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China Sex, Mistresses, And Improper Payments, And What They Mean For Your China Business Litigation. Part II, The Contracts Do Matter Edition.

Posted in China Business

Yesterday, I wrote a post on how important contracts are in China. The post was about a China Daily article on what has been described as China’s first foreign nail house. The China Daily article included an interview with CLB’s own Steve Dickinson, who said the case really hinged on the lease agreement (i.e., the contract) between the landlord and the tenant. According to Steve, the lease itself would control whatever compensation the landlord would be required to pay the tenant for the tenant’s eviction due to the building being demolished.
The thrust of my post, entitled, “China’s First Foreign Nail House. Dude, Where’s Your Contract?” was that contracts are usually determinative in China. In response to this post, “Sean” asked this great question in the form of a comment:
“So when is the contract everything, and when do you have to be worried about a judge ruling against you in the interest of “fairness” to the Chinese counterpart? (“Fairness” in terms of your previous post here.)
Sean was referring to a post we did, entitled, “China Sex, Mistresses, And Improper Payments, And What They Mean For Your China Business Litigation ” where we talked about how Chinese courts tend to look much more at the equities of a situation than at the literal meaning of the contract or of the written laws.
Despite it being a great question, I am pretty much not going to answer it directly. I am not going to answer it directly both because I do not have enough empirical evidence (who really knows why a court or an arbitrator rules the way they do) and because it does not really need a firm answer. The answer is that Chinese courts and arbitrators generally do look at equities much more than courts in the West. It is also true that you are a foreigner involved in a lawsuit in China against a Chinese company, you are already behind on the equities count. A contract is not always going to be the only decisive factor in your case, but you are always going to be better off having a strong contract that favors you than having a strong contract that does not favor you, a weak contract that does not favor you, a weak contract that does favor you, or no contract at all.
So we can discuss how much having a strong and favorable contract, but I think that time would be better spent drafting the next strong and favorable contract because even though I cannot measure with specificity the value of such a contract, I know it is far more valuable than not having one.
What do you think?

  • XM8

    Related to this, are able to comment on this derivatives mess with foreign banks, domestic SOEs and SAFE?

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

    I’d prefer not to use the term equity since it has a specific meaning in US law. For interesting historical reasons dating back to the 15th century, US courts can rule under two different systems of law. One called law, the other called equity. It’s important to recognize that Continental European law does *not* recognize a distinction between law and equity.
    A lot depends on the legal structure. In some areas of Chinese law, the law only states very general and very vague legal principles with a lot of discretion for the courts. This is true in contract law. The Contract Law requires that parties to a contract act in “fairness” (Article 5) “good faith” (Article 6) and in the “public interest” (Article 7) and Chinese courts will use this requirement to override the specific conditions in the contract.
    This use of the concept of “good faith” to override the terms of a contract is not specifically Chinese but rather German, and Chinese courts will use the idea of good faith in contracts in much the same way that German courts will use it. There general concepts that the courts can and do use to interpret contract provisions. Chapter 1 of the Contract Law lists them.
    I should point out that this is one area in which Anglo-American Common Law and German/Chinese Civil Law are very, very different. In common law countries the first sections of legislation tend to be vague filler which are legally meaningless. In German/Chinese law, the first section of a law are the most important parts because they set up the general principles which a court can use to override a specific provision. When a Chinese court invokes “fairness” they are invoking Article 5 of the Contract Law. This is why it’s important to use the correct legal term. If you talk about “fairness” then the judge will know that you are invoking Article 5 of the Contract law. If you talk about “equity” or “equality”, the judge will have no idea what the argument is that you are trying to make.
    As far as how a Chinese court will rule, there are interpretations of the SPC that go into large detail over what needs to happen in specific situations, and you can get a good idea of what a Chinese court is going to do in a specific situation by seeing how it’s ruled in the past. If a Chinese court has ruled the same way 1000 times in the past, then it’s likely to do the same thing on the 1001st situation. If you want it to do something different, you’ll have to use a new and clever argument, and while lawyers love new and clever arguments, business people hate them. If you are a business person, the last thing that you want is to be a test case.
    Finally the contract and law can interact in interesting ways, and a lot depends on how you phrase the contract. For example, in the tenant/landlord case, if a lease says that the landlord owes the tenant nothing in case the property is expropriated, then this clause seems to me to be completely null and void. On the other hand, if you phrase it so that the lease says that in case of expropriation, a “reasonable compensation” will be defined as X, then its more likely that if the case winds up in court, that the judge will rule to enforce the contract provisions.

  • Rita Mitsouko

    Huh?

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

    XMB: Related to this, are able to comment on this derivatives mess with foreign banks, domestic SOEs and SAFE?
    I can comment. What do you want to know?
    The Chinese government maintains some rather strong controls over the use of derivatives, and it does so because whenever it’s weakened the control, bad things have happened.

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