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A China Manufacturing Term Sheet

Posted in Basics of China Business Law, China Business

Just got off the phone with a client who asked me to provide it with a “term sheet template” for buying product from a Chinese manufacturer. We generally advise our clients to reach agreement on “key terms” before having one of my firm’s China lawyers draft the OEM manufacturing contract between our client and the Chinese manufacturer.  We long ago learned that in most instances it is not productive for us to start drafting a manufacturing contract if our client and the manufacturer are not yet on the same page (much less in complete agreement) on something as critical as price and delivery times.

Many years ago, I did a one page, ten item list of what I thought were the essentials for a China manufacturing term sheet.  My intention with this term sheet was not to achieve agreement between the U.S. company and the Chinese manufacturer, but to achieve enough agreement that the odds were now overwhelming that the two of them would be doing the deal. I can no longer find that term sheet.

But in searching for it, I came across the one below, which is more comprehensive than my own, and therefore both more and less helpful that mine. It is more helpful simply because it includes more and so anyone who looks at it will have more from which to pick and choose the terms that it finds important. It is less helpful because it really does include more than it needs to include and therefore could cause the parties to get bogged down too early in minutiae.  For example, I do not think it necessary to put in a term sheet that the Chinese manufacturer will not be violating the FCPA or China labor laws. Both of those things are incredibly important, but better suited for the OEM Agreement itself, not for the term sheet.

I will say though that the below term sheet does an excellent job of succinctly setting forth the bulk of the terms most companies should be concerning themselves with when outsourcing their manufacturing to China. The client company that drafted this term sheet is a very well-known and very internationally sophisticated company and I do not doubt that this term sheet is the result of much high level thought and to the extent that you have the ability to pick and choose what makes sense for your company’s own China term sheets, you probably could do a lot worse than using this as your term sheet template. Note though that some of the items in this term sheet had already been agreed to/resolved in a previously signed development agreement between the parties.  Note also that the version of this template given to the Chinese manufacturer (per my firm’s recommendation) was in Chinese as well as in English.  We advise this so as to reduce the likelihood of any misunderstandings.

For more on China manufacturing term sheets, check out China OEM Manufacturing Agreements. What Should Go In Your Term Sheet? and China OEM Agreements. Ten Things To Consider.

PRODUCTS

 

Very short description of product goes here.
TERM OF AGREEMENT 1 year with automatic annual renewal; provided BUYER may terminate without cause on 60 days written notice and SELLER can terminate without cause on 180 days written notice.

 

EXCLUSIVITY  Yes, during the term of the agreement, as long as SELLER can meet capacity and quality requirements; provided, BUYER may manufacture its own devices at its own manufacturing facility.

 

QUANTITIES BUYER’s requirements; provided, BUYER supplies a 6-month, non-binding rolling forecast and a 3 month binding forecast.  Forecast will be provided 3rd day of each month.   BUYER willing to agree to a reasonable production cap reflecting anticipated demand.

 

ORDERS Must be placed no later than 45 days prior to requested delivery date; SELLER may not reject any order.

 

PAYMENT TERMS  First 2 POs, we will pay 30% of purchase price when PO placed and the remaining 70% will be paid 30 days after the shipment received.  Remaining shipments in first  year net 30 days from receipt of invoice.  After first year, net 60 days from receipt of invoice.

 

DELIVERY TERMS  FOB Port (Shanghai) to BUYER’s designated marine carrier; risk of loss and title to pass to BUYER upon delivery to carrier.  Time is of the essence.  SELLER responsible for any fines incurred by BUYER from retailers for late delivery caused by SELLER (as long as PO placed sufficiently in advance of required lead time).  SELLER will properly complete all shipping documents and maintain a record of such documents for 3 years after delivery.

 

CUSTOMS SELLER will properly label all shipping documents with the customs classifications codes supplied by BUYER.

 

PRICING  To be agreed upon and will be set forth in schedule. SELLER cannot increase pricing without BUYER consent.  All prices stated in US dollars and payments made in US dollars.  Parties will meet and confer every 6 months to review pricing and determine whether price change warranted. 

 

COST SAVINGS SELLER will continually endeavor to reduce costs of manufacturing, packaging and shipping to port.  All savings to be split 50/50 between SELLER and BUYER (savings already addressed in development agreement)

 

SPECIFICATIONS All finished products and every individual part used to manufacture or package the products must meet BUYER specifications, which will be attached to and form a portion of the agreement.  If a supplier changes a specification to a commodity or part used to manufacture product, the change must be communicated to and approved in writing by BUYER.

 

PARTS & SUPPLIERS  Each and every part used to manufacture, label, or package the products must be approved in writing by BUYER. SELLER may not change a part without BUYER’s written consent.  All materials and parts suppliers must also be approved in writing by BUYER and represent in writing that are in compliance with wage regulations of their jurisdiction of manufacture and that they do not use child, slave or prison labor to make their materials and parts.

 

QUALITY   CONTROL

 

Must meet all BUYER requirements (to be supplied by engineering).

 

FCPA     COMPLIANCE BUYER shall provide SELLER with FCPA compliance manual and SELLER shall abide by it.

 

INVENTORY SELLER will be responsible for ordering all materials and parts and maintaining an adequate inventory to meet forecasted demand.  SELLER will be responsible for all costs of storing and maintaining inventory.  In the event of termination or expiration, BUYER shall pay SELLER for the reasonable wholesale cost of any materials or parts that are custom made or unique to the BUYER products.

 

SAFETY STOCK SELLER to maintain 30 day supply of each type of product at all times at its cost.  BUYER has no obligation to pay for it until it is delivered to BUYER’s carrier.  BUYER will buy back safety stock remaining within 60 days of expiration or termination of agreement.

 

TOOLING  Addressed in Development Agreement

 

INSPECTIONS BUYER will have the right, no less than twice annually, to conduct unannounced quality assurance inspections of SELLER’s facilities and books and records to ensure compliance with this agreement.

 

NON-COMPETE  Addressed in Development Agreement.

 

WARRANTY All parts and finished product shall be warranted free from defects in materials, workmanship and manufacturing for a period of one year from date of manufacture.  BUYER will have option of repair, replacement or refund and can return defective product at any time within 1st year regardless of when discovered by BUYER or its customers.  SELLER responsible for all costs to return defective product to SELLER.

 

INDEMNIFICATION  SELLER to indemnify BUYER for:  (1) all actions and omissions of SELLER and Employees; (2) manufacturing and materials defects; (3) BUYER’s breach of agreement, reps and warranties; and (4) damage to Tooling caused by SELLER.

 

INSURANCE  SELLER will maintain a US-based policy of insurance, including CGL, products and completed operations of not less than $1MM per occurrence with an umbrella of not less than $30MM.  Must maintain during agreement and for 10 years thereafter.

 

LIMITATION OF LIABILITY

Neither party liable for consequential, special or incidental damages or lost profits, or business opportunity.

 

 

CONFIDENTIALITY  Subject to NNN Agreement and will tie the OEM to NNN.

 

USE OF BUYER’S PRODUCT IP  Limited to manufacturing only.  SELLER can’t use for own benefit and will inform BUYER if it discovers use of BUYER’s IP by any 3P.  Will reasonably assist BUYER in asserting any rights BUYER may have against such 3P.

 

ASSIGNMENT SELLER may not assign obligations under agreement (even in connection with change of control) without BUYER consent.  BUYER may freely assign.

 

LABOR No slave, prison, child labor.  Wages in accordance with all applicable laws.
  • Ward Chartier

    Regarding Tooling, the Development Agreement referenced above should very clearly state that if the Buyer pays for the tooling, it needs to be clearly marked Property of *Company Name*, preferably in Chinese and English, and preferably marked with an indelible – stamped with a hardened steel die is good – asset number. Likewise, if the Buyer will transfer any tools to the Seller, the tools need to be marked in the same way. These steps help to avoid future aggravation over ownership of Buyer’s tools held by Suppliers. Finally, there needs to be language in the Development Agreement or other Agreement that the Buyer has the right to retrieve tools it owns on X hours notice.