By: Steve Dickinson
The China Economic Review recently published this column by CLB’s own Steve Dickinson, entitled, “Foreign Managers Are Not Above the Law.” [link no longer] It bears mentioning that Steve wrote this article in China (where he lives and works) before the news of the Peanut Corporation of America’s salmonella outbreak in the US.
Here’s Steve’s column:
The San Lu tainted milk scandal reached a typically Chinese conclusion on December 31, 2008. On that day, San Lu group chairperson Tian Wenhua and three other top group executives pleaded guilty to the crime of production and sale of substandard product. Since at least six deaths occurred, the defendants face a maximum penalty of life imprisonment or death.
Resolution of the tainted milk scandal followed a fairly typical Chinese pattern:
• San Lu was forced into a government-supervised bankruptcy.
• An industry wide compensation fund was established and managed by the government.
• Individuals considered responsible were subject to criminal sanctions, pleading guilty in non-public trials featuring rehearsed written confessions.
• Civil tort lawsuits against San Lu were rejected on the ground that the public criminal and bankruptcy proceedings preempted the private litigation process.
A key feature of this process is the use of harsh criminal sanctions against company executives. In the U.S. or Europe, it is almost unheard of for a high-level executive to be criminally sanctioned for a food safety or pollution violation. The opposite is true in China. Where there is major damage affecting a large number of people, private civil action is considered inadequate. The issue is public and requires a public response. A key element of the public response is that punishment must be imposed. Financial sanctions imposed on a lifeless company are not enough: some human being must suffer.
This is an important issue for foreign investors in China. Every year, China approves 25,000 or more foreign owned businesses in China. Many of these businesses engage in manufacturing in China and an increasing number sell their products in China. It is simply a fact of life that manufacturing and sale of products can result in damages to the public and to consumers. Modern businesses attempt to reduce such damage to a minimum, but even in the best of situations, damage can occur. In the West, liability for such damage is usually resolved within a well-developed system of private tort law. Foreign managers in China normally assume the same is true in China and that they will never be held personally responsible for damages caused by the company.
The San Lu case shows this is not true. Under the Chinese system, causing damage can be a crime, and the person who is responsible for the damage can be held criminally liable. This is true even when the manager had no direct involvement in the activity that caused the damage. A manager whose duties included supervision of the specific activity can be held liable even if the manager had no actual knowledge of the criminal acts. The treatment of the San Lu defendants illustrates this principal. The defendants were the Chairman of the Board and three general managers of the group company. The crime was committed by a subsidiary company over which none of the defendants had direct management control. However, the lower level managers who actually committed the crimes were not prosecuted. Instead, the senior managers of San Lu were prosecuted and convicted. They are now facing life imprisonment or death for actions that they did direct and over which they may have had no control.
The risk of such a result is always present in China. Consider the following examples:
• A chemical manufacturing plant experiences a major breakdown due to faulty equipment and a dangerous chemical is released into a local river. It is shown that engineering staff were aware of problems with equipment and chose not to make needed repairs.
• A food manufacturer suffers a bacterial infection in its food product leading to illness or death in children who consume the product. It is shown the quality control staff were aware of high levels of contamination but chose to continue production.
• A disgruntled employee of a drug manufacturer inserts poison into an over the counter medicine, leading to death and injury to consumers. When initial reports are released concerning such deaths, direct supervisory staff deny the problem is related to the company product and more deaths occur.
These kinds of situations are distressingly common in China. Even where foreign management seeks in good faith to introduce best management practices, it is not unusual for this to have little effect on the day-to-day practices of local staff. It is also not unusual for a foreign manager to be convinced to do things according to “local standards.” Such so-called “local standards” often not only are not in accord with industry best practices but they also often violate the strict provisions of Chinese law.
When foreign management learns damage has occurred, their concern is that the company will be sued and liability will be so severe the company may be seriously damaged or even forced into bankruptcy. It is rare for foreign management to consider the possibility the event will be treated as a crime and that the foreign Chairman of the Board and senior management will be subject to criminal sanctions. As the San Lu case shows, the risk of exposure to criminal sanctions is very real and must be carefully considered by management of every foreign company operating in China. The next time local staff recommends ignoring industry best practices and Chinese law concerning health and safety standards, the foreign manager should consider the issue carefully. Is the financial benefit to the company worth the potential for an involuntary stay in a Chinese prison, or worse?

  • B

    Using this same logic how liable were New Zealand managers (Fronterra, a NZ company owned 43% of Sanlu) in the scandal?
    Some of these situations seem a bit hard to control so maybe foreign managers should have a light bag packed somewhere at home/at the office and know the best exit strategy. I have no affiliation with them but there are companies in the region who specialize in emergency evacuation.

  • Almost seconding B: Why did Fonterra get away scot free? So far we’ve only seen Chinese in court while the foreign (almost) half gets to parade its presumed innocent. I know I’m not the only Kiwi who doubts Fonterra’s innocence.
    This is not to suggest that foreigners can get away with anything. I would dearly love to see Fonterra held to account for its actions, both in China and in New Zealand.

  • Duncan

    Interesting post, and all good points, but the situation is complicated by a number of other factors including:
    1) Government is often more reluctant to punish foreigners in high profile cases (indeed, I struggle to think of any foreigner who has been sentenced to heavy time in a high profile case, despite the fact I’m pretty sure a few have been implicated e.g. in bribery).
    2) Government tendency to throw accusations of product quality/safety flaws at goods made by foreign companies in order to score political points, especially as part of trade disputes.
    3) Foreign firms’ tendency to at least have stringent calls for safety as part of company culture, despite lapses in practise. I’d be interested to know how these sorts of measures, presumably the starting point for what one should expect of management, would affect the government’s attitude towards finding parties to punish.

  • Quote: In the West, liability for such damage is usually resolved within a well-developed system of private tort law.
    It’s also the case that in the West, there is a well enough system of food inspection and health and safety regulation that things don’t quite get as bad as they do in China where these systems are not well developed.
    Quote: Instead, the senior managers of San Lu were prosecuted and convicted. They are now facing life imprisonment or death for actions that they did direct and over which they may have had no control.
    This isn’t true. The specific charges against the senior managers was that they failed to act after learning that the milk was tainted, and as a result endangered public health and safety. In the case of the general manager of Sanlu, she is appealing the verdict on the grounds that the court failed to consider evidence that she did act reasonably in response to the information presented to her.
    The law of criminal responsibility in China doesn’t seem to be that different from that of Western countries, and if a manufacturer of milk in the United States made the same sets of decisions that Sanlu made, they could be subject to the same sorts of charges. They haven’t in the past, but the political winds may be shifting.
    See
    http://www.ajc.com/metro/content/printedition/2009/02/01/prosecute0201.html
    Also, it wouldn’t surprise me if China is takes the lead on this issue and Western countries start using criminal law to address health and safety issues, and this becomes an issue for international cooperation.
    In that situation, “leaving China” wouldn’t save you since, you may be subject to extradition/prosecution by Western courts, who may react in the same way as Chinese courts.

  • It seems clear to me that the main reason that Fonterra wasn’t punished was because that once they found out about the problem they were the people that brought the problem to the attention of the government rather than try to cover it up.
    I need to emphasize again that the defendants were charged not with being managers, but with knowing that there was a life threatening situation and failing to do anything about it. This whole exercise is designed to encourage managers to bring to the attention of the government issues that affect public heath and safety, and punishing people that do actually do that defeats the whole purpose.

  • Hi…
    This is not to suggest that foreigners can get away with anything. I would dearly love to see Fonterra held to account for its actions, both in China and in New Zea land.

  • James

    chriswaugh_bj and Rockon –
    You assume that owning a 43% stake allows you some degree of actual control of the company.
    Not in China.
    They couldn’t stop the company they owned 43% from doing whatever they wanted.
    Why would they be guilty of something they tried to stop and were prevented from stopping?

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  • asdfasdf

    As an American, I’m more fond of what China is doing to addressed such criminal acts. Here in the US, those with money and power do whatever they want, and if they get caught, get a slap in the wrist.