Many companies continue to purchase container load quantities of product from small manufacturers located on the southern coast of China. This trade has developed a standard form of payment, often termed 30/70 TT. This means: 30 percent down payment on placement of the order, with the remaining 70% due upon shipment. This means 30% of the price is paid before the product is manufactured and 100% of the price is paid before the product is shipped.
Here are some common results of this system:
- Product arrives in the United States. Upon inspection, it is determined that a substantial percentage of the product is defective. The buyer demands a refund and the Chinese manufacturer refuses. In the alternative, the manufacturer offers a discount on the next order. If this offer is accepted, the buyer is forced to continue to do business with a manufacturer that makes defective product.
- The buyer arranges for an inspection during the production process or prior to shipment. The inspection reveals a substantial number of defects. The buyer demands a refund of the deposit and the manufacturer refuses, stating that they have already spent the deposit to manufacture the disputed goods. In the alternative, the manufacturer offers to correct the defects and provide a discount on the existing order. If this offer is accepted, the buyer is forced to continue to do business with a manufacturer that makes defective product.
The foreign (usually U.S.) company buying the product then contacts my law firm about filing a lawsuit against the Chinese manufacturer, rather than accept the unacceptable terms. In virtually every case, however, the buyer ultimately determines that the cost of litigation is not justified by the amount of the potential recovery. The buyer is then forced either to abandon the manufacturer and take its losses or accept the terms proposed and continue to work with a bad manufacturer.
We continue to see this problem on almost a weekly basis. We can now describe the situation with a general rule: If you pay in advance in China and a problem arises with the product, you will likely be unable to succeed in defending/prosecuting your rights through legal action unless you have a sealed contract from the manufacturer that has been written (in Chinese) to protect you. That is, once you have made payment, the money is no longer yours. It belongs to the manufacturer and you are not likely to ever get it back.
Though this general rule may seem obvious, it does not seem to be well understood by many foreign companies outsourcing their manufacturing to China. They come to China to obtain a low price for manufacturing their product, but in analyzing the price that they will pay, they fail to account for the risk that they will make payments that will never be recovered.
I am not suggesting that the 30/70 TT system be abandoned. Frankly, for small, container load manufacturing projects there really is no viable alternative in China. What I am suggesting is that the foreign buyer realistically assess its risks and the prices being offered based on those risks. The buyer should also mitigate its risks as much as possible by doing the following:
- Do not make the second, 70% payment until after an inspection of the goods. In this way, the buyer’s risk is limited to the 30% down payment.
- Inspect the product as early possible. Time is a major factor in China business. If you find defects early, it is possible that you will be able to resolve the issue in time to save the shipment. If the issue cannot be resolved, then you at least can probably move on to a different manufacturer early enough to obtain acceptable product in time to meet your business needs.
- Treat the 30/70 TT method as the price for testing out the Chinese manufacturing system. As soon as possible, move to a different method of payment. Use one that does not require payment of any funds until after an inspection has been made. There are many alternative methods of payment in China. Of course, the use of such a method will require a quantity and timing commitment from the buyer that extends beyond the spot, single container type of purchase that is typical for the 30/70 TT method of payment. If you are not Wal-Mart, you are not going to get Wal-Mart like terms.
Risk cannot be avoided in any international business venture. Due to the long history of business operations in China, the risks can be determined in advance. For success, foreign companies operating in China must account for these risks in their business planning.
What are you seeing out there?