China business: Equity Joint Ventures — get started with the right documents, don’t leave things to chance

Equity joint ventures (EJV) can be utilised by foreign companies to accelerate the growth of their product or services in China with the assistance of a local partner.

In an EJV, the partnership should be an exchange between two parties. For instance, a foreign company bring the history and technology of its products to a partnership, whilst the Chinese partner provides its valuable China market expertise. In this way, there is an equilibrium between the two parties which will not only prove valuable from a business perspective but will serve to bridge cultural differences.

At Horizons, we often encounter EJVs who fail to conduct any preliminary groundwork before incorporation in China. Rather than utilising professional advice, foreign companies commonly use a “local contact” to deliver them to a suitable partner to incorporate as an EJV. Often in such situations, key preliminary documents are ignored or forgotten, often causing future problems for the EJV. In this post, we list several key documents to gather before incorporating an EJV.

Shareholders’ Resolution

Upon the identification of joint venture partner or partners, the shareholder should conclude a resolution to establish a joint venture. The shareholders’ resolution should confirm the necessary or appropriate basis, with supporting evidence, for establishing a joint venture.

For example, if Company A intends to form a EJV with Company B, the shareholders of Company A shall put forth a resolution, based on the expertise provided by Scientist C, calling for Company A to expand research and development by way of,  and in accordance with internal compliance, forming a joint venture with company B.

In the case that the foreign party, under its own governing law, has no provision for a shareholders’ resolution, the highest and equivalent governing corporate body, such as the board of directors is suffice in forwarding such a resolution.

The shareholders’ resolution shall be affixed with the company’s corporate seal, the legal representative seal and seals of each shareholder. Such shareholder’s resolution shall be accepted with the full majority of the shareholders, as it is deemed under the Chinese law as an “important decision”.

Where there is no resolution of the shareholders containing the seals and signatures related to the decision to establish a joint venture, the joint venture may be deemed null and void. Correspondingly, the lawyers of the parties cannot legally proceed with the establishment of the joint venture.

If the shareholders’ resolution is from a foreign entity and falls under its own country’s law, only one signature of the chairman is required, and the document shall be legalised and apostilled by the Chinese embassy in the foreign entity’s home country to be recognised under Chinese law.  

Non-disclosure Agreement

It is important that an EJV non-disclosure agreement (NDA) includes the monetary penalties of a disclosure violation. Without such a clause, the value is open to negotiation.

In the NDA, the defined amount of the liquidated damages shall be reasonable and appropriate to the company, otherwise, in the court, the judge may not accept a high amount from a relatively small company because it is not justifiable. Customarily, the value of liquidated damages is a third of the company’s turnover; any amount higher or lower shall be clearly explained with supporting evidence and related to damages caused.

Letter of Intent

The letter of intent (LOI) in an EJV should not be treated as a memorandum of understanding (MOU). The LOI should be a statement of the intent to pursue the establishment of the EJV.

In practise, detailed contractual terms should be negotiated by the parties and not expressed in the LOI, as it may be difficult to define the details of the joint venture since it could be difficult to renegotiate the terms later in the EJV contract. Rather, the LOI should be non-binding and determine the prerequisite and conditions on which the EJV will be based upon. For example, it shall state that ‘Party A intends to establish a joint venture with Party B based on prerequisites and conditions along the following points…’ In this manner, if such prerequisites and conditions were false, Party A could claim liquidated damages from Party B on the basis of the letter of intent.  

Non-compete Agreement

A non-compete agreement serves to prevent one party from competing in the same market with an existing company. Customarily, one of the two EJV parties shall liquidate its existing company so that the joint venture is the sole focus. If a non-compete agreement is not implemented, it could reflect that one party has agreed to allow the existing company of the other party to compete with the joint venture.

Intellectual Rights Deposit and Registration

The Trademark Law of the People’s Republic of China utilises a “first come, first serve” approach in filing an application at the Trademark Bureau, with approved applicants having priority over the subsequent application of trademark in similar classes of goods. Ordinarily, companies seek to extend their trademark to China. However, it is often the case where the trademark is only extended to the boundary of China and not within the territory of China. Therefore, in court proceedings, the extension of a trademark is not recognised in China as it is not registered inside the territory of China.

A second registration is advised to be made at the China Customs Bureau. Once the registration is completed, customs shall prohibit any exportation and importation of goods under the registered trademark which is not sent from the registered address of the originator. Customs shall also inform such company of the trademark violation.

In China, EJVs can work with careful planning and the proper, expert guidance for investors. EJVs could be metaphorically viewed as an intercultural marriage, in which both parties should be transparent and clear in communication before pursuing a long-term partnership together. EJV parties should also be aware of the potential cultural differences or conflicts that may arise within the EJV structure. Here, Horizons’ advice is to not go it alone, that sound counsel nearly always pays dividends from administrative matters to cross-cultural understanding and everything between.

If you would like more information about Equity Joint Ventures (EJV) in China or other related corporate matters, send us an email at talktous@horizons-advisory.com, and we’ll have a Horizons professional contact you.

Horizons Corporate Advisory helps clients solve complex problems, thrive and be inherently responsible in their business activities worldwide. The countries we operate in include Belarus, Belgium, China, Colombia, Costa Rica, Cyprus, Ecuador, France, Germany, Hong Kong, Indonesia, Italy, Lichtenstein, Luxemburg, Macau, Malta, Mongolia, Netherlands, Nigeria, Portugal, Russia, Singapore, Spain, Switzerland (French and German-speaking cantons), Turkey, United Kingdom (England and Wales) and the United States of America.

Please visit our website at horizons-advisory.com