Business Essentials: Letter of Intent (LOI), Part 2: Diving into Structure — WHAT and WHY?
When creating an LOI, two of the most commonly asked questions among novice traders and brokers are: WHAT should I include? And WHY should I include it?
In my article from August 30, 2024, I explained the importance of preparing and sending a well-crafted Letter of Intent (LOI). Today, I’d like to dive deeper into the structure of an LOI and answer those crucial WHAT and WHY questions.
Revisiting the Basic Structure of an LOI
To ensure efficiency and clarity in negotiations, an LOI should include the following key elements:
1. Name of the Product
2. Specifications: Detailed information about the product’s grade, quality, or other specific attributes.
3. Desired Countries of Origin
4. Quantity: The exact amount of the product needed.
5. Contract Length: The duration of the agreement or the delivery schedule.
6. Port of Delivery: The intended destination where the goods should be shipped.
7. Packaging: Requirements for how the product should be packaged for delivery.
8. Preferred Payment Terms: Payment conditions acceptable to the buyer.
9. Other Details: Any additional information that could impact the transaction.
Now, let me explain the WHAT and WHY behind each element:
1. WHAT: Product Name
WHY: The product’s name is the foundation of the LOI. The buyer’s task is to ensure it’s accurate and reflects the exact product being sought. Remember, in international trade, English is widely accepted, but not all parties come from English-speaking countries. In my experience, incorrect translations of product names often lead to misunderstandings (e.g., soybean vs. soybean seed, wheat vs. wheat flour).
2. WHAT: Specifications
WHY: As the buyer, you know exactly what type of commodity you want. Include the specifications so the seller can assess if they can meet your needs. If you’re open to slight variations, mention this in your LOI, but still provide the most desired specs. Novice brokers sometimes play a “hide and seek” game, hoping to gain an advantage by withholding details. This is a common mistake and wastes time for both parties.
3. WHAT: Country of Origin
WHY: This is essential for several reasons:
1. Quality — For example, coal with the same KK values produced in Colombia and South Africa are very different in quality.
2. Transportation costs — Products shipped from a location closer to the final destination will generally cost less per metric ton.
3. Sanctions — Some countries may be restricted due to government sanctions, so it’s important to consider legal implications.
4. WHAT: Quantity
WHY:
1. Most sellers have a minimum required order, and if a buyer requests less, there may be no offer.
2. Quantity often correlates directly with price — the larger the order, the lower the cost per MT.
3. Sellers need to see realistic demands upfront to provide a viable offer, especially if supply is limited.
5. WHAT: Contract Length
WHY: The length of the contract (whether a one-time purchase or ongoing) impacts both price and terms. The contract duration can vary greatly depending on the commodity, so clearly indicate your contractual goals. Keep in mind, spot deal prices are typically higher than those for longer-term contracts (annual or semi-annual).
6. WHAT: Port of Delivery
WHY: Some buyers have their own vessels and prefer to pick up goods at the loading port, while others prefer purchasing under CIF (Incoterms 2010). It’s essential for the buyer to indicate their preferences clearly in the LOI.
7. WHAT: Packaging Requirements
WHY: Packaging directly affects both price and the speed of loading, which in turn can impact the final cost. For example, in agricultural commodities, the choice between bulk or bags can affect not only pricing but also logistics at the buyer’s port. If cranes were used to load bulk cargo but the receiving port doesn’t have cranes, packaging in bags may need to be considered.
8. WHAT: Payment Terms
WHY: As a buyer, it’s crucial to demonstrate your seriousness by specifying transparent and secure payment methods. Irrevocable Letters of Credit (LC) from top banks are widely accepted. Why from top banks? Depending on the contract size and duration, smaller banks may lack the necessary tools (e.g., may not work with LCs at all). If the seller has different terms, they’ll reflect them in their Full Corporate Offer (FCO).
9. WHAT: Other Details
WHY: Components like insurance and inspection are integral to successful transactions. Additionally, buyers can request performance bonds from sellers to ensure security.
There are industry standards that buyers and sellers follow, and the key is to do your research and manage expectations. A well-prepared LOI will lead to a genuine offer and save time for both parties.
More to follow in future articles.
@ Kate Foronda
foronda.us
