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Who Should Sign Your China OEM Agreement? Not Some Hong Kong Company if You Can Help It
Who should sign your China OEM Agreement?
Got the below great comment/question today:
I would love to see you write about Taiwan / HK being “not” China, but from a different perspective. What advice do you give to a foreign company that plans to engage TW-based (or truly HK-based, e.g. been based in HK for 30-40 years) manufacturer, and said TW/HK company owns (though often, especially in the case of TW companies, via some Cayman/BVI/offshore entity) it’s own factory in China where the goods will actually be produced.
For many good business and tax reasons, the TW/HK company wants their HQ office to be the supplier of record to the foreign (e.g. US/UK) customer, and for the customer to pay the HQ office for the goods (usually so the factory can keep most profits outside of China and not have the problem of extracting money from China, which you write about so well).
So the US/UK customer will buy goods from (and pay money to) a TW/HK HQ operation, which in turn will sub-contract the manufacturing to their China-mainland subsidiary. In these cases, does your firm typically advise the client to have a contract with the TW/HK HQ, or solely with the China factory (even though they are not paying the China factory directly), or separate contracts with both entities?
You’ve written so much wonderful work on working with “Chinese suppliers” but in so many cases these suppliers are the product of FDI from TW or HK (or Korean, Japanese, US, German, etc) companies. Are the rules of Development Agreements and OEM contracts fundamentally different when a) the china factory has a foreign owner) and b) the customer will pay the foreign owner (rather than factory directly) for the goods?
It is a great question because the situation of a foreign company operating a Chinese factory has become so common and it presents legal problems just about every time it shows up. This issue usually shows up when a Hong Kong (most commonly) or a Taiwan company wants the OEM agreement (a/k/a the manufacturing contract or the supplier agreement) to be with it and not with the Mainland China (PRC) company that owns the Mainland China factory that will be manufacturing the product. I estimate that our China lawyers deal with this issue at least a third of the time when writing China manufacturing contracts, usually in one of the following three situations:
- The Hong Kong or Taiwan entity owns a PRC WFOE as its subsidiary, which WFOE in turn owns the PRC factory.
- There is no parent company-subsidiary link between Hong Kong or Taiwan and the PRC factory. Rather, all or some of the owners of the PRC factory-owning company are also owners of the Hong Kong or the Taiwan company. Or maybe the owners of the Hong Kong or the Taiwan company are simply part of the same extended family as the owners of the PRC factory-owning company.
- There is no ownership connection between the Hong Kong or the Taiwan company and the Chinese factory. The Hong Kong or the Taiwan entity is simply a broker for the Chinese factory.
Though it is nice to know the real relationship between the Hong Kong or Taiwan entity and the PRC factory, it usually isn’t critical for determining how to write the OEM contract. We generally like to see our clients’ OEM agreements be with the PRC company and not solely with the Hong Kong or the Taiwan company, for the following reasons, among others:
- If the manufactured product is of poor quality or delivered late, it is easier to threaten or sue the manufacturer.
- We want the payments to go to the company that actually owns the factory that is doing the manufacturing, rather than an interposed Hong Kong or Taiwan company that receives payment for the manufacturing and we want the OEM agreement to reflect this. This is because there is always the possibility that the PRC factory will claim it was never paid by the Hong Kong or the Taiwan factory to use that as a reason for refusing to manufacture for our client. Yes, this problem can be dealt with by contract(s), but doing so complicates things.
- Our OEM agreements almost always contain non-disclosure, non-compete and non-circumvention provisions. See China NNN Agreements. The PRC manufacturer (not the company in Hong Kong or Taiwan) is best positioned to manufacture and sell our clients’ products in competition with our client. We therefore very much want that manufacturer to have signed a contract that prevents them from doing such a thing.
- We know the PRC manufacturer has assets because we know it owns a factory. Oftentimes the Hong Kong or the Taiwan company has no assets beyond a rented office with a few chairs, desks and computers. We would much prefer our client have contract and litigation leverage over a company with a factory than a company with some chairs. Also, a company with a factory is more likely to abide by a contract so as to avoid being sued than a company with some chairs.
For more on why it almost always makes sense to contract with your PRC manufacturer, check out China Product Outsourcing. How To Distinguish Between An Agent And A Manufacturer and China Contracts, But With Whom?
The post Who Should Sign Your China OEM Agreement? Not Some Hong Kong Company if You Can Help It appeared first on China Law Blog.
We will be discussing the practical aspects of Chinese law and how it impacts business there. We will be telling you what works and what does not and what you as a businessperson can do to use the law to your advantage. Our aim is to assist businesses already in China or planning to go into China, not to break new ground in legal theory or policy.
Source: http://www.chinalawblog.com/2016/05/who-should-sign-your-china-oem-agreement-not-some-hong-kong-company-if-you-can-help-it.html
