China Consultant: Protect Thyself

China's recently stepped up effort to root out illegal foreign businesses has caused a rash of China consultants to retain my firm to render them legal (talk about a canary in a coal mine).   

From our work in forming wholly foreign owned entities (WFOE) for these consultants, we have learned China consultants also are invariably falling dangerously (yes, dangerously) short in various other legal aspects of their business as well.  Indeed, if I were to single out any one type of foreign business in China as that is most guilty of underestimating its own legal risks, it would be consultants.  China consultants seem to have been in China so long that they have lost sight of the fact that when push comes to shove (or as lawyers like to say, when a deep and easy pocket needs to be found) they are the American/British/Canadian company that is going to need to answer for what happened.  If you are a Western consultant hired by a Western company to assist in China, you must realize that if something goes wrong for your client you will be your client's first choice for legal redress.  So much can and does go wrong and the typical China consultant seems blind to this.   

And what can happen?  And what can you as a China Consultant do to prevent or ameliorate it?  Overall corporate planning to protect your personal assets is an absolutely necessary first step.  Beyond that however, and more specifically to China, you can do a lot to protect your client and thereby protect yourself. 

We have seen the biggest problems with sourcing consultants that assist in finding Chinese manufacturers.  A typical sourcing project, might go like this:

1. Western company retains sourcing consultant to find best widget manufacturer in terms of cost/quality/dependability.
2. Consultant requests and secures sample widget from manufacturer.
3. Consultant meets with countless Chinese manufacturers in search for best one.
4. Consultant recommends company Z in China to manufacture 100 million widgets.
5. Consultant is to be paid a percentage of the manufacturing costs.
6. Company Z starts manufacturing the widgets.

By this point, I am guessing the sourcing consultants out there are are saying, "yes," while the China lawyers are already apoplectic.  Let's deconstruct this hypothetical project and note where the consultant has potentially harmed the client and needlessly taken on huge liabilities.

1. Sourcing consultant just agreed to find best widget manufacturer.  Is that best in China or best in the world?  What if your widget manufacturer charges one hundred dollars a widget for the 100 million widgets, but your client's competitor finds another widget manufacturer who will do it for ninety dollars.  Are you liable for the difference.  Even worse, what if your client's competitor gets the same widget manufacturer to do his 100 million widgets for ten dollars less?  Do you really think a U.S. jury is going to believe you were doing your best when your fee was a percentage of the final costs?  Are you responsible for manufacturer's late deliveries?  Bad product?  Is it clear exactly on what your percentage is going to be based and have you set things up so that your client cannot just go around you?  Solution.  In your contract make clear what you are doing and not doing.  Put in a non-circumvention provision to make sure you get paid. 
2. If you take a sample to China and start showing it to potential manufacturers without having FIRST put various safeguards in place, you are courting disaster.  Your sample could be used for copying/counterfeiting and the trademark on the sample (or your client's name) could also be stolen.  Don't think this cannot happen to you.  I had a consultant call me in a panic after returning from China to learn that one of the manufacturers to which he had shown a sample, but was not going to use for his client, had already started manufacturing the product using the consultant client's trademark. Solution.  Chinese law does typically make the showing of samples a trade secret in circumstances like these, but you should not rely on this.  You should never show a sample or product plan without first making the manufacturer sign a non-disclosure agreement (NDA).  Chinese manufacturers tend to be quite familiar with NDAs and our experience is that if you give them a short simple one, in Chinese, they will sign it.  You also must make sure not either not to reveal any trademark information at this point, or register the trademark BEFORE you hit the ground in China.  The same holds true if patent or copyright protection is deemed necessary. 
3. You the consultant must do more here than simply negotiate the price and delivery dates or at least make very clear in writing that these are your only tasks.  Typically, the consultant oversees the OEM contract with the manufacturer and by doing so, faces major liability issues if that contract is not up to snuff.  You are the "China guy" and your client is counting on you to guide it through China's business minefields.  Equally importantly, with the manufacturing of its product, your client is probably turning over to the manufacturer all sorts of critical intellectual property.  This manufacturer probably thinks its existing patents, trademarks and copyrights will protect it in China, but a court will expect you as the China expert to know better.  Solution.  Put in writing that you are not going to be providing your client with legal advice and that your client will (either through you or independently) need to retain its own lawyer to draft the OEM agreement.  Put in writing that it is your client's responsibility to protect its intellectual property in China and that to do so, it must register its IP in China (again, either through you or independently).

China consultant, protect thyself.