Originally published May 1996
Ames Gross and Laura Mancini
Setting up a good distribution network is fundamental to the success of U.S. medical manufacturers exporting to the Asian market; distributors generally provide a host of services including warehousing, shipping, marketing, sales, and service support for the products being sold. The manufacturers must take into account not only their goals and expectations but also cultural differences, the integrity of the distributor, and the legal specifications of the contract itself. What works in the United States and Europe does not suffice in the Far East.
Besides doing primary market research, medical manufacturers should determine how competitors distribute their products to doctors, clinics, OEMs, and hospitals. Do competing manufacturers export their products and use local distributors, or do they have local manufacturing capabilities and their own sales forces? Once a manufacturer determines that exporting is viable and has established a clear idea of the services needed to support its product, then it can select a distributor accordingly.
LOCATING DISTRIBUTORS IN ASIA
U.S. medical manufacturers should be particularly careful in how they approach looking for a distributor in Asia. Since Asians put their trust in personal relationships, an Asian distributor who does not have some type of personal connection with the manufacturer may misrepresent himself, copy the manufacturer's technology, or cheat the manufacturer; in this situation his reputation is not on the line as it would be with a personal connection.
For this reason, meeting distributors for the first time at a trade show and immediately entering into a contractual relationship is not a good decision. Relationships in Asia take time to develop, and getting introductions from friends, colleagues, or classmates is the key. For example, if an Asian distributor has attended the same graduate school as an executive at the U.S. manufacturer, a link to forming a relationship is already established.
Manufacturers should seek out distributors that sell products in related medical areas, and ones with which the manufacturer already has some sort of relationship. One way to accomplish this is for the U.S. manufacturer to find out with which distributors the local hospitals in the Asian country conduct business successfully; another way is to hire a consultant with experience in the region. Manufacturers can also take advantage of the U.S. embassies' Gold Key Service, which arranges introductions between U.S. manufacturers and local distributors.
CHECKING A DISTRIBUTOR'S BACKGROUND
Once a manufacturer has located potential distributors, background checks of their reputations are a must. In Asia, there is no Dun & Bradstreet report to evaluate and rate local distribution companies. Instead, manufacturers can contact other medical manufacturers that employ the prospective distributor or well-connected local sources.
It is essential to determine the amount of time and effort the distributor will be willing to spend with one's products. If the distributor seems appropriate but carries many product lines, will it be able to spend the time to represent the manufacturer's products successfully? Also, beware of the distributor carrying competing products without informing the manufacturer. The amount of time it takes to thoroughly check out a distributor initially is well spent; if done well, the background check should head off the cost and hassle of undoing a failed relationship later.
NEGOTIATING A DISTRIBUTION AGREEMENT
After a distributor is selected, negotiations to draw up a distribution agreement can begin. U.S. companies tend to use the same corporate format for all of their distributors worldwide. This contract will need to be adapted to account for the differences in each country's culture and legal system.
While Westerners may emphasize ironing out legal details and lengthy contracts, Asians conduct business among friends, and they are expected to aid one another during a crisis. Hence, as unforeseen circumstances arise, a U.S. medical manufacturer might find itself discussing points of contention, such as sales targets and product service clauses, after the contract is signed.
Manufacturers should recognize the benefits of working toward a mutually beneficial long-term relationship and not fire a distributor too quickly. U.S. manufacturers who decide to end partnerships with distributors may find that they have acquired a tarnished reputation in that particular Asian country. Unlike in the United States or Europe, once a reputation is sullied, other potential distributors in that Asian country may hesitate to carry the manufacturer's products. Therefore, it is wise to look at the distribution agreement as a fluid partnership. When difficulties arise, personal solutions are more acceptable than legal ones. Face-to-face visits are usually well received; faxes, with the high degree of miscommunication possible, are frequently considered impersonal.
During negotiations with Southeast Asians, it is wise to remember the following cultural notes:
* The head is regarded as the most sacred part of the body. Avoid touching anyone on the head.
* The feet are considered to be the dirtiest and lowest part of the body and should not be directed at anyone. Be careful when crossing your legs. Do not move or touch things with your feet.
* Try not to turn your back on a group of people when leaving a room until you are almost out of the door.
* Pointing fingers at others is very threatening. It is best to motion to others with one's palm downward, as if waving good-bye.
* Bringing small gifts to a business associate helps to initiate friendship. Do not spend too much on the gift, as the recipient may feel obliged to reciprocate.
* In Muslim countries such as Malaysia, absolutely avoid any references to pork and pigs, which are considered unclean.
ASIAN LEGAL SYSTEMS
The legal system in some Asian countries is based on different principles than that of the United States. There are fewer lawyers in all of Japan (total population: 125 million) than in Washington, DC (total population: 500,000), and even fewer in Southeast Asia.
In China, judges may rule of their own accord, without regard for precedent. In Japan, most conflicts between manufacturers and distributors are settled by negotiation. Lengthy, costly, and complicated, legal proceedings are only considered as a very last resort. Trust is key in Asia; recourse to legal action is often already considered a failure of relations.
The seeming arbitrariness of the law in some Asian countries makes it important to consult appropriate local legal counsel in each country when drawing up a distribution agreement. However, bringing a lawyer to the negotiating table is considered a major error, signaling a lack of trust in the other party; this may be so insulting that it will end negotiations. It is quite all right, however, to state that one wishes to have the proposed agreement considered by legal counsel after the meeting.
Contracts are generally not upheld word for word by Asian legal systems. According to Paul Malloy, manager of worldwide distribution operations at Datascope Corp. (Montvale, NJ), some companies base contracts on the European ISO 9000 standards in Asia, adapting the contracts to local conditions. The European standard is very detailed regarding product support, servicing, quality control, and monitoring. Asian contracts are much less specific; they are used to set the tone for the partnership as well as establish high standards for the distributor. In Thailand, a U.S. contract is open to very wide interpretation; often the Thai legal system will not enforce contract provisions as strictly as they would be enforced by the U.S. system.
EXCLUSIVE VERSUS NONEXCLUSIVE DISTRIBUTION
Often, the decision of exclusivity is a function of the manufacturer's goals and the size of the territory a distributor is going to cover. With a nonexclusive agreement, the manufacturer has the option to employ additional distributors in that country at a later date. This strategy could promote healthy competition between distributors selling the same product; however, it could promote distrust of the manufacturer's sincerity in the partnership. An exclusive distributor may put more effort into selling a product when he knows that he is the only one selling it and that the U.S. manufacturer is relying on his efforts.
In large countries such as China, however, employing more than one distributor may be necessary to cover different territories. Since China has roughly the same amount of land as the United States with five times the population, it is unlikely that a distributor selling catheters to hospitals in North China would face any competition from a counterpart selling the same products in South China.
A sales quota specifies the distributor's responsibility to purchase a minimum amount of the medical product per year. This type of arrangement helps ensure than an exclusive distributor will meet a manufacturer's sales targets. Again, in Asia, a U.S. manufacturer should not be too hasty about terminating a relationship with a distributor who does not exactly meet a sales target. Continuing the partnership signals trust in the distributor, who may make an effort to make up the missed sales the next year. A U.S. medical manufacturer should not cancel a distribution agreement as long as the distributor is working in the manufacturer's interest.
OTHER PROVISIONS OF DISTRIBUTION AGREEMENTS
Other essential sections of distributor agreements include provisions for the sale of the product from the manufacturer to the distributor, product liability clauses, the length of the contract's validity, and termination clauses (see sidebar). Distribution agreements are generally contracted for longer than one year because Asians believe that business takes time to develop; a 12-month period is not considered long-term.
In Japan, U.S. medical manufacturers should include a clause in the distribution contract relating to control of the shonin file, which contains product registration approval information, according to Sam Nalbone, vice president of Orthovita (Philadelphia). This file is normally controlled by the Japanese distributor, since the distributor commonly registers the product for the U.S. manufacturer. If the U.S. medical manufacturer takes its products away from the Japanese distributor without having a copy of the shonin file in Japanese, the product cannot be sold by another distributor. This could result in additional clinical testing to secure another product registration. At the very least, the U.S. medical manufacturer will have to conduct extensive negotiations with the distributor to gain control of the shonin file. Therefore, it is best to clearly stipulate in the distribution contract that the U.S. medical manufacturer claims control of the shonin file for its products.
The manufacturer should have the aid of local legal counsel in writing these terms. A U.S. corporate lawyer can be an aid in adapting the company's format contract to local specifications, but Asian distributors may not be familiar with the detailed and lengthy legal documents that are typical in the United States. Excessive legal terminology is meaningless in these situations and shows a lack of understanding of Asian business practices.
OTHER RESPONSIBILITIES OF THE DISTRIBUTOR
Obligations of the distributor should be clearly stated in the contract. Depending on the manufacturer's specifications, a distributor may also be responsible for advertising, participating in trade shows, and general product support. The manufacturer should keep a clear communication channel open with its Asian distributor not only to facilitate the distributor's marketing strategy but because distributors are a good source of feedback. Their comments can aid manufacturers in adapting to local conditions and modifying products as needed.
If the distributor is having difficulties with product support or demonstration, the manufacturer is expected to offer assistance. A yearly sales, service, and update meeting is a good way to promote good relations with the Asian distributors by showing the best ways to explain and demonstrate products and distributing promotional materials. Visual aids, such as videos, posters, and T-shirts in the local language are popular with Asian distributors. Incentive vacation trips and bonuses for those who reach the manufacturer's sales targets are good ways to reward successful Asian distributors.
U.S. manufacturers should deal with Asians on the basis of trust and friendship. Good personal relations are the key to a smooth partnership with an Asian distributor. As various Asian medical markets fluctuate with changing new insurance schemes, reimbursement rates, and registration regulations, a good relationship with one's distributor is necessary to avoid pitfalls and take advantage of opportunities as they arise. U.S. medical manufacturers who acknowledge cultural differences from the start ensure a mutually beneficial long-term relationship with their Asian distributors.
Ames Gross is president and Laura Mancini is an associate at Pacific Bridge, Inc. (Washington, DC). *
KEY QUESTIONS TO ASK A POTENTIAL DISTRIBUTOR
1. Who does the distributor currently represent? Does the distributor handle products complementary to your prod-uct line? If so, how are these handled? Check out the distributor's references and any manufacturers selling complementary products through the distributor.
2. What warehousing, service, and product support capabilities does the distributor have?
3. Has the distributor's business been growing? Check out a recent profit- and-loss statement.
4. What is the distributor's advertising and marketing strategy? How much support does he expect from you as a manufacturer?
5. Does the distributor expect an exclusive contract and how much of your product is he prepared to handle? Is this consistent with your sales forecasts and preliminary market research?
KEY SECTIONS OF DISTRIBUTION AGREEMENTS
* Functions of the distributor. This section includes the title of the agreement and defines the distributor's functions.
* Commencement and termination dates of contract. The agreement may be valid for only a specific time period or indefinitely.
* Territory. It is necessary to define the territory in which the distributor will operate.
* Purchase of goods by the distributor and product liability. This section governs the sale of goods by the manufacturer to the distributor and regulates how the costs of liability will be borne by the manufacturer and distributor.
* Obligations of the distributor. This important section covers several topics such as sales promotion, product support, purchase of a minimum quantity of goods, informing the manufacturer of market trends, fixing the price of the products, agreement not to sell competing products, use of the manufacturer's logo, protection of trade secrets, and so forth.
* Obligations of the manufacturer. This section covers several topics such as supplying the distributor with promotional products, technical service, open communication between the manufacturer and the distributor, delivery of goods, whether the distributor is exclusive or not, whether the territory is protected or not, whether the distributor will receive commission, etc.
* Termination clause. This section describes the conditions regulating termination of the agreement and any compensation that will be paid upon termination.
* Legal jurisdiction of the agreement. The agreement should list which laws will govern it. This clause, depending on the regulations of the distributor's country, may not always preclude the applicability of local laws to the contract.
Source: International Chamber of Commerce