Managing Pitfalls When Handling Belt & Road Initiative Project Contracts

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Op/Ed by Chris Devonshire-Ellis, Dezan Shira & Associates 

  • Important that negotiators have China business experience 
  • Political egos can interfere with good business practice 
  • Numerous issues to consider on a multilateral level

Negotiating with Chinese entities be it Government, State-Owned or Private enterprises requires an understanding of Chinese laws, regulatory systems, and culture. This then needs to be married to local laws and regulations in the projects domicile as well as the respective laws and regulations that may govern other interested parties.

It is unwise to lead negotiations without China experienced personnel. The Chinese will approach negotiations from the Chinese regulatory, legal and tax perspective and not yours. That gap needs to be overcome to avoid any future dispute, conflict, or unnecessary financial expense.

Far too often we have seen foreign government officials place themselves in charge for negotiating or handling items they are not qualified or experienced enough to fully understand. Ego can often take the place of common business good sense and practice. The results can be expensive, as well as career and politically damaging. The hiring of third-party consultants with deep China experience is to be recommended.  I outline some of the common issues that need to be addressed as follows:

Domicile of the Contract

Where and how the contract is signed can have an impact on whose regulatory regime governs it. Contracts signed in China are deemed subject to Chinese laws. While e-commerce is now making the physical part of contractual domicile less apparent, contracts should clearly state which domicile laws shall apply.

This also applies to arbitration clauses. China has established a series of Belt & Road Arbitration courts, however there is still some question concerning the impartiality of these. There are options to this in terms of placing arbitration clauses in mutually neutral jurisdictions and identifying the conditions under which a dispute should be referred.

Non-Disclosure Agreements

Some projects may be sensitive and/or contain elements of Government secrecy. In which case non-disclosure agreements (NDA) should be signed off by all personnel with access to sensitive information.

Sanctions

Some Chinese SOEs and officials have been placed under United States and EU sanctions. This needs to be examined for any future difficulties that may (or may not) arise to avoid the future potential for punishments meted out at a later stage. Sanctions risk avoidance should be undertaken.

Project Management

Under Chinese law, certain positions, such as the ‘General Manager’ possess wide ranging legal powers. It is necessary to understand the implications of appointing personnel and to establish specific reporting lines for them. Who manages the project, the project financing, and internal checks and balances is a key issue.

Labour

Many BRI projects include Chinese labor, often included as part of an overall package. Labour costs vary across China – are you aware of the local China employment rates, making sure you are not being overcharged? Labour also determining technical local issues such as visa issuance. There have been numerous cases of Chinese labor arriving on tourist visas for example. Is Chinese labor subject to local income tax? Can waivers be obtained? Who will provide housing, food, medical insurance and services, repatriation? All these issues require clarification.

Financing

How is the project to be financed? Under what terms? This requires decisions concerning the financing mechanisms and structuring, banks to be used, reporting, compliance, and audit. Are any penalties for non-compliance or delays required? Should project incentives be built in for completion by a specific date?

We have seen problems for example where applicable interest & exchange rates were not properly described, leading to the foreign government facing unforeseen forex charges when currency values altered. Arbitration and renegotiation of repayment clauses need to be built in. As we have recently seen, the Covid-19 pandemic saw many Governments run out of capital. Dealing with issues such as these is easier if a pre-determined path to negotiation and under what terms has been previously agreed upon as force majeure and the qualifying of this.

Applicable Taxes, Free Trade & Double Tax Treaty Agreements

Will the nature of the project trigger any local tax or duty exposure? How will this be dealt with and by whom? Are any Bilateral Investment Treaty, Double Tax or Free Trade Agreements already in place that can mitigate against any tax burden?

Third Party Relationships

What are the considerations flowing from other, perhaps neighboring, countries also participating in the project? What Regional Cooperation Agreements, alignment of technology, access, competition, confidentiality, purchasing issues need to be addressed?

Quality Control Standards, Environmental Issues

Who will manage the QC aspect and environmental considerations and compliance? Getting this wrong can have serious political consequences. How will QC be managed and by whom? Who will examine the ecological impact? China has established an advisory board to assist with greening the Belt & Road Initiative. Do you need to refer to them? What local standards and regulations need to be considered?

Import-Export

The Chinese party will probably import large quantities of equipment, some will be repatriated after the project completion. Are you being charged for depreciation? Others will form part of the project itself. Again, who will conduct QC and how will applicable duties and waivers be handled?

Press Office / PR

It may be wise to establish a media or specific PR desk to handle media enquiries about the project. This is especially true in democratic countries. Likewise, should any problems arise on site, media or opposition political forces may wish to exploit this. Having contingencies in place to deal with such circumstances is wise.

Local Security

Some projects take place in dangerous or unstable regions, while theft of equipment or onsite assets also needs to be considered. Who will provide this? Under what terms and conditions and use of equipment and authorization in the case of arms?

Summary

It is key to ensure someone within your negotiating team is familiar with Chinese law and Chinese expectations. This means ensuring due diligence and ideally a third-party overview on your side should be a pre-requisite. Getting these contracts wrong, given the very nature of them, can have highly damaging career, financial and political consequences for unwary or naive governments and their officials. It is wise to take the subject seriously.

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About Us

Silk Road Briefing is written by Dezan Shira & Associates. The firm has 28 offices throughout Asia, and assists foreign investors into the region. For strategic advisory and business intelligence issues please contact the firm at silkroad@dezshira.com or visit www.dezshira.com

 

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