Land use rights

There has been an increase over the past few years in the abuse and occasionally quite deliberate misrepresentation of the actual circumstances concerning land use rights to foreign investors. This is essentially a legal due diligence issue that is required when acquiring land, and it is vital to carry out background checks to confirm the status of the land in question.

There are two types of land use rights:

· Allocated rights, meaning someone else has the title but permission to use for a specific purpose is provided to you. These take the form of an issued certificate in your name.

· Granted rights, meaning you have title (ownership) of the land.

For obvious reasons, granted rights are more expensive than allocated rights. Granted rights mean you can profit from any increase in the value of the land if you develop it, whereas with allocated rights this is not the case. A certificate is also issued demonstrating you have title.

· Also important to note is the scope of use, which appears on the certificate and identifies exactly what the land is to be used for. For obvious reasons again, this needs to be consistent with your business.

Problems occur as follows:

· Granted rights were paid for, but allocated rights provided. We have even had problems with local governments negotiating a higher premium, yet actually only handing over allocated rights. If wanting title to the land, you must specify granted rights in all circumstances.

· Invalid scope of use. Agricultural land, especially in China, is at a premium, and permission to convert it to commercial use has to be obtained at state level. Yet many local governments themselves issue fraudulent certificates, buying land cheaply from farmers, illegally changing the rights and then selling it on as commercial usage to foreign investors. It is a common scam, and if you get caught-no matter how innocent you are-you stand to lose your investment. You must check with the land bureau on all matters of land use, scope of use and so on to verify what you are told is correct.

· Access rights. Some land can have issues with access rights, and details to provide for this must be hammered out as part of any agreement.

Exit strategies

With foreign-invested enterprises' applications, issues such as these can appear trifling and not worth bothering about. Yet, if it all goes horribly wrong in China, who gives the green light to exit the investment? The investor or the licensing authority? In China, the investor must obtain approval to close a business if it is not performing. This can be a problem if there are differing opinions on the nature of the operation's woes. The ability to pull out is therefore not in your hands. Should the government decree the business can be a going concern or its closure perhaps faces unemployment issues or loss of tax revenues, obtaining permission to exit may not be easily forthcoming. Normal draft articles themselves are somewhat ambivalent on the matter and far from specific. The way to deal with this is to have the articles of association worded (this is not in standard drafts) in such a manner as to link the termination clauses to production clauses. In this way, an economic trigger is identified that can be pulled should the business under-perform. This needs to be built into the articles of association prior to registration with the authorities. If approved, the licensing authority must follow it's own approval process for the behavior of the company if it decides to exit for economic reasons. It neatly puts the ability to exit back in the realms of measurable financial performance and away from any ambiguity.

When specifically dealing with joint ventures, in addition to an exit strategy, details of any acquisition of shares, including prices to be offered for them, can also be inserted into the articles and contract if negotiated and agreed by both parties.

Role of the Labor Union

Again, standard clauses in the articles that may appear innocuous, but if not dealt with and redrafted, these can lead to interference at the highest level in the way in which you operate your business. This is additionally compounded by the fact that new regulations are due to be issued to strengthen the role and responsibilities of the labor union.

All companies in China have the right to form a "grassroots" labor union if there are at least 25 employees (including foreign workers). This structure is part of a national union of workers that has its ultimate power base firmly within the Constitution, so this is a powerful organization.

If a union is formed, then the elected representative has the right to attend company management meetings. The company must fund the union to the tune of 2 percent of all employees' salaries each month (staff must also make a small contribution). Funds should be used for workers' education, welfare and entertainment and may also be used to provide legal support to employees with grievances against the company.

Management interference can be minimized by restricting the union representative's access to the portion of meetings only at which staff and workers' rights are to be discussed, while budgets for the use of union funds can also be agreed upon and implemented.

Chris Devonshire-Ellis is a senior partner of Dezan Shira & Associates, Business Consultants www.dezshira.com