Concluding a distribution agreement in China is one of the possible courses of action when a company plans to enter Chinese business.  Foreign companies looking to start their business in China can do it either directly or indirectly. The direct way involves establishing a permanent presence in China that would translate into one of the multiple forms that an enterprise can adopt according to Chinese law, such as the Wholly Foreign-Owned Enterprise (WFOE), Joint Venture, etc. The indirect way involves either selling the goods to a Chinese buyer that resells the goods in China, which would be achieved through a distribution agreement, or appointing a commercial agent who will act on the manufacturer´s behalf. In this article, we will focus on distribution as the method to access the Chinese market.

Signing a distribution contract with a Chinese company is considered to be the most appropriate decision when the foreign company does not want to appoint agents in China to act on its behalf. According to Chinese laws, the acts of agent will be jointly and severally liable to third parties, and that requires a high level of trust and understanding between the foreign company and the Chinese agent. If there is not this level of trust it would be more appropriate to appoint a Chinese partner as distributor.

A distribution agreement may be described as a binding arrangement by which the distributor undertakes as an independent business to sell goods in the distributor’s own name and on the distributor’s own behalf in a defined territory on a regular basis. The distributor sells the products directly to the customers, having previously acquired them from the manufacturer on a discount rate. The relationship between manufacturer and distributor is a relationship of seller and buyer. As a consequence of buying and selling products on their own behalf, distributors bear the distribution risk. This is compensated by the profits they earn with the difference between the acquisition price and the resale price.

Chinese law has no special protections for distributors. European laws usually provide distributors with protections such as the right to compensation upon termination of the contract, when the commercial agent´s regulation is applied by analogy. Chinese law does not regulate this right to create an indemnity in the case of the finalization of the distribution agreement. This is why it is common that the Chinese distribution agreements provide for applying Chinese law in a Chinese court. Anyway, if the agreement provides for compensation upon termination or expiry, the Contract Law will apply. All the same, it is compulsory for the manufacturer to meet the legal requirements related to the proper and clear exercise and notification of the contract termination to the distributor.

There are several provisions of China’s Anti-Monopoly Law that have to be taken into consideration when a distribution agreement is being negotiated. The Anti-Monopoly Law prohibits retail price maintenance. Furthermore, this law contains particular restrictions for the dominant supplier, stating that in case of dominance, the supplier cannot refuse to trade with a distributor without justification. Breach of these rules would result in sanctions consisting of fines of up to 10% of annual revenues and claims in the courts by those suffering damage, as well as confiscation of illegal gains.

There are also restrictions in Chinese Price Law. It prohibits any collaboration in the control of prices to the significant detriment of the lawful rights and interests of other business operators or consumers.

It is not uncommon that distribution agreements include, as a distributor obligation, his duty to perform activities related with market development, advertising and marketing, as well as other matters. A supplier can also impose minimum purchase obligations on a distributor.

Finally, we will consider the problems concerning product quality and liability. If a product causes any personal or material damage or injury as a result of a defect originated in the manufacturing or design process, China’s Product Quality Law imposes strict liability on the manufacturer, without the necessity to prove his negligence. In addition, if the negligent conduct is proved, China’s Tort Law provides for compensation to be paid for negligence causing damage or injury.

In order to ensure that the distributed goods pose no danger to individuals or property, China’s Product Quality Law imposes on the manufacturer obligations related to the adoption of measures to maintain the quality of these products, the acquisition and maintenance of all the required certificates and the guarantee that the product information regarding specifications and warnings is visible in the packets containing the products.