Many importers who outsource their manufacturing or buy products off-the-shelf from Chinese manufacturers do so on a ‘buyer beware’ basis. There’s an almost unspoken belief that if things go wrong, it will be very difficult or even impossible to get a form of compensation from the Chinese party because of the opaque and self-protectionist legal system in China; especially after products have been shipped.
So, is it true that there’s little you can do if mistakes have been made by your Chinese supplier? We spoke to a legal expert and he explained how European importers can sue Chinese suppliers effectively, in the context of the new Directive on Liability for Defective Products that is applicable in the European Union from 2024.
First, prevention is better than cure.
Before we get to the point where we need to take legal action against a Chinese supplier, it’s going to be less painful to perform suitable due diligence and put in place an enforceable manufacturing contract that can reduce the risks of you ending up with a shipment that disappoints. The following two points apply to all importers regardless of region, by the way.
1. Due diligence
Being sure that you have found a supplier who can fulfill your needs is key to getting a good result, so performing different background checks on potential suppliers is a great way to obtain peace of mind that you’re working with a credible, legitimate factory, and you’ll collect more information as needed. Most of the off-site checks are fast and inexpensive, too.
Team up background checks with on-site factory audits (where an auditor visits the factory in person and checks the real situation on the factory floor to assess and verify that they have the equipment, capacity, and ability to manufacture your products with minimal risks), and you have a very well-rounded due diligence process in place.
Doing due diligence gives you a lot more certainty that the risks of quality and reliability issues in your products that would lead to a dispute with the supplier, for example, are unlikely to happen. So the ROI of paying for this kind of work early is great in comparison to attempting litigation later.
2. Manufacturing contract
Putting in place a manufacturing contract in China is a really important step for protecting your interests as well as your IP and for making your requirements crystal clear to the supplier.
The contract will typically include:
- A China NDA (written in Chinese and by Chinese law) provides a level of protection to your intellectual property.
- A Product Development Agreement comes in handy when working with a Chinese supplier to develop your product, or adjusting one of their existing products for you. As mentioned earlier, many Chinese factories can help foreign startups and SMEs to design and develop their products.
- Your Manufacturing Agreement defines, in strict detail, the finer points of your cooperation and relationship as customer and supplier, leaving little room for interpretation (or funny business) on the supplier’s part. Points to be clarified include the facility where the products are to be manufactured, buyer’s exclusivity, normal working process, payment terms, performance criteria (typically in the form of a specification sheet that becomes an appendix to the contract), penalties for breaching contract, and more.
When it comes to the penalties and provisions you put in place to protect yourself, this is where comments from our expert become interesting…
How European importers can sue Chinese suppliers effectively?
If all else fails, it is possible to sue a Chinese manufacturer. Let’s assume that the products were made in China and were unsafe and caused injuries to people and/or damage to property. And let’s assume you need your supplier to pay you damages for that.
Prof. Choi explains how European importers can sue Chinese suppliers effectively here:
If we go back to the manufacturing contract, as mentioned above you should look to include provisions for performance, deliverables, and penalties for breach of contract…one such penalty may be that you will recover damages if the products are not safe and/or don’t comply to the EU’s regulatory requirements.
Some Chinese factories and suppliers believe that, contract or not, it will be almost impossible to recover any financial damages after the fact. If you rely on a Chinese court to uphold a ruling from another country, you may be disappointed in the lack of enforcement.
Professor. Choi suggests that you bear these points in mind when creating your contract to recover losses in case of a dispute:
The contract must clearly state that the manufacturer must create products that comply to EU laws and regulations and to your specifications.
Contracts need to be well-written in Chinese and enforceable by Chinese law (and created by a lawyer specializing in Chinese business law), stating that the manufacturer (exporter) will create products that comply with EU (or whatever your market is) laws and your stated requirements. If the products subsequently do not, then you can recover losses.
The contract should call for ‘international arbitration in a third country that is a signatory of the New York Convention.’
This is the key here. Instead of taking your supplier to court in China, which could result in a negative verdict for you, your contract should call for international arbitration in a third country that is a signatory of the New York convention like Hong Kong, Singapore, the UK, etc, rather than for Chinese courts to uphold the ruling of a foreign court in, say, France or Belgium if there is a problem with the products. The former is possible in China, whereas it is unlikely that Chinese courts will uphold foreign judgements.
Chinese manufacturers are usually open to agreeing to this, especially if they want your business. A common red flag will be if a potential supplier pushes back against provisions that apply to their performance.
According to Professor Choi, European companies, and any company that sells products on the EU market, would be covered by these clauses in their manufacturing contracts with Chinese factories. This gives you a better chance of success than suing in a Chinese court which can be more forgiving to local suppliers.
Who is our expert, Prof. Choi?
Prof. Simon Choi has more than 30 years of international management experience. He is a senior lawyer in Hong Kong and the United Kingdom. He graduated from Peking University, University College London and the University of Hong Kong Law School. He serves as an independent director of many listed companies and has extensive legal education and practical experience around the world. He once served as the global legal director of TCL and led TCL towards internationalization for nearly ten years. In 2013, he was appointed as a co-professor of the School of Law at Zhongnan University of Economics and Law.
We are not lawyers. What we wrote above is based only on our understanding of the regulatory requirements. We do not present this information as a basis for you to make decisions, and we do not accept any liability if you do so. Please consult a lawyer before taking action.