Ways to pay Chinese suppliers: the good, the bad and the ugly
Currencies Direct April 19th 2016 - 4 minute read
If you are sourcing your products from Chinese suppliers or manufacturers the payment terms and the method you use can determine the success or otherwise of your venture. But if you do not have an existing relationship with your supplier, if you are just placing a small order or require a customised product you may not have much leverage as to how and when you pay.
Much has been published in online forums and blogs about Chinese payment scams – and they certainly do occur. As a buyer, you will be looking to minimise these risks, while keeping your payment costs as low as possible. Some payment methods expose you to more risk and offer less recourse than others, so in this blog we look at the ‘good, the bad and the ugly’ among the most common payment methods to help you to avoid the main pitfalls.
Agree payment terms
First and foremost, the payment terms need to be agreed. There are basically three options: full payment in advance; deposit up front with balance on delivery; or credit with the Chinese supplier.
The basis of payment terms is the level of risk each party is prepared to take – combined with the relative sizes of buyer/supplier and whether or not there is an existing relationship. Buyers will have more leverage with suppliers if:
- They are placing a high-value order
- They are dealing with a major supplier
- There is an existing relationship with the supplier
Select payment method
Once payment terms have been settled, the payment method needs to be agreed. There are a number of options here, some of which are more popular with Chinese suppliers than others. Buyers should select an option that combines lower risk with higher recourse. The cost of each method should be taken into account too: lower risk often comes with a higher price tag; and some methods are not economic for large quantities – or conversely, for very small value orders.
The most common methods are summarised in the table below.
Additional ways to protect your cash
Once the payment terms are agreed and the payment method selected – don’t forget some common sense precautions you can take to minimise your risks:
- Check out the supplier thoroughly – you should already have done this as part of your due diligence in the selection process to make sure you are dealing with a legitimate company.
- Place a small order first, with a test payment to check how the supplier handles it.
- Do not make a payment before you have a signed and stamped contract and proforma invoice.
- Make sure you are paying the correct entity, ie, check that the bank account details correspond to the supplier.
- In paying the balance of an order, try to get your supplier to agree to this being done as far down the line as possible to reduce your risks – and clarify this timing in the sales contract for example:
> After production is completed but before shipping
> After the products have passed pre-shipping inspection
> After the container has sailed, based on a bill of lading.
- Avoid paying in full up-front, as this will remove any incentive for the supplier to correct problems after delivery.
- Protect yourself from foreign exchange risk
Firstly, you will need to decide which currency you will be using to pay for your imports. The possibility of paying Chinese suppliers in RMB is a recent development that importers should be aware of. Renminbi is the fastest growing settlement currency and is an attractive proposition for Chinese suppliers who will not have to shoulder the burden of currency exchange, however, trading restrictions for the yuan remain and the majority of invoices continue to be settled in US dollars.
Recently, fear that the global economy is slowing (sparked by shrinking growth in China and dropping oil prices) has had an impressive impact on currency markets. Both Sterling and the US dollar have been sensitive to these unravelling trends and the GBPUSD exchange rate has been very volatile since the end of last year.
At the end of November 2015 GBPUSD was at a rate of around 1.50 and an invoice for $10,000 would have cost an importer £6,666. Three months on, at the end of February 2016, the same purchase would have cost £7,246 when the GBPUSD rate dropped to 1.38. This case illustrates the real impact of exchange rate movements on UK-based sellers: receiving less dollars per pound made importing from China significantly more expensive in this short space of time.
When exchange rates can change so dramatically between the date of a purchase agreement and the date of payment the uncertainty surrounding the true cost of your stock can make imports a high-risk option.
There are ways to protect your business from currency depreciation and remove this element of risk when importing. The use of forward contracts allow you to secure an exchange rate for up to a year in the future so that you can be certain of the amount you will eventually be spending when you come to complete a purchase. Contact a specialist foreign exchange provider who will be able to help minimise any risk to your business.
There will always be an element of risk when sourcing from overseas. The key is to reduce this as much as you can until you have built up a network of trusted suppliers.
Don’t forget – it can be a risky business for suppliers too.