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  • 4.3.1-COTTON TRADING-COTTON EXPORTS AND INTERNET AUCTIONS: A CASE STUDY

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  • Cotton exports and Internet auctions: a case study

    Chapter 4 - Cotton trading - Cotton exports and Internet trading 

     
     

    Auctions are a time-tested manner of selling cotton from origin to the trade. For decades, cotton producers in Mali, Côte d’Ivoire, Sudan, Argentina, Pakistan and others have auctioned their cotton to merchants. Traditionally, auctions have been conducted via sealed bid, with buyers using a local representative to deliver a single submission to the seller by a specific deadline. While this has the advantage of allowing for the very occasional possibility that one buyer may bid significantly higher than the others, it does not match the drama of an auction room, with multiple bidders sparring to be the successful buyer.

    Internet auctions

    In 2005, The Seam launched a product known as cAuctions® for Brazilian farmers. cAuctions capitalized on the fact that in a sellers’ market, buyers will aggressively compete to purchase and therefore control exportable supplies of cotton. Auctions create a level of competition that does not exist in conventional bilateral negotiations. One of the primary factors introduced by the auction process is instantaneous price discovery. This, combined with the velocity of activity and the commitment of auction participants, means that the auction process produces prices above what the seller can expect using other means. A well-facilitated auction should capture the maximum market value available to the seller. These elements are essential to any auction process, whether online or in a physical location. However, the Internet has introduced a new point of access for all participants in the market. Sellers can utilize its connectivity and interaction to consolidate liquidity and intensify the auction effect to their benefit.

    In this scenario, Brazilian producers announced that their cotton would be tendered for auction on a specific date and time. To give buyers an incentive to participate, producers offered multiple lots simultaneously in the same auction event. There was no requirement for any participating producer or bidder to be in the same physical location.

    Facilitating the auction market

    Prior to bidding, the potential buyers were allowed to review each offer during an announced preview period. Offers were for forward shipment and specified all necessary criteria, including: origin, volume, grade, staple, micronaire, strength, shipment, Incoterms, payment details, special clauses, and rules and arbitration. The offer appeared in the form of a provisional final contract to ensure that the buyer knew the terms and quality prior to bidding. Sellers established reserve (floor) prices. If the highest bid was above the reserve, the offer was booked to the highest bidder. If the reserve price was not met during the auction, the bids were still valid for a period of time after the auction. This gave the seller the option of accepting the highest bid (or several of the highest bids) even if the reserve had not been met.

    The Seam provided a mechanism for unattended bidding called Bid Manager (see figure 4.2). Bid Manager allowed buyers, in the preview period before the start of the auction, to enter a starting bid and a maximum bid. This allowed participants in any time zone to participate in the auction, thus further increasing liquidity.

    Once the auction started, the bidders could increase their bids but not lower them. If bidding was still continuing at the end of the auction, then the auction automatically extended to make sure that the final price was the best the market would pay. Once the auction was over, the sellers had a defined period of time to confirm the bids they had received – with electronic contracts being automatically generated upon confirmation.

     

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    Strategies and effects

    A system such as the one provided by The Seam suits a market where the sellers are the owner of the commodity and their only interest is in getting the best possible price. Where an agent is acting on behalf of a seller, then that agent is simply interested in getting a sale and so may prefer to conduct bilateral negotiations. Internet auctions have proved an effective way to conduct simultaneous, transparent, multilateral negotiations. In the Brazilian case, the basis for their cotton was raised significantly. The initial auction increased producer prices by approximately 5%. Successive auctions moved more than 40,000 tons of cotton to market.

    Buyers do not universally embrace electronic auctions just because they promote transparent competition. It is therefore critical that sellers commit a certain volume to the market, and that buyers know that this is the only channel through which this cotton can be purchased. Facilitators and sellers must stay the course to ensure that, once the auction method has been established, buyers are required to participate. Anything less than compulsory participation will diminish the benefits of the auction.

    In the Brazilian case, the cotton was offered with all specifications noted on the offer. Offers tended to be for forward shipment, often on cotton that had not yet been ginned and classed. However, as electronic instrument testing grows in popularity around the world, it would be desirable for sellers to be able to upload spot offers and sell with HVI data final.