Despite the trials thrown up in 2020, China has never stopped moving forward with legal reforms. Frankie Wang explores areas that have confused some companies, and seeks clarity from the experts
Amid economic headwinds, a continuing pandemic and ongoing friction with the US, China is still progressively improving its legal system as new laws and regulations are enacted. The Foreign Investment Law took effect at the start of the year, followed by China’s first Civil Code, which was approved at the end of May and will come into force next year.
The Supreme People’s Court (SPC) recently issued the Guidelines on Improving Search for Similar Cases to Standardize the Application of Law (Trial), which was implemented from 31 July this year. The guidelines stipulate that, in circumstances including being faced with cases without clear judgment rules or consensus rules, the judges shall search similar cases and compare the present case with precedents with similar facts.
Zhu Xiaodong, the managing partner of Tian Yuan Law Firm in Beijing, says that the guidelines will change the way lawyers work. He says that because China has a statute law regime, the court’s analysis of a case is based on judicial syllogism, orironclad logic, and thus the judgment is relatively short. Under the guidelines, undertaking similar case searches will tremendously increase the workload in terms of available reference documents for court analysis. “We should get acquainted with the case analysis methods adopted in common law systems, which means learning a new methodology,” he says.
China isn’t slowing its efforts to open up. In contrast to the current cautious attitude towards expansion in China by foreign industrial capital and manufacturing sectors, Christophe Han, the managing partner of Links Law Offices in Shanghai, says the continual opening of the domestic finance market and the Sino-US Phase One trade deal have encouraged foreign investors to actively access the Chinese market, despite some pessimistic expectations for the prospects of the China market.
“When communicating with foreign investors, we see a picture alien to the geopolitical tensions, as clients take a rather different view to the present and future of China than their governments,” he says.
Yao Yuexi, a senior partner at DHH Law Firm Shanghai, agrees that foreign capital is confident in the Chinese market, betting on it through the Qualified Foreign Limited Partner (QFLP) programme, and by other means. “I think this is owing to China’s advantages over other countries in controlling the pandemic, and the implementation of favourable policies,” she says.
In the past few months, Chinese companies have slowed down the pace of their acquisitions of assets overseas, while their foreign counterparts have remained active in investing in China. “Foreign investors, in particular global giants, are stillbullish on the Chinese market, even with the impact of the pandemic,” says Gavin Guo, a senior international consultant of Kewei Law Firm in Shanghai. “Some companies are ramping up investment in China, expanding into new projects, and some are reworking their strategies in China, consolidating current projects.”
Despite the favourable policies, there are dangers for companies at home and abroad. Take the recent hotspot – healthcare – as an example. “To speed up corporate development and gain market advantages, or perhaps due to a lack of attention to compliance, companies have commenced new businesses recklessly, without a full and considered deliberation on the compliance and feasibility of the new business model, and the regulation and other potential legal risks,” warns Dorothy Xing, a partner at East & Concord Partners in Beijing.
Yang Qiang, executive director at Lantai Partners in Beijing, adds that clients “sometimes are obsessed with outcomes, creating an illusion instead of seeking more realistic solutions”. He suggests more diversified perspectives when dealing with legal issues.
Hit by the pandemic, many large enterprises have resorted to downsizing and salary cuts, and the labour law has become a focus. John Dong, a partner at Baohua Law Firm in Shanghai, says the start of the year is the high season for job hunting, but the situation this year was complicated by the pandemic, and labour law consultations have been frequent and similar in nature. “A company is in difficulty, but the employees have reasonable claims,” he says. “Local governments have issued various new regulations and implementation rules with the aim of stabilizing the market through legislation.”
In addition to layoffs, other issues have included working from home, flexible working hours, and changes to employment contracts. Wu Dong, a senior partner at Huiye Law Firm in Shanghai, says until the pandemic, many companies’ dealings with labour law was limited to the resolution of labour disputes, which popped up every now and then, or fragmentary risk management relating to labour law. He therefore recommends that companies set up an employment compliance management system.
“Dispute resolution and risk management are not synonymous with employment compliance management, though there are some connections,” says Wu. “The pivot is to establish and practise corporate values, and reshape the human resources management process in a systematic and standardized way, and with reference to multiple laws, with the ultimate goal being to secure a stable operational environment for the company.”
Work from home has accelerated the development of e-signatures. This March, in a reply to the Enquiry into the Issues Concerning the Signing of E-Labour Contracts of Beijing Municipal Human Resources and Social Security Bureau, the Ministry of Human Resources and Social Security (MOHRSS) clarified that e-signatures are allowed in signing labour contracts.
George Lu, chief partner at Lanbai Law Firm in Shanghai, says that many e-signature suppliers are pushing hard for companies to accept e-labour contracts, but are ignoring the restrictions in the Electronic Signature Law and the reply of the MOHRSS in their promotion campaigns. “In practice, there is no law yet to stipulate that the signing of an electronic labourcontract can be exempted from the obligation to sign a written labour contract, which is also controversial in jurisprudence,” he warns.
Lu adds that an employment relationship includes the social identity and property relationship between the employer and employee. Although e-signatures may be able to ensure the authorization from the parties is real, the context of a labour contract is much more complicated than authorizing to proceed with payments by using a mobile phone. He says it has not yet been tested in judicial practice that a written labour contract can be substituted with an e-signature.
“In fact, there has never been a case among the court decisions ruling that a labour contract can be signed with an e-signature,” says Lu. However, he thinks that e-signatures enjoy a large number of application scenarios in corporate management, and can be a supplement to written labour contracts.
Shared employment, through which companies temporarily hire employees from businesses that haven’t resumed operations, or are only partially operating, has become more prevalent during the pandemic, and has helped alleviate the employment pressures of both employers and employees. John Dong says that shared employment, labour dispatch and labour outsourcing should be distinguished from each other when dealing with disputes.
Bankruptcy and restructuring
Labour disputes in connection to redundancies are not the only challenge in these troubled times. Some companies may fail to survive the economic downturn, giving rise to issues such as debt restructuring and bankruptcy.
Wang Dan, a director at Longan Law Firm in Beijing, has seen a rapid growth in bankruptcy business since 2015, and with the rise in bankruptcies has come the support of judicial policies in efforts to improve the bankruptcy legal system.
But Wang observes that clients still cannot distinguish between bankruptcy, liquidation, restructuring and reconciliation. “Chinese people mistake bankruptcy for liquidation,” he says. “To make clients less averse to and confused about bankruptcy, we use ‘judicial restructuring’ as a euphemism for bankruptcy restructuring.”
An administrator is vital in a bankruptcy process. Zhu Xiaodong, of Tian Yuan, says that as the administrator manages massive and complex assets, and deals with multiple lawsuits initiated by various debtors, the boundary of responsibility is hard to identify when negligence occurs. “There are domestic cases where the administrator is sued for losses of several hundred million or even billion renminbi, which is a compensation impossible for a law firm,” he says. “Thus, having a clear definition of the administrator’s responsibilities is necessary.”
The Enterprise Bankruptcy Law restricts law firms that have a material interest in the case from being the administrator. Zhu Xiaodong says that a law firm that has been the legal counsel of a company in the past three years is forbidden to be an administrator, due to conflict of interest restrictions.
However, as the companies subject to bankruptcy restructuring tend to be big local names with massive volumes, this restriction bars a large number of appropriate law firms from taking the role they are most suited to. Zhu cites the recommendations of an SPC judge and expects that the law firm on which both debtors and debtee agree can be exempted from such restrictions.
But these cases are not restricted to China, and cross-border bankruptcies are also rising. Zhang Ting, a senior partner at DOCVIT Law Firm in Beijing, says many large foreign companies are applying for bankruptcy protection, but they have Chinese suppliers who have a right of recourse to the foreign assets. Zhang reminds Chinese debtors of the best time for asset preservation. “Chapter 13 provides for some measures the suppliers can take to recover the supplied goods, but some Chinese clients miss the best time for goods preservation, so they can only participate in the final distribution,” she says.
An IPO surge
Compared with adopting bankruptcy process, more companies are raising funds through different means to weather the difficult times. The launch of a registration system and the lowering of IPO thresholds are encouraging more companies to consider an IPO in the A-share market. Uncertainties surrounding the China-US relationship and the increasingly stringent review of Chinese companies listed in the US via the Holding Foreign Companies Accountable Act are also pushing some Chinese companies to seek a secondary listing in Hong Kong.
On 22 July, the Star Market celebrated its first anniversary. According to a report by people.cn, as of 21 July there were 133 companies listed on the Star Market, with a total market capitalization of more than RMB2.79 trillion (US$403 billion). Ant Group, the world’s largest fintech unicorn, just announced its plan to launch IPOs on both the Star Market and the Hong Kong Exchange.
But risks may be hidden under a prosperous visage, legal experts warn. “Lately, news about listed company collapses and punishment by regulators is frequent, due to some legacy problems and recent revenue shrinking as a result of the pandemic, ” says Andrew Zhang, a partner at Commerce & Finance Law Offices in Beijing.
Ma Jiangtao, a Beijing-based board director at Dentons, warns that companies may seek development and profit by compromising compliance. For example, recent financial fraud scandals may implicate criminal, administrative and civil responsibilities. Ma recommends that companies establish a compliance system based on their own conditions, and place more attention on risky compliance issues such as financial compliance, anti-commercial bribery, personal data protection compliance, export control and sanctions.
As society realizes the value of the medical sector during this pandemic, many medical equipment companies are witnessing a surge in revenue, reaching IPO thresholds in terms of profit. However, Wang Dan suggests that companies remain cautious about IPOs. “For example, if some companies with poor financials last year boosted their profit by RMB100 million this year, we doubt their sustainable profitability,” he says. “We recommend these clients to make good use of this golden time to accumulate wealth and technological strength, and consider an IPO once sustainable operational capacity is improved.
“If companies decide to launch an IPO, they should engage brokers, financial and legal consultants to provide pre-listing tutoring and guidance. The whole process, from compliance arrangement to taxation, IP protection arrangements, staff arrangements, to the final step of an IPO, should be managed in a well-organized way.”
IP rights have always been a focus in the China-US relationship. With the signing of the Phase One deal at the start of the year, the China-US trade war has come to a nervous truce. Simon Tsi, the founding partner of Chang Tsi & Partners in Beijing, believes that IP rights will replace resources, capital and other elements to become an essential strategic resource and strength of a country in international competition.
“Countries are committed to making their business environment more favourable to improve their competitive edge,” says Tsi. “IP rights are at the top of the value chain, and to some extent the competition of business environment becomes the competition of IP rights.”
China’s investment in IP in recent years has begun to pay off. According to World Intellectual Property Organization (WIPO) statistics, China has submitted 58,990 patents through the Patent Co-operation Treaty, being the biggest applicant of international patents and putting an end to the supremacy of the US since 1978.
Long Chuanhong, vice president of CCPIT Patent and Trademark Law Office, says that domestic patent and trademark applications, and relating business, have rebounded. In particular, applications for biopharma inventions and protection are now a focus of attention, and remain active.
IP litigation also remains active. Zhou Yunchuan, a partner at Saelink Law Firm in Beijing, says clients are asking lawyers how to overcome the difficulties caused by the pandemic, such as restrictions on business trips and court sessions, so they can advance their cases. “Our clients are mainly in the high-tech sector, which is less impacted by the pandemic,” he says. “As the pandemic makes competition fiercer, lawsuits have become a sharp tool to preserve a competitive edge and combat infringement.”
The China-US trade deal will have far-reaching influence on IP legislation. David Lin, a director at Dare & Sure Law Firm in Beijing, says that US right holders have put forward more stringent conditions regarding licences and other co-operation this year, but domestic companies have been slow to react. “Our suggestion [for Chinese companies] is to have an accurate assessment of the environment, establish an adaptive plan, resolve compliance risks and deliberate on countermeasures,” says Lin.
Andy Xiang, a partner at Twelve Tables Law Firm in Beijing, adds: “Some clients lack awareness and knowledge of IP, and have no clue as to how to safeguard their own rights when the technology is copied by competitors. “Others, to secure orders, rush into contracts with IP clauses, putting themselves in a disadvantageous position. Clients should treat IP rights as a core investment of the company, and invest in it from the start. Finding solutions after problems occur is less productive.”
In the past half year, many companies have begun to expand into online business, and inevitably have adopted telecommuting, which makes cybersecurity increasingly important.
Dorothy Xing, of East & Concord, says companies tend to ignore the following issues in terms of cyber and data security: (1) not having a systematic assessment of their own demands, the safety of the system, and the security capability of the suppliers before adopting a telecommuting system; (2) recklessly venturing into online business without consulting compliance requirements, or without establishing feasible and actionable policies, because their policies are perfunctory, or without updating the policies based on latest compliance requirements; and (3) not paying enough attention to the training and management of employees, thus they cannot secure concrete control over cyber and data security.
“Digital transformation is not a question of ‘if’, but ‘how’, for both emerging sectors and traditional sectors,” says Jin Youyuan, founding partner of Merits & Tree Law Offices in Beijing. “Otherwise, they will lag behind their competitors in future development, or even get beaten by forerunners from other sectors, such as TMT giants.”
Jin adds that the lack of a comprehensive system for addressing data compliance, privacy protection, business secrets and employment relationship issues is a pain point for companies. It is no longer a legal issue, but involves the knowledge of corporate management, IP capacity and the human resources system. “Lawyers with cross-discipline knowledge, and capable of providing over-arching solutions, are in urgent need,” he says.
Chapter 6 of the Civil Code’s Personality Rights text is entitled “Privacy Rights and Personal Information Protections”, which provides for the definition of privacy and personal information, principles of protection, legal responsibilities, subject rights, information handling and other issues, opening a new era for privacy and personal information protection.
“As once unattainable concepts such as big data, the internet of things, cloud computing, artificial intelligence and blockchain continue to turn from theory to reality, data has become a core asset that companies are competing for,” says Zhang Zhi, a Shenzhen-based director of the management committee at V&T Law Firm. “Companies should pay attention to cloud-related personal information protection liability issues.”
Zhang adds that the Civil Code fills a number of legal gaps in the commercial factoring and supply chain asset-backed securities (ABS) business, and better balances the responsibilities, rights and benefits among the business participants. “Along with the significant benefits brought about by the Civil Code, the market for commercial factoring and supply chain ABS business is bound to become even more prosperous,” he says.
Despite the epoch-making law’s commitment to improving the legal system, Tim Meng, managing partner of Golden Gate Lawyers in Beijing, says that, “on the one hand, the law has become systematic, while on the other hand, the conflict between legal principles and legal provisions has become more and more serious”.
Taking the contract part of the Civil Code as an example, where article 565 provides for the right to terminate a contract, Meng says there are many exceptions for termination in this provision, and it abandoned the concepts of “the party who has the right to terminate” in the Minutes of the National Working Conference on the Trial of Civil and Commercial Cases by Courts, creating a loophole when the offenders make the complaint first.
Nevertheless, the Civil Code will impact companies from market entry to exit, and it remains fundamental to their operation and development. For a look at the concerns of in-house counsel surrounding the Civil Code, see Toil and trouble.