CIF Versus An FOB Contract

This brief discusses the legal implication why buyers and sellers would prefer a c.i.f. contract rather than an f.o.b. contract. The brief starts by defining the f.o.b. and c.i.f. contracts. Then, it examines the legal obligations and rights of the buyer and seller under an f.o.b. and c.i.f. contract. The brief goes on to consider why would a buyer or a seller prefer a c.i.f. rather than an f.o.b. contract by looking at the advantages and disadvantage of a c.i.f. and f.o.b. contract to the buyer and seller. Since there are many variants of F.O.B, the brief concentrates mainly on classic F.O.B.

C.I.F and F.O.B contracts

C.I.F stands for cost, insurance, freight. In C.I.F contracts, the price of goods includes freight and insurance costs to the destination point specified in the contract. The courts have defined C.I.F contracts in a number of cases. Perhaps, the best definition provided in modern times is that of Lord Atkinson in Johnson v Taylor Bros. [1] His Lordship said that unless otherwise stated in the contract, when a buyer and seller enter into a C.I.F contract, the seller is bound to do the following. Firstly, s/he must make out of the goods purchased. Secondly, s/he must ship the goods described in the contract at the shipment port. [2] Thirdly, s/he must procure a freight to deliver the goods at the destination point described in the contract. Fourthly, he must for arrange insurance for the benefit of the buyer. Fifthly, s/he must send the shipping documents such as the invoice, bill of lading, and policy of assurance to the buyer.

F.O.B stands “free on board" and normally is followed by the name of port of shipment. [3] There are no definitions concerning F.O.B contracts. This is a result of many variants to which the term was put during its 200 year history. However, the basic concepts of delivery, property and risks are common to all variants of F.O.B. In Pyrene and Co v Scindia Navigation Co Ltd, [4] Devin J categorised the varieties of F.O.B contracts to what are now known as classic F.O.B, extended F.O.B (F.O.B with additional services) and strict F.O.B. Under the classic F.O.B, the seller puts the goods on board on a ship nominated by the buyer. He said in such a case, the seller becomes a party to the contract of carriage until he takes out the bill of lading in the name o the buyer. Under the extended F.O.B (F.O.B with additional services), the seller makes the necessary arrangements for shipping and the contract may then provide to take the bill of lading in his own name and obtain payment against the transfer. Under the strict F.O.B contract, the shipping arrangements are made by the buyer or his/her forwarding agent, who books space on the particular ship. The buyer nominates the ship and the seller does not play any role in the making of the contract of carriage. This classification was approved by the Court of Appeal in The El Amir and the El Minia [5] 

Obligations and rights of the seller and buyer under C.I.F contracts

Under the C.I.F contracts, the seller has an obligation to ship the contracted goods at the port of shipment. The seller may meet this obligation in a number of ways. This may be by loading the goods at the port of shipment, by allocating to the contracts goods from a bulk that s/he has already shipped or by buying goods that are already afloat from a third party and allocate them to the contract. [6] The seller is also obliged to procure a contract of carriage and prepare shipment documents. Unless otherwise stated in the contract, the seller must prepare an invoice, and obtain a bill of lading and insurance policy. The seller is under obligation to take all reasonable steps [7] to tender at the buyer’s place of business or residence [8] sales invoice, a bill of lading, an insurance policy, documents required by the custom and all other documents as provided in the contract. [9] The bill of lading so tendered must be transferable to enable the buyer to sell the goods on transit. In C.I.F contracts, the seller must also obtain a shipped bill of lading to enable the buyer to know whether or not the goods are on board ship. [10] The bill of lading must be clean without any reservations entered by the carrier as to the conditions or packaging of the goods. [11] The bill of lading must cover the entire voyage, i.e. from the port of shipment to the post of destination. [12] The date of shipment must be correct on the bill of lading. [13] 

As for the insurance cover, it must be on the terms that are current in trade for the benefit of the buyer from reputable insurers for the transit contemplated by the contract. [14] The amount of the cover must be for a reasonable value of the goods [15] and it must only those goods that have been sold by the seller to the buyer (not goods belonging to others) [16] to avoid any complexity in the even of a claim. [17] Unless otherwise stated in the contract, the seller is impliedly obliged to take all reasonable steps to obtain export licence where necessary. [18] However, this will become absolute obligation if the seller undertook to use to use their best endeavours to obtain the export licence, [19] though s/he will not be liable for failing to ship the goods if he was unable to obtain a licence despite the exercise of reasonable diligence. [20] 

In C.I.F contracts, the buyer has an obligation to accept a good tender of documents when tendered by the seller and pay for the contract price. The buyer cannot postpone payment the goods arrive, [21] even where the goods are lost or damaged prior to the tender of the documents and the seller is aware of this. [22] If the contract specifies several ports of destination, the buyer must inform the seller the choice of destination before shipment. If s/he fails to give instructions in time, he must bear the additional costs incurred as a result and all risks of the goods from the date of the expiry of the period fixed for shipment. [23] The buyer must receive the goods at the agreed port of destination and, unless the contract states otherwise, bears all unloading costs and charges incurred in the course of the goods transit, save for the freight and insurance. Unless, the parties have agreed otherwise, the buyer is also responsible for obtaining import licence or permit or the like where required. [24] The buyer bears all the risks of the goods from the time from effectively when the pass the ship’s rail at the port of destination. [25] S/he is also obliged to pay the costs and charges incurred in obtaining the certificate of origin and consular documents. [26] 

With regard to rights, the seller has the right to sue the buyer for the price where the property in the goods has passed to the buyer if the buyer neglects or refuse to pay for the goods. [27] If the seller is in possession of the goods, s/he can retain them till he is paid for them. [28] Property passes when the parties intend it to. The intention of the parties can be found in the contract, the parties’ conduct and circumstances. [29] In CIF contracts, property may pass when goods are placed on board the ship (possible where the seller has not reserved the right of disposal), upon the transfer of documents to the buyer and payment of the price by the buyer to the seller, [30] on tender of bill of lading or when the goods are ascertained if they form part of a bulk. The seller also has a right to sue the buyer for damages for non-acceptance of the goods where the buyer neglects or refuses to them. [31] In C.I.F contracts, the time for acceptance would be the time when the buyer ought to have accepted the documents. [32] 

Other rights for the seller include the right to lien the goods if s/he still in possession of them until the buyer pay, [33] to stop the goods in transit after he has parted possession with them [34] and to resale the goods where they are of a perishable nature or whether he notify the buyer of his/her intention to resell and the buyer does not pay or tender price within reasonable time. [35] However, not all rights are suitable in the context of international sale. For example, in an international context, the right of lien is likely to be limited use since in cases where the seller has contracted on terms other than “ex works" s/he is likely to have handed over the goods to the carrier as required by the terms of the contract. [36] 

The buyer in C.I.F contracts has the right to reject the documents upon tender, where the seller does tender the rights documents or where the documents are incorrect [37] and the right to reject the goods on arrival if they do not correspond to the contract description [38] or are not of satisfactory quality. [39] The buyer must exercise the right to reject within a reasonable time. The buyer has a right to sue for damages for non-delivery of valid documents or goods. [40] In C.I.F contracts, the time when delivery is due is the time when documents are due. [41] The buyer is also entitled to sue for damages for late shipment of the goods and late tendering of the documents. [42] Further, the buyer may claim damages for defective goods. [43] 

Obligations and rights of the seller and buyer under F.O.B contracts

Under F.O.B contract, the seller is obliged to ship the goods in accordance with the contract and any documents conforming conformity which have been agreed and supply a commercial invoice. The seller must deliver the goods at the specified place of shipment as this is regard as a condition in the contract. [44] The seller is obliged to pay for all the handling and transportation costs up to the moment the goods cross the ship’s rail. [45] Under F.O.B contract, the seller is also obliged to arrange for the shipment of the goods to their destination. [46] The seller is only obliged to ship the goods within the shipping period stated after receiving shipping instructions from the buyer. [47] The seller is deemed to have delivered the goods to the buyer when the goods pass the ship’s rail on the date of shipment regardless of the time of arrival at the port of destination. [48] The seller is also required to notify the buyer of the shipment as this may enable the buyer to insure the goods during their transit. [49] However, this would not be the case if the buyer had sufficient information to insure the goods even though s/he may not have had the name of the ship or the exact date of sailing. [50] The seller is also required to obtain an export licence where required, though there are conflicting decisions on this. [51] 

With regard to buyer’s obligations, s/he is responsible securing the shipping space and giving sufficient notice to the seller of the details of the ship including its availability for loading, time and location of the delivery. [52] The buyer is obliged to pay for the goods in accordance with the contract and any cost incidental to the importation of the goods, bear the risk in those goods from the time of their delivery and bear the costs of the provision of assistance by the seller at the request of the buyer. [53] In F.O.B contracts, risks passes along with property along shipment. [54] The buyer is also obliged to obtain any appropriate licences, authorisation for the import of the goods and comply with custom formalities for importation in the country of destination or in a country of transit. [55] 

As for remedies in F.O.B contract, the seller can sue the buyer for non-payment where the property in the goods has passed. [56] In F.O.B contracts, property generally passes when the goods pass the ship’s rail, [57] though this is not always the case. [58] The seller can also sue the buyer for damages for non-acceptance of the goods. [59] Further, the seller has the rights to lien and to resale the goods as provided by the Sales of Goods Act 1979. As for the buyer, s/he may reject the goods on arrival they do not correspond to the contract description or are not of satisfactory quality, or obtain damages for defective goods. [60] The buyer has also a right to sue for non-delivery of the goods by the buyer. [61] 

Advantages and disadvantages of a C.I.F and F.O.B contract to seller and buyer

C.I.F is one of the most popular of trade terms used in international sales contracts. As Lord Wright observed, C.I.F is a type of contract which is more widely and frequently used that any other contract used where sea carriage is envisaged. [62] Unlike, F.O.B contracts, C.I.F contracts are more attractive to both seller and buyer. From a business point of view, C.I.F contracts have a variety of benefits to both a seller and a buyer. These benefits are partly due to the role of the documents in the contract. [63] As for the seller, s/he accommodates the buyer and has the opportunity on increase his/her profits through the carriage and insurance arrangements. [64] The seller’s margin of profit in a C.I.F contract is substantially higher than in an F.O.B contract because s/he may be able to obtain reasonable rates for freight and insurance depending on the prevailing economic conditions. [65] The seller also retains the right of disposal of the goods until payment is made, thereby keeping the level of security. [66] Further, the seller does not bear any risk during the transit of the goods. [67] 

As for the buyer, s/he does not have to undertake the task of finding shipping space or insurance, which may be more difficult in a foreign country due to unfamiliarity with the local business practices. [68] The risk of any increases in shipping and insurance costs remains with the seller. [69] Further, the buyer does not need to pay for the goods until the relevant documents are tendered. [70] Once the necessary documents are tendered, the seller obtains a means to take delivery of the goods, a means to trade the goods whilst on transit or even to use them as security for finance. [71] The buyer also obtains rights against the carrier and insurer to recover at least the value of the goods if they lost or damaged whilst on transit. [72] Finally, it should be noted that the use of C.I.F and F.O.B is closely linked to the economic climate of a country, especially developing countries. [73] Importers are likely to contract on C.I.F terms where foreign currency reserve is healthy in a developing country. If this is not the case, they prefer F.O.B terms because it will save freight and insurance payable to the seller in hard currency under a C.I.F contract. [74] 

Conclusion

There are legal implications why buyers and sellers would prefer a C.I.F contract rather than an F.O.B contract. The implications are based on the legal obligations and rights of the buyer and the seller under these two types of contracts. A buyer or a seller would prefer a C.I.F rather than an F.O.B contract due to the benefits afforded by the C.I.F when compared with F.O.B