China: Practical Guidance On Drafting And Negotiating Commodities Contracts: Focus On Chinese Counterparties With Emphasis On Successful Enforcement In China

It is inevitable that some commodity trades end in dispute, particularly in current markets where prices are generally low and have been falling. This may happen in any jurisdiction, although this article focuses on China and how you can minimise risks relating to enforcement.

We do not focus here on the technicalities of Chinese law relating to enforcement; rather we aim to give practical guidance related to making your contracts and their performance.

The context Contracts between international and Chinese parties will often include an international arbitration provision. As most traders now know, the arbitration award is often only the first step in the process to obtaining payment. If your counterparty does not pay the awarded sum, you may need to bring a court action in the jurisdiction where your counterparty owns assets to enforce that award. If all their assets are in China, this will mean applying to the Chinese courts for recognition and enforcement of the award.

China is party to the New York Convention on the Recognition and Enforcement of Foreign Arbitral Awards (the "New York Convention"). They also have specific arrangements for enforcement of awards made in Hong Kong, which are treated similarly to foreign awards. The Chinese courts are bound to enforce a binding New York Convention arbitration award unless, in summary (pursuant to Articles 5 (1) and (2) of the New York Convention):

  • The parties to the arbitration agreement were under the law applicable to them under some incapacity, or that the arbitration agreement is not valid under the law to which the parties have subjected it, or failing an indication thereon, under the law of the country where the award was made;
  • The party against whom the enforcement is sought was not given proper notice of the appointment of the arbitrator or of the arbitration proceedings or was otherwise unable to present his case;
  • The award deals with a dispute not contemplated by or not falling within the terms of the submission to arbitration, or it contains decisions on matters beyond the scope of the submission to arbitration;
  • The arbitration was not conducted in accordance with the arbitration agreement or the law of the country where the arbitration took place;
  • The subject matter of the dispute is not capable of settlement by arbitration under Chinese law;
  • The recognition or enforcement of the award would be contrary to public policy in China.

The first of these, the question of whether there is a valid arbitration agreement, can be impacted by the conduct of the parties and the drafting of the contract at the time it is entered into. We therefore focus below on a challenge to the validity of the arbitration agreement, which is the most common ground for challenge, and the situation where the Chinese courts may be required to consider whether or not there is a binding arbitration agreement between the parties.

In these circumstances, if your contract is governed, for example, by English or Singapore law, you will have to submit evidence in the Chinese language to a Chinese judge of the English or Singapore law position. In China, unlike in England or Singapore, there is a civil law system and there is no system of precedent case law. Therefore, as well as explaining to the court the relevant specific points of law relating to the arbitration agreement, there will likely be conceptual issues to explain to the judge who is used to dealing with a quite different system of law.

The task is much easier if the arbitration agreement was also valid under Chinese law. This puts you in a much better starting position i.e. a judge will be starting from the position that they are looking at a valid arbitration clause and it will be an uphill battle for your counterparty to prove that, under English or Singapore law, it is invalid. Contrast this with the position where the judge immediately considers the clause invalid on the face of it and you have to put forward substantial English or Singapore law evidence to prove otherwise.

Following our guidance below should mean that your arbitration agreement is considered valid under both English and Chinese law.

Practical guidance

1. Conduct jurisdiction specific reviews of your contracts: International trading companies will often use standard template contracts, standard forms or GTCs with all of their counterparties. While these may be perfectly good in most circumstances, it is important to bear in mind that a 'one size fits all' approach does not always work and to consider them in the light of the jurisdiction of your counterparty and make relevant amendments. We therefore suggest conducting regular reviews of your template contracts and seeking advice as to provisions that may be helpful in the jurisdictions with which you trade regularly or when you do so for the first time.

2. Know your counterparty: We are not referring to the normal credit and anti money laundering type of checks that should be done as a matter of course. We mean get to know the person who you mainly deal with at your counterparty. This starts with something as minor as getting their business card. If they purport to agree trades with you and enter into contracts, you should seek to find out exactly what their role is within the company, what the extent of their authority is to enter into contracts and get them to explain this to you in an email. Find out who their boss is and seek an introduction and, if possible, check what your contact has told you.

Chinese counterparties may sometimes use personal, rather than company, email addresses. This is unhelpful for later enforcement, so ask them to use their company email. If they say that is not possible, ask them to expressly confirm in writing that they are acting on behalf of the relevant company and have authority to negotiate and enter into the relevant contract and have something from the company email confirming this. We have seen an example where it was successfully argued before the Chinese courts that a person negotiating a contract was not even employed by the relevant company and so had no authority to negotiate or enter into a contract. There was therefore found to be no binding contract in existence.

3. Drafting your dispute resolution clause:

  • Identify an arbitration body: Your arbitration clause should specify an arbitral body, under the rules of which any arbitration should be conducted and which will administer the arbitration. The clause should refer not only to the SIAC, HKIAC or LCIA rules, for example, it should also state that SIAC, HKIAC or the LCIA will administer the arbitration. Those organisations (and others) provide good model clauses.
  • Identify the seat (or place) of the arbitration: Your arbitration clause should specify the jurisdiction that will be the seat of the arbitration. This will generally determine the procedural law that will govern the arbitration. For foreign parties, it may be preferable to avoid China as the seat of the arbitration. However, one advantage to bear in mind when agreeing to submit to Chinese arbitration is that a claimant can seek an asset preservation order ("APO") over the Respondent's assets located in China to secure its claim. APOs are generally not available in China in aid of foreign arbitrations other than in respect of maritime claims.
  • Identify the language of the arbitration: It is likely that international parties will often prefer English over Chinese language. In particular, we advise against agreeing that the arbitration is to be conducted in both English and Chinese languages as this can cause significant logistical difficulties and increased costs.
  • Avoid unilateral option clauses: Clauses which, for example, provide for arbitration but additionally grant one party the option to refer the matter to court, are likely to be considered invalid by the Chinese courts.
  • "Arbitration in London" or "Arbitration in Singapore", for example, is not a valid arbitration agreement under Chinese law.

4. Attach your GTCs or standard form contract to your contract or confirmation every time i.e. do not seek to incorporate terms just by reference: Commodities contracts will often refer to and incorporate GTCs or other standard terms published by industry bodies, (such as GAFTA, FOSFA, SCoTA or SIOTA) or major oil companies (BP terms, Shell terms etc). These terms should be attached to the contract or confirmation as a schedule and physically form part of the contract each time you enter into a new contract. Incorporation of terms by reference to them, while possible under English law, is not generally possible under Chinese law and the terms referred to (including arbitration clauses and limitation clauses) would not form part of your contract.

5. Execution of the contract: It is particularly important in China to ensure you have a properly executed contract. Of course, in the fast-paced environment of commodities trading, contracts do not always get signed and are often just accepted by performance. This is not a practice which assists with enforcement in China and, in case problems arise in future, it is particularly important to have a signed and chopped contract. Check the following:

  • Is the contract signed on behalf of the company that is named as your counterparty in the contract?
  • Run a company search on your counterparty and obtain a copy of your counterparty's business licence in order to confirm the valid legal existence of your counterparty.
  • Who is the signatory on behalf of your counterparty? If possible, it should be signed by the "legal representative" of the company. Under Chinese law, the "legal representative" of a company has the authority to sign contracts to bind the company without a separate board authorisation. The name of the "legal representative" of a company can be found on its business license.
  • If not the legal representative, what is the signatory's level of authority to enter into contracts?
  • Is the contract stamped with the company chop of your counterparty? While it is not conclusive, Chinese courts see the affixation of the company chop of a Chinese company as prima facie evidence that a contract has been properly executed by the Chinese company and is binding on the Chinese company. If in any doubt and/or for particularly valuable or long term contracts, check with SAIC (the State Administration for Industry and Commerce – the equivalent of the Companies Registry) that the chop matches the registered chop of the company.

Conclusion

We consider that getting the above relatively straightforward points correct could save the costs of failed enforcement attempts and may be the difference between making a substantial recovery or being forced to write off a loss. It may also make your counterparty more willing to settle at an early stage if they see that you have a good chance of obtaining an arbitration award and enforcing it.

Client Alert 2015-257

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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