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Exporting to China: The Dos and Don’ts of Choosing a Distributor

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How do you find a distributor in China? In the latest instalment of our ‘Exporting to China’ series, CW CPA offers a comprehensive ‘how to’ guide for finding a Chinese distributor and the key things you should consider when choosing one, from contracts to IP protection

So you’ve decided it’s time your company expanded into China. Inexperienced, unfamiliar with the market and concerned about high upfront costs, you are, however, not ready to take the plunge fully into uncharted waters. Working with a local distributor is often touted as an ideal first step, one that promises a soft landing. But is it? The apparent ease and efficiency of partnering with a distributor to kick-start your expansion in China may belie perils and pitfalls – if you are not careful.

In a nutshell, a distributor is a middleman between a producer and another entity in the supply chain, be it a wholesaler, retailer or the end consumer. As a reseller of products, a distributor buys directly from the producer and sells the products to those further down the chain. The main advantage of this entry model is that you can ride on the coattails of a distributor’s already established network of sales channels without a substantial initial outlay on infrastructure and logistics. Furthermore, since a distributor’s scope of operation can be very wide – encompassing customs clearance, storage, shipping, sales and marketing – those opting for a more comprehensive service may be inclined towards this method.

Distributors can be found, for example, at trade shows and exhibitions, through referrals or third-party specialist agencies, via introductions by chambers of commerce and on e-commerce platforms. While it may be tempting to choose the first prospective distributor that comes along, rogue distributors have the potential to break your business in China, so proceed with caution and circumspection.

Do conduct sound due diligence

Before engaging in any kind of business with a distributor, you should vet them thoroughly via a meticulous due diligence process. In order to ensure that they are legitimate, you should check that they have been properly registered with the Administration for Industry and Commerce. Central to this verification are the registered name of the company, its unique identification number and the name of the legal representative. A credit check should be performed by examining, for example, debt records, bank statements, bank loans and mortgage records. In addition, a hallmark of reliability and credibility is the quantity of positive references from customers and suppliers that can be produced.

Do have contracts in place

It is essential that proper legal safeguards are in place to protect your company’s interests from the very outset. Contract provisions should delineate the distributor’s scope of operation and actions to be taken in the event of non-compliance or breach. The role of the distributor should be clearly defined: are they to act as an agent, whereby the contract of sale is concluded between you and the end customer with them pocketing commission; or as a mere reseller, purchasing from you directly and selling the products on?

A partnership that involves the distributor adhering closely to your guidance, a transfer of proprietary knowledge and pronounced use of your trademarks and brands may – against your intention – slip into a franchiser-franchisee relationship. This can spell trouble if relative simplicity is your top-of-mind priority, as you may find yourself confronted with a slew of regulations governing franchise arrangements.

It should also be noted that China’s Anti-Monopoly Law forbids price control, which means you cannot stipulate that your products be sold at a specific resale price by the distributor to retailers.

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Don’t automatically assume a smooth transition after a break-up

The contract should provide for the eventuality of the partnership ending. Matters to take into account include:

  • The transfer of ownership of social media accounts, websites and e-commerce stores
  • The means by which and the jurisdiction under which disputes will be resolved
  • The fate of unsold stock – whether this is to be repurchased from or sold off by the distributor

The upside is that, unlike the legal protection bestowed on distributors elsewhere, who may be able to claim compensation or an indemnity payment, no such privilege is available to distributors under Chinese law, which makes termination comparatively inexpensive and straightforward.

Do consider whether you want to put all your eggs in one basket

Another important consideration is the kind of partnership between you and the distributor. Traditionally, there are three types of distributorships: non-exclusive, exclusive and sole.

  • In a non-exclusive arrangement, you engage multiple distributors, thereby spreading the risk and potentially gaining access to a wider range of retailers. Given China’s sheer size and heterogeneity, working with a number of different distributors would offer better coverage.
  • In an exclusive arrangement, however, you appoint one single distributor, who acts as the only point of sale in a given territory. The lurking danger is that, while you are restricted to working with just one distributor, your distributor is – on the contrary – free to market and sell on behalf of other brands that may be your competitors. Beware of sleights of hand on the distributor’s part, who may unilaterally decide to “shelve” your product under the pretext of exclusivity so as to oust you from competition with their other brands.
  • A sole distributorship is similar in that there is only one distributor, although you are allowed to sell your own products in a given territory.
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Do set sales targets

In the case of an exclusive distributor arrangement, it is especially advisable to set sufficiently high sales quotas to ensure that the distributor puts their nose to the grindstone and does not fall into complacency. You may wish to set the same target across the board or different targets for different products. It is common practice in China for such quotas to be set on a quarterly basis, and they are usually not categorised into provinces. In order to ensure that the distributor knows what is expected of them in terms of sales, targets should be formulated with clarity and specificity. The contract should provide for the event of the distributor’s performance falling short, which can lead to the loss of exclusivity or even termination of the partnership.

Do make sure your brand already has a level of recognition

If you are envisaging a partnership where your distributor is committed to working shoulder to shoulder with you to consolidate your brand in China, you are unfortunately going to be disappointed. Distributors tend to be short-sighted realists in that they value short-term gains over long-term rewards. This is also partly due to the fickle tastes and shifting preferences of Chinese consumers, whose brand loyalty is known to be low; therefore, distributors are keen to avoid having too much inventory pressure.

You may fall into a Catch-22: your brand is new to the market and does not yield high returns yet, although it may have every potential to do so in the future. For this very reason, distributors are reluctant to take on your product. The underlying irony is, of course, that the lack of distribution channels would stop sales growth dead in its tracks. To circumvent this trap, you should aim to acquire a level of brand recognition prior to entering the Chinese market, particularly through e-commerce platforms.

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Don’t forget about IP protection

The importance of properly registering all your intellectual property to guard against infringement – before doing business in China – cannot be stressed enough. China has a first-to-file, as opposed to a first-to-use, system, which means that you will not receive any protection unless the trademark has been registered. Unfortunately, this also has the unintended consequence that, up until full registration – which takes around a year to a year and a half – a third party can use your trademark, flagrantly disregarding your de facto proprietorship. Furthermore, beware of “trademark squatters” who scout for successful brands overseas and appropriate their trademarks, with the intention of selling them back to their rightful owners upon their entry into the Chinese market.

Most importantly, be sure to register your trademarks in your name, never in your distributor’s name. Although there are often cases of the distributor registering trademarks on a foreign company’s behalf due to the latter’s tardiness in doing so, this is generally not advisable. If your distributor does not dutifully hand over the ownership of rights, you may find yourself caught in a costly and protracted wrangle, which may lead to the loss of your trademarks altogether.

As long as you exercise prudence and prepare thoroughly, working with a distributor could very well offer a softer landing upon your initial entry into the Chinese market. But if you end up being yoked to a rogue distributor, it may turn out to be a case of the blind leading the blind.

This article is part of a series on exporting to China. See all the articles in the series below.

Part 1: How to conduct market research
Part 2: Protecting your trade mark
Part 3: How to choose the correct route to enter the China market
Part 4: The dos and don’ts of choosing a distributor
Part 5: How to find and hire staff in China

Call +44 (0)20 7802 2000 or email enquiries@cbbc.org now to find out how CBBC’s Launchpad service gets your company boots on the ground in China quickly and cost effectively.

This article was provided by our content partner, CW CPA

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