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China Due Diligence. Cause You Aren’t In Kansas Anymore.

Posted in China Business
Once my law firm brought on a lawyer from Kansas (who loves to say that she followed the yellow brick road to the Emerald City), I felt compelled to stop with the “you aren’t in Kansas anymore” tropes.  But I just couldn’t resist just this one time.
A loyal reader emailed me a link the other day to an article by Dorsey lawyers Peter Corne and Robin Weir on a recently decided Delaware Chancery Court case In Re Puda Coal, Inc. Stockholders Litigation, C.A. No. 6476-CS (Del. Ch. Feb. 6, 2013), involving “highly questionable” due diligence. Along with the link, the reader had this to say:
Thought you might be interested in seeing this as it serves as a pretty strong refutation to those who persist in believing that the problems you write about on your blog are rare due only to the fact that they seem to involve large doses of stupidity.
He said it, not me.

Anyway, it is an interesting article because it is such an interesting case. In the Puda case, plaintiff shareholders alleged that the company’s independent directors were liable for having failed to detect the unauthorized sale of the company’s assets by its chairman, who was based in China.  The directors seemed to have argued that they could not be responsible for what went on in China, but the court very clearly felt otherwise:

Chancellor Strine bluntly reminded independent directors that they must be capable of fulfilling their fiduciary duty of oversight, no matter where the company’s assets or operations are located. Among his many forthright comments:

  • “[I]f you’re going to have a company domiciled for purposes of its relations with its investors in Delaware and the assets and operations of that company are situated in China … in order for you to meet your obligation of good faith, you better have your physical body in China an awful lot. You better have in place a system of controls to make sure that you know that you actually own the assets. You better have the language skills to navigate the environment in which the company is operating. You better have retained accountants and lawyers who are fit to the task of maintaining a system of controls over a public company.”
  • “Independent directors who step into these situations involving essentially the fiduciary oversight of assets in other parts of the world have a duty not to be dummy directors … [I]f the assets are in Russia, if they’re in Nigeria, if they’re in the Middle East, if they’re in China, that you’re not going to be able to sit in your home in the U.S. and do a conference call four times a year and discharge your duty of loyalty. That won’t cut it.”
  • “There’s no such thing as being a dummy director in Delaware, a shill, someone who just puts themselves up and represents to the investing public that they’re a monitor.”

The court went on to stress that if the information directors need to monitor their company is in a language they do not understand, “in a culture where the legal and ethical standards may be different from in the U.S., this could be ‘very difficult… You better be careful there. You have a duty to think. You can’t just go on this [board] and act like this was an S&L regulated by the federal government in Iowa and you live in Iowa.’”

Iowa. Kansas. The whole point of the case and of this post is that there is no justification for not doing the requisite due diligence.  Oh, and if you think being in China is like being in Kansas (or Iowa), you are cruisin for a bruisin.

What do you think?