China Hostage lawyers

Yet another story of an American businessperson held in China for his company’s unpaid debt. Hate to say we told you so, but we told you so.

This latest debt-hostage story was brought to my attention by Jeremiah Jenne. Jeremiah asked me about it by sending the following:

Sure to be more to this story than just ‘bad China.’ Rep sounds clueless at best, downright dumb at worst. US company boss also seems quite shady, firing the poor schmuck but still unable to remove him as ‘legal representative.’

Need help making sense of this. Sending bat signal to Dan Harris.

Not sure there is much unusual to the story as it reads like a typical debt-hostage story, with the following standard elements:

  • For whatever reason, American company owes China company money (or even just China company claims American company owes it money).
  • For whatever reason, American company doesn’t pay China company.
  • For whatever reason, important American goes to China to try to resolve the debt either by trying to convince China company to accept less than the full amount owed.
  • For obvious reasons, American gets his passport taken and is blocked from leaving China until the matter is resolved.
  • For whatever reason, American thinks whining to the U.S. Embassy and the press will help him.

Anyway, here is this latest story, courtesy of the Washington Post, and titled, Missouri businessman in limbo in China in dispute over debt, unsure when he’ll get back to US [link no longer exists]:

The Chinese government forced Steve Fleischli of Labadie, Mo., to surrender his passport in a dispute over his company’s unpaid debt to Chinese firms. Complicating matters is that he has lost his job since going to China on business in January.

Many of the details of the case, including exactly why Fleischli was fired from his job, are unclear. But his story offers insight into the perils of a western businessman doing business in China, especially when commercial disputes are involved.

The State Department declined comment on his case, but its website says there is little it can do to intervene on behalf of Americans in situations like Fleischli’s, which can take years to resolve.

Let’s break down this intro a bit. First off, it says the “Chinese government” forced this American to surrender his passport. What is meant by “Chinese government”? Local police or President Hu Jintao? I’m betting it’s local.

Second, it says “Many of the details of the case….are unclear.” Yup. No surprise there. Reading between the lines, this probably (note I said probably because I do not know and I am just guessing here) means the company does owe the debt, the American hostage is responsible for the debt under Chinese law, and the company that fired the American was less than happy with him.

More of the story:

“I think he’s more frightened about the comment that sometimes these things go on for years, rather than about his personal safety,” Fleischli’s attorney, Mitch Margo, said.

Fleischli, 37, began his career at Washington, Mo.-based NorthPole Ltd. 11 years ago and rose to CEO. The company is a leading maker of outdoor gear including tents, foldable camping chairs. Warburg Pincus, a global equity firm, is NorthPole’s majority owner.

Times got tough for NorthPole in recent years as prices for materials increased and retail orders slowed. The company owed money to suppliers in China. Margo said Fleischli even loaned NorthPole $200,000 of his own money last year. The company declined to discuss details of the loan, but it was an issue in Fleischli’s firing.

Let’s look at the above. The American is “more frightened about the comment that sometimes these things go on for years, rather than about his personal safety.” That makes sense. In my law firm’s experience, these things end only when there is an agreement by the Chinese company to accept a certain payment and then that payment is made or when the hostage escapes. Maybe these things can end some other way, but I am not aware of that. The Chinese company typically wants its money, not to physically harm anyone.   “The company owed money to suppliers in China.” Presumably, the American company owes money to the Chinese company that saw oversaw the taking of Mr. Fleischli’s passport. Why does a company fire someone for loaning the company money? This does not make much sense and there has to be more to it than this.

Fleischli, who has a 3-year-old daughter and wife back home in Missouri, decided to fly to China to address concerns of suppliers in person. He left in January in anticipation of a meeting with suppliers at a factory in Xiamen, China, in March. The meeting was a disaster as angry suppliers rioted. After more than a day, police were able to help Fleischli get out of the factory.

If you or your company are alleged to owe money to a Chinese company I strongly suggest you follow these four rules:

1. If you or your company are in a debt dispute with a Chinese company, do not go to China.

2. If you or your company may be in a debt dispute with a Chinese company, do not go to China.

3. If you truly must go to China, think about using a bodyguard or two and think very carefully about where you stay and where you go. Most importantly, do not go to the city in which your creditor is located and be very careful with whom you meet.

4. If you truly must go to China, consider preemptively suing the alleged creditor somewhere so you have proof that you have been seized not because you owe a debt, but out of retaliation for your having sued someone. If you are going to sue, carry proof of your lawsuit with you at all times while you are in China.

Though China is relatively safe, you should not write off the possibility of violence in your business dealings in China. My law firm has been called in at least a half dozen times where violence was threatened or occurred. We tell our clients that if they owe money to a Chinese company or are involved in any sort of dispute with anyone in China (partner, employee, etc.), they should avoid meeting to discuss the dispute/problem anywhere other than in a neutral, very public place in the day time. A high end hotel lobby in Shanghai or Beijing is a good choice.  In other words, if you really think it necessary for you to go to China to try to resolve your company’s debt issues, at least seek to have the meeting in a hotel lobby in Beijing or in Shanghai, rather than in Xiamen in the conference room of the company to whom the debt is allegedly owed. Best of all they should get out of China and not return until the matter is resolved.

The article goes on to say Fleischli is being held because he was/is NorthPole’s “legal representative in China” and that a court in Xiamen actually ordered he be held. I am pretty certain that in every case like this on which my law firm has worked, there was no court order. Instead, the company and the local police merely acted together to block any exit by our client.

Arguing that the hostage does not personally owe the debt is usually not the fastest/best way to resolve these sorts of situations. I say this because my law firm’s international lawyers handled a couple matters where this was the case. The U.S. company owed money to an overseas company. The U.S. company ceases to do business and so its key figures assume the issue is resolved in that the company has no assets to pay any debt. The “key figures” then get on a plane to a foreign country (one was a China case, the other was a Russia case) and they both get seized and “held hostage” until our lawyers negotiate out their release. They wanted us to argue that they personally did not owe the debt; their companies did. Our response was to tell them “that would be an excellent argument if we had the luxury of filing court briefs and waiting months for a judge’s decision, but our goal here is to get you released as quickly as possible.”

We deal with this issue in its nascent stages all the time when we work with our clients to shut down their Chinese entities. We always instruct them not to reveal they will be shutting down their China operations until everyone from the home office is out of China. We also tell them that if they or their company ever wish to return to China, they should pay off all their debts and usually the best way to do that is to announce from outside of China the plan to gradually shut down the China office and then, using that as leverage, negotiate down and pay all debts. We always stress that once a debt reduction is agreed upon, there should be a written agreement on that and there should be proof of payment in that agreement as well.

All of this is necessary if you want to formally close your China entity, which is, in turn, necessary, if you want to be able to return to China.

Fleischli appears to be in an even worse situation in that a court has already found him personally liable for the debt as NorthPole’s legal representative in China. Fleischli pleads ignorance: “I had no clue,” Fleischli told the Post-Dispatch. “I’m an American guy over here in China. I can’t read Chinese. I had no idea what a legal rep even was.” To which we can only say that ignorance of the law is no excuse in China just as in the United States.

Now here’s where the story gets weird.

Then in May, Warburg Pincus fired Fleischli for “gross misconduct.” The company declined to comment further on the firing, but Margo said it meant Fleischli also lost access to the company’s lawyers in China.

It’s not clear to Margo or Fleischli why the firing didn’t absolve Fleischli of his duties as NorthPole’s legal representative. Fleischli has sued NorthPole and Warburg Pincus seeking severance and damages and asking to be removed from that role. Margo believes that would help him get out of China.

But Warburg Pincus says it can’t remove Fleischli from that role.

“Warburg Pincus has had no involvement with any travel restrictions Mr. Fleischli may have in China. The firm does not control Mr. Fleischli’s status as legal representative of NorthPole in China, and does not control any travel restrictions that local authorities in China have placed on him,” the company said in a statement.

Fleischli was fired in May. Why didn’t anyone pay the company debt before that? Presumably it is because the company lacked the funds to do so. Why didn’t Warburg Pincus pay the debt then? Presumably because even though it has power to fire the company CEO it is not on the hook for company debt.I guess that can make sense. But what about removing Fleischli from his role as NorthPole’s legal representative? I do not see why NorthPole and Fleischli cannot agree to make that happen. But I also do not see how Fleischli’s removal as legal representative will help him at all with his present situation. I truly hope Fleischli has good legal counsel in Xiamen where he is being held.

The story concludes by pointing out how the U.S. State Department’s website makes clear that when it comes to commercial disputes, the Chinese “may prohibit you from leaving China until the matter is resolved under Chinese law. There are cases of U.S. citizens being prevented from leaving China for months and even years while their civil cases are pending.” And how the U.S. Embassy and Consulates “have no law enforcement authority in China and cannot recommend a specific course of action, give legal advice, or lobby the Chinese government regarding a private citizen’s commercial dispute.”  All true.

And just to scare you a little bit more, I have a friend who works for a high end China risk consultancy and he tells me that they started seeing a massive increase in these cases this year.

What are you seeing out there?

China ready International lawyers
China can be very dangerous for foreigners whose companies might owe money.

A few weeks ago, a reader e-mailed one of my law firm’s international lawyers with an article regarding China’s recent jailing of California businessperson Brian Horowitz over a debt he (his company?) allegedly owed a Chinese company.

I have been assiduously following the case in the press for many reasons. First, this case could prove important to my law firm’s clients. Second, I am convinced my law firm has handled as many (or more) of these cases (around the world) as any other firm. Third, the “facts” in this case — at least as conveyed by the media — have remained sketchy and I am not prepared to believe them.

Let me explain.

According to yesterday’s Los Angeles Times article on the case, the story goes as follows:

An Orange County businessman who was prohibited from leaving China for nearly two weeks because of a contract dispute with a Chinese supplier has negotiated a settlement and returned to the United States.

Brian Horowitz, 46, of Mission Viejo, said Chinese government officials refused to let him leave the country until he paid the Chinese firm $250,000 to resolve a civil lawsuit the company had filed against him. He said he arrived home Jan. 18 after his wife wired the funds to China.

Horowitz said he was stopped at Shanghai Pudong International Airport on Jan. 6 and told that he couldn’t board an American Airlines flight to the United States until the case was resolved. Chinese law permits its immigration officials to deny exit to foreigners with pending lawsuits.

The supplier, Fuzhou Trading Co., was seeking payment for a shipment of blenders that Horowitz’s company, On the Edge Marketing Inc., sold briefly in the U.S., Horowitz said. The Chinese firm’s owner demanded $250,000 to settle the contract dispute before he would direct the judge to let him leave, Horowitz said.

The dispute involved Horowitz’s 2007 purchase of 3,000 gasoline-powered blenders, which were marketed to tailgaters and others who wanted to blend icy drinks without a power source. Horowitz said the blenders did not meet U.S. air quality standards, as the contract required. As a result, the California Air Resources Board fined Horowitz’s company $240,000 in 2009 and ordered him to pull the blenders from stores.

Horowitz said the Chinese company agreed to write off Horowitz’s balance of more than $300,000 because of the fine and recall. But the company alleged in a lawsuit filed in China that Horowitz had failed to make good on his debt. Officials with Fuzhou Trading could not be reached for comment.

Horowitz said he did not learn of the lawsuit until he was stopped at the airport. But experts in Chinese law said it would be highly unusual for the country to enforce a lawsuit without proof that it had been served on all parties.

Horowitz’s take on the case is as follows:

“I’m very relieved to be home,” Horowitz said. “I’m hoping my ordeal helps other businessmen who do business in China to be educated about how to protect yourself.”

Okay, but how? And what really happened here?

Our China lawyers represented a U.S. company that had sent one of its executives to China to announce that their China WFOE would be closing down and not paying its debts. The company’s Chinese suppliers then held one of the company’s executive hostage.

Had we been retained way earlier, our advice would have been so different there likely would never have been a hostage situation at all. This is because we would have told this company to get ALL of its personnel out of China before letting suppliers (or anyone else) know that you would be leaving China and payment would be slow, at best.

We did have a client quite recently in a similar situation, which we wrote about in our post, China, We Have A Problem. A Mostly True Story. The key takeaway from that post (and from most China hostage situations on which our China lawyers have worked) is that the very first thing you need to do to avoid a hostage situation is to get everyone out of town and then out of China entirely.

Many years ago, we had a similar situation where our client was alleged to owe money to a Vietnamese company. The Vietnamese company had shipped defective product to our client and our client refused to pay for it. At least one person from our client absolutely had to go to Vietnam and we were all concerned about what might happen to him there. Our law firm’s advice was that he not go under any circumstances, but he insisted he had too. That being the case, we decided the best approach would be for our client to sue the Vietnamese company in a U.S. federal court, alleging the Vietnamese company owed our client money for the defective product. Our thinking was this might help insulate the client from problems in Vietnam. If the Vietnamese company tried to have our client imprisoned for his company’s alleged debt, we would at least be able to point out that there was an ongoing dispute between the two companies and that the Vietnamese company was seeking to act against our client in Vietnam in retaliation for our client having sued it. Our client went to Vietnam without incident and a few months later we were able to settle all claims with the Vietnamese company. We heard through the grapevine that the Vietnamese company had actually been intimidated into inaction by our lawsuit.

The following are some of what our China lawyers recommend to our clients for reducing their chances of being held hostage in China:

1. If you are in a debt dispute with a Chinese company, think about not going to China at all, but especially avoid the city in which that company is located.

         2. If you think there is a Chinese company that might claim you owe it money, think about not going to China at all, but especially           avoid the city in which that company is located.

2. If you must go to China, think about using a bodyguard or two and think very carefully about where you stay and where you go. Most importantly, be very careful with whom you meet.

3. Consider preemptively suing the alleged creditor somewhere so that you can very plausibly claim that you have been seized not because you owe a debt, but out of retaliation for having sued someone. If you are going to sue, carry proof of your lawsuit with you at all times while you are in China.

         4. Do not expect any help from the police in China. They likely will be getting a cut of whatever you end up paying and they rarely           if ever will intervene. Best thing to do is to form your own SWAT team to extricate your people out of China, but be very careful             in doing this because if this fails, many people will go to jail. Your country’s embassy may or may not help you.

So where did Horowitz appear to have gone so wrong? First, he says he reached an agreement with the Chinese company: “Horowitz said the Chinese company agreed to write off Horowitz’s balance of more than $300,000 because of the fine and recall.”  If Horowitz did reach such an agreement, he should have memorialized it in writing — in a signed and sealed Chinese language agreement — and he should have had a copy of that agreement readily accessible each time he got on a plane to China. Oral (and to a large extent, e-mail) agreements in China are not worth the paper they are not printed on.

Second, I do not understand how Horowitz (or his company) could have been sued in China and had a judgment entered without ever receiving notice of the lawsuit. I am NOT saying this is what happened to Mr. Horowitz, because I do not know what happened to Mr. Horowitz, but I have to wonder if maybe the lawsuit and the judgment were against one of his companies with which he no longer had any concerns and it just never occurred to him that the company debt might be taken so “personally.”

I say this because we have been involved in at least two cases where this was the case. U.S. company owed money to Chinese company. U.S. company ceased to do business and so its key figures assume the issue is resolved in that the company has no assets to pay any debt.  They then get on a plane to a foreign country (one was a China case, the other was a Russia case) and they both get seized and “held hostage” until my law firm negotiates out their release. Both of these clients wanted us to argue that they personally did not owe the debt; rather, their companies did. Our response was to tell them “that would be an excellent argument if we had the luxury of filing court briefs and waiting months for a judge’s decision, but our goal here is to get these people released as quickly as possible.”

Our China lawyers deal with this issue in its nascent stages all the time when we work with our clients to shut down their Chinese entities. We always instruct our clients never to reveal that they will be shutting down their China operations while anyone from the home office is in China. We also tell them that if they or their company wish to ever return to China, they should pay off all their debts and usually the best way to do that is to announce from outside China the plan to gradually shut down the China office and then, using that as leverage, negotiate down all of the debts. We always stress that once a reduced debt is agreed upon, there should be a written agreement reflecting that and there should be proof of payment under that agreement as well.

All of this is necessary if you want to formally close your China entity, which is, in turn, necessary, if you want to be able to return to China someday.

What are you seeing out there?

International manufacturing advisor

Not so long after the fall of the Soviet Union, I, along with others in my law firm, had to spend considerable amounts of time in fairly remote places in Russia — places like Vladivostok, Petropavlovsk-Kamchatsky and Yuzhno-Sakhalinsk. Things were very uncertain in that part of Russia back then, and we developed certain rules to protect ourselves. For instance, we always made sure each person had at least enough cash to buy a last minute flight to Moscow and then from there back to the United States. Before leaving the United States, we also would contact our Russian friends (including the spouse of a Russian Federal Marshal and a couple of Vice-Governors) to ascertain where they would be while our people were there (most of these people did not have cell phones or email) and to confirm we could contact them if anything should happen. In other words, we planned our escape route before we even went.

Many years ago, I went to Papua New Guinea to recover helicopters for a long-time Eastern European client. PNG (for the conoscenti) was in the throes of various insurrections at the time (I think this is nearly always the case) and I would be going to Goroka, which was fairly near at least one of them. I spent days planning the trip and set up all sorts of contingency plans. I even grew a beard and bought a backpack to look like a hiker, not a businessperson.

When I was in high school I lived in Istanbul, Turkey, for around fifteen months. At the start of my stay there, everything was great, but during our last month, there was a military takeover and it was a bit jarring to see two blank-faced 17 year-olds from the villages on my buses holding machine guns. I can remember attending a meeting with my parents and consular officials where we plotted out various exit strategies to employ if things turned for the worse.

One of the things I used to like about China was that none of these sorts of thing were really required.

That has changed.

It seems like every time I talk with serious China people these days, they want to talk about what is going to happen in China regarding treatment of foreign companies and foreigners. Many of them say they wince every time there is an announcement of a Western company planning to leave China or reduce its footprint there. As one friend of mine puts it, “The fewer foreign companies and foreigners that remain in China, the greater the chance it will be my company or my family that gets singled out for mistreatment.”

But even if you do not believe there will at some point be even more change for the worse for foreigners in China, it at least makes sense to be ready for it. I can tell you that virtually all companies big enough to retain risk consultancies are doing so. Frankly, I am always amazed people do not think about these sorts of things more often.

Many years ago, I had a long-time client/friend call me to ask for my assistance on an Iraq deal he would be doing. This was not long after the fall of Saddam. I told him I wanted no part of it, and I proceeded to rail on him about how nonsensical it would be to leave his family and thriving businesses (in the U.S., Poland, Vietnam, Mexico and South Korea) to go there. I mentioned how he would be better off staying alive for his children than in trying to do yet another new deal. He was initially irritated with me but called me back a couple of weeks later to tell me I had been right and he was done with Iraq. I swear it was only days later that I learned of American businessperson Jeffrey Ake (who I had heard speak in Seattle) go missing in Iraq. Mr. Ake was kidnapped in 2005 and he has not been heard from since.

The greater the risk, the greater the money. But the greater the risk, the greater the risk.

So good for Joseph Sternberg of the Wall Street Journal for way back in 2011 writing A Businessman’s Guide to China’s Collapse: It might not happen soon, but when it does it will pay to be prepared. The article focuses on the need to be aware of and prepare for China risks.

It is just wrong to assume and act as though things cannot and will not change. As Sternberg notes, “Four months ago, no one would have predicted imminent mass unrest in Tunisia, Egypt, Syria, Bahrain, Yemen or Libya,” and he warns companies to “consider managers trying to evacuate staff, safeguard physical property or keep supply chains operating as smoothly as possible.” He then provides “a brief guide to keeping your business afloat if China goes kablooey”:

  • First, recognize that it really could happen. Human nature is to assume the status quo will continue indefinitely.
  • Understand where your vulnerabilities lie. “You may already have ‘a detailed list of expat staffers in China, their addresses and dependents, to aid in a worst-case evacuation’ but you should also ‘track executives who might be visiting, in case one of those should happen to be in town’ when something serious goes down.”
  • Think about your specific risks. “Are your factories identifiably ‘foreign,’ and is that likely to be a sore point in the eyes of local residents? Have you previously stirred controversy for hiring lower-wage workers from other regions instead of locals? Are you in a controversial industry . . . that could make you a target?”
  • Perhaps the biggest risk companies need to manage in China is one that hides in plain sight: supply-chain security.  The key is to diversify supply chains, a practice some—though by no means all—companies already have adopted. This is not necessarily cheap. But those companies that invest in a little excess factory capacity in another country or buy insurance against supply-chain disruptions may one day find the additional expense a price worth paying.
  • Think ahead as to how you will “respond to varying degrees of disruption.” What events would trigger a factory closure for a couple days, or a reduction in factory hours, or moving workers’ dependents to another area, or in the worst case an evacuation of expat staff entirely? Who would make those decisions, based on what sources of information, and how would the decision be communicated down the line. And so on.

There is nothing wrong with being prepared. What are you doing to make sure neither you nor your staff end up involuntarily having to spend an extra 10-15 years in China?

Moving your manufacturing Out Of China

Five years ago, for every 100 companies our China lawyers helped set up contract manufacturing in China, we helped maybe one end its contract manufacturing in China. Two years ago, that ratio was maybe 100 going to China and five leaving. Today, for every company our law firm helps set up manufacturing in China we help around the same number leave or at least try to leave. And because far fewer companies realize the need for legal counsel when ceasing to manufacture in China (as opposed to starting to manufacture in China), I have concluded that far more companies are ceasing to manufacture in China than are starting to manufacture in China.

This post addresses how best to extricate from your Chinese factory.

My law firm’s advice every single time to our clients who are laying off workers in China or closing a facility in China or allegedly owing money in China is to stay outside China  for any all negotiations. The same holds true for ceasing to manufacture in China. The below is our advice if you are in a dispute with a Chinese company or if you might owe money to a Chinese company. One only needs to be a regular reader of our blog to know that we took this position long ago and have never waffled:

  • The best thing to do is not go to China at all.
  • If you must go to China, think about using a bodyguard or two or three and think very carefully about where you stay and where you go. Most importantly, be very careful with whom you meet.
  • Consider preemptively suing the alleged creditor somewhere so that you can very plausibly claim that you have been seized not because you owe a debt but out of retaliation for having sued someone. If you are going to sue, carry proof of your lawsuit with you at all times while you are in China.

In a similar vein, we have also written extensively on the importance of preparing well in advance for terminating your China supplier. And by plan in advance, we mean make sure that you have secured your molds and all paid-for product before you do anything that might tip off your China supplier regarding your plan to start manufacturing elsewhere. It typically makes sense to have a new supplier lined up or at least in mind for when you make your exit. Last week, I worked on manufacturing exit plans for two companies, and both have a six month time frame, which is about average as they usually range from three to nine months.

For obvious reasons, few companies that have major problems trying to leave their China supplier speak about it to the press, but many years ago, in Jilted Chinese supplier tells would-be U.S. reshorer -“Not so fast,” an American toy company did, largely because it brought a lawsuit in the United States against its Chinese supplier. The article describes the lawsuit as based largely on allegations that the Chinese supplier ceased providing the American company credit and delayed deliveries, all in an attempt to make it impossible for the American company to start making its toys in the United States.

Though I have no idea whether the allegations in this lawsuit are true, I do know it is common for Chinese manufacturers to seek retaliation against their American product buyers that cease buying product from them. For this reason, we instruct our clients to line up new suppliers and have them ready to go before they even hint that they might cease production with their existing China suppliers. We give this advice because over the years our China lawyers have repeatedly seen the following:
  • Foreign company tells its China manufacturer it will no longer use its China manufacturer for its production. China manufacturer then keeps all of the foreign company’s tooling and molds, claiming to own them. The way to prevent this is to get an agreement from your Chinese manufacturer that you own the tooling and molds before your Chinese manufacturer has any inkling you will be moving on. For more on the importance of mold agreements, check out How Not To Lose Your Molds In China and Want Your China-Based Molds? You’re Probably Too Late For That.
  • U.S. company tells its China manufacturer that it will be ceasing to use China manufacturer for its production. The China manufacturer then registers the U.S. company’s brand names and logos as trademarks in China and a key element of its product as utility patents in China and in the United States and then starts selling the U.S. company’s products around the world, using the U.S. company’s brand names. The U.S. company sues the Chinese company for patent infringement in China and for infringement of its U.S. trademarks in Seattle. The Chinese company then sues the U.S. company twice in Texas for patent infringement. The three U.S. cases are eventually consolidated (by agreement) in San Francisco and the U.S. company loses its patent challenge in China. I mention all this to tell you the high costs companies often have to pay for leaving their manufacturer without advance planning.
  • Foreign  company tells its China manufacturer that it will be ceasing to use China manufacturer for its production. A few weeks later, foreign company has its products seized at the China border for violating someone’s trademark or design patent. The foreign company is (rightly) convinced that its China manufacturer is the one behind the product seizure, believing the Chinese manufacturer registered the foreign company’s brand names as trademarks in China long ago and is just now using that trademark to seize its product as revenge (or just registered the design patent). China has laws forbidding its manufacturers from registering the trademarks of those for whom it manufactures, but because it is usually not possible to prove it is your Shenzhen’s cousin in Xi’an that did the trademark registration, this sort of thing goes on unchecked. For how to prevent this from happening to you, check out the following:
  • Foreign company tells its China manufacturer that it will no longer use it for its production. China manufacturer then says that it will not be shipping any more product because the foreign manufacturer is late on payment and owes it hundreds of thousands of dollars. China manufacturer then reports the foreign manufacturer to Sinosure and Sinosure then ceases to insure product sales to this foreign company, which convinces all of the foreign company’s other Chinese manufacturers not to sell anything to the foreign company without 100% payment upfront. We see this particular scenario all the time and for more on how these Sinosure cases go down, check out China’s Sinosure: It’s Back and It Wants Your First Born. Sinosure is relentless and I’ve seen it drive good companies into bankruptcy.
  • US company tells its China manufacturer that it will be ceasing to use China manufacturer for its production. China manufacturer then either threatens to or actually does hold people from the US company hostage for alleged debt. For more on the problems that can arise from allegations of not having paid a debt to a Chinese company, check out China Hostage Situation. Now IS A Good Time To Pay Your Debts and How Not To Get Kidnapped In China, Part 3. Resolve Your Debt Problems Before You Go.

You should always plan ahead for pulling your production from your Chinese manufacturer. This planning ahead usually involves the following:

1. Not telling your Chinese manufacturer you are even contemplating leaving it until you are completely prepared to leave.

2. Making sure you have good contracts with your Chinese manufacturer before you leave it. If you don’t have good contracts with your manufacturer now, get them. These contracts will make it much tougher for your manufacturer to sabotage you when you leave.

3. Make sure your IP protections are in order before you leave your Chinese manufacturer.

4. Make sure your alternative supplier(s) are truly lined up and ready to go before you leave. We have had clients who left their Chinese manufacturer for a new manufacturer in another country and then had to wait 6 months to get good product from their new manufacturer. I realize there is cost savings by not duplicating production, but there are also big risks.

5. Figure out exactly what your total costs will be before moving your manufacturing to a new manufacturer in a new country. We have had companies come to our law firm after their move seeking help with re-negotiating their arrangements with their new manufacturer because they didn’t realize that the shipping costs would be higher or that their widgets would be a subject to a tariff or that they were expected to pay xyz tax or whatever. Just realize that these sorts of “extra” costs can vary tremendously country by country, as can the expectation as to who is responsible for paying them.

What are you seeing out there?

 

 

China Hostage lawyers

I’ve been somewhat surprised at how many emails our international lawyers have gotten regarding Carlos Ghosn’s Hollywood-like escape from Japan.

Some — including journalists — have asked our views on what happened in Japan. We are getting these questions because we spent many years representing Sea Shepard in and against Japan, including helping out in the criminal trial of Peter Bethune in Tokyo. See Anti-whaling activist has ‘no regrets’ as his trial begins in Tokyo. I have the following three things to say about Japan based on that trial:

  1. The Japanese government is uber-powerful. I have zero doubt that I was followed the entire time I was in Japan and that my phone was tapped and that my hotel room was bugged, among other things.
  2. The prosecutors win something like 99 percent of the time.
  3. Every Japanese lawyer I know told me exactly what the verdict in Bethune’s case would be as though they knew it before it was issued. The verdict was 100% what they predicted, convincing me that the whole thing was rigged from start to finish.

Based on the above, I do not blame Mr. Ghosn one bit for fleeing Japan.

We also have gotten a ton of questions about whether something like this could happen in China. Well, of course it could. It could happen in China because its government is uber-powerful, uber-corrupt and uber political and its important criminal trials involving foreigners are rigged and pre-ordained.

What about the escape part? If someone has actually been arrested and jailed in China, it is extremely unlikely they could mount an escape such as Ghosn’s. If Ghosn had been arrested in China on charges similar to those in Japan, he would almost certainly have been kept in a high security prison without possibility of parole.

But what if you are held in China, but not jailed? In China Product Defects, Lawsuits, Hostage Taking and Exit Ban: Please, Please, Please Read This! we wrote about how foreigners who allegedly owe money to Chinese companies are often held as debt hostages by the Chinese company to which the money is allegedly owed:

Hostage taking. The Chinese side will arrange a meeting to take place at the factory or in a hotel that cooperates with the factory. The factory staff will obtain the passport of the foreign buyer. After the passport is obtained (stolen or taken by force), the factory holds the buyer captive either in a factory dormitory or in the cooperating hotel. The Chinese call this a “soft kidnapping” because no physical threats are made. The factory simply states: we won’t let you leave until after you pay the bill. If the police are contacted, the police will usually say: “It’s none of our business. You should pay the bill.” If the local authorities are contacted, they will usually say “It’s none of our business. You should pay the bill.” Resolving the matter without making payment is nearly impossible.

We also wrote how when a foreign company allegedly owes money to a Chinese company — especially if there is a court decision ordering the foreign company to pay — the Chinese government will block key employees from the foreign company from leaving China:

Exit ban. Because of the potential for social unrest, the Chinese authorities usually will work to assist the Chinese factory in getting paid. One way they do this is through an exit ban. The foreign buyer is permitted to enter China, but when the buyer seeks to exit China, permission will be refused. The foreign buyer is told: “You will not be permitted to leave until after you have resolved your payment dispute with the factory.” Exit bans are only approved at the national level and a factory that makes a false claim will be penalized. This is why hostage taking is more common.

So what if you find yourself held hostage in China, with the tacit consent of the local authorities? Can you get out? The answer is yes. First off, in most instances, if you or your company pay all that your company allegedly owes, the odds are very good that the Chinese company holding you hostage will give you back your passport and release you and you should have no trouble getting out of the country.

We have been involved in or heard about many such cases. In those cases our own China lawyers have handled, we have sought clear written guarantees from the Chinese side that if our client does pay, the release will happen. Though such a written contract is not a true guarantee of the release, we believe it greatly increases the odds and so far this has always been the case. I do not recall a single instance (though it is possible there was one) where our client got a hostage release without paying every single dollar allegedly owed, even in those cases where our client was almost certainly being held up for more than actually owed.

What if you want to get yourself or one of your employees out of China without paying the full amount? Can that be done, Goshn-style? Yes, and our firm has been involved in a number of these as well. For obvious reasons we cannot go into full detail on what we did to get our client hostages out of China, but I can tell you the following:

1. Getting a hostage without a passport out of China is not easy and not cheap.

2. The first thing you must do is get the hostage out of the grasp of those holding him or her hostage.

3. Once released, there are essentially two ways to get the by now former hostage out of the country. One is to get them across a border (typically by land via Laos or Vietnam) without a passport or exit visa and then getting a new passport in Vietnam or Laos. Two is to get the former hostage to a Chinese city where you can get a new passport from your embassy or consulate and then flying out of China. Our China lawyers (with a lot of help from friends and others in China) did this once with a debt hostage and by pre-preparing the Embassy (I am not even going to mention the country, but I will say that they were amazingly helpful) we were able to get our client a new passport within 12 hours and have her on an airplane going from Beijing to her home country within another five hours. Let’s just say that most Western countries do not hold China’s legal system or police force in high regard and they will almost certainly be on your side in getting someone out of China who is being illegally held there.

China is a dangerous place for foreigners, and as we have been writing for at least a decade,  foreigners being taken hostage in China is way more common than generally believed. See How Not To Get Kidnapped In China. Resolve Your Debt Problems Before You Go. The real key is not to get out of China once you are held hostage, but preventing the seizure in the first place. The best way is not to go to China at all if there is anyone there who might claim your company owes it some money.

International Manufacturing Lawyers

In China Factories Are Exporting Lower Prices Around the World, Bloomberg News wrote this week about something our internmational manufacturing lawyers have been seeing: Desperate Chinese factories are lowering their prices. Are all Chinese factories desperate? Absolutely not. Are all Chinese factories lowering their prices? Near as we can tell, a great many are, especially for their best customers.

But you must be very careful in negotiating lower prices from your Chinese factory because just asking for lower prices could cause your company some very serious blowback. The first thing you should know is that Chinese factories are sick and tired of losing so many of their customers and they are very wary of anyone who they believe may leave them for another factory in another country.

China’s factories just suffered their third straight month of declining production and nearly all legitimate economists see this decline continuing. More importantly, nearly all Chinese factory owners see the same thing. This is important because if you tell your Chinese factory that you “need” a price reduction, it will think you will leave if it does not give you the full amount you request and this can be dangerous. If you tell your Chinese factory that if it does not lower its prices by 10 percent or you will go elsewhere and your factory cannot lower its prices you just put your company at major risk. In The Single Best Way To Avoid Being Taken Hostage In China, we wrote of how Chinese companies often take hostages to try to collect on alleged debts or to protest employee layoffs or the closing of a China facility:

As the [Associated Press] article states, “it is not rare in China for managers to be held by workers demanding back pay or other benefits, often from their Chinese owners, though occasionally also involving foreign bosses.”

My law firm’s advice every single time to our clients who are laying off workers in China or closing a facility in China or allegedly owing money in China is to stay outside China for all negotiations.  One only needs to be a regular reader of our blog to know that we took this position long ago and have never waffled:]

If you are in a debt dispute with a Chinese company, the best thing to do is not go to China at all.

If you must go to China, think about using a bodyguard or two and think very carefully about where you stay and where you go. Most importantly, be very careful with whom you meet.

Consider preemptively suing the alleged creditor somewhere so that you can very plausibly claim that you have been seized not because you owe a debt, but out of retaliation for having sued someone. If you are going to sue, carry proof of your lawsuit with you at all times while you are in China.

You are probably wondering why I am writing about debt collection and hostages when the theme of this post is reducing your China factory pricing. The reason is simple: when Chinese companies believe you will be leaving them/leaving China, alleged creditors come out of the woodwork. The tax authorities will come up with taxes that you owe. Your factory will explain why you owe it way more than you thought you did. Your factory’s sub-suppliers may send you bills for components you never ordered and never knew you were responsible for paying. You will get a bill for the molds and the tooling and the design work your factory did years ago and you thought (rightfully so until now) was included in your product pricing. These sorts of things do not always happen, but they happen often enough that you need to be prepared for them. The first rule is that you should have this discussion with your factory from your own country, not at a face-to-face meeting in the corrupt Chinese town where your factory wields its power.

If the “bad things” described above happen and none of your personnel are held hostage, can you not just “walk away” in the middle of the night never to return to China? That is possible, but that comes with risks and it seldom will make sense unless you absolutely certain neither your company nor anyone who can be relatively easily identified with your company will ever again do business with China or find itself in China. As someone who has many times been in an airplane that had to land somewhere other than its intended destination (I once spent four unplanned January days in Magadan, Russia, when the city had essentially no fuel for heat) you also will need to be completely certain that neither you nor any of your personnel will ever involuntary find yourself in Mainland China (or Hong Kong or Macau?).

if you are going to try to negotiate lower prices from your China factory, you need to have a Plan B setting out what to do if your relationship with your China supplier ends that day. These days, about 10 percent of the time when one of our clients goes to its China supplier to negotiate a lower price the supplier flat out says something like “we are done manufacturing for you. We don’t need you anymore. We are selling our own products direct now.” That ten percent figure is even higher for any foreign company whose products are being shipped to the United States because so many Chinese companies have come to believe those companies will soon be leaving China entirely — and they are right. Oh, and its “own” product that it will be selling (or has been selling already for months) could very well be a clone of your product.

What then should you do to plan in advance for something as simple as asking your Chinese factory for a price reduction? First, make sure nobody from your company is in China when you make the pricing request. Second, make sure that you have secured your molds/tooling and all product for which you have already paid before you do anything that might tip off your China supplier regarding the possibility that you may start manufacturing elsewhere. Third, line up new suppliers (preferably outside China) that can start producing quickly.

Over the years our China manufacturing lawyers have repeatedly seen the following:

  • Foreign company tells its China manufacturer it will be ceasing to use China manufacturer for its production. China manufacturer then keeps all of the foreign company’s tooling and molds, claiming to own them. The way to prevent this is to get an agreement from your Chinese manufacturer that you own the tooling and molds before your Chinese manufacturer has any inkling you may be moving on. For more on the importance of mold agreements, check out How Not To Lose Your Molds In China and Want Your China-Based Molds? You’re Probably Too Late For That.
  • Foreign company tells its China manufacturer it will stop using the China manufacturer for its production. Foreign company then learns that someone in China has registered the foreign company’s brand names and logos as trademarks in China. Foreign company is convinced its China manufacturer is the one that did these registrations, but it has no solid evidence to prove this. Foreign company is now not able to have its product — at least with its own brand name — manufactured in China. Foreign company is also now faced with having to deal with a low cost Chinese competitor that can legally make products in China with the foreign company’s brand name and logo and sell those products anywhere in the world where the foreign company does not itself possess the trademark rights in its brand name and logo. The way to prevent this is to make sure your IP registrations in China are current before you say anything to anyone that may lead them to believe you may be leaving them, or even just reducing your purchases from them. See China Trademarks: Register Yours BEFORE You Do ANYTHING Else. Not long ago, a U.S. company came to us after having told its China manufacturer that it would need to add an additional manufacturer because it needed much greater production capabilities. The China manufacturer responded by saying that “we own the China trademarks to your products and the China patent to your product designs and if anyone else in China tries to make your products we will get an injunction to stop them from doing so and another injunction to stop any of your products from leaving China. SIX lawsuits later the warring companies reached a settlement. Do not let this happen to you!
  • Foreign company tells its China manufacturer that it will be ceasing to use China manufacturer for its production. A few weeks later, foreign company has its products seized at the China border for violating someone’s trademark or design patent. The foreign company is (rightly) convinced that its China manufacturer is the one behind the product seizure, believing the Chinese manufacturer registered the foreign company’s brand names as trademarks in China long ago and is just now using that trademark to seize product as revenge (or just registered the design patent). China has laws forbidding its manufacturers from registering the trademarks of those for whom it manufactures, but because it is usually not possible to prove that your manufacturer in Shenzhen had a cousin in Xi’an do the registering, this sort of thing goes on unchecked. For how to prevent this from happening to you, check out the following:
  • Foreign company tells its China manufacturer that it will be ceasing to use China manufacturer for its production. China manufacturer then says that it will not be shipping any more product because foreign company is late on payment and owes it hundreds of thousands of dollars. China manufacturer then reports foreign manufacturer to Sinosure and Sinosure then ceases to insure product sales to this foreign company, which can have the effect of convincing other Chinese manufacturers not to sell to foreign company without getting 100% payment upfront. For more on Sinosure’s role regarding China exports, check out Be Sure Regarding China’s Sinosure. Note that if you are planning to move your business to a country other than China, Sinosure’s power over you will be greatly diminished. More importantly, note that with the downturn in Chinese manufacturing, Sinosure has gotten incredibly aggressive at going after foreign companies. See this Reuters article, As trade war deepens, a state-owned insurer in China helps soften the blow
The bottom line is that if your Chinese factory believes you may be leaving it or leaving China, your company is at risk and asking for a price cut will often be viewed as your having one foot out the door.
Despite all the risks, now is the ideal time to be looking at moving your supply chain out of China and/or trying to get your China suppliers to lower your product pricing. Our international manufacturing lawyers are working nearly non-stop to help our clients move all or diversify their manufacturing to countries outside China — so far this has mostly been to other Asian countries, such as Vietnam, Cambodia, the Philippines, Malaysia, Pakistan, India, Thailand and Taiwan, but also to Mexico, Colombia, Eastern Europe, Portugal, Germany and Spain. Even to Canada and the United States — more so after the announcement of the “new NAFTA” agreement, a/k/a the USMC.

But what if you have no choice but to stay in China? Seeking to lower your product pricing will be your best option.

What you need to know about the new realities of China factory pricing is that the Chinese government is doing whatever it can to prop up its factories. More than anything, the Communist Party does not want to see factories closing and jobs being lost and huge numbers of people marching in the streets, as is happening in Hong Kong.

So to avoid that, China has been doing the following (and more)

  1. It has reduced income tax rates for Chinese export manufacturers, thereby reducing overall costs by about 4%.
  2. China has reduced its VAT rates for the export of various (but not all) products, thereby reducing overall costs by roughly 4%.
  3. China has pushed down the value of the RMB, thereby increasing by about 4% the amount of RMB Chinese export manufacturers get from their Dollar/Euro sales.

So right there we have about a 12% reduction in costs for China Factory. Note that the numbers above are rough calculations and individual valuations will vary. Note also that we are hearing rumors that Sinosure is now providing export insurance to Chinese factories at no cost and this is just one of many cost/expense subsidies/reductions of which we are hearing. But because we have not run down any of these rumors, we will ignore them for purposes of today’s cost-cutting discussion.

What you need to do then is try to get your Chinese factory to share at least some of its 12% windfall with you. Tell your factory that you have heard that China’s recent income tax reductions and VAT rebate increases and RMB devaluations — and who knows what else the Chinese government is doing and will do to subsidize Chinese manufacturers — has reduced its manufacturing costs by 15% to 20% and with all this it ought to be able to cut your pricing by 10%. Tell them how you know this will cut into their profits a bit but your having to pay the tariffs has cut into your profits and because of your great relationship with them over the years and in recognition of your plans to stay with them for many more years, they should reduce their prices to you.

This sort of price reduction request works sometimes, not all the time. But it is obviously working often enough for Bloomberg to write about how China product prices are declining.

International lawyersLike pretty much everyone on this planet I’m a Fan Bing Bing fan. That partially explains why this is my second post on her. But really, more than anything, I view her situation as salubrious for those who conduct business internationally. In my initial post on her, titled, Fan Bing Bing’s International Business Lesson, I talked about how some foreign businesses in rationalize their failing to abide by a foreign country’s laws:

I had a sorta friend in college who smoked like a chimney and drank like a Supreme Court Justice. When people would point out the danger of his ways he would respond by emphatically noting that his grandfather also smoked and drank just as much and he was still alive and kicking at 88. Does anyone not see a problem with this analysis?

And yet, my firm’s international lawyers often hear something similar as an excuse for why some company or some person is doing XY or Z that is not legal. Sometimes they will add that so and so who is a native of the country in which they are doing business has told them that this or that is okay, which to me is the equivalent of relying on someone with no medical training saying it’s okay to smoke.

I then equated these foreign companies to what happed to Fan Bing Bing:

Fan Bing Bing is a terrific movie actress who recently got into BIG trouble with the Chinese tax authorities for having underreported her income via a dual-contract system in which only one contract is disclosed to the tax authorities. For more on this, check out China Movie Stars and The Two-Contract Problem. But it isn’t just movie stars that employ the two-contract tax dodge; many foreign companies and expats do as well:

Even if Fan Bingbing hasn’t done a single thing wrong (which is very possible), it wouldn’t be surprising to learn that tax evasion is rampant in the film business. Tax evasion is like a national sport in China. Mainland factories regularly misreport income by having payments go to a Hong Kong or Taiwanese holding company. So-called “independent contractors” in China rarely report their income because they and their foreign employer are both operating illegally. And the billion-dollar daigou business is profitable largely through tax and customs fraud.

I then talked about how the international lawyers at my law firm frequently get calls from foreigners in big trouble somewhere like China or Vietnam for having done something illegal:

I myself have taken many of these calls and they usually start out with the person in trouble saying something like the following:

I always follow the law and I wanted to follow the law in __________ [country] but my ___________ assured me that this is how things are done in ___________[country] and so I reluctantly went along. And now I am in legal trouble for having done…..

The person who usually gets the blame is the accountant or general manager or even the person’s wife who is a native of whatever country in which the person is having his legal problems — I say “his” here because I cannot remember getting such a call from anyone not male. My tactic is to quickly push through this sort of discussion by bluntly saying, well yes, not paying your taxes or not doing X is illegal pretty much everywhere in the world and I am not aware of any country in the world where it is a defense to say that everyone else is operating illegally as well. So at this point, what I suggest is that we bring in a top-flight criminal lawyer and work on doing whatever we can to prevent you from going to jail and to reduce what you will need to pay.

I then gave examples of companies that tanked by being caught doing something illegal and examples of companies that were conferred with benefits by operating legally. I ended that post with a story about a trip I once made to Papua New Guinea where obeying the law to the letter turned out to be key:

One of my favorite stories is when I went to Papua New Guinea to help a Sakhalin Island client secure the return of two helicopters. When I landed in Port Moresby, I was asked if I was in the country as a tourist or for business. The tourist visa was something around $35 and the business visa was something around $350, but I said “business” and I paid the much higher fee. I then flew to Goroka where I met the next day with the governor of the Eastern Highlands Province, Malcolm “Kela” Smith. I was told “Kela” means bald man. The first thing Mr. Smith did when I met with him was to check my passport. When it revealed I was there on a business visa, I could sense a change in his view of me. Though he never confirmed this to me, I am convinced that had my passport revealed I was in PNG on a tourist visa, Mr. Smith would either have had me thrown out of the country or he would have refused to meet with me because I was in the country illegally. Kela Smith ended up meeting with me and with my client and within a day or two we had a deal whereby my client would get his helicopters back.

I am writing about Fan Bing Bing again because I just finished reading a fascinating Vanity Fair article on her, titled, “The Big Error Was That She Was Caught”: The Untold Story Behind the Mysterious Disappearance of Fan Bingbing, the World’s Biggest Movie Star. Vanity Fair describes her as “the most famous actress in China, which is to say, the most famous actress in the world” and China’s highest-paid female star.

It then talks about how her troubles began when two versions of her contract for an upcoming film were publicly revealed, with one version putting her salary at $7.8 million and the other at $1.5 million. If you are now thinking that you can cut-away from this post because it has nothing to do with you, I would ask that you stay just a bit longer to make sure that is in fact the case, because it very well may not be. I say this because it is very common for expats to have “dual contracts” not too dissimilar from Fan. See China Expat Pay: Splitting with Hong Kong is 100% Illegal and 200% Dangerous. Many of these expats justify this by pointing out that they have multiple friends who do the same thing. And it is also quite common for these expats to get caught when someone (their own employer perhaps) reports them. It is also common for foreign companies to illegally operate in China without a WFOE (often without even realizing they are violating any laws) and then get reported to the authorities by the very people in China they are paying. See Doing Business in China Without a WFOE: Will the Defendant Please Rise. Many of these companies justify this by pointing out how difficult and expensive it is to form a WFOE in China and by noting that they have a great relationship with their China contractors/employees.

Once the contracts went public, Fan and her people seemed not to realize the depth of her problems and sought to downplay them, much like what we see foreign companies do when questioned by the Chinese government for something like a customs violation See China Customs Violations and How to Avoid Jail Time:

Fan’s production company immediately issued a statement denying the charges and informing Cui that they had retained the services of a Beijing law firm. Cui [the newscaster who broke the dual contract story] apologized to Fan and retracted his accusation. But by then it was already a national scandal. A week later, on June 4, the central tax authorities deputized the local tax bureau in Jiangsu, the coastal province where Fan’s company was registered, to launch an investigation. Shares of companies associated with Fan plunged by 10 percent, the maximum daily limit on the Chinese stock market. Three days later, Chinese censors banned all stories on the Internet about taxes, films, and Fan.

And then “the movie industry at large also fell under scrutiny”:

On June 27, five government agencies, including film and tax authorities, issued a joint directive capping salaries for on-screen talent at 40 percent of a movie’s total production budget. Individual stars, meanwhile, would not be allowed to earn more than 70 percent of a production’s total wages for actors. The notice chastised the industry for “distorting social values” and encouraging the “growing tendency towards money worship” through the “blind chasing of stars.”

The article highlights how dual contracts had become standard practice in China’s movie industry:

In the years that the Chinese film industry was allowed to grow unregulated, it became common for stars to falsify contracts to avoid paying taxes on the huge sums that they were commanding. That’s why Fan’s sudden fall sent a chill through the rest of the film world. “There was a certain surprise in the industry,” said Kwei, the producer. “Fan Bingbing was only doing the usual standard package.” David Unger, Gong Li’s manager, put it more bluntly. “The big error,” he said, “was that she was caught.”

Fan was eventually ordered to pay $131 million in back taxes and penalties. Vanity Fair notes how it “could have been worse. . . . since “until 2009, first-time tax offenders in China could be charged with criminal liability. . . . and until 2011, economic crimes such as tax evasion were punishable by death.”  It then comments on her Fan’s treatment “sent a clear signal to everyone in the Chinese film industry.” In my view, this should send a clear signal to everyone doing business in China that the following are now true:

  1. China has the technology and the wherewithal and the desire to enforce its laws.
  2. The Chinese government likes using the famous (and the foreign) to show its reach and its power. “Kill the chicken to scare the monkey.” Foreign Executives Arrested in China: Please Do NOT Look Away.
  3. The fact that others did and are still doing what you do is 100% irrelevant. That you have been doing X for years and gotten away with it does not mean you will not be arrested tomorrow or next week or next year for doing X.
  4. Ignorance of the law is no excuse.

The article also talks about how “larger forces at play” helped precipitate the crackdown against Fan:

After years of double-digit growth, the Chinese economy is slowing down. The government claims that economic output grew by 6.5 percent last year—the lowest rate in more than a decade—but observers believe the rate is as low as 2 percent. With consumer spending slowing and foreign investment plunging in the midst of a trade war, the government is seeking to redirect economic power back under state control. It won’t be long, many in China predict, before the tax scandal bleeds into other sectors. What happened to Fan was merely the “primary incision,” says Alex Zhang, executive director of Zhengfu Pictures. Soon, the authorities will “cut all the way down to the rest of the business community.”

In March 2018, President Xi established the National Supervision Commission, granting it sweeping powers to investigate corruption and tax evasion. Suspects could now be legally kidnapped, interrogated, and held for as long as six months. That same month, he also gave the Central Publicity Department, which heads up propaganda efforts, the authority to regulate the film industry. (The only other time film was put under the propaganda ministry, according to industry insiders, was during the Cultural Revolution.) Films that had passed the censors years ago have now been retroactively banned. “That liminal space where you can get away with stuff, that’s gone,” said Michael Berry, a professor of contemporary Chinese culture at U.C.L.A.

Fan was not alone in evading taxes: “The big error was that she was caught.”

Under Xi’s crackdown, tens of thousands of people have disappeared into the maw of the police state. An eminent TV news anchor was taken away hours before going on air. A retired professor with views critical of the government was dragged away during a live interview on Voice of America. A billionaire was abducted from his private quarters in the Four Seasons in Hong Kong. Other high-profile disappearances include Interpol president Meng Hongwei in September, photojournalist Lu Guang in November, two Canadians who went missing in December, as well as the writer Yang Hengjun, who went missing in January. “The message being sent out is that nobody is too tall, too big, too famous, too pretty, too whatever,” said Steve Tsang, who runs the China Institute at the School of Oriental and African Studies at the University of London.

Taken together, Xi’s moves represent a dramatic rollback of the economic reforms and relative freedom that enabled the film industry to flourish in the time before his reign. “Deng Xiaoping kept everyone together by promising to make them rich,” said Nicholas Bequelin, the East Asia director of Amnesty International. “What keeps things together under Xi is fear. Fear of the system, where no matter how high you are, from one day to the next you can disappear.”

Put more simply, you and your company had better comply with Chinese law or the law of whatever country in which you are doing business.

What though should you do if you haven’t fully complied? The Vanity Fair article is actually instructive on this as well, at least with respect to China (and this generally holds true for much of Asia)

When I arrived in Beijing, just before Christmas, everyone in the film industry seemed to be in a state of panic. The tax authorities had issued a directive calling for all film companies to do ziwo piping, or “self-criticism,” and “rectify themselves” by paying the back taxes they owed on unreported income before December 31. Those who paid up would not be fined. Starting in the new year, however, there would be “heavy, random checks,” and those who were caught would be “dealt with seriously.”

The authorities also declared that special tax zones, which had allowed stars to pay lower taxes, were no longer legal. Following the proverb “The mountains are tall and the emperor is far away,” many film studios had registered in these special zones, far from the major coastal cities. Tax rates in the zones could be as low as 0.15 percent. Now, overnight, those working in the film industry would be taxed at the highest rate—45 percent. And all this was to be paid for not only 2018 but also for the two previous fiscal years, dating back to January 2016.

The rising fear was palpable on WeChat, where people were sharing ad hoc formulas meant to help calculate how much tax they owed in lieu of any official guidelines. Many faced staggering sums that dwarfed Fan’s tax bill. Open letters protesting the yidaoqie, or “one knife chop” approach, of the tax bureau made the rounds before being taken down.

Because of Fan’s clout in the industry, the probe of her finances had incriminated many companies that were partnering with her on projects. Scores of films have been put on hold. “Everyone you can think of is dealing with taxes right now,” said Kwei, the producer. Many had either already been “invited for tea” at the tax bureau, or were awaiting their turn. Others were rushing to meet with their accountants, or were holed up in their offices reviewing past budget sheets. Victoria Mao, who runs a production company, told me that all of her projects had been put on hold just days earlier, after she received a call from the tax bureau asking her to self-audit. “We don’t have any time to go forward,” she said, “because we have to go back.”

People were even more reticent than usual to talk on the phone. “We are not the only people on the line, so to speak,” producer Andre Morgan told me, before suggesting we meet at his hotel. Morgan, who is widely credited for introducing Jackie Chan to Hollywood, described how things have changed since he came to China in 1972. “There weren’t that many rules back then,” he said. Now the bureaucracy is catching up with the industry. As he sees it, the people aren’t afraid of the state—the state is afraid of the people. That’s why the government singled out and punished a select few, like Fan—to keep everyone else in line. Morgan quoted a Chinese proverb: the state is “killing the chicken to scare the monkey.” (He also said, in a burst of animal metaphors, that it is only a matter of time before “the chickens come home to roost,” and that the government is doing whatever it can to “catch the mouse.”)

*     *    *    *

Was anyone angry? “If we get angry, we are done,” explained the actor’s agent, who was the only one not drinking with abandon. “You can’t make movies anymore. We have just the one government.” People, he added, were “not mad, but confused.” The informal rules that had governed the industry for decades were changing, which was unnerving. Even worse, no one seemed to know what the new rules were. Meanwhile, the government was “taking money from your pocket.” But what could you do?

It reminds me very much of what I so often tell companies that come to us in trouble in or with China, which is usually something like the following:

The Chinese government is pragmatic. Their goal is usually not so much to punish or to scorch the earth, but to bring in the money owed it (plus penalties and interest) and to get you to realize that you must fly straight going forward. If we go to the government and let them know that we just discovered that your company is not complying and let them know that we will make every effort to get into full compliance (the “self-criticism” and “rectification” mentioned by Vanity Fair) we ought to be able to work something out with them that will likely even involve some compromises on the penalties. But if the Chinese government catches you before you report yourself, all bets are off.

See Fan Bing Bing.

China lawyers
How to leave China and survive

Not surprisingly, our China lawyers are seeing a massive increase in foreign companies seeking to reduce or eliminate their China ties. Many are seeking to terminate their relationship with their Chinese suppliers and move production elsewhere (so far, it’s been mostly to Vietnam, Taiwan, Poland, Thailand, Mexico, Brazil, India and Malaysia). The other day I spoke with a company that has 50% of its manufacturing in China, 25% in Vietnam and 25% in Thailand and it wants to get out of China “as quickly as possible” but rightly afraid of just pulling up stakes and moving out.

What are the risks for a foreign company seeking to leave China? Equally importantly, what can you do to mitigate those risks?

Way back in 2013, in The Single Best Way To Avoid Being Taken Hostage In China, we wrote of how Chinese companies and individuals often take hostages in an effort to collect on alleged debts or to protest employee layoffs or the closing of a China facility:

As the article states, “it is not rare in China for managers to be held by workers demanding back pay or other benefits, often from their Chinese owners, though occasionally also involving foreign bosses.”

My law firm’s advice to our clients that are laying off workers in China or closing a facility in China or allegedly owe money to someone in China is to stay outside China. Regular readers of our blog know we took this position long ago and have never waffled:

    • If you are in a debt dispute with a Chinese company, the best thing to do is not go to China at all.
    • If you must go to China, think about using a bodyguard or two or three and think carefully about where you stay and where you go. Most importantly, be careful with whom you meet.
    • Consider preemptively suing your alleged creditor somewhere so you can plausibly claim to have been seized not because you owe a debt, but in retaliation for having sue. If you are going to sue, carry proof of your lawsuit with you while you are in China.

By this point many of you are probably wondering why I am writing about debt when the issue is leaving China. My answer is very simple: once the news gets out that you will be leaving China, alleged creditors will come out of the woodwork. Chinese tax authorities will come up with taxes you allegedly owe. Your Chinese landlord will explain why you owe it way more than you thought you did. Your Chinese suppliers will send you bills for items they never actually gave you. Your China employees will demand all sorts of severance. I am not saying these sorts of things always happen, but I am saying they almost invariably do and you need to be prepared for it.

What about just shutting down in the middle of the night and walking away, never to return? That is always possible, but that itself comes with its own risks and it virtually never makes sense unless you are 100% certain neither your company nor anyone who can be relatively easily identified with your company will be doing business with China ever again or find itself in China ever again. As someone who has twice in his life been in an airplane that had to land somewhere other than its intended destination –I once spent four unplanned January days in Magadan, Russia, when the city had essentially no fuel for heat — you should also be 100% sure you will never involuntary find yourself in the PRC. See also A China WFOE Shutdown, Baltimore Colts Style.

In a similar vein, we have also written previously on why you must prepare well in advance for terminating your China supplier. And by plan in advance, I mean you need to secure your molds and all product for which you have already paid before you do anything that might tip off your China supplier regarding your plan to start manufacturing elsewhere.

It is incredibly common for Chinese manufacturers to seek retaliation against their foreign product buyers that cease buying product from them. For this reason, we instruct our clients to line up new suppliers [be they within China or in some other country) and have them ready to go before they even hint to anyone that they might cease production with their existing China suppliers.

We give this advice because over the years our China lawyers have repeatedly seen the following:

1. Foreign company tells its China manufacturer it will be ceasing to use China manufacturer for its production. China manufacturer then keeps all of the foreign company’s tooling and molds, claiming to own them. The way to prevent this is to get an agreement from your Chinese manufacturer that you own the tooling and molds before your Chinese manufacturer has any inkling you will be moving on. For more on the importance of mold agreements, check out How Not To Lose Your Molds In China.

2. Foreign company tells its China manufacturer it will be ceasing to use China manufacturer for its production. Foreign company then learns someone in China has registered the foreign company’s brand names and logos as trademarks in China. Foreign company is convinced its China manufacturer did these registrations, but it has no solid evidence to prove this. Foreign company is now facing not being able to have its product — at least with its own brand name — manufactured in China. Foreign company is also now faced with having to deal with a low cost Chinese competitor that can legally make products in China with the foreign company’s brand name and logo and sell those products anywhere in the world where the foreign company does not itself possess the trademark rights in its brand name and logo. The way to prevent this is to get your IP registrations in China current before you reveal to anyone that you will be leaving China, or even just reducing your footprint there. See China Trademarks: Register Yours BEFORE You Do ANYTHING Else.

3. Foreign company tells its China manufacturer it will be ceasing to use China manufacturer for its production. A few weeks later, foreign company has its products seized at the China border for violating someone’s trademark or design patent. The foreign company is (rightly) convinced its China manufacturer is the one behind the product seizure, believing the Chinese manufacturer registered the foreign company’s brand names as trademarks in China long ago and is just now using that trademark to seize product as revenge (or just registered the design patent). China has laws forbidding its manufacturers from registering the trademarks/patents/copyrights of those for whom it manufactures, but because it is usually not possible to prove your manufacturer in Shenzhen had a cousin in Xi’an do the IP registering, this sort of thing goes on unchecked. For how to prevent this from happening to you, check out Register Your China Trademark Or Go Home and China: Do Just One Thing. Trademarks.

4. Foreign company tells its China manufacturer it will be ceasing to use China manufacturer for its production. China manufacturer then says it will not ship any more product to foreign company because foreign company is late on payment and owes China manufacturer hundreds of thousands of dollars. China manufacturer then reports foreign manufacturer to Sinosure and Sinosure then ceases to insure product sales to this foreign company, which can have the effect of convincing other Chinese manufacturers not to sell to foreign company without getting 100% payment upfront. For more on Sinosure’s role regarding China exports, check out Be Sure Regarding China’s Sinosure.

5. Foreign company tells its China manufacturer it will be ceasing to use China manufacturer for its production. China manufacturer then either threatens to or actually does hold people from the US company hostage for alleged debt. For more on the problems that arise from allegations of debt to a Chinese company, check out How to Reduce Your Chances of Getting Kidnapped in China.

To increase your chances of surviving a move out of China, analyze your weak points and do what you can to minimize those. Above all else, plan ahead and keep quiet until truly ready to jump.

China lawyers

Smart Chinese manufacturers know that with their costs rising, they need to be able to distinguish themselves from their peers. One of the ways they are choosing to do this (even more frequently than in the past) is by copying and selling products they are making for their foreign customers. See Your China Factory as your Toughest Competitor. 

Why is this so dangerous? Because bad things nearly always happen when Chinese manufacturers discover their American/European/Australian product buyers will soon be ceasing to buy from them. For this reason, we instruct our clients to have new suppliers ready to go before even hinting to their existing supplier that they might be having a problem with them.

We give this advice because over the years our international manufacturing lawyers have repeatedly seen the following (mostly in China, but sometimes in other countries, such as Thailand, Vietnam, Indonesia, and Taiwan):

  • Western company tells its China manufacturer it will cease using China manufacturer for its production. China manufacturer then keeps all of the Western company’s tooling and molds, claiming to own them. The way to prevent this is to get an agreement from your Chinese manufacturer that you own the tooling and molds before your Chinese manufacturer has any inkling that you will be moving on. For more on the importance of mold agreements, check out How Not To Lose Your Molds In China.
  • Western company tells its China manufacturer it will cease to using China manufacturer for its production. Western company then learns someone in China has registered the Western company’s brand names as trademarks in China. Western company is convinced that its China manufacturer is the one that did these registrations, but has no solid evidence to prove this. Western company is now facing not being able to have its product — at least with its own brand name — manufactured in China. See 8 Reasons to Register Your Trademark in China.
  • Western company tells its China manufacturer it will ceasing using China manufacturer for its production. A few weeks later, Western company has its products seized at the China border for violating someone’s trademark. The Western company is (rightly) convinced that its China manufacturer is the one behind the product seizure, believing the Chinese manufacturer registered the Western company’s brand names as trademarks in China long ago and is just now using that trademark to seize product as revenge. China has laws forbidding its manufacturers from registering the trademarks of those for whom it manufactures, but because it is usually not possible to prove that your manufacturer in Shenzhen had a cousin in Xi’an do the registering, this sort of thing goes on unchecked. This sort of thing is increasingly happening with design patents as well. For how to prevent this from happening to you, check out the following:
  • Western company tells its China manufacturer it will cease using China manufacturer for its production. China manufacturer then says it will not be shipping any more product because Western company is late on payments and owes X hundreds of thousands of dollars. China manufacturer then reports Western manufacturer to Sinosure and Sinosure then ceases to insure product sales to this Western company, which can have the effect of convincing Chinese manufacturers not to sell to the Western company without getting 100% payment upfront. For more on Sinosure’s role regarding China exports, check out China Sinosure: What You Need to Know.

So yes, switching your China manufacturer can be risky, at least when done without sufficient planning.

China defamation law

Making a biopic – a biographical movie about real people– is complicated. And one of the biggest concerns is liability for defamation. In an ideal world, filmmakers would get everyone depicted in the movie to sign a release. But that’s often impractical: people want too much money, too much control over how they are depicted, or both. And that assumes filmmakers can even find the people in question. It’s understandable; nobody wants to see the embarrassing things they’ve done memorialized onscreen. But a movie without conflict isn’t much of a movie.

In the United States, filmmakers have two main legal tools at their disposal when countering allegations of defamation. First, the truth is a defense to defamation. Even if Ike Turner didn’t like how he was depicted in What’s Love Got To Do With It, that he did in fact beat his wife insulated the filmmakers from liability. Second, you can’t defame someone who is dead. Which (in part) explains The Brittany Murphy Story and many of the other biopics on Lifetime.

But in China, the law on defamation is markedly different. Truth is not a defense, and you can defame someone even if they’re dead. That can (and does) have a chilling effect on biopics in China.

Chinese defamation law is not specifically spelled out as such, but has been developed from Articles 101 and 102 of the General Principles of the Civil Law (enacted in 1987), and several subsequent supporting documents: the Supreme People’s Court’s Answers to Certain Issues Concerning Trials of Cases Involving the Right to Reputation (released in 1993), nterpretation of Certain Issues Concerning Trials of Cases Involving the Right to Reputation (released in 1998), and Understanding and Application of the 1998 Interpretation [link no longer exists]

As explained in the 1993 Answers, defamation exists if (i) the defendant has committed an illegal act, (ii) the plaintiff’s reputation has been damaged, and (iii) the illegal act caused the damage. Such defamation exists in three circumstances:

  1. Written or oral insults or libel that damage a person’s reputation;
  2. Unauthorized disclosure of personal information that damages a person’s reputation; or
  3. A news report containing “gross error” that damages a person’s reputation.

In Understanding and Application of the 1993 Answers, the SPC clarified that truth was NOT a defense to defamation. If a work insults and damages a person’s reputation, it is defamatory regardless of whether it is true.

The 1993 Answers state that either the allegedly defamed person or their close relatives (defined as spouses, parents, children, siblings, grandparents, and grandchildren) have standing to sue. That rules out almost anyone alive from 1950 onward as a character that can be included without fear of liability.

To be sure, the difficulty in securing effective injunctive relief in China does not create the same sense of urgency to get releases as in the United States. But the existence of the defamation laws, along with the often heavy hand of the Chinese government overseeing content, no doubt explains why so many biopics in China are either hagiographies or set in ancient times. Why take the risk of depicting real people unless the Chinese government has specifically asked you to do so?

Perhaps emboldened by the not particularly artist-friendly laws, a recent lawsuit attempted to extend the protection against defamation to an absurd conclusion. A woman with the same name as a character referenced in Feng Xiaogang’s 2016 movie I Am Not Madame Bovary sued the filmmakers for defamation, alleging that her reputation and health had suffered because a character with her name was described as a slatternly woman of low morals. The character in question, Pan Jinlian, isn’t even in the movie per se – she’s a femme fatale from the classic Chinese novel, Water Margin, who is merely mentioned as a counterpoint to the film’s lead character. This would be like someone named Mata Hari suing a film that mentioned the World War I temptress/spy. If Ms. Pan has a complaint against anyone, it’s her parents for naming her after the character in the novel.

It’s one of the more ridiculous arguments I’ve heard, but at the same time it’s oddly encouraging for two reasons. First, it’s encouraging because the case was dismissed quickly; the judge noted that the character in the movie refers to the character in the book, not to anyone in China that happens to have the same name. Second, it’s encouraging to see that people in China feel confident enough in their legal system to bring a lawsuit when they have been aggrieved, even for something as nonsensical as this.

But if the characterization had been a little closer to the truth, the outcome might have been different.

Another recent Chinese movie, Dearest, was based on a true story about a couple whose child was kidnapped. The woman who was the basis for the lead character alleged the movie made things up about her life and suggested she was unchaste. She threatened to sue for defamation, but the director managed to resolve the dispute with a personal apology. It’s not always going to be that simple.

Even if a movie is not considered defamatory in the United States, it still might be considered defamatory in China. And the Chinese distributor/exhibitor would be held liable. As the Chinese media market continues to grow, and as the Chinese court system continues to gain strength and credibility, I wouldn’t be surprised to see many more defamation lawsuits in China, especially as US studios launch more partnerships with Chinese film companies to create Chinese-language content for the local market.

The bottom line for filmmakers is that getting releases has become all but mandatory. Especially for movies likely to be shown in China.