Member Article

The State Council promulgated the Regulations for the Administration of Direct Sales (the “Direct Sales Regulations”) and the Regulations for the Prohibition of Pyramid Sales (the “Pyramid Regulations”) on 23 August 2005. The Direct Sales Regulations, which entered into effect on 1 December 2005, allow the reintroduction into China of the direct sales business model that was banned in 1998. The Pyramid Regulations, which entered into effect on 1 November 2005, maintain a ban on certain types of direct marketing activities. Direct sales The Direct Sales Regulations define direct sales as a marketing model, pursuant to which enterprises use direct sales staff to market products directly to the end users away from fixed business premises. The Pyramid regulations still ban operational models pursuant to which an operator organises staff and rewards such staff on the basis of their directly or indirectly recruiting secondary staff or second staff sales results and such sales staff have to pay a certain fee to be able to join. Pyramid sales remain banned in China as they are deemed to be disruptive to the social order. Requirements The Direct Sales Regulations impose the following requirements on market entry for direct sales enterprises: • the investor must enjoy a good business reputation and have no record of a serious case of illegal operations in the five consecutive years preceding the application for establishing a direct sales enterprise; if the investor is foreign, it shall have at least three years of experience with direct sales activities in China; • the enterprise’s registered capital may not be less than RMB 80 million; • the applicant must pay a deposit of RMB 20 million into a designated bank; and • an information reporting and disclosure system needs to be established. Application process Applicants are required to apply for the establishment of a direct sales enterprise through the provincial-level departments in charge of commerce to the Ministry of Commerce (“MOFCOM”). The provincial-level departments have seven days to forward the application materials to MOFCOM. MOFCOM shall consult with the State Administration for Industry and Commerce (“SAIC”) and decide whether or not to approve the application within 90 days of receiving a complete set of application documents. Deposit A direct sales enterprise must provide a deposit of RMB 20 million at establishment and, after commencing operations, maintain a deposit equivalent to 15%of its sales in the previous month up to a maximum of RMB 100 million. The Direct Sales Regulations prescribe the circumstances in which the deposit may be applied upon a joint decision by MOFCOM and the SAIC. These include the situation where the direct sales enterprise fails to pay remuneration to its direct sales staff, fairly to pay consumers refunds for returned goods without reason or as a result of the suspension of its operations, merger, dissolution or bankruptcy refuses to compensate consumers for losses which they have incurred due to problems with the directly sold products. Direct sales staff Only direct sales enterprises and their branch organisations may recruit direct sales staff. The direct sales enterprises and their branch organisations must enter into a direct sales contract with their direct sales staff and ensure that they only engage in direct sales activities in areas where they have established a service network. The Direct Sales Regulations ban the recruitment of certain types of persons as direct sales staff, including minors, foreigners, teachers, medical personnel, civil servants, and active service members of the armed forces. Direct sales enterprises are required to train their direct sales staff but foreigners are barred from providing such training. Only direct sales staff that have attended the training and passed an examination may be issued with a direct sales staff certificate. This certificate and the direct sales contract need to be shown to potential customers when engaging in direct sales activities. Sales operations The Direct Sales Regulations impose strict rules on the conduct of sales operations by direct sales staff. These include rules on entering and leaving the residence of customers, the disclosure of the goods return policy, and pricing.