American companies often come to us with a “great business idea” that turns out to be prohibited for foreign companies in China. When we give them the bad news, their first response is usually: “But that makes no sense.” Some then suggest that all we need to do is meet with the “right people” in the Chinese government to explain how their business will create jobs and boost China’s economy. We tell them that will never work.
China has deliberately limited foreign involvement in certain industries (e.g., publishing and the Internet) to be able to control those industries. The Chinese government is more concerned with social harmony and the contentment of its citizens than with economic numbers, and you should always factor this into your China business decisions. China’s slowing economy only heightens the government’s focus on contentment.
If you are doing business in China, or even just considering it, you should be mindful of the following…
I am often asked what foreign companies doing business in China need to know to stay out of legal trouble. I usually respond as follows:
Are You Operating Legally? Generally speaking, if you are doing business in China for more than a few weeks, you need to form a legal entity there (i.e., a Wholly Foreign Owned Entity(WFOE), a joint venture, or a representative office. Assuming, of course, that your business scope is permissible; some businesses that are perfectly legal in the United States or in Europe are proscribed in China.
There are five more things you need to know in order to stay out of legal trouble in China…
My firm’s clients often ask how their contracts with Chinese companies should be signed and/or chopped (affixed with the company seal). We typically respond with something like the following:
Each Chinese company has only one “legal representative” (a term of art under Chinese law), who is identified as such on the company’s business license. Any agreement signed by a Chinese company’s legal representative is binding on the company, whether or not a chop is affixed. However, to enforce a contract that is not chopped, you must prove that the signature on the contract really belongs to the Chinese company’s legal representative. Therefore, if you can get the contract chopped, you should.
Larger Chinese companies often do not have their legal representative sign their contracts. In this situation, you need to be particularly vigilant about securing a proper chop.
Whenever one of our China lawyers drafts an agreement for a client doing business in China, one of the first things we ask is the identity of the Chinese counterparty. This is a complicated question.
The typical Chinese company is composed of multiple entities, with a complicated ownership structure. One entity may run the factory, another entity may run the office, and a third entity may serve as a holding company — and is probably based in Hong Kong or Taiwan. And every single person on the Chinese side ignores corporate formalities and behaves as if all the entities are interchangeable.
But the entities are not interchangeable, and the party with whom you contract matters. How it matters depends on your goals and the Chinese side’s corporate structure.
When I give speeches on China law, I am often asked what the best way is to keep up with Chinese law in a particular industry. I usually answer by saying somthing like the following:
Great question. But you probably can’t. To succeed in China, you need a China team, and that team needs to include someone who can read and understand Chinese laws/regulations in Chinese and someone who is in touch with the relevant government authorities.
I then usually describe a conference call from a few years ago, when three lawyers from my firm (including me) were discussing the law relating to a particular matter. One lawyer said the law was “X”, another said it was “Y”, and I said it was “Z”. I then very confidently stated that the other lawyers must be looking at older versions of the law, because I was looking at the one that had come down three weeks ago. One lawyer quickly admitted defeat. The other lawyer said his version had just come out the day before….
You can invest in China on your own by forming a Wholly Foreign Owned Entity (WFOE) or by partnering with an existing Chinese business through some form of joint venture. China is fairly open to foreign investment and in the past several years WFOEs have become the most common vehicle for foreign investment, partly due to investor skittishness as stories about past problems with Chinese equity joint venture partners have made the rounds.
Yet many foreign investors still choose to enter the Chinese market through an equity joint venture, and the particular risks involved with this type of arrangement require careful planning.
With the media recently paying so much attention to foreign (read American and British) businesspeople getting in trouble in China, my firm’s China lawyers have been getting a large number of calls lately from worried Americans based in China. These callers are asking the following kinds of questions, and we are giving the following kinds of short answers (needless to say, our long answers are much more nuanced):
1. Should I leave China? Not unless you or your company have violated Chinese law in such a way that you are at risk for going to jail. Let’s talk about whether or not that is the case…
China joint ventures are notorious for their high failure rate. An old Chinese saying that is often applied to joint ventures is “same bed, different dreams.” Far too often, American companies and Chinese companies rush into joint ventures without ever discussing their respective dreams.
Many years ago, a client about to fly to China to meet with a potential Chinese joint venture partner asked for my help. I compiled a list of issues to raise at that meeting, and have provided a similar list (honed a bit more each time) to subsequent clients facing the same situation. The goal of raising these issues is to determine whether the two companies share the same dreams, and whether the Chinese company is JV worthy. Currently, this list includes the following questions:
Many years ago, an American credit reporting company called seeking help with forming a subsidiary in China. This company told me of their extensive and expensive market research demonstrating that China had a tremendous pent-up demand for their credit reporting services. As I listened, I kept thinking that unless the law had changed recently, foreign companies were prohibited from engaging in such business without a Chinese joint venture partner.
So I asked politely if anyone had determined whether their planned business would be legal in China. They paused and said they had not, and I suggested that we do so straightaway. After ten minutes of research, I reported back that credit reporting was barred to foreign entities seeking to go it alone. This company never went into China.
Flash forward to the present. Organic, cruelty-free cosmetics have become big business, including in China, where many who can afford such things would not be caught dead putting made-in-China products on their skin. American cruelty-free cosmetic companies are being contacted in droves by Chinese companies seeking importation and distribution deals…
Rule number one for succeeding at doing business in China is to have a good partner. The odds of having problems with a Chinese company are much lower when you deal with a “legitimate” Chinese company. That means rule number two is making sure that you are dealing with a legitimate Chinese company.
But how do you do that? How do you distinguish between a Chinese company that is legitimate and one that is not?
The following are the basics for making that determination…
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