Performing Legal Due Diligence In China

What is legal due diligence? There are many kinds of due diligence, for instance financial due diligence performed by accountants to evaluate a company’s profits, debts, solvency, financial reporting and tax status. There's also corporate due diligence concentrating on a company’s incorporation and board. Investigatory due diligence, that is looking into things such as the individual links of management, is yet another area to think about particularly in the context of China. Legal due diligence nevertheless targets whether or not a company is complying with local and international laws and how the compliance or non-compliance will influence your investment. Performing legal due diligence includes looking into a company’s control of property both physical and intellectual, contracts and other agreements, litigation that it has undertaken or that has been pursued against it, as well as overlapping with other types of due diligence in the elements of business licencing, finances, tax, and management. Legal due diligence if properly performed will also show what type of company you are dealing with. Are they highly litigious? Have they been punished by governing bodies? Or have they outsourced all of their functions and don’t actually produce anything?



Why take on legal due diligence? If you are thinking about a move into China, be it getting into a cross-border joint venture, merger or acquisition, participating local management, or new international franchisees, partners or investors, it is important to know just as much as possible before making an investment. Not actively taking part in thorough investigation can lead to nasty surprises on the track. Executing due diligence is more than just a search for whether or not your preferred company is currently complying with China’s legal requirements. If done right, legal due diligence will put your investment into industry framework and show you just what type of business you are coping with. By hiring professionals to perform legal due diligence, you can in turn prevent unwanted risks and confidently take advantage of the rapidly growing market that is China.



How do you go about it? What areas should you concentrate on? The entire process of legal due diligence is actually a process of gathering information and being able to know very well what it tells you and how it fits together. That having been said, understanding what to look for, which things to ask, and where to go are often less than straightforward, specifically in China. The first thing to do when undertaking legal due diligence is to consult a professional, typically a specialist law firm, and reveal to them what you are about to do, for instance are you making an investment in a joint venture, buying a company outright, or establishing a franchise. This will aid a firm understand what they need to consider 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: Executing 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 about to take, nevertheless the techniques differ. Most of the Western world has fairly centralised and open documentation of the legal particulars of registered companies, in China alternatively you will discover 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 stated you will also need to visit local authorities like the local Estate Bureau to verify the land rights you are being sold, and the local Administration of Industry and Commerce (AIC) to examine the company’s incorporation documents and business licence. When it comes to legal due diligence a trip to the local court will also be essential. Important Areas: Legal due diligence will cover many of the aspects of financial and corporate due diligence as well as some discrete areas 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 consider 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 very important for checking that the price has not been inflated. It is also crucial to determine whether there are any restrictions on a company’s land use. This can be accomplished at the local Estate Bureau by looking for the company’s land ownership 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 shift can happen. Also in relation to real property, check the environmental regulations for the region in which the business is situated.




Completing due diligence reports can be done by our lawyers. Visit website for due diligence reports.