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Owe Money To A Chinese Company? No Need To Pay.

Posted in China Business

If you owe money to a Chinese company for product and you cannot pay all of your creditors, skip out on the Chinese company. Near as I can tell, there is nearly a 100% chance they will never sue you to recover.
I am NOT advocating not paying your debt, but I am saying that if you have to choose among your creditors on who to pay, the Chinese company should be your choice. I am saying this based on the following:
1. About a year ago, a client had come to me for a consultation regarding a dispute it was having with its Chinese OEM supplier. The Chinese company was threatening to sue my client for about $350,000, per its invoices. My client was refusing to pay the Chinese company due to a spate of bad product. My client was seeking a $150,000 credit for the bad product and the Chinese company was refusing and threatening to sue. I advised my client not to pay anything, based on two legal maxims. One, possession is nine-tenths of the law, and two, never fund someone who is threatening to sue you.
So I met with this US client last week on something completely unrelated and I asked him “whatever happened with that Chinese supplier that had been threatening to sue you?” His response was that absolutely nothing has changed. Every few weeks, the Chinese company emails seeking its $350,000 and threatening to sue. My client responds by offering $200,000 in full settlement and the Chinese company refuses. We laughed and moved on.
2. Many years ago, my firm was retained by a Chinese company to collect on approximately $500,000 owed the Chinese company by a US company. My firm mapped out our litigation strategy, which involved suing an Alabama based company in Washington Federal Court. We spent an inordinately long time discussing with the client the costs involved in such litigation and the strategies we would employ. The Chinese company hired us and sent us a decent sized retainer.
We emailed the Chinese company to say the retainer had arrived and they emailed me back with a laundry list of things we should do on the case. Nothing on that list corresponded to what we had told them we needed to do and one of the things on the list was flat out ridiculous. We had a few weeks earlier told the Alabama company that if they did not pay by such and such a date, we would sue them. Amazingly enough, item #1 on the list from the Chinese client was that I fly down to Alabama to try to talk settlement. We wrote the Chinese company and explained that they had hired us because we were US attorneys and, as such, we know what we are doing in terms of dealing with US companies on what had now essentially become a US case. We told the Chinese company that the absolute worst thing we could do would be to fly to Alabama to talk settlement and that doing so would be tantamount to our saying that we were not really serious about suing. The Chinese company then confessed that they were not really serious about suing and that they just wanted us to settle the case. I then gave them the maxim about how you have to be prepared to try a case to settle a case and they told me they had decided not to go forward with the matter and asked us to return the retainer, which we did.
I emailed them the other day just out of curiosity to ask how their case was going and they asked us to take their case on again. We vehemently declined and noted how they needed to retain an attorney immediately because they were now facing serious potential statute of limitation problems.
3. We were once contacted by a Chinese company owed around $300,000 by an American company. We asked him all sorts of questions about the debt and he gave good answers so we asked him to send us the documents. Turns out his debt was about ten years old and way past the time we could sue. We asked him why they had waited so long and the explanation was that they had been trying to work it out. I am not kidding.
My firm has been handling cases like these for Korean and Japanese and Russian and German and companies from other countries for years. China is different. Sorry.
This is not to say, however, that foreign companies that do not pay may not face repercussions other than a law suit. For example, if you are a foreign company with a real presence in China, not paying a Chinese company might end up causing you real problems in China and you must consider this before choosing not to pay. Just by way of example, we represent a large Chinese manufacturer in an industry where there are only around five companies capable of manufacturing this particular product. Our Chinese client is owed millions by a US company and that US company figured it would not need to pay. What this US company did not figure was that our client would alert the other manufacturers of the non-payment and now none of those manufacturers will make product for this US company either. Once the US company started running out of product, it started paying our client again. On the other hand, if you have but a small presence in China and you can switch your manufacturing over to some other country….
What are you seeing out there?

  • http://granitestudio.org Jeremiah

    Dan,
    I have no legal background and little interest in business per se, but I always find posts like this fascinating. I have no idea why. Keep up the great work, I enjoy your case studies.

  • Therese

    I am NOT advocating not paying your debt, but I am saying that if you have to choose among your creditors on who to pay, the Chinese company should be your choice.
    Shouldn’t that be that the Chinese company should be our last choice?

  • robert

    Dan, especially with 2. and 3., spot on. Glad it’s not just me. Commiseration is good for the soul.
    Of course, right now I’m catching it the other way, with the Americans giving the laundry list and instructing, from their perspectivce, how to deal with the Chinese. Chinese just love cram-down tactics from the Americans. Pushes all the buttons.

  • http://www.edarling.es/ Laura Amor

    But how does it work then? when chinese company so dealing, how do they make profits?
    i have a lot of interest to learn how chinese companies work, i´m absolute agree they work in another way as other companies.

  • http://docs.law.gwu.edu/facweb/dclarke/ Don Clarke

    I was once involved in a case involving the Chinese statute of limitations; it turns out that simply asking for the money resets the clock, so as long as you send demand letters every once in a while, it never runs out. (I doubt if the Chinese creditors know this, so that doesn’t explain their behavior; I just note this as of possible interest.)

  • http://twofish.wordpress.com/ Twofish

    Of course just by posting this, you make the advice obsolete. Chinese companies don’t ask for money because they are under the belief that not asking for money is the best way of dealing with the situation. Once they figure out that this isn’t true (and it may take a few years), then the behavior will change.

  • waz

    Yes but….
    Caveat
    So you enjoy an open ended travel ban?
    If not then NEVER get involved in a commercial dispute and be in China at the same time (double warning for a smaller city).
    Owe your money from overseas, not locally.

  • robert

    Waz has an excellent point.
    Dan, can you or Steve point to any Chinese law that actually authorizes the detention of foreign nationals pending CIVIL litigation? They sure do love threatening that one.

  • James G

    Dan,
    Keep up with the fascinating posts. It’s only a matter of time before there is a reality show based on lawyers. What could be better than a hilarious show, based in international locales, with subtitles and (at times) nationalistic and scandalous subplots?
    I too, like Jeremiah, cannot believe I get so inerested in (IMO) what has previously been a boring part of the law. I have known several Chinese lawyers quite well, and none of them had anything interesting to say, even during Shanghai’s really go-go time of several years ago.

  • http://twofish.wordpress.com/ Twofish

    I don’t really think this is a good idea.
    Remember reputational sanctions. If you stiff a Chinese company, I think you’ll very quickly figure out that even though they won’t get a court order to collect your money, that every other supplier and vendor in the area will suddenly and mysteriously refuse to do business with you.
    There are a number of reasons why Chinese companies don’t pursue civil litigation:
    1) there is a flip side to the fact that Chinese companies respond to demand letters. They expect US companies to be under the same constraints and to respond to demand letters,
    2) if you pursue a lawsuit then the business relationship is over. In many cases, keeping the business relationship going is worth more than the debt.
    3) suing is pointless if the counterparty doesn’t have any money,
    4) suing is dangerous if the other side can hit back. If you go into court over a debt, and the other side pours out dirty laundry which may or may not be true, then you may suffer a reputational hit.
    Once Chinese companies figure out that the business environment and assumptions that they use to deal with other Chinese companies are different from the one’s that they use to deal with American companies, then the behavior will change.
    As far as detentions go. In practice the police have pretty much unlimited authority to harass and detain people for short periods of time for investigation. However, most Chinese companies just *don’t* have political pull to get the police involved, and they are usually bluffing if they imply that they do. Even people with connections are very reluctant to use them, because every time you pull a connection, you owe a favor.
    Funny story: I know someone that does business in China that got his picture taken with President Clinton. In practice, it is trivially easy to get your picture taken with shaking hands with the President, since all you have to do is to donate the campaign limit (which I think was $1000 at the time), and then next time the President is in town, you can get a picture as a souvenir.
    However, most people in China don’t know this.

  • http://twofish.wordpress.com/ Twofish

    One other thing is that if you cannot afford to pay all your creditors, then you have a pretty big problem. If you can’t work something out with your creditors, you run the risk of being served with a petition for involuntary bankruptcy.
    Also, I find that lawyers sometimes vastly overestimate the frequency and effectiveness of lawsuits. Most likely because if something gets resolved without a lawsuit then the lawyer never sees it. Most American small-medium companies that are faced with bad debt will not sue to collect it, because if you have someone that can’t or won’t pay their bills then a court judgment is just not going to help you very much. Instead, what most companies will do is to resell the debt to a debt collector and go on with their business lives.
    The thing that keeps people paying is not the threat of a lawsuit. The thing that keeps people paying is that business whether American or Chinese depends on maintaining good relationships, and if someone owes you money, you are not going to ship them any more product or provide any more services, and that’s usually enough sanction to keep someone to pay up. If it isn’t that adding a court judgment isn’t usually enough to make much of a difference.

  • http://twofish.wordpress.com/ Twofish

    I’m sort of curious how you end up with these large sums in arrears to begin with. Normally in international trade takes place through irrevocable letters of credit which are intended to prevent these sorts of situations from happening.

  • jerome Cole

    It happens because buyers often need suppliers to extend credit.

  • robert

    This had the potential to be an interesting thread.

  • Eion

    robert: it depends what you mean by “detention”. The “travel ban” mentioned by waz is certainly very real. Under Article 23 of the Law of the People’s Republic of China on Control of the Entry and Exit of Aliens, “persons who, as notified by a People’s Court, shall be denied exit due to involvement in unresolved civil cases… shall not be allowed to leave China”.

  • Eric

    Good points. Let’s see how Chinese companies will respond when they read this writing.

  • http://twofish.wordpress.com/ Twofish

    If you need credit, go to a bank. If a bank won’t give you credit, then it’s not a good idea for a supplier to issue what is basically an unsecured loan. In that case, you don’t go to court to sue, you go to court to foreclose.
    The only case in which a vendor should even consider issuing credit is if it’s to a trusted buyer with an extremely good credit history and a long standing relationship.

  • fct

    Let’s translate this post back to Chinese and post online. See what impact it will have. Should be interesting.

  • robert

    Twofish, at first I thought you were trolling, but now I think you take your comments seriously. How old are you?

  • http://twofish.wordpress.com/ Twofish

    About 40-ish.

  • http://twofish.wordpress.com/ Twofish

    Also most of my business experience have been in high technology industrial software and finance industries (with some exposure to real estate). About 90% of what I’ve seen is US-based, but I’ve seen some US-China trade.
    If what I’m saying makes absolutely no sense to you, then it means that I’m see a different part of the elephant than you are, and I’d be glad to hear what you are seeing.
    People in the industries I’m familiar with are highly reluctant to sue each other. Both industrial software (not consumer software) and finance are very strongly relationship based, and suing someone over an undisputed debt tends to be the business equivalent of filing divorce papers. (There are sometimes reasons to file a “amicable” lawsuit if there is an issue in dispute.)
    If someone doesn’t sue or threaten to sue, then the lawyer doesn’t see anything, and if someone doesn’t ask for a loan or a letter of credit, then the bank doesn’t see anything. So lawyers tend to overestimate how often people sue, and banks often overestimate how often letters of credit are used.

  • http://twofish.wordpress.com/ Twofish

    One other thing to think about.
    Japanese, German, Korean, and Russian companies involved in international trade tend to be high-margin capital-intensive. Chinese companies tend to be low-margin capital non-intensive. Capital-intensive companies tend to have much better lawyers since lawyers are basically a capital expense.
    Could this be why things are what they are?

  • Anonymous

    The reluctance of the chinese for suing rooted in the chinese tranditional culture,which considers litigation as “eivil” .People hate to sue,and even hate to have any dispute with others.Thus they are tending to have the dispute resolved harmoiously by settlement.

  • http://twofish.wordpress.com/ Twofish

    I dislike arguments based on “Chinese traditional culture” since they tell you nothing about what has changed and why.
    Chinese traditionally practiced foot binding and didn’t eat McDonald’s hamburgers.
    Even if we accept that lack of lawsuits is part of “traditional Chinese culture” then why has that part of “traditional Chinese culture” not changed when people are eating hamburgers and not practicing foot binding.
    The other thing is that historically it is inaccurate. If you go to the 19th century court records, there are tons and tons of Chinese lawsuits over just about everything. The volume of lawsuits drastically decreased in the early-20th century, but that appears to me at least to be because the government structure just fell apart.

  • http://www.chinalawblog.com/2009/07/china_hostage_situation_when_m.html China Law Blog

    China Hostage Situation. Now Is A Good Time To Pay Your Debts.

    Just got an email from a regular and very much trusted reader. The email (with all identifiers removed) is as follows: Consumer product company had a rep office – staffed with 2 people with US passports. Company had financial problems and needed to fil…

  • justin jiang

    in my point of view, it may be because Chinese is less biligerent than the other nations who readily resort to litigation to addess disputes.

  • kw

    I am happy to report that this post had been posted to a Chinese Forum, and will most likely spread around like wildfire across Chinese Internet forums in a short while. Imagine the backlash when the title had been revised to a quite provocative “American Lawyer advise to not pay Chinese debts.” I am probably the first few that follow the link from those posts to here.
    As a former insolvency practioner, I would like to confirm that for a debt to remain valid in Hong Kong SAR, a formal demand is necessary for every six years or so. The corresponding law in China, I have no idea.
    Also, I would like to point out that, while the Chinese companies may not pursue via legal action, there is nothing to stop professional debt collecting agencies to buy this debt at a discount and come after the debtor. In fact, this is quite a business for the so called vulture funds.
    Best Regards

  • Jason

    Hello mr lawyer! I m also happy following that ‘revised’ post to this place and say ‘hello’ from China to you.
    Your idea is obviously sharp and smart! i m so glad to report that you are ‘famous’ at the moment and even more ‘famous’ in future. How is it going?

  • http://www.chinalawblog.com/2010/05/how_not_to_get_kidnapped_in_ch.html China Law Blog

    How Not To Get Kidnapped In China.

    About a year ago, I did a post, entitled, “China Hostage Situation. Now IS A Good Time To Pay Your Debts.” It is time I revisit it. That post dealt with an email I had received from a trusted reader setting forth the following scenario: Consumer produc…

  • Anon.

    This is so true. This is exactly what my company did and we got away with it. We owed money to a Chinese company and all they had to do was sue us and we would have paid, but they just kept calling and writing and calling and writing and we just never paid. At first I felt bad about this, but then I started seeing it as payback for how American companies get treated over there.

  • Herr Schroff

    This is what happened with my company. We chose not to pay one of our Chinese creditors because we could not afford to pay everyone. They said they would sue and a lawyer (from China) wrote us, but then they just gave up.