China’s recently stepped up efforts to root out unregistered foreign businesses in China has caused a rash of China consultants to retain the China lawyers at my law firm.
From our work in forming China WFOEs (wholly foreign owned entities) for these consultants, we have discovered that many China consultants are falling dangerously short in various other legal aspects of their business as well. Indeed, if we were to single out the foreign businesses in China most often guilty of underestimating their legal risks, it would be China consultants. China consultants seem to have been in China so long they seem to have forgotten that when push comes to shove (or as we lawyers like to say, when a deep and easy pocket needs to be found) they are the people who will be called on to answer for what happened. These China hands also seem not to realize just how much China has changed and that doing business in China today is not the same as it was five years ago. Not even close.
If you are a Western consultant hired by a Western company to assist in China, you need to realize that if something goes wrong for your client you will be your client’s first choice for legal redress. You will be the one they sue.
What can go wrong? And what can you as a China Consultant do to prevent or ameliorate it? Overall corporate planning to protect your personal assets is an absolutely necessary first step. Beyond that, and more specifically to China, you can do a lot to protect your client and thereby protect yourself.
We have seen the biggest problems with sourcing consultants that assist in finding Chinese manufacturers. A typical sourcing project, might go like this:
- A Western company retains a product sourcing consultant to find the best Chinese widget manufacturer in terms of cost/quality/dependability.
- The product sourcing consultant requests secures a sample widget from the Western company.
- The product sourcing consultant meets with countless Chinese manufacturers in search of the best one.
- The product sourcing consultant recommends company Z in China manufacture 100 million widgets.
- The product sourcing consultant is to be paid a percentage of the manufacturing costs.
- Chinese Company Z starts manufacturing the widgets
By this point, I am guessing the sourcing consultants out there are saying, “yes,” while the China attorneys out there are apoplectic. Let’s deconstruct this hypothetical project and note where the consultant has potentially harmed its client and needlessly taken on huge liabilities.
1. The sourcing consultant agreed to find the “best” widget manufacturer. Is that the best in China or the best in the world? What if the widget manufacturer charges one hundred dollars a widget for the 100 million widgets, but your client’s competitor finds another widget manufacturer who makes equivalent quality widgets for ninety dollars each. Are you liable for the difference? Even worse, what if your client’s competitor gets the same Chinese widget manufacturer to do his 100 million widgets for ten dollars less? Do you really think a US jury is going to believe you were doing your best when your fee was a percentage of the final costs? Are you responsible for the Chinese manufacturer’s late deliveries? For the Chinese manufacturer’s bad product? Is it clear exactly on what your percentage is going to be based and have you set things up so that your client cannot just go around you? The Solution: Make clear by way of a well-crafted written contract exactly what you are doing and not doing. Put in a non-circumvention provision to make sure you get paid and your client cannot go around you.
2. If you take a sample to China and start showing it to potential manufacturers without FIRST having put in place various safeguards, you are courting disaster. Your client’s sample could be used for counterfeiting and the trademark on the sample (or your client’s name) could also be stolen. Do not think this cannot happen to you as this sort of thing happens all the time. On many occasions we have had sourcing consultants call one of our China lawyers after having learned that one of the Chinese manufacturers to which it had shown a sample was now manufacturing the product for someone else using the client’s trademark. The Solution: You should never show a sample or product plan to anyone in China (or anywhere else for that matter) without first making the manufacturer sign an NNN Agreement (non-compete, non-circumvent, non-disclosure). You also must make sure not to reveal any trademark information at this point or register the trademark in China BEFORE you hit the ground in China. The same holds true if patent or copyright protection is necessary.
3. If you as the consultant will just be negotiating the price and delivery dates you need to make very clear in writing that these are your only tasks. Typically, product sourcing consultants oversee the OEM contract with the manufacturer and by doing so, they face major liability issues if that contract is not up to snuff. You are the “China expert” and your client is counting on you to guide it through China’s business minefields. You are the one who is supposed to know anything and everything about what it takes to do business in China and nine times out of ten, you sold yourself to your client as a China expert and that is exactly how your client views you. Your client probably thinks its existing patents, trademarks and copyrights will protect it in China, but a court will expect you as the China expert to know better. The Solution. Put in writing with your client that you will not be providing it with legal advice and that it will need to retain its own China lawyer to draft the manufacturing agreement with the Chinese manufacturer and to register its IP in China so as to protect it.
Just remember that your client sees you as the expert at doing business in China and it is looking to you for help and if you fall short in any way, you are at risk for a lawsuit.
So China consultant, protect yourself.