How to get a Chinese supplier to accept a letter of credit
Some importers start buying in China and are lucky. They find a proper manufacturer and they get good product quality.
Their challenge will be to keep this quality level in a consistent manner and for a competitive price. But in the short term they are doing fine.
Some others enter what I would call the vicious circle of poor sourcing decisions :
- They find a supplier who seems capable, and they place an order.
- They are asked for a 30% deposit before production starts. It seems to be the norm in China, so they transfer it. Little do they know that it will never be returned in case the supplier does not respect its commitments (it is a “down payment”, not a “deposit”).
- They find out that product quality is not acceptable. If they are lucky, they notice it before the goods are shipped, thanks to an inspection in the factory. They accept the less-than-desirable products, sort out the bad ones, and deliver to their customers.
- They are short on time to get a second order. The first order’s manufacturer promises they will get it right this time, and they offer a discount. If another manufacturer needs to be brought up to speed, it will take much longer. So the importer places a second order with the same company.
- In more than 90% of cases, product quality is NOT better the second time. The importer is very, very frustrated. Even lawyers can do nothing because, in most of these cases, there is no enforceable contract in place. And, in general, they haven’t cultivated a back-up factory. They need to start from scratch again.
How to avoid all these headaches?
Pay the first order with a new supplier by letter of credit.
Most buyers are not familiar with this payment tool. They should read the article I recently
wrote about it (Using Letters Of Credit With China Suppliers ). It was published on the China Law Blog. (Thanks Dan and Steve!)
In particular, what can be really hard is to get a Chinese supplier to accept a payment by LC. Most potential suppliers will tell you they require a down payment. But others will accept it. Here are my tips:
- When sourcing your product, try to identify as many potential suppliers as possible. This will at least increase your chances of finding one that will accept an LC.
- In your first conversation with your potential suppliers, mention that you always pay by LC on your first order. Try to get the supplier to accept this payment method in writing
- Sell your project to your potential suppliers. Good manufacturers are inundated with customer inquiries, so you need to make yourself stand out. Explain why they should work with you. Call the Chinese company’s sales manager if necessary
- Send your potential Chinese manufacturer a draft of the LC before opening it. You will usually need the commercial invoice, the packing list, the certificate of origin and/or GSM form A, the bill of lading, and an inspection certificate. Try to avoid putting “soft terms” into your Letter of Credit that will make it even more difficult for suppliers to collect payment.
- If possible, use a major international bank. This will tend to reassure your suppliers.
- Unfortunately, bank fees are much higher for an LC than they are for a bank wire, so an LC only makes sense for transactions of at least USD$30,000.
- Chinese exporters are good at guessing whether a project is likely to become a source of long-term business. When they see what they think will be a a one-shot deal, they generally insist on getting a deposit and will not agree to an LC payment arrangement.