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Turning Ordinary Trading Rules Upside Down

Price adjustments and the Tomato Suspension Agreement

Price adjustments under the Tomato Suspension Agreement (called ‘the Agreement’ going forward) follow unique and very specific rules, some of which turn ordinary trading rules upside down. In this article, we will briefly discuss the history and purpose of the Agreement before discussing these rules in more detail. We’ll also look at some of the illegal ways firms have tried to circumvent the Agreement.

History & Purpose
In April of 1996 the U.S. tomato industry filed an antidumping petition with the U.S. Department of Commerce (DOC) alleging that Mexican producers were selling tomatoes at less than fair value in violation of U.S. antidumping regulations. In the context of international trade, dumping is when a foreign producer sells its product into a foreign market at lower prices than it sells domestically; or, when the foreign producer sells its product into a foreign market below its cost of production. The concern is that dumping may be used by the foreign supplier to drive competition out of the market for later exploitation.

In October of 1996 the DOC announced its preliminary finding that Mexican tomatoes were being dumped in the U.S. market. Faced with the possibility of stiff customs duties, which had been eliminated under the North American Free Trade Agreement, Mexican producers entered into an agreement with the DOC, whereby the DOC agreed to suspend its investigation and Mexican producers (or “signatories”) representing substantially all of the subject tomatoes agreed to a prohibition against selling fresh tomatoes, other than for processing, below a minimum “floor price.”

Although this agreement has been revised from time to time, its essence has not changed. Reference or “floor prices” are published at http://enforcement.trade.gov/tomato/2013-agreement/2013-agreement.html. These floor prices refer to the f.o.b. (free-on-board) price from the selling agent and include all palletizing and cooling charges. Any transportation expenses beyond the point of entry into the United States must be added to the floor price and must reflect the cost of an arm’s-length transaction (i.e., transportation pricing must be consistent with prevailing market prices).

These prices, and other terms of the Agreement, are only required between the signatory (or the signatory’s sales agent) and the first buyer of the subject tomatoes, but subsequent sales may also incorporate these terms by agreement between the parties.

Price Adjustments
Although the idea of prohibiting sellers from pricing their product too low may be unusual, the requirement that Mexican tomatoes be sold at or above minimum floor prices seems straightforward enough. It is, however, complicated somewhat by the perishability of fresh tomatoes and the losses incurred when produce arrives with excessive levels of condition defects. Because unmerited price adjustments could be used to circumvent the floor price, the Agreement is very specific with respect to procedures and the proof needed to support price reductions. The following rules and/or nuances apply when making price adjustments:

#1 – All paperwork and claims are to be resolved within 15 business days after the U.S. Department of Agriculture (USDA) inspection certificate is issued, unless the claim is referred to the Perishable Agricultural Commodities Act (PACA) Division for mediation.

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Price adjustments under the Tomato Suspension Agreement (called ‘the Agreement’ going forward) follow unique and very specific rules, some of which turn ordinary trading rules upside down. In this article, we will briefly discuss the history and purpose of the Agreement before discussing these rules in more detail. We’ll also look at some of the illegal ways firms have tried to circumvent the Agreement.

History & Purpose
In April of 1996 the U.S. tomato industry filed an antidumping petition with the U.S. Department of Commerce (DOC) alleging that Mexican producers were selling tomatoes at less than fair value in violation of U.S. antidumping regulations. In the context of international trade, dumping is when a foreign producer sells its product into a foreign market at lower prices than it sells domestically; or, when the foreign producer sells its product into a foreign market below its cost of production. The concern is that dumping may be used by the foreign supplier to drive competition out of the market for later exploitation.

In October of 1996 the DOC announced its preliminary finding that Mexican tomatoes were being dumped in the U.S. market. Faced with the possibility of stiff customs duties, which had been eliminated under the North American Free Trade Agreement, Mexican producers entered into an agreement with the DOC, whereby the DOC agreed to suspend its investigation and Mexican producers (or “signatories”) representing substantially all of the subject tomatoes agreed to a prohibition against selling fresh tomatoes, other than for processing, below a minimum “floor price.”

Although this agreement has been revised from time to time, its essence has not changed. Reference or “floor prices” are published at http://enforcement.trade.gov/tomato/2013-agreement/2013-agreement.html. These floor prices refer to the f.o.b. (free-on-board) price from the selling agent and include all palletizing and cooling charges. Any transportation expenses beyond the point of entry into the United States must be added to the floor price and must reflect the cost of an arm’s-length transaction (i.e., transportation pricing must be consistent with prevailing market prices).

These prices, and other terms of the Agreement, are only required between the signatory (or the signatory’s sales agent) and the first buyer of the subject tomatoes, but subsequent sales may also incorporate these terms by agreement between the parties.

Price Adjustments
Although the idea of prohibiting sellers from pricing their product too low may be unusual, the requirement that Mexican tomatoes be sold at or above minimum floor prices seems straightforward enough. It is, however, complicated somewhat by the perishability of fresh tomatoes and the losses incurred when produce arrives with excessive levels of condition defects. Because unmerited price adjustments could be used to circumvent the floor price, the Agreement is very specific with respect to procedures and the proof needed to support price reductions. The following rules and/or nuances apply when making price adjustments:

#1 – All paperwork and claims are to be resolved within 15 business days after the U.S. Department of Agriculture (USDA) inspection certificate is issued, unless the claim is referred to the Perishable Agricultural Commodities Act (PACA) Division for mediation.

#2 – An unrestricted USDA inspection certificate (or an unrestricted partial inspection certificate) is required to support all claims. Note that ordinarily (i.e., when the Agreement does not apply) a receiver may reject produce based on a restricted inspection or even without an inspection, thereby putting the burden of proving the rejection was wrongful on the seller.

#3 – Under the Agreement, when certain tolerances are exceeded, the percentage of product shown to be defective or the entire lot may be “rejected,” meaning it may be dumped, donated, or returned to the seller. This is quite different from ordinary rejections, where the entire shipment must be rejected, or the buyer will be deemed to have accepted the product (see 46 CFR 43(ii)).

#4 – Ordinarily defective product that retains commercial value may by accepted and sold to mitigate losses. But under the Agreement, the defective product, which serves as the basis for a price adjustment below the floor price, cannot be resold.

#5 – While the percentage of defects needed to be eligible for a price adjustment are similar to the five-day PACA Good Arrival Guidelines, namely 20% total condition defects, 15% for any one condition defect, and 8% for soft and/or decay, under the Agreement this tolerance applies regardless of the normal transportation time to the destination city. For example, tomatoes affected with 19% condition defects after a two-day trip would not be eligible for any price adjustment under the Agreement, even though these percentages would typically suggest a breach of the warranty of suitable shipping condition (assuming normal transportation conditions) in the absence of the Agreement.

#6 – Quality defects do not score against this tolerance, and the warranty of merchantability (which typically comes into play when quality defects exceed 33%) does not apply. This effectively makes quality defects irrelevant with respect to any adjustments below floor prices. Similarly, the Agreement provides that abnormal coloring, soil spot, blossom end discoloration, and surface discoloration (silvery-white and gold fleck) do not score against the applicable tolerance.

#7 – A USDA inspection must be called for no more than eight hours after the arrival of the tomatoes at the receiver’s location. Appeal inspections must be called for within 12 hours of the first inspection.

#8 – No adjustments below floor price are permitted if the tomatoes are inspected anywhere other than the destination city specified by the buyer or its agent. If no destination city is specified, the receiver has just six hours after taking title to the product (whether at shipping point if an f.o.b. sale, or at destination if a delivered sale) to call for a USDA inspection.

#9 – When a buyer chooses to accept a load of tomatoes affected with excessive condition defects (not caused by abnormal transportation conditions), the defective tomatoes must be rejected, and the price paid for the accepted tomatoes cannot fall below the floor price. Or, the buyer may reject the entire load of tomatoes.

#10 – The cost of inspecting, transporting, reconditioning labor, and dumping the defective tomatoes may be deducted from the seller’s invoice price. An accounting worksheet is available at http://enforcement.trade.gov/tomato/2013-agreement/2013-agreement.html.

#11 – The signatory and/or its agent, and any subsequent reseller, should maintain written documentation showing that, prior to invoicing, the buyer was informed and agreed (whether expressly or impliedly) that the terms of the Agreement would apply to the sale in question.

#12 – When selling Mexican tomatoes into Canada, the seller or its agent is obligated to inform the Canadian buyer that any resale of the product into the United States is subject to the Agreement. A form for providing this notice is available at the link immediately above.

Circumventing the Agreement
Those who may be inclined to circumvent the Agreement should know the DOC has identified the following practices as violations of the Agreement: (a) rebates, backbilling, and discounts for quality defects and other claims that bring the net price below the applicable floor price; (b) any act which has the effect of hiding the real price of the tomatoes, including bundling arrangements, swaps or exchanges, and financing packages; and (c) repeated filling of boxes beyond reasonable and customary variations in weight. And, in addition to these, the DOC adds as a catch-all, “Any other act or practice the [DOC] finds is in violation of this Agreement.”

“It’s also important for the industry to understand that certain violations of the Tomato Suspension Agreement are enforceable under PACA when reported to the Division,” says the USDA’s Gary Nefferdorf, acting PACA Division director. “If violations of the Agreement apply to PACA, the imposition of sanctions such as penalties, suspension, revocation, or findings of repeated and flagrant violations on a produce firm may occur.”

Conclusion
When a buyer and seller enter into a sales contract which incorporates the terms of the Tomato Suspension Agreement, many of the ordinary and familiar trading rules no longer apply. Minimum prices, partial rejections, rigid tolerances, the elimination of the warranty of merchantability, and the prohibition against selling defective product at any price, to name a few, fundamentally alter business as usual where Mexican tomatoes are concerned. As with any contract, a thorough review and understanding of its terms is essential.

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