hankyoreh

one of China’s economic hubs. (by Kim Myoung-jin

Since product sales are falling because of the abrupt slump in the Chinese domestic market, it’s becoming more common for Chinese commercial agents who have been selling commercial goods supplied by Korean SMEs to not pay the cost of the goods or to delay the payment.

One South Korean plastic manufacturer said, “A little while ago, we shipped US$80,000 of plastic products to China on the condition that we would be paid within 45 days. But now the Chinese commercial agents are refusing to pay us because of poor sales.”

As a result, the Korea International Trade Association (KITA) and Chinese branches of the South Korean Chamber of Commerce have been sending a number of warnings to South Korean companies operating in China about the difficulty or impossibility of collecting payment from commercial agents.

On a Q&A board on the KITA website devoted to doing business in China, the following question was posted by the employee of a South Korean company on Aug. 26. “We supplied exported products to a Chinese company, but we weren’t able to receive the payment when the Chinese company went out of business. The tax code says that, in order to treat accounts receivable as an expense, we need documentation proving that the Chinese company is no longer in business.”

KITA’s Shanghai branch responded by saying that it had determined that the business in question was still registered with the Chinese government, leading to the suspicion that the company had absconded with the money.

This past June, KITA’s Beijing branch submitted a report to the South Korean main office noting a recent uptick in the payment risk on exports to China.

The recent difficulty that companies have been facing in being paid for products they have sold is attributed to the financial crunch in China resulting from the slump in the domestic market there.

The standard practice is for Chinese commercial agents to pay for goods they have received at wholesale from South Korean companies before they have actually sold all of those goods by taking out a loan from Chinese banks using proof of possession of those goods as collateral. But since the domestic market has stalled, Chinese banks have adopted an extremely conservative approach, avoiding issuing such payment loans to commercial agents.

In a recent report to the Korean Chamber of Commerce, the chamber’s Beijing office wrote, “Following the slump in the real economy, since the beginning of last year Chinese banks have basically stopped issuing new loans to companies unless they are owned by the state or can completely guarantee the loans with collateral. Instead, the banks are putting the squeeze on company finances by taking steps to recover outstanding loans. Faced with this credit crunch, SMEs operating in China are talking about how they’re making money on paper but losing money in reality.”

In short, the credit crunch in China is causing a series of South Korean SMEs to have trouble receiving revenue on products they have sold.

In the massive Chinese domestic market, distributors have traditionally held the upper hand over manufacturers. In each of China’s 30 some-odd provinces, independent and exclusive commercial agents have an iron grip on the local commercial sectors and distribution networks. According to Chinese business customs, these commercial agents do not pay cash right away but rather buy products on credit and pay the balance after a month or more.

“People have been saying for a long time that it‘s best to avoid selling products on credit when you’re doing business in China. But doing business in China means working with a commercial agent, which means that ultimately it’s hard to avoid credit transactions,” said Jung Hwan-woo, the supervisor for China research with the Korea Trade-Investment Promotion Agency (KOTRA).

According to KITA’s Beijing branch, 59.4% of South Korean companies deliver products on credit when exporting to China (in the first quarter of this year). Only 9.9% of these companies have a letter of credit, by which a bank guarantees that the payment will be made.

When KITA surveyed 232 South Korean manufacturers and distributors, the number one difficulty they reported connected with operating in the Chinese domestic market or distribution market was the lack of reliable partners (commercial agents) (23.7%).

It was already hard enough to verify the credibility of commercial agents, and as consumer spending slows under the “new normal” in China, the commercial agent risk is starting to come into play around the country.

After several brushes with the risk of credit transactions with Chinese commercial agents, large companies - who, unlike SMEs, have brand power - are already greatly reducing their credit transactions and shifting to cash transactions.

Orion set up a Chinese branch in the mid-1990s, which manufactures its Choco Pie product for local sales. Currently, the company conducts 90% of its transactions in cash, and only permits credit transactions (10%) with large retailers that have a stable cash flow.

The situation is different for SMEs. If they insist on cash transactions, they risk losing revenue. Furthermore, they are in no position to unilaterally reduce their credit transactions in the face of Chinese commercial practices.

By Cho Kye-wan, staff reporter

Please direct questions or comments to [english@hani.co.kr]