Why Contracts with China Friends are So Necessary, Friends or Not

Not a month goes by without a company telling me how great their relationship is with their Chinese counterparty, be it the Chinese company with which they are contemplating a joint venture or the Chinese company that manufactures their widgets.

As a lawyer, my thoughts when hearing this sort of thing tends to be as follows:

1. Great. It is always better to have a good relationship with the companies with which you do business, whether in China or in Peoria. I am always saying that our China attorneys “can draft the world’s best contract, but if it is with a crook, it won’t be worth the paper on which it is printed.” So yes, the character of those with whom you do business does matter.

2. But to us as lawyers, the fact that you have a great relationship with your Chinese counterparty is legally irrelevant. And because we deal with Chinese transactions pretty much every day, we often see what can go wrong between parties, no matter how great their relationship. We’ve seen problems arise because the foreign company was wrong about its Chinese counterparty and their relationship with it. We’ve seen problems arise when the foreign company was right, but the situation changed enough so that the relationship soured. And we’ve seen problems arise when the ownership or management structure of the Chinese company changed and the relationship changed with it.

We lawyers can help a company avoid problems that arise from all three of the above situations by giving them written documents to protect them now and if anything should be proven wrong or change.

Contracts are generally written when the relationship among the contracting parties is good. There are three reasons why it makes sense to have a contract with your Chinese counterparty — even if your relationship with it is great:

1.  Clarity. The first is to achieve clarity; to make sure you and the Chinese company are on the same page. If you ask your Chinese supplier if it can get you your product in 20 days, it will say “yes” pretty much every time. But if you put in your contract that if the product does not ship in 20 days the Chinese company must pay you 2% of the value of the order for each day they are late, there is a good chance the Chinese company will tell you that 20 days is impossible. At that point, you and the Chinese company can figure out what is realistic and then you know what to expect going forward. This is yet another reason why we advocate putting your contract in Chinese (and not just translated). Clarity before you start the relationship is important and it makes sense no matter how good the relationship.

2.  Stricture The second benefit of having a contract with your Chinese counterparty is that just having a well written contract that is at least potentially enforceable means the Chinese company knows exactly what it must do to comply. And, in most cases, it might as well. Let’s use the 20 day delivery example as the example here as well. If your Chinese manufacturer makes widgets for 25 foreign companies and 5 of those have clear time deadlines with a clear liquidated damages provision setting out the specific damages the Chinese company will incur if it falls behind on its deliveries to you, to which companies do you think your Chinese manufacturer will give production priority? Of course it will put the five companies with a good contract at the front of the line and that is relevant even if you have a good relationship. Or are you willing to go to the back of the line because your Chinese counterparty believes your company is one of the ones to which it can delay its deliveries because of your good relationship?

3.  Enforceability. You may at some point need to sue your “friend” and if you do, it will immeasurably help you to have a China contract that works. And for those who do not  believe China is good with contracts, note that the World Bank ranks China 5th (yes 5) among 183  countries at enforcing contracts.

Contracts protect, but only if you have one.