China Contract Protections and Litigation

Scrap is very much an international business, and due to its potential for rapidly changing prices, it is ripe for non-payments and international litigation.

Many months ago, I was interviewed by Scrap Magazine regarding Chinese companies failing to pay on their scrap contracts. At that time, a slew of Chinese companies were backing out of their contracts to purchase scrap metal from US suppliers because the value of the product they had purchased had fallen precipitously since their date of purchase.

The article is entitled, Easing Export Concern, and it is subtitled,:”In the aftermath of last fall’s economic collapse and the ensuing trade problems, scrap sellers are seeking new measures to protect themselves in agreements with foreign buyers”. It does agreat job explaining the risk of not getting paid in all international sales.

It talks about the pros and cons of letters of credit and it rightly concludes that the surest way to ensure payment is to get paid up front. I then talk about the basics of Chinese contract law and protection:

The U.S. and Chinese business cultures are actually more similar than most people think, says Dan Harris, a partner at Harris Bricken (Seattle), a law firm with personnel in China, and keeper of “There are some very good businesspeople in China. There are some very poor businesspeople in China. It doesn’t take a great businessperson to understand the forward market. … A lot of times, what is ascribed to culture is just circumstances.” Harris gives the example of a Chinese buyer with cash flow problems who pays its local suppliers before foreign ones. Most U.S. companies would do the same thing, he says—not out of patriotism, but because the local company can cause trouble much more quickly than an overseas one.

Some Chinese companies do use language and cultural differences to deceive, Harris says, thus due diligence is essential. In one scam, a company assumes the identity of another company, one that has a long history and good reputation. He once represented a toy company [after these problems arose!] that thought it was purchasing from a major Chinese manufacturer. Representatives of the U.S. company even had meetings at the manufacturer’s offices and toured the factory. In reality, the toy company was working with an independent broker who was presumably slipping someone at the plant bribes in exchange for tours and meeting space—and who disappeared as soon as the dispute arose. The major manufacturer knew nothing of the deal.

Companies doing business in China should ask for proof that they are dealing with the right parties. “Ask to see the documents,” Harris says, and do not fall for the line that “that’s not how we do business here.” A reputable firm will work to bridge cultural differences, while a bad actor might hide behind them, he says.

Many scrap dealers have the impression that it’s impossible for a non-Chinese company to sue and win in China. That’s wrong, Harris says. The Chinese do recognize contracts, he says, but they have to be solid contracts, preferably written in Chinese, and calling for resolution in a Chinese court. Other types of contracts, including those implied by a paper trail, can be useless in the Chinese legal system. Harris has what he calls his bike-lock theory of Chinese law: “If there are 30 bikes, and one of them has a really good lock, it’s not going to be stolen.” Likewise, a seller that has a good contract in place is more likely to get paid, even if that contract is never tested in court. A contract is not a panacea, Harris says, “but you’re dead without it.” In fact, his firm will not take on a dispute in China unless there’s a good-quality written contract in place.

Companies with a Chinese contract that sue in a Chinese court will find the litigation process different from that in the West. First, Harris says, a suit is not a negotiating tool. In the United States, a plaintiff might file a suit to force a settlement without a trial. In China, more than 90 percent of suits filed end up in front of a judge. It’s easy to sue, he says, and cases move quickly. But judges tend to look at the fairness of a contract more than its legal language. Chinese judges do not like to see one party take all of the hit, Harris says, so suing for $1 million for scrap that is now worth $500,000 probably won’t lead to a $1 million verdict, no matter what the terms of the contract were. That’s not a bias against a U.S. company, he says—a Chinese seller would face the same judgment.

Without a contract enforceable in a Chinese court, the seller must look elsewhere to resolve a contract dispute with a Chinese company. The seller might have the option to pursue assets in Hong Kong or in another country, where the courts might be more likely to recognize e-mail messages, telephone records, and invoices as implied contracts, as they might in the United States.

What are you seeing in your international litigation these days?

2 responses to “China Contract Protections and Litigation”

  1. Dan, something came immediately to mind as I read the following excerpt:
    “If there are 30 bikes, and one of them has a really good lock, it’s not going to be stolen.” Likewise, a seller that has a good contract in place is more likely to get paid, even if that contract is never tested in court.”
    Have any of your clients used the “but going through the entire paper-chase rigamarole was just *so cumbersome,* Dan, that by the time I’d have had the thing in my hand, the Chinese client was prepared to skedaddle and do business with another (scrap) supplier! And you know how it goes, Dan. Cash is king over there.”
    Obviously, your clients prefer to have contract in hand, but at least during the introductory stages some of the smaller operations — not the larger concerns your firm’s represented before — have had to employ these more “fast ‘n loose” methods? No?
    ::: Naturally, I’m suggesting they did this before your professional opinion(s) was solicited. :::

  2. There should be a better chance now to enforce implied contracts – the SPC’s recent opinion on the contract law states that that if it is possible to infer the intention to conclude a cotnract, the courts can determine there was a contract, but in “another form”.

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