Ending a China Distribution Agreement: Inventory, Unpaid Invoices and Compensation

1. Check what relationship you are actually ending

This article addresses ordinary buy-resell distribution involving an overseas brand or seller and a Chinese distributor, where PRC law governs the issue. The distributor purchases goods and resells in its own name. Being based in the United States, United Kingdom, Australia, Canada, Singapore or elsewhere does not itself determine the governing law. Article 41 of China’s Law on the Application of Laws to Foreign-Related Civil Relations governs contractual choice of law and the connecting rules without a choice; Article 4 preserves directly applicable Chinese mandatory provisions.

Identify four facts: the actual contracting entities and commercial model; fixed or indefinite duration; the proposed contractual or statutory exit ground; and the position of each order and stock batch. Article 15 of the SPC’s Contract Book General Provisions Interpretation looks to substance rather than the contract’s label. Calling a reseller an “agent” does not by itself make Civil Code Article 933’s mandate-contract termination rules applicable.

Franchises, regulated sectors such as automotive distribution, trademarks, platform accounts, customer-data transfers and competition restrictions need separate review where relevant. The distribution framework and individual international sale orders also require their own governing-law and treaty analysis. This guide does not resolve every special-sector, foreign-law or international sales issue.

2. Establish the right to exit before promising a new distributor a start date

Civil Code Articles 562 and 563 allow termination by agreement, upon a valid agreed trigger, or on an available statutory ground. Falling sales, dissatisfaction with brand investment or a desire to replace a channel is not automatically a statutory right to exit a fixed-term agreement. Reliance on delayed performance of a principal obligation ordinarily requires attention to a demand and a reasonable opportunity to perform; other grounds, including sufficiently serious breach, have their own conditions.

For an indefinite contract involving continuing obligations, Article 563 allows termination subject to reasonable advance notice. That is not permission to terminate every distribution agreement immediately. A fixed-term contract’s early-exit clause needs separate examination. Nor does the statute prescribe a universal 30-, 60- or 90-day notice period for all such indefinite relationships.

Expiry and non-renewal are different from early termination. Check automatic-renewal provisions, the last date for a non-renewal notice, delivery requirements and continued ordering or supply after the stated end date. Pre-drafted immediate-exit or liability-exclusion clauses also require review under Civil Code Articles 496 and 497 concerning notice, explanation and validity; a signature does not necessarily resolve those questions.

3. A notice needs a right, evidence of receipt and its own deadline

Under Article 565, a notice exercising an existing termination right generally takes effect when it reaches the other party. A notice allowing a reasonable period for performance requires review of that period and the stated consequence of non-performance. Identify the agreement, contractual or statutory basis, supporting facts, any required cure, intended effect and reserved claims. Keep complete email and courier records and responses, not merely a dated PDF.

Article 53 of the SPC interpretation requires the court to examine whether the sender had a termination right. The recipient’s failure to object does not by itself make an unsupported notice effective. Article 565 also addresses the effective date where termination is first sought through litigation or arbitration and later confirmed; filing alone is not proof that the right existed.

Article 564 contains a separate clock for exercising termination rights. Follow any statutory or agreed exercise period. In its absence, a right may be lost if not exercised within one year after the holder knew or should have known the termination ground, or within a reasonable period following the other party’s reminder. Do not confuse this with the limitation period for unpaid invoices or assume ongoing negotiations preserve it.

4. Use four ledgers to turn an exit into a workable settlement

Civil Code Article 566 distinguishes unperformed obligations from performance already rendered, with restitution or other remedies depending on the contract’s nature and performance. Article 567 preserves settlement and winding-up provisions. Article 52 of the SPC interpretation likewise separates agreed termination from unresolved liability. The following is a practical checklist, not a prescribed legal form. For each item record the entity, legal or contractual basis, amount or quantity, evidence, due date and disputed status.

• Orders and receivables: distinguish delivered and paid goods, overdue invoices, accepted but undelivered orders and unaccepted requests. Whether ending the framework cancels accepted orders depends on the terms and scope of the exit; do not cancel the entire order book by assumption.
• Inventory: identify batches, ownership, location, condition, expiry, acquisition cost and discounts already received. Separate purchased stock from consigned or loaned goods. Specify conditions for any sell-off, buyback, purchase by a replacement distributor or lawful disposal.
• Rebates and deposits: check whether rebates have accrued and whether they depend on sales targets or actual payment; verify approved marketing expenditure and the basis for retaining or returning security. Calling a payment a “security deposit” does not automatically permit forfeiture.
• Loss and releases: separate agreed damages, evidenced net loss, reasonable exit costs and unresolved claims. Define precisely which rights are released and whether release depends on actual performance. A payment promise is not cleared funds; avoid an unintended unconditional release before payment.

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5. Unsold stock is neither an automatic full-price buyback nor property to seize

For ordinary buy-resell distribution, the nature of a sale under Article 595 and the termination consequences in Article 566 do not alone establish a rule requiring the brand to repurchase every item at its original price. Examine buyback, return and sell-off provisions, their triggers and validity, and whether particular sale orders are being unwound. Without an express provision, assess the termination ground, nature of performance and proven loss before concluding what remedy is available.

Article 558’s post-contract good-faith obligations cannot simply be converted into a universal promise to buy back all distributor inventory. Conversely, unpaid invoices alone are not authority to enter a warehouse and take goods already sold. Ownership, any retention-of-title arrangement and identification of the actual goods require separate analysis.

Commercial options may include an agreed sell-off period, negotiated buyback or a separate purchase by a successor distributor. Document valuation, prior discounts and rebates, inspection, risk during handover, transport and storage costs, and the payment sequence. Returns across a border need customs, tax and product-regulatory review. Proposed resale-price controls, channel restrictions and data transfers are not automatically lawful merely because they appear in an exit agreement.

Where expiry or storage costs are becoming material, preserve the stock’s condition and propose reasonable steps promptly. Civil Code Article 591 limits recovery of avoidably increased loss. Mitigation, however, is not a licence to destroy, resell or seize another party’s goods without a lawful basis.

6. Test unpaid invoices, set-off and compensation separately

Check payment duties for delivered goods against the contract and Civil Code Articles 509 and 579. A distributor may raise defects, unpaid rebates, the brand’s breach or inventory loss; each argument needs its own basis and assessment of its effect on the claimed debt. Ending the framework does not automatically erase the price, or automatically defeat every counterclaim.

Statutory set-off under Article 568 requires the relevant mutual debts, maturity of the other party’s obligation and the required compatibility of subject matter, subject to contractual, legal and nature-of-obligation restrictions. Notice is required and the set-off must not be conditional or time-qualified. Article 569 permits agreed set-off for obligations of different kinds or quality. An affiliate’s debt, an unsupported loss estimate or a unilateral accounting entry is not automatically an effective set-off.

Wrongful termination or another breach can generate damages. Article 584, mitigation and fault rules in Articles 591 and 592, and Articles 60 and 63 of the SPC interpretation require attention to proven foreseeable loss, net profit, avoided costs, replacement business and the parties’ contributions. Remaining contract years multiplied by sales revenue is not a reliable damages calculation. Agreed damages may also be adjusted under Article 585 and interpretation Article 65.

These general contract rules do not supply a universal percentage indemnity just because the distributor developed customers or promoted the brand for years. Examine the valid agreement, relationship type, lawfulness of termination and actual loss. Neither automatic goodwill compensation nor an unconditional promise of liability-free exit is justified.

7. Build the evidence package and keep the procedural clocks separate

Read the effective dispute clause before choosing a competent court or the agreed arbitration route. Termination, invoice, rebate, inventory and damages issues may require combined or distinct claims and may attract counterclaims. An ordinary private termination settlement should not be assumed to be directly enforceable like an enforceable judgment or other qualifying instrument.

Where PRC limitation rules apply, general claims ordinarily require assessment of Civil Code Article 188’s three-year period and its starting point. Article 594 specifies four years for international sale-of-goods and certain other specified contract disputes. Do not apply one period indiscriminately to the framework and every order. Article 7 of China’s conflicts law links limitation to the law applicable to the underlying foreign-related relationship.

A demand, acknowledgment of the duty to perform or commencement of litigation or arbitration may interrupt limitation when Article 195’s conditions are met. A general discussion about future cooperation is not necessarily an effective assertion of a particular debt. Track contractual notices, termination-right expiry, limitation and existing procedural dates separately. This checklist creates no grace period.

• Relationship and exit ground: executed agreements, renewals, orders, translations, authority records, sales targets and cure terms, together with specific breach records and the other party’s explanation.
• Notice and timing: agreed addresses, full email headers, courier tracking, receipt and replies. Distinguish drafting, dispatch, arrival and intended effective dates.
• Money and goods: delivery and acceptance records, bank payments, invoices, reconciliations, rebate conditions and approved expenses, tied to batch-level inventory and warehouse evidence. Invoices do not replace the performance trail.
• Loss and mitigation: actual expenditure, reasonable alternatives, net-profit assumptions, avoided costs, stock residual value and proposed disposal arrangements. Avoid counting the same value twice.
• Recovery: identify the actual debtor and available asset leads. Termination, a favourable award or a promise of payment is not recovered money. Preservation, enforcement and possible insolvency require their own assessment.

8. When to obtain a prompt China-law assessment

Act promptly if a non-renewal deadline is near, an immediate termination notice has arrived, stock is approaching expiry, payment is being made conditional on a comprehensive release, or a new distributor is due to start while accepted orders remain unresolved. Address the earliest deadline first and prepare the four ledgers in parallel; do not wait for perfect agreement on figures before checking the termination right.

Ada Ren can provide agreed-scope China-law support on distribution exits, notices, settlements and dispute routes, with clear English communication. Formal filings follow the receiving authority’s requirements; foreign-law and specialist issues may require coordination with appropriate professionals. Start with the contract, notices and a summary of amounts and stock, rather than sending customer lists or complete trade secrets through public channels.