As enterprises step out, lawyers please come in

Since the Belt and Road initiative was proposed four years ago, Chinese enterprises going global have encountered opportunities of historical proportions. Their investments in countries along the Belt and Road have been steadily increasing. Just in terms of project contracting abroad, in 2017, Chinese enterprises executed contracting project contracts worth more than US$140 billion in the 61 countries along the Belt and Road. However, it should be noted that, under pressure in the domestic and foreign competition environments, enterprises, in the course of going global, have also paid a bitter price, one of the major reasons being inadequate defence against legal risks.

Among the Chinese enterprises that go global, large state-owned enterprises (SOEs) are the main force. Traditionally, the business of these enterprises has mainly been project contracting. They now face both a change from general contractor to investor domestically, and a transformation from domestic business to international business, but there remain certain misunderstandings in terms of the prevention and control of legal risks, the function of legal affairs, the engagement of external counsel, etc.

COMMON MISUNDERSTANDINGS

Overstressing the importance of business departments and neglecting the legal affairs department. The status of inhouse counsel in an enterprise will usually directly affect the level of prevention and control of the legal risks in a project. Foreign-related projects involve complex legal services and few enterprises have a sufficient number of inhouse counsel to handle all legal matters. The status of inhouse counsel directly determines the breadth and depth of participation in projects by external counsel.

In enterprises in which inhouse counsel have a high status, intervention in a project by external counsel occurs early on. They can provide legal services as early as the stage of determining the deal structure. The importance of the deal structure in a foreign-related project goes without saying. A reasonable deal structure and effective tax plan can generate several millions or even several hundred millions of Renminbi in economic value for an enterprise.

However, there are some enterprises that, even though they engage in big projects, do not have their own legal affairs department, or any dedicated inhouse counsel, with its parent group’s legal department providing advice only at the time when a project is reported to the group level. However, at this time, as the negotiations on the transaction documents are usually approaching their end, if the requirements specified by the group’s legal department are taken for discussions with the transaction counterparty at this stage, the personnel of the business department will certainly feel their passivity and their impact on the enterprise’s reputation. In international business, foreign clients are in even less of a position to understand, and this is also one of the reasons why foreign clients in certain transactions are unwilling to deal with Chinese enterprises.

Enterprises that now place great importance on using legal professionals do so either because they have been aware of the benefits throughout a project or because they paid out a massive economic price in past projects. For the legal department, it is through the process of serving the business departments and providing legal advice that it can cause the enterprise to realize that inhouse counsel in fact earn money and create value for the company from a different angle, and make the enterprise more willing to rely on the inhouse counsel team.

Believing that only lawyers from the host country are needed for a foreign-related project. Since the proposal of the Belt and Road initiative, a significant number of enterprises have come to realize the function of external counsel in projects, but they still need to know more about how to use them. Some enterprises prefer, in practice, to directly hire a local law firm in the target country for its investment.

When investing in a country, it is of course necessary to hire a local law firm, but hiring requires skill. There are many countries along the Belt and Road that remain at a stage of rather limited development, with fairly unsound legal regimes, frequent changes in laws, and uneven quality of lawyers, with their experience in participating in large investment projects very limited. If an enterprise engages such a law firm, not only will it be impossible to ensure the level of protection against legal risks, but the progress of the project could also be impacted by the problems within the local law firm.

The current practice of many experienced SOEs is to engage a large domestic law firm with relatively strong comprehensive strengths to serve as the overall leader of the legal teams and to engage the local law firm. As the enterprise does not directly deal with the local law firm, it saves the costs involved in co-ordinating and communicating between the local firm and the domestic firm. Furthermore, as the large domestic law firm is in the industry, it is in a much better position to select a local law firm with extensive experience in the sector in which the project is found.

Taking price as the determining factor in selecting external counsel. At present, many enterprises, when procuring legal services, invite bids as they would for the procurement of works or goods, and determine the provider of the legal services by the lowest bid. Legal services are a service provided based on reliance on the mental labour, time and accumulated experience of the lawyers, and there is a wide discrepancy in services provided by lawyers with different levels of experience.

Using the lowest bid method to select lawyers is very unlikely to select for the enterprise the lawyers with the best results and the most extensive experience in the industry or sector in question. When engaging lawyers, an enterprise should instead comprehensively consider such factors as the experience of the legal service team in similar projects, the competence of the legal team assigned to the project, and the service plan tailored for the project by the lawyers. An enterprise cannot be faulted for considering cost, but that should not be the single determining factor.

When going global, Chinese enterprises cannot discard the protection provided by inhouse counsel and lawyers. By drawing on the strengths of professionals, an enterprise can absorb others’ experiences and lessons, minimize or avoid taking wrong turns and more quickly pick the fruits of success.

Wang Jihong is a partner at Zhong Lun Law Firm. She can be contacted on +86 10 5957 2288 or by email at wangjihong@zhonglun.com
Liu Ying is an associate at Zhong Lun Law Firm. She can be contacted on +86 10 5087 2713 or by email at liuying@zhonglun.com