China Justice Observer

中国司法观察

Is a Chinese Company Liable for the Debts of Its Overseas Subsidiaries?

Sun, 08 Sep 2019
Categories: Insights
Contributors: Shuo Jiang 蒋硕

When you are doing business with an overseas subsidiary of a Chinese company and have to sue it, then you find that it has no assets to be enforced for its debts, what should you do? 

I. The Dilemma when Doing Business with Overseas Subsidiaries of Chinese Company

When many companies do business with a Chinese company in their own countries, they actually sign contracts with its overseas subsidiaries most of the time. 

In this case, creditors usually can do nothing when these overseas subsidiaries breach the contract or commit acts of infringement, because they normally don’t own any properties that bear their names.

In fact, more and more Chinese companies are now investing or trading through their overseas subsidiaries established in Hong Kong, Cayman and British Virgin Islands (BVI). These overseas subsidiaries have several features in common:

A. They don’t have their own actual business;

B. They are the subjects who sign the contracts when their Chinese parent companies are having oversea equity transactions and/or foreign trades;

C. 100% of their shares are held directly by a Chinese company or by one of its actual controllers; 
D. They exist to primarily facilitate their shareholders, i.e., the Chinese companies, in tax planning and foreign exchange trading.

II. How to Recover Debts from a Chinese Company and Its Overseas Subsidiaries

1. Recovering debts from the Chinese parent company

If a Chinese company holds 100% share of an overseas subsidiary, this subsidiary fits the definition of one-person limited liability company in Company Law of the People's Republic of China. Under the circumstances, according to China's Company Law, when the overseas subsidiary is unable to prove its property is independent of its shareholder's own property, its shareholder (i.e., the Chinese company) shall directly bear the debts of the overseas subsidiary to the creditors. [1]

However, these overseas subsidiaries are usually registered in Hong Kong, BVI or Cayman. In that case, can you still make Chinese companies responsible for the debts of their overseas subsidiaries in accordance with the special provisions of China's Company Law on one-person limited liability company? I think the answer will be yes under certain conditions for the following reasons.

2. Applying China's Company Law

If you file a lawsuit in a Chinese court, the Chinese court will determine which law is applicable to the overseas subsidiary in accordance with Law of the People's Republic of China on the Application of Laws to Foreign-related Civil Relations.

According to Article 14 of Law on the Application of Laws to Foreign-related Civil Relations, “Laws of the registration place shall apply to the capacity for civil rights, capacity for civil conduct, organizational structure, shareholders' rights and obligations and other matters of a legal person and the branch offices thereof. Where the place of principal office of a legal person is different from its place of registration, laws of the place of principal office may apply. The habitual residence of a legal person shall be its place of principal office.”

This means that although these overseas subsidiaries are registered outside China, as long as their place of principal office locates in China, the Chinese courts can apply the law of the place of principal office, i.e., China's Company Law, to the relevant issues of these overseas subsidiaries.

This view has already been supported by recent judicial precedents in Chinese courts. In the ruling“(2017) Zhe 72 Min Chu 1074”((2017)浙72民初1074号) [2] concerning the dispute over freight forwarding contract for the sea or the sea-connected waters between and Ramcos. Bfabics Co., Ltd., Raheja Aikshit (拉赫佳·艾肯舍) and Shaoxing Zhongjing International Freight Forwarding Co., Ltd., an overseas subsidiary of a Chinese company was registered in Hong Kong,the other party considered the subsidiary had defaulted on the debts, and thus sued it as well as its Chinese parent company in a Chinese court. The Chinese court found that considering that the subsidiary had no actual business in Hong Kong, and its directors, who were also the employees of its Chinese parent company, mainly reside in mainland China as well, mainland China is the place of principal office of the subsidiary. As a result, the Chinese court decided that, in determining certain matters of the subsidiary, such as the capacity for civil rights, as well as shareholders' rights and obligations, the law the place of principal office (i.e.law of mainland China) shall apply.

Consequently, in accordance with the provisions of China's Company Law on one-person limited liability company, the court ruled that the Hong Kong subsidiary and its Chinese parent company should share the liability for breach of contract. 

III. Commentaries 

The provisions of China's Company Law on one-person limited liability company have undoubtedly enhanced the performance and solvency of Chinese companies' overseas subsidiaries. To better use these provisions, it is essential to create connecting factors to make the law applicable.

For example, we can make a clear agreement on these connecting factors in a transaction file. That is to say, we can specifically agree in a contract on the fact that the principal office of the overseas subsidiary of a Chinese company locates somewhere within Chinese territory. In this way, once there’s a dispute, we can directly determine that the place of principal office is in China without the need of investigation and proof, so China's Company Law can be applied accordingly. Consequently, the Chinese company shall be jointly and severally liable for clearing the debts of its wholly-owned overseas subsidiary, which is certainly good news for the other party in overseas transactions.

It is worth noting that, in accordance with Law on the Application of Laws to Foreign-related Civil Relations, in addition to statutory matters (as those in Article 14), the parties could agree on the governing law of the contract. [3] Therefore, when confronted with the matters such as the investor exercising the creditor's rights, recovering the investment funds, signing the contract, and liability for breach of contract, the parties could choose the applicable law by agreement. And the greater thing is that Chinese law is likely to protect the interests of both parties in a more equitable manner under certain circumstances.

In short, it is suggested that, when building a framework for overseas investment and having overseas trade, the parties should choose the law that best serves their own interests after fully judging the transaction risk, and consider Chinese law as one of the important options. 

References:

[1] 中国《公司法》第六十三条:一人有限责任公司的股东不能证明公司财产独立于股东自己的财产的,应当对公司债务承担连带责任。
中国《公司法》第五十七条:本法所称一人有限责任公司,是指只有一个自然人股东或者一个法人股东的有限责任公司。

[2]绍兴中井国际货运代理有限公司与若美可艾斯比布业有限公司、拉赫佳·艾肯舍等海上、通海水域货运代理合同纠纷一审民事判决书(宁波海事法院,(2017)浙72民初1074号)

[3]中国《涉外民事法律适用法》第四十一条:当事人可以协议选择合同适用的法律。当事人没有选择的,适用履行义务最能体现该合同特征的一方当事人经常居所地法律或者其他与该合同有最密切联系的法律。

 

The views and opinions expressed are solely those of the authors and do not necessarily reflect the official policy or position of China Justice Observer.

Contributors: Shuo Jiang 蒋硕

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