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Supplier due diligence in China: a DIY guide

China’s no longer the Wild-East, in terms of conducting business at least, but that doesn’t mean you can let your guard down when choosing a supplier in China. If you’re looking for a manufacturing partner there’s a lot that can go wrong if you don’t conduct your due diligence carefully – particularly in high-end manufacturing.

There are some truly fantastic potential partners in China and on the flip-side there are plenty of suppliers who aren’t quite up to the task. It can be difficult to work out which is which; particularly, if this is the first time you are looking to do business on the mainland. For example, we’ve worked with over 200 businesses to help them successfully source for their needs in China. However, if you’re going to go at it alone – please make sure you read our tips on selecting the right supplier.

The Big Questions

The purpose of conducting due diligence is to answer some big questions with meaningful answers to protect your business:

  • Is the supplier legitimate? There are two things to consider here; fraud risk and whether the supplier is who they say they are.
  • Is the supplier genuinely able to fulfil my orders and requirements? Quantity and quality are key areas to evaluate.
  • Is the supplier going to be able to consistently deliver what we need? It’s been noted that in China some relationships improve over time and others worsen; working out whether your supplier is in the game for the long-term is vital. You need to be able to fully evaluate a supplier’s reputation to determine this.
  • Is the supplier robust enough to withstand a crisis? Your suppliers should be able to withstand the loss of key personnel or problems with ordering systems for example. You need to evaluate succession plans and the robustness of internal policies and procedures to get to grips with this question.
  • Is the supplier able to supply all the paperwork you need? Bureaucracy in China can be a serious hurdle; your suppliers need to be able minimize your headaches by supplying all the paperwork you need when you need it.

Getting the Answers

The way to answer these question is to carry out due diligence in China with your potential suppliers. Here’s a simple 4-step process to make this easier:

Phase 0 – Before You Do Anything in China

Before you start conducting a supplier search you need to create some baselines for your due diligence:

  • Define what you need from your supplier. It’s important to be as specific as possible at this stage. The more detailed your requirements the easier it is to evaluate whether the supplier meets those requirements or not. This exercise is also going to cut down the massive numbers of potential suppliers to a more manageable number when you start sourcing.
  • Define where you want your suppliers to be. There are cost-savings to working in Western China, for example, but there are also higher-levels of quality risk as well as higher transport costs.
  • Decide how you will find your suppliers. You can look online but it’s worth noting that many websites are linked to middlemen rather than direct to suppliers and the same is true for the big sourcing sites like AliBaba. You may want to consider trade shows in China to meet supplier representatives or look for a sourcing agent who can steer you around some of the common pitfalls.

Phase 1 – Research

Once you’ve fully understood your requirements it’s time to make some contact with potential partners. You want to start doing your homework now to decide whether or not a supplier is for you.

Initial Research

  • You need to visit the suppliers premises or get an agent do this on your behalf – never part with any money until this is complete
  • Research the supplier online and if possible pay for in-depth background research on the supplier
  • Verify that the supplier can supply any documents that you might need and that they are authorized to supply these documents
  • Determine how QC is carried out by the supplier and how you might integrate an external QC auditor into that process
  • You can check company registration in China using this website: https://www.sgs.gov.cn/notice

Fine Tuning the Shortlist

Don’t start narrowing down your shortlist by price; examine the supplier’s attitude to start. Ask for product information and clarification on that information first. Ask for customer references too.

When you do start to examine pricing make sure that you ask for a complete quotation – “hidden fees” can come back to surprise you at any point. Consider:

  • Any set up charges that might be needed prior to production
  • The exact payment terms required by the supplier
  • All QC arrangements both within the supplier’s business and any external checks
  • The breakdown of the bill of materials
  • Taxes (including any possible rebates and exemptions)
  • Shipping and customs costs
  • The availability of samples that you can test and check for quality, etc.
  • Delivery timetables

Phase 2 – Initial Validation

For most business arrangements in China it is much better to work directly with your supplier and not through a middleman. A middleman basically takes a cut from the deal and is seen by the supplier as “their customer”.  A middleman rarely represents you, the real client, they just want their cut. This is particularly true when quality is imperative; middlemen often have no power to order rework or to resolve any issues in production of goods.

This is different from working with a sourcing agent, where you are always the supplier’s customer and they act on your behalf to get things done to your satisfaction. Determining whether you are getting into a relationship with a middleman or a real supplier can be challenging during your initial validation. This is what you need to look out for:

Side note: Don’t work with a supplier that won’t share the name and location of any production facility that they will be using on your behalf

Conduct a factory visit and check:

  • Do they have experience building products like yours
  • Do they have experience using the production methods you need them to
  • During the visit watch to see if your contact is handing out his business cards – if so he’s probably a middleman
  • Check a business card from a supplier representative against the business card provided by your contact – any significant differences may mean that your contact is a middleman
  • The ownership paperwork for the supplier
  • If your contact can’t answer questions on staffing, capacity, etc. they may be a middleman

Beware of great English language skills; by and large only middlemen have great English skills in China – highly polished websites in perfect English can be a dead giveaway. Also beware of massive product ranges; brokers work with many suppliers but most suppliers in China only make a small number of products. And last but not least, ensure that you agree that you can audit the location where your product will be produced personally at any time and that the supplier may not change this production location without express written approval.

Phase 3 – Supplier Audit

The final phase of your due diligence project is to conduct (or have someone do it on your behalf) a supplier audit. Here’s an idea of what to look for during an audit:

Compliance

  • Does the company adhere to local labor law?
  • Do they have ISO or SA certification? Do they comply with these standards?
  • Are facilities suitable for the tasks required?
  • Are processes documented and adhered to?
  • Are managers qualified to manage? Can they explain workflow?

Documentation

  • Can you get copies of export licenses, test certifications, or any other standard documents you require?

Inspection

  • Take your own interpreter resource so that you can ask questions and be thorough
  • What is the condition of the site? Does it have the right capacity?
  • What is the state of the company’s finances?
  • Are the right staff in place and available? Is there a succession plan?
  • What are the peak times of year? Does this cause any issues for your scheduling?
  • Do they subcontract any part of the process? Who to? Arrange a visit to the subcontractors if necessary too.
  • What are the QC processes? How are they applied in the workplace?
  • What is the workflow? Is that workflow efficient and logical?
  • Get samples (pay for them if you need to) and test them following the audit

Quality Audit

The success or failure of outsourcing in China is often down to the quality of the finished product; conduct a thorough audit of quality procedures and look at each of the following items:

  • Is there a documented list of post-production specifications for a product?
  • Is that list shared with the relevant people?
  • How do they evaluate and control their own suppliers for materials and parts?
  • How are requirements communicated to those suppliers?
  • How is the quality of any external material or part checked before it is used?
  • Do they use lab testing? If so what tests and which labs?
  • Are appropriate safety measures in place?
  • Do workers have clearly documented processes to work to?
  • Does their QC staff have clearly document processes to work to?
  • How are QC outputs recorded?
  • What is done if QC identifies a failure?
  • What instruments of measurement are used? How are they calibrated? Is staff trained in their use?
  • If subcontractors are used; how do all the above questions apply to them?
  • What percentage of products is inspected? Is packaging inspected too?

Summary

Sourcing the right supplier in China takes time. Ensuring that they are the right supplier requires a lot of due diligence.  It can be much easier (and cost-efficient) to get an agent to handle this on your behalf; that’s especially true when you don’t have China experience available within your organization. Approaching due diligence in China means following a logical process that uncovers and resolves any concerns before you part with your cold hard cash.

Duco van Breemen

Duco van Breemen

Duco is project & marketing manager at Launch Factory 88. He has lived in China since 2008 and has worked with both state-owned and private Chinese and foreign enterprises.
Duco van Breemen