Good Contracts are Key, Corruption be Damned

Got an email the other day from a good-sized company the other day asking about the benefit of having manufacturing contracts with companies in countries like Thailand, Taiwan, Indonesia, and Malaysia. The email went something like this (I say “something” because I’ve changed it so nobody will ever be able to identify it):

I am getting pushback from some of the non-lawyers at my company on the value of contracts. Their argument is that these countries are completely corrupt so why bother with contracts that are not going to be enforceable? They are saying that our only stick is our ability to move future business away from those companies that go against what we want them to do. How can a contract work in a country where people can bribe their way out of jail? How do I counter this?

Here’s how.

There are three reasons for having a good contract, regardless of the country:

1.  Clarity. The first is to achieve clarity. To make sure you and your Thai or Malaysia or Indonesian company are on the same page. For example, if you ask your Thai supplier if it can get you your product in 25 days, it will pretty much always say “yes.”  But if you put in your contract that the product needs to ship in 25 days and for every day your Thai supplier is late it must pay you 10% of the value of your order, there is a really good chance the Thai company will get honest with you and tell you that 25 days is impossible and that when it previously said “yes” to 25 day deliveries, it meant only that 25 day deliveries were possible, not that it could consistently achieve that. At that point, you and the Thai company can figure out what is realistic and then you will know what to realistically expect going forward. I can give countless examples of this sort of thing, but this is yet another reason why we advocate putting your contracts in the language of the country in which you are doing business. Clarity before you start the relationship is key and even those people at your company who are doubting the value of a contract implicitly recognize that when they talk about moving business away from those companies that “go against what we want them to do.” How are those companies going to know exactly what you want them to do and what of those things is super-critical if you do not have something in writing (like a contract) making that clear?

2.  Prevention.  The second benefit of having a contract with your counter-parties in Thailand, Malaysia and Indonesia is that it will likely bring them company to heel. By this I mean that just having a well written contract that is at least potentially enforceable means that the company will know exactly what it must do to comply and what may happen to it if it does not. And in most cases it might as well comply. Let’s use the 25 day delivery example as the example here as well. If your Malaysian manufacturer makes widgets for 15 foreign companies and 3 of those have very clear time deadlines with a very clear provisions setting out the damages for failing to comply and it starts falling behind on production, to which companies will the Malaysian manufacturer give production priority? The 12 companies without a contract or the 3 companies with a contract? Of course it will put the three companies with a good contract at the front of the line. If your Malaysian, Taiwanese, Thai or Indonesian companies believe your contract might be enforced or simply fear that it might be enforced, your contract gives you leverage and power. And as you can see from the next paragraph, that fear truly ought to be there for all countries, with the possible exception of Indonesia.

3.  Enforceability.  Here’s the funny thing. My firm has written around a thousand contracts with companies in emerging market countries like Mexico, Thailand, Indonesia, Turkey, Vietnam, etc. and I can count on one hand the number of times one of our clients has called us to report a contract breach. I attribute this to reasons #1 and #2 above. And with respect to the few times one of our international dispute resolution lawyers has been called on to try to resolve a breach of contract situation, there has not been a single time where our client was not better off being able to point to a contract and its damages provisions in trying to settle the matter. I should also note that some of the countries with which you are doing business have quite developed and efficient legal systems. The World Bank ranks 190 countries by their “enforcing contract score” and Taiwan ranks 11th, Malaysia ranks 33rd, Thailand ranks 35th and Indonesia ranks 146th. Just by way of comparison, the United States ranks 16th and the United Kingdom ranks 32nd, presumably because enforcing contracts in these two countries can be so expensive and time consuming.

But let’s just assume the next contract you want us to draft is with Bangladesh, which ranks next to the last among the 190 countries ranked. And let’s just assume that a large reason for this terrible ranking is rampant court corruption. Should you still bother with a contract? Yes and here’s why.

When Westerners think of a corrupt court they usually think of the opposing party paying a judge in cash for the ruling of their dreams. But it is rarely that simple and knowing how court corruption works is important.

I was schooled in the “finer points” of court corruption by a very smart, very honest Russian lawyer friend of mine who used to practice law in the Russian Far East — where many prosecutors and judges lives in million dollar mansions on $40,000 a year salaries. What this lawyer explained to me works pretty much the same way in most countries with a less than pristine court system — or at least that is what lawyers in some of these countries have told me.

My schooling on Russian court corruption was in “real time” as it involved a real case and a real client. It has been many years so I may be a bit off on the numbers, but bear with me here. It is possible that things have changed in Russia since then and it is also quite possible this information held true only for this one region in Russia. It is also possible that I am the King of Prussia.

My client had a contract with a Russian company under which the Russian company clearly owed my client $2 million, but the Russian company was refusing to pay and all but challenging my client to sue it in a Vladivostok court, the only place my client could pursue its claims. Legally, my client’s case was about as close to a slam-dunk winner as you are likely to see in a business dispute. But my client was rightfully concerned how corruption would influence its case.

Our Russian local counsel explained how we should view the case, corruption warts and all, and he did so by explaining the following:

Nine of the fifteen judges are corrupt. The other six are not .So we have a less than 50-50 chance of getting a fair trial. But I still like our case even before one of the corrupt ones. Our case is so strong that none of the corrupt judges will just toss it to the other side without a very substantial payment. No judge wants to be thought of as corrupt and ruling against our client in this case will definitely raise some eyebrows.

The Russian company will probably need to pay the lower court judge approximately $300,000 for the ruling it wants. And then we can appeal to a three judge appellate panel, made up of judges from throughout the province. A lower percentage of the appellate judges are corrupt and those that are require large payments, especially on a case like this. The odds of all three of our appellate judges being corrupt are quite low. The odds of the Russian company having close connections with any of the judges are lower than when all of the judges are based in its home city. This means that to try to bribe two of the three judges will be risky and expensive. Risky because, though rare, people sometimes do go to jail on bribery charges. Expensive because we are talking about three appellate judges. So in the end, I estimate that for the Russian company to be assured of winning through the appellate level, it will need to pay maybe a million dollars. And that ignores our ability to at least try to appeal to the Supreme Court in Moscow.

My numbers are obviously just estimates but what I am telling you is that though corruption is a factor, our job is to not allow our client to panic in the face of it. We can settle this case on good terms and that is what we should be trying to do. The Russian company would rather pay us to eliminate risk than pay a bunch of judges and take on new risks.

We did end up settling the case and at a figure not all that much lower than what we would have accepted in the United States.

I am not by any means trying to minimize the impact of corruption; I am merely trying to show that it oftentimes is not as overwhelming as it may initially appear.

Note also in the Russia example above that we never discussed our client paying a bribe to anyone. That is always the worst alternative because it puts people at real risk of going to jail without anything close to a guarantee that it will even work. When our Russian lawyer said that people in Russia rarely get arrested for bribery, he was talking about Russians, not foreigners.

Court corruption will have much bigger impact with cases that can reasonably go either way. In those situations — or so I am told — the lower court judges in Vladivostok (and this was many years ago) would take $15,000 to throw the case, knowing that nobody could be certain whether their decision was due to the funds they were being paid or to the facts. This means that the better your contract, the better your chances in court and the more it will cost your foreign counter-party to buy the decision it wants. The more it will cost your foreign counter-party to buy the court decision it wants, the more likely it will be to comply with your contract to avoid being sued at all and the more it will pay you to settle if you do threaten to sue or do sue.

When dealing with corruption, one also has to be sensitive to the location within the country, the type of case, and the relative influence of the parties. In other words, a $200,000 breach of contract case between a U.S. private company and a small Malaysian company in Kuala Lampur is more likely to get a “fair trial” than a case against a massive Malaysian company in a small Malaysian town. Note though that a massive Malaysian company will likely have all sorts of reputational reasons for wanting to avoid going to trial even in its hometown on a case it can win, so even there having a good contract will likely prove valuable.

I also think Western companies overweight corruption as the explanation for their treatment overseas. Sometimes court loses are due to corruption but oftentimes they are due to the Western company not understanding the foreign country’s laws. See e.g., China Litigation: Not the Same but Different.

One thing I can say is that our international dispute lawyers virtually never pursue international litigation or arbitration on behalf of a company with no written contract. This is because courts in most emerging market countries are far more focused on the documentation than in Western countries and without good documentation, the claims would be hopeless.

Bottom Line: If you want to negate corruption as much as possible, you use a contract that makes it all the more likely for you to prevail, just as you would want if there were no corruption at all. Will a good contract guarantee you victory in Thailand? No, but it won’t guarantee you a victory in the United States either. Will not having any contract at all pretty much guarantee you a future of irresolvable problems? Yes it will.