Direct Sourcing in China: What Functions Do Importers Need to Perform?

Direct sourcing has been the dominant trend over the last 20 years. Importers have reduced FOB prices by going “factory direct” by eliminating trading companies. But, in some cases, it has often resulted in higher overall costs and lower reliability.

The good news is, importers can work much more professionally if they manage the whole process themselves. The bad news is, it takes serious work.

Fifteen years ago, most importers were working with trading companies (either intermediaries based in Hong Kong, or “import & export” firms on the mainland). This setup had a cost (the trader’s margin, at that time, was seldom below 20%), but purchasers were giving their business to professionals who were carrying certain functions (quality control, problem solving…).

As “cutting the middleman” became a common mantra, buyers sometimes forgot that they need local support. Let’s look at the main functions traditionally managed by trading companies:

  • Match making: either via a trusted network (for insiders only), or through a more scientific approval process comprising of supplier pre-qualification, background checks and factory audits.
  • Management of new product developments: many foreign buyers don’t know how to communicate clearly with Chinese manufacturers. Exchanging messages through a young translator, sending and resending samples, is frustrating and time consuming. Some trading companies and agents are very good at making this process more efficient.
  • Completing product specs: most importers don’t bother to define their all their expectations. Someone has to decide what packaging materials to source in 90% of cases. Relying on the factory is very risky, and a better solution is to pay a QC firm to define it clearly once and for all.
  • Quality control: by third-party inspection agencies or in-house staff. The use of statistical tools that are also used by retailers in the importing country reduces the risks of rejection of a batch that was accepted back in China.
  • Reducing payment risks: buyers need to use tools such as letters of credit or OEM agreements, especially when a relationship is starting and there is no trust.
  • Getting out of trouble: this is probably the most under-rated function of a good intermediary. When problems arise—and they will—an importer cannot just solve them by emails and phone calls.

Have I forgotten something?

Reset your Mental Models when Buying in China

Every year, tens of thousands of new businesses start purchasing directly in China. And many of them have a bad first experience. The key to successful China sourcing is not a set of tools — it is primarily a change in mental models.

For example, here is a dangerous way of thinking:

“It is the supplier’s responsibility to ensure my products are made up to specs, in responsible working conditions, and shipped on time.”

Well, not really. When you buy in your own country, it is true. But not in China. Chances are, the supplier has gotten paid in full by the time you receive the products, and legal actions are rather limited if you haven’t got a legally-enforceable contract that calls for litigation within China.

That’s why I always tell buyers that THEY are fully responsible for what happens in production and during shipment. If they don’t give clear targets (regarding timing but also quality and safety) to the supplier and if they don’t check what is really going on, they are the only party to blame should things go wrong.

Here is another one:

If we could find a smart manufacturer that wants to partner and grow with us, it would be ideal. They would give us good quality for a low price and over time they would get high volumes.

From my observations, this is not likely to work. If your business really takes off, you will probably have to find another, bigger and/or better supplier. “Partnering” with a buyer is not what Chinese exporters dream of. They want big volumes now so they can boast with their friends (or offer a Porsche Cayenne to their wife so she stays off their back).

And another one:

We should try to work with a very established manufacturer that sells to many large & famous customers.

Maybe it is a good idea, if quality is more important than price to you or if you can place large orders. But, if the cumulated amount of your orders in a year is less than a million dollars, a smaller factory might be a better choice. Sourcing is an art.

In my industry, there is another mental model I often have to fight:

All quality inspectors are corrupt. The factory just gives them money and they look elsewhere.

With time, this is getting more and more wrong. If you make sure the inspector is well trained, has a perfect sample to use for reference, has a very clear checklist in hand that leaves little space for subjectivity, and if the supplier knows exactly what you expect, the risk of corruption is really low.

To be fair, the manufacturer’s mental model also plays a role. Here is one that drives many buyers mad:

The buyer keeps insisting about quality, but he knows he won’t be getting high-quality products at the price we quoted. It’s all talk when he complains.

Price and quality are quasi inseparable in the Chinese mind. And the “no need to discuss it, since it is obvious” cultural convention makes it a never-ending source of misunderstandings between buyers and sellers. To fight this mental model, a good first step is to have a manager at the supplier’s company sign on a checklist and on golden samples.

“Quality problems come from the workers’ laziness.” 

Hire a bunch of high school graduates, pay them at the local labor market level, compensate them based on the number of pieces they process, and have them work in unsafe and uncomfortable conditions. Should you expect them to care about customers they have never seen? Of course not.

Factory managers do have methods at their disposal to improve quality. They are fully responsible for anything that goes wrong.

“Why train the workers or give them signs of appreciation? Anyway most of them will be gone by next year.”

Again, factory bosses have it wrong. There is high turnover so they don’t invest in their people. But would turnover be as high if they did make some efforts?

What do you think?

Three Simple Steps to Reduce Risks when Buying in China

A client asked me this question recently:

Is there any way I can get some assurance of the validity of the company as well as the quality of the final product before sending full payment? They have asked for a 30% deposit by T/T.

I get many similar questions from relatively inexperienced importers, so I thought it might be a good idea to share my response with my readers. Here is what I can advise, in a few paragraphs.

First, before you send an advance payment of 30%, you need to make sure they told you the truth about the factory (its size, what products it makes…), and how well organized they are. We can do this. I can confirm the price and advise the most appropriate type of audit once I know the factory address, the factory’s size, the type of product you intend to purchase, and the distribution channels you are going to use.

Second, make sure to negotiate the following terms: 30% advance payment before production (it will be hard to negotiate for less), and 70% after (not before) the goods are shipped to you (they will fax the bill of lading to you and you will wire the money). If they refuse that, make sure the 70% balance is paid after a quality inspection is passed. I also strongly advise to include the possibility of performing quality inspections on the purchase order form you will use (and a good template can be found here).

Third, send an inspector to the factory to check the quality of the products. If you let the supplier ship defective products, you won’t be able to return them for rework. At the very least, make sure a final inspection (before shipment) is done, since it is the only time the average quality, the packing, and the total quantity can be confirmed. In most cases, the cost is about 300 USD. If your budget allows for it, it is also good to inspect the products during production, as it allows to catch problems before it is too late.

Am I forgetting anything important?

How to SUSTAIN Improvements in a Chinese Factory?

When a Chinese factory is in crisis and its boss is open to new ideas, it is possible to make a lot of changes quickly. These improvements are usually driven by consultants or by a strong and experienced manager. And the problem is, once they are gone, the whole organization goes bad to old habits very quickly.

What Chinese companies really lack is the discipline to keep moving in the right direction, day in and day out, after the initial excitement is gone.

To be fair, this is not a challenge unique to China. Mike Rother applies the entropy rule (straight out of a physics textbook) to describe the natural trend of any organization to slide back after improvement efforts.

Why are improvements so hard to maintain?

There are always urgencies in a factory. A supplier delivers late, the customer can’t wait, and production needs to be expedited. A couple of key employees in a workshop leave at the same time. The local government is trying to extract more money. A shipment is rejected and needs to be reworked. A big customer is coming and needs to be entertained. And so on.

When a deadline is looming and there is not enough time to do everything correctly, something has to give. Maybe the supervisor is away and the workers take a shortcut, even though they know the rules very well. Or maybe it’s the manager who makes an exception, “just one time”. And the exceptional becomes normal.

More often than not, the real reason is a lack of training. Employees rarely understand the whole system. They might not even have noticed that cycle times have gone from 50 days to 30 days and that quality issues have been reduced by 80%. To them “improvements” were just “changes”. So they are not committed to keeping the new way in place.

Are there ways to avoid sliding back?

Yes, and the solution is twofold:

  1. A management system that makes any deviation from targets both obvious and visual to all
  2. Regular surveillance from the top of the organization, in order to maintain discipline

The management system is not very hard to put in place. Once regularly scheduled meetings take place, and if the boss is happy to have a “dashboard” (composed of meaningful KPIs), there is a chance the management system stays in place in the long term.

By contrast, the second element (regular surveillance) doesn’t come easily to the typical manager. As I wrote before, Chinese managers tend to stay in their office or in meeting rooms, while they should be where the action is taking place.

Regular surveillance is known in the lean literature as Leader Standard Work. It is composed of the following elements:

  • “Gemba walks” (managers walking daily on the shop floor)
  • Rapid detection of, and response to, abnormalities
  • Constant mentoring of middle managers and team leaders, who should be able to detect and solve most issues by themselves

This is why smart consultants sell improvement projects but also include a few training sessions and a follow up period for “maintenance”.

Do you see other effective ways to sustain changes?

Auditing a Trading Company in China: What Checklist to Follow?

In some cases, it makes sense for an importer to work with a trading company and to count on them for managing developments and productions properly.

Since a trading company is supposed to follow up on production and since all communication goes through them, it is crucial to ensure they are well organized. As I wrote before (in disorganization between importers and suppliers compounds), the difference between a well-organized trader and a disorganized one is huge.

Here are two common situations:

  • Disorganized buyer + disorganized trader + disorganized manufacturer = a huge mess.
  • Disorganized buyer + very organized trader/agent + disorganized manufacturer = few problems.

Unfortunately, it is difficult for a buyer to estimate how well organized a trading company is. A few clients have asked us to do this on their behalf. We wondered, since there are no production processes in a trading company, what should be checked?

Actually, a checklist based mostly on the ISO 9001 standard is a very good start. Our audit checklist is composed of four parts. I pasted some of the checkpoints below, as examples.

1. Quality management system

  • Is there an overall diagram of the purchasing-related process, and of the quality-related processes?
  • Do company employees have standard procedures to follow? If yes: are these procedures easily accessible to employees?

2. Management responsibility

  • Does the company measure customer satisfaction? (Example: surveys, rate of repeat business…)
  • Has the company written a job description for each position?
  • Do the job descriptions include the skills, education, and experience necessary for each job?

3. Provision of resources

  • Does the company have formal training programs, and can records be shown? If not, does it have a good way of giving necessary competencies to the right employees?
  • Does the company have a formal employee evaluation programs? Can records be shown?
  • Are samples properly identified, stored, and protected?
  • Are there testing/measuring devices in the office? Are they adequate to the products?

4. Product realization

  • Does the company prepare/have perfect pre-production samples for each product?
  • If the customer requirements are changed, is this clearly recorded (on the samples’ identification, on the specification sheet’s version…)?
  • At the end of the pre-production development phase, does the company have a document that includes criteria for acceptance of bulk production (example: a specification sheet with expected results and tolerances)?
  • In case of repeat orders, and in case a component or a process is modified in the new batch, does the company ask for the customer’s approval? (Ask for emails representing such cases).
  • In case a batch is found non conform to customer requirements, does the company inform the customer and ask for the next step to follow? (Ask for emails representing such cases).

How do you evaluate trading companies?