In joint ventures, the powers vested on shareholders are rarely balanced. From the foreign shareholder’s side, oftentimes it either loses control over board decisions, or it gets the ability to control everything but as a result makes the company function poorly and miss business goals.
For the purpose of this article, “joint venture” hereof strictly refers to a business invested and registered jointly by a Chinese party and a foreign party as defined under the current applicable corporate laws of People’s Republic of China.
Happily Ever After or Divorce
There are two large factors that contribute to a doomed joint venture: (a) lack of effective communication, and (b) lack of independent legal supervision. When a foreign investor considers doing a joint venture in China, a solid legal risk control strategy is critical – regardless of how trustworthy, honest and capable the Chinese business partner looks to the foreign party.
A successful joint venture in China is like a good marriage. It starts with a honeymoon, followed by twists and turns that lead to either a strengthened partnership, or a divorce with one or both parties losing big – usually the foreign party. Like a marriage, you spend time, energy and money on building a relationship that should benefit both sides. You need to know what you should contribute, what your responsibilities are, and make the other party’s responsibilities as crystal clear as possible.
If you are still in the stage of assessing the feasibility of forming a joint venture, or purchasing shares from a Chinese domestic company, you need due diligence work to be carried out, which we will discuss in another article. If you have already decided to form a joint venture, you may find below our summed up experiences in this field to be useful information and guidance.
Draft and Sign a “Prenup”
Establish rules of how the joint venture should be setup and how it should be operated at the outset.
- Find an experienced Chinese lawyer (not law firm – a specific lawyer) who has directly contributed to successful joint ventures.
- Convey your goals, wants and don’t wants to your lawyer. Make sure you know what you want to included in a Joint Venture Shareholders Agreement, which is the source of the Articles of Association, i.e., bylaws of the joint venture.
- If the joint venture would heavily rely on your know-how, or any intellectual properties rights you have or will have, discuss that with your Chinese partner and have your lawyer draft legal documents to articulate your rights and avoid possible infringements. If you have a brand that sells or produces in China, apply for a trademark as early as possible. A foreign party can apply for a trademark in China, under a foreign company or a foreign individual’s name. Many complain that China doesn’t provide adequate intellectual property protection but do little or nothing to protect their rights. Don’t be one of them!
- Make it clear with your Chinese partner how decisions should be made on the operation of the joint venture. Have your lawyer draft relevant documents, especially the Articles of Associations. If your Chinese partner tells you that there is a standardized Articles of Associations required by the government and make it sound like you shouldn’t write it your way, be aware that it’s not true!
- Suggest that a 3rd party agent be appointed to handle company registration instead of letting one party handle the paperwork. Do not sign anything in Chinese that you don’t understand. At the same time, do understand that the registration office and all governing bureaus have standard documents provided only in Chinese. You have to sign them, but always exercise prudence.
Adopt a Practical Ongoing Governance Plan
Keeping things under control is an ongoing process, not a one-time deal. Governing a joint venture requires both in-house and outsourced expertise.
- Send your own people to work at the joint venture. Have someone who can be your eyes and ears, someone who will serve as a board member to be your voice and sign papers on your behalf , under a POA or acting in accordance with the Chinese corporate law.
- Demand a monthly bookkeeping sheet in both Chinese and English. It’s easy to prepare a template and then just fill it in each month. In doing so, you remain in control of the financial situation of the joint venture.
- Have the joint venture’s management team sign a Conflict of Interest Agreement, Confidentiality Agreement, and other documents needed to fully protect your rights.
- Have suppliers of the joint venture sign a Confidentiality Agreement and request the joint venture’s management team to execute a policy on how to place orders, enter into contracts and sign papers with third parties.
- Use a local long-term legal consultant who is able to provide consistent periodic reports in writing for both you and your people in the joint venture. Use a lawyer who is able to investigate any hidden issues within the operation of the joint venture.
- Come to China or send your right hand at least twice a year. Only by being here would you better understand how certain things are done here, some of which you may find impractical in your own country.
The above information gives you a basic understanding of why it is important to prepare yourself instead of going with your gut when comes to forming a joint venture in China. These are hardly thorough or complete, nor does this firm and I myself guarantee that these points cover all legal risks in a joint venture.