Supply and Equipment Sales Agreements: Russia-China Legal Guide

 

February 12, 2024

BRACE Law Firm ©

 

Currently, the Russian economy is actively expanding through the progressive development of international relations with China. According to data from the General Administration of Customs of the People’s Republic of China, trade turnover between Russia and China grew by 26.7% year-on-year in the first 11 months of 2023, reaching a record $218.17 billion. Exports from China to Russia increased by 50.2% to $100.33 billion from January to November, while imports from Russia reached $117.84 billion (+11.8%).[1]

Russian foreign trade participants have actively imported and continue to import various categories of goods from the PRC, particularly during times of crisis. Establishing supplies of goods and equipment is the most common practice in legal relationships with Chinese partners. To resolve any issues related to such supplies, parties must execute appropriate contracts, which carry specific nuances due to differences between Russian and PRC legislation.

This article examines certain features related to the legal regulation of Chinese-Russian relations in the supply sector.

Legal Regulation of Supply Agreements in China and Russia

Russian law regulates supply contracts under Paragraph 3 of Part Two of the Civil Code of the Russian Federation (the "Civil Code"). Pursuant to Article 506 of the Civil Code, under a supply contract, a seller (supplier) engaged in entrepreneurial activity undertakes to transfer, within a specified period or periods, goods produced or purchased by it to a buyer for use in entrepreneurial activity or for other purposes not related to personal, family, home, or other similar use. This type of contract is also subject to the requirements of Chapter 27 of Part I of the Civil Code regarding general requirements for contracts.

The regulation of supply in the PRC differs. Specifically, until 2021, the Law of the People’s Republic of China on Contracts (the "PRC Contract Law") was in effect, which regulated only sales contracts (Chapter 9) and contracts for the supply of electricity, water, gas, and heat (Chapter 10). Effectively, the supply contract is not "separated" from the sales contract as it is in Russian legislation. According to Article 30 of the aforementioned regulation, "a sales contract is a contract whereby the seller transfers the ownership of the subject matter to the buyer, and the buyer pays the price for it. A sales contract may also include clauses regarding packaging, inspection criteria and methods, settlement methods, languages used in the contract, and the validity of the contract, etc. Ownership of the goods passes at the time of delivery to the buyer, except as otherwise provided by law or the terms of the contract."[2]

However, on January 1, 2021, this law became null and void upon the adoption of the Civil Code of the People’s Republic of China (the "PRC Civil Code" or "Civil Code of China").

The Civil Code of China consists of seven parts, comprising 84 chapters and 1,260 articles: General Provisions (10 chapters, 204 articles), Property Rights (20 chapters, 258 articles), Contracts (29 chapters, 526 articles), Personality Rights (6 chapters, 51 articles), Marriage and Family (5 chapters, 79 articles), Succession (4 chapters, 45 articles), Torts (10 chapters, 95 articles), and supplementary provisions.

Specifically, the third section of the PRC Civil Code focuses on contracts and is divided into a general part (conclusion, validity, performance, security, modification and transfer of rights and obligations, termination of rights and obligations, and contractual liability) and a special part. [3]

Similar to the repealed Contract Law, this regulation does not distinguish between a supply contract and a sales contract. Pursuant to Article 596 of the PRC Civil Code, a sales contract may contain clauses specifying the name, quantity, quality, and price of the subject matter, as well as the time period, place and method of performance, packaging, inspection standards and methods, settlement method, language used in the contract, and its term of validity.

A significant difference between the PRC Civil Code and the Civil Code of the Russian Federation is the absence of the concept of "essential terms of a contract", without which a contract is considered unexecuted. General contract requirements include provisions that may be included in the contract, such as:

• The name and address of each party;
• Objects;
• Quantity;
• Quality;
• Price or remuneration;
• Time, place, and method of performance;
• Liability for breach of obligations; and
• Dispute resolution.

Parties may conclude a contract by reference to various types of standard contracts.

Notably, unlike the Civil Code of the Russian Federation, the general part of the PRC Civil Code contains a more detailed description of the procedure for concluding contracts. Parties may conclude a contract in written, oral, or other forms. The written form refers to any form that makes the content contained therein capable of being represented in a tangible form, such as a written agreement, letter, telegram, telex, or fax. Even data messaging in any form, such as electronic data exchange and email, which makes the content capable of being represented in a tangible form and accessible for reference and use at any time, is considered to be in writing (Article 469 of the PRC Civil Code).

If the parties conclude a contract in the form of a "memorandum of contract" and have not agreed otherwise, the place where the contract is finally signed, stamped, or fingerprinted is the place of the contract's conclusion (Article 493 of the PRC Civil Code). As in Russian law, PRC law does not define the term "memorandum". However, following the logic of the Civil Code, a memorandum effectively represents the definition of the parties' intentions when concluding a contract.

In practice, memorandums between the PRC and Russia are concluded between large corporations, sometimes with the participation of government authorities. Examples include the Memorandum of Cooperation between the State Corporation Bank for Development and Foreign Economic Affairs (Vnesheconombank), Joint Stock Company Russian Export Center, the People's Government of Guangdong Province, and the Chinese company Sinotrans Guangdong, or the Memorandum of Understanding between the State Company Russian Highways and the China Development Bank. [4]

If parties conclude a contract in the form of a written agreement, the contract is concluded when all parties sign, stamp, or place their fingerprints on the memorandum. Prior to signing, stamping, or placing fingerprints, if one party has already performed the main obligation and the other party has accepted performance, the contract is concluded at the time of such acceptance. If a contract must be concluded in writing according to laws or administrative regulations or as agreed by the parties, and the parties fail to conclude it in writing, the contract is concluded when one party performs the main obligation and the other party accepts it (Article 490 of the PRC Civil Code). Furthermore, if the parties conclude a contract in the form of a letter, data message, etc., and a confirmation letter is required, the contract is concluded upon the signing of the confirmation letter.

If information about goods or services published by a party through an information network, such as the Internet, meets the conditions of an offer, the contract is concluded when the other party selects such a product or service and successfully submits the order, unless the parties agree otherwise. Article 512 of the PRC Civil Code also regulates the conclusion of electronic contracts. If the subject of an electronic contract concluded via the Internet or another information network is the delivery of goods, and the goods must be delivered by express delivery services, the time of delivery is the time the recipient confirms receipt of the goods.

If the subject matter of such an electronic contract is delivered via online transfer, the time of delivery is the time the subject matter enters the specific system designated by the other party and can be found and identified. If the parties to such an electronic contract have agreed otherwise regarding the method and time of delivery of goods or services, such an agreement must be observed.

Thus, the legal regulation of supply under Chinese and Russian law differs. Next, we consider the specifics of choosing the applicable law when concluding supply contracts.

Choice of Substantive Law in Supply Agreements with Chinese Partners

Due to differences in the legal regulation of supplies in the PRC and Russia, the primary question when concluding such contracts is which substantive law to define. This choice plays a central role in the event of disputes regarding the timing and procedure of delivery, the quality of goods, and other matters.

Pursuant to Article 1211 of the Civil Code, in the absence of an agreement between the parties on the applicable law, the law of the country where the party performing the service of decisive importance for the content of the contract has its residence or main place of business at the time of the contract's conclusion applies. The party performing the service of decisive importance is recognized as the seller in a sales contract. If it clearly follows from the law, terms, or nature of the contract, or the totality of the circumstances, that the contract is more closely connected with the law of another country, the law of the country with which the contract is most closely connected shall apply. Thus, the "closest connection test" applies.

To a contract containing elements of different contracts, the law of the country with which the contract, considered as a whole, is most closely connected applies, unless it follows from the law, terms, or nature of that contract or the totality of the circumstances that the applicable law must be determined separately for such elements.

The Law of the People's Republic of China on the Application of Law to Foreign-Related Civil Relations establishes that parties may, in accordance with the provisions of the law, explicitly choose the law applicable to foreign-related civil relations. However, if the laws of the People's Republic of China regarding foreign-related civil relations contain mandatory rules, those mandatory rules apply directly. If different laws apply in different territories of a state whose law is applicable to a foreign-related civil relation, the law of the territory that has the closest connection with that foreign-related civil relation applies. Parties may also choose the law applicable to contracts. If the parties have not chosen the applicable law, the law of the place where the party whose performance is of particular importance to the contract has its habitual residence applies, or another law that has the closest connection with the contract. [5]

On December 1, 2023, the Supreme People's Court of the PRC published the second clarification to the Law of the People's Republic of China on the Application of Law to Foreign-Related Civil Relations. Thus, if the parties choose to apply foreign law, they must provide the law of that country. If the parties do not choose to apply foreign law, the People's Court of the PRC must establish the law of that country. [6]

Furthermore, as early as December 1, 2012, the Supreme People's Court of the PRC adopted the first clarification, according to which, if the laws of the People's Republic of China do not contain explicitly formulated provisions on the choice of applicable law by the parties for a foreign-related civil relation, and the parties or a party chooses any law as applicable, the People's Court must recognize the choice of law as invalid. If one of the parties intentionally attempts to establish a connection with a foreign-related civil relation to evade the application of mandatory and administrative rules of legislation, the People's Court of China must not apply the foreign law. [7]

Thus, the main features of the parties' choice of law applicable to their contract under PRC law are as follows:

• The presence of several regulatory legal acts and judicial interpretations in the PRC containing rules for the choice of law;
• The legislative consolidation of the principles of party autonomy and "closest connection" when choosing the applicable law (with a number of special rules and restrictions on the use of these principles);
• The prioritization of international treaty norms over national legislation and restrictions on the choice of "soft law" norms. [8]

Currently, the Protocol on the General Terms of Delivery of Goods from the USSR to the People's Republic of China and from the People's Republic of China to the USSR (Beijing, March 13, 1990) (the "Protocol on General Delivery Terms") remains in effect. Russia applies this legal act as the successor to the USSR. The Protocol on General Delivery Terms defines key issues related to the choice of the place of delivery and the procedure for inspecting goods.

Additionally, Russia and the PRC are parties to the United Nations Convention on Contracts for the International Sale of Goods dated April 11, 1980 (the "Vienna Convention"). According to this document, "statements made by and other conduct of a party are to be interpreted according to his intent where the other party knew or could not have been unaware what that intent was. If the preceding paragraph is not applicable, statements made by and other conduct of a party are to be interpreted according to the understanding that a reasonable person of the same kind as the other party would have had in the same circumstances." [9]

Parties may exclude the application of the Vienna Convention and the Protocol on General Delivery Terms. It is important to explicitly reference this exclusion; otherwise, judicial authorities may rule that these documents are applicable.

Specifically, one decision of the International Commercial Arbitration Court at the Chamber of Commerce and Industry of the Russian Federation (the "ICAC") concludes: "The sole arbitrator states that the People's Republic of China and the Russian Federation are parties to the Vienna Convention, that the parties did not exclude its application to relations arising from the Contract, and that Article 142 of the general provisions of the civil law of the People's Republic of China, Article 7 of the Civil Code of the Russian Federation, and Article 15 of the Constitution of the Russian Federation establish the priority of international treaties over domestic legislation. In this regard, the sole arbitrator, based on Paragraph 1 of Article 1 of the Vienna Convention, concluded that the Vienna Convention applies to the parties' relations in this dispute." [10]

Furthermore, in some cases, the ICAC concluded that the Protocol on General Delivery Terms of Goods from the USSR to the People's Republic of China and from the People's Republic of China to the USSR takes precedence over the Vienna Convention: "According to Article 90 of the Vienna Convention, it does not affect the application of any international agreement which has already been or may be entered into and which contains provisions concerning the matters governed by this Convention, provided that the parties have their places of business in States parties to such agreement. Considering the established practice of the ICAC, which recognizes the General Delivery Terms from the USSR to the People's Republic of China and from the People's Republic of China to the USSR as an international agreement in force between Russia and the PRC, the sole arbitrator concludes that the terms of the contract apply, which have priority over the provisions of the Vienna Convention."[11]

Thus, when considering disputes arising from or related to an international sales contract between Russian and Chinese enterprises, the competent authority determines the law applicable to the substance of the dispute:

• Governed by the parties' agreement on the choice of applicable law, or in its absence, by applicable conflict-of-law rules;
• Taking into account the relationship between two international treaties with overlapping subject matter — the Vienna Convention and the Protocol on General Delivery Terms;
• Considering the legal nature of the substantive rules of the Vienna Convention and the Protocol on General Delivery Terms. [12]

Next, we examine some issues arising in judicial practice concerning the supply of equipment from China.

Customs Valuation of Goods for Equipment Supplies from China

The acquisition of any equipment, including for existing production facilities in Russia, is a critical issue. Untimely delivery or the delivery of substandard equipment can lead to production downtime and delays in deliveries to counterparties, resulting in significant losses for enterprises.

A considerable number of disputes regarding equipment supplies arise from the upward adjustment of customs payments due to the incorrect determination of the customs value, including the failure to include certain components in it. Pursuant to Subparagraph 1 of Paragraph 2 of Article 40 of the EAEU Customs Code, the customs value of goods must not include costs for construction, erection, assembly, maintenance, or technical assistance performed after the import of goods into the EAEU customs territory regarding such goods as industrial plants, machinery, or equipment, provided that they are separated from the price actually paid or payable, declared by the declarant, and documented by him.

For instance, in one case, the court established: "The contract (DAP Manchuria delivery terms) does not contain all transaction conditions related to each specific batch of goods, given the wide range of products imported under the contract. However, the shipping list from the manufacturer states that 'due to the company's constant modernization and development, exact drawings and assembly diagrams are missing; the presence of a company specialist is necessary for the correct installation of the drying chamber; this service is provided absolutely free of charge.' Similar information is contained in the operating manual for the convective-type prefabricated drying chamber.

Thus, the customs authority reasonably concluded that the installation of the drying chamber by the manufacturer's forces and means without charging additional fees indicates that the cost of these services is already included in the price of the goods.

Furthermore, Section 5.1 of the operating manual for the prefabricated drying chamber submitted by the plaintiff for the declared goods states that 'assembly of the drying chamber body and electrical installation is carried out by the manufacturer's technical specialist sent to the installation site or under his guidance.' Thus, based on the submitted information, two stages of equipment installation can be distinguished: construction work — carried out by the client's forces, and installation work — carried out by the manufacturer's forces, the cost of which is already contained in the manufacturer's price for the goods.

In the contested customs declaration, information on cost values that can be identified as costs for construction, erection, assembly, and installation of equipment was not declared in Box 21 of DTS-1 and was not separated from the price actually paid/payable. The absence of declared assembly costs for the drying chambers for deduction indicates that no differences in the terms of the transaction price formation were established. The applicant's argument that the customs authority failed to consider the characteristics of the goods when choosing a homogeneous product — where a homogeneous product was selected based on the number of drying chamber sections, whereas the price of the goods is affected not by the number of sections but by the load volume — is rejected by the court." [13]

However, in some cases, courts reach different conclusions regarding the inclusion of transport and other costs in the customs value. Specifically, the court established: "For the purpose of determining the customs value of goods based on Subparagraph 4 of Paragraph 1 of Article 40 of the EAEU Customs Code, the company, considering the DAP Manchuria delivery terms, made additional charges for transport costs on the Manchuria – EAEU customs territory route, providing a service contract to the customs office as proof of incurring costs in the amount of 30,000 rubles. The applicant submitted a mandate contract for transport and forwarding services for foreign trade cargo, under which the forwarder organizes the transportation of foreign trade, export, and import cargo by all types of transport and performs their transport and forwarding services at the forwarder's bases, border railway stations, and road crossings in the Russian Federation and other states (Paragraph 1.2), as well as an acceptance certificate for services rendered.

According to Paragraph 3.3 of the mandate contract, payment for services is made as a prepayment or upon the completion of work after the forwarder provides an invoice. By agreement of the parties, payment for work may be deferred until the end of the current year in which the services under the contract were performed.

The totality of information on the delivery cost in these documents is sufficient to confirm the transport costs included by the company in additional charges to the value of the goods in accordance with Article 40 of the EAEU Customs Code.

Thus, contrary to the customs office's opinion, the cost of transport services, as well as the forwarder's remuneration, is included in the total cost of organizing international transportation under the mandate contract and is included in the customs value structure.

The case materials contain no evidence that the forwarder issued a separate invoice for the payment of relevant additional services at a different price not agreed upon by tariffs and rates, nor that the cost of organizing international transportation on the Manchuria (China) – EAEU customs territory route for the batch of goods under the contested customs declaration was understated.

Accordingly, the court concludes that the documents provided to the customs office could be accepted as proper evidence confirming the transport costs incurred by the applicant for the delivery of the batch of goods under the contested customs declaration to the EAEU customs territory from the agreed point of departure in Manchuria, China.

The court notes that during the additional inspection, the customs office raised no questions regarding the transport costs incurred by the declarant for the delivery of the batch of goods, as no additional explanations regarding information requiring clarification were requested; the identified signs that served as the basis for the additional inspection — expressed in the inability to identify the transport costs incurred with the transportation of the goods declared in the contested customs declaration — were also not communicated to the declarant.

Based on the established facts of the case, the court does not accept the customs office's statement in the contested decision that the declarant failed to submit a single supporting document for the payment of the batch of goods under the contested customs declaration." [14] As a result of the case, the customs office's decision was successfully challenged, and the court's decision was upheld by the appellate and cassation courts.

Based on the court decisions cited above, it follows that courts evaluate evidence regarding the absence of understated customs value on an individual basis. In the last case cited, the presence of voluntary additional charges by the plaintiff for transport costs played a significant role, in our view.

Furthermore, in another instance, the Supreme Court of the Russian Federation issued Ruling No. 301-ES23-1708 in Case No. A43-33079/2021 regarding the inclusion of transport organization service costs in the customs value of exported timber based on agency agreements concluded with Chinese companies. Timber sales under foreign trade contracts were to be carried out on FCA (Incoterms 2010) terms via railway stations of the Gorky Railway — a branch of Russian Railways — with ownership of the goods passing at the time of transfer at the departure station. Having considered the case, the court denied the company's claims and qualified the transport costs reimbursed by foreign buyers to forwarders and the payment of agency fees for organizing the delivery of goods across the Russian Federation as one of the component payments for the exported goods, which must be taken into account in the price actually paid or payable for the exported goods. In this regard, the court treated the foreign trade contracts and agency agreements as interconnected transactions, where payment constitutes the price for the timber, thereby forming the customs value of the exported goods. The court specifically established a set of circumstances indicating that the acceptance of the goods actually occurred after their departure from the EAEU customs territory. [15]

It is also important to note that the more complex the technical composition of the equipment being supplied and the wider the price spread for similar goods, the higher the risk of disputes with customs authorities. Therefore, to prepare an appropriate evidence base, parties must request all technical documentation, cost estimates defining the price calculation procedure, and detailed data on equipment characteristics from the supplier, and clearly provide for issues related to the distribution of transport costs and equipment assembly and installation costs in the contract.

The choice of delivery method and the procedure for inspecting the quality of the delivered goods also play a significant role when concluding equipment supply contracts.

Selecting the Delivery Method and Basis from China

Cargo delivery from China to Russia is carried out by three methods: sea, land, and air. These transport arteries differ in terms of route duration and the cost of logistics services.

The lion's share of China's exports is distributed globally by ship through the Yellow, East China, and South China Seas. Approximately 20 large and over 100 small ports are concentrated on the shores of these natural waters. The largest of these (ranking in the world's top 10) are located in Shanghai, Shenzhen, Ningbo, Guangzhou, and Qingdao. Ships travel from the PRC to Vladivostok, Novorossiysk, Kerch, Yevpatoriya, and Saint Petersburg. Currently, trading vessels from China do not run to Murmansk, Arkhangelsk, and other ports of the Far North, although both Russia and the PRC intend to use the Northern Sea Route.

River communication via the Amur River — from the city of Heihe to Blagoveshchensk — is equally popular. Goods are transported here by barge. However, a bridge between these settlements was opened on June 10, 2022. Consequently, road freight transportation is becoming more attractive due to the year-round operation of the bridge (previously only a winter crossing), increased delivery speed, and reduced transport costs.

In addition to sea and road links, cargo from China is delivered to Russia by plane. However, air transport has baggage restrictions on dimensions and weight, and this delivery method carries high tariffs. Nevertheless, air routes are in demand, especially for perishable and urgent goods. [16]

Articles 604 and 604 [sic] of the PRC Civil Code provide that the seller must deliver the subject matter to the agreed place of delivery. In the absence of an agreement between the parties on the place of delivery or if the agreement is unclear and cannot be determined, the following provisions apply:

• If the subject matter must be transported, the seller sends it to the first carrier for delivery to the buyer;
• If the subject matter does not need to be transported, and the seller and buyer know the location of the subject matter when concluding the contract, the seller must deliver it to that location;
• If the location of the subject matter is unknown, the seller must deliver it to the seller's place of business at the time of the contract's conclusion.

The seller bears the risks of destruction, damage, or loss of the subject matter before delivery, and the buyer bears them after delivery, unless otherwise provided by law or agreed by the parties.

Although the legislation of both the PRC and Russia provides for the procedure for determining the place of delivery, it is recommended to follow the Incoterms 2020 international trade rules for international supplies. In this practice, 11 regulations are in force, designated by three-letter abbreviations, which define the interaction conditions for foreign trade participants — delivery bases. [17]

Regardless of the delivery method defined, a common occurrence is the failure of Chinese partners to deliver, despite receiving prepayment.

For example, in one case, the plaintiff and defendant concluded an international sales contract under which the defendant undertook to supply goods and the plaintiff undertook to accept and pay for them in the quantity, assortment, prices, and timeframes according to DAF (Russian Federation) (Incoterms 2000) — by rail — and FCA (People's Republic of China) — by road. Under the contract, the buyer paid for the goods in US dollars by bank transfer to the seller's currency account within a certain period from the goods' arrival, and the buyer was also entitled to make an advance payment for the goods. The buyer exercised this right and, in accordance with the contract, made a partial advance payment for the goods specified in the invoice received from the defendant. Since no timeframe for the delivery of the goods specified in the defendant's invoice was established, according to a supplementary agreement signed by the parties, the goods paid for by the plaintiff were to be delivered by a certain date. According to the evidence submitted in the case, the defendant failed to deliver the paid goods to the plaintiff by the specified date and left the plaintiff's claims unanswered and unsatisfied. Given the above, the plaintiff's claim to recover the advance payment for the goods from the defendant is, in the opinion of the ICAC, justified and must be satisfied in full. [18]

It is important to note that according to Incoterms 2020, FCA ("Free Carrier" "named place") delivery terms mean that the goods have cleared export procedures and have been handed over to the carrier at the named place, which signifies the supplier's fulfillment of its obligations under the trade transaction. FCA delivery terms define the duties and rights of the parties in the process of international delivery, transportation, and customs clearance. They establish the place where the goods pass from the supplier to the buyer and define the risks for all parties involved in the delivery.

As an analysis of world trade shows, FCA delivery terms are among the most common, with nearly 40% of supplies carried out using FCA terms. [19]

Under DAF (Delivered at Frontier) delivery terms, the seller is required to deliver the goods to a border point. The seller usually bears responsibility for all costs of transporting the goods to the delivery point for the buyer. The party receiving the goods usually imports them and passes through customs.

Judicial practice confirms that FCA and DAF are indeed the most common delivery methods between China and Russia.

When choosing these delivery methods, Russian parties may face numerous questions from customs authorities, including for supplies from Russia to China. For example, in the performance of foreign trade contracts, a company declared goods under 40 customs declarations on FCA (Incoterms 2010) terms at the Kirov regional customs post and the Volga customs post (CED) of the Volga electronic customs office. The customs office made an upward adjustment to customs payments because the company failed to include transport organization service costs based on agency agreements in the customs value of the goods. Challenging this decision in court was unsuccessful, as foreign buyers were actually making payments under agency agreements to the Russian company, which formally received payment for transporting other people's goods, but in essence, these payments represented payment for the goods and, therefore, were subject to inclusion in the transaction value for the purpose of calculating the customs value. [20]

Logistics company representatives also note that the term FCA implies that the Chinese supplier must bear the costs of fulfilling export customs formalities, as well as any duties, taxes, and other charges payable upon export. However, in practice, there are cases where the Chinese side ignores this rule, giving rise to further disputes. Therefore, when a supply on FCA terms is proposed, additional clarifications and the consolidation of costs to be borne by the PRC partner in the contract are essential. [21]

Thus, when choosing a delivery method from China, parties must not only select the point at which delivery is considered fulfilled but also resolve all issues related to the distribution of costs during customs procedures. It is critical that the supplier assumes the costs of exporting the goods from the PRC territory, given potential difficulties in working with Chinese customs. It is also important to anticipate the risks of potential disputes with Russian customs authorities, which will fall on the Russian company. The moment of transfer of the risk of loss or damage to the delivered goods also depends on the choice of delivery method. Furthermore, it is important to investigate the counterparty from whom the goods are being purchased, as intermediary schemes can result in a significant price increase and complications in the event of disputes between intermediaries (e.g., between the Chinese manufacturer and the seller supplying the goods to Russia).

Direct Supplies from China to Russia

Direct supplies is a term used in the business world to denote the process in which manufacturers or suppliers of raw materials, goods, and services deliver their products directly to customers, bypassing intermediaries such as wholesalers, distributors, and retailers. [22]

As noted by experts working with Chinese counterparties, there are three types of partners in China with whom Russian entrepreneurs usually collaborate: manufacturers, trading companies, and retailers. They differ in their capabilities and methods of operation.

Factories can produce a unique product specifically for your tasks or offer products they already manufacture in bulk. They usually offer the lowest price — at least 10% cheaper than wholesalers and retailers — if you order one type of product. Work can be monitored directly, and individual quality standards can be set.

Manufacturers only benefit from large and regular orders; therefore, they do not trade in small wholesale lots. Usually, the minimum batch starts at $10,000. Sometimes an owner is willing to produce, say, 500 copies for a trial order if the entrepreneur guarantees a stable purchase volume thereafter.

Retailers usually set higher prices than manufacturers and only ship standard goods. Ordering unique development is not possible, nor is changing the packaging design, text, or logo. The price can be 200 – 300% higher than at manufacturers. At the same time, retailers are not deterred by small batches, such as one or two items. [23]

Some specialists note that the Chinese mentality values respect and favors face-to-face negotiations; this builds more trust, and the supplier will be focused on long-term mutually beneficial cooperation.

For example, the stated quality might be cotton, but in reality, it turns out to be synthetic and even a different color. Therefore, a site visit to the production facility allows for verification of the real quality of the goods. [24]

Direct supplies from China typically involve large orders. Consequently, quality verification of the goods takes center stage when organizing the supply.

Quality Requirements and Verification for Goods and Equipment from China

Pursuant to Article 615 of the PRC Civil Code, the seller must deliver the subject matter in accordance with the quality requirements agreed upon by the parties. If the seller provides quality specifications for the subject matter of the supply, the delivered subject matter must meet the established quality requirements.

The Code also establishes the possibility of manufacturing product samples. Specifically, the parties to a sale prepare a sample and may specify its quality. The subject matter delivered by the seller must be identical to the quality and characteristics of the sample.

If the subject matter delivered by the seller fails to meet the quality requirements, the buyer may require the seller to bear liability for breach of obligations in accordance with the provisions of Articles 582–584 of the PRC Civil Code. These articles establish that if performance does not comply with the agreement, liability for breach of obligations arises in accordance with the contract between the parties. If liability for breach is not provided for or not clearly provided for in the contract, the injured party may, based on the nature of the object and the degree of loss, reasonably require the other party to assume default obligations, such as repair, rework, replacement, return of the object, price or remuneration reduction, and the like. If a party fails to perform its contractual obligation or its performance does not comply with the agreement, it must pay compensation if the other party still suffers losses after performance has been fulfilled or remedial measures have been taken. If a party fails to perform its contractual obligations or its performance does not comply with the agreement, resulting in losses for the other party, the amount of compensation must be equivalent to the losses caused by the breach of contract, including the expected benefits that could have been obtained if the contract had been performed, except that it must not exceed the losses that may be caused by the breach which the breaching party foresaw or should have foreseen at the time of the contract's conclusion.

Despite all the cited legal norms, problems related to the delivery of substandard goods from China to Russia frequently arise in practice. Instances have been identified where the first batch of goods was delivered in compliance with quality requirements, while subsequent batches, including larger ones, were delivered with violations.

Formally, it is possible to protect against non-compliance through a detailed description of the goods planned for delivery. The contract or its technical assignment must specify all nuances regarding the goods, including the materials from which they are made, components, color, etc.

Compliance of Chinese-made products with Russian and EAEU legislation can be confirmed by obtaining certificates for the delivered products. For example, a supplier or seller of goods can directly apply to the authorized body for a safety assessment. The applicant is required to provide a set of documentation including the contract with the foreign manufacturer, its appendices (invoices, accounts, specifications, etc.), information about the manufacturer, foreign quality certificates for the products (if available), etc. It is advisable to produce a product sample and/or append photographic materials to the contract, fixing the appearance of the product intended for receipt. Furthermore, evaluation procedures can be initiated by an entity registered in the EAEU that represents the interests of a foreign manufacturer. [25]

In practice, however, not all manufacturers are willing to undergo the relevant certification. In such cases, it is recommended to specify detailed actions for the parties in the contract upon the detection of a substandard delivery after the shipment of goods, as well as to specify reasonable warranty periods and the procedure for compensation for damages for such a delivery (including the questions of who will bear the cost of returning products and delivering high-quality goods in exchange for substandard ones, and how losses will be compensated). It is also recommended to provide for the Russian buyer's right to unilateral out-of-court termination of the contract if the supplier fails to comply with product quality requirements.

Russian-Chinese logistics and foreign trade experts note that if a large batch of goods is planned for purchase, it is advisable to travel to China and visit the manufacturing factory, preferably accompanied by a Chinese-speaking guide. This allows for not only a thorough check of the selected supplier but also on-site discussion of terms regarding payment, packaging, and delivery. [26]

Currently, intermediary companies provide services for checking product quality before shipment in the PRC. Such services are provided by buyers or directly by the logistics companies responsible for delivering the cargo to Russia. A buyer in China is a professional procurer of goods. They can help find a product, check the manufacturer, negotiate OEM/ODM production, and organize the delivery of goods through a logistics company. One popular service is checking goods in China before shipment (including batches of goods). Most buyers are not Chinese but rather Russian and Kazakh intermediaries. Logistics companies own their own warehouses. A warehouse, which is necessary to consolidate goods from all suppliers into a single shipment, is the ideal place for inspection. This is one of the least costly ways to ensure constant quality control in China. [27]

For large individual orders, it is possible to recommend not only final control but also control over all stages of product manufacturing, as well as the buyer's right to have an expert examination conducted by an expert institution in Russia, with the seller's obligation to accept these results for subsequent reimbursement of the buyer's losses.

It must be noted that despite a serious approach to selecting a supplier and specifying all quality requirements in the contract, there is always a possibility that the supplier, after a claim is filed, will stop responding to messages and cease dialogue with the counterparty. In such cases, the problem must be resolved in court. Accordingly, the contract must include an appropriate arbitration clause regarding the court in which disputes will be resolved.

For instance, the ICAC decided to recover from a company located in the People's Republic of China, in favor of a Russian company, the following funds: the cost of substandard goods; reimbursement of losses for the delivery of substandard goods; and reimbursement of the plaintiff's costs for paying the arbitration fee. The decision was based on the fact that the buyer conducted sampling of the delivered batches of goods, which were subsequently submitted for expert examination. The expert examination showed a discrepancy between the composition of the actually delivered goods and the chemical formulas of the goods the seller was supposed to supply. [28]

Thus, to verify the quality of goods, it is recommended to:

• For large deliveries, conduct an inspection of the production at the supplier's location and verify the supplier's good faith;
• Provide the supplier with a detailed technical assignment with the necessary drawings and photographic materials attached;
• Specify the warranty period in the contract;
• Consider engaging an intermediary to check the goods before shipment;
• Agree with the counterparty on the possibility of engaging an independent expert;
• Provide for the supplier to bear the costs of replacing substandard goods;
• Provide for an arbitration clause and define the applicable law.

This article has covered only the main points related to the supply of goods from China. More detailed questions regarding the verification of Chinese counterparties and the resolution of disputes with PRC suppliers will be the subjects of separate articles.

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References

1. December 7, 2023, 07:50 / Economics. Vedomosti portal.
2. Law of the People's Republic of China on Contracts. Adopted on March 15, 1999, at the second session of the ninth National People's Congress of the PRC.
3. Comparative Analysis of the Civil Legislation of the People's Republic of China and Russia. Ivneeva E.V., Kavshbaya L.L. // Journal of Legal Research. Volume 6. No. 2. 2021.
4. Documents Signed Following Russian-Chinese Negotiations. September 3, 2015. Website of the President of Russia.
5. Law of the People's Republic of China on the Application of Law to Foreign-Related Civil Relations. Adopted on October 28, 2010, at the 17th meeting of the Standing Committee of the 11th National People's Congress.
6. Clarification of the Supreme People's Court of the PRC No. 2 dated December 1, 2023, to the Law of the People's Republic of China on the Application of Law to Foreign-Related Civil Relations.
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18. Decision of the Sole Arbitrator of the ICAC at the RF CCI dated December 24, 2020, in Case No. M-2/2020.
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28. Decision of the ICAC at the RF CCI dated May 12, 2017, in Case No. 93/2016.