Product Recalls Involving Chinese Manufacturers Part II: Recovering Product Recall Losses from Chinese Manufacturers

1. Notify the Supplier Promptly

Under Article 39 of the CISG, a buyer must notify the seller of the nature of the non-conformity within a reasonable time after it discovered, or ought to have discovered, the problem.

PRC law adopts a similar approach. Under Article 621 of the PRC Civil Code, the buyer must notify the seller of quality or quantity issues within the agreed inspection period, or, if no period is agreed, within a reasonable time after discovery. As a general rule, notice given more than two years after receipt may be too late, unless a longer warranty period applies.

Importantly, these time limits do not apply where the seller knew or should have known that the goods were non-conforming.

For overseas buyers, this means that a serious product defect should be notified to the Chinese supplier promptly and in writing. Evidence that the manufacturer was already aware of the defect may also become important if late notice is later raised as a defence.

A formal notice should, where appropriate, identify:

• the affected products and batches;
• the suspected defect;
• reported incidents;
• inspection or laboratory findings;
• regulatory communications;
• corrective measures already taken;
• losses incurred or anticipated; and
• an express reservation of rights.

The supplier should also be asked to preserve relevant manufacturing and quality-control records.

Where appropriate, the supplier may be given an opportunity to inspect the affected products. This can reduce later disputes over whether the defect arose from manufacturing, transportation, storage or misuse.

2. Preserve Evidence From the Beginning

A recovery claim may be significantly weakened if defective products are destroyed or returned before sufficient evidence is preserved. Relevant evidence may include:

2.1 Product Evidence

• representative defective samples;
• unaffected control samples;
• batch and serial numbers;
• packaging and labels;
• relevant components; and
• photographs and videos.

2.2 Technical Evidence

• inspection reports;
• laboratory reports;
• failure analysis;
• testing records;
• product specifications;
• quality-control documents; and
• expert reports.

2.3 Supplier Communications

Emails, messages and other communications may be important where they concern:

• product specifications;
• known defects;
• earlier complaints;
• testing issues;
• manufacturing changes; and
• proposed corrective measures.

2.4 Evidence of Loss

Recall costs should be recorded separately and supported by invoices, payment records, freight documents, warehouse statements and refund records.

The objective is to establish a clear evidentiary chain: defect → recall or corrective action → loss → amount claimed.

3. Identify the Correct Chinese Counterparty

One of the most common problems in cross-border supply disputes is that the company operating the factory is not necessarily the company that signed the contract.

The contracting party may be:

• a Hong Kong trading company;
• an offshore sales entity;
• a mainland Chinese trading company;
• an export company within a corporate group; or
• the manufacturer itself.

Before pursuing a claim, the overseas buyer should determine:

• which entity signed the contract;
• which entity issued the invoices;
• which entity received payment;
• which entity manufactured the products;
• how those entities are related; and
• where meaningful assets are located.

A legally successful claim against an asset-light trading company may have limited commercial value.

For significant supply relationships, overseas buyers should consider requiring additional protection in advance, such as a parent-company guarantee or other security arrangement.

4. Review Governing Law and Dispute Resolution

The governing law and dispute resolution clauses can materially affect recovery strategy.

The contract may provide for:

• litigation before PRC courts;
• litigation before foreign courts;
• arbitration in mainland China;
• Hong Kong arbitration;
• Singapore arbitration; or
• another forum.

These options may differ significantly in relation to evidence, interim measures, asset preservation and enforcement.

Foreign companies should also distinguish between governing law and dispute forum.

A contract may, for example, provide for arbitration outside mainland China while PRC law governs the substantive relationship. Likewise, the CISG may apply even if the contract does not expressly refer to it.

The complete contractual structure should therefore be reviewed before deciding where and how to pursue the claim.

5. Consider Enforcement Before Filing

A judgment or arbitral award is commercially useful only if it can ultimately be enforced.

Before commencing proceedings, an overseas claimant should assess:

• the Chinese counterparty's corporate status;
• registered capital;
• shareholders;
• operating activity;
• known assets;
• related entities; and
• whether the business remains financially viable.

Where available and appropriate, asset-preservation measures may also need to be considered at an early stage. Waiting until after obtaining a final judgment or arbitral award may significantly reduce the practical value of the claim.

6. Draft Future Contracts With Recovery in Mind

Many recall disputes expose weaknesses that existed when the supply contract was signed.

A well-drafted international supply agreement should address not only product quality, but also what happens when a serious product safety issue arises.

Relevant provisions may include:

• destination-market compliance;
• technical specifications;
• testing requirements;
• traceability;
• reporting of safety incidents;
• recall procedures;
• allocation of recall costs;
• consumer claims;
• retailer chargebacks;
• indemnification;
• insurance;
• liability caps;
• document retention;
• governing law; and
• dispute resolution.

A recall clause cannot prevent a defect, but it can substantially reduce uncertainty over who bears the resulting costs.

7. Practical Checklist for Overseas Companies

When a product sourced from China becomes subject to a recall or serious safety investigation, overseas companies should consider the following steps:

a. Preserve defective products and technical evidence.
Do not allow all affected products to be repaired, returned or destroyed before sufficient samples and records are secured.

b. Notify the Chinese supplier formally.
Give timely notice of the defect and reserve the right to recover recall-related losses.

c. Review all contractual documents.
Relevant obligations may appear in purchase orders, specifications and quality agreements as well as the main contract.

d. Track recall expenditure separately.
Maintain a clear record of each category of cost.

e. Investigate causation.
Determine whether the problem arose from design, manufacturing, components, packaging, transportation or another source.

f. Identify the correct Chinese entity.
Confirm the identity of the contracting party, manufacturer and relevant asset-holding entities.

g. Assess enforcement early.
A strong legal claim against an insolvent or asset-light defendant may have little practical value.

8. How Chen & Chen Can Assist

Chen & Chen advises overseas companies on disputes involving products manufactured and supplied from China.

Our work may include:

• reviewing manufacturing, supply and distribution agreements;
• advising on PRC law and CISG claims;
• preparing formal notices and recovery claims;
• assessing recoverable recall losses;
• assisting with evidence preservation;
• investigating Chinese counterparties and corporate structures;
• advising on settlement negotiations;
• representing clients in litigation and arbitration; and
• developing enforcement strategies against assets in China.

For overseas importers, distributors and brand owners, early legal involvement can be particularly important because decisions made during the recall process may later affect the ability to recover losses from the Chinese manufacturer.

This publication is provided for general information only and does not constitute legal advice.