China Manufacturing and the Bike Lock Theory on Subcontractors

Our China lawyers have of late been receiving more than the usual number of emails and phone calls from companies (mostly American and European) wanting to pursue litigation against their Chinese manufacturers for bad product. In these “bad product” cases — especially if it is with a formerly “good” manufacturer — the product problem frequently stems from a sloppy subcontractor used by the Chinese manufacturer with whom the Western company has been working. The Chinese manufacturer freely reveals it used a subcontractor and blames the bad quality on the subcontractor. In most instances, the Western company did not even know that anyone other than its Chinese manufacturer was working on its product.

Truth is most internationally savvy China manufacturers are incredibly busy these days and loath to turn down good work they subcontract like crazy. Sometimes the subcontracting is for one portion of a product, oftentimes a portion they themselves are not even capable of making. Other times though, they will subcontract out all of the manufacturing.

We have handled many cases for foreign companies that received bad product from their previously reliable suppliers and in well over half of these cases, the product quality problems stemmed from their Chinese supplier having subcontracted out all or at least a portion of the manufacturing. The Chinese supplier usually admits to having subcontracted the work and sometimes even remarks that the problems otherwise would never have occurred. The supplier admits legal responsibility for the quality control problem, but then usually proposes remedying it by giving a small discount on future orders until the damages from the bad product have been covered. The foreign company is usually in no mood to continue doing business with the offending supplier and wants only a monetary remedy. However, because the profit margins at most Chinese manufacturers are so low, they often cannot pay all the damages caused by the bad product and a standstill results that can only be resolved through litigation.

The best solution for this is to prevent it from happening in the first place and the way to do that is to choose the right supplier and use a good manufacturing contract. When our China lawyers draft manufacturing contracts we usually include a provision precluding the Chinese manufacturer from subcontracting out production without first securing written permission from our client. Almost without exception the Chinese manufacturers have agreed to this provision and (at least as far as we know) they have abided by it. The reason for this is simple: the manufacturer may have 20+ companies for whom it produces goods, but very few (if any) contractually forbid subcontracting. When the Chinese manufacturer is so busy as to require subcontracting, it makes sense for it to subcontract work for those foreign companies for whom it is NOT prohibited by contract from doing so. I analogize this to bike locks. Even the best bike lock cannot prevent all thefts, but its efficacy comes from the fact that bike thieves generally find it easier to steal a bike with a poor quality lock or none at all than one that is difficult to break.

For more on China manufacturing contracts, check out the following:

• China Manufacturing Contracts: OEM, CM, and ODM Arrangements
• China OEM Manufacturing Contracts: The Questions We Ask
• How To Get Good Product From China; Specificity is THE Key To Your OEM Agreement.

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.