In China, the Contract Law of People's Republic of China (the PRC Contract Law) is the most important legislation dealing with commercial contracts and commercial disputes. The PRC Contract Law was promulgated by the China's National People's Congress on 15 March 1999 and came into effect on 1 October 1999. The judicial interpretations issued by the highest judicial authority, namely, the Supreme People's Court (SPC) are also binding rules for deciding commercial contract disputes. Although China is not a case law jurisdiction, Chinese judges are more and more inclined to refer to decided cases, especially those decided by the SPC or higher level courts. The SPC also encourages this trend by publishing selected decided cases quarterly.
Under Chinese law, parties have the freedom to decide whether to enter into a contract and to decide the contract terms between themselves. Entities or individuals, including government agencies, who are not a party to the contract are not allowed to interfere with parties' rights to contract. A contract duly executed by parties is legal binding and enforceable with limited exceptions. Principles such as fairness and good faith have been well established by both legislations and judicial practice.2
Chinese courts, especially those located in major cities such as Beijing, Shanghai and Shenzhen, are very experienced and have a good record in deciding commercial contract disputes. In China, parties are generally allowed to agree on the court jurisdiction or refer the dispute relating to the contract to arbitration. In the absence of such agreement, a party is allowed to file its claim to the court where the defendant has domicile or where the contract is performed. In order to successfully file its claim with the court, the injured party, in other words the plaintiff, needs to submit civil complaint and preliminary evidence to the court. If the court agrees to accept the case, the plaintiff will be required to pay a court acceptance fee that is calculated based on the claiming amount.
II CONTRACT FORMATION
Under Chinese law, a contract can be formed by mutual agreement by parties. To reach a legal binding contract, parties must have appropriate capacity for civil rights and capacity for civil acts. All individuals have capacity of civil rights. Individuals' capacity for civil acts are determined by their age and mental status. Capacity of civil rights and capacity of civil acts of commercial entities registered in China are provided in their business licences issued by the Chinese authority. Foreign entities' capacity shall be determined by the law of jurisdiction where they are registered.
A contract can be made in writing, orally or by other means unless written form is expressly required by the law or administrative regulation. For example, the Regulation on the Implementation of the Law of the People Republic of China on Chinese-Foreign Equity Joint Ventures requires Sino-Foreign Joint Ventures Contracts (SFJV contacts) to be made in writing.
In practice, commercial parties typically make their contracts in writing. It is rare for commercial parties to enter into a contract in verbal form. At the same time, if the parties did not conclude the contract in a written or verbal form, but it may be inferred from both parties' acts that they intended to enter into the contract, the court may determine it is a factual contract. This position was confirmed by the Jiangsu Nantong Intermediate Court in a recent decision.3
The formation of a contract is generally a result of parties' negotiation, including the process of offer and acceptance. 'Offer' means the expression of intent to enter into a contract with another party. Such expression of intent shall comply with the following two requirements to be an effective offer:
- its contents shall be specific and definite; and
- it indicates that the offeror will be bound by the expression of intent if the offeree accepts the offer.
According to the PRC Contract Law, mailed price lists, public notices of auction and tender, prospectuses and commercial advertisements, etc. are typically deemed as invitations for offer, rather than offers. Such invitations for offer are not legal binding. However, if the contents of a commercial advertisement meet the above-mentioned requirements for an offer, it shall be regarded as an offer.
An offer becomes effective when it reaches the offeree. Generally, before the offeree dispatches a notice of acceptance, an offeror may revoke its offer. However, there are some exceptions. In the following circumstances, the offeror is not allowed to revoke its offer:
- the offeror indicates a fixed time for acceptance;
- the offeror explicitly states that the offer is irrevocable; or
- the offeree has good reasons to believe the offer is irrevocable and has made preparation for performing the contact.
Acceptance means an expression of intent to accept the offer. An acceptance should reach the offeror within the time period prescribed in the offer. In the absence of such time limit in the offer, the acceptance should reach the offeror within reasonable time period, taking into account all of the circumstances of the underlying transaction. The acceptance should be made in the form of a notice, except where acceptance may be made by an act on the basis of customary business practice or as expressed in the offer. The acceptance comes into effect once it reaches the offeror. A contract is established when the acceptance becomes effective. Consideration is not a necessary condition to form a contract.
Under Chinese law, parties may agree that the effectiveness of a contract is subject to a condition or conditions. A contract whose effectiveness is subject to certain conditions shall become effective when such conditions are satisfied.
Article 44 of PRC Contract Law provides that if law or administrative regulation requires the effectiveness of a contract subject to approval or record process with relevant authority, such contact shall become effect when such approval or record process are accomplished. For example, according to relevant administrative regulations,4 SFJV contracts and Sino-Foreign Cooperative Enterprises contracts are subject to government approval to became effective. In Si Fupai International Shares Limited v. Yongfeng Si Fupai Packaging Holding, the SPC expressly confirmed this position.5
Even if a formal contract is not formed, parties still shall act in good faith such as complying with confidentiality obligation and various expressed or implied obligations generated from a pre-contractual relationship.
III CONTRACT INTERPRETATION
In China's regime, the rules of choice-of-law are mainly provided in the PRC Contract Law, PRC Choice Law of Foreign-Related Civil Relation (PRC Choice of Law) and PRC General Principles of Civil Law.
According to Article 3 of the PRC Choice of Law, as a general principle, Chinese law recognises and respects parties' agreement on the choice of law in a foreign-related contracts with a few of exceptions. However, for domestic contacts, parties are not allowed to select the governing law applying to the contract. This position has been well established by both statutes and court-decided cases. For example, in Shenzhen Jianda Construction Engineering Limited v. Jin Yilin (Dongguan) Housing Development, the Guangdong Donguan Intermediate Court expressly held that for a domestic contact without any foreign elements, parties' agreement on applying foreign law is invalid and Chinese law should apply.6 Foreign-related contracts means contracts with foreign elements. In the following circumstances, a contract could be regarded as having foreign elements:
- one or more than one contracting party is a foreign party or its domicile is outside China;
- the subject matter is outside China; or
- the legal facts that caused the establishment, change or termination of the contractual relation took place outside of China.
If there are mandatory provisions on foreign-related civil relations in the laws of China, these mandatory provisions shall prevail over parties' agreement and directly apply. In the event that the law has no provision on the application of any laws concerning foreign-related civil relations and parties have no agreement, the laws that have the closest relation with this foreign-related civil relation shall apply.
If any disputes arise between the parties over the understanding of any clause of the contract, the true meaning thereof shall be determined according to the words and sentences used in the contract, the relevant provisions in the contract, the purpose of the contract, the transaction practices and the principle of good faith.
In the event that a contract is concluded in two or more languages and it is agreed that all versions are equally authentic, the words and sentences in each version are construed to have the same meaning. In the case of any discrepancy in the words or sentences used in the different language versions, they shall be interpreted in light of the purpose of the contract.
The PRC Contact Law also provides that where, after the contract becomes effective, there is no agreement in the contract between the parties on certain contents such as quality, price or remuneration, or place of performance, or such agreement is ambiguous, the parties may agree upon supplementary terms through consultation. If a supplementary agreement cannot be reached, such terms are determined in accordance with the relevant provisions of the contract or the transaction practices.
According to Article 62 of the PRC Contract Law, where certain contents agreed upon by the parties in the contract are ambiguous and cannot be determined in accordance with the methods discussed in the above paragraph, the court may consider the following rules in deciding the case:
- if quality requirement is not clear, performance shall be in accordance with the state standard or industry standard; absent any state or industry standard, performance shall be in accordance with the customary standard or any particular standard consistent with the purpose of the contract;
- if price or remuneration is not clear, performance shall be in accordance with the prevailing market price at the place of performance at the time the contract was concluded, and if adoption of a price commissioned by the government or based on government issued pricing guidelines is required by law, such requirement applies;
- where the place of performance is not clear, if the obligation is payment of money, performance shall be at the place where the payee is located; if the obligation is delivery of immovable property, performance shall be at the place where the immovable property is located; for any other subject matter, performance shall be effected at the place of location of the party fulfilling the obligations;
- if the time of performance is not clear, the obligor may perform, and the obligee may require performance, at any time, provided that the other party shall be given the time required for preparation;
- if the method of performance is not clear, performance shall be rendered in a manner that is conducive to realising the purpose of the contract; and
- if the responsibility for the expenses of performance is not clear, the party fulfilling the obligations shall bear the expenses.
IV DISPUTE RESOLUTION
In order to file a lawsuit, including one that arises from a contract dispute before Chinese courts, the following requirements should be satisfied:
- the PRC court has jurisdiction over the claim presented;
- the plaintiff has a legal standing to file the claim;
- the defendant is identifiable;
- a specific claim for relief has been presented;
- there is clear and specific factual basis in support of the claim; and
- there is a clear and specific legal ground or grounds in support of the claim.
Plaintiffs are allowed to file a case with a nominal disputing amount. There is no minimum amount requirement for a claim to be submitted to the court.
In terms of jurisdiction, for contract disputes parties can agree in writing to be subject to the jurisdiction of the Chinese court at the place having connection with the dispute, such as where the defendant has domicile, where the contract is performed, where the contract is signed, where the plaintiff is domiciled or where the subject matter is located.
In recent years, special courts have been set up to handle specific category of disputes. For example, intellectual property courts are set up in Beijing, Shanghai and Guangzhou to handle exclusively intellectual property disputes. In Shanghai, a financial court was founded in early 2018. It has jurisdiction over financial loan contracts, financing lease contracts and contracts for commissioned wealth management.
In June 2018, two international commercial courts of China (CICCs) were found in Shenzhen and Xi'an respectively. The establishment of CICCs is a significant development in China's judicial system. They will offer additional dispute resolution choices to companies doing business in China or internationally. Their jurisdiction will include, among other disputes, international commercial cases with a disputing amount over 300 million yuan or of nationwide significance.7
Apart from court litigation, other common forms of dispute resolution in China include arbitration, and alternative dispute resolution (ADR) methods such as negotiation, mediation and conciliation, or a combination of these methods. Some dispute resolution clauses provide that any dispute shall first be resolved through friendly consultation, failing which it shall be submitted to litigation or arbitration.
Chinese law and Chinese courts respect arbitration agreements or agreements on ADR. It is clearly provided by law that the court shall not accept the case or interfere into the dispute if parties have entered into a valid arbitration agreement.
Over the past decades, commercial arbitration has gradually gained wide populism and recognition in China. Also, as the Chinese government has been engaged in prompting and establishing a 'harmonious society' in China, ADR methods, including mediation, are expected to be booming in the future.
V BREACH OF CONTRACT CLAIMS
The success of a claim for breach of contract depends on the satisfaction of the following elements:
- formation of the contract; and
- the defendant fails to perform its obligation or its performance fails to satisfy the terms of the contract.
With regard to liabilities resulting from breach of contract, Chinese law applies the principle of liability without fault. That is, the defendant's intention or negligence is not an element for breach of contract claim.
The general rule of evidence is that the party raising a claim bears the burden of proof. Therefore, the plaintiff bears the burden of proving that the above elements are well established. The extent of the plaintiffs' burden varies. Usually the plaintiff can justify its claims merely by a 'preponderance of the evidence' – namely, by showing that the claim against the defendant is more likely true than not. According to Article 108 of the Interpretation of the Supreme People's Court on the Application of the Civil Procedure Law, with regard to the evidence provided by the party concerned with the burden of proof, where the court believes that the existence of a fact to be proved is highly probable upon examination and in combination with the relevant facts, it shall affirm the existence of the said fact.
Chinese courts permit the introduction of various kinds of evidence, including documentary evidence, real evidence, witnesses statement, statements by parties, expert's opinion, audio-visual materials and electronic evidence. As a general rule, all types of evidence must be verified by the court as to its authenticity before being allowed to be used as a basis for determining facts. In addition, in order for a piece of evidence to be admitted, the party submitting the evidence needs to prove that the evidence is relevant to the claim and obtained through lawful means. Documents formed outside China need to be notarised and legalised in order to be admitted as evidence.
Unlike common law jurisdictions, there is no evidence discovery in China. Except for limited circumstances, a party is allowed to only submit evidence in its favour, as there is no obligation to disclose all documents. The court is allowed to collect evidence, on its own initiative or per a party's request, from the parties to the case or other relevant parties. These parties being investigated by the court have obligation to cooperate and provide evidence as required.
VI DEFENCES TO ENFORCEMENT
The party seeking to avoid enforcement of contractual obligations or challenge claims of breach of contract may invoke the following grounds, among others as its defences:
- there is no contract or the contract is void;
- the statute of limitation has elapsed;
- liability for breach of contract has been exempted or limited as provided in the contract;
- force majeure; and
- unforeseeable circumstances.
If the defendant is able to prove that there is no contract between plaintiff and defendant, the court will deny the breach of contract claim. In the event that defence is not available, the defendant may consider whether the contract could be determined as void. Under China law, a contract shall be void under any of the following circumstances:8
- the contract is concluded by means of fraud or coercion by one party, thereby damaging the interests of the state;
- malicious collusion is conducted to damage the interests of the state, a collective group or a third party;
- an illegitimate purpose is concealed under the guise of legitimate forms;
- the public interests are damaged; or
- the mandatory provisions of the laws and administrative regulations are violated.
A contract that is determined as void by the court has no legal effect from the beginning. As such, plaintiffs are not able to rely on a void contract to make a breach of contract claim.
The limitation period is another ground commonly relied upon by the parties to defeat the claim for enforcing contractual obligations. In general, the statute of limitation in China for contract dispute is three years starting from the date when the plaintiff knows or should have known the existence of its claim. The limitation period can be interrupted or suspended.
The defendant may also argue that its liability for breach of contract has been exempted or limited as provided in the contract. Clauses on exemption or limitation of liabilities are generally valid under Chinese law, unless the agreements are relating to personal injury to the other party, or property damage to the other party as result of deliberate intent or gross negligence.9
Under PRC Contract Law, there is no equivalent regime of impossibility or impracticality. Nonetheless, under Chinese law, a party can refuse to enforce the contract under unforeseeable circumstance. According to Article 26 of Interpretation of the Supreme Court on Certain Issues Concerning the Application of the PRC Contract Law (II), where a party to a contract petitions the court to modify or terminate the contract on the grounds that the continuous performance of the same is obviously unfair to the party or the purpose of the contract will not be realised owing to the occurrence of any material change of circumstances that is unforeseeable, not caused by force majeure, and not a commercial risk after the conclusion of the contract, the court shall decide whether the contract shall be modified or terminated according to the principle of fairness on a case-by-case basis.
Moreover, a party who is unable to perform a contract owing to force majeure is exempted from liability in part or in whole in light of the impact of the event of force majeure, except otherwise provided by law.
VII FRAUD, MISREPRESENTATION AND OTHER CLAIMS
In addition to breach of contract claims, claims based on tortious acts such as fraud claim, claim on misrepresentation or claims based on other party's improper acts (collectively, 'improper acts') are available for commercial contracts governed by Chinese law.
Chinese law recognises quasi-contract claims. Even if the contract is not formed or is not yet effective, a party is still entitled to claim for compensation of damage against the other party if the other party:
- pretends to conclude a contract, and negotiating in bad faith;
- deliberately conceals important facts relating to the conclusion of the contract or providing false information; or
- performs other acts that violate the principle of good faith.
Chinese law does not have an equivalent concept of 'promissory estoppel'. But it is established that a party is bound by its promise to the other party. If the opposing party suffered losses owing to reliance of the promise, the Chinese court may support the injured party's claim relying on the principle of good faith.
Chinese law also allows a party to an effective contract to make a claim based on tort law as an alternative to the breach of contract claim. Regardless of the fact that such tort claims are made based on fraudulent acts, misrepresentation or other types of bad faith acts, the basis for such claims are all from tort law. Therefore, elements for such claims are the same or similar. That is, in order to prevail, a injured party needs to prove:
- the other party conducted an improper act or acts intentionally or negligently;
- the plaintiff suffered damages; or
- the damages are caused by the improper acts of the other party.
It is important to know that, under Chinese law, the injured party is not allowed to bring a breach of contract claim and tort claim against the opposing party at the same time. The injured party must choose either contractual claim or tort claim. Otherwise, the court will refuse to accept the injured party's claim. Having said that, assuming the inured party fails in its contract claim, it is allowed to initiate tort claim afterwards and vice versa.
The claim of tortious interference of a contract is merely a theory to date and is still developing in the Chinese regime. There is no statute supporting such type of claim.
Under PRC law, if a party fails to perform its obligations under a contract, or its performance fails to satisfy the terms of the contract, the injured party is entitled to ask the party who breached the contract to bear liabilities for breach of contract such as to continue to perform its obligations, to take remedial measures or to compensate for losses. The injured party may also claim termination if relevant conditions are satisfied.
As a general principle, where a party fails to perform its non-monetary obligations or its performance of non-monetary obligations fails to satisfy the terms of the contract, the other party may request it to perform the obligations unless the following exceptions apply:
- it is unable to be performed in law or in fact;
- the subject matter of the obligation is unfit for compulsory performance or the performance expenses are excessively high; and
- the obligee does not require performance within a reasonable time.
In practice, when deciding whether specific performance shall be granted, the Chinese court will consider whether the enforcement of the order requesting specific performance is possible and feasible. If it is impossible or difficult to enforce, the court will be reluctant to order specific performance, and will be inclined to order alternative remedies such as compensation of losses. The trend is that Chinese courts are increasingly willing to order specific performance comparing with themselves in the past.
In addition to specific performance, monetary damages are also available under Chinese law. The amount of damages the innocent party is entitled to is generally equal to the damage it actually suffered, including both direct loss and indirect loss such as loss of profit, but shall not exceed the amount that has been foreseen or ought to be foreseen when the party in breach concludes the contract. Punitive damages are only available for certain types of claims in customer protection cases. For commercial cases, punitive damages are not available. Chinese Law does not have any statute dealing with indemnification. In practice, courts generally recognise the validity and enforceability of indemnification clause agreed by parties.
In commercial disputes over contracts, plaintiffs have the obligation to prove:
- that the opposing party has breached the contract;
- that it has suffered damages and the amount of damages; and
- causation between breach of contract and damages.
As it may be difficult for plaintiffs to prove the exact amount of losses it suffered, it is common for parties to agree on liquidated damages in commercial contracts. Such liquidated damages clauses are typically enforceable under Chinese law. However, if a party makes a petition, the court is allowed to adjust the amount of the agreed liquidated damages in the following circumstances:
- where the amount of liquidated damages agreed upon is lower than the damages incurred; or
- where the amount of liquidated damages agreed upon are significantly higher than the damages incurred.
Parties may also agree upon limitation on damages in contractual or extra-contractual claims. However, if such agreement on limitation is about personal injury to the other party, or property damage to the other party as result of deliberate intent or gross negligence, such agreement is void under the law.
The innocent party may also seek remedies by claiming termination of contract if relevant conditions agreed by parties or provided by law are satisfied. The parties may agree upon conditions under which either party may rescind the contract.
Article 94 of PRC Contract Law provides statutory conditions for termination of contract. Under the following circumstances, a party may petition to the court to terminate the contract:
- it is rendered impossible to achieve the purpose of contract owing to an event of force majeure;
- prior to the expiration of the period of performance, the other party expressly states, or indicates through its conduct, that it will not perform its main obligation;
- the other party delayed performance of its main obligation after such performance has been demand, and fails to perform within a reasonable period; and
- the other party delays performance of its obligations, or breaches the contract in some other manner, rendering it impossible to achieve the purpose of the contract.
Regardless of the basis of termination, a party demanding termination of a contract shall notify the other party. The contract shall be terminated upon the receipt of the notice by the other party. If the other party objects to such termination, it may petition to a court or an arbitration institution to adjudicate the validity of the termination notice. After the termination of a contract, performance shall cease if the contract has not been performed; if the contract has been performed, the injured party may, in accordance with the circumstances of performance or the nature of the contract, demand the other party to:
- restore it to its original state;
- take remedial measures; or
- compensate damages.
Contract law in China has been well developed in the past 20 years. It offers good protection to commercial parties, including foreign parties doing business in China or having commercial relation with Chinese parties. Chinese contract law respects that a contract is a mutual agreement between parties. A binding contract could be formed by the process of offer and acceptance or other alternative ways and becomes effective once it is formed, with limited exceptions. Chinese contract law recognises the good faith principle and principle of fairness. For foreign-related contract, parties are allowed to select foreign law as a governing law.
Where parties have a dispute over the meaning of a contract clause, it could be determined according to the context used in the contract, the relevant provisions in the contract, the purpose of the contract, the transaction practices and the principle of good faith. In the event of a breach of contract, the injured party may request specific performance, claim damages it suffered or terminate the contract if conditions are satisfied.
Before 2016, China did not enter into any international convention or bilateral treaties regarding cross-border enforcement of court judgments with other major economics such as the United States and EU nations. Also, Chinese court did not apply the principle of reciprocity in practice. Accordingly, it is difficult or even impossible to enforce Chinese judgments in major foreign jurisdictions and vice versa. Bearing this situation in mind, companies having transactions with Chinese parties are inclined to submit disputes to arbitration. However, this situation has changed. First, a Chinese court enforced a judgment issued by the Singapore High Court in late 2016 and a judgment issued by a US court in 2017 based on the principle of reciprocity, respectively. Also, the Chinese government signed the Hague Convention on Choice-of-Court Agreements in September 2017, joining a framework with all EU nations (except Denmark), Singapore, Mexico, the United Kingdom and the United States to prompt cross-border enforcement of court judgments. We expect China's National Congress will approve the Convention in or around 2019 to make it effective in China.
1 Peng Shen is a special counsel at Baker McKenzie.
2 See Articles 5 and 6 of PRC Contract Law.
3 See Nanjing Shui Mu Qiang Hua Decoration Limited v. Rong Chang Construction Materials Business Department of Ru Bing City, Jiangsu Nantong Intermediate Court, 2018, PKU Law.
4 See Article 14 of Regulation on the Implementation of the Law of the People's Republic of China on Chinese-Foreign Equity Joint Ventures and Article 11 of Detailed Rules for the Implementation of the Law of the People's Republic of China on Chinese-Foreign Contractual Joint Ventures.
5 See Si Fupai International Shares Limited v. Yongfeng Si Fupai Packaging Holding, SPC, 2017, PKU Law.
6 See Shenzhen Jianda Construction Engineering Limited v. Jin Yilin (Dongguan) Housing Development, the Guangdong Dongguan Intermediate Court, 2018, PKU Law.
7 See Provisions on Several Issues regarding the Establishment of International Commercial Courts issued by the SPC.
8 See Article 52 of PRC Contract Law.
9 See Article 53 of PRC Contract Law.