Sourcing in China: Best Practices for Medical Device Companies
By Kandace Nguyen Fu, Senior Vice President of Pacific Bridge Medical
To provide tips on how to avoid common risks and ensure the success of your China sourcing ventures, Pacific Bridge Medical (PBM)’s blog series, Sourcing in China: Best Practices for Medical Device Companies, will outline the sourcing process and provide tips for effective “best practices”, along with illustrative examples from sourcing projects we have assisted clients with in the past. Start reading from the beginning of the series at Phase 1 – Supplier Search, or navigate to other topics through the links below:
- Phase 1 – Supplier Search
- Phase 2 – Contract Negotiation
- Phase 3 – Purchase Order
- Phase 4 – Customs Requirements
- Phase 5 – Quality Inspections
- Phase 6 – Long-term Supplier Relations
The second blog in this series covers key points to keep in mind when discussing contract terms with Chinese suppliers.
Negotiating Contract Terms with Chinese Suppliers
When negotiating contracts with Chinese companies, it is best to be familiar with the business culture in China. Being aware of the following points can facilitate a smoother and more successful negotiation process with your Chinese suppliers.
Chinese Communication and Business Practices
Many Chinese companies do not have the habit of conducting business online or over the phone, and prefer to discuss matters in a face-to-face meeting. Also, Chinese businesspeople tend to avoid admitting when their company is not able to fulfill a certain request, and will attempt to give vague answers or avoid responding rather than saying yes or no in a straightforward manner. It is highly recommended for buyers to deploy an on-the-ground representative, who is a native Chinese speaker and experienced with sourcing in China, to meet with the suppliers in person and make sure all prices and contract terms are communicated and understood clearly. This representative can also help buyers identify the key decision makers in each company and clarify what is involved in the production process.
After the contract is negotiated, foreign companies are often surprised or annoyed when they find that Chinese suppliers will keep bringing up points that were previously agreed and settled upon. This is a common practice in China. While most Western businesses prefer well-defined contracts, Chinese companies like to keep contracts vague to allow them some flexibility later on. Buyers should expect to have to reiterate details that were already discussed and confirmed.
Chinese suppliers know very well that foreign companies are interested in sourcing in China largely due to the low costs. They are accustomed to being hard negotiators and often make demands regarding deposits and down payments. This is a potential problem to be aware of, because less reliable Chinese companies tend to disregard long-term prospects and the possibility of future orders once they have pocketed a large amount of money, and they may consequently stop caring about product quality or act indifferent to the client’s requests.
Buyers need to be familiar with the underlying costs and the reasonable price range for their products, or they may unknowingly agree to disadvantageous prices. Chinese suppliers often start out by proposing a price that is about 50% higher than what they would actually be willing to accept. However, also keep in mind that a suspiciously low price may be a sign of cheap, poorly made products. Also, please note that suppliers often offer low initial costs to gain your business, but may end up increasing the prices in future purchase orders, especially if they believe you are reliant on their production.
An aspect of the contract negotiation step often involves assessing if local production in China should be limited to a certain number of suppliers. Buyers who are sourcing a wide variety of medical products often allocate production across numerous suppliers, because each product category requires distinctive technical skills, components, and manufacturing capabilities. However, for product lines with related functions or materials, it is strongly recommended that purchasers consider condensing the number of suppliers. Doing so will result in an increased number of units purchased from each supplier – and the higher the quantity of units purchased, the more leverage the buyer possesses to negotiate cost-efficient prices.
Case Study: Specifying Quality Standards in the Contract
The contract terms related to the product quantity, price per unit, and quality specifications are the most critical. Even if a supplier has already committed to a set price per unit, minimum order quantity (MOQ), and product quality specifications, clauses within the formal contract agreement should still be extremely particular. Precisely outlining terms and conditions within a supplier/buyer contract will allow both parties to avoid ambiguity and misinterpretation later on.
It is also important to understand that even when working with a reputable Chinese supplier, it is inevitable that you may still receive defective goods at some point in time. Thus, it’s imperative to include a contract clause that ensures you will receive fair compensation should the shipment of goods fail to meet the quality standards outlined in the agreement.
In one case, PBM assisted a client with renegotiating an existing contract with a Chinese supplier due to an issue regarding defective goods. Given our client’s positive experience working with the supplier’s parent company, the client did not initially feel the need to elaborate on terms and conditions related to defective goods. Our client’s initial contract simply stated that the quality control standards should be the “quality control standards previously agreed upon by the supplier and buyer.” The client’s supply chain manager had not deemed it necessary to include exact quality control measures on the agreement. As a result, the client could not hold the supplier liable for manufacturing a batch of products that did not meet our client’s quality standards.
PBM’s China team met with our client’s supplier to renegotiate the terms and conditions of the contract and prevent this issue from reoccurring. When PBM met with the Chinese supplier, the supplier explained that their previous business development manager was the one who agreed upon the quality standards with our client, and this individual was no longer working for the supplier during the time the issue occurred. The supplier further justified their actions by noting that the quality standards were not clearly outlined in the contract; therefore, they were not legally required to compensate our client.
Although our client only requested that we renegotiate a revised contract to prevent future discrepancies, PBM thought it would still be a worthwhile effort to pursue partial compensation for the defective goods.
PBM used our network of potential replacement suppliers as leverage to convince the supplier our client would end relations and seek alternate manufacturers if the supplier refused to provide better customer service. Although it is commonly known that switching suppliers is not a simple task, in this case, the client’s product was a commodity with relatively few complexities; thus PBM knew we could use our network of alternate suppliers as leverage.
In addition to agreeing on the revised terms and conditions, which precisely outlined the required quality standards, the supplier also agreed to a partial compensation for the previous batch of defective goods as a show of good faith and improved customer service.
Even if you have a good relationship with your Chinese supplier, it is imperative to explicitly spell out clear and specific terms and conditions within the contractual agreement to avoid misunderstandings and problems down the road.
Tune in to next week’s blog on phase 3 of the sourcing process: making the first large purchase order!