Labour issues in acquisitions, restructurings in China

By Zhang Ming, Grandway Law Offices

Parties to an acquisition/restructuring have a tendency to focus on certain key points – for example price, closing, performance, and even integration – paying less attention to the handling of labour relations. It gives rise to unfavourable consequences such that, at worst, it can be the factor that determines the success or failure of the restructuring.

张明 ZHANG MING 国枫律师事务所合伙人 Partner Grandway Law Offices
Grandway Law Offices

Employment relationships in an acquisition/restructuring via merger or division. Article 34 of the Employment Contract Law specifies that, “if an employer is merged or divided, etc., its existing employment contracts must remain valid and continue to be performed by the employer(s) that succeed to its rights and obligations”. Accordingly, the employment relationships between the original enterprise and its employees are not affected, regardless of whether the merger is one by new establishment or one by absorption, or the division is one by new establishment or one by split-off.

In practice, for future convenience in continuing to carry out various procedures, such as those for social insurance, the restructured enterprise will, in the name of the new signing entity, enter into an employment contract amendment agreements with its employees on terms identical to those of the existing employment contracts. It should be noted that such amendment agreements are continuations of the existing employment contracts, and as such do not constitute renewals as open-ended employment contracts, and do not have an impact on the time when workers can request execution of open-ended employment contracts. If an employee does not agree to the amendment and elects to leave, the enterprise is not required to pay him or her severance pay.

Employment relationships in an acquisition/restructuring via equity or asset acquisition. Regarding the restructuring method, an equity acquisition may be totally different in form from an asset acquisition, but, with respect to employment relationships, the consequences arising from these two types of transactions are similar, namely maintenance of the existing situation.

After an equity acquisition, the only change in the target is the shareholders, and none of the target’s existing employment contracts need be modified. After an asset acquisition, the acquired entity continues to exist, and the existing employment contracts need not be modified. However, in practice, after the completion of an equity acquisition, the enterprise will usually make a smaller or larger adjustment in its human resources, and, in an asset acquisition, if the acquired party does not have other business after the sale of the assets, layoffs become a matter of time. Here, it is necessary to mention the next issue requiring attention.

Termination of employment relationships after an enterprise acquisition/restructuring. An enterprise acquisition/restructuring is not one of the statutory reasons that allow an enterprise to terminate employment contracts. Accordingly, if a consensus cannot be reached with the employees who are to be laid off, or if, in the case of a relatively large layoff, the approval of the competent local labour authority cannot be secured, illegal termination of employment contracts may be constituted, requiring payment of double the compensation, causing a major increase in the acquisition/restructuring costs. When the layoff of a relatively large number of employees is involved, the failure to clearly and rapidly resolve the layoff issue can affect social stability or even directly result in the failure of the acquisition/restructuring.

Article 36 of the Employment Contract Law specifies that, “an employer and a worker may terminate their employment contract if they so agree after consultations”. In an acquisition/restructuring, many employees will anticipate layoffs, but because of the uncertainty, they can easily become anxious. If the situation is handled improperly, it can easily result in a standoff. The enterprise should, on the one hand, promptly, clearly and continuously exchange information with its employees, and on the other, it should duly consider its employees’ actual situation and claims, offering those who have expressed the intention to leave a bonus for early termination.

Subject to not affecting the enterprise’s efficiency after the restructuring, best efforts should be made to retain those employees that have household difficulties or that would have difficulties finding new work. With respect to those that genuinely cannot be retained, co-ordination may be undertaken by the enterprise or the government to recommend other avenues of employment. In short, treating employees fairly and alleviating their feelings of discontentment are the best ways to achieve a consensus over the termination of their employment contracts.

If an enterprise proposes to layoff at least 20 employees or a number of less than 20 persons but equivalent to at least 10% of its workforce, it may submit its layoff plan to the labour authority in accordance with article 41 of the Employment Contract Law and proceed with the layoffs after securing its approval. Although article 41 does not expressly mention “acquisition/restructuring” among the relevant circumstances, in practice, an acquisition/restructuring is often in agreement with the circumstances enumerated in that article. If, following sufficient give and take with the government to bring it to an understanding of the reasonableness of the acquisition/restructuring, the government comes forward to co-ordinate layoff related matters, the matter may be resolved with less effort.

Non-compete after an acquisition/restructuring. Such deals are usually accompanied by an adjustment of the enterprise’s management structure, and this stage is often characterized by active or passive departures by senior officers. The enterprise will wish to have certain of those senior officers perform non-compete obligations. With respect to such a demand, both parties to an acquisition/restructuring should make advance preparations, providing for this in detail in the restructuring plan, expressly specifying the relevant persons, the execution or revision of a non-compete agreement, the scope of non-compete, and the amount of compensation for non-compete, and the method of paying the same.

Adducing evidence in a non-compete type of labour dispute is difficult and enforcement is also difficult even if the enterprise prevails in the action. Accordingly, if a dispute subsequently arises, the enterprise, when pursuing liability, needs to have a clearly defined objective, emphasizing consultations with, and pursuit of, the genuinely important persons, at the extreme even requiring those persons to provide property available for enforcement to serve as security for performance of their non-compete obligations when executing the non-compete agreement. With respect to less important persons, their non-compete agreements may be terminated by ceasing to pay the non-compete compensation. If there is a failure to grasp the important, the enterprise could, on the road to pursuing non-compete liability, end up losing more than it gains.

Zhang Ming is a partner at Grandway Law Offices

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