Chinese IP

When Jeff Jones, co-founder of CarPal Car Sharing in Taiwan, suggested I have him write a post on registering a trademark in Taiwan, I was pretty skeptical, mostly because Jeff is not a lawyer.  But when I actually got the post, I knew I had to run it, in large measure because Jeff is not a lawyer.  I just like how it conveys from the perspective of a businessperson what it is like to have to and then secure a trademark.  So here goes.

By Jeff Jones, co-founder, CarPal Car Sharing Taiwan

Having recently gone through the process of registering a few trademarks in Taiwan I thought it may be helpful to share the basic process and costs involved. If you have experience registering trademarks in the U.S. you will find the process in Taiwan similar albeit with a few unique twists.

Trademark matters in Taiwan are handled through the Taiwan Intellectual Property Office (English) (TIPO), which is part of the Ministry of Economic Affairs in the Executive Yuan.

As in the People’s Republic of China, trademarks in Taiwan are registered on a first to register basis. This is an important distinction from the U.S., where trademark rights are attached to use, not registration.

Step 1. Hire an attorney or trademark firm to file your application

There are a range of firms that provide trademark search, application and maintenance services. These vary from law firms to non-attorney service companies which typically also handle patent matters. The cost for trademark registration services varies widely. Two law firms we contacted quoted between $500-800 USD, in addition to the fees charged by TIPO, to search for trademark availability, draft and file the application. TIPO charges an application fee of NT$3,000 (~$105 USD) per trademark, per class.

In our case, my business partner and I were referred to a local Taipei law firm that had worked with other startups. First order of business was signing a power of attorney on behalf of our Taiwanese company granting the attorney authority to file and manage our company’s trademark dealings with TIPO.

Step 2. What to trademark and searching for similar marks

Registering a trademark in a foreign country presented something unique which I had not considered.  Should we register only the Chinese name of our company?Perhaps only the English name? Or yet maybe only our logo which doesn’t include the English or Chinese names, but rather the letters “c” and “p” in a stylized fashion.

It is important to consider how you will use your mark. In our case, we wanted to maximize our options since we may use a combination of English, Chinese, and logo across different mediums, so we opted for registering three distinct trademarks.

Searching for similar marks is easily done on the TIPO web site in English and Chinese. Once you have identified a potential name or phrase to trademark I recommend doing a preliminary search yourself before even approaching a lawyer or service provider.

Of course you should also check to make sure relevant domain names are available before trademarking. This is as simple as going to a domain registrar such as GoDaddy.com and searching for availability.

Step 3. Class selection and completing the application

Trademark classes are commonly referred to as classification of goods and services. It is a standard way to describe and organize the types of goods and services to which the marks apply. The Nice Classification of Goods and Services is an international standard adopted by 148 countries.

Though Taiwan is not a signatory to international trademark treaties, Taiwan is a member of the World Trade Organization (WTO), and it follows the Nice Classification system.

Once you determine which classes(s) to file your trademark under, you are ready to complete the application. You must attach a few examples to your application showing the marks. In our case, we submitted copies of our business cards and a copy of a marketing brochure we had produced as examples of how our marks would be used.

Step 4. Wait

Once the application is accepted by TIPO the wait begins. According to TIPO applications normally take between 8-10 months from submission to registration. If TIPO has any questions or concerns about your application they will contact the attorney/service firm to seek clarification. In our case we received no communication from the time our applications were submitted in mid-April until notification of approval came 6 months later in October.

Step 5. Take it to the bank

When TIPO sends notification that your trademark has been approved for registration they also send a bill for NT$2,500 (~$90 USD). You must take the bill to a specific branch of a particular bank to pay the fee.

Step 6. Registration, Publication and Opposition

About 1-2 months after you pay the registration fees discussed in Step 4, TIPO will issue the formal notice of registration. Congratulations, you now have a registered Taiwan trademark valid for 10 years from the date of publication, at which time you can file to extend for a subsequent 10 year period.

TIPO publishes all new trademark registrations, similar to the trademark gazette published by the U.S. Patent & Trademark Office. Others have a three month period to file an opposition to the registration of the trademark.

I should note that though Taiwan is a first-to-register country, if you do not use your trademark in commerce for a period of three years your mark may be cancelled.

One of the things we are always preaching on this blog is the need to first ask whether what you are proposing to do in China is legal or not. I am always telling of how a company once contacted us, bragging about the huge amount it had spent on market research and proudly proclaiming it to have revealed a “huge need” for a Western company in a particular industry.  My knee-jerk response to which was that I did not even realize that foreign companies were now allowed in that industry.   Ten minutes of research soon revealed that they were not and this company ended up never going into China, wasting the money it had spent to prove it would have done well there.

We were recently contacted by a very much on the ball investement research company regarding the legality of setting up shop in China as a Wholly Foreign Owned Entity (WFOE). We did some quick research (so quick, in fact, that we did not even charge for it) and our initial response was as follows:

 The most recent version of China’s Catalogue of Foreign Investment provides the following:

Restricted Industry:

Article 9.3: Market Research (restricted to joint ventures)

Prohibited Industry:

Article 6: Social Survey

We view this as meaning that foreign companies cannot engage in company research as a WFOE. However, many companies do it by creating a service WFOE stating that it will assist foreign investors in investing in China. Then what they really do is market research. As long as you do get caught, it does not matter. If you do get caught, the risk of any real problem is pretty low. Unless that is that you say something in your research that offends the wrong person.

We actually have represented a number of market research firms operating in China as WFOEs.  Heck, we have represented some of them on contracts with large Chinese SOEs and with large multinationals.  But these companies mostly interview 3,000 people about their thinking on handbags; they are not doing in-depth research on Chinese publicly traded companies, which spin-off massive amounts of money to important people.

So here are some of your options:

1.   Do a “consulting” or a service WFOE and run the risk.

2.   Do it as a Joint Venture.  Find someone in China to do this with and set it up so that you effectively control it.

3.  Operate from Hong Kong and fly people in.

The company chose to wait.

The other day, I spoke with a North American company that was seeking to get its tooling back from its former Chinese manufacturer.  This company’s domestic American lawyer had drafted a manufacturing contract with the Chinese manufacturer that was completely silent regarding ownership of the tooling/molds.  When the American company started getting bad product from its Chinese manufacturer, the American company requested the manufacturer return the tooling/molds.  The Chinese manufacturer claimed to own the tooling/molds.  The American company claimed that was not possible because it had the tooling/molds made by someone else and it had proof of payments that would prove this.

On top of this, the American company kept telling me that its lawyer insisted that it owned the tooling/molds.  He stopped saying this when I asked whether the lawyer claiming this was the same lawyer who had represented them when it contracted with the Chinese manufacturer.

I told the American company that it essentially had three choices.

1. Get new tooling/molds made.  The American company told me that would take months and was unacceptable.
2. Sue the Chinese manufacturer to try to get the tooling/molds back.  I said that would take months and since the American company did not have written and signed proof (preferably in Chinese) making clear that the tooling/molds belonged to it AND not to the Chinese manufacturer, I did not know who would prevail.  Either way, this would take many months. The American company told me that this was not acceptable.
3. Try to negotiate a purchase price for the tooling/molds from the manufacturer, maybe at half their value.  The North American company let me know that having to buy its own tooling/molds back from its Chinese manufacturer was incredibly unpalatable, as compared to its other options, this was its best one.

What should the North American company (or more particularly, its lawyer) have done to prevent this horrible situation?  They should have explicitly (because if it isn’t explicit it pretty much doesn’t exist when it comes to China) put in their agreement with the Chinese manufacturer that the tooling/molds belonged to them and they should have explicitly put in the contract that the Chinese manufacturer would sustain liquidated damages of $10,000 for every day that it failed to return the tooling/molds. And they should have done this in Chinese and they should have gotten the contract sealed/chopped by the Chinese manufacturer.  This is what Chinese manufacturers understand and, more importantly, this is what Chinese courts understand and will enforce.  And because of this, as far as I know, we have never had a client whose tooling/molds have been held for ransom.

Early this evening, I listened to the last two minutes or so of a BBC radio show that seems to have been about a book writing anthropologist who writes about Papua New Guinea’s hundreds of tribes.  I got to hear him essentially sum up by saying that the tribes of Papua New Guinea deal with modernization/materialism one of the following three ways:

1.  Seeking to reject it entirely and stick entirely to their old ways;
2.  Seeking to integrate it into their existing ways, creating a synergy between the two:
3.  Seeking to have it replace their ways, whole hog.

The North American company and its lawyer are not too dissimilar from the Papua New Guinea tribes that insist on sticking to the old ways no matter what they face.  Both essentially insist on going on with their lives as though nothing new had been introduced to them.

I received the following email this morning:

Your blog is interesting because it talks about project failures at the operational level. I bought couple of books you reviewed on your blog and the anecdotes of success they contain have been interesting and inspiring. Now, I am more interested in some material (in addition to your blog) that will provide insight on spotting major flaws in the operationalization of a project.

I’m in consumer research and I often tell clients how they should target a specific segment, what they need to do next. I have never been able to educate them on what NOT to do, and what major mistakes they need to look out for. That’s because I’ve never actually worked in their position (ie. actually executing a specific strategy).

It would be great if you write your own book or post more about failures. Case examples are much more insightful than ideological or CEO-level visionary “stuff”.

Seems this person realizes that China is different and that learning comes from this recognition.

The South China Morning Post recently ran an aptly entitled article by INSEAD Professor, Micheal Witt, Businesses often fail overseas because the world is much less ‘global’ than they assume. The article is subtitled, “Key decision-makers often underestimate just how big, and important, global differences are.”

Its premise is that “many companies do not reach their full potential abroad” due to “incomplete preparations.”  It states that “surprisingly, many companies, even large multinationals, do not analyze the competitive landscape of the local [Chinese] market to determine whether it is possible to operate profitably.”  Foreign companies end up being surprised by the level of competition in China simply because they went into China without ever analyzing it.  Sort of like the North American company/lawyer who were surprised at losing their tooling/molds simply because they never even considered seeking to determine whether the rules on such things might be different in China than in North America.

The article notes the irony that “the tendency to fall for the fallacy that the world is indeed ‘flat’ increases with corporate seniority.”  Though the reason for this is “natural, as senior executives extrapolate from their own experiences within a confined international elite,” it also is ”highly problematic, because it leads key strategic decision-makers to underestimate just how big the differences are. And as the international business literature has shown time and again, what kills companies abroad is their inability to handle these differences and deal effectively with the attendant ‘liability of foreignness.’”

It goes on to discuss how institutional variations occur between countries and at “the most fundamental level, they show themselves in what a society accepts as the legitimate purpose of doing business.”  Western business schools generally teach that firms exist to maximize shareholder value, but the writer’s

But according to Professor Witt’s research, few societies and senior managers outside the Anglo-Saxon world accept this view:

To simplify very crudely, Hong Kong firms exist to produce family wealth; German firms, to produce needed goods and services for society; Japanese firms, to provide benefits to their employees; and South Korean firms, to keep highly conflictual demands by controlling families and hostile stakeholders in balance.

Few companies ever pause to consider these issues and their implications when expanding abroad. Many an international partnership was, foreseeably, doomed from the beginning because fundamental objectives did not match.

Do you think about such things?  I do all the time.  I mean, why do some companies seem to just coast into China while others stumble in and never recover?  What more should we be writing about to help those seeking to do business in China or to sell to China?  For what it is worth, I would say that the knowledge North American companies looking at doing business in China is both considerably higher today than it was even five years ago and considerably higher than the knowledge Chinese companies have about doing business in North America.  Do you agree on that?

I’ve been deleting old emails today and in doing so I have deleted far too many that relate to China product quality problems.  Here’s the most recent such email, with all identifiers removed to protect the victim:

My company purchased hundreds of _____ from a company in China for about $65,000. Most of these _______ were defective when we received them. They [the Chinese manufacturer] told us that they would make up for this on our next order. We made another order and we got more defective _________.

We then upgraded the _________ to what was supposed to be a better quality ________. Again, we have received defective ________. We are
now getting many returns from our customers who bought these _______ and
this is costing us tens of thousands of dollars.

I would like to know if there is any way that we can get our money back for
all the bad ________. We have all invoices, communications, and videos and
pictures.

We also want to know if we can sue for attorney costs to resolve this matter
as well?

My response, which is pretty much pure template these days, was as follows:

I hate to have to tell you this, but you have probably set yourself up so that a good solution is very unlikely. You say that you have all “invoices, communications, and videos and pictures,” but you fail to mention the most important thing of all, which is a signed AND sealed contract in Chinese that makes very clear exactly what the Chinese manufacturer was to provide you and the penalties it owes for having failed to do so. Once you have the sort of problem that you had with a Chinese manufacturer, you run away.  Fast.  And you don’t go back for more and then back again.  Ever. We typically charge a flat fee on these sorts of cases, along with a percentage of whatever we recover, with the fee and the percent based on how we access the case after reviewing all relevant documetns. When we take on these cases, we review all the documents and try to get anything back for our clients by writing a letter in Chinese threatening to sue.  I don’t think that will work here and I would urge you not to retain us. The other thing I would urge you to do is to not order anything from China again without a good contract in place. Good contracts usually work by driving away the bad Chinese companies and by forcing the good ones to toe the line.  China does not typically award attorneys’ fees unless that award is set forth in a signed contract. For more on what you can be doing to protect yourself by from China product problems, I urge you to read the following:

• China Supplier Agreements. With Apologies To Kansas.
• China OEM Agreements. Why Ours Are In Chinese. Flat Out.
• China Manufacturing Agreements. Make Liquidated Damages Your Friend.
• The Six (Not Five) Keys To China Quality
• How To Protect Your Molds And Tooling In China

I am truly sorry this has happened to you and I am also sorry that I cannot be more positive about it, but the last thing I want to do is to add to your pain by taking more of your money on something that probably will not give you any value back. Not surprisingly, I did not hear back.

Just finished the book, The Disconnect Patterns: Notes for Managing a U.S.-China High Technology Company, by Raj Karamchedu.  Karamchedu spent many years managing the China office of a US high tech company and this book sets what others in similar positions need to know.  Though the book is aimed at technology companies, the advice it contains applies with equal force to any company with a China office.

The book sets up a fictional company with a US home office and a China branch (that term being used loosely, not in its legal sense).  It then discusses the handling of problems/situations from the perspective of both the US and the China team.  By doing so, the reader gains a good understanding of the thinking of both and for why there is such a “disconnect.” Karamchedu goes beyond just explaining why problems arise; he also does a very good job providing tips on how to resolve them.

Karamchedu discusses many of the issues/disconnects about which my clients are constantly complaining, including Chinese employees who all but refuse to take initiative or to go against what everyone else in the market is doing.  On the flip side, the Chinese employees are constantly frustrated by the American employees (and head office) not sufficiently valuing their views on how to operate in/market to China. Interestingly, this is also a complaint I often hear from Americans who run China offices.

The book examines twenty disconnects, many of which will no doubt cause you to nod your head in assent:

• The U.S. manager demands focus from the China team, but at the same time, causes disruption by ignoring the China manager’s authority.
• Same company, but the reward and bonus scheme in the China office is out of sync with the U.S. office.
• Both U.S. and China teams work equally hard, but there is no appreciation of China team’s work.
• China office wants to be a part of core product development, but it repeatedly leaks confidential future-product documents to the competition.
• China teams say English language is no problem, but poor documentation by the China teams still persist.
• China office says they admire the U.S. management process, but the China upper management repeatedly disrupts the company process by changing the priority without discussion.
• Though the company calls itself a global company, the U.S. team does not give importance to the China team.
• The U.S. office wants to be in China market, but it does not share company plans with China office employees.
• The U.S. office wants to sell to China customers, but the feedback from the China customer is not taken seriously.
• The U.S. office says we are all one team, but the China team is allocated insufficient project time.
• The U.S. team expects to interact with the China team in a professional way, but feels the China management style as strange and dysfunctional.
• The U.S. employees are frustrated that their China colleagues won’t take any action unless they have the “authority.”
• The China team wants to scale up and grow, but does not seem to appreciate open and clear communication.
• The U.S. office wants to succeed in the China market, but builds the China marketing team by simply moving low-performing technical staff into marketing roles.
• In China, employees say they have the project management skills, but task ownership and task management is still a big problem.
• The China office wants to do a full product, but the China marketing teams do not take charge and lead.
• The U.S. marketing team promotes to China customers, but continues to approach them with a tin ear.
• In pricing the product for the China market, there is still a strategy mismatch between the U.S. and China.
• The U.S. office wants to capitalize on China customer demand, but does not understand China customer demand pattern.
• The U.S. office prides itself on execution but the response to China from the U.S. is very slow.

This is a very practical book and Karamchedu clearly knows whereof he speaks.  I highly recommend it to anyone trying to manage a China office, be it in technology or otherwise.

I do however have a bone to pick with this book and with so many of the China books I have been sent over the years.  It read like it was never edited by a really good editor.  It was not badly written, but it also was not nearly as well written as it could have been, and a really good editor would have made the book a smoother and more enjoyable read.

On February 8, 2013, I will be putting on a China IP webinar through ALI-CLE. It will start at noon Eastern Time and my speech will end at about 1:15 and then there will be 30 minutes or so for questions.  The cost is a somewhat reasonable $179 and ALI-CLE describes it as follows:

Why You Should Attend

Companies that engage in business with Chinese partners need up-to-date legal advice on how to protect their technology and other intellectual property (IP) interests. Deals made in China can threaten IP rights not just in China, but in markets around the world. Taught by an experienced transactional attorney who regularly represents companies doing business in China, this convenient telephone seminar/audio webcast explores the nuts and bolts of constructing a good business deal with a Chinese partner that does not jeopardize a client’s valuable IP interests.

What You Will Learn

• This unique audio seminar offers proven techniques designed to protect your clients’ IP interests including:
• How to choose a good Chinese partner
• Identifying the IP assets that need protection
• How to structure your deal
• Drafting your deal papers
• Executing key elements in your employee contracts
• IP registrations: What you should know about trademarks, patents, copyrights, and licensing agreements

Who Should Attend

Attorneys or other business professionals who are engaged or want to do business with Chinese partners and need to know about IP issues relevant to such deals should attend this informative webcast.

For more information, click here.  Hope to “see” you there.

 

By:  Steve Dickinson

More and more foreign service companies are providing services to Chinese clients. This is a good thing, because the Chinese companies need the help. We have noticed, however, that foreign service providers continue to neglect to seriously consider the most important issue: how to get paid.

When operating in the U.S. and European markets, service business billing and payment are quite simple. Usually there is no contract, just an oral agreement or exchange of email. When payment is due, invoices are informal or not even provided. Tax issues are irrelevant, since the work is performed at the office of the service provider and all tax is paid to the local government. This approach does not work for China.

To get paid from China, there are two critical points you must consider: documentation and tax.

– Documentation

When the Chinese client pays your bill, it is not a simple matter. The Chinese client must go to its foreign exchange bank. At the bank, RMB must be converted to U.S. dollars or some other convertible currency. This conversion is subject to strict rules issued by the State Administration of Foreign Exchange (SAFE). The foreign exchange bank acts as the agent for SAFE in enforcing the rules. These rules were originally designed to protect China’s foreign exchange reserves but now they are used to prevent capital from illegally leaving China. Payment of falsified invoices is one of the primary ways that capital illicitly leaves China, so careful review of all transactions is therefore required to prevent fraud.

To comply with these rules, your Chinese client is not permitted to simply make a wire transfer request. The Chinese side of the transaction is required to provide documentation that proves there is a legitimate underlying transaction for which payment is being made. The basic documentation is as follows:

1. A formal written contract, executed, dated by both parties and sealed by the Chinese party. Though not required, it is best if this contract includes a Chinese translation.
2. A Formal, written invoice, signed and dated by the foreign service provider. There must be a separate, signed invoice for every required payment. Again, though not required, it is best if this invoice includes a Chinese translation.

These first two requirements are mandatory and will always be required. Depending on the specific situation, the foreign exchange bank may also impose the following additional requirements:

1. If the invoice amount is high, or if the bank otherwise suspects fraud, the bank may request proof of existence of the foreign company. The proof required varies from bank to bank. For some banks, a copy of a business license is sufficient. Other banks will require a formal certificate of good standing from the secretary of state or a related document.
2. If the bank determines that the payment is a royalty for a technology license or similar agreement, it will require that the contract be registered in accordance with the requirements of Chinese law. Depending on the locality, this registration can take from three days (Shanghai) to six months or more (Shandong Province).

Banks can impose other requirements, depending on their mood and their concern about the legitimacy of the transaction. The bank is totally in control of the situation and you have no real standing to discuss the matter. No payment can be made until the bank is satisfied and the bank has no incentive to approve the transaction. Delay in processing payment for services is therefore the norm rather than the exception.

– Taxation

It comes as a shock to many foreign service providers that the amount paid to them is subject to Chinese tax, even if all the service work was done outside of China.  The Chinese tax authorities deem all service work provided to Chinese clients as Chinese source income. The local tax authorities therefore will impose a tax on the invoice amount. As with the SAFE rules, the foreign exchange bank serves as an agent for the local tax office to ensure that the correct amount of tax is imposed and paid. No wire transfer can be made until this happens.

Unfortunately, there is no agreement in China on the correct amount of tax to impose. We have seen tax amounts imposed ranging from 10% all the way to 40% of the invoice amount. Even the same tax office will take an inconsistent position on the amount of tax to impose. One payment will be taxed at 10% and the next payment for exactly the same services will be taxed at a substantially higher rate.

The resolution of the tax issue is critical because the invoice cannot be paid until the tax amount is calculated and paid. The Chinese client acts as the agent for the foreign service provider and pays the required amount on behalf of the foreign party. Since the total amount paid by the Chinese client does not change, the Chinese client has virtually no incentive to work with the tax office to lower the tax amount. Since the foreign service provider is anxious to get paid as soon as possible, the incentive for the Chinese client is to agree with whatever the tax office decides and to make the tax payment as soon as possible without complaint about the amount imposed.

The amount of tax can be high and the time required for processing can be very long. It is therefore important that the foreign party understands the issues and enters into an agreement with the Chinese party on how to proceed. Under international commercial practice, it is most common to simply provide in the service contract that 1) the Chinese side is liable for all taxes imposed by the Chinese government and 2) the amounts payable by the Chinese side are net of taxes. That is, the amount invoiced by the foreign party must be paid in full without regard to any taxes imposed in China. This provides certainty to the foreign party and places the burden of dealing with the complex, uncertain and constantly changing Chinese tax system where it belongs: on the Chinese party. Since the Chinese party is responsible, the Chinese party will then have the appropriate incentive to advocate for the lowest tax possible. Certainly the Chinese party is better positioned to do this than the foreign party.

It is common for the Chinese party to strongly resist this standard approach and to seek to place all of the risk of the Chinese tax system on the foreign party.  The foreign party must consider whether to abandon the transaction or move forward without any certainty on the amount of payment that will be made. If the foreign party will move forward, there are various complex ways to mitigate the risk of tax payment. These measures must be negotiated carefully in advance.

As you can see, the risk for payment in service transactions in China is considerable. There is risk of substantial delay and there is even the risk that no payment will ever be approved by the Chinese bank. It is therefore very important to confirm the ability of the Chinese side to make payment very early. This means that you should not do a substantial amount of work before you receive your first payment. Usually we provide in the contracts we draft that the Chinese side will make an initial payment before any substantial work is done.

We do this in order to determine how quickly the payment will be processed and the tax that will be imposed on payment. Often, the Chinese side itself has no idea what will be the result. You must therefore protect yourself by getting paid at least once before you take the risk of doing a substantial amount of work for a Chinese client. I have seen service companies go out of business by failing to heed this advice.

We also often get called by service companies upon learning that their payment is going to be delayed and taxed heavily. By that point, there is little we can do.

Please do not be another name entered onto the casualty list.

Last year a couple of people from the Risk Advisory Group’s Asia Group stopped by my office and we spent quite a bit of time discussing risks in China. Risk Advisory Group And of course we also discussed various ways of mitigating those risks and of course, conducting one’s due diligence figured prominently.  One of the things that has always bothered me about due diligence is that just about everyone knows it should be done but very few people know what exactly it is that should or even can be done.  And because it can vary so much from deal to deal, I have always found it difficult to write about.  I mean, if you are buying a $2,000 item from someone in China over the internet, your due diligence is obviously going to be a lot different than if you are buying a Chinese company for USD$2 billion.

So I did what I love to do when faced with something difficult: outsource it to the experts. I asked the Risk Advisory Group to do a guest post on China due diligence. Risk Advisory Group describes itself on its website as follows:

Risk Advisory is a leading, independent global risk management consultancy. We provide intelligence, investigation and security services to clients that include many of the world’s leading corporate entities, financial institutions and law firms. We help our clients to navigate increasingly complex regulatory, compliance and security environments in some of the most challenging jurisdictions.

Most importantly they do a lot of work involving China.  The following is their guest post, and as I told them in my response to it, I could not be happier with it.

– Can you do effective due diligence in China?

A lot of companies, funds and other investors ask us about doing due diligence in China. They have heard many stories about business deals that have gone horribly wrong, particularly those very public deals which have made the front pages of the international financial press. They have been told that getting information in China is difficult, particularly if you want to stay on the right side of the law. They have also heard that accessing accurate data about the business they are buying, learning how a company secured its lucrative contract with a State Owned Enterprise (SOE), or understanding more about the background of the favoured candidate to run their joint venture is impossible.
That is not strictly true. Yes, it can be challenging: the press is heavily monitored, self-censors and, at times, is actively controlled; company records can be difficult (if not impossible) to access legally; and we all know that every company keeps at least three sets of accounts and you may never see the real figures. But China is just like every other country: the people who understand how it works can help you to unearth information that will help shape your decisions.

– The black, the white and the grey

First, a word on the law with the caveat that this should not in any way be construed as legal advice. I will leave that to the blog hosts.

On occasion we get asked by our clients if we can tell them how much money the company has in the bank, obtain individuals’ personal and family details from copies of their household registration files (hukou), details of telephone calls, text messages or some other equally illegal information. The answer is no. There are laws which protect certain classes of information in most countries in the world and China is no different. I would be wary of anyone who offers access to information not generally available elsewhere in the world. The issue in China is one of interpretation. While in all markets laws are subject to interpretation, in China the interpretation is inconsistent and changes regularly and without warning.

By way of illustration, last year, there were tens, possibly hundreds of newspaper articles published about increasingly limited access to corporate filings across the country. There were no known changes to the law. Yet, a year or so ago, access would be given to full corporate files by the Administrations of Industry and Commerce (AIC) bureaus. But in 2012, access to financial information and any personal data in the records became much more heavily restricted. The clampdown has not been uniform across China. Access has been far more restricted in Beijing than anywhere else. That is probably no surprise. Civil servants working so close to the seat of power are likely to err on the side of caution, and particularly so in the year of the transition. Today, some AIC bureaus simply refuse any access to the file at all.

But why has there been a clampdown? The answer is far from clear. Many draw a direct line between external events that have damaged China’s reputation and that of its companies over the last 12 months, citing events such as the publication of Muddy Waters Research into Sino Forest, and similar reports by short-sellers. Others suggest that investigative articles detailing the wealth of senior politicians published by The New York Times, the Wall Street Journal and Bloomberg, all of which drew heavily on detailed analysis of corporate and regulatory filings, were the root cause. It could well be either of those things, or it may be something entirely different. Nobody really knows because China is not a transparent place.

– So what does (good) due diligence get you in China?

As with everything in life – that depends. We regularly look at a broad spectrum of industries and people, and in many different provinces in China, and it surprises me how little investors know (or are willing to pass on) about the company in which they are proposing to invest. The more you, the client, share about the deal, your concerns and what you already know – as well as the more time and resources you invest – the more value due diligence is likely to add.

For example, one of our clients was considering funding a small business in northeast China. They had its name and that of the company’s founder – in Chinese characters, fortunately, because transliteration from English can cause a lot of false hits and a lot of wasted time – and very little else. In this case it was enough. Open sources revealed little about the businessman, but through the contacts we have in that part of China, we were able to uncover the businessman’s colourful past. He had started out in construction and applied some heavy-handed tactics to grow his business. This meant he had plenty of enemies and a few friends in high places who were responsible for sorting out the resulting mess without sullying his name. For some, this alone would have been enough to put them off the deal. But we found more, not related to the reputation of the entrepreneur, but more importantly perhaps, through the conversations we had with people who knew the business, there were serious questions raised over the quality of the food products his company sold and therefore the long-term sustainability of the business in which our client wanted to invest.

All of this information gave our client a much better understanding of the challenges it would face if it went ahead with its investment and for skilled researchers who know their way around China it was not too challenging to find.

In some cases, you can find a gold mine of information. During the course of an investigation into an SOE we unearthed reams of legal documents. Those filings detailed allegations of fraud, misuse of company funds and the illegal transfer of assets from the SOE to private companies controlled by some of its directors. Such revelations about SOEs are normally closely guarded secrets and not necessarily made public. That may be changing. Many have interpreted the reference by Chinese leader Xi Jinping to corruption during his first speech to the Politburo as a signal that he will take steps to tackle the issue.

– Keeping FCPA lawyers up at night

One of the biggest potential risks for US companies doing business with China is the extent of state involvement in the economy. Key industry sectors are dominated by powerful SOEs; there is considerable red tape involved in acquiring licences and permits across the board, all of which are handled by state departments; and as a result of extensive membership of the CCP, many people in private business could still be regarded as government officials. When Liu Zhijun, the former minister of railways, was investigated for ‘serious violations of discipline’ (generally speaking, a euphemism for corruption) by the CCDI, one of our clients became concerned about its dealings with a subsidiary which came under the Ministry’s control. They wanted to understand if the subsidiary had been associated with any wrongdoing, either in relation to Liu’s apparent transgressions or any other matter. It is often difficult to ask questions about SOEs and their operations or indeed powerful people within China. Officials are more likely to deny requests for information and people are less open in giving you their views. But in this case, our enquiries established that Liu’s influence over the subsidiary was slight and not controversial.

We worked with a client on a project in northwest China, a place with patchy public records and – even in the context of China – particularly tight control of the media and access to information. However, through a combination of open sources and conversations with people that live and work in the area we were able to map out a large and complex group of companies, as well as gather sufficient data to piece together the track record and reputation of its founder. His businesses created jobs and brought money into the local economy through tax revenue, but there were rumours circulating that he was corrupt. All of these allegations were published in anti-government publications from abroad and when we probed further, we found them to be baseless.

It is always worth identifying the source of any reported wrong-doing properly. Not everything is what it first appears. Because of censorship and state monitoring of the press in China, the Chinese are avid users of blogs and social media. While undoubtedly a great – and sometimes the only – source of information, posts cannot always be relied upon. Wildly inaccurate claims can be made by one blogger with an agenda so many times that they appear to have substance. Knowing your blogs, looking for tell-tale signs that posts were penned by the same writer, and doing your own fact-checking are crucial if you are going to be able to add any value in your analysis.

– Do more not less

In any country where information can be difficult to access and even more difficult to interpret, it really is worth spending more time – and money – doing your due diligence. China is no exception. It has long been under the spotlight of the US authorities responsible for enforcing anti-corruption laws and that focus shows no signs of dimming. The costs of emerging on the radar of the SEC are far higher than any fees you will pay to accountants, lawyers or investigators. More importantly, as I said at a recent conference, even leaving aside the regulatory reasons, it makes good business sense to know as much as possible about the people you are doing business with; the more you know the more likely the venture is to be successful.

Just fired off the same email I’ve probably sent at least two dozen times.  It was in response to someone who just realized that their Chinese manufacturer or potential manufacturer had used confidential or trade secret information.

Here’s the email to me (changed to get rid of any identifiers):

I had my Chinese factory sign a non disclosure agreement and I just learned that they copied my product and are selling it to two of my competitors.  I am still buying product from them.  What should I do?  I want to sue them.

Here’s my pretty much standard response:

I suggest you send me a copy of the NDA that your factory signed.  If it is in Chinese and provides for litigation in China and was sealed/chopped than you are likely in quite good shape.  If it contains a liquidated damages provision (something that makes crystal clear what the penalty is for a violation), all the better.  But if you just used an off the shelf American version of an NDA, than doing anything on this would almost certainly be a waste of time.  If it provides for suing in the United States, that will be even more true.  I should also note that if it just provides for the manufacturer not revealing trade secrets (as opposed to selling your product to others) your likelihood of winning a case will be reduced.  In the meantime, I suggest you read the following about China NDA/NNN Agreements:

• Why Non Disclosures (NDAs) Alone Are Not Enough For China.
• Why Non Disclosures (NDAs) Alone Are Not Enough For China, Part II. At Least Make It Enforceable.
• China NNN Agreements. Watching The Sausage Get Made.

Almost without exception, we hear nothing further, which is fine since it is always easier to deliver bad news by email as opposed to by phone.

 

Back in the old days, one of my favorite continuing series of posts was the one highlighting promising China blogs.  We take our blogroll very seriously and we do not like adding blogs to it until they have stood the test of time.  Far too many blogs start out really well for a half a year or so and then just disappear, “leaving only a space in the lives of their friends.”

Problem is that the blogosphere just ain’t what it used to be.  Yes, there are still plenty of great China blogs out there, but really good new ones are becoming fewer and farther between.  So I was delighted to have received an email from a regular reader today telling me that I needed to check out the China Business Hand blog because “it is written by someone who understands China and it pulls no punches.”

Great description.

This is a serious blog written by a serious person who seriously knows China and seriously pulls no punches.  It is called the China Business Hand, but so far it has mostly dealt with politics. But if people can say that everything is politics, well I guess I can say that everything is business.

The serious person in question is Steve Barru, who describes himself as having just returned to the United States after 25 years in China, mostly in a business capacity.

I like his blog and I recommend that you go read it.

 

 

 

I woke up today to two very different emails.

The first came in anonymously (of course) and consisted of a vituperative attack on me, on my firm and, most pointedly, on this blog.  To summarize, none of us writing for the blog have a clue about China, we are lying to our clients/readers, and all of the problems and concerns we raise about China are actually due to our own shortcomings, not China’s.   I read this one first.

And just as I was about to start feeling sorry for myself, this next email came in from a reader in Germany (whose identifiers I have changed in the below):

Just wanted to say how much I enjoy reading chinalawblog.com and how many ” that’s so true” experiences I had so far reading it. I am in the logistics field and I lived in Beijing and Shanghai for ten years. Then returned to Germany to help German companies on their way to China.

During my time in China I met all those people coming 3 times a year on a biz trip telling me that doing business in China is “so easy because the business is lying on the street and you just need to pick it up” and one week later they were on their way back to their home countries and thought that they understand China. Even after ten years I would not dare to claim that for myself! Please keep on writing! Totally changed my mood for the better. I remember being a panelist at a Shanghai event a few years ago when someone in the audience asked me if I was ever concerned about offending people with this blog.  My response went something like this: No.  In fact, I worry about not offending people.  If we are not offending someone, we are not taking a stand.  And if we are not taking a stand, we are not interesting.  And if we are not interesting, we will not be read. One of the advantages to being a founder of a small firm is that I do not have to worry about offending some people, I just have to make sure at least some people love us.  If only 5% love us and only 5% of those people hire us, that would be a huge amount of work.  The key is to say enough to be worth reading. Also, if we failed to tell things exactly as we see them on our blog, we would get in all sorts of trouble because it is too difficult to remember what we say say and to remain consistent. I also remember meeting a high-up (but quite inebriated) expat executive many years ago at a Beijing bar.  He went on and on about how much he liked our blog because we were neither “panda haters” nor “panda lovers” and there are so few people out there taking a middle position on China. And not so long ago, I was on a panel at an Economist Intelligence Unit/HSBC Business Without Borders event on doing business in China.  At the beginning of the event, the first two speakers (as I recall) pretty much lit into China (mostly regarding its lack of IP protection), and then it was my turn.  I knew in advance that the two speakers before me would be tough on China and I wanted to moderate that.  So I talked of how when China’s legal system and IP protections are compared to its emerging market peers, “it isn’t so bad at all.” Here’s the video:  Doing Business In China. Setting the Record Straight. So what do you think?

The New York Times has an excellent article on doing business in China. The article is entitled, “New Path for Trade: Selling in China,” and it is replete with good advice.  Except mine.

Let me explain.

The article is on selling goods in or into China and it talks of the great opportunities there and of how to do it well.  It presents the following good advice:

• Bilingual is not bicultural.  Lou Hoffman of The Hoffman Agency notes something I am always saying: do not mistake language for culture.  Someone can speak your language and still have no clue about how you want to conduct your business.

• Let others open the door.  Ric Cabot of Cabot Hosiery Mills/Darn Tough Socks tells of how his company “edged into the Chinese market” by testing it with a Chinese distributor.  “But if it gets to the point where we see we’re leaving too much money on the table, we might consider doing something different.”

• Don’t get knocked off.  Earl Kluft, owner of E.S. Kluft & Company talks of the knock-off problems his company had in its first foray into China and of how things are going better this time due to a better a better China-based partner. Kluft found its new partner “through a friend” and with that partner it has “cautiously re-established a sales channel with minimal upfront investment.” The Chinese partner pays royalties and is able to buy Kluft’s mattresses at “a special discount.” I then chime in, advocating finding “reliable partners on the ground…. through people you know, and then pay for whatever due diligence is necessary to make sure that you have made the right choice.” And to do all of that “before you start doing business with them.”

• Look locally before leaping.  The article talks of how some states have government-run international trade programs that offer counsel. Samar Ali, Tennessee’s assistant commissioner of international affairs then discusses the sorts of issues his group raises with those seeking to do business with China.  “We’ll help them see if there’s a need for their product in China and to think it through: Do they need to set up a WFOE? Do they need to have a presence or not? Should they go the e-commerce route? And tell them how much they should budget going forward.” This assistance includes help with business-to-business matchmaking through already vetted Chinese companies.

And then there is the one I do not like so much and it’s mine.

• Set up shop as a WFOE.  The article notes that “it is possible to scout opportunities with a so-called rep office and to do business in China by selling through distributors or by licensing products to a Chinese company, most American businesses that are serious about selling in China invest the time and money to establish themselves as a wholly foreign-owned enterprise, or what is known as a WFOE (pronounced WOOF-ee).” It then adds this: “We do probably 100 WFOEs for every rep office,” said Dan Harris, a lawyer with the Seattle firm Harris & Moure who writes a blog about Chinese law and business.

What I do not like about this is that I am concerned that it will be read as my saying that setting up as a WFOE is virtually always the best way to sell to China and I did not say that because I do not believe it. I was asked about what it takes to set up a company in China and what sort of entity usually makes sense.  To that, I unequivocally answered with “WFOE.”  But what I was not asked was whether one can or should consider selling to China without any entity at all and had I been asked that, I would have unequivocally answered, “yes, that is often the best way so long as it is possible.

We are actually big believers in getting product into China via distributorship or licensing arrangements:

• Getting Your Product Into China Via Distributorship. A Legal Piece Of Cake.
• Selling Your Product To China Through A Distributor. Just The Basics.
• China Technology Licensing. Sometimes It Makes Perfect Sense.

What is so funny about the NYTimes article coming out when it did is because we received some criticism of our last blog post, Getting Your WFOE Approved In China. What It Really Takes, in which we had this to say about forming a WFOE in China: No wonder I use words like “slog” and “excruciating” and “unending” to describe to our clients what it is going to be like as we secure their WFOE registration in China. The New York Times article rightly discusses the difficulties in registering a WFOE in China: And think months, not weeks, to get all of the paperwork approved. “In China, you can’t do anything last minute,” said Savio S. Chan, president and chief executive of U.S. China Partners, which is based in Great Neck, N.Y., and which helped Vision Quest move its light fixtures out of regulatory limbo. “It can easily take up to six months to set up a WFOE.” Mr. Chan has it right, which is one of the many reasons why anyone looking to sell their product to China needs to consider all options, not just a WFOE. WFOEs, distributorships, licensing deals and yes, sometimes even a Rep Office can all make sense, depending on the specific situation.  When it comes to China (and just about anything else), there is no one size fits all.  I just hope that nobody thought I was saying otherwise. What do you think?

The United States Chamber of Commerce recently came out with a report comprehensively detailing what it takes to get a foreign investment approved in China.  I started skimming it, but stopped becuase it caused a sinking feeling in my stomach as it hit too close to home.

But for anyone wondering why it takes so damn much time and takes so damn long to form a WFOE in China (figure on 4-6 months), read the report.  No wonder I use words like “slog” and “excruciating” and “unending” to describe to our clients what it is going to be like as we secure their WFOE registration in China.

Enjoy.  And don’t let anyone tell you that forming a WFOE in China is easy.

One of the things I love to ask people wherever I go (and yes, cabdrivers especially) is how’s business? How’s the economy.  I am constantly asking my clients that as well and most of them (no matter what the country, about which I am asking) are saying “it’s okay.”  Not great, but not all that bad either.  That includes China.

One thing that makes these conversations about China more relevant is that China’s economic statistics tend not to be particularly reliable. Some blame Beijing for this.  Others blame the local governments, whose salaries/bonuses/outlays are oftentimes based on how they are doing for their local economies.

So shadow figures are often used to track China’s economy, with one of the favorites being electricity consumption.  The thinking is that if China is doing well, electricity consumption will be increasing.  I am less of a fan of this measure than many for the following reasons:

1. It may be a decent measure of manufacturing growth/output, but it is not as good at measuring the service sector.
2. Who says the electricity numbers are entirely accurate?
3. They fail to account for changing weather conditions.

Thought of all this just now after receiving an email from a Shanghai friend that said the following:

Exactly what I’ve been saying…. The coldest winter in decades accounts for the uptick in electricity and that’s why BJ is surrounded by smog from their coal fired power plants. Economy here is weak.  Glad somebody gets it. The email had a link to a blog post, entitled, “Chinese Electricity Conclusions Reexamined,” the thrust of which is that China’s electricity consumption is way up not because the economy is recovering, but because China is suffering from record cold weather. Makes sense to me.  So I have to ask, how’s business in China for you?  How’s the economy doing?  Please be as specific as possible.

Got a call the other day from an American company wanting to sell its food products into China. And fast.

The problem this company is facing is that one cannot “just” sell food into China immediately.  To sell food legally into China, Foreign companies must first pass certification before China’s General Administration of Quality Supervision, Inspection and Quarantine, better known as AQSIQ (中华人民共和国国家质量监督检验检疫总局).  The food company told me that its research had revealed that it typically takes around a year to secure this certification, but that someone in China was promising they could do it in “around six to eight weeks.”

The food company was calling me (based on a referral) to hire us to secure their certification in “six to eight weeks.”  My response was essentially as follows:

If your research is telling you that it typically takes a year, there is absolutely no way we can do it in eight weeks.  Maybe we can do it in ten months, but that would only be if absolutely everything goes our way.  In fact, we do not even do this sort of work because there are plenty of really good companies that do nothing but assist foreign companies in securing AQSIQ certification and you should contact some of those. You do not need a lawyer for that; you just need someone experienced and honest.

As far as the company that is claiming to be able to get your AQSIQ approval in six to eight weeks, RUN away.  And fast. That company is doing one of two things and neither will be good for you or your company.  It is either paying bribes or it is going to fail.

If it is paying bribes, you are paying bribes because it is your agent and let me tell you, if the Feds sue you for an FCPA violation, I’m not going to want to be the lawyer to stand in front of the jury and explain how you had no clue that the extra fees you were paying this company was going to be used illegally to speed up a foreign registration.

Let’s just say this company succeeds and you jump to the front of the line and get your AQSIQ certification.  Do you want to always be at risk of having Beijing pull your AQSIQ certification when it finds out what happened?  I don’t know what the chances of that are, but I know they are considerably higher than zero.

If that Chinese company is not paying bribes, my worry is that it will simply pocket your funds and disappear.  Trust me when I tell you I have heard many stories about this sort of thing and companies that offer to pass on bribes are prime candidates for stealing.  Or, at best, it will succeed in about a year and just have all sorts of excuses as to why it took so long.

Retain a good company and do it right. Trying to cut corners just isn’t worth it. This holds true for doing business in China in all areas, not just AQSIQ.

The American company thanked me and vehemently agreed.

Just saw an Inc. Magazine article entitled, “How to Partner in China in 2013.”  The article makes a number of good basic points about what it takes to succeed in doing business in China today and I am saying that not just because I contributed two of them.  The article’s premise question is “How can you take advantage of [China's] lower costs and the prospect of over 1 billion new consumers while minimizing risk? The following were proposed:

Start Small and Tough.  Arie Lewin, professor of International Business and strategy at Fuqua School of Business at Duke University advocates testing your China partner with “a small, low-risk project to set a high bar for quality and timing.”

Get everything in writing. The article quotes me as saying that ten years ago, the “typical entrepreneur would not have had a written contract with their Chinese suppliers” but now “it’s foolish not to have a written contract,” since most Chinese businesses, especially in places ”like Shanghai and Shenzen” are accostomed to them. The article then advoactes making sure that the contract is “spelled out in both English and Chinese, and clearly states the product specifications, the quality requirements, the trade secrets policy, and so forth.”  I disagree a bit with this in that we strongly advocate doing China contracts in only one language, usually Chinese.  For our reasoning behind single language contracts, check out Dual Language China Contracts Double Your Chance Of Disaster and China OEM Agreements. Why Ours Are In Chinese. Flat Out.

Realize a contract is just the beginning of the conversation.  Andrew Hupert talks of the importance of Americans realizing that in China a contracts is “an exercise meant to help the two sides understand the dynamics and expectations of the relationship—not to determine a hard and fast set of deliverables.”  I agree with Andrew, but the problem here is that the Chinese side expects to be able to make changes but it also complains when the American side seeks to make changes. In other words, the flexibility goes only one way and it is up to the American side not to allow that, which leads into the next thing….

Don’t let them get away with things—even if you let them get away with things.  Even if you plan to let one bad shipment slide, it’s important to let the partner know you noticed. “Let them know you know what’s going on,” says Harris. “And if it happens again, you’ll need a new agreement on that.”

Get to know them—and their friends.  “There’s an old joke in China,” says Hupert. “If your partner doesn’t have a picture of your family on their computer, then you’re just a transaction. And that doesn’t count for much.” Reach out to local government officials, and make them aware of you and how you’re helping their economy, says Lewin. “If you’re creating employment, they’re very interested.” By gaining importance as a community member, you gain importance as a business partner, too.

What would you add?

A loyal reader forwarded me a 43-page law journal article by Professor Gregory M. Stein and asked me what I thought.  The article is entitled “Is China’s Housing Market Heading Toward a US-Style Crash?” and it was last revised in late September 2012.  Stein is a very esteemed professor of law (mostly real estate) at University of Tennesse.

This abstract of the article summarizes it beautifully:

This article aims to determine whether China is heading toward a U.S.-style market crash in its housing market. Rather than attempting to maintain any suspense, I will disclose here that my conclusion is, “Who knows?” China and the United States have dramatically different histories, cultures, governments, economies, and legal systems. Anyone who claims to have a definitive answer to this question is overly confident.

My more modest goals in this article are to examine the available evidence and see which way it seems to point. The article begins by listing and describing several different ways in which the American housing market failed. It then evaluates the consequences of these failures for the U.S. housing market. Next, the article demonstrates some of the key respects in which the Chinese market differs from the market in the United States. This central portion of the article emphasizes just how difficult it is to make predictions about what might happen in one nation’s housing market based on the experiences of another nation that differs in so many significant ways. Finally, the article provides a description of some of the worrisome similarities between the Chinese and American housing markets. To the extent the previous analysis may have comforted the reader into believing that the Chinese market is unlikely to experience a downturn anytime soon, this last discussion will create some apprehension by highlighting some of the ways in which China might, in fact, be heading down the same path as the United States.

Though I was a bit disappointed that Professor Stein reached no strong conclusion (remember he is a lawyer), the article’s analysis struck me as very sound and very thorough and I highly recommend his article for anyone interested in China’s real estate market.

What do you think?

Just received the following comment to our post, How To Find And Deal With Chinese Manufacturers:

I have a question,
I sent a picture of a unique [product] and they sent back an email saying that they would like to manufacture it and when I said mine they corrected me by stateing ours.
is this normal?
How should I deal with them.
how does something like this work?
Thanks

We get this type of question shockingly often.  Usually, it comes from someone who just returned from China calling to say that they just spent the last week in China, meeting with a whole slew of potential Chinese manufacturers, and they just realized (oftentimes by having read one of our blog posts on the need for a Non Disclosure Agreement) that they should have required the potential manufacturers to sign a Non Disclosure Agreement BEFORE showing them their product or prototype.

So what can be done?  How should this company deal with their manufacturer? How can this company protect its trade secrets now?  With this particular company, all may not be lost. and that is why I struck its specific definition of their product and replaced it with the generic word, “product.”

If this company provided its product to just one manufacturer and is now planning to buy from just this one manufacturer, this company may end up doing just fine.

What this company should have done BEFORE it showed its unique product to anyone in China (or anywhere else in the world for that matter) is to have required that Chinese manufacturer to sign a comprehensive NNN Agreement written in Chinese and tailored for enforceability in China.  But that was not done, and the question is what can this company do now that it has returned without a China NDA of any kind.

This company can and should go to this particular Chinese manufacturer and say something along the following:

We want you to manufacture our product, but for that to happen, we need you to sign this OEM Agreement.

The OEM Agreement this company provides to its chosen Chinese manufacturer should contain each and every trade secret provision that should have gone into the NNN Agreement this company should have required the Chinese manufacturer to have signed before showing the Chinese manufacturer anything.  If the Chinese manufacturer signs the OEM Agreement, the company will have its trade secret protections. If the Chinese manufacturer refuses to sign the OEM Agreement, the company will have a big problem.

In our experience, Chinese manufacturers will virtually always sign a legitimate OEM Agreement containing trade secret protections becuase the Chinese manufacturer wants the manufacturing business.  I would estimate that Chinese manufacturers sign our OEM Agreements around 98% of the time and those few times that they do not it is because they are not a legitimate company and they do not want to be bound by legitimate requirements.  In other words, the Chinese manufacturer that refuses to sign an OEM Agreement does so because they intend to steal trade secrets or fail to deliver on their quality promises and they do not want to sign a contract that could effectively penalize them for doing so.

The much tougher problem is the company that comes back to the United States having shown its unique product to ten Chinese manufacturers.  That company can get a protective OEM Agreement from just one or two of them (i.e. the ones whom it is going to use for manufacutering) and it will then always have a problem with eight or nine of them.

The real solution, however, is not to go to China without an NNN Agreement at the ready.

If you are seeking to have your product manufactured in China, I suggest you scour  the following regarding NNN/NDA Agreements:

• China NNN Agreements. Watching The Sausage Get Made.
• Why Non Disclosures (NDAs) Alone Are Not Enough For China.
• Why Non Disclosures (NDAs) Alone Are Not Enough For China, Part II. At Least Make It Enforceable.
• China Non Disclosure Agreements (NDA). A Really Good Thing.

And the following regarding China OEM Agreements:

• Drafting A China Manufacturing Agreement. Watching The Sausage Get Made.
• China Supplier Agreements. With Apologies To Kansas.
• China OEM Agreements. Why Ours Are In Chinese. Flat Out.
• China Manufacturing Agreements. Make Liquidated Damages Your Friend.

And the following regarding other key issues arising from China product outsourcing:

• The Six (Not Five) Keys To China Quality
• How To Protect Your Molds And Tooling In China

I read the other day how antivirus software manufacturers are struggling and mostly failing to keep up with new viruses and malware.  I thought of that today when I received the third communication in just the last week of what we wrote about as the new scam coming from China.  In ”Payment Fraud In China. This Season’s Edition”  we detailed this new scam:

A foreign company has been making purchases from a Chinese company for an extended period. Payments are made pursuant to purchase orders that specify the company bank account to which payment should be made. Suddenly, the Chinese company sends an email requesting funds for outstanding POs be made to a new bank account. Often, the name on the bank account is not the same as the name of the Chinese company. Often, the bank account is in a different city or even in a different country. Often it is for Hong Kong.

We then wrote on how criminal gangs have started employing this scam, as reported by the China Daily:

• The gang investigated Chinese trading companies making sales to foreign companies operating in 27 foreign jurisdictions.
• After locating the target Chinese companies, the gang installed Trojan horse software on the computer systems of the Chinese companies. They used the Trojan horse to intercept email communications between the Chinese and foreign companies.
• The gang then sent out false emails to the foreign buyers, requesting that they send funds to bank accounts different than those provided in the applicable purchase orders. These accounts were opened in China by the China resident members of the gang. The accounts were emptied immediately, leaving only small sums behind to reward the local gang members.
• Nine local gang members were arrested. However, since the majority of the funds were sent overseas (Hong Kong?) to unknown parties, the stolen funds were not recovered.

This scheme appears to have become even more refined in that all three companies that contacted us told how the bank account information had not been changed via email, but on the actual invoices!  

How can you avoid getting caught up in this type of fraud:

• The computer networks of many Chinese companies are not secure. The networks are subject to abuse by employees of the Chinese company and by outsiders. This means that you can NEVER trust an email communication from a Chinese company. Email is inherently insecure in China and you never know with whom you are really dealing when engaging in electronic communication with Chinese companies. I guess we would have to say the same is even true of the invoices you receive.
• Chinese companies are very loyal to their bank and so you should view with extreme suspicion any request to make a change in the payment bank. You should not even consider such a request unless the request is made in writing on a revised purchase order stamped with the company seal. Even in that case, it is important to contact someone you know in the company with supervisory authority to ensure that the request is valid. Email requests to make a change should be ignored, but the request should be forwarded to your trusted Chinese company contact for an explanation.
• Carefully review all bank account information. Monitor both the name of the payee and the location of the bank. Where the payee is even slightly incorrect, do not pay. Where the location of the bank is in the wrong city or country, do not pay. We have seen cases where foreign buyers paid to bank accounts outside of China to payees with no connection to the seller. These cases were all obvious frauds and the buyers lost their entire payment. We have seen millions of dollars vanish into thin air with this sort of scam.  The Chinese parties committing the fraud will explain the need for this irregular payment as part of a plan to hold foreign currency outside of China. This kind of arrangement is no longer required in China. Explanations of this kind are indicia of fraud and should be ignored.

Constant diligence is required to avoid being taken in.

You have been warned. Again.

Please be careful out there. Really careful.

 

I have been a faithful reader of the NGOs in China Blog for a long long time and I just realized that I should be sharing that blog with our readers.  It is written by Shawn Shieh, who describes himself and his blog as follows:

I received my Ph.D. in political science from Columbia University. In a previous life, I was a tenured professor of Asian/Chinese politics at Marist College, a private college in Poughkeepsie, New York. In 2006, I moved with my family to Bejing. While here, I’ve been writing about grassroots NGOs in China, and the activists who found them. In 2009, I coedited a book on Chinese NGOs titled, State and Society Responses to Social Welfare Needs in China: Serving the People (Routledge). In 2009, I resigned my position at Marist, worked for two years as a Visiting Professor at the IES Center at Beijing Foreign Studies University. In 2011, I partnered with the Chinese NGO, China Development Brief, to start CDB (English). Here at CDB, we devote our energies to reporting on the civil society space in China. My wife and I have been working and traveling in China since 1984 and we have seen tremendous changes. When we first came here, very few foreigners were interested in China. But that has all changed. I hope this blog will provide you with a better understanding of the rapidly growing nongovernmental, nonprofit, charitable sector in China.

The blog’s tagline is “A blog about developments in the nongovernmental, nonprofit, charitable sector in China,” and if you are interested in any of those things, I recommend that you start reading it.