China: Going Through Difficulties With Employees Or Layoffs For Economic Reasons?

Last Updated: 15 October 2013
Article by Vincent Chiu

The weather in Shanghai is very unpredictable these days. Despite the start of the new spring, people still feel the chill. Based on news reports, foreign-invested companies have set off a new wave of layoffs in China, affecting sectors such as household electric appliances and daily use chemicals retail. As a result, more and more companies come to consult us about "layoffs for economic reasons".

It is worth noting that we do not judge which the choices of companies facing difficulties together with employees and their bitter decisions of laying off some employees in a critical situation, we stress that once a company decides to lay off workers for economic reasons, it shall do so in compliance with laws.

In China, large-scale layoffs concern the legal concept of "layoffs for economic reasons" as defined in the Labour Law and the Labour Contract Law.

Layoffs for economic reasons as mentioned in the Labour Contract Law are mainly set forth in Articles 41 and 42 of the law. It means that an employer needs to lay off 20 or more employees, or needs to lay off less than 20 employees who account for 10% of its total workforce, when the objective situation on which the conclusion of the labour contract is based has changed considerably, resulting in the inability to perform the labour contract or in serious difficulties in business operations.

Therefore, layoffs for economic reasons fall under the conduct of terminating labour contracts without any negligence of the employees, for which the laws provide more stringent conditions:

1. Preconditions for layoffs:

Article 41 of the Labour Contract Law provides for four circumstances under which an employer may conduct layoffs:

First, where the employer conducts reorganization under the Enterprise Bankruptcy Law

In 2006, China adopted the new Enterprise Bankruptcy Law, which provides for the "reorganization" procedures. Reorganization means that, where an enterprise legal person cannot pay off his debts and his assets are insufficient to pay off the debts, or he apparently lacks the ability to pay off his debts, or he has apparently forfeited the ability to pay off his debts, the enterprise legal person may, upon the approval of the people's court, directly conduct the reorganization or conduct the reorganization after applying for bankruptcy. With respect to the content of the reorganization, the debtor and the creditor shall, chaired by the court, reach an agreement to formulate and implement a reorganization plan, under which the creditor shall pay the debts in whole or in part while continuing to operate its business.

Second, where the employer encounters serious difficulties in business operations

An employer may unilaterally terminate employment contracts collectively when it encounters serious difficulties in its production and business operation. The Labour Employment Contract provides no definition of "serious difficulties in production and business operation", and the labour administrative department had allowed local governments to set their own difficulty standards. Article 27 of the Explanations of the Labour Department on Some Provisions of the Labour Law provide that "difficulties in production and business operation" can be defined based on the standards for difficulty enterprises as set by local governments. Currently, more stringent standards are applied in various jurisdictions. Taking Shanghai as an example, under the Measures for Enterprises in Shanghai to Conduct Layoffs for Economic Reasons, when an employer encounters serious difficulties in its production and business operation, the employer shall first take the following measures: (1) stop hiring new employees, (2)dismiss external staff, with the specific scope of external staff to be determined by the employer's representatives and union's representatives through negotiation, (3) cease overtime work - if it introduces flexible working hour system and comprehensive calculation working hour system, it should do so in accordance with relevant rules or (4) reduce wages. The reduction rate shall be determined by the employer's representatives and union's representatives through negotiation, provided that the wage reduction may not be conducted if the monthly average wage of the employee has been actually lower than 60% of the monthly average wage for staff in the city in the previous year. The Measures also makes it clear that an employer shall not conduct layoffs for economic reasons unless it still suffers losses and sees no improvement of its production and operation circumstances half a year after the implementation of the foregoing measures. It is then concluded that Shanghai imposes very stringent conditions for layoffs due to serious difficulties in production and operations.

Third, where the employer changes products, makes important technological renovation or adjusts the form of its business operation and, after the labour contract is changed, the employer still needs to lay off employees

This falls under the circumstance of material change in objective situation. As for material change in objective situation, neither the Labour Law nor the Labour Contract Law contain any provision, and the Labour Department determines that it includes occurrence of force majeure event or relocation or acquisition of an enterprise, transfer of an enterprise's assets, etc. In many jurisdictions, it is defined in the form of enumeration.

Generally, the degree of change in objective situation must be very significant and result in inability to perform the labour contract. The Labour Contract Law expressly states that an enterprise may cut down the number of its employees if it changes products, makes important technological renovation or adjusts the form of business operation, provided that the enterprise shall be subject to a process of "changing of the labour contract", indicating that the enterprise shall not cut down the number of its employees unless it is still necessary to do so after the change of the labour contract.

Fourth, where the objective economic situation, on which the labor contract is based, has changed considerably and the enterprise is unable to perform the labor contract.

This is actually a general and miscellaneous provision, an explanation on the abovementioned situation. In such a situation not expressly stated in the law, an employer shall not directly terminate the labour contract, but instead, it shall negotiate with the employees changes to the labour contract. The employer may terminate the contract only after it fails to change the contract.

2. Employees retained with priority in layoffs

Article 41 of the Labour Contract Law provides that an employer shall retain the following employees with priority when it makes layoffs: (1) those who have concluded a fixed-term labour contract with the employer for a longer period of time; (2) those who have concluded a labour contract without fixed term; and (3) those who are the sole employed members of their families or who have the aged or minors to support. In summary, they are two kinds of employees: those who have concluded a labour contract with a longer time period and those with difficulties, such as being the sole bread winners or with the aged or minors to support.

3. Layoffs procedures

Article 41 of the Labour Contract Law provides that layoffs shall be subject to three major procedures, including giving an earlier explanation, listening to the opinions of the labour union and reporting to the labour administrative department. Compared with the procedures for termination of labour contracts without negligence of the employees, such procedures reflect the requirement for layoffs for economic reasons to be conducted in a more stringent manner.

Explaining the procedures in advance the Labour Contract Law provides that an employer shall not cut down the number of its employees unless it makes an explanation to the labour union or to all employees 30 days in advance and listens to the opinions of the labour union or employees.

Reporting to the labour administrative department - this is an administrative filing procedure originally required in the Labour Law. Article 27 of the Explanations of the Labour Department on Several Provisions of the Labour Lawprovides that reporting to the labour administrative department only means "an explanation of the situation without approval requirements."

Seeking labour union's opinions - as a type of labour contract terminations not due to negligence of employees, layoffs also need to go through the procedure of listening to the opinions of the labour union.

4. Conditions for prohibited layoffs

Article 42 of the Labour Contract Law bans any employer from laying off an employee who: is engaged in operations exposing him to occupational disease hazards and has not undergone an occupational health check-up before he leaves his post, or is suspected of having an occupational disease and is being diagnosed or under medical observation; has been confirmed as having lost or partially lost his capacity to work due to an occupational disease or a work-related injury during his employment with the employer; has contracted an illness or sustained a non-work-related injury, and the prescribed period of medical treatment therefor has not expired; is a female employee during her pregnancy, confinement or nursing period; who has worked for the employer continuously for not less than 15 years and is less than 5 years away from their legal retirement age; who finds himself in other circumstances under which an employer shall not dissolve the labor contract as prescribed in laws or administrative regulations.

It is worth noting that if an employee satisfying any of the foregoing layoff prohibition circumstances is still in the probation period, the employer shall not lay off such employee either.

5. System of hiring priority employees that were laid off

The system of hiring priority employees that were laid off existed under the original Labour Law. Article 41 of the Labour Contract Law provides that "if an employer intends to hire new employees within 6 months after it conducts layoffs, it shall notify the employees that were laid off and shall, in the equal conditions, give a priority to such employees." Under this provision, employees that were laid off will have priority when satisfying the equal recruitment conditions. Compared with the original Labour Law, the new law strengthens employers' obligation of "notifying" the employees that were laid off when hiring new employees. This is in favour of the fulfillment of the system of hiring with priority employees that were laid off.

6. Payment of economic compensation

It is worth noting that layoffs for economic reasons fall under termination of labour contracts for non-negligence. Therefore, an employer still needs to pay economic compensation when it conducts layoffs for economic reasons. The economic compensation equals to the monthly wage of the employee who was laid off in the 12 months before termination or cancellation of the labour contract multiplied by the number of years the employee has worked at the employer.

This article focuses on large-scale layoffs (more than 20 employees or less than 20 employees who account for 10% of the total workforce). However, many companies choose to conduct layoffs in silence. We call such layoffs "individual layoffs". We will examine the legal issues involving in such "individual layoffs" and explain in detail the standards for the payment of economic compensation.

The content of this article is intended to provide a general guide to the subject matter. Specialist advice should be sought about your specific circumstances.

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