What To Undergo On Legal Due Diligence In China?
What is legal due diligence? There are lots of kinds of due diligence, for instance financial due diligence undertaken by accountants to evaluate a company’s profits, debts, solvency, financial reporting and tax status. Addititionally there is corporate due diligence concentrating on a company’s incorporation and board. Investigatory due diligence, that is looking at things such as the personal links of management, is another area to take into account specifically in the framework of China. Legal due diligence nonetheless focuses on whether or not a company is complying with local and international laws and how the compliance or non-compliance will have an effect on your investment. Undertaking legal due diligence includes looking into a company’s possession of property both physical and intellectual, contracts as well as other agreements, litigation that it has performed or which has been pursued against it, as well as overlapping with other forms of due diligence in the areas of business licencing, finances, tax, and management. Legal due diligence if properly performed will also show what sort of company you are dealing with. Are they highly litigious? Have they been prosecuted by governing bodies? Or have they outsourced all of their functions and don’t actually generate anything?
Why undertake legal due diligence? If you are considering a move into China, be it getting into a cross-border joint venture, merger or acquisition, engaging local management, or new international franchisees, partners or investors, it is recommended to know as much as possible before investing. Not taking part in thorough investigation can result in awful surprises on the track. Carrying out due diligence is greater than just a hunt for whether or not your desired company is currently complying with China’s legal requirements. If done properly, legal due diligence will put your investment into industry context and show you exactly what type of business you are dealing with. By hiring professionals to carry out legal due diligence, you can in turn prevent excessive risks and confidently take advantage of the rapidly growing market that is China.
How do you begin it? What areas should you concentrate on? The entire process of legal due diligence is actually a procedure of accumulating information and being able to understand what it tells you and how it fits together. That having been said, understanding what to look for, which questions to ask, and where to search are often less than straightforward, particularly in China. One thing to do when executing legal due diligence is to talk to a professional, generally an expert law firm, and explain to them what you are going to do, for example are you investing in a joint venture, buying a company outright, or establishing a franchise. This will help a firm determine what they need to look for and which laws must be complied with. Then the process will generally move to requesting documents, such as articles of association and business licences, from the company itself as well as China’s regulatory bodies and courts.
Go Local: Undertaking legal due diligence in China may have the same basic goal as in any other country, that is to understand and assess the investment risk you are planning to take, however the techniques differ. Most of the Western world has relatively centralised and open documentation of the legal particulars of registered companies, in China on the other hand you’ll find much is still done at a provincial level. Therefore the next essential step is to visit the province, and site of the company you are investing in. It may sound ridiculous but an important part of legal due diligence is verifying that the company you plan to contract with actually exists; some western investors have been caught out in the past purchasing non-existent companies. This will also give you a chance to see how the business operates on the ground and speak to management and employees. As mentioned you will also have to visit local authorities including the local Estate Bureau to verify the land rights you are being sold, and the local Administration of Industry and Commerce (AIC) to check the company’s incorporation documents and business licence. In the case of legal due diligence a trip to the local court will also be essential. Important Areas: Legal due diligence will cover many of the sections of financial and corporate due diligence as well as some discrete elements of its own such as intellectual property and the search for past, present, and even pending and future litigation. The following are the main areas to think about when executing legal due diligence.
Real Property: In China a company will have either ‘granted’, being full control, or ‘allocated’, the right to use the land for a particular time and purpose, land rights. These land rights obviously have different values, thus verifying exactly what type of land rights you are getting as part of your deal is vital for checking that the price has not been inflated. It is also essential to determine whether there are any restrictions on a company’s land use. This can be achieved at the local Estate Bureau by looking for the company’s land possession certificate/s. It should also be noted that in some rural areas land rights are held by a ‘village collective’, and the head of the collective needs to sign their approval before any move can happen. Also in relation to real property, check the environmental regulations for the area in which the business is situated.
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