What to Do After Discovering Counterfeits

You've discovered counterfeit parts in your inventory. What should you do?

1. Call your supplier and demand your money back
2. Notify the government and turn over the parts as evidence
3. Submit the parts to a third party for testing

The correct answer: all of the above. That was the consensus of a panel at a two-day symposium on counterfeit electronics at the University of Maryland in College Park in June.

Keith Gregory, a partner at the law firm Snell & Wilmer LLP and moderator of the panel, hears that question from many of his clients. They are often left in a quandary: they want their money back, but the supplier requires them to return the parts to get the refund. That means that the counterfeits could end up back in circulation.

One solution is to address the possibility of counterfeits in the terms and conditions of your purchase order, said Gregory. In particular, make sure to specify that "the parties agree that counterfeits have no value." That clears the way for a supplier to refund your money even while you hold the parts or turn them over to government authorities. In addition, the terms should advise the supplier as follows:

• You will destroy the counterfeit parts
• Your payment for the parts is to be refunded
• The supplier has the right to have the parts tested by a third-party, independent test facility. If the parts are found to be counterfeit, the supplier pays the lab fees. If they are not, then you pay the fees.

Marty Lanning, founder and partner of Xtreme Semiconductor, which makes legacy military/aerospace parts and specializes in obsolete and end-of-life semiconductors, changed the terms and conditions of Xtreme's purchase order last summer. In addition to stating that counterfeits have no value, the terms say that counterfeit products will be confiscated and destroyed or turned over the US Department of Homeland Security. Since then, "we've confiscated quite a few materials," he said. In fact, the company has confiscated 16,514 parts as counterfeit or suspected counterfeit, including eight unique part types and 13 different lots of material.

So far, Xtreme has been successful in getting refunds on all the material it's confiscated, Lanning said.

"When we confiscate, we ask the supplier if they want to be listed as a point of contact for the Department of Homeland Security," he said. So far, "nobody has said 'yes.' " Lanning noted that Xtreme has forged a strong relationship with the local DHS office in Texas, where he turns over all confiscated parts. The DHS then issues a Custody Receipt for Property and Evidence, DHS Form 6051S, which is proof that the product has been seized by the US government.

Xtreme's terms also provide an opportunity to resolve disputes through testing by an independent laboratory. "So far, I haven't had anybody take us up on that," Lanning said.

Gil Aouizerart, CEO and president of Pacific Component Xchange, said that changing terms and conditions of the sale is a powerful way to mitigate the risk of counterfeits. But he also uses several other methods, including an ongoing rating system of suppliers and requiring suppliers to communicate the "risk profile" of the source of their parts. It's all part of recognizing, rather than denying, the problem.

"Part obsolescence is not going away," Aouizerart said, and the industry needs to face that reality and the fact that it creates a market for counterfeits. For example, "if this part has been obsolete for 12 years and the only place it's now available is from China, that probably means it's counterfeit," he says. "You can't close your eyes to this."

Another effective way to make sure you're not stuck holding the bag with counterfeits, noted the panelists: Don't pay for them until you've received and inspected the parts. Although most suppliers won't ship without payment, your terms and conditions can require that payment be held in escrow until the parts are approved.

Have you encountered counterfeit parts in your supply chain? How have you changed your terms and conditions to deal with the problem?