Earlier this week, we ran part I of this two part series. Part I consisted of Jennie Shi, Felix Zhang, Wendy Zheng and Robert Walsh, all of Samsara Biopharma Consulting, writing of an incident they investigated in which their client had been scammed by an alleged chemical seller based in China. The client had purchased a high end chemical and had ended up with an unidentified white powder. Samsara sought to help this company recover for its not insubstantial loss. Part I detailed the investigation of the companies that perpetrated the scam. This Part II talks of the efforts to secure compensation and it also sets out how this scam could have been avoided and how you can best act to avoid being scammed.

The Insurance Claim

Just as we were preparing documents to file according to police instructions, the inks company decided to have us hold off while it files a claim for “theft in transport” with a Chinese insurer (a very major and well-known one) that insured the shipment.

We advised that additional delay might cool the PSB’s (police) ardor to pursue the case, and also that the insurance company would itself in due course arrive at the same conclusion that our outfit and the PSB had formed: that this was a commercial fraud, plain and simple, and not in any provable way theft in transport.

Nevertheless, the inks company went ahead and filed the claim.  Nearly 6 months went by, and the Chinese insurer delivered its expected verdict right before the Spring Festival holidays, declining to settle the claim.

How it All Ended Up

In the end, the inks company decided to let the matter drop, based on decreased interest in a now cold case from Hebei’s PSB, and the attendant lack of prospects for recovery.  The inks company has made clear it will never again order anything from China, let alone Hebei, regardless of the quality of bona fides established.

To quote Mark Twain:  “The cat, having sat upon a hot stove lid, will not sit upon a hot stove lid again. But he won’t sit upon a cold stove lid, either.”

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Recommendations on this specific case:

Americans might have different ideas in terms of culture discrepancy, but all the Chinese who hear this story think Company #1 and Company #2 are scammer companies and they don’t think these two companies will issue refunds without the involvement of police or court. Based on this, should you ever find yourself in a similar sitaution, we suggest the following:

  • Prepare full and convincing evidence as quickly as possible. For a criminal case, the police need serious and formal evidence to freeze the scammer’s bank account. Any discrepancy in provided evidence may delay police action and may decrease the chances of getting your money back. The same holds true should you decide to pursue a court remedy.
  • Don’t disclose to the scammers your intent to report the case to Chinese police. If the scammer becomes aware of the involvement of Chinese police, they will transfer the money to a secret bank account and you will likely not recover anything even if the scammer is successfully caught.
  • Send a “foreign face” to the appropriate police division and report your case personally. If possible, someone fairly high up in your company should go meet with the police with business cards in hand. The police officers told us this speeds up the process.
  • Consider alerting the trade section of the Chinese Embassy in Washington, DC, the American Chamber of Commerce in Beijing and the Chinese Commodities Inspection Bureau of your situation and request that they contact the appropriate Chinese police departments. This may speed up the process.
  • Do not allow yourself to be scammed a second time. Scammers often promise to give you a full refund but claim that to do so, you first need to pay the insurance, testing fee, freight, tax etc. Or the scammer promises to send you the right material if you pay the price difference between what they first provided you and what you actually wanted. Do not give the scammer more money, no matter what they say.

Suggestions for future trade with China

We consulted with several people who have decades of foreign trade business experience and they suggested the following when trading with foreign companies (not just Chinese companies):

  • Be very careful when establishing business relationships with a new company. Do as much due diligence as you can. For example, ask for the company’s license and ID card and the passport of the company’s registered legal representative. Send people you trust to do a site investigation of the manufacturing site.  Do a site inspection on goods before payment. If ordered material needs  legal testing/statutory survey, ask for the scanned report before the shipment.
  • Use formal and strict contract terms to protect your interest. A formal contract should be signed and stamped by all parties and include, but not be limited to, the following items:
    • Product name
    • Product specifications
    • Price
    • Packaging
    • Quantity
    • Payment
    • Delivery terms
    • Quality standards with specified testing methods ( ISO 591-1 or similar)
    • Testing terms (before shipment or on receiving)
    • Arbitration organization or court if any dispute occurs
    • Choice of law
    • Penalty on quality discrepancy
    • Penalty on quantity discrepancy (more or less clause)
  • Letters of credit (L/C) can be difficult when dealing with China. The L/C in this case did not include any terms that would have helped the inks company. It did not provide for any quality control testing before delivery.  Be wary of using any template provided by your supplier.
  • Consider a small trial order to reduce your risk. The problem with this though is that some scammers will provide you with a good trial and then scam you when you order the full amount.

Preventive measures cost much less than corrective measures.

What do you think?

Many months ago, a friend of mine at Samsara Biopharma Consulting told me of a matter his company had taken on to try to help a company that appeared to have been scammed by a Chinese chemical seller. I frequently hear of such scams in the chemical industry so I asked my friend if he would write a post for us on this matter once it was concluded. The below is the first part of that post, written by Jennie Shi, Felix Zhang, Wendy Zheng and Robert Walsh of Samsara:

About 2 years ago we were asked by a friend of a friend to source some specialty chemicals for his US-based inks company.  As a courtesy, and because we were in the middle of a similar exercise for another client, we went ahead and added the request to the list of what we were already working on.

After a few weeks we found sources of what the inks company was looking for, and went a few steps further to vet the suppliers and get lowest reference prices.  When we passed these to the inks company, they pointed out that the prices were not that much lower than the suppliers they were currently using, and decided to pass on the offers.

A year passes, and we get a call from this same company, this time asking for help in untangling a mess they’ve waded into with a new set of Chinese suppliers.

It seems that the inks company had responded to an unsolicited offer from a pair of Hebei chemical companies, who’d contacted them through Alibaba.  The prices offered for the same subset of chemicals we’d previously sourced for them were significantly lower, say, by 30% or more.  The inks company requested and received samples from the Hebei companies. Needless to say, these samples were right on spec.

Subsequently, the US inks company places a sizable order with the two Hebei companies, and the terms demanded are payment by 100% irrevocable LC at sight, which the US company agrees to.

A few months later, a number of containers are delivered to the US inks company’s facility, and upon opening are found to contain 44 tons of some mysterious white powder (not what they ordered) and blue plastic barrels of water.  The US company initially contacts the Hebei companies to demand an explanation and repayment, but after a few email exchanges, the Hebei companies stop responding.

At about this time, the US inks company remembers our company, and calls us for help.  We don’t do this sort of thing, but then we are regularly asked to do stuff nobody else has any idea how to do.  We agree to help the US inks company track down the Hebei companies and attempt to get some resolution.

The inks company sent us all related documents, as well as email correspondence dating back to their first contact with the two Hebei companies.  A number of things stood out right away:

  • The seals/chops used by both companies were quite similar, and also in no way conformed to the legal convention for such instruments in China, so it was unlikely that either company was actually  registered.
  • The personalities at the Hebei companies seemed to change frequently, with everybody using weird foreign first names.
  • The companies’ websites were registered to a person who had also registered a number of other chemical company websites.
  • As for the shipping documents, we could see no indication that what was shipped had left China having gone through commodities inspection.  The classes of materials shipped should have gone through this procedure.
  • The inks company’s set of pictures taken after opening up the shipping containers revealed that none of the barrels or bags had been properly marked with product descriptions, which is another curious thing pointing to a lack of outbound customs inspection.

We initially tried contacting both Hebei companies, and at first had some success, but after a few days, all signs were that thei mobile and fax lines had been disconnected.  Elvis had left the building.

Eventually we decided to send people to Hebei to look into things.

We Visit AIC

Our first stop was the local office of the Administration for Industry & Commerce (AIC), to check on the validity and standing of the two companies’ registrations. The report from our AIC visit noted the following:

From Company #1’s registration information, we concluded the following:

  1. Company #1  is a small company established in year 2009.
  2. Company #1’s’s scope of business is limited to trade. They don’t have any manufacturing facilities, contrary to what is shown on their website.
  3. Company #1’s’s registration address is a small apartment in a residential community. The address on their website eliminates the room number and building number so as to make them appear to be a big company.
  4. If you look carefully at the picture of Company #1’s’s entrance on its website, you will see that they added the company name to the picture by Photoshop. “

From Company 2’s registration information, we concluded the following:

  1. Company #2 is a small company established in 2010 not 1994 as stated on its website
  2. Company #2’s scope of business is limited to trade. Company #2 doesn’t have any manufacturing facilities, contrary to what they show on their website.
  3. Company #2’s registration address is a small apartment in a residential community. Their website eliminates the room number and building number so as to look like a big company. fact easily.

So both Company #1 and Company #2 are real companies and their business statuses in Administration for Industry & Commerce’s records are normal. But their behavior is well-planned scammer’s behavior….”

We Visit Company Premises

We noted that the addresses on the websites and in the correspondence for both companies were different from their registered addresses.  We went to all four places to make sure we weren’t missing something.

In the case of Company #1, the address listed on the website turned out to be the staff activities center for a well-known power company, replete with all sorts of sports facilities.  The registered address was in a middle-class apartment complex. The actual apartment had no company sign and it did not appear to be occupied during business hours.

As for Company #2, the address listed on the website was in a decidedly down-market set of apartments Again, no sign on the door, but there was a lattice window through which we saw nothing but a table, some chairs, and a whiteboard.  No activity during normal business hours was noted.

We Visit the Commodities Inspection Bureau

We next visited the Chemical and Mineral Department of the local Commodities Inspection Bureau (CIB) where we were met with a genuinely warm and interested reception by the officers of this bureau.  What we found from this visit was the following:

  • Neither company submitted required samples for CIB inspection.
  • Neither company was even registered with the CIB as an exporter of the materials in question.
  • The CIB officers told us that the companies probably deliberately mislabeled the material to duck proper inspection.
  • The officers flatly rejected the idea that any Chinese company could manufacture or sell such material at the quoted price since the only qualified manufacturer of the material in China of which the officers were aware sold the same product at more than 30 percent more.

We Visit the Bank of China, Hebei Branch

The bank would not give us any information regarding either companys’ accounts without being under the orders of the police or the court to do so.

We Visit the Police

We next met with the Municipal PSB, who while sympathetic, referred us to the individual district-level PSB stations with jurisdiction over the two Chinese companies. With respect to Company #1, we met with an informative and helpful officer who immediately recognized the case for the commercial fraud that it is.  Interestingly enough, he had handled a number of similar cases, some for the very same chemicals involved in this one.  He provided us with a list of materials he’d need to initiate a case against Company #1 and to take action. He said we would need the following:

  • An authorization letter and copy of an ID card or passport of the authorized person
  • Purchase contract. In this case, that would be the Proforma Invoice
  • Documentary evidence proving that Company #1 recieved payment for the goods
  • The Bill of lading
  • The inspection report
  • Documentary evidence proving that the Inspection report is for the production sample of Company #1
  • Pictures of received material

We must translate all of the above documents into Chinese stamp them with the inks company’s company seal on every page. Notarization is not required.

The officer representing the PSB station in Company #2’s district gave us similar guidance.  As luck would have it, he had just cracked a similar case in which an Indian company was defrauded.  In this instance, the Indian CEO and an interpreter came personally to present facts and evidence.

In Part II of this series, Anatomy Of A China Scam. Part II. Conclusion And Advice, Samsara will discuss what ended up happening on this particular case, analyze how the inks company could have better handled this particular case, and give recommendations on how to prevent this sort of thing from happening to you.

Though I am constantly getting calls from companies that have been scammed in their China dealings, it is rare that I learn of two (probably three) scams in one week (and it is only Wednesday) It is also rare that they are as interesting as the ones I will be describing.  Add in this Reuters article which came out yesterday that quotes me on fake [Ikea] stores in China and it truly has been China scam week, for me anyway.

The first scam is about a Chinese due diligence company that contacts companies overseas and tells them that they have a buyer lined up for their business. The foreign company (I understand that this company mostly focuses on North, Central and South America) then is told that before the Chinese company will reveal itself, it must submit to a due diligence inspection, with the Chinese company and the foreign company splitting the due diligence fees and each party paying approximately $20,000.

What makes this scam more sophisticated than most is that the Chinese company uses Americans as its salespeople. These American salespeople either do not know that they are engaged in a scam or they do not want to know.  The American salespeople do the deal and the Chinese company even sends someone out to the purchasing company and conducts a bit of work. A few months later, the foreign company is informed that the buyer is no longer interested.

There are a lot of smart things about this scam. First off, virtually nobody knows that they have been scammed. Second the amount scammed is just about perfect. It is enough to make it worth the scamming company’s while, but not enough for the company that was scammed to bother investigating further or to bother reporting it and looking bad for having been duped.

The second scam would have been completely run of the mill, but for the large amount involved and the sophistication of the company scammed. I learned of this one from a China consultant friend who asked me if there is anything my law firm could do to try to get the money back.  Here’s the story:

An American manufacturer receives unsolicited offers from two Hebei-based companies for chemicals. This American manufacturer had been seeking out chemicals via Alibaba and that is presumably how it had been brought to the attention of the Hebei companies (company?). The Hebei companies send the American company samples of three chemicals. The American company tests them, finds them to spec, and acceptable to purchase.

The American company subsequently places an order for $750,000.00 worth of two of the three chemicals from the two Hebei companies. To protect itself (but not correctly), the American company uses an Irrevocable Letter of Credit, documents at sight.  What this means is that the Chinese bank must pay the Hebei companies as soon as they are presented with documents showing the product has been put on a ship for shipment to the United States. Or to put it even more simply, the Chinese companies get their money as soon as the material is on the boat.

And of course, this is what they do. The Hebei companies secure bank payment as soon as their materials are loaded.

Five weeks later, the American company receives its product, but upon opening it, realizes it has been sent 100 drums of water and 50 tons of some unidentifiable white powder.

The Hebei company that sent the white powder no longer responds to emails, faxes, or phone calls. A quick googling of their name reveals that it is a frequent topic on anti-scammer message boards. The Hebei company that sent the water responds, but only in the most evasive, time-buying manner.  After a few days, communication are lost with them as well. There are some indicators that the two “companies” are one and the same. A quick search of company registrations in China indicates neither company ever existed.

My friend plans to put “boots on the ground” in an effort to recover.

Please note that I secured permission from my friend to write the above.

The third (probable) scam is pretty run of the mill, but is one of my personal favorites because it emphasizes the benefits of doing due diligence on your “lawyers.” An American company contacted me after sending a cease and desist letter to a Chinese accusing it of using its China trademark and demanding that it cease. The Chinese company responded by saying that it owned the trademark, having registered it a couple of years ago.

The story here is that the American company had paid a “lawyer” (I put this in quotes because I am skeptical that it was indeed a lawyer that had been retained) to register its trademark and it had the certificate of registration to prove it. Now, however, when it did the trademark search it did not show up anywhere and its Chinese rival did. What to do, what to do?

I explain that the Chinese company (which by all appearances looks completely legitimate and had nothing to do with the scam) now owns the trademark and probably the best thing for this American company to do is to stop using that trademark in China or it will likely be facing its own cease and desist letter soon. I then counsel them to secure a new trademark and to actually get it done right this time.

For more on China scams and how to avoid them, check out the following:

Is this sort of thing actually getting worse or is it just an aberrant week?

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China Business Blog just ran another in its “Don’t Quote Me” series of posts and, once again, it’s a good one.  This quote is from Ekkehard Rathgeber, President of Bertelsmann Direct Group Asia, regarding the views of rural Chinese government officials on enforcing intellectual property rights:

‘My people are poor; people in western China are making RMB200 (US$24) per month. Now a bunch of foreigners want me to protect their Gucci handbags? I couldn’t care less.’

Even the most optimistic among us on China’s legal system has to concede that the likelihood of securing assistance from local government officials in China’s poorest provinces in protecting Western consumer goods is just not very good.  At the same time, this quote starkly confirms my previously stated position on when to expect top level IP protection in China:

Like everywhere else, those in China who can afford the real thing, prefer to buy the real thing.  As Chinese wealth increases,  and as more and more Chinese companies seek to protect their own brands, counterfeiting will decrease.  This is what happened in both Japan and Korea, both of which were at one time, notorious for counterfeiting.

The IP situation in China’s wealthiest cities is already quite different from its poorest.  The July issue of the China Intellectual Property Report: Copyright Edition [link no longer exists] discusses nine copyright cases in Beijing and the plaintiff prevailed in every single one of them.

Bottom Line: China is a huge country and what is true in Hebei may not be true in Beijing. You should take this into account when deciding where to locate your China business and you should take this into account when deciding where to pursue your China litigation.

A few weeks ago, I received an e-mail from Doug Berman, a second year law student at Indiana University School of Law, who speaks Mandarin and will be interning in China this summer.  I met Doug a year and a half ago when I was at IU’s law school lecturing as an international law “practitioner in residence.”  Doug and I have stayed in e-mail contact ever since and a few weeks ago he e-mailed me to tell me about an upcoming, invitation only, conference on China at Indiana University Kelley School of Business.  The list of attendees was impressive and I found the topic fascinating.  But, I could not attend and Doug, as a mere law student, did not think he could wrangle an invitation to this big global event.

So we devised a plan.  I would request an invitation for Doug to attend as China Law Blog’s first ever on the ground reporter.  It worked, Doug went, and this is the first of a serious of posts from Doug on the conference.

This first post gives a brief overview of the conference and discusses its central issue: China as capitalist, yes or no?  The second post will discuss the practice of law in China.  The third post will delve into the concept of Chinese exceptionalism.

So without further ado, here is the first of Doug’s report:

I [Doug] just attended the IU Business School sponsored conference on “Capitalism with Chinese Characteristics” on the political economy of China. The central topic of this conference was the role of capitalism in today’s China.  The title of the conference, “Capitalism with Chinese Characteristics,” is a refashioning of the “Socialism with Chinese Characteristics,” expression first used in 1982 by Deng Xiaoping.

Scott Kennedy, a professor in Indiana University’s Department of East Asian Languages and Cultures, put together the conference and he gave the opening speech.  Dr. Kennedy compared his first trip to Beijing in 1988 to his most recent visit last year and he talked about the huge differences between then and now.  He then discussed whether we should be calling China a capitalist country.

Margaret Pearson, a Professor of Government and Politics at the University of Maryland, expressed skepticism of China as capitalistic due to its lack of property ownership rights, which she viewed as inherent in capitalism. Andrew Wedeman, chair of the Asian Studies program at the University of Nebraska, stated that however we define China’s current system, it will eventually degenerate into a kind of crony capitalism or booty capitalism (if it has not done so already).  Deborah Davis a sociology professor at Yale University, contended that China is more capitalistic than many countries in Europe.

Various speakers talked about how the lack of consensus on this issue stems from China being a mixed-economy, with state ownership and so few real property rights, as in socialism, but at the same time, it has the vibrant and highly competitive business structure one sees with capitalism.

Marc Blecher, a Professor in Oberlin College’s Politics Department and East Asian Studies Program, talked about state control in China as relating to his own work in Xinji, a small city in Hebei province undergoing enormous industrial restructuring. Dr. Belcher stated that we should view China’s smaller towns as examples of modernist development aimed at maximizing production, even though many of China’s planners are driven largely by political considerations.

Lawyers tend not to put much stock in theories of capitalism or political development or descriptive models of the “state,” focusing instead on the rule of law as a means toward developing stable democratic institutions.  In my [Doug’s] view, though law is the linchpin of a stable society, we must also realize that trying to understand the kind of system China is (or is becoming) can help in doing business in China.  Knowing the relevant laws and regulatory regimes there is crucial, but understanding the roles of China’s institutions and the close connections between between politics and industry is also of critical importance.

China Law Blog’s [Dan’s] comments:

1.  Thanks Doug for a job well done.

2.  I agree with Doug that in doing virtually any kind of business in China, one must understand the role of the state and, in particular, the state’s interest in your particular type of business.

3.  I consider China largely capitalistic, at least as it relates to foreign companies doing business there.  Yes, its property rights are not even close to what one normally thinks of under a capitalist system, but they are obviously good enough so that countless private entrepreneurs feel safe enough to start and grow their businesses.  Competition among most industries is rampant in China.

4.  I get the feeling many of the speakers overrate the role of the Chinese state in business.  It would be silly to deny it is important, yet, at the same time, without exception, our Chinese clients are dynamic international companies that operate as such.  They tend to do whatever they can to avoid the yoke of the state and, for the most part, they succeed.  I disagree with the predictions of China becoming a crony capitalistic state mostly because I think that overrates the strength of the central government.  If anything, I see the government slowly losing more control over business. I base this on the laws that are being enacted that are freeing up businesses and on the growing percentage of GDP contributed by private enterprise.  Now I realize that crony capitalism and private enterprise are not incompatible, but in China, where it is so much easier for government bureaucrats to take their “piece” of a government owned entity, that has so far not been the case.  I also see the government as being more interested in maintaining order than anything else.

5.  I concur with what seems to be the view of Dr. Belcher that even though the Chinese bureaucrat may be political, his development decisions might be rational and — dare I say it — capitalistic.  I think one of the differences between China and Russia and between China and Vietnam (though Vietnam is slowly changing in this regard) is that the Chinese system is generally set up so that government employees are rewarded when businesses bring prosperity to their region.

6.  I also wonder why there was not more discussion (or maybe there was as Doug was not able to attend every session) of the Chinese government as capitalist actor.  For example, I see a city owned factory as being a very different beast than the Beijing central government.

Stay tuned.