Trade Secrets

Good old-fashioned barter can help companies acquire goods without cash and discover new marketing opportunities.
Advertisement

In the 17th century, tuition at Harvard College could be paid for with cows. That is not so surprising, considering that, in colonial America, trading goods for other goods -- furs for rum, or a few beads for a big island -- was standard commerce in the absence of a common currency. What may come as a surprise is that 300 years later, in a vast economy ostensibly fine-tuned by scores of federal agencies, a college education still can be paid for with goods in kind.

The University of Detroit recently joined a formal barter exchange -- one of hundreds that have sprung up across the country. Through the exchange the university swaps sports tickets, seminar fees, part-time admissions, and even the cost of an entire tuition for such operating needs as vehicles and air conditioning. The arrangement is unique in academe, says vice-president of finance Nicholas DeGrazia, but "it works like a charm."

Exactly so, chorus most of the 60,000 mainly small businesses that in the last few years have also become enthusiastic members of barter organizations. Indeed, the use of business-to-business barter -- and the barter industry itself -- is a fast-growing phenomenon that, practitioners foresee, has barely begun. According to the International Association of Trade Exchanges, the barter industry's trade organization, the dollar value of domestic bartering grew 10% to 15% last year, to as much as $350 million.

A reported 65% of New York Stock Exchange -- listed corporations conduct at least part of their business through barter. And one university study predicts that by 1990 as much as 15% of U.S. sales volume will be in barter. Indeed, starting with the simple I'll-do-your-teenth-if-you'll-handle-my-will exchanges that were popular a few years back, now virtually every enterprise imaginable is involved in cashless exchange. Just about the only exception, one professional barter broker says wryly, is the U.S. government. "Why won't they barter?" he laments. "They don't have any money."

The kinds of products available through formal barter run the gamut of industrial America -- and sometimes well beyond. Old standbys, like advertising, radio spots, hotel rooms, and airline passage, are in copious supply. So are hoists, fire alarms, movers, lawyers, clothing, junk, copywriters, signs, secretaries, insurance, stationery, and just about anything else a business could possibly need. And there are a few things most businesses can afford to do without: A restorer of antique slot machines has offered a jewel-encrusted one-armed bandit worth $1 million; another trader has put up a personal submarine. As of this summer, neither had yet found a home.

The major stimulus for the current boom in commercial barter undoubtedly emanates from the otherwise lamentable state of the economy as a whole. Drastic times demand drastic responses. A small rose in a vast onion patch, the concept of barter clearly smells sweet to an entity burdened by inflation, recession, shortages of cash, tight credit, slumping sales, surplus inventory, and the host of other ills that business is heir to.

Barter may not deliver cures, but at least it provides crutches to help an enterprise stumble through to better times. For one thing, in many instances bartering can move sluggish inventory, thus saving painful write-downs. For another, a company can immediately acquire its operating wants without borrowing or spending money, thus preserving cash flow. By utilizing spare capacity without adding overhead, bartering reduces production costs. By filling otherwise idle space and time, it enhances profitability. But perhaps its main attraction is the fact that by joining the barter system a company enters a swap-savvy market of merchandise-hungry customers who almost automatically add new business to a company's coffers.

As modern barter gains acceptance, it also undoes the shackles of past opprobrium. A business known to engage in barter no longer is an outcast in monied circles. And because companies that barter a lot are apt to be scrutinized by the Internal Revenue Service, commercial barter is not the haven for tax evaders it once was. (All transactions, whether business or personal, are treated for tax purposes as if they were performed on a cash basis at fair market value.)

Right now bartering is enjoying its finest hour since the deal between the Manhattan Indians and Peter Minuit. Orchestrating the trading frenzy in large part are three major bartering companies, which together sponsor about 190 of some 300 trade clubs and independent match-makers around the country. These companies perform several functions -- some, like any for-profit enterprise, self-serving. Primarily, a trade club acts as a bank, servicing deposits and withdrawals of goods and services rather than of cash. It is also a broker or sales agent, finding customers for members' and clients' products. Many act as principals in direct competition with their members, buying merchandise, marking it up, and offering it for trade in the system. They can also perform as purchasing agents, scouring lists for, say, office equipment, and as ad agencies, swapping for media space.

As more businesses discover barter, more revenues flow to barter clubs through fees and franchise royalties. The country's largest club is privately held, 12-year-old Exchange Enterprises International, in Salt Lake City. In 1981, the company's 65 offices (most are franchised, but a few early entries are fully independent licensees) traded about $150 million worth of goods and services through about 30,000 members. According to its co-founder and president, Gaylen Rigby, Exchange Enterprises is adding new offices at the rate of two or three per month, and expects to barter more than $200 million worth of goods and services this year. Many offices exceed $1 million a month and, Rigby confidently claims, can keep up the pace "forever."

Close on its heels is six-year-old Barter Systems Inc., in Oklahoma City, with some 25,000 clients in 66 franchised barterships. Barter Systems also expects to exceed $200 million in dollar trading volume in 1982, double last year's total. Third-ranked is Business Exchange International Inc., in North Hollywood, Calif., the only such enterprise so far to go public (Nasdaq symbol: BXBX). Business Exchange boasts 68 franchises, a 66% rise in revenue for 1981, and a doubling of per-share earnings to 25?.

One Barter Systems franchisee, Frank M. Sahlman Jr., successfully plays both ends against the middle, operating two offices in the San Francisco area plus his own ski shop in Squaw Valley. Sahlman began bartering in 1977, reached $2 million in trade in 1981, and expects to hit $5 million to $6 million by the close of this year. The ski shop inventory comes largely through barter, with goods taken in for the fall and unsold merchandise traded back out in the spring. What is more, a number of Sahlman's 500 members especially seek out his shop for ski outfitting through barter -- customers an ordinary cash business could not attract. Sahlman himself gathers 75% of his family's personal needs through barter. "We don't think of money anymore," he says. "Every time we're about to spend cash, we realize we can trade instead."

The instrument that has wrought such a moneyless marvel of commerce is the computer. Eventually every transaction may be conducted electronically, but perhaps one reason for barter's vigorous reemergence today is that it got there first with the notion that money -- a storehouse of value that was ingenious in its day -- is antiquated. Says one typical barterer, "It's the bottom line that counts. Who cares how you get it?" Theoretically, the computer can match buyer with seller, weigh the equivalence of the transaction, disgorge credits and debits, revise and analyze the effect of supply and demand on the system, substantiate creditworthiness, print out accounts, locate merchandise, and perform the scores of actions essential to any economic entity.

Indeed, barter is its own economy, a self-enclosed gathering of manufacturers, professionals, and retailers who, by supplying one another with operating needs, also contribute to one another's profits. That barter's "gross national product," the exchange of goods and services, is dramatically increasing cannot be denied. But can it continue, or is it all destined to disappear once the dollar economy becomes sound again? The answer isn't simple, because barter itself is no longer simple. The concept has evolved into complex, sophisticated fiscal interplay that seemingly begets no losers.

One reason is that, so far, barter is a manageable microeconomy with more built-in controls than any economy yet devised. A given business or service can get admitted into a barter club only if its products can be placed and if it does not overburden the exchange with repetition. Like capitalism, barter cannot tolerate excess; too many plumbers will spoil it for all plumbers. Therefore, supply and demand must be carefully matched. What is a drag in dollars is apt to be a drag within barter as well. Contrary to some extravagant claims, bartering can't take dead inventory and breathe life into it.

There are some exceptions, thanks to national supply-and-demand networks monitored by the computers of barter companies. A manufacturer in San Francisco, for example, was stuck with $17,000 worth of cowboy hats in an expired local market. Ordinarily they would have had to be swallowed at a big loss. But the company offered them through barter, and a retailer in Knoxville, where cowboy hats were still in vogue, jumped at the chance to take the entire lot at an advantageous price. In another instance, Wilson Sporting Goods Co. had a surplus of $100,000 worth of specialty golf balls that were absorbed into barter exchange.

The revival of barter in the past few years has been a phenomenon more of lessening scale than of increasing practice. Actually, for decades, large businesses have been engineering international swaps of huge magnitude with countries, never mind companies, that were squeezed for cash. One large company involved in such trade was Xerox Corp. Realizing that if markets could be expanded through barter overseas they could be expanded at home as well, a panel of Xerox pundits studied the domestic bartering scene last summer. To their surprise, no snares were found. "Nobody could figure out anything wrong with it," recalls the corporation's manager of re-seller strategy, Leo McDonough. Through Barter Systems, Xerox agreed to enter into what probably is the largest single barter contract in this country thus far -- an offering of approximately $2 million worth of copiers and computers to be traded for such business needs as real estate, cash registers, telephone answerers, and moving services.

The offering was oversubscribed. This summer Xerox was still in the process of "trading out," as collecting on one's credits is called, and no doubt it will strike other deals as its needs dictate. The company is "pleased," says McDonough, appraising domestic barter as "a very good marketing channel with a high degree of incrementality. These are customers that we wouldn't ordinarily have had." The new Xerox users were barter's Middle America -- mostly small businesses that its sales efforts weren't reaching.

The biggest problem, McDonough finds, is altering previous purchasing patterns. "When you're buying something," he counsels, "you have to get used to going with your No. 2 or No. 3 choices, rather than No. 1. No. 1 may not be bartering." To help various departments cope with the strictures imposed by bartering for business needs instead of paying for them, Xerox has devised a barter-oriented buyer's guide.

To some degree, barter is cost-effective -- as promised by promoters -- but a business won't get rich on it. The pivotal idea is that, though goods in kind are valued at their fair market, they cost a company only what has been put into them -- 60? of a retail dollar, say. Suppose a tailor wants to trade a $100 suit. When it is "sold," his account is credited with the full amount -- $100. But in reality he has anted up only his time and the materials -- say 60%. He thus has made a gain of $40. In a dollar economy, we would call that a solid profit. In barter, however, it either goes to "buy" someone else's goods, or it does nothing. The tailor trades out for a sewing machine, perhaps priced by its manufacturer to sell at $100 but costing the manufacturer $60. The tailor marvels at the fact that he has actually saved $40 on a piece of business equipment he ordinarily would have had to purchase at full price. And, spending no money, he has created no negative cash flow. Now, the manufacturer has the trade credit; he goes down the line and spends it at a 40% "discount" as well. A trend is thus set in motion that, should it continue, would drive prices to zero.

Clearly, the notion is absurd. The discounting must stop mathematically and a real-dollar markup enjoyed. What does it profit a man if he ends up with a warehouse full of cheap goods? Somewhere either a universal unit of exchange -- in this case, the dollar -- must reenter the picture, or barter credit must become the universal unit of exchange. If the latter, then in the end nothing will have changed.

For the obvious reason that ultimately a profit is necessary to finance business growth within a dollar economy, most trade clubs advise that barter dealings not exceed 10% of gross sales. Furthermore, barter has yet to devise a method of paying interest on idle earned trade credits. Thus a business that cannot trade out immediately is not making efficient use of the system. (But now barter credits can be insured like bank deposits: In July, Barter Systems instituted protection against the Chapter 11 demise of any of its franchises.)

If a business's contributions are judged useful -- and some are apt to be marginally so, since many businesses choose barter because of distress -- the business must pay an entry fee of several hundred dollars, plus a yearly renewal fee of about the same amount. It is also charged a percentage of its sales -- usually 8% to 10%. Says David A. Hawley, national sales vice-president for Business Exchange, "Look at bartering as marketing, more than anything else. The 8% fee is like paying a salesman."

Right now, bartering is effective because it takes place within very tight circles.There is mutual handwashing within each parent club. Each barter company issues trade units -- the equivalent of a dollar. (But there is inflation even in barter: When Barter Systems audited its books, it found that its trade unit was worth only 84? in dollar terms.)

Once a business is admitted to trading, it registers its offerings, for whatever level of barter it deems appropriate. Exchange salespeople then get busy and try to dig up customers. To facilitate the resultant swap, most trade clubs employ homegrown credit cards that vouch for the customer's membership. One club, Business Exchange, uses a checking account and "certifies" customer checks. Although some clubs tolerate a small amount of trade-unit debt, only Business Exchange arranges for larger lines of credit -- up to $20,000 at 12% interest as of this summer. So far one problem has been that, unlike coin of the realm, trade units are not exchangeable even among the clubs, since spending another's "specie" would unravel everything.But now Barter Worldwide Inc., a broker out of Los Angeles, with a computer-accessible data base of traders, has begun acting as a clearinghouse for all barter and anticipates establishing centralized barter credit.

Such modifications tend to blur the distinction between barter and money. The idea of trade units functioning as money, for example, has now leeched into the outside economy. A few cash-strapped businesses are paying employees partially in trade units; the recipients can then go to a company store -- Barter Systems, for one, operates showrooms filled with merchandise -- and pick up gewgaws, take vacations, or purchase whatever else may be available through barter members. Other companies give their workers trade units as bonuses, again expending wholesale dollars.

Although barter by definition eschews the use of money, in fact money is very much involved. For one thing, a barter company may pay cash as principal to stock up on inventory (such as stereo components), which it resells for trade units through company stores. Other barter companies accommodate transactions that are only partly barter, the rest being money on the barrelhead. But of more concern to a member is that goods exchanged for trade credit within the system have been paid for with money somewhere along the line. Salaries, raw materials, overhead, and not the least of it, taxes, all have to be accounted for. Eventually, inventories will have to be replenished.

It is one thing to be a haven in the midst of adversity. What will happen when today's economic black clouds blow over and the sun shines on the dollar again? Undoubtedly, many of barter's advantages will remain. But if each business continues to trade solely with other businesses within the system or if businesses are allowed to compete freely within the system, that microeconomy will gradually wind down and expire.

Nonetheless, as Xerox discovered, barter has earned its place. Like the world's oldest profession, the world's oldest way of doing business will always be with us. It seems unlikely that barter can continue to make inroads into the dollar economy much beyond its present level. Its proponents, of course, believe otherwise. Argues Exchange Enterprises's Rigby, "We provide wants and needs without the use of cash; people's wants and needs will never cease." But even if the goose laying golden eggs is smothered by its own weight, one by-product will linger: Because businesspeople must often meet each other face-to-face to iron out the details of a brokered swap, says Frank Sahlman, barter "creates new friends, not just a bunch of anonymous order clerks."

Last updated: Aug 1, 1982




Register on Inc.com today to get full access to:
All articles  |  Magazine archives | Livestream events | Comments
EMAIL
PASSWORD
EMAIL
FIRST NAME
LAST NAME
EMAIL
PASSWORD

Or sign up using: