Just over 18 months ago, McDonald's opened its doors on Pushkin Square in Moscow. And many know that Pepsi is produced and distributed throughout the Soviet Union. Still others have heard of all the opportunities for doing business in the USSR today. But what most people do not know about are the years of negotiation that are behind these types of deals, commonly known as " countertrade."

Countertrade is an umbrella concept that has come to mean all forms of reciprocal trade agreements including buyback, compensation, and barter. It is an unconventional form of financing, sometimes called " financial engineering," where the seller undertakes the responsibility for developing new or additional exports or services in the client's country, which would in turn generate additional foreign exchange.

Such agreements usually span a number of years, and often require the transfer of technology, manufacturing licenses, training, quality control, and many other vital services in exchange for the buyer's commitment to purchase goods, turn-key factories, technology, or services covered by the contract. Naturally these agreements are more difficult to negotiate.

The Soviet Union is an experienced countertrader. Soviet buyback and compensation practices with the West began right after World War II and became more sophisticated in the mid-1970s. In 1974, a special department was created in the Ministry of Foreign Trade to handle countertrade transactions.

The Soviets place particular emphasis on compensation agreements. According to a former Deputy Minister of Foreign Trade in charge of countertrade, " cooperation on a compensation basis [means] the construction of major industrial projects and complexes through the use of foreign credits, which will be paid back with products from these new plants, as well as those already eining" The Soviets have exhibited a special interest in turn-key plants with an emphasis on buyback.

Bilateral compensation agreements, in particular, have enabled the Soviet Union to expand supplies of raw materials such as oil and gas. and to develop certain industrial seciors, especially the chemical and petrochemical industries. Western assistance serves to minimize the drain on Soviet resources, and the compensation agreements reduce the threat of future trade imbalances and soften the impact of large development projects on the Soviet credit rating.

Compensation agreements also establish long-term delivery relationships and sales guarantees while minimizing the disruptive effect of foreign trade on the Soviet central-planning system. These agreements are generally associated with exchanges of equipment for products such as chemicals, machinery, oil, and natural gas. The goods usually offered for countertrade include chemical and raw materials, machinery and vehicles, electrical and electronic equipment, and consumer products.

The Soviet Union would like to see greater Western involvement in expanding its manufacture of finished and semi-finished products, and shows an increasing preference for the offer of such goods in countertrade. Unfortunately, a substantial number of Soviet manufactured goods cannot match the high quality of Western products in terms of performance, safety standards, appearance and packaging. The best Soviet products are usually not offered in countertrade arrangements since they can be sold for hard currency by the Soviet Union itself. Western firms and governments have learned from experience that raw materials are easier to deal with, and they have, therefore, generally been more interested in developing Soviet energy resources. Despite many successful gas and oil pipeline and coal projects, the Soviets have begun to guard their natural assets, and energy resources are becoming increasingly scarce in countertrade deals. This conflict in priorities serves to make an already complicated negotiation process all the more difficult.

Most countertrade is arbitrated through Soviet Foreign Trade Organizations (FTOs), which are now part of the internal ministries, and thus appendages of a vast, centralized administrative system. Within this large bureaucratic structure there is a tendency toward " departmentalization" - the development of diverse, and sometimes conflicting, objectives among various ministries. Soviet FTOs must now respond to these interests, and officials of Western firms must be prepared to operate in an environment where negotiations can be chnlienging, protracted affairs that may take time to complete, and, in many cases, may ultimately fail.

The Western firm can minimize onerous countertrade demands made by its Soviet partner in several ways: by extending the payment schedule, by prolonging performance guarantees, by establishing or expanding training programs, by expanding post-sale support services, by guaranteeing fixed prices for spare pans, and by providing in the contract for delivery of spare parts. Imports which produce improvements in the hard currency situation usually have the highest priority, and thus carry the lowest buyback requirements. These include, but are not limited to, plants, equipment, and know-how that produce previously imported products, thus creating import substitution, or products for export. Imports required by current projects are also a high priority.

There are five main product categories: mechanically engineered equipment, electronics, chemicals, consumer goods, and raw materials. The quality of products varies from class to class as well as within each group. In general, chemicals are on a par with Western products, while consumer goods are in need of qualitative improvements. Western traders must stipulate quality standards and/or negotiate the right to inspect buyback goods before taking title of them.

It is difficult to determine the fair market price for Soviet goods since internal prices have been fixed by the central government and often do not reflect scarcities or real costs. Western firms tend to push for prices keyed to artificially low production costs in the Soviet Union, while the Soviets naturally prefer using Western indices or world prices.

The so-called " net world market price" must be precisely defined. For example, does it include transportation, energy, labor, and insurance costs? If the countertrade commitment is a percentage of Western export value, is the price computed on an " in factory" or an &quo tex-factory" cost basis? Western firms must price high in order to absorb costs associated with last-minute changes in contract terms, a traditional Soviet negotiating tactic.

It is also necessary for Western businessmen to maintain complete documentation of unsuccessful efforts to obtain buyback goods. Such documentation can be useful in receiving extensions of buyback fulfillment schedules. A " letter of release" is required to complete compensation agreements once all obligations have been met. Receipt of this document should be tied to the release of the standby letter of credit.

Obstacles to buyback and compensation agreements include quality control, product shortages, shipping delays, and red tape. A distaste for contract linkages which must be secured through protocols, and the desire to export through the same ministry responsible for the imported products provide further constraints.

In order to avoid some of these pitfalls, Western firms must be specific in their product descriptions, widen the choice of buyback goods as much as possible, obligate the contracting ministry to be responsible for delivery of goods whenever possible, clarify what goods are included in the various product categories, and obtain contractual guarantees concerning the specific quantities and delivery dates of the buyback goods. If even one of these items is overlooked, the company may pay dearly.

The Occidental Petroleum deal provides a good case history illustrating the complexity of such transactions. Occidental chief Armand Hammer negotiated a compensation transaction with the Ministry of the Chemical Industry, which provided Ocudenial with a reliable low-cost supplier of ammonia. The parties involved in the agreement - Occidental, the Ministry of the Chemical Industry, Techmashimport, and Soyuzchimexport - concluded a ten-year contract under which five chemical plants would be constructed in the Soviet Union by Chemical Construction Company, later known as Ebasco. Tankers were built to ship the ammonia and the superphosphoric acid.

Under the terms of the contract, $10 billion worth of ammonia was exchanged for $10 billion of superphosphoric acid. Occidental shipped the acid to the Soviet Union in payment for the ammonia. Actually, there were several contracts involved: 1) a purchase contract with Occidental for the transfer of ammonia from the Soviet Union; 2) a sales contract with Occidental and Soyuzchimexport for the transfer of the superphosphoric acid to the Soviet Union; and 3) a sales contract by Chemical Construction Company and Tetlimashimport to build five ammonia pl.mis and a pipeline.

Another agreement, between Pepsico and the Soviets, provides another model for how these transactions can operate. The Pepsi-USSR connection began with the famous meeting between Nixon and Khrushchev at the 1959 U.S. Trade Fair in Moscow. Photos of Khrushchev at the exhibition show him drinking a Pepsi made with Soviet water.

A more recent Pepsico contract was negotiated in the Kremlin by Pepsico president Don Kendall, who reportedly ran up to former premier Alexei Kosygin, handed him a can of Pepsi, and proceeded to deliver a high-level, executive sales pitch. Although Kendall's method was unusual, he clinched the deal.

Under the terms of the agreement between Kendall and the Ministry of the Food Industry, construction of soft drink factories and supplies of Pepsi syrup were exchanged for Soviet shipments of vodka. Several agreements spelled out the conditions of the contract (e.g., price, delivery, packaging, shipping, inspection, arbitration, and force majeure). The arrangements included: 1) an agreement with the Soviets for the construction of, at least, a bottling plant; 2) a purchasing agreement with Soyuzplodoimpon (the FTO) for Stolichnaya, the Soviet vodka; and 3) an agreement to supply Pepsi syrup. Pepsico would train the workers and assist in the engineering, design and construction of the plants. Pepsico also helped the Russian producer of the vodka to make an export bottle with a screw-on top and a new, more appealing label. In subsequent years, Pepsico assisted in the marketing of new varieties of vodka such as Cristall and lemon vodka, and also of Soviet wines. Twenty-eight Pepsico bottling plants are now in operation in the Soviet Union; anil under a new contract, the number of plants will increase to at least 50.

Such successful transactions notwithstanding, businessmen prefer payment in cash or in a confirmed, irrevocable letter of credit. Nobody wants to be paid in black beans or some other domestic product that cannot be easily resold. The resulting uncertainty in the value of the products received in such arrangements increases the risk of doing business. However, companies HUM show some flexibility or lose sales to competitors who are prepared to take payment in kind.

Above all, buyback and compensation are competitive tools - that is their great advantage. If a company is willing to engage in an unconventional arrangement, it will have a clear edge in bidding for contracts or sales.

Leo G.B. Welt is president of Welt International, Inc., an cxport trading company. He is the author of several books on buyback and compensation, including his latest, Blocked Funds