The cotton industry in the United States began using electronic warehouse receipts in 1993, after securing an amendment to the U.S. Warehouse Act.
Warehouse receipts are the currency of agriculture. With a receipt in hand, farmers may negotiate the sale of their crop and transfer title with ease and confidence.
Likewise, purchasers of the commodity have the one document they need to guarantee that the facility storing the agricultural commodity must turn it over to them.
The United States Warehouse Act (USWA), enacted in 1916, established a federal licensing system for warehouses to provide for, among other things, financial security, recordkeeping, protection and other operational items. Warehouses licensed under this act are inspected and audited by the federal government and expected to conform to regulations designed to insure the facility will properly store and care for agricultural commodities delivered by farmers and others.
Last fall, Congress enacted a significant revision to the USWA that will provide needed flexibility for warehouses, revise standards for financial security and enforcement, and, most significantly, greatly expand the ability of U.S. agriculture to use warehouse receipts issued in electronic form. The end of paper warehouse receipts is drawing near.
The development of this legislation provides insight into the future of business transactions in agriculture and opens the door to some far-reaching possibilities for agricultural marketing in the dawn of electronic commerce.
The U.S. cotton industry began using electronic cotton warehouse receipts in 1993, after it secured a small amendment to the USWA that would insure states had to treat electronic warehouse receipts the same as paper receipts. Cotton bales are stored identity preserved, with a separate receipt usually issued for each bale. Large sales transactions involving cotton normally required the handling and transport of significant amounts of paper receipts, created and read on old computer card punching technology.
Bottlenecks were commonplace. Lead by Plains Cotton Cooperative Association of Lubbock, Texas, which was issued a patent for an electronic title system, and the National Cotton Council, the cotton industry pushed for electronic warehouse receipts as a means to introduce significant efficiencies into an antiquated system of handling commodity sales transactions.
The structure envisioned by the cotton industry was one in which the secretary of agriculture would establish standards that would govern so-called “system providers.” These providers would maintain a computer system as required by the secretary of agriculture. Individual warehouses would then contract with the system providers in order to use electronic warehouse receipts for cotton.
The amended law required states to treat electronic receipts for cotton issued by approved system providers the same as the state treated paper receipts. Central to this legal requirement is the concept of “holding” the electronic receipt. Cotton warehouse receipts are traditionally issued as “bearer” receipts, and are, therefore, negotiable documents of title. It is not necessary to sign a bearer cotton warehouse receipt in order to transfer the receipt to another individual. One must simply hand over the document.
Likewise, if one presents a cotton warehouse receipt to the warehouse for delivery, the warehouse generally must honor the presentation. A warehouseman will not generally inquire into how an individual came to possess the paper receipt; possession itself establishes rights in the cotton against the warehouse.
Who is in possession of the electronic warehouse receipt is, therefore, the fundamental question that must always have an answer if electronic receipts are to take their place in normal commerce. The amended law answered this question by declaring that the person shown as the “holder” on the electronic document would be deemed to be in possession of the receipt, just as if the person were “holding” the paper document.
Since enactment of the cotton amendment and the development of regulations, over 90 percent of the cotton crop stored was represented by electronic receipts. The availability of electronic receipts has sped transactions of all types, including transactions with the Commodity Credit Corp.
USDA initiated a revision to the Warehouse Act in 2000 for a number of reasons, but its primary purpose was to expand the availability of electronic receipts and provide a means for more commodity transactions to occur electronically. The revision accomplishes this goal.
The act authorizes the secretary to establish rules and procedures for electronic system providers. Just like the situation that exists with cotton, the secretary will require a certain level of financial security, require adequate protections and standardize the electronic form of the warehouse receipt.
The actual issuance and transfer of the receipt will remain in the private sector, with the possibility that new businesses will spring up to take advantage of this new opportunity. The secretary of agriculture will act as the umpire overseeing this new flow of electronic documents. The cotton industry, in particular, is convinced that a private sector system, with federal oversight, will be more efficient, will better respond to the needs of customers and will be able to stay more technologically advanced than would the federal government.
By relying on the private sector to establish electronic warehouse receipt systems, the legislation also better insures that entities familiar with normal commercial practices of a particular commodity warehousing and marketing system are more likely to become system providers.
Importantly, the legislation also authorizes the secretary to establish rules by which other documents commonly involved in commodity sales transactions may be transferred electronically. Bills of lading, warehouse receipts, quality certifications and other documents that may be necessary to complete an export sale, for example, will be transferred electronically from one part of the country to a bank in another part. This could greatly speed sales confirmations and improve export efficiencies.
Although some react with alarm at the notion of not having a “paper trail” of documentation, it is probable that the electronic system provides more protection than paper documents. In the cotton system, records that track the transfer of a warehouse receipt are meticulously maintained — and they can be called up at any time. System providers have backup upon backup of their critical records and can usually piece any transaction together. Simply put, it should be harder to permanently lose an electronic record than it is a paper one.
Electronic receipts will not remove the normal risks associated with buying and selling of commodities, namely, will the commodity be delivered as promised or will the buyer's check bounce? In fact, a large bankruptcy and default in Georgia a few years ago caused many in that state initially to blame electronic warehouse receipts as a contributing factor to losses suffered by producers — but they weren't.
If producers take advantage of this technology, they should be able to exert more control, with less effort, over their commodity and over the actual execution of sales transactions. Electronic warehouse receipts enable producers to “hold” their receipts personally, even though the document is not at home in the safe. Others can view it, but they cannot transfer it without the consent of the “holder.”
Electronic receipts enable producers to use a third party, such as a bank, as an escrow agent to insure that their commodity is not delivered until the buyer has transferred the necessary funds. With electronic receipts, escrow transactions could be simple and quick and could afford both parties to the sale significant protections.
Fundamentally, however, producers cannot exercise control over their commodity if they do not control its warehouse receipt. Often it is the case that producers choose not to hold their own assets and entrust others once their crop is harvested. Cotton gins, brokers and others are providing useful marketing services to the industry. Producers should not, however, take this service or these relationships for granted.
They must appreciate that by leaving their receipts in someone else's control, they have designated them as their agent. In so doing, the producer trusts that individual to protect their assets and not get into financial trouble.
That is what happened in Georgia. But in that case, the agent made bad decisions, got into financial trouble, and defaulted on his obligations. Most of those who suffered losses had relinquished control and were not aware enough of what their “agent” was doing with their assets.
The overriding premise of the electronic receipt portion of the USWA revision is to insure that states will treat the electronic document the same, under law, as they treated the similar paper document. This means that the presence of the electronic record should have no affect on state laws governing security interests, buying and selling or contracts. Disputes should be subject to the same rules that applied for paper documents.
Although agriculture is entering a whole new electronic world, the USWA rewrite tries to bring along the rules that governed commercial transactions in the old, paper world. By doing so, the electronic medium offers buyers and sellers the chance to structure quicker, more foolproof transactions using rules with which they are already familiar.
The turn of the century saw the establishment of several new ventures determined to take advantage of this new ability to conduct cotton sales transactions electronically. The possibilities for new approaches to marketing seem limitless.
As buyers and sellers take advantage of this new technology, it remains important that they reacquaint themselves with some old concerns, too. The harvested crop is a producer's most valuable asset, it is the merchant's livelihood as well, and it is the processor's necessary raw material. It is the responsibility of each individual in the marketing chain to take the necessary and proper steps to protect their asset.
William A. Gillon is general counsel and director of trade policy of the National Cotton Council.