Governing law and forum in Chinese contracts

China contains roughly 20 per cent of the world’s population. It has the world’s second-largest economy by nominal GDP, the world’s fastest-growing consumer market, and it is the largest exporter of goods and the second largest importer of goods in the world.  It is not surprising then that companies conclude that to be truly successful on a global scale they need to have a well thought out China strategy.

It is ironic then that Western lawyers routinely insist on contract provisions that effectively render their contracts unenforceable in China. The tendency appears to be that lawyers attempt to require that contracts relating to China be governed by Western laws, and that they attorn to the exclusive jurisdiction of Western courts.

Unfortunately there is strong likelihood that those contracts are not worth the paper they are written on. Slightly more successful are contracts containing an arbitration clause, however in my experience arbitration clauses in contracts relating to China often are lacking key terms required under Chinese laws to be enforceable.

As is the case with most other jurisdictions, there are no hard-and-fast rules regarding governing law and forum in regard to Chinese contracts. Each situation is best analyzed on a case-by-case basis, taking into account factors such as the type of remedies which may be required, the financial compensation needed to make the client whole, the location of the Chinese party’s assets, anticipating what may go wrong, as many other factors.

Unlike most other jurisdictions, however, there are a number of significant legal and practical restrictions relating to Chinese contracts that I find have severely limited the number of options available in regard to selecting the governing law and forum.

Canadian court awards

Chinese courts will not enforce a foreign court judgment.  Unless the Chinese party has assets located in Canada, obtaining a Canadian judgment against a plaintiff based in China is pointless.

Canadian arbitration awards

Despite China being a signatory to the New York Convention on the Enforcement of Arbitral Awards, it is highly unlikely a Chinese court will enforce a Western arbitration award.

There are several reasons for this, not the least of which is that Chinese courts consider it an insult to their sovereignty to enforce foreign arbitral awards. Another practical reason is Chinese companies very rarely participate in arbitration processes where the other contracting party is located.

Chinese courts

The Chinese court hierarchy is very complex. There is often a great deal of confusion with regard to which particular court has jurisdiction over a given dispute. The quality of the judiciary is also uneven. There are significant challenges in proving foreign law. Financial damage awards are often nominal. The list goes on.

On the other hand, Chinese courts have been effective in regard to providing injunctive relief, and there has been relatively little procedural wrangling with regard to the granting of injunctions in China compared to most other litigation.

Subject matter and governing law

Chinese law requires that disputes over certain subject matter, including intellectual property ownership, land ownership, labour laws, insolvency, certain aspects of joint ventures, and wholly foreign-owned enterprises, and certain matters relating to shares must be governed by Chinese law.

Chinese courts struggle with the interpretation of foreign laws. Translators and experts are required, the quality of which is very uneven, and the process is slow and costly.

Coupled with the fact Chinese courts are reluctant to apply the laws of a foreign jurisdiction, it is reassuring to note Chinese laws contain few surprises. It’s laws are rationally based and relatively straightforward. Reported cases are becoming readily available.

Arbitration in general

Chinese law recognizes three types of arbitrations: international, foreign-related, and domestic.

An “international arbitration,” also known as a “foreign arbitration,” is one governed by a mediator based outside of the People’s Republic of China. Westerners seem to prefer international arbitration as they are more likely to be able to select an unbiased, expert panel to arbitrate their disputes.

A “foreign-related arbitration” involves “foreign elements,” but the mediator for the arbitration is within the PRC. The foreign elements in these kinds of arbitrations entail:
(i)    one or both parties being citizens of another country, stateless individuals, or foreign entities;
(ii)    the subject matter of the dispute is located outside of China; or
(iii)    the facts establishing, altering, or terminating the parties relationship occurs outside the PRC.

A foreign-related arbitration is less likely to be scrutinized by the Chinese courts should there be a challenge with regard to matters such as validity, process or enforcement.

A “domestic arbitration” is an arbitration that has no foreign-related elements, and the arbitration panel is within PRC territory.

To be enforceable domestic and foreign-related arbitration awards must be approved by a people’s court. Though not strictly required, it is not uncommon for a Chinese party to submit an international arbitration award to the people’s court as well.
 
There are a number of technical requirements imposed on arbitration provisions which must be met. If they are not followed it is unlikely that the arbitration provision will be enforced.

For example, Chinese law requires that arbitration provisions specify the arbitration institution. Clauses that fail to do so will ordinarily be invalid.  The parties’ intention to settle disputes through arbitration must be clearly and unequivocally stated in a valid arbitration clause or agreement.

Clauses tjat state that the parties agree to submit their disputes to “either arbitration or the courts,” or “first to arbitration, then to the courts” are typically be deemed to be void. There are several more examples like these.

Summary

There are many considerations to be taken into account when attempting negotiating a governing law and attornment clause when doing business with China. Contracts insisting on the application of western laws and exclusive attornment to foreign courts are almost automatically destined to fail. Agreements which are governed by the laws of China, and either are subject to being settled by the Chinese courts or by arbitration have much better odds of being enforced.

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