What is free on board (FOB)?

Free on Board (FOB) is a shipping term used in both domestic and international trade to determine the point at which the responsibility, risk, and costs of goods transfers from the seller to the buyer. FOB terms, which are outlined in purchase orders, specify whether transportation costs and risks at specific points in the supply chain are the responsibility of the buyer or the seller.

In FOB Origin, the buyer assumes responsibility as soon as the goods leave the seller’s location, covering transportation risks and costs from that point onward.

Choosing FOB origin helps companies clearly define when and where they assume responsibility for transportation costs and risks. This can affect a shipment’s price and logistics, as well as insurance, customs duties, and potential legal disputes.

FOB and Incoterms

In an international negotiation, the seller and buyer must establish the responsibilities of each party involved in the transaction. These responsibilities relate to logistical costs, risks, and operational deadlines, including:

• Arranging international freight
• Delivery timelines for goods
• Insurance procurement
• Miscellaneous costs (e.g. taxes and port fees)
• Responsibilities and conditions for the delivery of goods
• Customs clearance costs.

Negotiating each of these responsibilities individually would require a significant amount of time and extra attention from all parties involved. To streamline the understanding between buyers and sellers in international trade, rules were established to simplify negotiations.

These rules, known as Incoterms, standardize responsibilities in international trade. Incoterms are published by the International Chamber of Commerce and help exporters and importers reach agreements more easily. This can help reduce language barriers and cultural differences during negotiations.

FOB is one of the most commonly used Incoterms. When FOB is selected for a transaction, the exporter is responsible for:

• Loading the goods onto the vehicle that will transport them to the port
• Covering the transportation costs to the port specified by the buyer
• Paying for port and loading expenses for placing the goods on the ship
• Covering customs clearing expenses.

Once the goods are on the ship and the customs formalities complete, the risk of the operation transfers from the seller to the buyer. From that point on, all logistical processes, costs, and risks are the buyer’s responsibility, and the seller has fully fulfilled their obligations in the export process.

The buyer is then responsible for the costs until the final delivery of the goods, including:

• International freight and insurance
• Port expenses in the destination country
• Unloading fees
• Internal taxes
• Freight costs to the final delivery point.

Since there can be various rules and legal definitions of FOB, the parties involved must specify which governing laws apply to the shipment. FOB doesn’t outline the point at which ownership is transferred – this is often stated in the bill of sale or a separate agreement.

How FOB origin work

In shipping contracts, the term FOB is followed by a location that determines when liability, costs, and risks of goods transfer from the seller to the buyer. This location can either be the port of origin or the destination port, and it defines the type of FOB agreement.

In FOB Origin (aka FOB Shipping Point agreement), the buyer assumes ownership or responsibility for goods as soon as they leave the seller’s location.

Below is an outline of how this type of arrangement works.

	FOB ORIGIN
TRANSPORTATION COSTS	The buyer handles costs from the seller's location. These costs can be covered by commodity & trade financing.
RISK OF LOSS OR DAMAGE	Risk transfers to the buyer as soon as goods leave the seller’s location.
SHIPPING ARRANGEMENTS	The buyer arranges and pays for shipping and handling.
INSURANCE	The buyer organizes and pays for insurance.
CUSTOMS & IMPORT DUTIES	The buyer handles customs clearance and pays for duties.
PRICES OF GOODS	Typically lower since it excludes transportation costs.
USED FOR	Domestic shipments or when the buyer wants control over shipping logistics.

What are the key advantages of using FOB terms in trade?

Both buyers and sellers can benefit from FOB terms, depending on their needs and preferences. Below we outline the potential advantages of FOB origin.

BENEFIT	FOR BUYERS	FOR SELLERS
COST CONTROL	Buyers can better manage their transportation costs by choosing carriers and routes.	Sellers transfer shipping costs to the buyer, which simplifies pricing and removes the additional responsibility.
RISK MANAGEMENT	Buyers assume responsibility for loss or damage and can choose insurance providers that meet their needs.	Sellers aren’t responsible for goods once they leave the origin, which minimizes claims and disputes over loss or damage.
OPERATIONS	Buyers directly manage logistics, which can streamline their supply chain.	Sellers avoid complex logistics, allowing them to focus solely on production.
FLEXIBILITY	Buyers can negotiate with carriers for more favorable shipping terms and costs.	Sellers complete their responsibility at the point of origin, simplifying their role in operations.

Example of free on board (FOB) shipping terms

Imagine a company, Banana Tree Living Inc. in New York City, ordering 500 dining chairs from WoodWorks Co. in Jakarta, Indonesia. The agreement specifies FOB terms but the two parties are deciding between FOB origin . Here’s how each of these terms would work:

FOB origin example

Under FOB origin, WoodWorks Co. prepares the chairs for shipment and loads them onto the cargo ship at the port in Jakarta. Their responsibility ends once the chairs are handed over to the carrier.

Banana Tree Living Inc. assumes ownership as soon as the chairs are loaded onto the ship. The company pays for freight, insurance, and customs clearance from Jakarta to New York City. If the chairs are damaged during transit, Banana Tree Living Inc. is responsible for resolving the issue.

How free on board terms simplify B2B trade negotiations

FOB terms simplify B2B trade negotiations by clearly defining the responsibilities of buyers and sellers during shipping – specifically, the point at which responsibility, risk, and costs transfer from the seller to the buyer. This can save time spent on lengthy negotiations, while also reducing ambiguity and minimizing potential disputes.

What industries commonly use FOB in their supply chains?

FOB terms are often used by industries that rely on shipping and supply chains. These include manufacturing, retail, agriculture, automotive, and electronics industries.

How are shipping costs allocated in free on board agreements?

Shipping costs in free on board agreements are allocated depending on the type of FOB agreement, In FOB origin agreements, the buyer pays shipping costs from the seller’s point of origin to the final destination.

Shipping costs include the costs of transportation, loading goods onto the shipping vessel, marine freight transport, unloading, paying for insurance, custody and clearing services, and transporting the goods to the final destination.

This material is for informational purposes only and should not be considered as an investment recommendation or a personal recommendation.