1. Chinese Factories Are Increasingly Looking to Sell Direct
Nobody disputes that Chinese factories that make OEM products for American and European companies are increasingly looking to make their own products for selling directly to consumers. Nobody disputes that online marketplaces — especially those that are encouraging Chinese manufacuters to sell direct — have made this much easier.
And yet, without fail and probably at least once a week, we get emails from companies stunned to have learned that their Chinese factory has registered “my trademark” or “my patent” in China and is selling “our” product “for 25-75% less than we charge.” My law firm’s China lawyers have gotten more such emails/calls in the last three years from companies whose China factories are directly competing with them than in the ten years prior. We also still get companies telling us they “like” or “trust” their China supplier so much that it does not make sense for them to spend money trying to stop this company from competing with them or that even asking their trusted China partner to sign anything would be viewed as an insult.
Many of these Chinese factories will not create duplicates of your products for their foreign buyers — be they your competitors or your customers. They instead take what they have learned from manufacturing for you and use that information to compete directly with you. Since you will essentially be educating your Chinese manufacturer on how to compete with you, you need contracts and IP registrations that will at least limit what it can do when it does.
China’s Factory Brands: Clones or Clever Business? nicely explains why Chinese factories are risking the loss of existing customers to go into business competing with them:
In recent years, China’s manufacturing sector has taken a hit due to a slowdown in global demand and the migration to cheaper sourcing centres across South East Asia. With a highly skilled workforce and not enough work, some factory owners that supply major luxury companies have decided that the solution now lies in creating brands of their own.
Most of these factory brands are not in the business of yuandan, the high-quality ‘factory extra’ replicas recently cited by Alibaba’s chairman Jack Ma as fakes that are so good, they are better than genuine luxury goods in a controversial interview. However, there are some instances where Chinese factories produce branded goods that bear a strong resemblance to products they already make for their Western clients. And sometimes tracing the origin of these brands can lead to a rather murky trail.
“They’re making this kind of move to protect themselves,” says Gerhard Flatz, the managing director of KTC, a manufacturer of premium sportswear in China. “Manufacturing is moving elsewhere, so in order to survive the factories feel they have to do something different. Sure, it’s a tricky business practice but factories are in a difficult position. There’s a war out there and they have nothing to lose.”
Chinese factories are more confident now than they have ever been about going out into the world with their own products, and more willing to toss their foreign customers to the curb early. Amazon and Alibaba do not help matters as we are getting roughly a call a week from someone whose product is being sold on Amazon and/or Alibaba by their Chinese factory. With so many companies looking to move their manufacturing out of China, the bonds between Chinese manufacturers and their product buying customers have only weakened and the willingness of Chinese factories to compete with their buyers has only increased.
2. You Need a Contract to Prevent Your Chinese Factory From Selling the Products It Makes For You
Here’s the thing: it is perfectly legal for your Chinese factory to copy your products unless you have a contract forbidding it. And it is also perfectly legal for them to use your brand name in China (or even to register it as their own trademark) if you have not registered your brand name as a China trademark.
When companies tell me no contract is necessary, I usually wish them the best of luck. When companies tell me they are worried about asking their Chinese company to sign anything, I tell them Chinese manufacturers expect to sign contracts and they view foreign companies that do not require them to do so as suckers. And when companies tell me that they do not need a contract because they get along just fine with their Chinese manufacturer, I tell them that nearly all contracts are drafted when the parties are in agreement and therefore have something to put on paper in the form of a contract. Contracts cannot be written if the two sides cannot agree.
With online selling having become so easy for Chinese factories, your product has never been more at risk for competition by the very same factory to whom you provide your molds and your know-how and your technology. Chinese factories know this and many are agreeing to manufacture products at money-losing prices simply to acquire the knowledge that will allow them to sell those same products directly themselves. Chinese factories are becoming increasingly confident about selling their own products online and therefore more willing to risk losing their foreign OEM product customers to do so.
Despite the need to have a contract (or multiple contracts) with your Chinese supplier, and despite the need to always be alert to what your Chinese supplier is doing with your product and in your product marketplace, there is still room for a good relationship and having such a relationship is important. Think of the contract as a way to bolster your good relationship with your supplier by reducing the issues on which there will be disagreements.
Trust yet verify.
I suggest you read the following for what you can do to protect against this sort of competition: