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China NNN Agreements: What To Do After You Get One Signed

Posted in Basics of China Business Law

Foreign companies (new to our law firm) often contact us for help because a Chinese company has “violated our Non Disclosure Agreement (NDA).” Nine times out of ten, their NDA is not worth the paper on which it has been printed and we tell them that we cannot help them. For why this is so often the case, check out China NDAs/NNN Agreements. What You/We Need To Know and China NNN Agreements. Watching The Sausage Get Made.

How to keep a China trade secret secret.

How to keep a China trade secret secret.

We seldom can help in the other one out of ten either because the foreign company has not acted in accordance with its own NDA or NNN Agreement. I thought about this the other day when I received a fairly standard email we send to our clients for whom we have drafted an NNN Agreement. In this email, attached to which we provide our NNN Agreement (in Chinese as the official version and in English for our client) and an Acknowledgment of Receipt for the confidential information, we also remind them of the need to abide by the agreement. Abiding by the agreement in most cases means being clear to the Chinese company about what information is confidential and making sure to maintain the confidentiality of that information with everyone who has not signed an NNN Agreement. Here is that email:

For your review, attached please find an NNN Agreement for use with a generic Chinese counterparty, along with a separate Acknowledgment of Receipt to track the confidential information you send. Both documents are fully translated into Chinese. Once you determine the identity of the Chinese counterparty, you will want to modify these documents as described in my previous email.

Note also that executing this agreement is just the first step in protecting your IP. It’s also important for everyone on your team to act in accordance with the agreement. If you share confidential information with a Chinese entity, make sure you also mark that information as confidential, keep track of it, and take measures to ensure that it will remain confidential.

The above are some pretty basic rules for NNN Agreements and confidentiality, but far too few actually follow them.

How To Remove Counterfeits From Alibaba: Register Your China IP

Posted in Basics of China Business Law, Legal News
How to remove fakes from Alibaba

How to remove fakes from Alibaba

We have for years been writing about how our lawyers have a near 100% success rate at getting counterfeit products removed from Chinese e-commerce websites like Taobao and JD.com.

Almost all Chinese e-commerce sites, including the Alibaba family of sites (Taobao, Tmall, Alibaba, AliExpress, 1688.com, etc.), have formal internal procedures for removing product listings that infringe a third party’s IP rights. To secure the removal of such listings, you must follow these procedures to the letter. Among other things, you must provide documentation proving (1) the IP owner’s existence and (2) the IP owner’s rights to the IP in question. Only after you have submitted these documents and had them verified by the e-commerce site can you even submit a takedown request. When you do submit a takedown request, if everything goes smoothly, most e-commerce sites will remove counterfeit products in a week or two. When things don’t go smoothly, it is vital to have a person on your side who speaks Chinese and understands Chinese intellectual property law, because you will need to explain to a higher-level employee at the e-commerce site why the listing does in fact violate your IP. To date, we have succeeded with every takedown request seeking the removal of products that infringe our client’s trademarks or copyrights.

A few weeks ago, I sat on a panel in New York City at the Cardozo China Fashion Law IP Symposium, discussing mostly Alibaba and how to remove counterfeit products from Alibaba websites. For the video of that event, click here and go about 49 minutes in. To grossly summarize the seminar, China lawyers who routinely deal with Alibaba know how to fairly easily and fairly cheaply get counterfeit products removed from Alibaba websites, but the general public mostly do not. Why is this? The below recent email (which is actually a consolidation of multiple emails) from one of our China attorneys to a US gaming company seeking our help in removing counterfeit products from multiple China websites goes a long way towards explaining this easy/difficult split:

Our China lawyers regularly work on takedown matters across multiple websites, including many Alibaba websites. Every Chinese website has its own protocols, and the key to getting products removed is to follow that site’s protocols. You express an interest in suing these websites and we do not advise that unless and until we have sought to get your products taken down and failed. Lawsuits are expensive and based on our track record in securing takedowns, the odds are overwhelming that we will never need to file one on your behalf. To put things in perspective, we have never filed one. There is actually a big lawsuit pending right now against Alibaba, here in the U.S. no less, but that lawsuit deals a lot more with why so many counterfeit products show up on Alibaba websites in the first place than it does on Alibaba’s failure to take down counterfeit products once on one of their sites.

You are correct that only the copyright or trademark owner or its authorized representative can make takedown requests. However, sites vary as to the sort of authentication they need for a Power of Attorney and most of the sites with which we deal know us well enough such that they rarely, if ever, require that we provide them with formal Power of Attorneys to achieve a takedown.

The most important thing is that if you want to get traction, we will need to show proof that you have registered your IP (copyright or trademark) somewhere. Some sites sometimes will takedown products with foreign IP registrations, but China registrations are always much better. Technically, China is obligated to recognize copyrights registered in any Berne Convention signatory nation, but explaining China’s WTO obligations to a 21-year-old customer service representative seldom works. And as you can probably imagine, securing the removal of copyrighted IP for which a copyright has never been registered anywhere is even more difficult. This is why gaming/video/music companies so often complain about how difficult it is to secure counterfeit takedowns from Chinese websites. By the time they get their China copyright registration and can submit a takedown request, the damage has been done. How many people will still be downloading today’s big game six months from now?

Another thing to consider is that the more sophisticated/well-heeled the website, the more likely it is that they have a formal takedown procedure, or perhaps even a full-fledged website for submitting complaints. This is what Alibaba does. For the smaller websites, we generally have to contact someone directly because there are no instructions on the website or they are hopeless. But unless the website is a pirate site (which is rarely the case), it does not want to be sued for hosting counterfeit or pirated content and so long as we do all the work for them, they’ll be happy to take down rogue products and content.

Finally, you should be aware that once this whole takedown process begins, it’s pretty much ongoing. The pirates and counterfeiters don’t just give up because their first upload got taken down. And even if we stop one or two of those who are counterfeiting your game, we should expect more to pop up. We constantly need to monitor and report. One of the things we can and should do though is try to figure out who is doing the counterfeiting, how they are doing it, and what we can do — if anything — to try to stop it or slow it down.

My law firm has an Alibaba account that makes us eligible to seek removal of links that infringe our clients’ IP. We do this by submitting proof of identification and authorization, as well as information regarding the IP which is being infringed upon. This is accomplished by our providing the following to Alibaba: (i) our client’s “business license,” (ii) any formal IP registration documents and (iii) (sometimes) a power of attorney signed by the client, authorizing us to file the complaint on its behalf. We also submit the following information: the IP registration number(s), the title of the IP, the name of the IP owner, the type of IP, the country of registration, the time period during which the IP registration is effective, and the period during which the IP owner wishes to protect its IP rights. We translate these documents into Chinese to make things easier on the Chinese website company and because doing so greatly speeds things up.

After submission, it typically takes Alibaba 2-5 working days to verify our information.

Once Alibaba verifies the information we provide, we provide the infringing links and removal virtually always quickly occurs. For complaints concerning patent rights, we also need to provide proof of the connection between the infringing material and the IP being infringed. Alibaba normally takes 5-7 working days to process a complaint, which typically consists of passing along the complaint to the infringing party.

If the infringing party does not respond to the complaint within three working days of receipt, either by deleting the infringing link or by filing a cross-complaint, Alibaba will delete the infringing link. Absent prior written permission from Alibaba, the infringing party would then be prohibited from posting the same information on Alibaba again. If the infringing party files a cross-complaint, we would then need to deny the cross-complaint, and then Alibaba would handle the “dispute.” Alibaba normally takes about 2-5 working days to resolve such disputes. As you would imagine, counterfeiters almost never file a cross-complaint; they just slink away.

We have achieved similar results with China’s other leading and legitimate online marketplaces. But as you would expect, China’s smaller and sketchier marketplaces are more problematic when it comes to IP protection.

Bottom Line: If your IP (your trademark or your copyright or your patent) is registered in China, securing the removal from Chinese websites of products that infringe on your IP is relatively easy. If your IP is registered in a country other than China, securing the removal from Chinese websites of products that infringe on your IP can be accomplished, but not always. If your IP (your unregistered U.S. trademark, for instance, or your unregistered copyright) is not registered anywhere, your best strategy for securing removal of infringing products is to register it first and then seek removal, rather than to seek removal first.

Copyright Pledges in China Film & TV Finance

Posted in China Business, China Film Industry
China film copyrights

Copyright pledges in China. Difficult, but not impossible.

Copyright in China is a bundle of personal and property rights attaching to certain types of works. Copyright works include written works (such as screenplays) and cinematographic works (such as motion pictures). The rights in written works include a right of cinematography, being the right to adapt the written work into a cinematographic work. Producers exercise this adaptation right when they turn a screenplay into a motion picture. The rights in the resulting cinematographic work include the right of public presentation or exhibition, certain broadcast rights and the right to communicate through an information network.

Chinese law provides for the registration of a pledge over copyright works. The regulations refer to the “recordal of a copyrighted work deposit.” China’s pledge system is recognized by WIPO. The pledge is a kind of security interest in support of a loan. An advance of funds on account of development, production or distribution costs, under a contract, can qualify as a loan for the purposes of a pledge. The lender need not be a Chinese entity. It could be a foreign studio, producer, distributor, investor or bank, as long as the copyright concerned is owned by a Chinese entity.

Assembly, a 2007 Huayi Brothers release, was reportedly the first motion picture over which a pledge was registered. China Merchants Bank was the lender. There have since been many accounts of pledges over motion picture copyright and broadcast rights in television programs. Deutsche Bank and Standard Chartered Bank Hong Kong are among the lenders reported to have relied on this form of security.

Though a framework exists, the registration of pledges is not yet common in the Chinese film and TV business. There are several reasons for this. Completion bonds or completion guarantees are only in their infancy here. The existing regulations are not comprehensive and they lack clarity in key areas. There is also no reliable system for assessing the value of copyrights. The main difficulty is the registration of a pledge over future copyright or a copyright expectancy. But, as with so many things in China, difficult does not mean impossible.

China Manufacturing Contracts: Yet Another Reason Why You Should Have One

Posted in Basics of China Business Law, China Business, Legal News
Drop the stick and back slowly away from the horse carcass.

Drop the stick and back slowly away from the horse carcass/Know when to walk away.

What with China’s economy slowing, our China lawyers are getting a fairly steady stream of emails and phone calls from companies (mostly America) whose Chinese manufacturers have shut down and/or disappeared. The below is email correspondence I recently had with one of these companies, changed to camouflage anything that might enable anyone to identify this company. I chose this American company simply because its sitaution nicely highlights what so may companies that engage in China OEM manufacturing have been going through the last few months. I start with this company’s initial email to me:

Hi Dan,

I’m running into an issue with one of my factories getting ready to close their doors and they have about $210K of our deposits. The factory is broke but they have a lot of assets in the factory.

Is this something that you can help with? Is there something that we can do?

After I determined that the potential client did not have a written contract with its China manufacturer nor did it have anything in writing that would have allowed us to trace its payments to ownership of any specific product made by the Chinese manufacturer:

To put it bluntly, your chances of ever seeing your money again are not terribly good, especially if they do shut down and the creditors come calling. Those creditors will say that, yes, maybe the factory owes you $210,000, but you have no claim to anything specifically owned by the factory (including the products it has sitting there that we would argue were made just for you). Wit this being the case, these other creditors probably will take priority over you or you will be thrown in with them. Many of these other creditors probably have contracts with the Chinese manufacturer making clear that money paid to the factory belongs to them unless and until the factory provides them with the product for which they have paid. Others probably have security interests in factory property.

Your only shot is to move as quickly as possible to try to get what you can though various tactics (letter writing, suing, etc.) before this company actually shuts down completely and starts the creditor feeding frenzy, but even there, your lack of a written contract will make things tough.

We’d be happy to try to help you but I have to tell you that your chances of success are probably less than 50% and so you have to ask whether your paying our hourly attorneys’ fees would be just throwing good money after bad. I do suggest though that you check in with your insurance broker/agent to see whether you might have any coverage for this sort of thing.

I am going to be traveling over the next few days with marginal internet so please text me if you want to get started on this. Like I said, it is urgent and the last thing I want is for any slowdowns to come on our end.

Just as is usually the case in these sort of situations (where we tell them that their chances are not good), the American company chose not to pursue things further in China, but instead to just walk away.

What are you seeing out there?


China Trade Terms: Just Do It Right

Posted in Basics of China Business Law, China Business, Legal News
We are not being pedantic. We just want to help.

We are not being pedantic. We just want to help. (photo by aliceinflowers, http://bit.ly/1L0l3Lp)

Listen everyone: if you purchase product from China, do not use FOB as a shipping term. Use FCA or CIF (my favorite) or even EXW. But eliminate FOB from your vocabulary today. After you do that, get a copy of Incoterms and learn what the above shipping terms mean and use them exactly as specified. Do not use the UCC: Incoterms only. Do not edit the terms. Just do do it right. If you do this, you do not need to read this post. But if you want some background, read on.

Before you decide this is just a trivial issue, think again. Before you go on, I want you to get on the Internet and look at some photos of the Tianjin Port after the recent tragic explosion. Now consider: reports are that over $600 million of autos and other items were destroyed while sitting in the port. Now consider: who bore the loss of that destruction. Was it the seller or the buyer? Now consider: did any insurance company pay for the loss? Or did they escape the obligation to pay because in fact no insurance covered the items sitting in the port waiting for delivery? If you thought the issue was trivial before, maybe that $600 million bill will make you think again.

So think about it. You are an U.S. company that purchases product from China pursuant to an contract manufacturing arrangement. The completed product is packed into a container at the factory, transported from the factory to the port by truck. The container sits in a processing yard at the port for a week and then is finally loaded onto the ship.

There is a lot that can go wrong in this process. For today, we will consider the issue of risk of loss. That is, who gets paid if the container is lost? What happens if the truck carrying the container to the port is involved in an accident and the entire shipment is destroyed? What happens if the container is stolen from the port? What happens if there is an explosion at the port and the container is destroyed? What happens if the ship sinks in a storm in the Gulf of Alaska? What happens if the container is offloaded and the same misadventures happen before the container is delivered to you, the buyer, at your facility in the United States?

Risk of loss is determined by the shipping terms used for the transaction. For international shipments, shipping terms have been carefully developed over many years and are currently embodies in Incoterms document written by the International Chamber of Commerce. Incoterms cover virtually all of the important issues relating to the international shipment of goods. Selection of a single term resolves virtually all of the important issues. For this reason, every buyer must decide what term will be used and then must operate in compliance with the selected term.

When I discuss this with clients, I find that they are indifferent. When I insist that the issue be confronted, they become irritated. They suggest that my insistence on precision is just the pedantic obsession of a lawyer that has no application to the real world of business. The opposite is true. Risk of loss is a fundamental issue for all international trade business. Failure to do it right is not a technical issue. Failure to do it right is a life and death issue for both sellers and buyers. The Tianjin explosion illustrates why.

So the issue is: where does risk of loss transfer? This issue is decided by the choice of shipping terms. In my experience, most U.S. buyers make the mistake of choosing Free On Board (FOB) as their shipping term. They make this choice as a pricing term. That is, they chose FOB to ensure that the price of the product does not include the price of insurance and freight to ship the product from China to the U.S.

When they chose FOB, these inexperienced buyers do not take into account the issue of risk of loss. Under FOB, risk of loss passes only after the product has been loaded onto the vessel (crosses the rail). Since risk of loss transfers when the product crosses the rail, the buyer purchases insurance that covers the product at that point. Now ask yourself: who has the risk of loss from the time when the product leaves the factory until the time the product is loaded onto the ship? The answer of course is that the factory has the risk of loss.

But I have NEVER encountered a case where a Chinese factory purchased insurance for the brief period between when the product leaves the factory and the time the product is loaded on the vessel. The factory just assumes the buyer has purchased insurance AS IF the risk transfers when the carrier takes delivery. But this is not true.

In my experience, during the period between delivery to the carrier and loading on the vessel, the risk of loss for the product is uninsured. If the buyer is aware that the product in uninsured, then that is a risk that the buyer willingly assumes. However, once again, I have never worked with a buyer that understood that they were taking this considerable risk with product that they may already have paid for. That is, many Chinese factories will demand full payment at the time the product is put into the control of the carrier. They do not want to wait until the product is loaded on the vessel since they can never be sure when this will happen.

The solution to this problem is simple. Use the right shipping term. As the drafters of Incoterms clearly state, for modern shipping by sea, the FOB term should never be used. The proper term is Free Carrier (FCA). Under FCA terms, risk of loss passes when the shipment is put into the custody of the carrier. It does not matter where the carrier takes delivery. It may be at the factory or it may be at the port. Since the buyer can be certain where risk of loss passes, the buyer can be certain that it has obtained the appropriate insurance. The issue of insurance is not left to the seller. The responsibility and benefit of insurance rests on the buyer which is where it belongs.

A related and even more difficult problem arises when buyers define their own terms that simply make no sense. In this area, the problems arise when buyers confuse risk of loss, transfer of title and acceptance of product. In a recent case, I reviewed a contract where a buyer provided that the shipping term would be FOB, but that risk of loss would transfer only after the product was delivered, inspected and accepted. FOB means risk of loss transfers when the shipment is loaded on the vessel. It does not mean anything else.

For this reason, the language provided by the buyer simply did not make sense. In fact, there is NO shipping term that provides for transfer of risk of loss under these terms. In this case, the buyer has confused risk of loss with acceptance of the goods, two entirely unrelated concepts. But, by providing internally incoherent contract language, the buyer did nothing but harm themselves. The only possible result is that insurance for the product would be purchased on entirely random terms. If the shipment is lost, will the insurance company pay? If they pay, who will they pay: the factory or the buyer? Who knows?

The purpose of a contract is to make business terms more predictable. This failure to use standard terms in the standard way just makes the situation less predictable, all to the detriment of the buyer. Why do that? It makes no sense to me. So just stop it and do the right thing. It’s for your own good.

China Company Directors and China Criminal Liability

Posted in Basics of China Business Law, Legal News
Prison. It's everywhere you don't want to be.

Prison. It’s everywhere you don’t want to be.

I was recently asked by a reporter about China director liability and I responded as per the below. Because my answer should be of interest to anyone who is a director of a Chinese company or who is contemplating becoming the same, I thought we should run it on here (modified a bit) as well.

Directors of major Chinese companies are lining up to go to prison these days. So director liability is a big issue in China.

That said, the concept of director liability in China is different than in the U.S. In China, the directors are assumed to be directly involved in the day to day business operations of the company. It is very rare in China to have directors who do no more than attend an occasional board meeting and merely review high level documents and policy decisions. For this reason, the directors who are going to jail are going to jail not because they “should have known” about the crimes committed by the company, but because they managed, promoted and supervised those crimes. Thus, the “prudent man” standard is not an issue; the issue is “criminal intent”.

Note also that the directors being prosecuted by the state for committing crimes are not being sued by their shareholders for not properly conducting their management duties. Rather, they are being criminally prosecuted for crimes committed by the company. But, in effect, they are being prosecuted and convicted because, in effect, they committed crimes like embezzlement, tax evasion, and insider trading. There are also cases in the product safety area where director knows the company’s product is not safe but instructs company employees to make the sale anyway.

If you want examples, just Google PetroChina, Citic Securities, Gome, China railroad or “melamine in milk scandal.” Those are all cases where directors and senior management were prosecuted and convicted for major crimes. The list is virtually endless, but those are the first that come to mind.

Who wants the position now?

China Employment Law: Hiring Employees from Hong Kong, Macau and Taiwan

Posted in Basics of China Business Law, Legal News


Hiring employees from Hong Kong, Macau and Taiwan

Hiring employees from Hong Kong, Macau and Taiwan. (Photo by T. Aquarium, https://bit.ly/1LB6tKl) 

Generally speaking, residents of Hong Kong, Macau and Taiwan may be employed in China if they satisfy the following conditions:

  1. They are between the ages of 18 and 60 (subject to a couple of exceptions noted below).
  2. They are in good health.
  3. They hold a valid mainland travel permit (issued by the PRC Ministry of Public Security).
  4. For certain occupations, they must also possess a qualification certificate in accordance with any applicable rules.

As mentioned above, the age requirement may be relaxed if the individual is an investor who will directly participate in the business operation, or if the candidate is a technical person immediately needed in mainland, China.

The employer needs to apply to the local labor bureau for an employment permit (台港澳人员就业证), usually by submitting the following documents:

  1. A copy of the employer’s business license
  2. A health certificate (issued by the port hospital of the relevant entry and exit inspection and quarantine department)
  3. A letter of intent or a labor contract with the employee (even though a letter of intent would usually suffice, we recommend you have a written employee agreement with the employee) or other document that can prove the employment relationship
  4. Any applicable professional qualification certificate
  5. The employee’s valid mainland travel permit

The labor bureau will usually make a determination within 10 working days after receipt of all necessary application materials.

Just make sure you do it the right way.

China Antitrust: The Practioner’s Guide

Posted in Legal News, Recommended Reading

I began my legal career as a big firm antitrust lawyer and I have remained interested in the topic ever since. So when the good folks over at big firm Sheppard Mullin offered me a chance to review a China antitrust book by one of their China lawyers, Becky Koblitz, I jumped at the chance. Truth is that serious books in English on Chinese law are few and far between these days.  And this is a serious book. But not unenjoyable either.

Doing business in China? Get this book.

Doing business in China? Get this book.

The book is The Practitioner’s Guide to Antitrust in China and (not surprisingly) that is exactly what it is. It is much more geared towards the practicing lawyer/in house general counsel than to the law student or academic.

The book does an exceptional job covering China’s anti-monopoly laws and putting them in their practical context. As a small firm that represents mostly SMEs or multinationals on specialized China matters, my firm is not going to be doing much big-time antitrust work in China. But, we constantly handle intellectual property rights issues and the book contains an excellent chapter on intellectual property and that chapter includes the following sections: 

CHAPTER 7 Intellectual Property 127

§7.01 Background 127

  • [A] Intellectual Property Rights in General 127
  • [B] IPR and Antitrust Law 128
  • [C] Intellectual Property Law in China 129

§7.02 IPR and Antitrust in China under the AML 130

  • [A] AML 130
  • [B] SAIC Rules 131
  • [C] AML and the Patent Law 132
  • [D] Other Legislation 133

§7.03 How IPR Have Been Dealt with When the AML Is Enforced 133

  • [A] MOFCOM 133
  • [B] Civil Action: Huawei v. InterDigital 136
  • [C] Government Investigations 137 [1] InterDigital 137 [2] Qualcomm 138

§7.04 Putting Things in Perspective 

I put the above in here as it is representative of how nicely arranged each chapter is and of how most of them conclude with a section entitled “putting things in perspective,” which does exactly that.

The China attorneys at my firm also surprisingly often deal with Chinese unfair competition matters and the book covers that quite well too. Management and legal counsel for foreign companies operating in China or even just doing business with China should do what they can to keep up with China’s fast-paced antitrust developments and this book is the best out there for doing exactly that. It is clearly written and reads well. I mostly skimmed it from beginning to end, to get a quick overall sense of the issues, figuring that I could always return to it when a client next comes to us with a relevant issue. Of course, in the end we must go to the laws and the cases in Chinese for a deeper dive but this book serves as an excellent and fast gateway towards that.

If you are an English speaking lawyer involved with China, you should get this book, read it (quickly is fine) and then keep it nearby.

China Manufacturing: NDA v. NNN v. OEM

Posted in Basics of China Business Law, China Business, Legal News
Want to keep your secrets secret? Use a China-focused NNN Agreement, not a US-Style NDA.

Want to keep your secrets secret? Use a China-focused NNN Agreement, not a US-Style NDA.

Much of our China legal work still involves helping foreign companies navigate the legal terrain with respect to their China manufacturing. This means that one of the most common things we do is alert our potential clients to the need to use a China-focused NNN Agreement with China manufacturers because US-style NDA Agreements simply do not cut it.

The below is an email that one of our China lawyers sends out pretty much every week (or some variation thereof):

Your NDA with China Company A is of almost no value with your Chinese suppliers. The only way this NDA would be relevant is if China Company A were to disclose some confidential information to these suppliers without your permission. The more likely scenario is that the Chinese factories will simply start selling your product directly to your customers or to third parties. This NDA doesn’t address that scenario, and even if it did, the only company you could hold responsible would be China Company A. I note that China Company A is a Chinese company. This NDA is governed by New York law, and requires the parties to file suit in New York City. Even if you filed suit in New York City and won, you would then need to enforce the judgment in China (which is not going to happen), and it assumes that China Company A has money, which is speculative.

The best way to protect your IP against your Chinese suppliers is to have each one sign an agreement stating that it won’t steal your IP, and if it does it will incur clearly defined damages. The NNN agreements we draft can easily be modified for use with other companies. Note, however, that if these suppliers are already making product for you, then an NNN is probably not the best agreement as it will only address a small part of the overall relationship. If you are in that situation, you really need an OEM Agreement. To know what sort of agreement you do need, I’d want to know more about what, exactly, you’re doing in China. I can say however say that an OEM/Contract Manufacturing Agreement seems the most likely possibility.

Just let me know if you have any further questions.


How To Close A China WFOE Without Going To Jail

Posted in Legal News
Closing a China WFOE. It's complicated

Closing a China WFOE. It’s complicated.

Our China lawyers have of late been handling far more WFOE closures than ever. The below are composites of various recent emails we have sent to clients regarding the closing of their WFOEs. To preserve confidentially, we have removed any identifiers and shortened and simplified them for purposes of this post.

The first email is to a client whose WFOE (we will call it Beijing XYZ WFOE) has already had its license revoked.

We were asked to review your situation with respect to your Beijing XYZ WFOE in China.

Your questions concern the current status of your WFOE and the issues of formally closing it under Chinese law. You have also asked us to explain the impact of failing to close this WFOE.

As will be fully described below, the Chinese government has already revoked the business license of Beijing XYZ WFOE. As the legal representative of XYZ WFOE, you are required to carry out a proper liquidation of the company. Such liquidation requires payment of taxes, payment of salary to employees and payment of all major debts of the company. This has not been done. In this situation, you will be held personally liable for damages caused by nonpayment. This means that your entry into the PRC may be barred. More seriously, it could mean that you could be arrested after entry into the PRC. For this reason, you should not enter the PRC until after a proper liquidation of Beijing XYZ WFOE is completed. If such liquidation is not possible or if the shareholders choose not to liquidate, you should not enter into the PRC for at least the next three years, if ever.

When a license is revoked, the following is required:

  1. The company must immediately cease doing business. This means, for example, that all websites and other public announcements where the company offers to do business in China must be taken down.
  2. The official company seals must be collected and deposited with the licensing authority.
  3. All taxes and fees owed to the national and local governments must be paid.
  4. All salary owed to employees must be paid.
  5. The legal representative (you) and the directors of the company must immediately liquidate the company in accordance with the China Company Law and local procedure. All company assets must be used to pay creditors in accordance with the liquidation procedure. Use of the company assets for any other purpose is a crime.

You as the legal representative and the other directors are personally liable for any damages caused to creditors for failing to strictly comply with the above requirements. In this case, since the amount of tax owed is significant, the risk for failure to follow these rules is high.

When a proper liquidation is not completed, the names of the legal representative and the company directors (and sometimes others tied to the company) are placed on a black list. Failure to pay taxes, failure to pay employees and failure to pay a major creditor are normally noted on the black list. The black list is shared with the PRC border control authority and those on the list are usually denied entry into China. This is particularly common in Shenzhen for persons entering the PRC from Hong Kong. Though not common, persons named on this list are sometimes allowed to enter China and then immediately arrested. Entrance and arrest is more likely if the monetary amounts are large or if a government agency is involved (taxes and fees). For this reason, you should not to enter into the PRC until after a proper liquidation of Beijing XYZ WFOE has been completed.

The following are the major legal consequences resulting from the revocation of the Beijing XYZ WFOE business license:

  1. As legal representative, you will not be permitted to act as a director, manager or supervisor of a Chinese company for at least three years from the date of revocation.
  2. The shareholders of Beijing XYZ WFOE will not be permitted to invest in another Chinese company for at least three years from the date of revocation.
  3. The name of the company cannot be used for at least three years from the date of revocation.
  4. The name of the company, the representative director, the shareholder and the directors (and perhaps others tied to the company) will be placed on a national “black list” maintained by the Chinese police, border control authorities and State Administration for Industry and Commerce (SAIC). The black list period is normally for three years. However, some local authorities will maintain the black list for five years. During the black list period, it is difficult or impossible for any person or entity named on the list to engage in investment or company management in China. Though not common, such persons may also be denied entry into China. Normally, however, if proper liquidation is completed there is no risk that such persons will be arrested after entry into China. Note though that unless and until your company pays its taxes, employees and major creditors in full, the consequences for you could be much worse and the time frames much longer.

The below email relates companies whose business licenses have not been revoked, but are looking to close down their China WFOE.

We reviewed the status of Shanghai ABC WFOE with the Shanghai/Jingan office of the SAIC, which has authority over the company. The SAIC informed us that there are no current legal or administrative actions being taken against Shanghai ABC WFOE. This is confirmed by the Shanghai SAIC website. This means that the Shanghai ABC WFOE business license is currently valid and that the company is fully authorized to do business.

I must caution you that failing to properly maintain the company registration status will eventually result in a revocation of the business license. [Such a revocation would have the same consequences as reported above for Beijing XYZ WFOE].

With respect to Shanghai ABC WFOE, the shareholders have the following two options:

  • Maintain the legal status of the company. This requires 1) filing of all annual reports and the annual audit, 2) filing of annual tax return and payment of all taxes, 3) maintaining a legal office.
  • Liquidate the company in accordance with PRC law. With respect to liquidation, the process is complex and time consuming. Though you indicate that you believe that no taxes are due and that there are no company debts, this cannot be confirmed without a proper liquidation. The Jingan authorities can be quite creative in finding taxes and fees that have not been paid.

The alternative to proper liquidation has been described above.

For more on what it takes to shut down and liquidate your China company, check out the following (but please note that some of what is required is local — very local):