When a U.S. company is negotiating a contract with a Chinese company, perhaps one of the most important considerations is choosing a dispute resolution provision to best protect itself.

Litigation in a United States Court

Generally, a U.S. company who does not understand how to deal with a Chinese party may insist on a litigation venue and forum in the United States and using a particular State's law to govern the contract. Typically a U.S. company will be very pleased if the Chinese company agrees to these ideas and provisions. However, in reality, this seemingly perfect provision may result in the whole contract being unenforceable.

Are You Likely to be a Plaintiff or a Defendant?

A U.S. company should first consider who will mostly likely be sued under the contract. If a U.S. company is likely to be a defendant, then it may not matter where the forum and venue may be. However, generally it does not happen very often because in China, the culture is not litigation-oriented and most Chinese companies consider going to court a bad influence on their public image. Typically, a Chinese company would rather resolve the matter with a friendly negotiation or other alternatives such as mediation or arbitration.

Likely Not Enforceable or Collectible

If the U.S. company is likely to be a plaintiff and the language in the contract requires litigation in the United States, the likelihood is that the Chinese party won't even make an appearance at the United States court and a default judgment favoring the U.S. party will be most likely be the end result. Seemingly, this looks great until it comes to the enforcement and collection of the judgment. For example, the Chinese company usually won't have any assets in the United States. Therefore, there would be nothing to collect here and as a result, the U.S. party would need to go to China for relief. However, because there is no treaty between U.S. and China to recognize each other's court's judgments, the Chinese court usually won't enforce the U.S. Court judgment.

File a Second Lawsuit in China

At this point, the U.S. party may think about filing a second lawsuit in China. However, because the contract contains language that all disputes need to be resolved in a U.S. court, the lawsuit will almost certainly be dismissed by a Chinese court. This situation is obviously very frustrating and from a practical stand point makes the contract unenforceable.

Litigation in a Chinese Court

Tthe U.S. company should therefore consider using an arbitration provision to avoid the above situation as 70% to 80% of foreign arbitral decision will be enforced in China (China is a party of New York Convention which requires member countries to enforce each other's judgments). However, in some situation, a litigation provision may still be favored.

Situation Where Litigation in China Could be Favored

Like it or not, sometimes agreeing to resolve disputes in a Chinese court may actually be the more intelligent choice. For example, if a U.S. company has a presence in China and most of their customers are small and medium enterprises. If any of their Chinese customers breach the contract, the particular claim and collection is usually relatively small even if the total claim might be large. In this case, resolving their dispute in a local Chinese court will be the quickest procedure among all of the choices. They could file a lawsuit, get a favored judgment and have a successful collection within a month. Believe it or not, for smaller money remedies, the Chinese court can be much quicker than foreign arbitration or litigation.

Advantages over Arbitration

If instead we had written in an arbitration provision and chose the venue in Hong Kong or Shanghai, the Chinese customer won't care to pay for any travel and attorney expenses to attend. The decision from the arbitration will eventually need to be reviewed and enforced by a local court which will only prolong the procedure and lower the chance of a successful enforcement.  

Does that mean a small money remedy shall favor a litigation provision and large money remedy shall favor an arbitration provision? Not exactly. If your contract is an IP licensing contract, eventually specific remedies such as an IP injunction or a seizure of certain assets will be sought. Only a Chinese court can provide these remedies. Arbitration in this situation will only result in delays and more risks of losing prompt protection.

Arbitrations: Venues and Languages

Many international commercial agreements will use any of the three major arbitration institutions for handling international commercial disputes:

1) The American Arbitration Association (AAA), headquartered in New York, New York;

2) The International Chamber of Commerce (ICC), headquartered in Paris, France; and

3) The London Court of International Arbitration (LCIA), headquartered in London, England.

Some large Chinese companies will agree to the above arbitration venues and, if this is the case, we will always encourage resorting to a third country arbitration for international commercial agreements. You may draft an arbitration clause using both the organization and its rules, including some additional provisions, to tailor the arbitration to the particular situation. You may also use one organization, however another set of rules and procedures will govern the process. All three organizations have specific provisions allowing for the use of UNCITRAL (United Nations Commission on International Trade Law) Arbitration Rules instead of the agency's own.

All of these locations are still far away from mainland China and many Chinese companies will likely fight back for a Chinese arbitration venue in cities like Shanghai or Beijing. In this case, proposing a compromise to have the disputes resolved in the Hong Kong International Arbitration Centre (HKIAC) and using its then effective rules, or other rules both parties feel comfortable with, will usually be a good suggestion eventually accepted by all parties. In addition, some law firms and attorneys prefer Singapore, Japan or other venues because of cost, but traditionally Hong Kong's arbitral award are more likely be honored in a Chinese court.

Chose Wisely

Every situation varies and all scenarios need to be assessed before writing an effective dispute resolution provision into your contract with a Chinese party. To better assess your situation and to avoid mistakes beforehand, please contact a member of the Howard & Howard Chinese Practice.