Coming Direct to You

Direct selling regulations spell good news for consumers and companies alike


By WANG JUN

It’s official. The once much disputed direct selling business is soon to receive legal status in China and strict measures will be introduced to ensure the notorious fraud laden activities of pyramid schemes do not reappear.

The regulations on direct selling are expected to be in place in China within this year, Deng Zhan, Deputy Director of Foreign Investment Administration of the Ministry of Commerce (MOFCOM), told a U.S.-China Business Dialogue conference on February 9. The conference was arranged by the China Council for the Promotion of International Trade (CCPIT).

“The illegal pyramid selling schemes will face a severe crackdown, while legitimate direct selling companies from home and abroad will receive encouragement and support from the government,” Deng said. “To fulfill its commitment to the World Trade Organization (WTO) and promote the growth of regulated direct selling, China will speed up the legislation process while continuing its effort in fighting the various disguised forms of illegal pyramid selling.”

Banned in China

Direct selling has a dark history in China. Due to the nature of the business and the immaturity of the Chinese market and its consumers at the time, the early days of this industry were taken advantage of by fraudsters, resulting in the notorious illegal pyramid selling schemes.

According to the World Federation of Direct Selling Associations (WFDSA), direct selling involves the marketing of products and services directly to consumers in a face-to-face manner, away from permanent retail locations. The business of direct selling developed quickly worldwide and today is valued at $85.58 billion and involves more than 47 million sales people.

In the late 1980s, a Japanese company called Japan Life began to sell mattresses by means of direct selling in Shenzhen, a precursor of China’s reform and opening up to the outside world. Although the company did not obtain a permit for direct selling, the administration for industry and commerce in Shenzhen tolerated the business because they had little experience in terms of how to manage the situation. The company then developed at such a speed that it surprised everyone. Keen to get a slice of this lucrative pie, many “underground” companies using the direct selling method emerged in China.

On November 14, 1990, Avon Products (China) Co. Ltd., the first company registered to operate by way of direct selling, was established in Guangzhou, south China’s Guangdong Province. From that time on, the direct selling industry has always been in the spotlight. In 1993,1995 and 1996, illegal pyramid selling companies, masquerading as direct sellers, swindled the public blind, giving rise to fraud, consumer losses and social disorder. After several ineffective attempts to rectify the situation, government officials finally decided to prohibit all direct selling activities outright, saying that it was difficult to differentiate pyramid selling from direct selling.

In 1998, the State Council issued several circulars on banning pyramid selling and transforming the sales method of foreign-funded direct selling companies, followed in April 2002 by the State Administration for Industry and Commerce (SAIC), the Ministry of Foreign Trade and Economic Cooperation and the State Economic and Trade Commission, which issued provisions to confirm the transformation of sales mode of foreign-funded direct selling companies. The direct selling industry was experiencing a cold winter in China.

Foreign Funds First

According to the Schedule of Specific Commitments on Services made by the Chinese Government before accession to the WTO, China should lift the limitations on market access and national treatment for wholesale and retail trade services away from a fixed location, within three years after its accession to the WTO. The time limit expires this year.

FACE TO FACE: Direct selling companies will need to open fixed sales locations under the new regulations

Foreign-funded companies will be given first bite of the market this time round. “When foreign direct selling companies get enough experience, they can serve as models for domestic companies,” said Deng Zhan.

Since 1998, which saw the all-out prohibition of pyramid selling in China, global direct sales companies have been ordered to change their business mode in China and sell goods through retail outlets. Household names such as Amway, Avon and Mary Kay were all included in the list. According to government requirements, these companies can only hire salespersons where they have opened retail outlets and the salespersons can only sell products where retail outlets are located.

The transformation has been successful. At present, Amway owns 120 stores on the Chinese mainland with over 90,000 salespersons. This year, the number of stores is expected to climb to 180. Amway’s sales revenue amounted to 10 billion yuan ($1.21 billion) in 2003, with an annual growth rate of 66 percent. Avon Products (China) now has 5,500 stores and 1,000 counters in 74 large and medium cities and generated sales revenue of 2.4 billion yuan ($290 million) in the country in 2003, with a year-on-year increase of 30 percent. Mary Kay opened over 600 stores and their sales revenue in 2003 amounted to 1 billion yuan ($121 million), up 40 percent year on year. Nu Skin, who entered China in 1998, has opened 115 stores in the country and generated over 315 million yuan ($38 million) in sales revenue in 2003, aiming at doubling the figure in 2004.

Although these companies grew quickly in China, they still want to bring in their original sales practices. Officials from large international companies have been paying visits to China and lobbying on the industry’s behalf and the start of legislation on direct selling has opened a new door to them.

According to Deng Zhan, the main points of the regulations include procedures and standards for examining and approving foreign-funded direct selling companies, employment of salespersons, qualities of salespersons, dos and don’ts of direct selling companies, business inspections and so on. Deng also said that some international practices would be incorporated into the regulations, such as guarantee funds, return of products and exit mechanisms.

Under the regulations, which will be drafted jointly by the MOFCOM and SAIC, direct selling is to be strictly distinguished from the notorious pyramid selling schemes. The government will insist in the draft that direct selling companies open fixed locations, because they remain worried about the consequences if the ban is lifted.

In order to prevent the waters from being muddied, the regulations would probably include four “thresholds” to reject illegal pyramid selling companies: Operating overseas with the mode of direct selling; having established factories in China; selling only the products of the companies; and having registered capital of at least 10 million yuan ($1.21 million).

Direct Giants Happy

Global direct selling companies have welcomed the move and expect it to smooth the way for the industry during China’s opening-up process.

“To all the companies using the mode of direct selling, making a law on direct selling is a good news and this is what Amway is expecting. It can help consumers understand how to distinguish direct selling from illegal pyramid selling and at the same time, provide opportunities to legal direct selling companies for healthy development,” President of Amway (China) Audie Wong told Beijing Review.

“After legislation on direct selling is finished, qualified companies will have opportunities to share the large Chinese market, and of course they must also contribute to the healthy and orderly development of the market by acting responsibly,” said Wong.

The mode of “stores plus salespersons” is an option suggested by the government, which Amway agrees is the most important content of its transformation in China and it serves as one of the factors promoting the rapid development of Amway (China). Stores are the image of the company and facing consumers directly helps improve the company’s prestige as well as confidence from both the government and consumers. Direct selling from salespersons to consumers also ensures quality of products as almost no fake products would be sold.

When legislation on direct selling is finished, the company will adapt its strategies to the legal requirements. “Success of Amway (China) proves that well-regulated direct selling enterprises will have a vast world where much can be accomplished,” Wong said.

Leslie R Roberts, Director of International Government Relations from Mary Kay Inc., said the company can accept the requirements if the government does not ask for a large number of fixed locations. “We can understand the concerns of the Chinese Government and we will have strong self-regulation to protect consumers,” she said.

With a history of only 20 years, Nu Skin came to China in 1998, the year direct selling was prohibited by the Chinese Government. They changed their business model for China, choosing to develop a retail model with stores and employed sales employees. The sales employees are not paid traditional direct selling commissions, but are paid a basic salary, commissions for their personal selling efforts and full labor benefits.

“We do believe that it would be possible to easily convert some of our retail stores to become fixed locations for direct selling distributors. However, no plans have been made to do this as of yet, because our current model is working so well. Again, we will monitor the situation closely and adapt where it makes sense to do so,” Corey Lindley, Executive Vice President of Nu Skin Enterprises and President of Great China, told Beijing Review.

Direct selling is here to stay, if in a more regulated form. That news is good for consumers and distributors who will both feel more confident about this industry’s future in China.