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Sometimes contracts are not enough

by David Dayton in 'Silk Road International'

Sometimes contracts just don’t work. Sometimes you not only don’t get what you ordered but you’re left with no viable options for exit or resolution. Even ”if you can’t do it, just return my money and we’ll call it good” gets you nothing. This is rarely ever successful.

In China, just because you can identify the problem that does not mean that you have a workable solution. The reality is if you have guanxi and an MBA-system, as opposed to just having a contract and critical thinking skills, you can get anything you want done. If you have a contract and critical thinking skills (and a western MBA) you will be able to detail (flowchart, graph and summarize) why you can’t get done what you want. You’ll even be able to go to court—but that doesn’t mean you’ll get what you want.

One example I know of is Coffee Company X—like many others they tried to come to China and “do things the right way,” e.g. without any personal relationships—straight MBA numbers and efficient processes. What they found was that they couldn’t get things done without “knowing people” as well as knowing how to do things. They struggled to get registrations done, get spaces in prime locations and keep stores open. Then, they consciously shifted their approach and now they are everywhere. Did their foreign headquarters decide to do this or did managers that wanted to keep their stores open do it on their own? That, I don’t know. But I do know that selling coffee isn’t about beans, it’s about relationships and real estate (location, location, location) and you don’t get the prime spots in China without connections.

This last month two suppliers for completely different products confirmed stock qtty’s of goods, delivery times and quality standards. Within the same work-week we placed orders with each. Both came back to us and said, “Oh, sorry. We don’t have the size, the price, or the qty’s that you requested (3 days ago). But we’ll give you less, worse quality and charge you more. OK?” This type of “business” begs my favorite un-useable question: “Are you stupid or just dishonest?!” But of course that doesn’t help.

We did all the usual due diligence on these factories—paid for info, talked with buyers, checked out their physical facilities via a partner company in their areas and confirmed (or so we thought) available qty’s. But nope, within a day of receiving the deposit, they didn’t have a damn thing. “Demand” and “Govt rules” and “season” magically changed the entire project in less than 48 hours.

We played the game, called, begged, threatened, screamed, visited the factory, and adjusted expectations but we still were not going to get what we wanted. So we called a friend with connections and had him get involved. He wasn’t able to completely solve the problem, but once he was finished with the factory, “meibanfa” (no options) turned into some palatable choices. Not great choices mind you, but choices, which is more than we had before he called. We were able to substitute approved options for the same prices and keep the same delivery dates—really probably the best we could have asked for.

So what do we pay for help like this? Well, we have a person in our company who ONLY does this work for us. And when we go outside for help we never pay. Well, we never pay cash and never “pay” immediately either. Usually the help is “repaid” with favors later, most typically, help with a factory with whom we have some guanxi.

China is both different and risky. You can ignore the risk and tell yourself that “numbers are numbers” no matter what country you’re in. Or you can admit that it’s different, scary, uncertainty here and deal with it consciously. I think that there are three ways to deal with the risk in China.

First, Chinese style—no due diligence or contracts, only Guanxi. Until deep into 2009 and the collapse of the Western economies we’d never seen Chinese factories do any due diligence on buyers. Even now, after so many factories have been stuck with product from buyers that have gone out of business before paying for their orders we rarely ever see anyone asking us for any corporate info/security that we’ll actually be paying our bills. Even with large SOEs it’s surprisingly still “business as usual” for Chinese in China—work with whom you know or build relationships before you order.

This is about education, but it’s describing the belief of parents of teens in China (e.g. 40+ year olds—the very people you’re doing business with).

here’s what our programme’s parents really believe: ‘I succeeded because of my ability to maintain and manage guanxi, not because of critical thinking skills and creativity. My child will succeed based on his ability to conform to Chinese society and to obey me. My child will study in the United States to meet other rich and powerful Chinese. That my child crams for the SAT rather than read books and that he lives in a Chinese bubble will prove to me and to Chinese society that he’s a loyal and obedient Chinese, and that will ensure his transition back to China after he’s bored with the bright lights of New York and the blackjack tables of Las Vegas. Why should my child learn English and American cultural values when China is superior to the West? Creativity and critical thinking skills are Western imports, and ought to be distrusted as dangerous influences.’

Second, Western Style—no Guanxi, only due diligence. If you’re going to have only one, this is the one that most people choose. And with this line of advice from CLB, I don’t blame you.

“The point is this. In China, you never know if you are dealing with a legitimate company and a legitimate representative of that company unless and until you investigate on the ground in China. Any foreign company that enters into a contract in China without this knowledge in hand is taking a risk that the Chinese companies themselves will not take.”

But the reality is, tons of DD and a great contract will NOT solve problems for you. It will not force people to do their jobs and it will not guarantee quality product on time. You’ve got to know who you’re working with. You have to know that who you’re working with is used to getting paid to do what you’re asking. I’m not suggesting that you pay them to do what they’ve contracted with you to do, but you must realize that you’re starting out with negative social credit since the supplier knows that you’re not going to be giving anything extra to them. So when push comes to shove and you’re more strict than their other clients and they have more rejects than they accounted for you’re in a hole that a contract and numbers will not solve.

Third, the best of both worlds—lots of research and probably as many dinners. You’re doing business in China because it’s cheaper, right? So realize that it may cost you some in dinners, trips to the factory and additional time working both the personal relationships and numbers to get what you want.

I do NOT believe that you should “go native” and I do not believe that a western MBA is the key to making things work in China either. You’ve got to have a lot more patience and willingness to work with your suppliers to get the same level of quality that you’re used to back home.

I guess that a fourth style would be to do nothing and just wire cash to a personal account of someone you met online—but if you’re going to do that, you could get better results (or at least have more fun) by going to Macao, or buying a Russian bride online or responding to the dying lady in Africa somewhere that needs your help, my dear, to get $15m out of her late husband’s account.

Write good contracts, run all the numbers, meet all the people involved and keep close contact with them, pay for a few dinners, spend time understanding the limits and abilities of the factory, hire someone (a trusted Chinese employee) to manage the relationships and negotiate the problems for you. Use the best, not the worst of both cultures to find success.

 


David Dayton is the owner of Silk Road International and currently lives full-time in Shenzhen, China. He speaks English, Thai and Mandarin and has worked in Asia for more than 15 years. You can contact him at This email address is being protected from spambots. You need JavaScript enabled to view it. or at www.silkroadintl.net

 

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