China WFOE formation and doing business in China

At the beginning of the US-China trade war we were one of the few voices saying this war would last a long time, with essentially no end in sight, and we took a lot of heat for that. More than seven months ago, in China the US and the New Normal, we essentially said that foreign companies needed to buckle up for a long ride because trade relations between the United States and China would get a lot worse and stay bad for a long long time. We also talked about how foreign companies were starting to look beyond China and we strongly encouraged they continue to do so. I only wish more had listened:

We are telling the truth about companies (not just American companies) looking to leave China because part of what we do is help companies legally fulfill their goals and their plans. My firm’s international lawyers help companies negotiate their exits from China and we help companies figure out where to go instead of or in addition to China. We also help companies looking to set up in other countries, do deals involving other countries, protect their IP in other countries, and draft necessary contracts in other countries. In the last few months our international lawyers have been being kept nearly as busy with countries like Vietnam, Cambodia, Indonesia, Thailand, Malaysia, Turkey, India and Pakistan as with China.

The above is but an introduction to what we see as China’s diminished future for foreign companies. Since pretty much the inception of the US-China trade war we have been saying that we do not see its end because we have always seen it as more than a trade war. At first, we saw the US tariffs as an effort by the United States to get China to “open up” and “act right” on things like the internet and IP. But because we did not see China changing on these things, we did not see the trade war ending.

Vice-President Pence’s speech on China earlier this week has only reinforced for me that the trade war between China and the US will not be ending any time soon, if ever. The New York Times has called that speech the Portent of a New Cold War between the United States and China and China’s own Global Times wrote an article entitled, Pence speech shows Washington’s tougher policy on China. Don’t blame us. We are just the messengers. Things are getting very tough between China and the United States right now and the trade war is just a symptom of that, not the disease.

The United States is aggressively and unabashedly doing what it can to isolate China and to remove it from the world of international trade. The new free trade agreement between the United States and Canada is further proof of this as it essentially blocks Canada and Mexico from engaging in free trade with China. See What Trump’s new trade pact signals about China. Word is that shutting out China is going to become a regular thing in all new U.S. trade agreements. See US Commerce’s Ross eyes anti-China ‘poison pill’ for new trade deals. Will the EU and Japan and Latin America play ball on this? I predict that most if not all of them will.

So yes, the above is why we will continue to write about what North American and Latin American and European and Australian businesses should be doing to deal with the new normal regarding China. We are writing these things because we value our credibility and because we presume our readers value our no-holds barred advice — threatening emails or not.

We eventually came to the view that companies were focusing too much on a US-China Trade deal as though that would, standing alone, lead to a return of the good times between China and the United States and (one day before President Trump’s May 5 “tariff tweet”) we wrote The US-China Trade War: Winter is Coming, in which we laid it on thick about how doing business with China is becoming bad for business:

Ask those who write about China about the hate mail they receive. I think of this blog as hewing pretty close to center when it comes to China and yet hardly a day goes by where someone doesn’t challenge us with a question like “how can you support a regime that does xyz horrible thing?” Many of these come as messages on our China Law Blog Facebook page and an increasing number of them include gruesome pictures of executions and slaughtering of dogs, etc., purportedly from China. I have no idea if those pictures really do come from China or when they were taken, but I would guess many businesses with close China connections receive similar messages. And I know from talking to reporters that a huge number of foreign businesses do not want their customers to know they are either in China or doing business with China. Why? Because doing business with China can be bad for doing business elsewhere and this is getting worse and will only continue to get worse. Yesterday the United States called out China for interning three million Muslims in concentration camps and I am quite certain this sort of calling out is will continue and even escalate after a trade war resolution.

When I was in student government back in my college days, the big issue was apartheid in South Africa and our student government voted to have the college divest from any of its investments in South Africa. That didn’t happen but many companies did pull out of South Africa so as to placate their customers/clients. We are seeing similar things happening with Saudi Arabia these days and there are China stirrings as well. I am NOT saying this will have a major impact on most companies, but if you pitch your company as socially conscious and you are not thinking of ending your dealings with China, you are behind the curve. What if you are just a run of the mill start-up or SME? What should you do? Should you flee China now to avoid social problems later? Almost certainly not. But if you can, let’s say, slowly and relatively painlessly move your supply chain elsewhere, you absolutely should seriously consider that. Everything being equal, would you not rather tell your customers (and even your own kids) that your company does business with Mexico or Thailand as opposed to China?

Just as many companies boast of how their products are organic or cruelty free, companies seem almost eager to let the world know that they have stopped manufacturing in China or are doing all they can to accomplish that. See the Wall Street Journal article, Trade Deal Alone Won’t Fix Strained U.S.-China Business Relations, whose theme is that the smart money wants to invest in companies that are out of China, getting out of China, or at minimum, have a plan to do so.

The post concluded by emphasizing that trade deal or no trade deal, US-China decoupling had begun and would only continue and now is the time to decide what to do about that:

How though should your business respond to all of this? To quote an old investment adage, “the trend is your friend,” and right now the trend is for the West and China to continue decoupling. This means the most important thing for your business is to be cognizant of this and to monitor it. We keep writing about this because we see it as likely to impact nearly all foreign companies that do business with China, even those from countries whose relations with China are much better than those between the United States and China. No matter in what country your company is based, if you do business with the United States — especially if you have your products made in China and then sell them to the United States — your business is at risk of becoming entangled by the decoupling.

If you want to see your company go into China or have its products made by China or increase its China presence, you should be prepared to explain to your company’s decision makers why you believe your business will not fall prey to US-China tensions. If you are having your products made in China, you almost certainly are already looking to reduce your China exposure, but in doing your cost benefit analysis for that, consider whether yours is the sort of business whose sales might increase merely by being able to tell its customers/consumers that your company does no business with China. And yes, this is going to sound self-serving (and it is, but it is also true), you need to more than ever make sure you are not doing anything that might make you an easy target of the Chinese government. In other words, make sure your company is in full compliance with China’s laws, particularly its tax, environmental, employment and bribery laws.

Weeks even before this “Winter is Coming” post, I was interviewed for an April 21, 2019, Wall Street Journal cover story, Trade Deal Alone Won’t Fix Strained U.S.-China Business Relations, in which I made clear my view that “There is no way any deal between China and the U.S. will cause everyone on both sides to say, ‘We were just kidding,’” said Dan Harris, managing partner at Harris Bricken, a law firm that specializes in investment with China. “The tariffs and the arrests and the threats and the heightened risk have impacted companies and that will not go away.”

We got a lot of heat for all of the above as well.

On the day of President Trump’s tariff tweet, I wrote The US-China Cold War Starts Now: What You Must do to Prepare, consisting mostly of my “initial” thoughts regarding what I am now calling a cold war:

My first thought based on the last few days is that this trade war is at its core a fight between the United States and China for who determines from where products are purchased. I am obviously not the first person to say this but I have to admit that this did not really hit home for me until yesterday One of my law firm’s Spain lawyers off-handedly mentioned something along these lines to me months ago, but it took me until now to realize how true it is. Both President Trump and President Xi are using their presidential powers to influence global buying decisions. Okay, I agree that when I say it like this it seems obvious, but I’m not so sure that it was or even is until you hear the following explanation. But hey, if I’m all wrong on this, just let me know — as the saying (sorta) goes: “there are no bad ideas here.”

Earlier this week I read how President Xi controls China’s economy. Well duh, right. No, I mean like really controls it, down to just about every nib. China wants to pay Canada back for Canada’s abiding by international law in arresting Huawei CFO Meng Wanzhou. See The Huawei Indictments are the New Normal. China chooses to do this by essentially telling its businesses that they better not buy any canola oil from Canada and, pretty much just like that, they don’t. This is on top of China already having taken hostage two Canadians and snap-deciding to sentence to execution another Canadian whose previous sentence was 15 years in prison. In other words, President Xi and those at the highest echelon of China’s government can snap their fingers and thereby create a new business reality.

Lacking in such nearly unmitigated power, but wanting that same power for himself, President Trump has been using tariffs to essentially accomplish the same thing. He has been raising tariffs against China and then negotiating with China and then threatening to raise tariffs against China and then raising tariffs against China, all the while pressuring various U.S. governmental bodies to increase their pressures against China products via non- tariff actions like anti-dumping and countervailing duties (AD/CVD). See Yet Another International Trade (AD/CVD) Petition Against China: This Time it’s Metal File Cabinets.

Make no mistake about it, President Trump is doing whatever he can to convince American companies — really any company from anywhere in the world that sells its products to the United States — to stop doing business with China. In ‘We’re freaked’: Trump startles US businesses with fresh tariff hike, CNN does a great job explaining (I think unintentionally) how this all works by focusing on how Trump’s last minute tariffs will harm U.S. businesses that did not prepare for this.

I then compared those who were ready for this cold war with those who were not:

Essentially, we have on the one hand businesses saying President Trump’s new round of 25% tariffs and his threatened (and likely to occur!) next round of 25% tariffs were a complete surprise on the one hand. And on the other hand, we have the Trump administration disputing this and accusing those who say this of having not made much of an effort to read the tea leaves regarding impending US tariffs against China.

I have to at least somewhat side with Lighthizer and Mnunchin on this because we have on this blog been relentlessly downbeat about US-China relations by basically screaming to anyone who will listen that you must start looking beyond China for your products. We have done this as recently as Sunday, in The US-China Trade War: Winter is Coming to more seven months ago in China, The United States and the New Normal.

So to at least some extent, those who just assumed that China-US relations would soon return to how they were before the United States initiated its first round of tariffs were either not reading enough or were too much ignoring or just misinterpreting what they did read. Nonetheless, I completely get where these complaining companies are coming from because most of my own law firm’s clients that were having their products made in China last year are still having their products made in China right now. In large part this is because leaving China is neither fast nor easy.

Some of our clients have left China entirely, moving their production to Thailand, the Philippines, Mexico, Indonesia, Vietnam, India, Sri Lanka, and the Ukraine, among others. Some of our clients have diversified their supply chain away from China, while remaining in China. Others are working on exiting China or diversifying away from China. Many though — and for various reasons — feel they have no choice but to remain in China for the short term and even beyond. So yes, there are some companies that should have left China 6-12 months ago but didn’t, but there are more companies that simply could not leave China fast enough to avoid this next round of tariffs.

In September 2018, in How to Leave China and Survive, we wrote about how difficult it is to cease having your products manufactured in China and how that can be done in way that minimizes myriad potential problems. I would urge anyone looking to move away from China to read that carefully before instituting any actions that might lead anyone in China to think you might be leaving.

But if you are going to leave China, where should you go and how even should you go about determining this? And what can you do to try to secure an exemption from these new tariffs? In China/U.S. Tariffs and How to Fight Back, one of our international trade lawyers explained how to try to secure an exemption to previous tariffs and much of what was written there will apply to this new round of tariffs as well.

Yet even in this post in which we decreed the dispute between China and the United States to be a cold war and even as we highlighted the need for foreign companies to reduce their China exposure, we noted how for some companies, now is the time to actually go into China:

And just as we are seeing so many of our manufacturing clients beating down the doors to get out of China, our China WFOE formation work is at its highest level (by far) in the history of our firm. In other words, we are on the one hand working to get many clients out of China while at the same time working to get many of our clients more deeply embedded into China with their own Chinese companies. Who are the companies going in? Mostly tech companies and companies that sell their products and services to China. Most of these companies either do not care much about the tariffs or are going into China because of the tariffs. For example, one company that does a lot of manufacturing in China is going into China to start selling its made in China products there, while at the same time looking to have its products made outside China for selling to the United States. As I am always saying, lawyers thrive on change, whether the change is for the better or for the worse.

Then earlier this week — in the midst of ever increasing gloom and doom regarding trade — we wrote a post, Why NOW Is a Good Time to Double Down on Doing Business in China, explaining why it is that our China WFOE lawyers have literally never been busier and explaining in considerable detail why now is a good time for many sorts of companies to form a China WFOE to set up shop in China to better conduct business there:

Relations between China and the West are declining and yet Western companies are moving as fast as they can to go into China? What is up with that? I will tell you….

Our client companies that are going into China know what is happening with China and in China and those things are actually fueling their decisions  to go into China and to do so quickly. Those same things are fueling decisions by other clients to increase their footprint in China. These companies are telling us that they are doing so much business with China or will be doing so much business with China that it makes no sense for them to just walk away. That being the case, they are rightly concerned that if the only business they do with China comes from their corporate entities outside China, they are at extreme risk of getting cut off by changing tariffs and/or Changing trade relations. But if they are actually doing business in China through their own Chinese company (such as WFOE or a Joint Venture), they will be much better protected against the vicissitudes of international trade. And they are correct.

Way back in October — when many still believed China trade would quickly revert back to the way it had always been — we did a post, Six Key China Business and Law Trends setting out what we were seeing then, which is pretty much exactly what we are seeing now:

Our China lawyers had a team meeting yesterday and as is so often the case at such meetings, much of the meeting involved our talking about what we have been seeing lately. We mostly focused on the following trends:

  1. Six months ago, we rarely worked with our firm’s international trade lawyers. Sure, we would occasionally call one of them in to help with a sticky customs issue or a client concerned about getting hit with antidumping or countervailing duties, but these days we find ourselves working with them constantly. Companies that are getting hit or will soon be hit with having to pay 25% tariffs are looking for help in figuring out how to have their Made in China products made elsewhere so that they can legally avoid having to pay the tariffs. See China Tariffs and What to do Now, Part 1 and China Tariffs and What to do Now, Part 2.
  2. Six months ago, about 90% of the international contracts we drafted involved China or the EU. That number is now nearing 60% as our existing and new clients are diversifying outside China.
  3. International litigation is on the rise. We are reading about this and we are seeing it. This is happening because of the uncertainty and the disruptions stemming from the tariffs. With disruptions and uncertainty comes disputes.
  4. China is more open to foreign businesses than it has been in years. Forming a WFOE is a bit faster, cheaper and easier than it was just a few years ago, especially if your WFOE will be operating fully legally. Check out The NEW Steps for Forming a China WFOE.
  5. Chinese factories are copying and selling their foreign customers’ products faster than ever before. Almost every week we hear of a Chinese factory that sold its foreign customer’s product before or right after shipping out the foreign customer’s first order. The tariffs are causing Chinese factories to question the viability of a long-term relationship with their foreign buyers and they are simply calculating that they can make more by selling their customers’ products online themselves. In the past, our lawyers did not push back when start-up companies wanted to test their product in the marketplace before spending for a contract to protect against their Chinese manufacturer competing with them. Now though we make very clear that this a very bad idea because by the time market strength has been determined, there may no longer be a product to sell. See China Trademark Theft. It’s Baaaaaack in a Big Way, China and the First to Market Fallacy, and Protecting Your Product From China: The 101.
  6. Following the law makes sense if you are going to be doing business in China. The number of companies coming to us with big China legal problems has gone way down but the number of companies coming to us to proactively present big and small China legal problems has gone way up. This is a good thing because it means foreign companies have come to realize China has gotten both serious and effective at enforcing its laws as against foreigners. See Doing Business in China Without a WFOE: Will the Defendant Please Rise for a good example of where China has really cracked down against foreign companies and see China Employer Audits: The FAQs for a good example of the sort of thing foreign companies are doing in China to avoid future legal problems

As it becomes clearer and clearer that trade with China has permanently changed, what China does with foreign businesses in China is going to become more and more key. China can essentially go one of three ways on this:

  1. It can turn even more inward and make it as tough as possible on foreign companies. It can enact new laws to accomplish this. This would hurt China’s economy.
  2. It can stay the same, with the same being fairly encouraging of foreign direct investment by foreign companies that follow Chinese law.
  3. It can open up further to foreign investment to benefit its economy and to garner allies for reinvigorating China’s trade relations with the West

So far, China has consistently taken the third way and gone out of its way to welcome Western businesses into China and assure them of their economic security. Indeed, China has enacted laws designed to make it easier for foreign companies to do business in China.

And as so many of our clients that are going into China (via WFOEs or Joint Ventures) or increasing their China footprint by adding branch offices and employees there, “being in China is good for our China business.” Chinese consumers and Chinese companies prefer buying from foreign companies that have boots on the ground in China. This has always been true and it very likely always will be true. Foreign companies with boots on the ground in China are perceived as being more committed to China (because they are) and as being better able to stand behind their products and/or services (because they are). Or as one of our clients told us, they believe that by making a strong commitment to bolstering their China presence now, they will be greatly rewarded by their customers who will view them differently from their competitors that are either not there at all or are looking to leave or to reduce their presence there.

In the final analysis, what makes sense for your business will depend on your business and your industry but for many businesses now is indeed the time to fish or cut bait with China and for many businesses, doubling down on China is the way to go.

Well guess what? It looks like those foreign companies that have gone into China are mostly thriving. The Financial Times did a story this week on how how foreign companies in China are generally thriving despite China’s economic slowdown and they have statistics to back this up:

Foreign companies operating or selling in China bucked the country’s slowdown trend last year, even as the world’s second-largest economy appears to have decelerated more than official figures suggest. China’s biggest economic slowdown in three decades is provoking angst among companies that have become used to its booming economic expansion. Overall, the revenues of 2,891 foreign non-financial companies grew 19.8 per cent last year, compared with 13.9 per cent in 2017, according to data from financial intelligence provider FactSet.

The rest of the article — which is mostly a very long introduction to a four part series on China’s economy — mostly just discusses how much worse China’s economy is than its official economic statistics would indicate. But for us the big takeaway is that despite China’s declining relationship with the United States and the rest of the world and despite China’s declining economy, business for foreign companies in China is booming. The reasons we list above for why now is actually a good time for foreign companies to go into China are likely the reasons why business is so good for foreign companies that are already there.

What are you seeing of foreign businesses in China these days?

UPDATE: This just in. President Trump has signed an executive order declaring a national emergency over threats against U.S. technology. Following this order, the U.S. Department of Commerce announced U.S. companies cannot sell or transfer technology to Huawei Technologies and its affiliates without a license to do so from the Bureau of Industry and Security. It is widely believed this will greatly reduce or even eliminate U.S. company purchases from Huawei and it may also make it more difficult for foreign companies with U.S. connections to buy from Huawei as well. I have added this to this post because it so well illustrates why we are of the view that a “trade deal” between China and the United States will do little if anything at all to stem the slide in US-China trade relations. For more on this breaking news, go here.

China retaliatory tariff lists and exclusionsOn Monday, China’s Ministry of Finance announced it would be increasing tariffs on roughly $60 billion worth of U.S. goods in response to President Trump’s decision to increase tariffs to 25% on various goods from China. China said it would by June 1, 2019, raise its tariffs to as high as 25% on U.S. products currently subject to 5% and 10% tariffs. The U.S. Department of Commerce tracks Information about China’s retaliations in response to the U.S. Section 301 tariffs and it is expected to include links to China’s official announcements. Our international trade lawyers are being told by Department of Commerce officials that it is in the process of updating its China retaliatory tariffs compilation table and that will eventually set out (in English) exactly what the tariff increases will be for the U.S. products.

In the meantime, China’s Ministry of Finance has posted its new tariff sheets on its website, but in Chinese only and thought that is what we are using with our own clients, it would be too big a task for us to translate all 5,000+ products for this post. But if you can read Chinese, go here for the list of 2,493 products facing a 25 percent tariff, here for the list of 1,078 products facing a 20 percent tariff, here for the list of 974 products facing a 10 percent tariff, and here for the list of 595 products whose tariffs will remain at 5 percent. UPDATE: Quartz Magazine has published an English language list of the products subject to the 25% tariff here.

Chinese companies impacted by China’s Section 301 retaliatory tariffs will can apply for exclusions of certain products through this process. It is reported that a key consideration for granting a product-specific exclusion is the lack of an adequate substitute for the U.S. product. Applicants for these exclusions are to submit their exclusion requests through the China Tariff Policy Research Center of the Ministry of Finance website. Exclusion requests for certain excluded products are to be submitted from June 3, 2019 to July 5, 2019 and exclusion requests for other of the products are to be submitted from September 2, 2019 to October 18, 2019.

If you are looking to have your product or products excluded by these increased China tariffs, you should work with your international trade lawyers and with your China importers and their international trade lawyers to get an exclusion request submitted. What percent of these exclusion requests will succeed? Who knows?

 

China IP protections

The trade talks between the United States and China broke down on Friday with no agreement. As a result, tariffs were raised to 25% and future U.S. tariffs on additional Chinese products are extremely likely. The Chinese side responded with retaliatory tariffs on a host of U.S. products. The parties will continue to negotiate, but there is no clear path to an agreement.

One of the core disputes centers on Chinese theft of U.S. intellectual property. It is reported that the talks broke down because of U.S. demands that the agreement contain enforcement provisions that would require the Chinese side to implement any agreement on IP protection. The U.S. required a) that Chinese laws be changed to implement the commitments and that b) an enforcement mechanism be established that would allow the U.S. to directly penalize China for inadequate implementation of the agreed IP protections. The Chinese side refused on both counts and the talks broke down.

Though the talks with China have broken down, the Chinese side fully understands that IP protection remains a key issue in its relations with all countries. It is not an issue restricted to just the United States. This can be seen by President Xi Jinping’s comments in his April 26 opening remarks at the recently concluded Belt and Road Forum. In those remarks, President Xi commented forcefully on China’s intention to protect intellectual property of all countries:

[W]e will intensify efforts to enhance international cooperation in intellectual property protection. Without innovation, there will be no progress. Full intellectual property protection will not only ensure the lawful rights and interests of Chinese and foreign companies; it is also crucial to promoting China’s innovation-driven and quality development. China will spare no effort to foster a business environment that respects the value of knowledge. We will fully improve the legal framework for protecting intellectual property, step up law enforcement, enhance protection of the lawful rights and interests of foreign intellectual property owners, stop forced technology transfer, improve protection of trade secrets, and crack down hard on violations of intellectual property in accordance with law. China will strengthen cooperation with other countries in intellectual property protection, create an enabling environment for innovation and promote technological exchanges and cooperation with other countries on the basis of market principles and the rule of law.

Go here for the complete text of President Xi’s talk.

President Xi’s remarks were made before an audience that did not include anyone from the United States. President Xi made these remarks to his Belt and Road supporters. It is therefore clear that the Chinese government sees IP protection as an issue of general concern to all countries that deal with China.

On April 27, the day after President Xi’s speech, a group of Chinese IP protection agencies announced a new “Strike Hard” program, titled Sword Net 2019. This program has been initiated by four Chinese government agencies: China’s National Intellectual Property Administration, the Cyberspace Administration of China, China’s Ministry of Industry and Information Technology and China’s Ministry of Public Security. This Sword Net program is set to run from April to October 2019.

The Sword Net program is focused on copyright infringement in China, an area that has been a major problem for China for decades. The Sword Net program will focus on the following three areas of copyright infringement that currently infect Chin’s Internet and social media (WeChat):

1. Plagiarizing media outlet news stories, usually by direct translation into Chinese.

2. Filming movies in cinemas and selling pirated videos.

3. Illegally selling photographs by online picture agencies.

These commitments on IP generally and on copyright specifically come from the very top levels of the Chinese government. Is this not sufficient to show that the PRC government is serious about dealing with its pervasive IP infringement/theft issue?

The answer is NO. Since the mid-1990s, it has become a ritual for the Chinese authorities to announce some sort of “strike hard” campaign (usually with a cool name) focused on wiping out copyright infringement. In the 1990s, the issue was DVDs. In the early 2000s, the issue was luxury goods. This latest program is focused on online infringement.

But none of these cool-sounding campaigns have had any real impact and China remains the most significant infringer of copyright in the world and pretty much any film or musical piece or book or photograph or just about any other sort of content can be downloaded in China without restriction or cost. In the market for textbooks and other educational materials, China is a major infringer. It is a rare Chinese college student who purchases a authorized copy of a textbook. Other educational materials are freely available on the Internet. Both India and China has been identified as the major infringers in the education market, but internal research by our own clients indicates the level of infringement in China is at least twice as high as in India.

What this means is that after 20 years of “strike hard” programs and promises from the PRC central government, hardly anyone with China experience believes China when it acts all serious about cracking down on IP infringement. And certainly it should come as no surprise to anyone (including especially the Chinese government) that the U.S. authorities seeking to negotiate a trade agreement with China would be willing to rely on a bare commitment from the Chinese side that it will “take care of it.” The U.S. trade negotiators are justifiably seeking IP protection commitments from China that are based on statute, that include a strong enforcement mechanism, and that are verifiable by the United States. The Chinese side has said “just trust us” but there is no basis for that sort of trust. It is this entirely justified lack of trust that is the source of the trade war and the source of the break down in talks. And this is not just coming from the United States either. Our own clients from Europe, Australia, Canada and Latin America have all expressed their hopes to us that the United States “hang tough” on this so that they too can benefit.

Since both China and the United States seem fixed in their positions on intellectual property, it does not appear there will be a short term resolution to the IP theft issues. Without a resolution on that key issue, a quick resolution of the 301 agreement discussions is not plausible. As we stated the day before President Trump issued his Tweet imposing new tariffs against Chinese products, winter is coming. I suggest you get prepared.

US-China international trade lawyers

It should come as no surprise that international trade lawyers all across the United States are having to put in late nights and weekends lately 1) explaining to clients President Trump’s 25% tariff on Chinese products, 2) helping them figure out whether their products are or are not on this tariff list, and 3) helping them figure out what their options are if their products are on this tariff list. I have been cc’ed on a ton of these emails in the last week and the below is an amalgamation of them, put forth here to help companies that import from China understand what at least some of the common issues are that they are and will be facing.

Like I said, the below is an amalgamation of a slew of emails, with any and all identifiers stricken. I have set them up as coming from HB INTERNATIONAL TRADE LAWYER (the HB is for Harris Bricken — my law firm) and our various clients are referred to as CLIENT.

 

CLIENT: I figured you would be the best people to consult for this. If the Trump tariffs do happen we would like to know what our legal options to combat/reduce this? Also, what if we suspect a competitor has been skirting the tariffs already? Can we report them effectively and anonymously?

HB CHINA LAWYER: I will turn you over to one of our international trade lawyers and you should get an email from one of them shortly. As you can imagine, they’ve been extremely busy since the trade war began and but I know they have dealt extensively with exactly the issues you raise (how to deal with the trade war legally and how to handle competitors who deal with it illegally). It is theoretically possible to make an anonymous complaint, but I’ll defer to our international trade law team on whether that’s advisable in your particular situation.

 

HB INTERNATIONAL TRADE LAWYER: It sounds like you are interested in learning more about (1) whether you can get a tariff exclusion/ exemption for your particular products; and, (2) whether you can report your competitors who may be illegally circumventing the tariffs by mis-declaring the country of origin or product description.

For #1, it would be helpful to get a list of the products for which you wish to seek a tariff exclusion. For each product, please provide a description of the product as listed on your invoices/website, and also identify the HTS (Harmonized Tariff Schedule) code used to identify the product for US imports. The tariffs identify which products are covered by the HTS#s.

For each product, are you aware of any US producers of this product?  Any third country producers of this product?

What is the estimated total US consumption of this product for the past three years 2016-18 and for the next few years (2019-21).

For #2, trying to report the wrongdoings of others is challenging because of the difficulty in getting hard evidence that proves it. Though it is possible to build a case from circumstantial evidence, it would still be necessary to somehow demonstrate a factual basis for a claim that a Chinese product is being mis-declared as a different product or from a different country. We should discuss by telephone the kind of information you already have to see whether it would be worth trying to pursue this kind of action.

Let me know if there is a good time for us to talk.

 

CLIENT: The below answers your questions as best we can.

          Product Information. Final assembly is done by a main factory based in ________, China. The product then gets shipped via containers to fulfillment centers around the world, including to three different U.S. states.

We get the following product from China:

Product One: ____________________

Description: ___________________________________________________________.

HTS: ____________________

          Other Producers. There are other much smaller producers but the entire supply chain for everybody is pretty much just in China.

          Other country producers. Korea and Taiwan also produce this product, but only the ultra-high end and only in pretty insignificant quantities. We are hearing talk of Thailand and Vietnam and maybe Indonesia starting to produce as well, but we have yet to see this.

          Estimated Consumption. Estimated yearly US consumption for 2016-2021:

2016: $____

2017: $____

2018: $____

2019: $____

2020: $____

2021: $_____

What if we shipped the container to Vietnam and then swapped our product into another container. Will we still be liable for the tariffs? One of our factories is insisting this will “fix” the tariff problem but I find it hard to believe it can really be that simple. But what if we ship our product to a factory in Vietnam and they check each one to make sure they are in good order and then they tighten the screws on them, etc., and then load them onto a new container and ship them to the United States? Would this relieve us of having to pay the tariffs?

 

HB INTERNATIONAL TRADE LAWYER: Thanks. This is good information that we can use to figure out how best to make an exclusion request for your products. USTR should be announcing the schedule/process for the List 3 ($200 billion) products that are now facing a 25% tariff that should be similar to the exclusion process for the previous two tariff lists.

As to the last part about circumventing the tariff, these are clearly fraudulent actions that likely would trigger civil penalties and perhaps even criminal charges. Regardless of whether you swap containers in a third country or move your product to a factory in a third country to repackage/ relabel the goods, fundamentally the products still will have a China country of origin and these actions will not legitimately change that. If those goods are declared as having a Vietnam origin on a US customs entry declaration, that would be a materially false declaration that would subject anyone involved to potential monetary penalties under US Customs laws and possibly even criminal prosecution.

I think these are probably the likely scenarios that your competitors may be engaging in. To the extent you are able to get any solid information about other companies doing this kind of illegal transshipment, this could be used to bring a claim that would lead US Customs to go after these competitors.

It is possible to change the country of origin of the product to Vietnam, but to do so there has to be enough production/processing that occurs in Vietnam so as to constitute a “substantial transformation” of your product. You might be able to have certain parts produced in China, but other parts produced in Vietnam that are significant enough so that the product could then be considered to have been “made in Vietnam.” But if your product is simply assembled (e.g., screwdriver operation) of parts that were all made in China, that very likely would NOT be enough to make that product a Vietnam origin product. Substantial transformation is a highly fact-specific analysis that does not have a simple formula, but rather is done on a case-by-case basis.

To give you a better idea of what substantial transformation really entails, I urge you to read this blog post written by one of our customs lawyers back in 2015, entitled Made in China? You should also read this blog post, China Tariffs and What to do Now, Part 3, written by one of our international lawyers about six months ago. I suggest we then set up a time to talk.

 

 

 

 

 

 

 

Doing business in China
Why now might be the best time to double down on doing business in China

In yesterday’s post, Doing Business in China or with China: It’s All Good, I talked about how we would try to move away from focusing so much on the declining trade relations between China and the West and focus more on China’s business opportunities, of which there are still many.

On May 4 — one day BEFORE President Trump announced by tweet that the United States would be enacting new 25% tariffs against China, we posted The US-China Trade War: Winter is Coming, essentially saying that trade agreement or no trade agreement between the U.S. and China, relations between China and the West are in a straight line decline. We wrote that post to emphasize that a trade agreement (if there ever is one) between the United States and China will not in any way be a reset in US-China trade relations. This is all part of our view that there has been an inexorable souring of relations between China and the West and that sort of thing takes decades to change.

We concluded that post by talking about the new risks of doing business with China:

How though should your business respond to all of this? To quote an old investment adage, “the trend is your friend,” and right now the trend is for the West and China to continue decoupling. This means the most important thing for your business is to be cognizant of this and to monitor it. We keep writing about this because we see it as likely to impact nearly all foreign companies that do business with China, even those from countries whose relations with China are much better than those between the United States and China. No matter in what country your company is based, if you do business with the United States — especially if you have your products made in China and then sell them to the United States — your business is at risk of becoming entangled by the decoupling.

If you want to see your company go into China or have its products made by China or increase its China presence, you should be prepared to explain to your company’s decision makers why you believe your business will not fall prey to US-China tensions. If you are having your products made in China, you almost certainly are already looking to reduce your China exposure, but in doing your cost benefit analysis for that, consider whether yours is the sort of business whose sales might increase merely by being able to tell its customers/consumers that your company does no business with China. And yes, this is going to sound self-serving (and it is, but it is also true), you need to more than ever make sure you are not doing anything that might make you an easy target of the Chinese government. In other words, make sure your company is in full compliance with China’s laws, particularly its tax, environmental, employment and bribery laws.

And then the following day — after President Trump shocked many by announcing the new 25% tariffs, we wrote an even more downbeat post, The US-China Cold War Starts Now: What You Must do to Prepare. This post focused on what you should be doing NOW if you sell Chinese products to the United States or import Chinese products into the United States. But even in that post, we commented on how just as companies that make products in China are beating the doors to reduce their China exposure, our law firm is getting more legal work helping companies go into China than ever before:

And just as we are seeing so many of our manufacturing clients beating down the doors to get out of China, our China WFOE formation work is at its highest level (by far) in the history of our firm. In other words, we are on the one hand working to get many clients out of China while at the same time working to get many of our clients more deeply embedded into China with their own Chinese companies. Who are the companies going in? Mostly tech companies and companies that sell their products and services to China. Most of these companies either do not care much about the tariffs or are going into China because of the tariffs. For example, one company that does a lot of manufacturing in China is going into China to start selling its made in China products there, while at the same time looking to have its products made outside China for selling to the United States. As I am always saying, lawyers thrive on change, whether the change is for the better or for the worse.

It is the going into China and doing business in China part on which this post will focus. Relations between China and the West are declining and yet Western companies are moving as fast as they can to go into China? What is up with that? I will tell you….

Our client companies that are going into China know what is happening with China and in China and those things are actually fueling their decisions  to go into China and to do so quickly. Those same things are fueling decisions by other clients to increase their footprint in China. These companies are telling us that they are doing so much business with China or will be doing so much business with China that it makes no sense for them to just walk away. That being the case, they are rightly concerned that if the only business they do with China comes from their corporate entities outside China, they are at extreme risk of getting cut off by changing tariffs and/or Changing trade relations. But if they are actually doing business in China through their own Chinese company (such as WFOE or a Joint Venture), they will be much better protected against the vicissitudes of international trade. And they are correct.

Way back in October — when many still believed China trade would quickly revert back to the way it had always been — we did a post, Six Key China Business and Law Trends setting out what we were seeing then, which is pretty much exactly what we are seeing now:

Our China lawyers had a team meeting yesterday and as is so often the case at such meetings, much of the meeting involved our talking about what we have been seeing lately. We mostly focused on the following trends:

  1. Six months ago, we rarely worked with our firm’s international trade lawyers. Sure, we would occasionally call one of them in to help with a sticky customs issue or a client concerned about getting hit with antidumping or countervailing duties, but these days we find ourselves working with them constantly. Companies that are getting hit or will soon be hit with having to pay 25% tariffs are looking for help in figuring out how to have their Made in China products made elsewhere so that they can legally avoid having to pay the tariffs. See China Tariffs and What to do Now, Part 1 and China Tariffs and What to do Now, Part 2.
  2. Six months ago, about 90% of the international contracts we drafted involved China or the EU. That number is now nearing 60% as our existing and new clients are diversifying outside China.
  3. International litigation is on the rise. We are reading about this and we are seeing it. This is happening because of the uncertainty and the disruptions stemming from the tariffs. With disruptions and uncertainty comes disputes.
  4. China is more open to foreign businesses than it has been in years. Forming a WFOE is a bit faster, cheaper and easier than it was just a few years ago, especially if your WFOE will be operating fully legally. Check out The NEW Steps for Forming a China WFOE.
  5. Chinese factories are copying and selling their foreign customers’ products faster than ever before. Almost every week we hear of a Chinese factory that sold its foreign customer’s product before or right after shipping out the foreign customer’s first order. The tariffs are causing Chinese factories to question the viability of a long-term relationship with their foreign buyers and they are simply calculating that they can make more by selling their customers’ products online themselves. In the past, our lawyers did not push back when start-up companies wanted to test their product in the marketplace before spending for a contract to protect against their Chinese manufacturer competing with them. Now though we make very clear that this a very bad idea because by the time market strength has been determined, there may no longer be a product to sell. See China Trademark Theft. It’s Baaaaaack in a Big Way, China and the First to Market Fallacy, and Protecting Your Product From China: The 101.
  6. Following the law makes sense if you are going to be doing business in China. The number of companies coming to us with big China legal problems has gone way down but the number of companies coming to us to proactively present big and small China legal problems has gone way up. This is a good thing because it means foreign companies have come to realize China has gotten both serious and effective at enforcing its laws as against foreigners. See Doing Business in China Without a WFOE: Will the Defendant Please Rise for a good example of where China has really cracked down against foreign companies and see China Employer Audits: The FAQs for a good example of the sort of thing foreign companies are doing in China to avoid future legal problems.

As it becomes clearer and clearer that trade with China has permanently changed, what China does with foreign businesses in China is going to become more and more key. China can essentially go one of three ways on this:

  1. It can turn even more inward and make it as tough as possible on foreign companies. It can enact new laws to accomplish this. This would hurt China’s economy.
  2. It can stay the same, with the same being fairly encouraging of foreign direct investment by foreign companies that follow Chinese law.
  3. It can open up further to foreign investment to benefit its economy and to garner allies for reinvigorating China’s trade relations with the West

So far, China has consistently taken the third way and gone out of its way to welcome Western businesses into China and assure them of their economic security. Indeed, China has enacted laws designed to make it easier for foreign companies to do business in China.

And as so many of our clients that are going into China (via WFOEs or Joint Ventures) or increasing their China footprint by adding branch offices and employees there, “being in China is good for our China business.” Chinese consumers and Chinese companies prefer buying from foreign companies that have boots on the ground in China. This has always been true and it very likely always will be true. Foreign companies with boots on the ground in China are perceived as being more committed to China (because they are) and as being better able to stand behind their products and/or services (because they are). Or as one of our clients told us, they believe that by making a strong commitment to bolstering their China presence now, they will be greatly rewarded by their customers who will view them differently from their competitors that are either not there at all or are looking to leave or to reduce their presence there.

In the final analysis, what makes sense for your business will depend on your business and your industry but for many businesses now is indeed the time to fish or cut bait with China and for many businesses, doubling down on China is the way to go.

What do you think?

International lawyers China lawyersAs lawyers, we almost cannot help but have a wary view towards just about everything we do, China included.

There are two main reasons for this. First, we have been trained to look at everything with a critical eye. Companies do not hire and pay lawyers to have them cheerfully proclaim, “this all looks great. I love it.” No, we are usually retained to figure out the potential risks and problems and then provide contractual or structural solutions to minimize or eliminate them for our clients. Second, and probably most importantly here, clients and potential clients rarely (it does sometimes happen) write or call their lawyers just to let them know everything is going great and the weather (is delightful. Our clients contact us to avoid problems or to fix problems and for this reason, problems are our focus.

For every matter our China lawyers handle that stem from a problem, we handle probably fifty matters that do not involve an existing problem. Why then does this blog focus so much on the problems with doing business in China and so seldom talk about how great it can be? This question is actually an almost direct quote from an irritated China consultant friend of mine who recently complained to me about how our blog has become “too downbeat” on China.

Let me explain to you-all and answer to my China consultant friend….

First, we would not be very helpful to our readers if all we did was say that China has 1.5 billion people to whom you can sell your wares and all is great. Stop.

Second, and as I mentioned above, our job as lawyers and as China lawyers is to point out the potential problems and risks in doing business in China or with China. I see our job as bloggers as being roughly the same.

Third, though we handle fifty China legal matters that do not involve existing problems for every one that does involve a problem, other ratios regarding such things are much smaller.

When I say “other ratios regarding such things are much smaller,” I am referring to money, time and angst and the below are some fairly common examples of what I mean.

  1. Intellectual property. Our international IP lawyers work with our clients to help protect their IP, using various mechanisms, such as NNN Agreements, Manufacturing Agreements, Licensing Agreements, Product Ownership Agreements, Mold Ownership Agreements, Non-Compete Agreements, China trademark registrations, China copyright registrations, China patent registrations and regular IP audits. But if we were to add up the time and fees we spend on all these things (and most clients really only need 1-4 of these things), they would equal less time and money typically incurred when companies come to us with a massive IP problem. We once represented a US company with a massive IP problem. That representation involved multiple lawsuits against a Chinese company: a trademark action in Beijing, a trademark lawsuit in one US state, two patent litigation lawsuits in another US state and two trademark/patent lawsuits in yet a third US state. In other words, six lawsuits in two different countries and three different states. Needless to say, all this litigation was incredibly time-consuming and expensive and none of it would have occurred if the US company had appropriate China contracts and IP registrations in the first place.
  2. Employment Law. Our typical China employment law package consists of China Employment Contracts, China Employer Rules and Regulations, and all sorts of supplementary agreements, like China Employee Non-Compete Agreements, China Employee Trade Secret Agreements, etc. In addition to these things, our China employment lawyers regularly provide our clients with employment law counseling and yearly China Employment Audits, all so as to prevent future problems and lawsuits. If you were to add up the time and money incurred on all this “preventative” employment work it would be less than one typical contentious employment lawsuit. Years ago, a Chinese company doing business in the United States asked me what my firm would charge it for an employee termination agreement in California and I told them. Maybe two months later this same company called to reveal that it had used an “off the shelf” employee termination agreement with the employee it terminated and that employee was now suing them in California because the agreement they had used did not comply with California law. The Chinese company ended up having to pay maybe ten times the attorneys fees to quickly wrap up the litigation as it would have paid for the employee termination agreement and it had to pay  the employee double the severance to which it had initially agreed.
  3. China WFOE Formations. We are always talking about how important it is to register your WFOE in China if you are doing business in China. See Doing Business in China Without a WFOE: Will the Defendant Please Rise. There are a lot of reasons for this. We had a company come to us about forming a China WFOE and then decide (against our advice) to delay so those WFOE formation costs could go into next year’s budget. Unfortunately, the Chinese government did not wait until the next year and this company ended up having to pay about double in attorneys fees (as compared to just forming the WFOE) to negotiate a resolution with the Chinese government that also included their having to pay a hefty (though reduced) amount in tax penalties.

So yes, the problems foreign companies face when doing business in China and with China are what consume us, both in terms of preventing them and in terms of dealing with them when they happen. But we fully realize China is a lot more than just a mass of problems and in the next week and month — especially now when things are looking so grim what with the trade disputes and all — we will write as much as we can about the positives of doing business in and with China and the great business opportunities that remain there.

If anyone has any positive business stories they wish to share about China, please let us know and we will work to include them.

It’s all good….

The Office of the U.S. Trade Representative (USTR) formally published a notice in the Federal Register (this means it is official) confirming President Trump’s by now famous weekend tweet: U.S. imports of Chinese products, valued at $200 billion, that have been subject to 10 percent tariff since September 24, 2018, will now be subject to a 25 percent tariff. The Federal Register notice itself blames China for this increase: “In the most recent negotiations, China has chosen to retreat from specific commitments agreed to in earlier rounds.” Here is the list of products now subject to a 25% tariff.

China is saying it will take “necessary countermeasures,” but it has not indicated what those measures will be nor when they will go into effect. On the one hand, China all but has to do something so as not to appear incredibly weak. But on the other hand, China knows it has a weak hand right now and it might be reluctant to do anything to further anger the United States. President Trump previously threatened to impose a 25% tariff on pretty much all goods coming from China and China could well be reluctant to retaliate for fear of Trump immediately pulling the trigger on even more tariffs in response.

Not surprisingly, our law firm’s international trade lawyers are getting a steady stream of questions from American companies that import products from China and from companies from all over the world (China, Europe, Australia and Japan, mostly) that export Chinese products to the United States. These companies first want to know whether their product(s) are subject to the new 25% tariff and when that tariff will take effect. The answer to their first question depends on each company’s exact product(s). The answer to the second question is that the 25% tariff applies “to goods (i) entered for consumption, or withdrawn from warehouse for consumption, on or after 12:01 a.m. eastern daylight time on May 10, 2019, and (ii) exported to the United States on or after May 10, 2019.” In layman’s terms this 25% tariff applies to goods that left China on or after May 10.

The most important thing you can do if you believe you have been hit by the 25% tariffs is to not panic. I say this for two reasons. One, many who believe their products are subject to tariffs have been wrong and many who believe their products are not subject to tariffs have been wrong as well. Understanding whether or not a particular product is covered is not as easy as one might believe and for that reason, all of the international lawyers in my firm are turning the question of inclusion or exclusion over to our international trade lawyers because this is what they do. When various tariffs take effect can also be quite complicated. Two, we have seen panic drive too many companies to make major mistakes that end up costing them way more than the tariffs would have. So before we discuss what companies should do about their tariff problems, we will first discuss what you should NOT do. You should not have your China products shipped to Vietnam or Taiwan or Malaysia or Thailand or anywhere else and then have those products shipped to the United States claiming they are not from China. This sort of “transshipping” can and does lead to massive fines and to JAIL TIME. I am not kidding. Just by way of one example, here is a very recent case (on which my firm’s international trade lawyers assisted the US Government) where a company paid USD$62.5 million “to resolve allegations that it evaded $36 million in antidumping duties.”

We are constantly hearing of Chinese factories suggesting illegal transshipments while giving assurances that what they are proposing is legal or that nobody ever gets caught. Do not get your legal advice about United States customs law from a Chinese factory owner or salesperson who is trying to convince you to buy product from them. Please.

US Customs has become expert at discovering such evasions and the penalties when caught have become very harsh. Importers that knowingly falsely label the country of origin on their imports are subject to significant fines and penalties under 19 USC 1592 and to criminal prosecution under 18 USC 542 (import by using false statement) and 18 USC 545 (smuggling). Lying about your products country of origin can subject you to 20 years in Federal prison.

U.S. Immigration and Customs Enforcement (“ICE”) has conducted criminal investigations against a number of products, including honey, saccharin, citric acid, lined paper products, pasta, polyethylene bags, shrimp, catfish, crayfish, garlic, steel, magnesium, pencils, wooden bedroom furniture, wire clothing hangers, ball bearings and nails. U.S. importers have been sentenced to prison for bringing in Chinese products, such as honey, garlic, wooden bedroom furniture and wire clothing hangers, with false Country of Origin statements. Whenever the US increases tariffs on a product, it knows there is an increased likelihood of illegal transshipping of that product and it prepares accordingly. If you do not realize the U.S. government would like nothing more right now than to catch and punish those who transship China products to avoid the new China tariffs, you have not been reading the news. The U.S. government (and even the U.S. populace as a whole) are eager to act harshly against anyone who engages in transshipping Chinese products.

One of the biggest hammers against transshipping is the False Claims Act (“FCA”).  The FCA ( 31 U.S.C. § 3729) allows people or companies to bring “qui tamlawsuits against individuals or companies that defraud the Federal government. Damages under these claims can be tripled and anyone who knows of the fraud (including a competitor company) may file a qui tam lawsuit.

Qui tam actions are brought to attack competitors and to get 15 to 30 percent of the triple damages the U.S. Government can recover from the lawsuit. Your competitors and your importers and your own employees (and even employees of the Chinese company that assured you that your transshipping is perfectly legal) are the most likely to initiate a qui tam lawsuit against you, but sometimes it is just someone who learned of what you are doing. Because the person or company that brings such an action can be awarded millions of dollars the incentive to file such lawsuits is huge.

What is your duty as the US buyer/importer to make sure the products you are importing are truly from the country listed on the import documents?

The examples below are illustrative.

  • A US importer is told by its Chinese producer/exporter whose products will be covered by the China tariffs not to worry about the tariffs because the Chinese company will ship the product through Taiwan and list them as Taiwan products. The importer should decline this offer because if it imports this product knowing it is from China and not Taiwan, it will be criminally liable under U.S. customs law and subject to potentially massive damages under the U.S. False Claims Act. 
  • A US importer suspects its Vietnamese “producer” is not actually making anything, but rather simply transshipping product that comes from the Chinese company that owns the Vietnamese “producer” company. The company visits the Vietnam “producer” facility and it does not appear anything is actually being produced there. The US importer raises this concern with the Chinese company which tells the US company that it can avoid any problems by being listed as the consignee of the products and not the importer of record since it is the importer who is at risk. This too is simply wrong information.

Fraudulent transshipment is a crime and Chinese companies and their US importers can have very different interests when it comes to importing product into the United States. The Chinese company wants to ship product to the US above all else and the US importer should above all else want to avoid trouble with U.S. Customs and avoid liability and stay out of jail.

If you are doing business with a person or company using transshipments to minimize US customs duties, you could be in very big trouble and you should contact a lawyer immediately. If you are aware of such transshipments by a company with which you are not doing business, you should consider contacting a lawyer to determine how you can profit from your information.

Now let’s turn to what you can do to fight back against the U.S. tariffs being imposed on goods coming in from China.

There is often a lot you can do to legally change your products’ country of origin. The rules for figuring out a product’s appropriate country of origin are incredibly complicated and best left to experienced and qualified international trade lawyers, especially with all that is going on between China and the United States these days. Even our China lawyers do not claim to be qualified on this score; I tell my clients who ask for country of origin help something like the following:

Putting together your electronics product in China and then shipping it to Vietnam for a plastic case to be put on will not qualify that product as having been made in Vietnam. That much I do know. Beyond this though, you are going to need to consult with our trade and customs lawyers because this is not something you can afford to get wrong.

So yes, it may be possible for you to make minor (or major) changes in how you are having your products made so they can legally avoid the China tariffs, but you truly must tread carefully here and whatever you do, do not just go along with what your China factory is telling you to do. It is your company and your money and your freedom that is at stake and this is not something on which you should be taking advice from anyone but an expert who is looking out for your interests.

One of the questions we ask our clients is what will happen to your product sales if your products from China are subject to a 25% tariff and your competitors’ products are not? Answering this question requires knowing whether your products or your competitors’ products will come in duty free from Thailand or be subject to a 7% duty (or whatever) from Vietnam. I mention this because generally (though certainly not always) duties from Thailand and the Philippines are lower than duties from Vietnam, so even in choosing which non-China country you are going to use for your manufacturing, you need to know your way around the duty charts.

If you are going to take your Made in China products and have them partially made in some third country so as to have that product qualify as having been made in that third country (and not China) that product will need to be “substantially transformed” in that third country. One of my law firm’s international trade lawyers describes the substantial transformation requirement as follows:

Substantial transformation dictates that a product consisting of components/materials from more than one country is a product of the country where the components/materials become a new and different article of commerce with a name, character, and use distinct from that of the components/materials from which it was transformed. The CBP makes its substantial transformation decisions on a case-by-case basis, though U.S. importers may seek advance rulings on origin covering specific products for import.

The rules on substantial transformation are anything but clear-cut and the country of origin for your products should be determined on a case-by-case basis by a qualified international trade lawyer.

You also may be able to secure an exemption from tariffs for your product(s), just as was true regarding the previous rounds of tariffs. The exact process for how to do this and the corresponding deadlines have not yet been announced but we expect both will be very similar to the previous tariff rounds and our international trade lawyers are already gathering information from clients so as to be prepared.

You also will be able to make what is called an exclusion request. These too will have their deadline dates and these exclusion requests typically include the following:

  • Identify the product you want excluded. The U.S. list of targeted products is identified by the Harmonized Tariff Schedule (HTS) number that is used to declare the product when imported into the United States. A company needs to identify the commercial name of the product, the HTS number for the product, and any other industry designation of the product under a recognized standard or certification (for example: ASTM, DIN).
  • A description of the product based on physical characteristics (for example: chemical composition, metallurgical properties, dimensions) so your product can be distinguished from other products that would still be covered by the tariffs. A significant concern in considering exclusion requests is whether granting a specific exclusion request will create a loophole many other products can also use.
  • The basis for requesting an exclusion. Is the product unavailable from a domestic U.S. supplier and thus imports are needed to fill a demand no U.S. supplier can fill? Are there certain qualification requirements only the import supplier can satisfy? Have you been put on allocation by domestic suppliers? Are there alternative suppliers in any country other than China?
  • The names and locations of any producers of the product in the United States and in foreign countries.
  • Total U.S. consumption of the product by quantity and value for each year for the past three to five years (2013 – 2017) and projected annual consumption for the next few years (2018- 2020), with an explanation of the basis for the projection.
  • Total U.S. production of the product (or possible substitutes) for each of the past three to five years.
  • Discussion of why the U.S. products (or substitute products) cannot be used in place of the imported products.
  • A good story why your company deserves the exclusion it is requesting. This typically includes the history of your company (e.g., fifth generation family-owned), the products produced by your company, the strategic significance of your company’s products, the number of workers in your company, and your company’s annual sales.

The difference between the exemption process and the exclusion process is that a successful exemption will lead to the removal of tariff line items from the tariff list whereas a successful exclusion will remove specific products from the tariff item. In other words, the requirements for the exclusion process are much more product specific; if you have five different types of widgets, you will have to make six different product exclusion requests.

A new round of 25% tariffs are here and more may be coming. Now is the time to figure out what to do to ameliorate their impact on your business.

US-China Trade War Tariffs

On Sunday, President Trump tweeted a surprising announcement that he would order tariffs be increased from 10% to %25 on $200 billion worth of Chinese goods beginning at 12:01 a.m. tomorrow (Friday). Note though that this tariff increase will not apply to exports that left Chinese ports before May 10. This unusual delay appears to have been created to give China a couple of weeks to agree to a deal.

President Trump has also threatened to impose 25% tariffs on all remaining Chinese imports (another $325 billion or so). The United States Trade Representative (“USTR”) then issued a notice confirming the increase in tariffs from 10% to 25% will take effect this Friday, May 10.  Tomorrow. This sudden increase in tariffs on goods coming into the United States from China and the threat of additional tariffs has come as a surprise to many, especially to those who were expecting a US-China trade deal to be finalized this week.

First a quick review on how we got to this point of the US-China trade war. In August 2017, President Trump initiated an investigation to determine whether certain acts, policies and practices of the Chinese government related to intellectual property and technology transfer were unreasonable and discriminatory and causing a burden on U.S. commerce. After holding a hearing and reviewing thousands of submitted comments, the office of the U.S. Trade Representative (USTR) concluded that China’s IP practices were imposing a $50 billion burden on the US economy.

President Trump then started by ordering 25% tariffs on $50 billion worth of Chinese goods in July and August 2018. After China countered by imposing 25% tariffs on $50 billion of US imports into China, the US then imposed 10% tariffs on another $200 billion of Chinese goods in September 2018.

The United States’ 10% tariffs on incoming products from China were supposed to increase to 25% effective January 1, 2019, but the USTR postponed that deadline because of the progress being made in negotiations with China. On March 5, 2019, USTR postponed the planned increase from 10% to 25% “until further notice.” Many read this latest indefinite postponement as indicating a deal would be hammered out between the U.S. and China to end the US-China tariff wars. Until Sunday, comments from USTR Robert Lighthizer and Treasury Secretary Steven Mnuchin and even President Trump himself indicated significant progress was being made and to expect a good deal soon.

But then, kablooey!

Whatever progress had been made in the US-China negotiations appears to have been completely undone. According to the Trump Administration, this sudden reversal was triggered by China back-tracking on prior commitments and trying to renegotiate previously agreed to conditions. On Friday, the Chinese negotiating team submitted comments to the 150 page draft agreement that struck out many of the United States’ core demands.

What next?

President Trump’s tweet is a bit confusing because he is still saying the “Trade Deal with China continues” even though he is imposing additional tariffs that would appear to make it more difficult to reach just such a deal. Initial reports indicated that the Chinese considered canceling the planned meetings in DC after seeing Trump’s tweets, so it is at least somewhat encouraging that the Chinese delegation is still planning to come to Washington DC later this week to continue negotiations.

But it is still unclear how China will modify its negotiation position, if at all, in reaction to President Trump’s additional tariffs tweet. Maybe the additional tariffs will cause China to concede on all key US demands. Or perhaps China will dig in and not give in on any of the key U.S. demands.  Maybe China will find other ways to retaliate against US interests, such as initiating actions under Chinese laws (e.g., antimonopoly, labor, customs, corporate, etc.) to target U.S. interests in China or — potentially even worse — by doing whatever it can to make life difficult for American companies in China. Or maybe (hopefully) both sides will concede enough for the negotiations to get back on track so as to eventually achieve resolution.

The key issues of the U.S.-China trade dispute are still pretty much the same as they have been from the very beginning. The U.S. wants China to change its intellectual property practices and policies that violate international norms. The U.S. believes its unilateral imposition of tariffs on Chinese imports is the appropriate tool to force that change in China’s IP practices. So, the US will demand that any deal to settle the US-China trade dispute have snap-back provisions that will allow the U.S. to re-impose tariffs if it determines China has not lived up to its end of the bargain. These are all very difficult asks from the U.S. that China has a long track record of resisting and rejecting.

In the meantime, the $200 billion of Chinese goods will definitely see an increase in tariffs from 10% to 25% starting this Friday May 10, though it is unclear how long these increased tariffs will stay in place. It is also unclear if and when the 25% tariffs will be imposed on the remaining $325 billion of Chinese imports, as President Trump has threatened. Presumably, the tariffs will remain in place until the US decides China has given up enough to reach a satisfactory deal, however the Trump Administration defines that. Perhaps the ultimate deadline for a deal to be reached is the timing of the next election cycle, as President Trump would like to campaign with a US-China trade deal among his list of accomplishments.

Despite President Trump’s prior claims that trade wars are “easy” to win, the US-China trade dispute is very complicated and unlikely to be easily or clearly resolved. Such a “deal” may still ultimately be reached but it seems unlikely U.S. tariffs will lead to any real changes to Chinese IP practices. In the meantime, US importers of China products will pay the China tariffs and pass some or all of that downstream US manufacturers, distributors, and consumers.

 

International trade lawyers

Since the very beginning of US-China trade negotiations we have been unequivocally negative on the likelihood of a deal and we have taken huge amounts of heat for that, via hate e-mail, online, and even from our own clients, some of whom have accused us of being too cynical or too negative about China. Our response to all of this has been consistent. We just kept saying that NOW was (and it still is!) the time for foreign companies (especially those that sell their products to the United States) to work hard on reducing their China footprint.

We first publicly sounded this warning call back in October, 2018, in China, the United States and the New Normal, though we had been warning our own clients months before this for months. This “New Normal” post was an attempt to get in the face of those who had been sending our lawyers hate mail because we had in a September 2018 post predicted manufacturing orders from China were declining and would continue to decline:

I got a badly written and vituperative email yesterday in response to my post, On the Impact of China Tariffs: Is This a Dead Cat Bounce? In my post I predicted a large decline in manufacturing orders from China, starting in the next few months. The email accused me of “hating China” and wanting “to impede its peaceful” rise and of being “jealous of its progress.” All this because we have been writing of late how so many of our law firm’s own clients and so many others are leaving China, or looking to leave China. We have been getting quite a lot of these sorts of emails lately.

I then wrote about how our reporting on what we were seeing and our advice for what to do had (and still has) absolutely nothing to do with our own personal feelings about China:

Guess what people. Our posts about foreign companies leaving China have nothing to do with our feelings regarding China and everything to do with what we are hearing and seeing. Our statements of fact about companies leaving China are not being made out of animus to China, but out of a desire to tell the truth and help foreign companies figure out what to do about China going forward. Life would be far easier and economically lucrative for us if foreign companies were not running for an exit from China. But from what we see, they are.

We are telling the truth about companies (not just American companies) looking to leave China because part of what we do is help companies legally fulfill their goals and their plans. My firm’s international lawyers help companies negotiate their exits from China and we help companies figure out where to go instead of or in addition to China. We also help companies looking to set up in other countries, do deals involving other countries, protect their IP in other countries, and draft necessary contracts in other countries. In the last few months our international lawyers have been being kept nearly as busy with countries like Vietnam, Cambodia, Indonesia, Taiwan, Thailand, Malaysia, Turkey, India and Pakistan as with China.

And then, for the first time, we wrote about how no matter the resolution to the US-China trade war, things would NOT revert back to the way they had been. We dubbed the present tense situation between China and the United States as the New Normal.”

The above is but an introduction to what we see as China’s diminished future for foreign companies. Since pretty much the inception of the US-China trade war we have been saying that we do not see its end because we have always seen it as more than a trade war. At first, we saw the US tariffs as an effort by the United States to get China to “open up” and “act right” on things like the internet and IP. But because we did not see China changing on these things, we did not see the trade war ending.

Vice-President Pence’s speech on China earlier this week has only reinforced for me that the trade war between China and the US will not be ending any time soon, if ever. The New York Times has called that speech the Portent of a New Cold War between the United States and China and China’s own Global Times wrote an article entitled, Pence speech shows Washington’s tougher policy on China. Don’t blame us. We are just the messengers. Things are getting very tough between China and the United States right now and the trade war is just a symptom of that, not the disease.

The United States is aggressively and unabashedly doing what it can to isolate China and to remove it from the world of international trade. The new free trade agreement between the United States and Canada is further proof of this as it essentially blocks Canada and Mexico from engaging in free trade with China. See What Trump’s new trade pact signals about China. Word is that shutting out China is going to become a regular thing in all new U.S. trade agreements. See US Commerce’s Ross eyes anti-China ‘poison pill’ for new trade deals. Will the EU and Japan and Latin America play ball on this? I predict that most if not all of them will.

So yes, the above is why we will continue to write about what North American and Latin American and European and Australian businesses should be doing to deal with the new normal regarding China. We are writing these things because we value our credibility and because we presume our readers value our no-holds barred advice — threatening emails or not.

We then listed out our previous blog posts on what foreign companies should do in light of the then new tariffs imposed against China (much of which information is relevant for the tariffs that will go into effect at 12:01 a.m. THIS Friday:

We then noted how the opposition to our claims of foreign companies looking to leave China had so far been bereft of facts: “So far nobody has written to factually dispute that many (most?) foreign companies are looking to leave and/or are leaving China, but we certainly would welcome such information if you have it!”

And so began our steady stream of posts exhorting companies to look more closely at countries other than China.

The reactions to these exhortations from our own clients has been the most interesting, because those have ranged all over the map. Many have insisted that there would be a US-China trade deal and their reasoning was usually something like, “it only makes sense for their to be a trade deal,” believing the war was a purely monetary one and once the two countries were truly pushed up against a wall, the Chinese side would agree to buy x billion dollars more of soybeans and other US products and services and the United States would then walk away. These clients did not want to hear our incredibly long explanations as to why we did not believe this to be the case.

But some of our clients really listened and I am going to highlight two of them now, without discussing enough to reveal who they are. I chose these two companies because they both “played” their cards so wisely and because they are such completely different companies.

The first company is a really big U.S. company that makes electronics and I cannot get more specific than that. The head of this company “loves” geopolitics and from day one he was convinced there would not be a quick deal between the United States and China and, most importantly, no trade deal would solve the issues between China and the U.S. and problems between the two countries would be ongoing for decades. This person declared that his company would within six months reduce its purchases from China by 50% and he wanted my law firm’s help to achieve this. What he wanted from us was the following:

  1. Help in deciding the countries to target for its purchases.
  2. Help in figuring out how to pressure its existing China-based suppliers to move outside China.
  3. Help in figuring out whether to manufacture on its own in countries outside China.
  4. Help in protecting its IP outside China.
  5. Drafting its manufacturing contracts with the companies outside China.
  6. Help in making sure that its products that would be made outside China would truly and legally qualify as having been made outside China.

Our lawyers were thrilled to work on a project(s) with such a wide scope, but I have to confess now (I have confessed this to the client previously so no worries there) that I did not believe this company’s 50% goal was achievable, in large part because of the nature of this companies products: electronics. If it had been shoes or clothes or furniture or even doors or toasters I would have thought it could move 100%. But electronics, no way.

But this client has now moved about 80% of its production outside China and it has made clear to its few remaining China suppliers that if they cannot supply our client with their products from factories outside China (and soon), our client will cease to buy from them. In other words, this company — in the electronics industry — will soon be buying all of its products from outside China. And what has this move out of China done for this company? It has improved its positioning when making sales because it can and does tell potential buyers that its products do not come from China and therefore its pricing is not dependent on which way the US-China trade war is blowing.

The second company is a start-up that makes children’s products. This company initially came to us for a China NNN Agreement. I asked whether his products would be subject to any of what I call the Trump tariffs and he said yes. I then asked why then he was having them made in China, rather than Thailand (I picked Thailand both because it seemed like a really logical product to be made in Thailand and because a number of our lawyers have a lot of experience doing manufacturing deals with Thailand — we even have a lawyer and a Thai Business Specialist who speak Thai. His response to my Thailand suggestion was very positive, but he said that he didn’t even know where to start with Thailand. I said that we could help pretty much every step of the way and we did and the new products will soon be coming to market, with costs LESS than they would have been in China and 100% tariff free. I am guessing this client too will use its made-in-Thailand-ness as a selling point, because let’s face it, American and European consumers tend to have a much better “feeling” about Thailand than they do about China.

Let’s now though talk about the new (permanent?) impasse in US-China trade talks and how we got here. I’ve already heard from friends and clients who just could not wait to remind me that they too predicted this would happen. Many of these people point out how “what China did here is exactly what __________[Chinese company] tried to do to us.” And it is. But what exactly did China try to do to the US and why was that ZERO surprise to those who have a lot of experience negotiating with Chinese companies? What China tried to do was try to completely change an agreed-upon deal at the very last minute, believing that the Western side (in this case the United States) was so desperate for a deal (any deal) that it would go along. We have written about this tactic countless times on here and our recommended tactic for dealing with it is just what the United States has done. Stand firm or get even tougher. See Negotiating With Chinese Companies: Walk, Don’t Look Back. 

It is exactly this sort of common negotiating tactic, among a whole host of other things, that has caused us to be skeptical of the US and China doing a trade deal and skeptical of any trade deal changing much if anything in any event.

Literally the day before President Trump’s tweet regarding his plan to institute a 25% tariff on another $250 billion of Chinese goods, we wrote a long piece, entitled The US-China Trade War: Winter is Coming, in which we wrote how no trade deal between the United States and China will change much between them and how the trade war will merely go forward on other fronts. We concluded that post (as we have so many other posts) by exhorting foreign companies to look closely at their own business relationships with China:

How though should your business respond to all this? To quote an old investment adage, “the trend is your friend,” and right now the trend is for the West and China to continue decoupling. This means the most important thing for your business is to be cognizant of this and to monitor it. We keep writing about this because we see it as likely to impact nearly all foreign companies that do business with China, even those from countries whose relations with China are much better than those between the United States and China. No matter in what country your company is based, if you do business with the United States — especially if you have your products made in China and then sell them to the United States — your business is at risk of becoming entangled by the decoupling.

If you want to see your company go into China or have its products made by China or increase its China presence, you should be prepared to explain to your company’s decision makers why you believe your business will not fall prey to US-China tensions. If you are having your products made in China, you almost certainly are already looking to reduce your China exposure, but in doing your cost benefit analysis for that, consider whether yours is the sort of business whose sales might increase merely by being able to tell its customers/consumers that your company does no business with China. And yes, this is going to sound self-serving (and it is, but it is also true), you need to more than ever make sure you are not doing anything that might make you an easy target of the Chinese government. In other words, make sure your company is in full compliance with China’s laws, particularly its tax, environmental, employment and bribery laws.

I linked to this “Winter is Coming” post on Linkedin where it has been viewed by nearly 15,000 people and has engendered a healthy discussion regarding the US-China trade war. I urge all of you to go there and join the discussion.

Obviously much has happened in the last couple days between the US and China and the below is my initial attempt to put it all into perspective. I say “initial” because my views will no doubt change as more things occur and as I have time to discuss with others what has just occurred and will occur.

My first thought based on the last few days is that this trade war is at its core a fight between the United States and China for who determines from where products are purchased. I am obviously not the first person to say this but I have to admit that this did not really hit home for me until yesterday One of my law firm’s Spain lawyers off-handedly mentioned something along these lines to me months ago, but it took me until now to realize how true it is. Both President Trump and President Xi are using their presidential powers to influence global buying decisions. Okay, I agree that when I say it like this it seems obvious, but I’m not so sure that it was or even is until you hear the following explanation. But hey, if I’m all wrong on this, just let me know — as the saying (sorta) goes: “there are no bad ideas here.”

Earlier this week I read how President Xi controls China’s economy. Well duh, right. No, I mean like really controls it, down to just about every nib. China wants to pay Canada back for Canada’s abiding by international law in arresting Huawei CFO Meng Wanzhou. See The Huawei Indictments are the New Normal. China chooses to do this by essentially telling its businesses that they better not buy any canola oil from Canada and, pretty much just like that, they don’t. This is on top of China already having taken hostage two Canadians and snap-deciding to sentence to execution another Canadian whose previous sentence was 15 years in prison. In other words, President Xi and those at the highest echelon of China’s government can snap their fingers and thereby create a new business reality.

Lacking in such nearly unmitigated power, but wanting that same power for himself, President Trump has been using tariffs to essentially accomplish the same thing. He has been raising tariffs against China and then negotiating with China and then threatening to raise tariffs against China and then raising tariffs against China, all the while pressuring various U.S. governmental bodies to increase their pressures against China products via non- tariff actions like anti-dumping and countervailing duties (AD/CVD). See Yet Another International Trade (AD/CVD) Petition Against China: This Time it’s Metal File Cabinets.

Make no mistake about it, President Trump is doing whatever he can to convince American companies — really any company from anywhere in the world that sells its products to the United States — to stop doing business with China. In ‘We’re freaked’: Trump startles US businesses with fresh tariff hike, CNN does a great job explaining (I think unintentionally) how this all works by focusing on how Trump’s last minute tariffs will harm U.S. businesses that did not prepare for this:

Importers received just five days’ notice about the sudden rise in the tariff rate to 25% from 10%.

Phil Page, the CEO of Missouri-based Cap America, estimates that his company has more than $1 million worth of baseball hats already ordered that will now be hit with the higher tariff. “It’s very difficult to understand what the President is going to do by a business perspective. To spring it on us all at once like this is a very poor judgment on his part,” Page said. “I thought this thing was going to be worked out this week,” he added.

*    *    *   *

Trump imposed three rounds of tariffs last year. The third and biggest tranche on $200 billion of Chinese goods went into effect in September. But the President threatened to escalate the tariff rate to 25% from 10% on January 1 if progress wasn’t made on a new trade deal — and then pushed the deadline to March 1.

When the second date came and went, it appeared trade tensions were easing up and businesses adjusted to the new normal.

“I thought we were finally figuring out how to make this work, and now we have to start all over,” said Tiffany Zarfas Williams, owner of the Luggage Shop of Lubbock in Texas.

About 84% of the luggage, backpacks and briefcases she sells were hit with tariffs. Earlier in the year, she would receive emails from vendors on a daily basis about price increases. Zarfas Williams raised her own prices accordingly, and adjusted the assortment of items on the floor.

But by Monday afternoon, she had already received a new email from one of her biggest vendors reminding her that a higher tariff would result in a higher price.

Sales of the higher-end items at Luggage Shop of Lubbock have already taken a hit and adding another 15% to the price would be “a whole new ballgame,” she said.

The article then notes how “Trump’s top trade negotiators on Monday brushed off criticism that US businesses and executives were not given sufficient notice ahead of plans to escalate tariffs on $200 billion of Chinese goods.”

“The fact is that we’ve been in a position where that very well could happen,” Lighthizer told reporters at a briefing. He also opened the door to possible exemptions but did not offer any further details.

The message was echoed by Mnuchin. “It’s obviously been a big time commitment, so I would just emphasize that nothing that’s been done has been on short notice,” he said. “Although certain expectations may have changed over the last week from the other side.”

Essentially, we have on the one hand businesses saying President Trump’s new round of 25% tariffs and his threatened (and likely to occur!) next round of 25% tariffs were a complete surprise on the one hand. And on the other hand, we have the Trump administration disputing this and accusing those who say this of having not made much of an effort to read the tea leaves regarding impending US tariffs against China.

I have to at least somewhat side with Lighthizer and Mnunchin on this because we have on this blog been relentlessly downbeat about US-China relations by basically screaming to anyone who will listen that you must start looking beyond China for your products. We have done this as recently as Sunday, in The US-China Trade War: Winter is Coming to more seven months ago in China, The United States and the New Normal.

So to at least some extent, those who just assumed that China-US relations would soon return to how they were before the United States initiated its first round of tariffs were either not reading enough or were too much ignoring or just misinterpreting what they did read. Nonetheless, I completely get where these complaining companies are coming from because most of my own law firm’s clients that were having their products made in China last year are still having their products made in China right now. In large part this is because leaving China is neither fast nor easy.

Some of our clients have left China entirely, moving their production to Thailand, the Philippines, Mexico, Indonesia, Vietnam, India, Sri Lanka, and the Ukraine, among others. Some of our clients have diversified their supply chain away from China, while remaining in China. Others are working on exiting China or diversifying away from China. Many though — and for various reasons — feel they have no choice but to remain in China for the short term and even beyond. So yes, there are some companies that should have left China 6-12 months ago but didn’t, but there are more companies that simply could not leave China fast enough to avoid this next round of tariffs.

In September 2018, in How to Leave China and Survive, we wrote about how difficult it is to cease having your products manufactured in China and how that can be done in way that minimizes myriad potential problems. I would urge anyone looking to move away from China to read that carefully before instituting any actions that might lead anyone in China to think you might be leaving.

But if you are going to leave China, where should you go and how even should you go about determining this? And what can you do to try to secure an exemption from these new tariffs? In China/U.S. Tariffs and How to Fight Back, one of our international trade lawyers explained how to try to secure an exemption to previous tariffs and much of what was written there will apply to this new round of tariffs as well.

I am about to do something we have literally never done even once in any of our other 4,781 blog posts and something I swore to myself we would never ever do: I am going to suggest you reach out to my law firm for assistance. I swore we would never do this because I have never wanted anyone to view this blog as an advertisement for our law firm, because I’ve always known that would be the kiss of its death. We don’t accept any paid advertising on here and we never will and we have never suggested in any blog post that anyone contact us.

But what is happening with China right now is extraordinary and it will no doubt lead to tough times for many companies, especially those that have been heretofore unprepared. Finding a landing spot other than China is not easy, but between the international lawyers and foreign business specialists at my law firm and the many fine consultants and manufacturers we know around the world, we can help and we want to help. Our international trade lawyers can help as well in trying to get your products exempt from the upcoming tariffs as well. So I do urge you to reach out to us, by emailing us at firm@harrisbricken.com.

I do not want to see more articles quoting companies that were not prepared for this mega storm or do not know what to do in the face of it. And if we can’t help you, we will endeavor to recommend to you those who can. Of course there are many companies that cannot or should not leave China. China is the second largest economy in the world and it has a billion+ people. It cannot be written off or ignored. And just as we are seeing so many of our manufacturing clients beating down the doors to get out of China, our China WFOE formation work is at its highest level (by far) in the history of our firm. In other words, we are on the one hand working to get many clients out of China while at the same time working to get many of our clients more deeply embedded into China with their own Chinese companies. Who are the companies going in? Mostly tech companies and companies that sell their products and services to China. Most of these companies either do not care much about the tariffs or are going into China because of the tariffs. For example, one company that does a lot of manufacturing in China is going into China to start selling its made in China products there, while at the same time looking to have its products made outside China for selling to the United States. As I am always saying, lawyers thrive on change, whether the change is for the better or for the worse.

We will over the next few weeks be writing a lot about what is happening and providing a lot more specifics on how to best respond to it. I apologize for the length of this post; there is though so much to say and I did not feel that it could wait to be strung out over many days.

Winter is upon us. And as much as it pains me to say this, the US-China cold war starts now.

From time to time when we write something on here with which a reader disagrees, we get a comment or an email accusing us of scare-mongering. I am not afraid (pun intended) to cop to that being my goal with this post. If I can scare a few more companies into not losing their trademarks I will have achieved my goal.

Our clients that have their products made overseas are typically very concerned about their foreign counter-party or some local competitor stealing their product design and yet they are often quite relaxed about protecting their brand names. This approach ignores that stealing a brand name is almost a lot easier (and usually a lot more profitable than stealing a product design. Our international IP lawyers deal with probably three trademark theft cases for every one design case.

This favoring of design protection over trademark protection is often compounded by misunderstandings on how trademark works throughout much of Asia. Western companies too often believe a trademark is important for them only in the countries in which they are selling their product. However, under the laws of most Asian countries, the manufacturing of a product with a trademark constitutes the use of the trademark.

Why though does any of this matter?

It matters because if someone beats you to registering “your” trademark and you are having products made with that trademark on it, the person or company who owns “your” trademark can stop you from manufacturing your product or exporting the product with the trademark on it. The The trademark owner can also register its mark with its own country’s customs authorities and then have customs seize the trademarked product at the port, preventing your shipment from leaving the country in which it was made. This is a particularly nasty surprise in those cases where the foreign buyer has already paid for the product.

Who is going to register your trademarks? It is typically someone you know, like someone tied to your factory, one of your competitors or even a disgruntled employee. One of our China lawyers loves to talk about what happened a few years ago when he gave a series of lectures in China on how to protect your brand and product when manufacturing in China. After the talks, he went to dinner with a group of foreign company production managers who talked of how they had for years been urging the foreign companies for whom they worked to register their trademark. The foreign companies consistently refused, claiming such registrations were a waste of money. These production managers then told our China lawyer the following:

We are going to form our own trading company. We will register all the important trademarks of our employers in China in the name of that trading company. When we get fired, we will register “their” marks with China customs and completely shut down their Chinese operations. It will serve them right for being so stupid and lazy.

Now just for the record, the laws in many countries would not allow these employees to get away with this, but the mere fact they were plotting this ought to scare many of you. In my view, your bigger threats to register your brand name where you manufacture is someone tied in with your manufacturer (they do this so they can stop you from going to someone else) and your competitors (they do this so they can stop you).

Note though that these operation managers did not say they were going to steal their employer’s product design. That would be difficult and expensive and they were choosing the easier route. The only cost to them would be the expense of registering the marks. But this small expense  might give them considerable power over their former bosses.

Years ago, we represented a very high level sourcing agent in a dispute with a large U.S. company. The dispute involved allegations of the U.S. company having gone behind the back of the sourcing agent to deal directly with the Chinese factories. The parties settled their dispute, but unbeknownst to the large U.S. company, the sourcing agent in the meantime had gone off and registered all of the U.S. company’s relevant trademarks in China, assuring us that he just wanted this “in his back pocket” if the U.S. company ever again tried to [bleep] with him.

The message here is simple. Your brand name is important and you need to protect it in both the countries in which you sell a decent amount of your products and in the countries where you have them made as well. It is fairly common for companies to instruct our international IP lawyers to get them a trademark and a patent and a copyright in every country in which they do business, but few companies can afford that. Our IP lawyers work with them to figure out what is truly central to their business and needs protecting and then they work from there to focus on the easy and inexpensive protections first. The thinking is that it usually makes sense to take care of those first and then move on when ready to the more difficult and expensive protections. If you are manufacturing in China and most other countries in China, the cost benefit analysis on trademark registrations is simple. Trademark registrations are simple and inexpensive and the result of failing to register can be devastating. So the first step for every nearly every company engaging in OEM manufacturing in Asia should be to register its marks and logos in every appropriate class and subclass.

And then move on to the more difficult and expensive measures that protect brand and product in Asia.