The local vs state government debate: China steps backwards

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By Chris Devonshire-Ellis

BEIJING, Sept. 24 – Last week I wrote about the differing legal responsibilities government in China can have, and specifically concerning a case we handled with PWC and Jun He concerning staff mandatory welfare payments, and whether or not the local government had the right to negotiate on these. Our legal research team examined this in coordination with the Jun He law firm, interestingly after much debate and upon use of the (still to be formally recognized in China) concept of legal precedent, we argued that the local government did have the right to conduct this, an argument whose merits satisfied PWC’s own legal team. Consequently a lower amount based upon preliminary discussions with local government over the payment of a settled amount (rather than full) of welfare liability was accepted by PWC as auditors in the listing prospectus for the Chinese business being examined.

All well and good, (although I must say the use of legal precedence in China felt rather novel in a country where government holds sovereignty over the interpretation of law rather than an independent judiciary) and satisfaction that due diligence had been carried out to the correct standards all round was of course part of our professional duty.

Yet still I am unhappy with the notion of Chinese government wiles when being able to assess and sign off on due diligence in China. I note, for example, a recent statement issued in a dispute we are handling between a local Chinese government and a foreign investor concerning land use rights. The investor obtained a “guarantee” from the local government over the extension to an adjoining plot of land insofarasmuch that this would be granted the same land use rights. The government duly signed this off. Deal done – but was it?

Upon proceeding with the investment, and subsequently investing in and erecting factory premises – with local government approval – on the adjoining land, the State then stepped in and declared it an illegal construction. The land use right was not able to be changed by the local government (actually conversion can only be handled at State level as we are aware) however the fact that a “guarantee” had been provided by the local government to the investor also counted against the investor as “evidence that they knew all along this was an unsafe and illegal investment.” An attempt by the investor to obtain legal redress from the local government for misrepresenting themselves in providing a letter of guarantee was instead viewed as acknowledgement of wrongdoing by the foreign investor that the entire land use right was indeed flawed.

Consequently, it’s the investors fault and not the responsibility at all of the local government – despite the fact the investor was clearly misled.

This aspect of due diligence bothers me a great deal. When being asked to provide comment, and be responsible for such, in knowledge that in fact at a local government level whatever they say can be overturned by the State position – means decisions to invest, or comment, are either delayed or false.

Yet with no independence in judiciary, even at State level there is no consistent approach. China’s law are deliberately written to be subject to interpretation by the State according to the desire the State may have at any time, political or otherwise, to view a regulation in any way it chooses.

Signing off on due diligence reports when knowing this to be the case must accordingly be unsafe. What grounds for the legal profession with no supporting guidelines or ultimate structure? Lawyers can be held liable even for just possessing this knowledge when signing off liability statements or matters of opinion.

To this observer at least, it appears the State is making its own rules up as it goes, and hangs both the concept of law and foreign investors as it goes about bailing out the excessive statements and promises made by its own local government agencies.

But try and get a statement from the government? Not a chance.

Lawyers, therefore, are left in limbo. How can we sign off on statements in full knowledge of China’s perversity in disregarding statements or guarantees made by its own agencies?