China insight – issue 15

October/November 2008

Pagoda

Contacts

Introduction

Welcome to this new edition of China insight. This publication aims to keep our clients regularly informed of the most recent and substantial regulatory changes being introduced in China.

Monopoly agreements and merger control under China’s new Anti-Monopoly Law

Formally adopted on 30 August 2007, after almost 15 years of extensive discussion and debate, the Anti-Monopoly Law (AML) of the People’s Republic of China (PRC) finally came into force on 1 August 2008. The PRC has thus fulfilled a promise made before joining the World Trade Organisation in 2001 that it would formulate a comprehensive competition law.

In the first of two articles on China’s new AML, Marc Waha and Philip Monaghan examine the objectives and scope of the new law, the enforcement authorities, monopoly agreements, exemptions and exclusions, and merger control. A second article (to appear in the next issue of China Insight) will focus on the AML’s provisions on abuse of dominant position, abuse of administrative power, investigations of suspected monopoly conduct and private enforcement.

Aims of the AML

Article 1 of the AML sets out five purposes for the enactment of the new law: (i) the prevention and prohibition of monopoly conduct; (ii) the protection of fair competition; (iii) the improvement of economic efficiency; (iv) the protection of the interests of consumers and the public interest generally; and (v) the promotion of the healthy development of the socialist market economy.

Of these five aims, the last is perhaps the most problematic. Despite such wording typically appearing in most PRC laws, the meaning of the phrasing “the healthy development of the socialist market economy” is still unknown and, potentially, could allow authorities and courts to apply the AML in ways that would be contrary to the protection of the competitive process. The best that can be hoped for - from an economic perspective - is that this particular wording in Article 1 will remain a dead letter. The reiteration of the socialist market economy objective in Article 4 (“The state shall formulate and implement competition rules suitable for a socialist market economy”) does however give some cause for doubt.

Scope and general overview

In drafting the AML Chinese legislators had regard to the scope and application of competition laws in jurisdictions with well-established competition law regimes. It is therefore unsurprising that in several respects the AML is similar in terms of content to the competition laws of other jurisdictions - in particular:

  • It applies to “undertakings” - defined as any natural person, legal person, or other organisation that produces and/or deals in commodities/goods or provides services (unless stated otherwise, the words “commodity” and “goods” include services in this article).
  • It catches the following types of “monopoly conduct”:
    1. Monopoly agreements” between undertakings;
    2. Concentrations” of undertakings that have - or may have - the effect of eliminating or restricting competition; and
    3. Abuse of a dominant market position by an undertaking.
  • The AML has extraterritorial application - if conduct eliminates or restricts competition in the PRC it can amount to an infringement under the AML regardless of whether that conduct took place in the territory of the PRC or elsewhere. It follows that undertakings with sales or other commercial activities in the PRC, where they make decisions on pricing and commercial terms etc, must act in accordance with the AML regardless of whether they have a formal presence in mainland China.
  • Infringements of the AML may result in serious adverse consequences. In respect of anti-monopoly (or restrictive) agreements and abuse of dominance, the financial sanctions under the AML are potentially more severe than in many other jurisdictions as undertakings face both fines and the possibility of having their illegal gains confiscated (Article 46) as well as civil liability.

AML competition authorities

Article 9 of the AML provides that the State Council shall establish an Anti-Monopoly Commission (AMC) with responsibility for the organisation, coordination and guidance of anti-monopoly work. Article 10 of the AML provides that enforcement shall be carried out by the Anti-Monopoly Enforcement Authorities (AMEAs):

  • AMC
    The AMC is currently headed by Mr Wang Qishan (vice-premier for trade and finance) and includes three deputy directors being the heads respectively of the following ministries: (i) the National Development and Reform Commission (NDRC); (ii) the Ministry of Commerce (MOFCOM); and (iii) the State Administration for Industry and Commerce (SAIC). The AMC makes use of staff from MOFCOM’s competition division (see below) for day-to-day operations and it has the following notable functions:
    1. Formulating competition policies and guidelines.
    2. Organising market investigations and issuing reports of results (which presumably could lead to action by one or other of the AMEAs).
    3. Coordinating enforcement work.
  • AMEAs
    Responsibility for enforcement of the AML is currently shared as follows: (i) the Department of Price Supervision of the NDRC handles price-related cases; (ii) MOFCOM’s newly founded competition division (the Anti-Monopoly Bureau) assesses concentrations; (iii) the Law Enforcement Bureau for Anti-Monopoly and Unfair Competition of the SAIC has jurisdiction in relation to non-price abuse of dominance cases, monopoly agreements, and abuse of administrative power. The AML further provides that the AMEAs may delegate enforcement functions (although presumably not merger review) to relevant departments at the provincial, autonomous region and municipal level.

There are a number of comments one could make in respect of this rather complicated institutional architecture but the primary comment must be that it has all the appearances of something in transition - a legislative compromise with an eye on something more unified where possibly the AMC and AMEAs are merged. Until that happens there must however be a genuine concern that this fragmented model will lead to confusion, inconsistency and - at worst - inter-regulatory turf wars (consider the case of a sales quota cartel which includes a back-up arrangement on pricing). The possibility of delegation of functions by the AMEAs to decentralised authorities does nothing to alleviate these concerns. And while China might look to Europe as the model for decentralisation, the post-modernisation decentralised enforcement of competition law though the European Competition Network of national regulatory authorities is underpinned by a long and developed jurisprudence. Delegated enforcement of the AML is not something that can be recommended in the short term.

Monopoly agreements

Subject to the possibility of exemption, Article 13 of the AML prohibits various types of monopoly agreement - any agreement, decision or concerted practice that eliminates or restricts competition - and sanctions can be imposed even where the agreement has not been implemented. In catching informal arrangements or understandings (concerted practices) - as well as formal agreements - the law is consistent with international practice. Similarly, the AML is in line with international practice in prohibiting industry associations from organising undertakings to engage in prohibited conduct. Particular guidance on the types of agreement that are prohibited is provided in the AML:

  • Horizontal conduct
    Five types of monopoly agreement are prohibited; in addition there is a “catch-all” provision:
    1. agreements that fix prices;
    2. agreements that limit supply;
    3. agreements that divide (downstream) sales markets or (upstream) raw materials procurement markets;
    4. agreements that limit the purchase - or development - of new technology or equipment;
    5. joint boycott agreements; and
    6. other agreements as determined by the relevant State Council anti-monopoly enforcement authority.
  • Vertical conduct
    Two types of monopoly agreement between undertakings at different levels of the supply chain - such as between a manufacturer and a distributor - are prohibited; and again there is a “catch-all” provision:
    1. agreements that fix resale prices;
    2. agreements that fix minimum resale prices; or
    3. other agreements as determined by the relevant anti-monopoly enforcement authority.

However, for all types of monopoly agreement, the agreement will be permitted if an undertaking can demonstrate that the agreement was concluded for a particular beneficial purpose:

  • Provided the undertaking can demonstrate the agreement will not seriously restrict competition in the relevant market and consumers will share in the resulting benefits , any of the following beneficial purposes is sufficient: (i) improving technology or researching and developing a new product; (ii) improving product quality, reducing costs and increasing efficiency, unifying product specifications or standards, or implementing a specialised division of work; (iii) improving the operational efficiency and/or enhancing the competitiveness of SME s; (iv) achieving societal or public benefits such as energy conservation, environmental protection, provision of disaster relief among others; or (v) mitigating a serious decline in sales or marked overproduction in an economic downturn.
  • Regardless of whether the undertaking can demonstrate the agreement will not seriously restrict competition and consumers will share in the resulting benefits , either of the following would suffice: (vi) “securing legitimate interests in foreign trade and foreign economic cooperation”; or (vii) such other circumstances as might be provided in law or by the State Council.

Competition law regimes elsewhere do not allow for the possibility of exemption where particularly serious anticompetitive horizontal conduct is concerned. Typically this is the case for hard core cartel conduct which usually includes undertakings agreeing - or reaching an understanding - to fix prices, limit output or sales or allocate markets or customers between them (including bid-rigging). In so far as the AML would allow for the possible exemption of “naked” monopoly agreements of this type it would seem inconsistent with international practice. In particular the scope of the exemption in Article 15(6) (“securing legitimate interests in foreign trade…”) would seem to allow for the possible exemption of hard core conduct where other industrial policy considerations are in play and might be seen as a specific expression of the general intention to promote the healthy development of the Chinese economy. Similarly, the exemption of “crisis cartels” by Article 15(5) (“…for the purpose of mitigating a serious decline in sales or… overproduction in an economic downturn”) is not always permitted elsewhere.

The number and type of beneficial purposes available to exempt monopoly agreements under the AML also differs to other regimes. For instance, there are fewer opportunities for exemption under the equivalent EC  law provision (Article 81(3) of the EC Treaty), while less obviously economic - more public interest oriented - bases for an exemption are permissible under the AML (energy conservation, environmental protection, and disaster relief).

Where an undertaking enters into a prohibited monopoly agreement the relevant anti-monopoly enforcement authority will order it to cease and desist, confiscate any illegal earnings and impose a fine of 1 to 10 per cent (depending on the nature, degree and duration of the violation) of the undertaking’s turnover in the preceding year (or - if the arrangement has been agreed but not implemented - up to RMB  500,000 (around US$  72,000 / € 46,000)). While it is not clear whether this turnover-based fine relates to worldwide turnover, turnover in China, or turnover in the relevant market, the capped fine for non-implemented arrangements indicates that an infringement may occur even if conduct is not followed through - that is, where there is no anticompetitive effect.

Industry associations for their part, where they organise undertakings to enter into a monopoly agreement, may face fines of up to RMB 500,000 (around US$ 72,000 / € 46,000). Where the infringement is serious, the industry association may have its registration cancelled.

Exemptions and exclusions

In the context of monopoly agreements, certain conduct which might otherwise amount to an infringement will be exempted where a particular beneficial purpose can be demonstrated by the undertaking(s) concerned. The various beneficial purposes - set out in Article 15 - are discussed above in detail. In brief these include: improving technology or R&D  for a new product; improving product quality, reducing costs and increasing efficiency, unifying product specifications or standards, or implementing a specialised division of work; improving the operational efficiency and/or enhancing the competitiveness of SMEs; achieving certain societal and public benefits (energy conservation, environmental protection, etc.); mitigating a serious decline in sales or overproduction in an economic downturn; securing legitimate interests in foreign trade and foreign economic cooperation; or other circumstances as provided by law or the State Council.

What is not entirely clear from this list is whether private parties can self assess their agreements so as to determine the availability of an exemption or whether they must apply to the relevant authorities for the grant of an individual exemption. Possibly both routes will be available. Pointing away from self-assessment are those beneficial purposes which seem to require a broader societal perspective (energy conservation, environmental protection, disaster relief, legitimate interests in foreign trade etc.) which individual undertakings are ill-placed to provide or judge. The foreign trade exemption is intriguing in that it would seem to permit cartels where a certain measure of the anticompetitive effects would be felt overseas (where they would presumably run the risk of falling foul of antitrust rules elsewhere).

In addition to the above, the AML contains the following exclusions:

  • State-controlled industries.  Article 7 of the AML provides that “[t]he State protects the lawful business activities of undertakings in sectors that relate to the lifeline of the national economy and state security and are controlled by the state-owned part of the economy as well as sectors in which exclusive operation and exclusive sale are implemented”. Further it is provided that the State “oversees and regulates” the business activities and pricing practices of these operators thus safeguarding the interests of consumers and promoting technological progress.

    While not clearly stated Article 7 seems to take certain activities of certain State-controlled undertakings of the type mentioned above (service of general economic interest type undertakings - water companies, electricity undertakings are obvious candidates) and undertakings possessing certain exclusive rights (telecoms operators perhaps) outside the scope of the AML ostensibly because - as regards those undertakings - the State is already actively protecting (through its ownership rights or by way of regulatory means) those same interests which the AML was enacted to protect (though Article 7 also places a burden of self-regulation on the undertakings to which it applies). Unfortunately, it is not at all clear which undertakings are removed from scope and whether those undertakings are removed from scope for all purposes. The opening wording of Article 7 (“[t]he State protects the lawful business activities ”) suggests that certain activities of these undertakings may still fall within scope of the AML.

  • Intellectual property rights. The AML does not apply to conduct relating to the exercise of IP rights in accordance with applicable IP laws and regulations - although conduct which amounts to an abuse of an IP right which eliminates or restricts competition will be caught. The question here of course is when does legitimate exercise of a right give way to an abuse. One is tempted to suggest that the PRC authorities might show less deference to property rights on cultural grounds than perhaps the US authorities. On the other hand, the fact that it is the IP court that will have jurisdiction for AML related matters might be taken as an indication that abuse of an IP right will be difficult to demonstrate - at least in the litigation context.

Farmers and rural economic organisations. The AML does not apply to cooperative or coordinated acts of farmers and rural economic organisations in agriculture-related activities (such as the production, processing, sale, transportation and storage of produce).

Merger control

Merger control is not new in the PRC, but the AML - together with the State Council Regulation on Notification Thresholds for Concentrations of Undertakings (the Notification Thresholds Regulation) - establishes a new regime:

  • The AML provides for the mandatory pre-notification of “concentrations” where certain turnover thresholds are met.
  • Concentrations include mergers and acquisitions of control by share and/or equity purchase. Acquiring the ability of exercising a decisive influence over other undertakings by contractual or other means is also caught.
  • The applicable thresholds set out in the Notification Thresholds Regulation are:
    1. During the previous financial year, total global turnover of all undertakings involved in the concentration exceeded RMB 10 billion (around US$ 1.5 billion / € 939 million), with each of at least two of these undertakings having had a turnover of more than RMB 400 million (around US$ 58 million / € 38 million) in the PRC; or
    2. During the previous financial year, total turnover in the PRC of all undertakings involved in the concentration exceeded RMB 2 billion (around US$ 292 million / € 188 million), with each of at least two of these undertakings having had a turnover of more than RMB 400 million in the PRC.
  • Where a concentration satisfies one of the above thresholds it must be notified to, reviewed and cleared by, the relevant anti-monopoly enforcement authority before implementation.
  • The merger review process will typically last 30 days (for a Phase 1 or Preliminary Examination), extendable to 120 days (or possibly 180 days) if further review (a Phase 2 or Further Examination) is needed and will conclude with the concentration either being cleared (unconditionally or subject to conditions aimed at reducing its anticompetitive effect) or prohibited.
  • In addition to a review on competition grounds, the AML allows for the possibility of a national security review in cases of M&A activity involving a foreign investor acquiring an interest in a domestic PRC undertaking.
  • Implementing a notifiable concentration without first obtaining clearance (or the relevant review period having elapsed following notification if the authority does not make a decision) may result in a fine of up to RMB 500,000 (around US$ 72,000 / € 46,000) with the concentration being reversed. In such circumstances, if other parties suffer loss, the undertakings involved in the concentration could potentially also face civil liability under Article 50.

Conclusion

The PRC should be congratulated on making good on its promise to introduce a comprehensive competition law. However - as the AML comes into force - there is still considerable uncertainty as to its future operation.

To some extent current difficulties are a by-product of the PRC legal system - and perhaps therefore inevitable. In particular, in common with other Chinese legislation, the AML contains general and often open-ended (in some cases obscure) provisions with few defined terms. As a result, the PRC’s new law is in urgent need of comprehensive and detailed guidelines to provide clarification on a wide-range of important topics - for instance market definition, the scope of exemptions and whether applications for individual exemption are permissible (and if so setting out procedure) and in the merger context, rules for turnover calculation (including its geographic allocation).

To date, the only substantive guidance made public in respect of the detailed provisions of the AML concerns the thresholds for MOFCOM jurisdiction in the context of merger review. However, though clearly helpful, the particular regulation - the Notification Thresholds Regulation - is itself unclear in some important respects. Further, the failings of the Notification Thresholds Regulation have arguably more to do with a lack of legislative foresight (or possibly insufficient legislative focus given more pressing concerns in the sporting realm) rather than the particular characteristics of the PRC legal system. In that regard it is difficult to avoid the conclusion that the transitional period of almost one year since the formal adoption of the AML on 30 August 2007 could have been better used.

As matters stand businesses active in the PRC are in a difficult position. On the one hand they must now act in accordance with the AML, on the other they must live with the uncertainty of not knowing how many of the AML’s provisions will be applied in practice.

Marc Waha

Philip Monaghan

Virginie Deslandres

Sun Hong

 

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Proposed relaxation of the restrictions on foreign investments in domestic insurers

The China Insurance Regulatory Commission (CIRC) has circulated draft regulations which propose to relax the current regime regarding the permitted level of investment a foreign entity can make in a domestic insurer as well as the restrictions on the activities of foreign insurers operating in the PRC.

The CIRC released the draft regulations for the “Administration of the Shares of Insurance Companies” for initial public consultation in August 2007 with an amended draft circulated in March 2008 (the Draft Regulations). The Draft Regulations apply to CIRC approved “domestic” insurers with less than 25 per cent of their share capital in foreign hands. An insurer with foreign investment in excess of 25 per cent is considered a “foreign-invested” insurer and is subject to a different set of regulations.

The key proposals contained in the Draft Regulations are as follows:

  • the repeal of the “single presence requirement”;
  • the introduction of a new “single ‘type’ requirement”; and
  • an increase from 10 per cent to 20 per cent in the permitted level of investment a foreign entity (including its connected parties) can make in a domestic insurer.

The above key proposals are explained in more detail below.

Under the current regulations, a foreign entity with its own joint venture insurance operations in the PRC  is not permitted to hold an investment in a domestic insurer. This restriction is commonly referred to as the “single presence requirement”. Under the Draft Regulations, it is proposed that the “single presence requirement” is repealed, meaning that, in principle, foreign entities will be able to establish their own operations as well as invest in the domestic insurance market (provided the new “single ‘type’ requirement” is not breached (which is discussed below)).

The Draft Regulations contain a new restriction with the effect that a foreign ‘financial institution’ (which includes banks and insurance companies) with its own operations or investments in the PRC insurance market will not be permitted to acquire an interest in a domestic insurer of the same ‘type’. The new “single ‘type’ requirement” is drafted in very general terms, allowing the CIRC great discretion with regard to its interpretation. At this stage, it is not clear what the term ‘type’ means (i.e. whether it refers to domestic insurers generally or just the type of product they sell). The PRC Insurance Law distinguishes between property insurance business (including property loss, liability and credit insurance) and personal insurance business (including life, health and accidental injury insurance) so it may be the case that the term ‘type’ refers to these two types/classifications of insurance business. It is hoped that the final regulations will provide greater clarity. However, in their responses to the public consultation of the Draft Regulations, a number of foreign institutions have recommended that this new restriction be removed from the final regulations. It remains to be seen whether the “single ‘type’ requirement” will find its way into the final regulations and, if it does, how it will be defined.

The Draft Regulations also increase from 10 per cent to 20 per cent the permitted level of investment a foreign entity (including its connected parties) can make in a domestic insurer. Under the current regime, a single foreign investor can hold a maximum of 10 per cent of a domestic insurer (although there are cases of foreign investors being permitted to hold higher stakes). This 10 per cent investment limit has been seen as an obstacle preventing the valuable involvement of foreign entities in the management of domestic insurers. The proposed 20 per cent investment limit should allow foreign entities to have greater control over the management of a domestic insurer albeit as a minority shareholder.

An additional development relating to the regulations surrounding domestic insurers is a recent Memorandum of Understanding between the CIRC and the China Banking Regulatory Commission (CBRC). This is aimed at improving cooperation between the banking and insurance sectors and for exploring the possibility of allowing banks to invest in domestic insurers. The CBRC recently gave approval to four domestic banks to acquire stakes in domestic insurers (although approval from the CIRC and the State Council is still pending).

It is expected that the Draft Regulations, if adopted, together with the recent cooperation between the CIRC and the CBRC will lead to greater competition for the acquisition of minority interests in domestic insurers.

Richard Crosby

John Simpkins

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Cross-border insolvencies: China assets at risk?

The global credit crisis is widely expected to trigger an increase in corporate insolvencies. Foreign creditors seeking recovery against assets located in China should beware. Despite recent changes to China’s insolvency regime, it will remain difficult to obtain enforcement in China of an insolvency judgment or ruling made by a foreign court.

For inbound cross-border insolvency cases, the PRC  Enterprise Insolvency Law sets out onerous conditions that will make it extremely difficult for a foreign insolvency officer to obtain recognition and enforcement in China of an insolvency judgment made by a foreign court. The PRC Enterprise Insolvency Law provides that any insolvency proceedings commenced outside the PRC will only be binding on the assets of the debtor in the PRC if the People’s Court determines that the five following conditions are satisfied:

  1. the foreign court’s decision does not violate the “fundamental principles” of the laws of the PRC;
  2. the foreign court’s decision is not detrimental to the sovereignty of the PRC;
  3. the foreign court’s decision is not detrimental to the national security of the PRC;
  4. the foreign court’s decision is not detrimental to the “social public interests” of the PRC; and
  5. the foreign court’s decision is not prejudicial to the rights and interests of creditors in the PRC.

The People’s Court must also determine that there are relevant treaties or reciprocal relations between such country and the PRC. However, China is not a signatory to any significant international treaty relating to insolvency.

It remains to be seen to what extent the People’s Courts will rely on these conditions to resist allowing a foreign insolvency officer to secure an insolvent debtor’s assets in China and repatriate such assets (or the proceeds from the sale of such assets). The Chinese rules will also be tested in the context of overseas sales of financially distressed companies in court-supervised auctions.

Foreign insolvency proceedings may cause the termination of joint venture contracts to which the foreign debtor is a party. In some cases, the Chinese partner will have the option to buy out the foreign partner. Depending on the laws of the jurisdiction of the insolvent company, the insolvent company or its court appointed insolvency officer may have to be involved in the negotiations leading to the buy-out by the Chinese partner.

To see Norton Rose LLP ’s response to the credit crisis, including our surveys, please visit our credit crisis blog.

Michael Godden

Jim James

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Enforcement of awards - an easier path

With effect from 1 April 2008, the time limit for commencing action in the PRC  for the recognition and enforcement of foreign arbitral awards has been extended to two years.

Before April this year, the time limit for commencing court proceedings to enforce an award in the PRC, including a foreign award, was just six months from the expiry of the voluntary compliance period stated in the award (twelve months if the claimant was an individual). This time limit was regarded as very short, particularly in view of the number of documents required to be assembled and translated into Chinese (including a translation of the award and the agreement) before an action could be commenced, and it may have encouraged some parties to embark on enforcement proceedings immediately when able to do so, rather than try to negotiate terms of settlement. Under the Decision on Amending the Civil Procedure Law (issued by the Standing Committee of the National People’s Congress on 28 October 2007, the “Amendment”), the time limit is extended to two years in all cases with effect from 1 April 2008.  

Other changes introduced by the Amendment will assist the enforcement process.  A party who fails to honour an award (or judgment) in accordance with the court’s enforcement notice may be required, upon the application of the claimant, to provide details of his assets for the preceding twelve months. Failure to report these details accurately or at all may result in the court imposing a fine, or ordering the detention of the defaulting party, its legal or principal representatives. In addition, the court may take steps to prevent individuals leaving the PRC; it may also notify credit rating agencies, institutions and the media of non-compliance.

The Amendment will be welcomed for the additional time it affords parties to explore settlement before embarking on enforcement action and for the new powers of compulsion vested in the court.

Jim James

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PRC Employment Contract Law: latest developments

The State Council promulgated a new regulation, the Implementation Rules of PRC  Employment Contract Law (the New Rules) on September 18 2008. This is the government’s latest effort to clarify certain key issues within the Employment Contract Law (ECL) which became effective on 1 January 2008. The New Rules focus on clarifying the following points listed below which have previously drawn significant criticism from the public.

Written employment contracts

The ECL expressly requires that employers sign written employment contracts with their employees within one month of hiring them. An employer who has only signed written employment contracts with its employees after one month but still within a year, must pay its affected employees double their salary from the end of the first month the employee is employed until the day before the written employment contract is signed.

An employer who has failed to sign written employment contracts with its employees within a year will be deemed to have signed open-ended employment contracts with its employees, which can only be terminated for the causes listed in Article 19 of the New Rules.

If an employer refuses to sign an open-ended employment contract with an affected employee in the written form required by law, the employer will be liable to pay double the employee’s monthly salary from the date when an open-ended employment contract should have been signed until such open-ended employment contract is actually concluded in written form.

The ECL was however silent on the consequences for an employer who has failed to sign a written employment contract with its employee due to the fault of that employee. The New Rules have provided clarification on this point. Article 5 of the New Rules provides that where an employee, having been notified by the employer in writing, fails to conclude a written employment contract with the employer within one month from the day on which he is employed, the employer must terminate the employment relationship with the employee by notifying the employee in writing. Following this notification the employer will not be required to give any economic compensation to the employee, but shall pay the employee for his/her actual working time. The New Rules therefore offer employers fairer protection when non-compliance is not caused by their own acts.

Open-ended employment contracts and causes for termination

An open-ended employment contract is an employment contract that does not specify an expiration date. In general, open-ended employment contracts under Chinese law are seen by the government as a way to protect the rights of employees, as employers cannot terminate such employment contracts without justifiable reasons. The ECL expressly provides that an employer may be required to sign an open-ended contract with his/her employees under certain circumstances, which include:

  1. where the employee has been working for the employer for 10 consecutive years; or
  2. where the employee has concluded two consecutive fixed-term employment contracts with his/her employer, and has not breached any of the provisions as set out in the ECL which can be used by the employer as legal reasons for refusing to sign an open-ended contract.

After the promulgation of the ECL, an employee who has served a long service period at a company may be able to request that he/she signs an open-ended contract with his/her employer. This prospect has resulted in protests from employers who feel they may not able to terminate the employment of some of their longer serving staff, even if they have justifiable reasons to do so. They contend that this may damage the competitive atmosphere within their companies.

To clarify this misconception, the New Rules emphasise that granting an employee an open-ended employment contract will not make it impossible for an employer to terminate an incompetent employee’s employment. An employer can still terminate an open-ended contract for the same reasons which are used to terminate fixed-term contracts provided severance pay has been paid to the employee in accordance with the law. The justifiable reasons for termination include the following:

  1. the employer and the employee have agreed to terminate the contract;
  2. the employee is proved to have failed to meet the employment conditions during his probation;
  3. the employee seriously violates the internal rules and procedures of the employer;
  4. the employee seriously neglects his duties or engages in malpractice for personal gains and has caused severe damage to the employer;
  5. the employee simultaneously enters an employment relationship with any other employer and thus seriously affects his completion of the tasks assigned by the employer, or the employee refuses to correct a problem after the employer has pointed it out;
  6. the employee, by means of deception or coercion or by taking advantage of the employer’s difficulties, forces the employer to conclude or change the employment contract against the employer’s true will;
  7. the employee is convicted of a criminal offence;
  8. the employee is sick or is injured for a non-work-related reason and cannot resume his original position after the expiration of the prescribed time period for medical treatment, nor can he assume any other position arranged by the employer;
  9. the employee is not competent enough for his position or is still not competent after training or being assigned to another position;
  10. the objective situation on which the conclusion of the employment contract is based has changed considerably, which makes it impossible to perform the employment contract, and no agreement on changing the contents of the employment contract has been reached after negotiations between the employer and the employee;
  11. the employer is being restructured according to the Enterprise Bankruptcy Law;
  12. the employer encounters serious difficulties in production and business operations;
  13. the employer changes its products, makes important technological innovations or adjusts the way of business operations, and it is still necessary to lay off some employees after modifying the employment contract; or
  14. other objective economic situations in which the employment contract is based change substantially, which makes it impossible to perform the employment contract.

Due to the conditions set out above (and in the New Rules), employers are still able to discharge incompetent employees or terminate the service of their employees for economic reasons. This is designed to help ease the concern from major corporations, which was raised after the implementation of the ECL. However, the wording of some of the justifiable reasons for terminating an employee’s service is still very vague and subject to the interpretation of local authorities.

Service years

The New Rules have provided some clarification as to how to calculate an employee’s service years for the purposes of determining their eligibility for an open-ended employment contract and also as to what happens to these service years if an employee is transferred to another company.

The New Rules provide that the 10 year period referred to above is counted from the date the employee started work for the employer and will include time worked prior to the implementation of the ECL.

In addition, if an original employer (the Original Employer) wants to transfer its employees to another company (the New Employer), there are two ways to calculate service years under the New Rules. The Original Employer can either:

  1. transfer its employees to the New Employer, including the calculation of his/her previous years of service, so that the New Employer will have to include this when calculating years of service for the employee’s contract; or
  2. the Original Employer can pay compensation according to the law and the New Employer can then re-employ the employee without having to take into consideration the calculation of his/her years of service with the Original Employer.

The clarification specified above is designed to prevent certain employers from circumventing the service period rules by using “voluntary resign and reemployment” schemes to clear the employment history of its existing employees following the implementation of the ECL.

Liability of the employee

Generally speaking, under Chinese labour law or the ECL, employees are not required to compensate employers for an early termination of their employment contract if such termination is their own choice. However the New Rules provide a series of circumstances under a fixed-term employment contract in which employees may be liable to pay employers compensation where such a contract is terminated by the employer.

These circumstances include:

  1. the employee seriously violates the internal rules and procedures of the employer;
  2. the employee seriously neglects his duties or engages in malpractice for personal gains and has caused severe damage to the employer;
  3. the employee simultaneously enters an employment relationship with any other employer and thus seriously affects completion of the tasks assigned to him/her by the employer, or the employee refuses to correct a problem after the employer has pointed it out;
  4. the employee, by means of deception or coercion or by taking advantage of the employer’s difficulties, forces the employer to conclude or change the employment contract against the employer’s true will; or
  5. the employee has been convicted of a criminal offence.

Labour dispatch

As a significant development in Chinese employment law, the ECL set out new nationwide rules to regulate labour dispatch, in order to prevent employers circumventing statutory requirements to pay benefits and remuneration by claiming employees are not employed by them but by labour dispatch agencies.

The ECL therefore requires that a dispatching agency shall sign a fixed-term contract with a term of more than two years with its dispatched employees and pay salaries on a monthly basis. The ECL also restricts the use of labour dispatch arrangements to temporary, auxiliary or fungible positions, forbids entities to establish any labour dispatching agency to dispatch workers to work for themselves or their subsidiaries, and imposes a requirement for “equal pay for equal work”.

To avoid any employer using loopholes contained within the ECL, the New Rules have provided further clarification. Under the New Rules no employer or its subsidiary can establish a labour dispatching agency in the form of a joint venture or a partnership to dispatch any employee to the employer or its subsidiary. Furthermore, no labour dispatching agency may employ dispatched employees on a part-time basis. Finally, the New Rules also reemphasize that the compensation rules between employers and employees should also be applied to the labour dispatching agency and the dispatched employees.

Conclusion

The New Rules reflect a more employer friendly attitude from the legislators. This may be a result of the Chinese government trying to balance the relationship between employer and employee after the promulgation of the ECL which has drawn much criticism from bigger companies and foreign investors since January 2008.

Although the New Rules try to provide clarification in relation to most of the points in dispute, there are still ambiguities in them. Local authorities will need to interpret and clarify any of the remaining uncertainties according to their local needs.

Virginie Deslandres

Jim James

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Shipbuilding in China: performance and capacity issues

Recent publication

Commercial shipbuilding has been enjoying the biggest boom ever. Defying predictions of a slow down, the industry continues to expand. Demand for newbuildings, conversions and repairs remains strong. The boom is sustained by reinvested profits, acquisitions, mergers and IPO s. Vast amounts of cash from high freight rates are being invested in newbuildings, attracted by relatively modest newbuilding values afforded by huge expansion of new capacity, particularly in China. It has transformed itself from being one of the worst investment sectors to being one of the best. But along with this hectic growth comes concern about possible overcapacity and several other issues which have been with us for some time.

In this paper, Jim James of our Shanghai office examines the way the industry is changing in Asia and comments on some of the questions that arise concerning refund guarantees, assignments, currency fluctuations and increased costs. He concludes with comments on the challenges that lie ahead for banks, buyers and yards.

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Asia competition team

The Norton Rose competition group established an Asia competition team in response to the aggressive assertion of extra-territorial jurisdiction by competition enforcement agencies generally and the development, in particular, of new competition law regimes throughout the region - not least in the People’s Republic of China.

Working from our offices in Hong Kong, Beijing, Singapore and Shanghai, the Asia competition team draws support from and works closely with our more established competition practices in London and Brussels. The team includes a mix of local professionals together with experienced competition lawyers from Europe including Hong Kong-based partner Marc Waha.

The Asia competition team offers a complete competition service tailored to the region. It advises on international cartel investigations, international competition litigation, rules on anti-competitive or monopoly agreements, abuse of dominance and mergers and acquisitions.

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China Insight contacts

For further information on any of the regulations referred to in our newsletter, please contact:

Beijing

Peter Burrows, Partner

Shanghai

Jim James, Partner

Hong Kong

David Stannard, Partner

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