12 May 2019 Update
# Franchising China, Pyramid and MLM selling, BWL ChangSha Best
https://tinyurl.com/y5cu9rm8
Read Part 1 of the articles here
Why ChangSha Best has to be An Independent Import Agent?
BWL has declared ChangSha Best as an Independent Import Agent in its 40-pages-rebuttal to Bonitas Research on 8 May 2019.
After the trading halt was lifted on 9 May 2019, the price of BWL went up to SG$1.75 in the morning , but it fell quickly by SG$0.26 or 16% to SG$1.36 after Valiant Varriors (VV) pointed out that the boss of ChangSha Best is the Brother-In-Laws of Dr. Hoan, who is one of the founders of BWL. According to VV, ChangSha Best cannot be considered as an Independent Import Agent of BWL.
SGXCo suspended the BWL’s trading at around 3:00 pm on 9 May and queried BWL about the relationship between ChangSha Best and BWL, giving a dateline for BWL to reply by Friday, 10 May 2019. This dateline was subsequently extended to 13 May 2018.
Why the Speculations?
There were many speculations about why BWL had to take so long to answer a simple question by SGXCo. Some even speculated as if BWL might have something to hide; for example, tax avoidance etc.
To understand tax avoidance better. One might have to know more about a new rule, called GAAR, introduced by the Chinese Tax Authority, the State Administration of Tax (SAT) in 2016.
What is GAAR ?
GAAR stands for "General Anti-Avoidance Rule". It is one of the tax rules implemented in many countries to counter unacceptable tax avoidance practices. In China. this GAAR rules give the Tax man the power to determine if a company, especially a Foreign Company, has misused or abused the tax law by under declaring their profits for tax avoidance purposes in China.
What is Inside the GAAR Rule?
Among the many rules, the following powers are given to the Tax man:
a) The Tax man can cancel or deny any tax benefits or incentives given to the company if it is found that the company has
1. carried out illegal activities to avoid paying tax;
2. prevented the recovery of taxes, tax fraud etc
In addition;
b) The Tax man can make special tax adjustment to certain transactions such as to consider profits declared by the Foreign company in its mother country as profits made by its subsidiaries in China;
c) Impose tax fines and late penalties as deemed to be appropriate
What Have Been Asked and Clarified ?
a) ChangSha Best was operating completely independent from BWL’s China Subsidiary, Best World (China) Pharmaceutical Co., Ltd. ChangSha Best was acting as a Primary Import Agent to import the particular goods (Dr. Secret) directly from BWL Singapore and pay BWL Singapore without going through its Subsidiary in China;
c) After obtaining the Franchising Model, Best World (China) Pharmaceutical Co., Ltd is taking over the role of ChangSha Best. As a result, ChangSha Best will have to be terminated by agreement and returned its assets including inventories, payable and "what not" back to BWL. As a result, Bonitas commented in one of its report about "What kind of independent party pays nearly 100% of accumulated profits upon termination of its agency arrangement? ”.
Questions Remain
1. By declaring ChangSha Best as Independent Primary Agent is definitely not a crime even though the boss of ChangSha Best is the brother-in-law of one of the founders. However, this undisclosed information might lead to more speculations of possible tax avoidance; if so, how would it have affected the price of BWL?
2. If it has been insinuated that ChangSha Best is created for tax avoidance or similar purposes and BWL is constantly and consistently in denial of any wrong doing, can anyone "nail" that BWL has broken the GAAR rules or any other rules as there were transaction records showing ChangSha Best is actually a customer of BWL Singapore?
To find out the answers, one might have to wait for the events to be unfolded in near future. Nothing so far can confirm anything except some questions and clarifications given by BWL and the Short Sellers.
1 May 2019
Understanding Direct Selling (DS) and Franchising in China
The Direct Selling (DS) of products such as cosmetic and medicine herds and tonics started in China only after AVON set its foot in 1990 in GuangZhou; then they were peddling their wares from “door to door”, selling their cosmetic products the MLM way just like they did in the US.
Although the Franchising of food industries started after 1987, the Franchising of products like cosmetic etc did not start seriously until after 2005 and until MLM selling was banned in China. Then many DS companies started to transform their business models from DS to Franchising.
How Much Franchising Model can earn extra?
In a report released by the Authority in 2015, it was pointed out that the 54 registered DS companies managed a total revenue of about RMB 25 billion but their Franchising businesses reeled in about RMB 77.6 billions which was 3 times the DS amount.
The Franchising model becomes very popular thereafter, prompting Best World Lifestyle (BWL) to change also its business model to Franchising model in 2018.
The Problem about Franchising in China
There were few news and reports about pyramid selling and false advertisement before 2018; if any, there were quickly dismissed and “fire” distinguished immediately. The real problem (especially for BWL) did not start until the bosses of QuanJian (权健) and Tenesse (天狮) were caught for bribery at the end of 2018 and early2019.
The Intimate Relationship with the Franchisees
The relationship was described to be one involving “Hate and Love”. The DS companies love the Franchisees because they could bring-in lots of money. The DS companies hate them because they were the ones creating lots of troubles. There is very little the DS companies could do to control their Franchisees mainly because they are the "Stars" of the businesses. These Franchisees will still paddle their goods around “door to door” but the real income will come from MLM pyramid selling. When the going getting tougher, these Franchisees may have recruited their own “illegal Franchisees” who would recruit other "illegal Franchisees" to do pyramid selling for example. These people down the line could have done all sort of illegal acts behind the back of the DS companies. Their activities could include “false advertising”, manpower pulling (拉人头) etc to improve their businesses.
When the Franchisees committed some offenses, the Franchisors’ reputations will be greatly tarnished as the "victims" and the Police will go after the Franchisors and not the Franchisees because the Brands were involved. Ultimately, it is Franchisors like BWL who will have to handle the situation and take the rap. The victims, their families and their neighbors would swear not to use the offended brand in their remaining lifes.
The Management Controls of Franchisees
There is just very little the DS company’s management could do to control these “illegal activities” of their Franchisees except through an incentive and penalty system. A company called
“Infinitus (无限极)” has come up a “Nine stage Penalty System” involving cancelling the Franchising business in the Ninth stage. But this was not effective as “Infinitus” were also caught recently for bribing the Officers.
Conclusion
Contrary to the believe that DS companies can survive by just peddling their wares “door to door”, it is always the MLM selling especially the pyramid type of selling that is going to bring-in lots of money. The DS selling with Franchising model could expand the business but the success would depend much on whether the management could control their Franchisees effectively. Don’t forget that the real business income always come from MLM selling which is banned in China. It would be very hard to control these Franchisees.
References: http://www.zhixiao001.com/html/20590.html
27 April 2019
There has been active discussions in the Singapore's stock forums about the Franchising businesses of Best World Lifestyle (BWL) in China. BWL has changed its business model in China from Direct Selling to Franchising model in 2018. Bonitas Research, a Short Selling business firm in the US has issued a report recently calling BWL a "Fraud".
Franchising business in China is not new especially in the food catering industries. KFC started franchising in China in 1987, Pizza Hut around 1990 and McDonald's started its business in China around 2004. "Yum" brand who was the Franchisee of KFC and Pizza Hut was reported to have more than 3,500 stores in China in 2011.
However, Franchising in China for other products did not start to take off until after Chinese Government banned MLM sellings around year 2000.. By 2018, there were about 20,000 franchising shops operating all over China, employing more than 500,000 workers. This might be just the official numbers; the unofficial figure including the partly legal and illegal ones could be many times more.
Type of Franchising
Officially, there are 3 broad categories of Franchising Businesses in ChinaCategory 1: Government or Business type; the former is for government and its economic related companies setup for public interest, the latter is for ordinary business setupsUnder the above 3 broad categories, the franchising business models can also be divided into 3 types
Category 2 : Product (商品商标型) or Business Model (经营模式型) . The former is for a product like Coca-cola, the latter includes not only the products but also the brands including the whole business setup like McDonald, Kentucky etc
Category 3 : Direct (直接特许) or Distributed (分特许) . The Direct type is for one level selling, "subletting" of business licenses is not allowed whereas for the Distributed type, “subletting” is allowed
Type 1 : The Direct Franchising model: All the franchising branches, stores and businesses belong to the Head Quarter (Franchisor);All Franchises must have a license to operate in China. There are many different types of Franchising businesses; some are approved based on items by items for sale only in designated location or city. There is no one license that can cover in blanket over the whole China for example.
Type 2: The Free Franchising model : the franchising branches, stores and businesses are privately owned; Franchisor might hold some business rights;
Type 3: Special Franchising model (特许连锁（或称加盟连锁特许经营）: Branches and stores are privately owned; Franchisor still holds the business rights exclusively.
According to BWL's Franchising business license, BWL is in Type 3 category.
What’s Really Happening in the Market?
Before 2006, there were only a handful of about 50 franchising companies in China. Because MLM pyramid selling was so rampant in China, the Authority started clamping down MLM businesses after having joined the WTO in 2005. First, they banned the MLM businesses and introduced the "Single Level Direct Selling" rules in August 2005, then they controlled the issuance of Direct Selling(DS) licenses to about 10 licenses per year for the next 10 years from 2006 to 2016.Because it was so difficult to get a license for the DS businesses, many DS companies started to transform from Direct Selling to franchising business after 2006; also, many transformed for the simple reason that franchising business selling rules were not as strict as the DS selling rules.
There are now so many different types of franchising businesses and models in China. They can generally be divided into 3 types
1. The Official and Legal type: mainly for food industries like McDonald, Kentucky or Pizza Huts;It is believed that majority of the franchising businesses in China are the illegal type. Those already in the pyramid structure would be promised handsome rewards if they can bring more to join them as their franchisees. Manpower pulling (拉人头), brainwashing, pestering and sometimes, life threatening actions are often heard to be the standard tactics used by these people.
2. The Not-So-Legal type: These are those who have restricted license for one product to be sold in one location but doing franchising business for all products all over China. In this case, the franchising business license is only a show piece to support their sales;
3. The Illegal type: These are those who do not have any license to operate franchising business in China. They might be franchisees of a legal or illegal franchisee, recruiting to sell franchisee setups or products to other franchisees in a pyramid structure. These illegal franchisees are privately owned either by a group or individual.
Who and Who ?
There is no official information as to who and who is practicing franchising in China except for the big and legal ones like McDonald, Kentucky and Pizza Hut. However, in recent years, there have been spates of court cases involving companies who have been practicing pyramid sellings. The 2 most prominent and notorious companies are QuanJian (权健) and Tenesee ( 天狮)。 These 2 companies were the top 10 Direct Selling companies in China until they got into trouble with the laws from 2016.
http://www.dsbaike.com/topic/previous_list/year/2015/id/245.html
From the many court details and webpage reports about them, it is believed that these 2 were practicing Not-So-Legal franchising businesses on the surface whereas their franchisees were practicing illegal franchising or even pyramid sellings behind the scene.
What Type Being Used by BWL?
There was very little information about what type of franchising business model that BWL is using in China. The official documents and the pictorial information tend to suggest that BWL is operating the “Not-So-Legal Type” of franchising where they have showed that they have only one license to franchise Dr.Secret in ChangSha city; but, they have been selling also other products in Changsha as well as in many other Chinese cities. There was no information or record about any of the BWL franchisees were directly involved in those illegal pyramid sellings using BWL's products.Would the Franchisor Like BWL Be Implicated?
There are 34 regulations how Franchisor should operate under the Chinese Franchising Rules. Among the various regulations, the rule book also spells out the Francisor's duties and responsibilities.There are rules about what Franchisor (特许人) should do to protect the interest of its Franchisee (被特许人) including the provision of supervision, supporting technology and trainings etc. However, there was no rule about how Franchisors can be relieved of the duty and the implications for the wrong doing of their Franchisee.
The rules specifically mentioned that there must be an agreement (合同) signed between the Franchisor and the Franchisee, allowing the Franchisee to make use of the Franchisor’s resources to operate the business. (以合同形式将其拥有的经营资源许可其他经营者（以下称被特许人）使用)
The rule also suggested that it is the duty of the Franchisor to impart knowledge as well as to supervise the Franchisee’s operation. In any case, even if it has not been written so as a rule, it would be clear that the Franchisors must protect themselves to ensure that its reputation and product would not be tarnished by the Franchisees' wrong doing. This is because the customers would not normally blame the Franchisees but the Franchisor.
In view of the above and contrary to the believe of many forumers, the Franchisor like BWL would be implicated for the Franchisee’s illegal activities. It might be the very reason why the bosses of QuanJian and Tanesee have to resort to bribing the Chinese officers for the “crimes” committed by their franchisees. Although they could go scot-free for many past court cases involving their Franchisees, they have to go to the jail finally.
Disclaimer: This article is for information and educational purposes. Readers are advised to conduct their own research and study to make their own investment decisions.
