Manufacturing is not a science. For importers, both big and small, it’s not a matter of if quality issues will occur – but when. So, what obligations do Chinese suppliers, both traders and manufacturers, actually have to compensate their buyers for such complications? The answer is simple: Essentially none. There’s no international treaty forcing the supplier to, by default, compensate defect items according to a pre-defined framework.
Yet, many Chinese manufacturers claim to offer a warranty, sometimes valid for years! In this article, we explain why a ‘warranty’ in outsourced manufacturing is not really what you think it is, and why you need to go to the bottom and dissect the actual terms, rather than making assumptions, that so often prove to be disastrous.
There are no ‘warranties’ or ‘guarantees’ in international trade
The term ‘warranty’ is very misplaced in a Business to Business context. A warranty, in the sense that most interpreters the term, is a mechanism to protect consumers. In company to company dealings on the other hand, it’s all up to the buying and selling party to negotiate terms on their own. This is in no way exclusive to China, but also valid in Europe, America and most other markets. That is not saying there are no regulations whatsoever, applying to business dealings.
The image above illustrates a product listing on Alibaba.com. This supplier claims to offer a ‘warranty’ for 5 long years. So I assume I’m all safe then, I place an order today and got my back covered until, at the time of writing, January 2020? I wouldn’t think so.
When I go shopping for a new phone or computer, I know it comes with a warranty. If it breaks down within the set time frame, often one or two years, I can be sure to receive a refund, or a new computer – often the latter. Things are, however, not nearly as simple when importing from China – or anywhere else for that matter. I can assure you, that this supplier, assuming they even exists in 2020, will never provide their buyer with an unconditional refund or replacement product. It’s not even a remote possibility.
What I’m coming to is that a ‘Chinese manufacturer warranty’ is rarely a warranty in the sense that you and I know it. Instead, the term ‘warranty’ indicates that the supplier has some sort of program, or at least a set of terms that may be honored on a selective basis, specifying how they manage replacements, partial refunds, repairs or remaking – none of which is made based on their buyers good word. I think the phrase ‘compensation terms‘, or ‘defective product replacement policy‘, is much more suitable.
As said, a claimed ‘warranty’ is not much more than an indication that the supplier has some sort of compensation policy. That said, most suppliers will do anything in their capacity, and find any argument, no matter how absurd, to avoid compensating a buyer. It sort of makes sense. If Chinese suppliers were to include a set of extra services to their buyers, e.g. warranties, product development and shipping, they are for natural reasons forced to increase their prices. Chinese manufacturers operate on very slim profit margins.
Compensating a buyer for an entire order could wipe out their entire profit for months, or even a year. That said, negotiating clear, and fair, compensation terms is a critical part of any sales agreement. Keep reading, and I’ll explain how such a compensation can be made:
Option 1: Refund
An order can either be refunded in full, or in part. The former is very rare, and certainly requires the supplier to have a very strong incentive to accept such a loss. The refund option also requires the supplier to have enough money, or other assets that can be quickly sold off. That is, however, not the case for most small to medium sized manufacturers.
Also, due to strict capital controls in China, there are limits on how much a company, and an individual, is allowed to transfer abroad. Thus, a refund may not only be hard to negotiate, but even harder to realize due to local regulations – or simply because the supplier is not liquid enough to make one.
Option 2: Remake
It’s a lot easier to make a supplier agree to a remake, rather than a complete refund. However, there are a number of things to consider when drafting the ‘remaking terms’ on the Sales Agreement:
- When shall a supplier remake the products? Remaking, and reshipping, piece by piece (as defects are reported) is not viable for either party. Instead, I suggest that you specify a certain limit, that when exceeded, requires the supplier to remake the defective quantity right away. When the reported number of defective units is below this limit (e.g. 100 pcs), the supplier is allowed to remake the items when the next batch is ordered.
- The supplier must comply with a certain time frame, counting from the date a compensation claim is filed, to the date of shipping the items.
- Don’t expect the supplier to cover the additional shipping costs, duties and taxes. For duties and taxes, you can claim request a deduction from the local tax and customs authorities (there are regulations in most countries concerning international replacements), while the shipping may be compensated by your insurance company.
Option 3: Repairs
Warranty terms of many manufacturers is not much more than a written statement that they will ‘repair all defective items’. Now, that is a slight problem. They are in China, and you are likely very far from China. Thus, the first step is to get the items returned. As such, the following questions must be answered:
- Who is covering the return freight? (Most likely the importer)
- What if the items are not allowed to pass through customs in China? (The Chinese customs, ‘Hai Guan’ often acts in mysterious ways)
- How much time will the supplier have to repair the products?
- What if the products can’t be repaired?
Some defects are just beyond the point of return. The same thing can also be said about items that are non-compliant with product standards and directives. You simply can’t repair a piece of clothing to magically become compliant with substance regulations, such as REACH (EU) or CA Prop 65 (US). That said, ‘the repair’ is often the compensation term of choice for many suppliers, as it leaves them in complete control over the process.
Option 4: Replacement parts
When buying machinery and vehicles, for example, from suppliers in the United States, Europe and Australia, you can be somewhat safe to assume that they have secured the replacement part supply chain. Machines, LED screens and many other products do need replacements on a regular basis.
Many suppliers, especially in the LED industry, provide extra parts together with each order – thereby enabling the buyer to replace malfunctioning parts, e.g. fans and power supplies, while the supplier ships additional replacements. When you draft the replacement part terms, you need to take all of the following into consideration:
- Shall the parts be provided free of charge by the supplier? If yes, for how long is this valid?
- Shall the buyer, or the supplier, pay for the deliver cost? (The buyer, in most cases)
- Are there any MOQ requirements for each replacement part?
- How many days does the supplier have to ship the replacement parts?
Making a compensation claim
Compensation terms, in a Sales Contract, is utterly useless if not complemented with a mechanism for filing a compensation claim to the supplier. What if the supplier tells you to document cosmetic defects on thousands of units? While Western societies are largely based on ‘trust until the opposite is proven’, In China, it’s rather the other way around. Chinese society is not built on trust between individuals (other than close friends and family), or businesses for that matter.
This is one, out of many reasons, Chinese suppliers are hesitant to compensate buyers. In fact, importers also try to scam suppliers, so it’s not really reasonable to expect them to accept a compensation claim without some sort of proof. This is why a highly specific compensation claim mechanism is needed. This mechanism, of course also part of the Sales Contract, shall answer the following questions:
- What is the definition of a defective item? (Referring to ‘good quality’ is worthless. There simply no universal definition of what ‘good quality’ is.)
- What information shall the buyer provide to the supplier? (e.g. photos, videos and documents listing the defective quantity)
- Shall the buyer document, and list, every single defective unit? (Checking hundreds, or even thousands of units is not viable in countries with high labor costs, a factor that Chinese suppliers rarely understand). If not, how many units shall be documented?
- If not, how many units shall be indexed?
- What if the items fail compliance testing? (Thereby classifying the entire batch as defective)
- Is the buyer required to return the items to China? If yes, which party shall pay the return freight to China, and then back to the buyer? (Returning items is never viable when importing very small volumes)
- How many days, counting from the date the compensation claim is filed, does the supplier have to remake, refund, repair or deliver replacement parts? (e.g. 35 days)
- For how long, counting from the shipping date, can the buyer file a compensation claim? (e.g. 180 days)
As you probably noticed, the compensation claim mechanism is essentially about two things. First, ‘building a case’ that is sufficient for the supplier to base the compensation on, and secondly, to create a framework that avoids time consuming negotiations that lead to nowhere.
Then what if the supplier simply refuse to honor the compensation terms? It’s certainly not unheard of, and we receive such reports on a regular basis. Most Chinese manufacturers are, as said, operating on very slim profit margins. A supplier may not even have enough assets to compensate a buyer, regardless of their intentions. Suppliers also go bankrupt, while others simply could care less about their reputation. A supplier will only compensate their buyer when there is an incentive to do so – be it to maintain their reputation or keep a long term buyer.
The bottom line
There are no absolutes or certainties in international trade, especially not when involving developing countries. Instead, it’s all about risk management. Drafting clear compensation terms is critical, but don’t rely on your supplier to compensate you when things turn south. If anything, consider any compensation made by the supplier as a bonus.
Compensation, or ‘warranty’, terms is never a complement – or a replacement – for a properly executed supplier due diligence process, followed by a Quality Assurance procedure. In the end, everything that really matters is that the quality of the products, and that the items are compliant with all applicable regulations and labeling requirements, is what truly matters. The ship has, literary, sailed when the cargo is shipped. Consider any compensation made after this ‘point of no return’ as a bonus, rather than a factor to take into your business calculations. You have been warned.
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