Fairly regularly, we get an email from a foreigner living in China who wants to go into business in China with their girlfriend/fiancé/wife’s family (yes it is always a male). This person wants to know how they can do this and we tell them that there are really only two ways. One is as a joint venture and the other is as a WFOE, with the Chinese girlfriend/fiancé/wife’s family owning a portion of the foreign company that in turns owns the WFOE. Under this second scenario, the Chinese ownership of the foreign company is potentially illegal under Chinese law, but that should not put the foreigner at risk.
Here is what I typically say:
Legally, you pretty much cannot go into business with Chinese citizens without a joint venture. China recently started allowing partnerships, but the impact of that is still not clear.
You pretty much have two options:
1. You form a WFOE and you own it. Forming a company in Hong Kong is no different for China purposes than forming one in the United States, so forget about Hong Kong for a moment. Forming a WFOE can be very expensive, in large part depending on the Chinese city in which you will be forming it.
2. You let your fiancé, her mother and cousin own the entire business. You do this and you are exposing yourself to losing whatever you put into the business. Twice, I have had men break down and cry right in front of me because they went into business with their fiancée and her family and they put 3-8 years of their lives into the business, only to be completely and unceremoniously booted out once it really started to make the big money. These are just the ones who cried. I can tell you about the guy who invested millions in condos with his fiancée and her mother, only to leave China for a few weeks and return with all of the condos sold and his fiancée and mother in law gone. Vanished.
It goes on and on. The condo guy wanted us to sue the fiancée and her mother, but we didn’t see where he had a leg to stand on (assuming we could have found them) because the fiancee (via email) was claiming the condos were all gifts and his claim would have to have been that he bought all of the condos in his fiancée’s name because he didn’t want to spend the money to do things legally by setting up a business in his own name. Even if there had been some sort of side agreement, that would have been illegal and it is generally not a good idea to sue to enforce an illegal contract.
Read about Kro’s Nest. Before Kro’s Nest there was Mark Kitto (whose famed ouster created the expression, to be kitto’ed). These are the two best publicized instances where a foreigner went into business with a Chinese “co-owner,” only to get booted out once the money really started to roll in.
Sorry to be so negative, but I know no other way than to be blunt on these sort of things.
My emails often lead to pushback, with the person complaining of how China makes things so difficult for the “little guy” and then their explaining how they know of how these things usually turn out for the foreigner, but in their case it will be different because:
a. Their girlfriend/fiancé/wife’s family would never be anything but above board.
b. Their girlfriend/fiancé/wife’s family is so “connected,” it makes sense for them to go into business with them.
They then usually ask us to write up a contract that protects them “as best as possible.” We tell them that we will not do that because those contracts are usually not enforceable in China and we are not in the business of writing contracts we know will not work.
We had one of these the other day and it precipitated an email from my co-blogger, Steve Dickinson, to me, which went as follows:
If these people are going to go illegal in China, they should go 100% illegal. That is, enforcement either through really strong family connections (your father knows her father) or enforcement through gangsters and the like. I know people who have succeeded this way but I don’t know anyone who has succeeded with an illegal contract. This is not because contracts don’t work in China, because you and I have won enough China contract cases to know that they do.
It is because the Chinese judges are totally on to these sorts of arrangements and they know they violate or seek to evade Chinese law. They therefore have and will continue to deem such contracts void. Why do people live in this fantasy world thinking that somehow they are so different or that they have discovered the solution? Why do they think a Chinese court would enforce a contract designed to evade the law?
Take an alternative example. Remember John Smith’s [yes, it is an alias] company we formed in Beijing a few years ago? Not sure if you remember this, but that investment was with his Chinese wife. However, we did that as a very formally organized WFOE and left the wife and her family with the irregular side of the deal. His US company is the only shareholder and he runs the board. His company has had no trouble and he has had no trouble because he is legal and secure. His US LLC [and with it, the China WFOE] were just purchased by _______ [a pretty big name U.S. company]. The reason the purchase was successful is that the whole company was “clean” and therefore it could be purchased by a foreign public company.
As lawyers we are never going to tell our client to go full illegal, but in my role as a blogger, I have to think going full illegal would probably make better sense than paying a lawyer to draft a void contract. I think people know this, but their rightful discomfort at operating illegally makes them want to clutch on to something that will allow them to justify (however falsely) their actions.
What do you think?