Under normal circumstances the fact that the parties to a contract have imprinted seals (or 'chops' as official company seals are called in China) would typically indicate that the parties have reached an agreement on the contents of the contract and are ready to perform it. However, in practice, there are still cases where the official seal of one party is genuine, but senior management of the company in question has no knowledge of the contract until the time comes when it is called upon to perform its obligations or receives a court summons. We have worked on several such disputes involving foreign-invested enterprises (FIE) in recent years. In this note, we will look at how this phenomenon came about, discuss how to prevent it happening, and how to deal with disputes arising in this area.
A well-known FIE financial services industry player (Company A) received a lawyer's letter from Company B, a demand to perform a Letter of Undertaking and pay a large amount in commission. This demand came completely 'out of the blue', although it related to a genuine tender process in relation to which Company A had submitted a successful bid back in the day. Company A headquarters senior management were completely unaware of the existence of such Letter of Undertaking, and the contents of the letter were in clear violation of Company A's internal rules. Therefore, it refused to comply with the demand from Company B. Subsequently, Company B brought a lawsuit against Company A. Since the Letter of Undertaking bore the seal of Company A, and in the absence of sufficient evidence in rebuttal, the court at first instance essentially upheld all of Company B's claims. Following an appeal by Company A, both parties finally reached a settlement.
Similarly, Company C, an FIE, was informed out of the blue that its bank account had been frozen pursuant to a court order and later received a summons from the court: Company D was suing it for breach of a certain Cooperation Agreement and was demanding that Company C pay it a large amount in liquidated damages. The agreement bore the official seal of the Company C, even though local management of Company C asserted they had never seen the agreement before. During the proceedings, the court ordered an assessment of the authenticity of the seal, and entrusted this to an independent appraisal institute, which finally confirmed that the seal on the agreement was indeed the seal of Company C.
The legal effect of a seal on a contract and the Chinese Supreme People's Court's views on this issue
Generally, if an agreement bears a company's official seal it is presumed that each company has agreed its contents and that the agreement has taken effect between the parties, subject to any conditions to its effectiveness. However, it is important to realize that this is not an absolute rule in practice.
Article 32 of the People's Republic of China Contract Law effective 1 October 1999, stipulates that "Where a contract is entered into in the form of a contractual document, the contract is formed from the time that the parties sign or affix their respective seals onto the contractual document." Article 143 of the People's Republic of China General Rules of the Civil Law, which came into effect on 1 October 2017, sets out three requirements which must all be present in order for a civil legal act to be valid:
- The person(s) making the legal act must have legal capacity.
- The expression of intention must be genuine.
- The legal act must not violate any mandatory provisions of laws and administrative regulations and must not violate public order or social customs.
The above requirements i) and iii) are usually relatively straightforward to satisfy in practice, whereas most disputes center around item ii). That is, whether the content of the agreement represents the true intent of both parties.
The Supreme People's Court (SPC) clearly pointed out in a retrial case ((2014)Civil Ti No.178):
"The act of contract formation and the affixing of the seal are relatively independent. The act of contract formation is a reflection of the agreement reached between both parties, while the act of affixing a seal is a confirmation of the agreement between the parties. The two acts are interrelated, but independent.
From an evidential point of view, the authenticity of the seal generally guarantees the authenticity of the act of contract formation. However, if there is evidence rebutting, or raising serious doubts regarding the genuineness of the consensual nature of the agreement, the authenticity of the agreement cannot be directly presumed merely on the basis of the authenticity of the seal. In other words, the seal is merely preliminary evidence in proving the authenticity of the agreement. The people's courts still need to comprehensively consider other evidence and relevant facts to confirm the authenticity of the agreement."
This means that the SPC believes that when there is evidence which may rebut or cast reasonable doubt on the validity of contract formation, the courts must not rely on the authenticity of the seal alone to confirm whether a contract has been validly formed and that other evidence and facts need to be looked at in the round. This view undoubtedly gives us a clear direction in dealing with such cases. Although China is not a common law jurisdiction, the SPC has been promoting a guidance or model case system which operates in a similar way to case law in practice. This ruling is part of that system. Therefore, such precedents, especially judgments from the SPC, while not technically binding on the lower courts, are highly authoritative when local courts have to deal with similar cases.
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