shipping market, overseas freight forwarders also poured into the market. Active involvement of overseas forwarders drove a sharp rise in FOB shipments with nominated agents. Furthermore, liner carriers imposed frequent, substantial and sudden freight rate hikes after 1997, eroding thin profit margins and even resulting in freight losses. Some foreign-invested business personnel opted for FOB to hedge freight rate risks. Consequently, FOB export volumes surged year after year in recent years, exceeding 80% at some foreign-funded enterprises and showing an upward trend.

Under FOB, Buyers Are Supposed to Nominate Shipping Lines. Why Do They Appoint Overseas Freight Forwarders?

Under FOB Incoterms, risk division occurs when goods pass over the ship’s rail, meaning the seller delivers goods to the shipping line. In practical FOB applications today, shipping lines are rarely nominated; most buyers appoint overseas freight forwarders. According to ICC Incoterms 1990 and 2000, if an overseas freight forwarder is nominated under FOB, the FCA term should be adopted. Under FCA, risk and cost division no longer hinges on goods crossing the ship’s rail; instead, risks transfer when goods are handed over to the buyer’s nominated carrier at the designated place. Although FCA was released over a decade ago, it has seen very limited practical adoption. This is mainly because trading parties lack sufficient understanding of FCA and prefer customary trade practices. Even under FCA, sellers still receive house bills of lading without title to the goods. These factors explain why FCA has not been widely used, while modified FOB practices remain prevalent.

Why do buyers nominate freight forwarders under FOB? Buyers’ considerations mainly include the following: some require forwarders to handle customs clearance, consolidation, distribution and logistics services; some want forwarders to keep them updated on exact delivery and shipment status; others can secure preferential freight rates via appointed forwarders. Of course, a small number of dishonest traders may collude with freight forwarders to defraud sellers of cargo. It follows that nominated overseas forwarders prioritize buyers’ interests. In a buyer’s market, sellers proceed with transactions despite known risks, as they have few alternatives.

What Happens When Cargo Is Released Without Original Bills of Lading?

Except for several well-known international freight forwarders, the qualifications of most overseas forwarders are difficult to verify. While cargo release without original B/L is perpetrated by a small number of bad actors, the threat constantly hangs over shippers. Dishonest traders collude with overseas forwarders: they usually place several small orders to make shippers feel safe about payment collection, then defraud cargo through large orders. The core risk lies in the nature of house bills of lading. A house B/L is only used by sellers for bank negotiation and is not a document of title. The master bill of lading, the genuine title document, remains in the possession of the freight forwarder. The forwarder takes delivery of goods against the master B/L, while the buyer refuses to redeem documents from the bank. As a result, the seller loses both cargo and documents. Sellers therefore remain highly vigilant when facing nominated overseas forwarders under FOB, fearing catastrophic losses. Foreign trade enterprises have adopted preventive measures, such as credit checks via international agencies like Dun & Bradstreet, export credit insurance (which generally excludes this type of risk), requiring buyers to obtain guarantees from nominated overseas forwarders, and strengthening internal review procedures. Still, risks cannot be fully eliminated.

MOFTEC has issued the Notice on Mitigating Risks of Cargo Release Without Original Bills of Lading to foreign trade enterprises and freight forwarding industry through local foreign trade authorities. Foreign trade practitioners may present this notice to customers and request them not to nominate overseas forwarders, or demand a letter of indemnity from domestic forwarders issuing bills of lading. Both are effective solutions. The former can be difficult to implement because overseas forwarders may interfere and buyers often disregard sellers’ requests. The latter is currently the optimal approach. Overseas forwarders establishing offices in China must be recommended by a domestic freight forwarder. In theory, the recommending domestic forwarder should be liable for verifying the overseas agent’s credibility. However, existing Chinese regulations impose no obligations on recommending parties, and nominated overseas forwarders may not conduct agency business through their domestic referrers.

This MOFTEC notice stipulates that bills of lading issued by overseas forwarders must be signed and controlled by domestic freight forwarders, who shall issue letters of indemnity to shippers to safeguard cargo title. This requires domestic forwarders to vet overseas forwarders’ qualifications before assuming such liabilities. Meanwhile, overseas forwarders cannot act as buyers’ nominated agents without cooperation from domestic forwarders, so buyers will not blame sellers for rejecting their nominated agents. The provisions in the Notice benefit Chinese shippers. Its effective implementation depends on regulation enforcement of the freight forwarding industry by government authorities at all levels. In addition, the Ministry of Communications should notify shipping lines that bookings made by overseas forwarder offices must be processed through domestic freight forwarders, so as to regulate business operations of overseas forwarder offices in China.

Before full implementation of the Notice, the only remedy for cargo release without original B/L by overseas forwarders is to file a lawsuit and closely monitor the overseas forwarder’s office. Fraudulent forwarders often disappear once they obtain cargo. Even if a court judgment is won, compensation may not be recovered. Sellers usually first claim compensation from buyers when such incidents occur. Legal professionals warn that improper wording in claims against buyers, or buyers submitting false repayment plans to delay proceedings, may lead to loss of lawsuits.

Are Charges by Overseas Freight Forwarders Reasonable? Can Cargo Owners Refuse Payment?

Under FOB terms, sellers bear costs incurred before goods cross the ship’s rail. Pre-shipment operations are entrusted by sellers to freight forwarders. Fee standards vary across ports, or all-in rates may apply. Nominated overseas forwarders under FOB are nominally not permitted to operate in China, yet they conduct business indirectly via domestic forwarders who issue unified freight invoices. Their charges are generally higher than standard rates. If payment is refused, forwarders will withhold bills of lading. Eager to obtain B/L for bank negotiation, sellers often have no choice but to settle charges to secure documents. To resolve this issue, freight forwarding associations may set rules for member companies, prohibiting unauthorized operation and invoice issuance on behalf of others. Alternatively, regulations may require pre-shipment services for overseas forwarders to be handled by domestic forwarders appointed by shippers, so as to avoid excessive charges.

Expert Consultation

In recent years, some importers collude with their nominated freight forwarders in FOB export contracts to take delivery of goods without original bills of lading, causing Chinese exporters to lose both goods and payment. At the end of last year, MOFTEC issued a notice requiring strict measures to stop such incidents and recommending exporters adopt CIF payment terms.

According to International Business Daily, the measures proposed by MOFTEC include:

1. Adopt CIF or CFR terms whenever possible and avoid overseas buyers nominating overseas freight forwarders to arrange transportation.

2. If buyers insist on FOB and nominate shipping lines and forwarders, nominated shipping lines may be accepted, while the qualifications of freight forwarders must be reviewed; only government-approved forwarders shall be accepted.

3. If buyers still insist on appointing overseas forwarders, exporters shall require bills of lading from such overseas forwarders to be issued by MOFTEC-approved domestic freight forwarders who retain control over cargo. The issuing domestic forwarder shall provide a letter of indemnity, undertaking to release goods only against original bills of lading circulated under letter of credit at destination ports, and to compensate for losses arising from cargo release without original B/L.

4. Foreign trade companies shall not readily accept house bills of lading, particularly those issued by overseas forwarders nominated by foreign buyers.

This issue has triggered extensive discussions among export enterprises. Which delivery term is safer? What precautions should be taken under different terms?

As we all know, the main trade terms adopted to define delivery obligations in China’s foreign trade are FOB, CIF and CFR, all of which are shipment contracts. According to an ICC survey conducted in over 40 countries in the late 1990s, FOB ranks first in frequency of use. Under FOB, sellers are not responsible for transportation and insurance after delivering goods at the port of loading, and are free from risks of freight rate hikes. Many people hold a misunderstanding that risks under these three common terms are identical, with risk transfer at the ship’s rail, and all costs ultimately borne by buyers with differences only in parties’ obligations. This misconception leads some traders to neglect careful selection of trade terms and suffer unexpected losses. In fact, the “risk transfer at the ship’s rail” specified in Incoterms 2000 only allocates liability for loss of or damage to goods during handover. It does not cover all risks, especially risks of payment collection.

Practical experience proves that sellers should carefully select appropriate trade terms based on transaction specifics to mitigate collection risks and improve economic returns. Below are key considerations for trade term selection:

1. In general, CIF or CFR is more advantageous than FOB for export transactions. Under CIF, the seller is the contracting party for three contracts in international sales: sales contract, carriage contract and insurance contract. The seller may coordinate production, shipment and insurance flexibly to ensure smooth workflows. In addition, CIF helps develop domestic shipping and insurance industries and increases service trade revenue. This is not absolute; sellers shall assess practical constraints on transport arrangement and economic viability based on product characteristics.

2. If FOB has to be adopted, the schedule for the buyer’s vessel to arrive at the loading port shall be clearly stipulated in the contract. This prevents delayed shipment when goods are ready but vessels fail to arrive on time.

3. Carefully consider whether to accept overseas forwarders nominated by buyers under FOB. Cases of buyers colluding with forwarders to secure cargo release without original B/L, resulting in sellers’ total losses, have occurred repeatedly. Some overseas forwarders only maintain small offices at loading ports without actual shipment handling capacity and outsource operations to local institutions, adding process steps, reducing efficiency and raising costs. Sellers shall verify the qualifications of nominated forwarders and reject appointments when necessary.

4. Trade term selection shall be coordinated with payment terms. For sales on open account or documentary collection, FOB and CFR should be avoided as far as possible. Under these two terms, sellers are not obligated to purchase cargo insurance, which is arranged by buyers. If market conditions turn unfavorable for buyers, they may refuse to take delivery and fail to buy insurance, leading to total loss of goods and payment if cargo is damaged or lost in transit. If FOB or CFR must be used, sellers shall take out seller’s interest risk insurance locally.

5. Even under letter of credit payment, attention shall be paid to stipulations concerning shippers. Under FOB, some overseas buyers require the bill of lading to name the buyer as the shipper in L/C. This practice also creates collection risks for sellers. One such case occurred in international trade: sales concluded on FOB with L/C payment. The L/C issued by the buyer required the B/L to show the buyer as shipper. The seller discovered this clause during L/C examination but assumed it was reasonable since the buyer contracted with the carrier. The seller also worried about extra amendment fees and shipment delays, so the requirement was accepted. The B/L presented after shipment listed the buyer as shipper. However, the bank refused payment due to document discrepancies and returned the documents.

While goods were in transit, the buyer, as shipper on the B/L, instructed the carrier to release cargo to its nominated consignee. Although the seller held the original B/L (document of title), the cargo was already collected by the buyer’s consignee. The seller sued the carrier for wrongful release without original B/L, yet the court dismissed the case on the grounds that the seller had no standing to sue. This example shows that identification of shipper under FOB contracts carries significant implications. Under the Hamburg Rules, there are two types of shippers: one who concludes a contract of carriage with the carrier, and one who hands over goods related to the sea carriage to the carrier. Accordingly, both buyers and sellers can qualify as shippers under FOB. Naming the buyer as shipper may be acceptable if the buyer has sound credit and intends to resell goods in transit. Otherwise, the seller should be named as shipper for security.