FTA with China: Learning Chinese law

There is no doubt that China’s commercial relationship with the world has grown in recent years. Its entry into the WTO demonstrates a willingness to open its economy. Chile’s signing of a free trade agreement, and concomitant agreement on additional services, not only confirms this broader trend, but places our country in a commercially advantageous position.

The competitiveness of Chinese firms in the manufacturing sector has caused many Chilean companies to begin to focus on China; that is, those who are not already exploring the possibility of or working with Chinese manufacturers. Lower labour and production costs are driving this new focus on trade.

The need to establish trade links in situ with Chinese producers and the role Chinese companies play in international trade demand that potential or extant business partners have a better understanding of the Chinese legal system and its most important institutions.

This article will outline the basic organization of the government in China and discuss that nation’s most important business guidelines.

The first institution to consider is the Communist Party of China (CPC). Despite not being part of the overall structure of government and only mentioned in the preamble of the Constitution, the CPC continues to dominate the government in China. The interaction between the CPC and the judiciary, otherwise ambiguous, is a reality that affects the work of the independent judiciary. The importance of the CPC, both in management and in implementing government policies is relevant and should not be neglected when analyzing the Chinese legal system.

 
Regardless of the fact that the CPC does not play a role in the enactment or application of laws, it does make its presence known by issuing directives or essential opinions in the implementation of government policies.

China does not have a federalist system of rule. Instead, it employs a centralized structure with multiple levels of government (national, provincial, municipal and county). The highest legislative authority is the National People's Congress (with equivalents at all the other levels of government). According to Article 58 of the Chinese Constitution, the Congress and its Standing Committee "exercise the legislative power of the State." It is made up of delegates, who are elected in popular elections, from all parts of China. Among other responsibilities, and per Article 62 of the Constitution, representatives are in charge of overseeing the implementation of the Constitution, as well as any amendments or modifications to same, the enactment and amendment of laws which address criminal offenses, civil affairs, State bodies and other matters, and to elect the President and Vice President of the Republic.

Another important legislative body is the Standing Committee of the Congress, which also has its equivalent at the aforementioned levels of government. It is comprised of the President of the Congress, that body’s Vice President, the Secretary General and members appointed by Congress. Among its functions is the enactment and amendment of any law that is not exclusively promulgated by the National People's Congress. Article 8 of the Law on Legislation clearly states that only "national" legislation may be enacted with regard to certain issues such as sovereignty, the establishment and operation of the People's Congresses, governments, courts and prosecutors, crime and criminal law, deprivation of political rights or personal freedom of a citizen, expropriation of non-State assets, fundamental civil institutions, the economic system, taxes, customs duties, financial systems and international trade, litigation and arbitration.

A point to consider is the fact that the Standing Committee, under Article 67 (1) and (4) of the Constitution, interprets the Constitution and laws. Thus, the courts do not interpret the law. Therefore judges are confronted with laws enacted by different levels of government, and all the concomitant enforcement problems caused by same.

The State Council has the final say in the administration of the State. This organization not only places bills before Congress and the Standing Committee, it also formulates administrative regulations and issues rulings and opinions in accordance with the Constitution and other laws (Article 89 (1) of the Constitution). Administrative regulations issued by the Council may be adopted in relation to matters that require the enactment of a national law or issues under the purview of the State Council. If a ministry or government agency must an administrative regulation, it must obtain permission from the State Council. It must also submit the final version of the regulation to the Office of Legislative Affairs of the State Council for approval (Articles 57 and 59 of the Law on Legislation).

As one can plainly see, the process with respect to laws and administrative regulations is very strict and seeks to avoid possible inconsistencies.

Under the law under which Congress was founded and under which its debates on Regulation are regulated, the "Presidium" of the Congress, its Standing Committee, a number of special committees of Congress, the State Council, the Central Military Commission (governing body that usually does not participate in the legislative process), the Supreme People's Court and the National People can submit bills. Once a bill is presented to Congress, the 'Presidium' decides whether to put the bill on the legislative agenda or refuses to submit same to plenary or ad hoc committees. Additionally, 30 or more delegates can submit bills, provided that the projects are within their purview. Finally, as stated in Articles 24 and 25 of the Law on Legislation, ten or more members of the Standing Committee may submit bills.

Now let’s take look at what happens to laws.

The Chinese legal system, not unlike Chile, is a civil law system. Unlike common law systems, sentences do not cite precedence, which means law is based primarily on legislation and regulation.

After China's entry into the WTO in 2001, a large amount of new legislation has been enacted; mainly in the banking, corporate, securities and foreign investment sectors.

In general, Chinese laws do not apply outside its national territory. Issues of jurisdiction have been expressly addressed, even areas such as Taiwan. For example, legislation on foreign investment refers to investment made by investors from Hong Kong and Macau, regions with autonomous systems of law, and Taiwan, providing that those investors be treated as foreign investors.

Chinese law recognizes the will of parties to choose the law which will govern their contractual relations. However, there are also some legal issues where a given Chinese law must be applied and where Chinese courts have exclusive jurisdiction. Also, there are certain areas where the law does not require the compulsory application of Chinese law, but where the administrative requirements, and the likely application of Chinese law by its courts, suggest that the Chinese law will be applied, regardless of the preference of the parties involved.

Article 126 of the Contracts Act "allows parties entering into a contract 'involving foreign-related issues' to choose the applicable law in case of conflict, unless said election is expressly prohibited by law. If the parties fail to choose an applicable law, the law with the most relevant purview applies. However, in the case of joint ventures between Chinese and foreign capital, involving contracts for the joint exploration of natural resources within Chinese territory, contractual freedom is diminished and only Chinese law applies.

The question that arises is what is the scope of a contract involving “foreign-related issues”? In the absence of a clear answer, it would be desirable to include a foreign national in the contract. This helps avoid problems if a party to the contract is a Chinese-controlled company or a percentage of its ownership is in foreign hands.

The Supreme People's Court, through the enactment of the Rules of the Supreme People's Court on Related Issues concerning the Application of Law in Hearing Foreign-Related Contractual Dispute Cases Related to Civil and Commercial Matters, and in effect since Aug 8, 2007, clarifies some points concerning the application of foreign law, but sheds no light on the meaning of “foreign-related issues”.

Article 9 of the Rules dictates that parties who have opted for foreign law must prove its applicability. If the court determines that a foreign law is applicable to a contractual relationship, the court may rule without any further procedure or require that the parties to prove relevancy. If a foreign law cannot be shown to be relevant, the court may apply the relevant Chinese law.

A point to consider is related to the jurisdiction of Chinese courts in cases where Chinese nationals or the Chinese state is involved. Article 246 of the Civil Procedure Act gives exclusive jurisdiction Chinese courts to hear cases involving joint ventures and natural resources, unless the parties have not established domestic or international arbitration.

Unfortunately, in the absence of an international treaty, it becomes very difficult to enforce a foreign court’s ruling in China.

However, the Arrangement on Reciprocal Recognition and Enforcement of Judgments in Civil and Commercial Matters by the Courts of the Mainland and of the Hong Kong Special Administrative Region Pursuant to Choice of Court Agreements between Parties Concerned", in force since Aug 1, 2008, is a step towards facilitating the recognition and enforcement of foreign rulings. Article 9 of the Agreement states that a party may seek recognition and enforcement of a ruling issued by a foreign court, including the annulment of an agreement on jurisdiction, enforcement of the ruling, flawed proceedings or fraud.

For its part, Article 5 of China’s Bankruptcy Law stipulates that, to the extent that bankruptcy proceedings have been brought under that law, they should have effect on the debtor's property outside Chinese territory. Regarding a ruling by a court involving a foreign debtor's property in China, where a Chinese court is required to recognize or enforce the ruling, the law states that the Chinese court shall consider the matter on the basis of existing international treaties or on the basis of reciprocity, and only grant recognition or enforcement of the ruling if the precepts of Chinese law, national sovereignty, security, public interest or the interest of creditors in China are in no way violated.

With regard to the rules governing mergers and acquisitions of Chinese companies, as established by the "Regulations on the Acquisition or Merger of Domestic Enterprises by Foreign Investors", any merger or acquisition performed in China or abroad, must be registered at the Ministry of Commerce and the State Administration for Industry and Commerce. These institutions may reject the merger or acquisition of the company if said transaction results in over-concentration, damage to legitimate competition or the interests of consumers. The Antimonopoly Act, in force since Aug 1, 2008, also provides a review of mergers and acquisitions and authorizes the relevant officials to prohibit the merger or impose conditions on the transaction.

The Contract Law, governing the rights and obligations of parties to a contract establishes, inter alia, the principles of contract formation, validity, amendment and termination and regulates certain special contracts, such as contracts related to technology (chapter 17).

Chapter 9 of the Act regulates the sale of goods. In many respects this law is similar to the United Nations Convention on Contracts for the International Sale of Goods (Vienna Convention), ratified by Chile and in force same since March 1, 1991. Therefore, it is recommended that one use the Vienna Convention as a legal framework, backed up by Chilean law or Chinese when selecting an applicable law for an international sales contract between Chinese and Chilean parties.

Now, in dealing with Chinese companies, we must understand what a Chinese company or enterprise is.

Chinese companies can be private or public property.

Most private companies are established in accordance with the Corporations Act.

Publicly owned companies may still take a variety of forms, regardless of whether the Corporations Act or a government policy dictates that a given company must incorporate. Most of these companies operate as holding companies based in China and abroad. It is therefore vitally important to determine whether the companies established in other jurisdictions are owned by publicly-owned Chinese companies. If so, the policies of the Chinese State-run enterprise may be affected by the degree of supervision and control exercised by government authorities and, in turn, affect the policies that control the company abroad.

The Corporations Act regulates two types of companies: a) Limited Liability, and b) Limited by Shares.

Limited liability companies are formed by at least two, but no more than 50, partners (Article 20). They must have registered capital (varies according to business sector or activity, per Article 23). They must be administered by a 3-tier structure comprised of a board, supervisory board, or board of supervisors, and partners. The board members have the last word on election of directors, approval of directors’ and supervisors’ reports, dividend calculation and distribution, capital reductions or increases, the company's dissolution and modification of the articles of incorporation.

Limited by shares companies are similar in structure to the limited liability variety, but are able to issue shares and be listed on the stock exchange.

In addition to the aforementioned companies, there are a number of other corporate structures that exist in Chinese law.

For example, foreigners wishing to invest in China must do so through foreign investment companies. These companies are subject to the Corporations Act, but are regulated primarily by the laws and regulations related to joint ventures and foreign investment companies (such as the Law of the People's Republic of China on Chinese-Foreign Contractual Joint Ventures).

Therefore, it is important to identify the type of company in which you are involved.

Publicly owned enterprises are directly or indirectly subject to the government at the central, provincial or local level; so their degree of autonomy is diminished. By contrast, Chinese companies have greater autonomy. However, the Chinese government has tried to control the investment of Chinese enterprises abroad through the enactment of laws and a consistent policy. Thus, in recent years, the government has encouraged investment abroad by setting up subsidiaries or branches. However, such investments require both central and local government approval and funds transfers are subject to exchange controls.

As noted, even though China has moved toward a market-oriented economy, regulation and restrictions still prevail. For example, foreign investment projects must be approved. There are also strictly regulated areas such as investment promotion, restricted investment and prohibited investment.

Although the rules and regulations in China have developed favorably, clarifying their applicability in recent years, interpretation is still vague. Inconsistencies between regulations at national and local levels are a problem. Recognition and enforcement of foreign rulings and arbitral awards is insufficient.

We cannot predict whether or not Chinese law will be universally accepted in an international context. But the analysis, understanding and management of its law is undoubtedly a step in the right direction towards successfully capitalizing on this exciting market.