Originally published in Reed Smith's Export, Customs and Trade Sentinel Newsletter, Winter 2008

The list of Chinese imports recalled include pet food, seafood, candy, toy boats, toothpaste, electrical heaters, dolls, musical instruments, wooden train sets, jewelry, holiday figurines, bathrobes, jumper cables, car tires, and even children's "potty seats." It is as though "if you can name a product from China, it has been recalled." Because China is an important source of imports into the United States, U.S. and Chinese authorities have worked to rectify the problem. But the responsibility does not end with the regulators or only with those importing products from China. It is incumbent on all importers of products into the United States from any country to ensure the safety of those products. This article summarizes some recent governmental import safety initiatives and outlines issues importers should address to keep out of the recall limelight.

Public Sector Reaction

In the wake of this past spring's pet food recall, U.S. and Chinese representatives began investigating means of providing for greater overall safety on imports of products into the United States from China. In July, the President issued an Executive Order creating an Interagency Working Group on Import Safety. This Working Group, which is comprised of senior representatives of the Departments of Heath and Human Services, State, Treasury, Justice, Commerce, Transportation, Homeland Security, Agriculture and others, was tasked with more effectively utilizing public sector assets and with more directly engaging the private sector in order to improve general import safety.

In November, the Working Group issued its Action Plan for Import Safety. This report called for better coordination among federal executive agencies, more focused vision for import safety, a greater level of enforcement activity, more effective use of technological tools, and the development of risk-based models that can be employed at the various stages of a product's life cycle. The report detailed specific actions undertaken in 2007, including new Food and Drug Administration ("FDA") food safety initiatives, new seafood certification programs through the National Oceanic and Atmospheric Administration ("NOAA"), and greater cooperation with foreign governmental counterparts on the part of the Consumer Product Safety Commission ("CPSC"), the U.S. Department of Agriculture ("USDA"), and the FDA.

In a related initiative, the Department of Health and Human Services ("HHS") entered into two key memoranda of understanding with the Chinese government on import safety on December 11 and 12, 2007. The first agreement is between HHS and the Chinese State Food and Drug Administration ("Chinese SFDA"), and it relates to the safety of drugs and medical devices. This agreement sets forth a program whereby a designated inventory of drugs and medical devices can be identified for further cooperation. From this product listing, the United States and China agreed that only those Chinese companies registered with and inspected by the Chinese SFDA will be permitted to export to the U.S. market. HHS and the Chinese SFDA further agreed to devise "chain of custody" systems, anti-counterfeiting mechanisms, mutual reporting protocols, compatible standards, streamlined inspection procedures, and other means of cooperation. HHS entered into a similar agreement with the Chinese General Administration of Quality Supervision, Inspection, and Quarantine related to the safe importation of food and feed into the United States.

Private Sector Responsibility

While there has certainly been admirable administration activity on import safety, the ultimate responsibility for product safety in general rests on private sector importers, distributors, and retailers. Nonetheless, the private sector can look to the above-noted government initiatives for guidance and at the same time employ standard corporate best practices in order to safely contract with Chinese suppliers and manufacturers. Specifically, importers should conduct an appropriate level of due diligence, negotiate contractual terms that highlight the importance of product safety and that protect the company, implement import compliance procedures, enhance safety through independent testing, and devise a recall strategy in the event of the importation of products later determined to be unsafe. These issues are discussed in turn.

Due Diligence – Proper due diligence must be undertaken with respect to the Chinese supplier or manufacturer. Do not be afraid to begin with the basics. What is the manufacturer's name, address, telephone number, fax number, and e-mail address? How is the manufacturer incorporated, organized, and registered to do business? How is the manufacturer owned? Is it government owned or owned by government officials? Who owns the manufacturer's parents, if any? What is the citizenship of any individual owners? What is the manufacturer's profile? Does it have the expertise and capacity to undertake the work required? Will it undertake the work directly or subcontract out portions and, if so, to whom? Where does the manufacturer bank? How do their financial statements and annual reports look? Has the manufacturer been involved with any criminal charges, convictions, bankruptcies, or cases of civil litigation in which the company has been a defendant?

What is the manufacturer's record of and reputation for product safety, plant safety, workers' rights, and environmental protection? What can be discovered through business references, personal references, and financial references? Who are these references and are they credible? How and from whom did your company learn about the manufacturer? Who arranged the introduction? What information can you obtain from public sources, the local chamber of commerce, the diplomatic corps, from a media search of local and international press accounts, or from lawyers and consultants who are knowledgeable about Chinse manufacturers? What do local and international official records searches show? Is the company on any U.S. "denied parties" listing?

Only upon satisfaction of baseline and tailored due diligence should a company move forward with any contractual relationship with a Chinese supplier or manufacturer.

Contracting – While general contractual provisions are called for in any supplier contract, importers may take steps to protect themselves from liability by building certain clauses into their contracts with exporters and customs brokers. As a threshold matter, importers should include clear specifications and safety or quality standards that are to be met by the supplier. Moreover, the supplier should warrant and certify that it understands and will comply with the applicable specifications or standards. Likewise, as noted in greater detail below, contracts should include testing procedures and an agreement as to how testing will be accomplished. Necessarily, the contract should include terms about the rejection of non-conforming goods and resulting remedies.

The contact should provide the purchaser with visibility into the supplier's own supply chain. Specifically, contract terms may be a helpful vehicle to allow the importer to gather reliable information regarding conditions that may affect safety. Importers may insist that the supplier certify facts or make warranties regarding the source of raw materials, manufacturing techniques, or the chain of custody of particular products such that the manufacturer assumes liability in the event that any of this information is false and the products cause harm.

If the transaction relies upon the utilization of supplied intellectual property or know-how, then the contract should account for and protect those assets. Special attention should be paid as the importance and propriety of the intellectual property increases.

By way of logistics, if the transaction relies upon the proper completion of U.S. Customs paperwork, or export paperwork required by the country of origin, then the contract should specify the supplier's duty to complete the paperwork and assign liability for any failure. Specifically, the contract may require the inclusion of information required by Customs on invoices, such as the date of sale, the identity of the seller, HTS classification and valuation of the items, and the port of entry. Similarly, the contract should require the provision of country-oforigin markings as required.

The contract may also contemplate "non-business" issues that can have an effect on the overall value of the transaction. For example, child or prisoner labor issues might be verified along with the conditions of general workers' rights. Likewise, environmental degradation possibilities should be investigated and addressed in contracts. Finally, the contract may rightly address local anti-corruption compliance along with these other "social" concerns.

By way of dispute resolution, an importer should be sure that the Chinese supplier has indemnified it for any harm that may be caused by the products being supplied. This warranty may require the supplier to submit to jurisdiction in the United States for disputes arising under the contract, particularly if the supplier has U.S.- based fixed assets. Even if the foreign supplier insists on some form of international arbitration for importersupplier disputes, it is essential that the importer ensure that the supplier is "on the hook" to indemnify the importer from third parties' claims, and agree to submit to jurisdiction in the United States for the purpose of enforcing indemnity actions despite the operation of an alternative dispute resolution provision. It may be the case that due diligence will provide avenues for enforcement in other jurisdictions; however, having some means of hauling the supplier before some proper tribunal is necessary. If the supplier has no fixed assets anywhere other than China, international arbitration is probably preferable to attempting to collect a foreign judgment in China itself.

The above listing is by no means a complete checklist of all contractual issues to be addressed in a contract with a Chinese supplier. However, these and other contractual considerations can increase the likelihood of importing a safer product from China.

Import Compliance Considerations – While having products delivered duty paid ("Incoterms DDP") or otherwise not serving as the importer may be one means of limiting exposure from import regulations, in general, it would be advisable to have an import compliance program. Such a program should cover overall importation requirements such as shipping, entry, inspection, and related business aspects. Likewise, an import program should include classification (what is the unique Harmonized Tariff Schedule number the product falls under?), appraisal (how much in import duties must be paid based on the tariff rate and value of the imported product?), and country of origin (where does it come from and does it need to be marked "Made in China"?). Along the same lines, an import program should address whether additional duties in the form of anti-dumping or countervailing duties apply, or whether the products can be entered duty free under some form of a preferential trade program. Furthermore, an import compliance program should address all Customs recordkeeping requirements (essentially five years for key documents supporting the entry process). Finally, the compliance program should address what to do in the case of an audit or enforcement action involving customs issues.

Alongside these concerns, a number of other issues are worth examining. As noted above, Customs duties are based on the classification of the product, the applicable duty rate, and the value of the imported merchandise. Therefore, importers can possibly add to their bottom line at the margin by identifying savings in these areas. For example, importers may select a classification number with a lower tariff duty rate. Or, where appropriate, an intermediary price rather than a retail price can be the proper value for duty rate calculation.

Likewise, specialized customs programs, such as the use of free trade zone ("FTZ") programs and the collection of duty drawbacks, can further help increase profits (or minimize losses). For example, products can be imported into an FTZ, further advanced in value and subsequently imported into the United States at a savings of duties. For a drawback, companies are entitled to receive back customs duties paid on products entered into the United States upon proof of the re-export of those products outside of the United States. Through these kinds of programs, importers can find additional value in their supply chains.

Finally, there are specialized Customs programs that can assist importers in their ability to bring products into the country. The now familiar (and improved) Customs-Trade Partnership Against Terrorism ("C-TPAT") is a program that allows participating companies certain import benefits upon demonstration to U.S. Customs authorities of certain supply chain security measures. With C-TPAT comes the ability to participate in the Importer Self-Assessment ("ISA") program, which may further speed clearance times and may reduce the chances of a Customs audit. The last point in this section pertains to the Container Security Initiative ("CSI"). Through the CSI, national Customs officials work together to ensure product safety, port security, and efficient international trade. As of 2002, China signed on to the CSI program and currently the ports of Shanghai and Shenzhen are CSI approved ports, so cargo departing from these ports may get to sea or through U.S. Customs faster than cargo departing from other Chinese ports.

Product Testing and Systems Evaluation – As noted above, product safety and product testing must be an integral part of any supplier or manufacturing contract. While testing each and every imported product may be an appropriate ideal, in practice some sort of sampling or process testing will likely be more appropriate. Nonetheless, depending on the product and risk quotient, the standards and means of testing to those standards must be effective and workable.

This product testing procedure should set forth who will conduct the testing, whether opposite party verification will be available, what party or nonparty entity will conduct the testing, and which party will be responsible for payment of testing costs. Likewise, the parties should consider which testing proxies will be acceptable to the purchasing party—perhaps Underwriters Laboratories will be acceptable for approval of product specifications or design, while a separate independent testing laboratory would be acceptable for product-byproduct approval. More importantly, parties will need to understand which regulatory industry standards apply, how those standards will be monitored, and how those standards will be extended and enforced through the supplier-sub-prime supplier supply chain—think lead paint on children's toys. Moreover, importers should consider utilizing "pre-approved" testing facilities such as those identified by NOAA and the CPSC as identified above. It may be the case that failure to utilize these pre-approved testing facilities for appropriate products could be utilized in and of themselves as an indicia of improper conduct should an "unsafe" product event occur. Importers should also consider separate independent testing to be utilized should a level of doubt be raised as to the safety of a particular product or line of products.

In addition to product testing, mechanisms should be put in place, through contract, that allow for the evaluation of the quality control processes extant at the supplier's operations. This is needed in order to identify potential deficiencies in production, quality control, inspection, and quality assurance/ tracking.

Recall Strategies – The due diligence is completed, the contracts are inked, compliance plans are in place, testing protocols are in force, and yet unsafe products enter into the country. Thus, even though steps can be taken to minimize the likelihood of unsafe products entering the marketplace, prudent importers should have a plan in place to minimize the impact of shortcomings in their import safety measures. That plan should include a recall strategy that addresses the products at issue and the relevant governmental agencies, such as the CPSC, USDA, the NHTSA, or the FDA. Likewise, the plan should "Chinese Imports: Safety First" – cont'd from page 9 include a tailored approach to address the particular safety risks at issue. For example, the FDA has several levels of recalls that should be addressed— Class I for the recall of products that could cause serious health problems or death, Class II for recall of product that may cause a temporary health problem, and Class III for those recalls involving minor labeling violations. Devising tailored recall plans would require an understanding not only of the company's supply chain but also of its distribution chain, and might rightly even include discussions with cognizant governmental recall officials prior to any recall event occurring.

Conclusion

When it comes to importing products from China, safety has to be among the top concerns. While governmental authorities are taking greater steps to ensure only those products that are safe for consumption and utilization are allowed into the U.S. marketplace, the ultimate responsibility for the importation and distribution lies with the private sector. Products liability claims and other damages actions are going to be filed not against the FDA, the USDA, or the CPSC, but rather against individual companies. Thus, the heightened governmental action in the area of import safety from China should serve to put importers on notice of the need for more stringent safety initiatives. As a result, due diligence, contracting, compliance, testing, and recall planning all need to be adjusted in this enhanced import safety environment. A systematic approach to safety can result in the importation of safe products.

This article is presented for informational purposes only and is not intended to constitute legal advice.