Standard Laws Of Legal Due Diligence In China

'An institutional view of China's venture capital industry: Outlining the differences between China and the West', Garry D Bruton and David Ahlstrom- Journal of Business Venturing 18(2), March 2003, 233. Once a firm has passed its primary testing, venture capitalists in the West proceed with due diligence, typically together with confirmation of the dynamics and level of the firm's product, production capacity, market demand, and position of key associations with other organizations (Fried and Hisrich, 1994). When venture capitalists first accessed China, due diligence for funded projects in China was limited in extent; in part, since the support activities upon which Western venture capitalists rely to carry out such activities were not present [Bruton et al., 1999] and [Mann, 1997].

While venture capitalists are boosting efforts to perform Western-type due diligence, the supply and accuracy of information is still serious. Regulations in China do not require a similar degree of public information be presented to the government or any other regulatory bodies as occurs in the West. A number of cognitive institutions encourage the tight management of data and knowledge in China [Boisot and Child, 1988] and [Boisot and Child, 1996] . In the central planning system, bureaucrats and business owners control information is crucial to comprehending the market and local regulatory environment closely, dispensing it cautiously as a way to receive favors and other highly valued items [Boisot and Child, 1988] and [Boisot and Child, 1996] . As one venture capitalist revealed: It's common to spend three to six months more on due diligence [in China], in contrast to related offers in the West. Specifically you must know what type of connections the entrepreneur has, both with the government and other companies. These may characterize crucial assets for the firm. The result is that venture capitalists must expect to make greater efforts in China than in the West to be able to find and aggregate a greater range of information in executing due diligence.

Major areas to take into account in due diligence: legal research of the bureaucratic steps needed to rent selected land, building certificates, overall operational costs of the rent, ecological regulations, license life span checking, pre-entry tax advisory, taxes of owners, stamp duty tax, tax incentives, special incentives, import/export duties exemptions (if any), tariff rebate system for your goods, regulations for foreign investors in certain industry. Normally, the process will move forward as follows (we summarize a detailed due diligence procedure, other less demanding deals will warrant lesser investigations/steps where appropriate): a. A Memorandum of Understanding or Letter of Intent outlining the main heads of agreement that'll be signed in between Chinese party and foreign party, often along with a formal appendix with specific agreements pertaining to the due diligence activity including an exclusivity agreement and confidentiality agreement; b. Party assists the counter-party with a due diligence document request list, setting out various documents/certificates which are required from company; c. Report on the returned documents, and analysis of issues.

Request of further documentation depending on the findings. d. Independent verification through the following sources: i) Perform interviews with management; ii) Review registrations with local Administration of Industry and Commerce, as well as other appropriate government filings; iii) Site survey; iv) Environmental audit. This might be especially related for the sale that you are doing, with the factory?s potential geographical impacts; v) Verification with banks; and vi) Employment of investigative/valuation agencies, where necessary. B. Information reviewed: Like other jurisdictions, there are specific regions of the business which must be examined. We established the parts of particular importance below: 1) Corporate organization: a. Corporate structure; and b. Corporate approvals by applicable government agencies. Note: Corporate structures are certainly different to that of other countries, therefore, it is crucial to know the fundamentals of Chinese corporate law to be able to fully understand the significance of findings. 2. 2) Land: a. Land use rights; b. Building ownership rights; and c. Environmental compliance. Note: Chinese land ?ownership? is very unique in that it allows for a system of long-term leases of the land itself, and full ownership rights to the land. Documents must be reviewed cautiously, specifically, if the land and/or property is of substantial value in terms of the settlement. 3) Debts: Loans, guarantees and mortgage contracts.

Note: China does not yet have a strong central credit rating system for companies. Therefore, any reports provided must be proven against independent sources to be able to confirm a similar, as the initial report may simply lack specifics of the organization, causing a positive report when, in reality, there are a number of outstanding liabilities. 4) IP rights: Be sure that IP registrations are properly conducted, company is free from violation of others' IP rights, licensing agreements are properly concluded, etc. 5) Material contracts: Particularly, if you are merging or acquiring the company as a going concern, the company must be very careful to make sure that they fully know commitments and look into any outstanding commitments and/or liabilities thereunder. 6) Tax filings and payment: Make certain that taxes have been properly submitted and necessary expenses have been achieved. (This will have to be carried out in coordination with an accounting firm.) 7) Regulatory/legal compliance: 8) Special permits and other approvals: This category is often depending on the business range of the target or counter-party to the transaction. 9) Employee matters: A strong workforce is especially essential in China, given the concentration of foreign investment in labor-intensive sectors and vast population for the service business. 10) Pending litigation/claims: This investigation, as litigation is often difficult to predict, is in conjunction with robust warranty clauses assuring the counter-party that there are no outstanding or expected litigations or claims; and 11) Insurance plan.