How to Verify a Chinese Supplier

In the China sourcing industry, when we talk about verifying the legitimacy of a factory we are generally looking at two aspects:

Quality Audit: Does the supplier have the ability to product the products I want to buy?

Due Diligence: Is the company a legitimate business with good reputation and not a scam or business on the verge of bankruptcy?

While Quality Audits and Due Diligence both fall under the category of supplier verification, they are two distinct professions which require radically different skill sets.

For example, Quality Audits require auditors who are trained in ISO and familiar with the tricks of the trade on the production lines of Chinese factories. These auditors go out in the field to visit the factory.

Due Diligence on the other hand requires researchers who are skilled at desk research, data analysis and accounting tricks in China. They conduct interviews by telephone with the company and collect documents and data from the court systems, the real estate manager where the company is located, the media, business associates, banks and the local government office where the factory is based. The subject company is not even aware that they are being investigated, rather they believe they are participating in a general survey on companies in China.

In essence, field research and desk research are two complementary methods. When combined they give the buyer a comprehensive answer to the question “is this supplier legit?” I sleep better at night when the feedback I get from my Due Diligence (desk research) matches what it coming back from the Quality Audit (field visit to factory). If there are discrepancies, I look a little harder until I am satisfied with the answers.

Type 1: Quality Audit / Factory Audit 

This service is designed to ensure the supplier has the equipment and experience to make a given product. Audits can be conducted by the buyer, but usually 3rd party experts are hired to do the audit as it is a specialized skill.

There are various types of QC audits, but most buyers need not spend more than US$300 to have a proper assessment done on-site at the factory by a professional 3rd party. I’ll provide QC audit sample reports and pricing in the reference section at end of this article.

Most factory audits cover the following:

Quality System: on-site visit to confirm if there is a QC system in place.

Factory Profile: official business name, ownership, organization chart, contact details, production line status, production capability and capacity.

Employees and Workforce: overview of HR policies, management style and workers situation.

Experience: trade history, client information, available samples.

Verification of Documentation: review of licenses and certificates.

Type 2:  Due Diligence

Due Diligence is an investigation of a business prior to signing a contract to ensure the supplier is who they say they are.

There are various levels of due diligence a buyer can conduct. Here are some options:

– It does not cost any money for you to ask for references from the seller and contact those references. It is a very bad sign if the seller cannot give you at least one happy customer to talk to!

– For a few 1000 USD, investigators like CBI Consulting can go undercover to investigate the seller’s business.

– For under US$500, there are research firms who can access corporate filings, conduct interviews and check the factory for any red flags in China. The reports are in English and easy to follow. I’ll provide links to sample reports and pricing in the reference section at end of this article.

A Due Diligence report should cover the following:

Reputation: How do customers, employees and suppliers view the factory?

Financials: Are they in sound shape and not likely to close their doors in the middle of your order?

Legal: Do they have any court cases, past or present?

Confirmation of Factory Profile: Does the picture of their business given to you by their sales team and website match the information on record with the local government?  This could include: scope of business (trading vs. manufacturing), ownership, size, history, export experience, registered capital and so on.

Freshness

Things change fast in China. If key managers leave or the product line is changed (for example, I had a textile factory try to get into electronics with no prior experiences simply because they thought the margin would be better) good suppliers can go bad overnight.

Speaking of margins, as a rule they are very tight in China. This means most businesses cannot withstand a downturn if it lasts more than a few months. Several months after the global financial crash in 2008, some Chinese companies just sent their workers home and closed their gates, but were still confirming POs with their clients. Last year a chemical company in Shandong suffered such a debilitating explosion that it shut indefinitely down – but they were still communicating with clients as if they could complete all orders.

So make sure your factory audits and due diligence is as fresh as possible.

Managing Expectations

The tools and techniques outlined above will significantly reduce the risks of entering into business with a bad supplier. However, audits and due diligence are just a few of the tools buyers should have in their sourcing toolbox. As buyers, we need to be vigilant and keep an eye on our suppliers at all phases of production, not just the initial supplier selection phase.

Conclusion 

In my opinion, doing both the due diligence and QC audit is an essential step when sourcing from China. Perhaps I am jaded after living here in China for a long time, but I assume the worst unless proven otherwise. Trust BUT verify.

Resources and References

Asia Quality Focus and Glo-Bis have been kind enough to let me share samples of their Quality Audit and Due Diligence reports. Here is the reference pricing (accurate at time of writing) and links to sample reports:

Quality Audits

AQF-SFA-Sample Report – clothing Simple Factory Audit (US$298, one man-day, inclusive of travel to factory)

AQF-EFA Report Sample – Mobile phone Extensive Factory Audit (US$596, two man-days, inclusive of travel to factory)

Due Diligence 

GloBIS BCR Sample Business Credit Report (US$255; 9 business days)

GloBIS ICP China Sample International Company Profile Report (US$435; 11 business days)

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By Mike Bellamy, Advisory Board Member & Featured Blogger at the not-for-profit China Sourcing Information Center. Mike is also the author of The Essential Reference Guide to China Sourcing, and founder of PassageMaker Sourcing Solutions.