Commercial dispute resolution

Foreign investors should consider various aspects of their investment or commercial activity in the PRC in light of the dispute resolution options that are available should the need arise.

Legislation

The legal framework generally governing dispute resolution in the PRC consists of various laws including the:

• New York Convention on the Recognition & Enforcement of Foreign Arbitral Awards (the New York Convention);

• PRC Civil Law;

• PRC Civil Procedure Law (the Civil Procedure Law);

• PRC Arbitration Law (the Arbitration Law); and

• PRC Contract Law.

In specific cases, however, other laws may also impact on the choice of law and available dispute resolution options. These laws include the Labour Law , the PRC Law on Sino-foreign CJVs , and the PRC Law on Sino- foreign EJVs .

There are four general methods that parties use to resolve commercial disputes arising in the PRC: namely, negotiation (or 'friendly consultation'), mediation, arbitration and litigation.

Negotiation and mediation

Negotiation is often the first step in the PRC dispute resolution process. Foreign investors sometimes prefer negotiated settlements that are voluntarily accepted by their PRC counterparts in light of the difficulties associated with enforcing judgments in the PRC.

Mediation can provide the first formal step in dispute resolution if the parties are unable to negotiate. There are a number of mediation forums available in China, ranging from the People's Conciliation Committees (grassroots bodies that are generally called upon to mediate private disputes) to highly specialized commercial mediation centres . All mediation is voluntary and agreements reached through mediation are binding. Further action may be taken in the People's Courts where parties refuse to participate, decline to accept a mediated solution, or where one party fails to adhere to the terms of a mediated settlement .

China International Chamber of Commerce Conciliation Centres
The China International Chamber of Commerce (CICC) and the China Council for the Promotion of International Trade (CCPIT) have established more than 30 permanent commercial mediation centres within China. CCPIT Rules allow parties to appoint one or two mediators from a list of approved mediators with expertise in various fields including international trade, finance, intellectual property, technology transfers, construction and law.

Mediators are allowed wide latitude to conduct mediation and may exercise discretion over the admission and handling of evidence. Parties to CCPIT mediation may not refer to any information provided or offers made during the mediation in any future litigation or arbitration.

Conciliation conducted by the People's Courts
The People's Courts also conduct mediation, either as preliminary proceedings prior to litigation or later in the course of litigation. The Civil Procedure Law requires the People's Courts to conduct mediation between parties before commencing final litigation should mediation fail. If a mediated agreement is reached, it is signed by the judge, sealed by the Court and becomes enforceable upon execution by the opposing parties. Such a signed mediation agreement, formalized by the People's Court has the same legal effect as a final judgment and is subject to the same procedures for enforcement.

Arbitration

Arbitration is perhaps the most popular method of dispute resolution between PRC and foreign parties. Because China is a signatory to the New York Convention, most parties prefer to arbitrate outside the PRC, the most popular places being Hong Kong, Singapore and Stockholm.

Arbitration outside the PRC
As previously stated, most foreign parties prefer to resolve their disputes with PRC parties offshore. In certain contexts Chinese law allows parties to a foreign- related transaction to include dispute resolution clauses in agreements that provide for disputes to be submitted to arbitral tribunals outside the PRC. China acceded to the New York Convention in 1987, with two formal reservations : it only applies on the basis of reciprocity; and it only applies to disputes deemed commercial under PRC law.

Arbitration in the PRC
Although many disputes involving foreign parties are arbitrated offshore, where no previous agreement exists or PRC law forbids offshore resolution, it is also possible to arbitrate in China via PRC arbitral tribunals. The Arbitration Law establishes the standards for arbitrators and requirements for PRC arbitration commissions and the arbitration proceedings they conduct.

The Arbitration Law requires parties to agree voluntarily to submit to arbitration either before or after a dispute arises. Where a party attempts to litigate a dispute covered by a valid agreement to arbitrate, the People's Courts must dismiss the suit and refer the parties to arbitration. Most commercial disputes may be arbitrated.

The viability of arbitration as a means of dispute resolution is augmented by the Civil Procedure Law and relevant arbitration centre rules, that allow parties to seek injunctions to preserve property and evidence pending completion of an arbitration. The parties to the dispute may apply to the arbitration tribunal for injunctions , which may then be given full legal effect by the People's Courts.

The Arbitration Law requires arbitration tribunals to conduct mediation before rendering final decisions. When mediation is unsuccessful , the award made by the arbitration tribunal is binding upon the parties. The losing party has six months to appeal against a tribunal's decision. The Intermediate People's Courts retain powers to review and overturn awards where:

• there was no agreement to arbitrate;

• the issues arbitrated were not within the scope of the agreement to arbitrate;

• the dispute was outside the arbitration commission's jurisdiction;

• the composition of the arbitration tribunal or the arbitral proceedings did not conform to the tribunal's arbitration rules or other law;

• the arbitration decision was based upon fraudulent evidence;

• the arbitration tribunal clearly misapplied the law; or

• an arbitrator is guilty of misconduct , including the taking of bribes or otherwise acting out of self- interest.

Arbitration awards are also subject to cancellation by the Courts where they conflict with public policy.

The Arbitration Law contains special provisions for the arbitration of disputes that involve foreign investment and foreign trade (so called Foreign Affairs). Such arbitration may be handled by special Foreign Affairs arbitration tribunals (including CIETAC, discussed below) whose awards are subject to narrower review by the People's Courts. The People's Courts may consider cancelling such an arbitration award where a party did not receive meaningful notice and enforcement of the award would be contrary to public policy. However, awards are not subject to review due to the misapplication of law, insufficiency of evidence or misconduct by an arbitrator.

PRC arbitration tribunals
According to the Notice of the Office of the State Council on Clarification of Several Issues Concerning the Implementation of the Arbitration Law of the PRC , foreign- related disputes may be submitted to local arbitration tribunals where the parties have agreed. However, the parties may also select a Foreign Affairs arbitration forum.

The China International Economic and Trade Arbitration Commission
Although tainted by questionable decisions, the most popular alternative to offshore arbitration is the China International Economic and Trade Arbitration Commission (CIETAC). Established in Beijing in 1956, the CIETAC also has commissions in Shanghai and Shenzhen. CIETAC tribunals have jurisdiction to arbitrate disputes between:

• International or foreign-related enterprises (including those from Hong Kong, Macao and Taiwan);

• Separate FIEs; and

• FIEs and Chinese nationals.

CIETAC may also hear other types of disputes according to specific grants of jurisdiction pursuant to PRC law, such as Internet domain name disputes.

CIETAC maintains a list of approved arbitrators that includes professionals and experts from fields such as law, international business and trade, and science and technology. Presently there are a total of 492 arbitrators, 158 of whom are foreign nationals or residents of Hong Kong.

The CIETAC Arbitration Rules were amended by CCPIT and CICC, effective 1 October 2000. The Arbitration Rules set out the administrative guidelines for CIETAC and procedural rules for conducting the arbitration. Parties may appoint agents , including foreign lawyers , to represent them at arbitration. Parties may also nominate the language in which arbitration is to be conducted.

Where the dispute concerns less than 500,000 renminbi, or the parties otherwise agree, CIETAC can conduct streamlined summary arbitration proceedings. In summary proceedings, the arbitrators base their decisions on documentary evidence that the parties submit and must decide within 90 days of the formation of the tribunal, when necessary. The tribunal may also conduct hearings to receive testimony. Where hearings are conducted, the tribunal must issue its decision within 30 days of the conclusion.

Enforcement of arbitral awards in PRC Courts
PRC Courts must enforce foreign arbitration awards pursuant to the requirements of the New York Convention, except in limited circumstances. The execution of New York Convention obligations is embodied in the Code of Civil Procedure. The PRC Code of Civil Procedure provides that a party may sue to enforce an arbitral award in the Intermediate People's Court where one party fails to comply with such award. An action may be brought where the adverse party or the property subject to execution is located. PRC Courts are, however, often influenced and may refuse to enforce an arbitral award based on external considerations or law.

To counter this problem the Supreme People's Court issued a directive to the local People's Courts instituting procedural safeguards to encourage the enforcement of awards made in foreign arbitral tribunals and by foreign affairs tribunals within the PRC. The directive requires the Intermediate People's Courts to report their findings and reasoning to the Higher People's Courts where they refuse to enforce a foreign-related or foreign arbitral award. If the Higher People's Court affirms the lower Court's decision, they must in turn report their findings to the Supreme People's Court for final approval. Thus, no decision to bar enforcement of foreign or foreign affairs tribunal awards is final until the Supreme People's Court issues its approval. Awards rendered by domestic PRC arbitration tribunals, however, are not subject to the directive in cases that are not considered foreign-related under PRC law.

Hong Kong arbitral awards
Prior to Hong Kong's reunification with the mainland, PRC Courts were obligated to enforce arbitral awards issued by Hong Kong tribunals under the New York Convention. After Hong Kong's return, however, such awards could no longer be considered foreign and therefore the New York Convention could not apply.

On 24 January 2000 the PRC Supreme People's Court promulgated the Arrangements of the Supreme People's Court on the Reciprocal Enforcement of Arbitral Awards by Mainland China and the Hong Kong SAR (the Arrangements) to solve this problem. The arrangements require the Courts of the Hong Kong SAR (HKSAR) to enforce arbitral awards issued by mainland arbitration tribunals, subject to the Arbitration Law.

PRC Courts are similarly obligated to enforce arbitral awards issued by Hong Kong tribunals, pursuant to HKSAR law. When asked to enforce awards from the other jurisdiction, HKSAR and PRC Courts may refuse enforcement under circumstances very similar to those enumerated in the Arbitration Law and the New York Convention.

Litigation

Redress may also be sought in the People's Courts where mediation fails and the parties have not agreed to arbitrate their dispute. The PRC grants the right to sue and be sued to all aliens , foreign enterprises and foreign organizations based on reciprocity. PRC Courts will apply any restrictions placed on the rights of Chinese nationals when litigating in a foreign forum to the nationals of that forum.

In most civil claims the People's Court where the defendant is domiciled will have jurisdiction. In contract and tort claims, however, the People's Court in the jurisdiction where the contract was executed or tort was committed also has jurisdiction.

Appeals may be made to the appropriate Court of second instance, usually either the Intermediate or Higher People's Courts wherever a party objects to the ruling of the People's Courts. Courts of appeal must make their rulings within three months of the filing of the appeal, although extensions are granted in some cases. Rulings of the Courts of second instance are final and binding upon the parties.

Despite increased attempts at professionalism , PRC Courts are still susceptible to cronyism. Litigants are often subjected to prolonged delays even where Courts adhere to the letter of the law, especially when trying to enforce judgments. Nonetheless, the Code of Civil Procedure requires that judgments be timely executed and appeals to higher Courts allowed where execution is not rendered. In cases where property subject to execution is in the jurisdiction of another People's Court, that Court may be asked to execute the judgment within 15 days.

Gary Lock is a partner with Herbert Smith's corporate group and focuses on corporate finance, international capital raising exercises, and M&A in the PRC and Hong Kong. Gary has extensive experience in corporate finance and commercial transactions, including advising on Hong Kong and PRC securities regulations, mergers and acquisitions, corporate reorganizations, privatization and joint ventures .

Brinton M. Scott is a senior associate in Herbert Smith's corporate group where he focuses on M&A, IP, and general PRC foreign direct investment. His PRC legal experience exceeds six years and he has counselled an array of industries including, pharmaceutical , gas, automotive, high- tech, and entertainment. Josh Mandell and Kenneth Wong, research assistants in the Shanghai office of Herbert Smith's associate firm Gleiss Lutz Hirsch, assisted the authors.