As a general rule, multi-level marketing (“MLM”), or direct selling operations has been prohibited in China—much to the chagrin of MLM companies who are anxious to enter the Chinese market. MLM companies have been trying to find ways around China’s prohibitions, or have been developing other methods to take their products to the people of China through retail operations. It now appears the Chinese objections to MLM operations are beginning to fade, and the door to China is beginning to open, ever so slightly. The prohibitions are not yet gone, and when direct selling is allowed, it will only be permitted under the most stringent requirements, in order to ensure the operations are not pyramid schemes or fly-by-night operations.
China’s willingness to begin to permit direct selling activities became evident in a meeting scheduled by the Chinese Ministry of Commerce in Xiamen, China on September 10, 2004. Approximately 20 representatives of the World’s most prominent direct selling companies were invited to participate in the meeting, including, inter alia, Avon, Amway, Mary Kay, Sunrider, Nu Skin, and Herbalife. During the meeting the Ministry introduced its “Proposed Direct Selling Regulations” (“Regulations”) to pave the way for allowing direct selling activities. If all goes well, these regulations could be in place as early as mid December 2004. Watch for updates in upcoming newsletters to follow the progress of the adoption of the Regulations.
While the proposed Regulations are subject to change at any time prior to formal implementation, the remainder of this article is intended to outline the regulations that have been proposed to date. We anticipate that most of the following will in fact be soon adopted.
Under the Regulations, a company must obtain an approval from the government before it is allowed to engage in any direct selling or even establish a local company that intends to engage in such activities. Qualifying groups will be given a permit that will allow them to prepare to establish direct sales operations and organize a local company. Once the company is established, a separate Direct Selling Certificate may be issued by the government. It is anticipated that the Ministry of Commerce (Foreign Direct Investment Section) will handle the entry qualification process for all interested companies while the State Administration of Industry and Commerce (Anti-Pyramid Sector of Fair Trade Bureau) will handle the enforcement of legitimate direct selling.
Before the Ministry will issue a permit or certificate to engage in direct sales activities, the company must meet the following requirements:
The proposed Regulations define a direct selling company as any company that, in addition to selling products through stores, uses contracted salespersons to sell those manufactured products directly to end consumers. In other words, all product sales must ultimately happen in connection with retail stores—fixed establishments meeting certain requirements. Products cannot be sold out of an individual’s home or other similar location. The Regulation recommends that the direct selling company own the retail stores directly. If a direct selling company owns more than 10 stores in any Chinese province, the company can submit application to establish a provincial level branch company to help support its expanding operations.
A direct sales company is allowed to establish franchise stores, but franchised stores will be forbidden from using contracted salespersons to sell products to the ultimate consumers and may only be traditional retail locations.
All products sold through contracted salespersons must be made in China. A direct selling company cannot import foreign made products and sell them through its direct selling channels. This restriction severely limits foreign direct selling companies, but is an incentive for foreign MLM companies to engage in manufacturing in China as quickly as possible.
Finally, the price of all products sold to consumers must be published. The regulation will permit a retail price and salesperson price, but the price is not permitted to deviate greatly from the market average price of similar products of same category in same location during the same period of time.
The success of a direct selling company in China under the Regulations once adopted will depend on the company’s ability to hire qualified contracted salespersons. The Regulations state that the direct selling company will be held jointly liable for the activities of its salespeople. A salesperson must meet the following requirements:
Compensation for salespersons may be tied to selling products. The maximum payout generally may not be more than 25 percent of the product’s price, although in some instances it can be increased to up to 30 percent. At this point, the Regulations have not addressed down line compensation issues or layer limitations, although bonuses are permitted if tied to actual product sales. This issue will need to be watched closely as things develop.
The Regulations also discuss what training and recruiting activities are permitted. Generally, the only training that is permitted relates to product training. However, in a separate area of the Regulations, it permits training that relates to selling skills, bonus plans, and so forth. It appears there as several levels of training contemplated, which at this point are not clearly defined. It is difficult to understand the exact intent of the Ministry on this provision. It appears the Ministry is concerned about training meetings that relate to improper schemes used to promote the products rather than the products themselves. The fee a company can charge to allow an individual to attend a training meeting is limited, much like the limitations on start-up kits or entry fees in the U.S.
The Regulations limit how many individuals are permitted to attend a training meeting at any one time. A company may have a maximum 600 attendees at any training meeting, a provincial level branch office can have up to 400 attendees, and stores can have 100 attendees. All meetings over 100 people must be reported and approved by the government in advance of the meeting.
Exciting opportunities exist for companies who engage in direct selling in China. As apparent from the above, a company must be willing to make a substantial investment in China, however, and must carefully monitor the activities of its sales force.
If you have any questions or concerns regarding the above, or would like to know more, please do not hesitate to contact Lee A. Wright at lwright@kmclaw.com or Michael Chen at mchen@kmclaw.com.