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Special> China International Fair For Investment & Trade> Beijing Review Exclusive> Legal-Ease
UPDATED: July 26, 2008 NO. 31 JUL. 31, 2008
Managing Your China JV Partner II

In short, the main areas of due diligence that need to be covered during the negotiation process with your proposed joint venture (JV) are as follows:

Legal due diligence

It is important to ensure a person is who they say they are and that all required licenses and documentation are in place. Converting a business to a JV as a foreign-invested enterprise means inheriting the various licenses the Chinese partner has (though not all of them may be transferable to a foreign investor). A major issue in legal due diligence is the aspect of land use rights-investors must make sure they are getting a fair deal for land injected by the partner and not at an inflated premium for something of little tangible value.

Financial due diligence

An analysis of a potential JV partner's books will need to be undertaken. This will require an experienced Chinese auditor, familiar with Chinese accounting preparations. The analysis will determine any level of financial incompetence, "massaging" of accounts and any levels of deliberate fraud. The first two can be dealt with via training and replacing of old financial reporting systems with more compliant ones. Financial due diligence also extends to the asset valuation of any land, buildings and plants. Be certain to use an impartial valuer, possibly from another city, as your potential partner may well have connections with local valuers that can compromise the true value in his favor.

Operational due diligence

It is important to know a JV partner can really get their products to market as they claim. We have seen numerous cases where such distribution channels sometimes did not hold up to scrutiny, a disaster if sales therefore can never reach projected levels. Proposed sales figures in business plans are often quite optimistic, and investors need to ensure these do hold water and can be supported by the pertinent sales and marketing infrastructure.

Political due diligence

Over the past 18 months, China has revolutionized much of its foreign direct investment (FDI) policy. Tax laws, regulatory environments in certain industries, environmental protection, anti-energy wastage laws and a tightening of the labor law have all had a deliberately planned effect in directing the type of FDI that China wants. This means that certain industries are now no longer encouraged in China, while others are attracting financial benefits. Investors need to be sure their business is of a type compatible with China's existing political and regulatory framework. If not, other markets elsewhere such as Viet Nam or India may be better.

Environmental due diligence

It is an unfortunate fact that most of China's commercial land is polluted. It is also a reality that in China, the concept of "the polluter pays" is not effectively enforced. Therefore, if acquiring land to either lease or to buy, then it makes absolute sense to have core samples taken to determine what is in it, and sent to one of the appropriate international sampling laboratories for analysis. The nearest one to China is in Hong Kong. This will give a detailed report on what is in the land, and what measures need to be taken to clean it up. It also provides leverage to reduce the price of the land in compensation for any remedial work that needs to be conducted. It is not advisable to be sitting on land when China's environmental bureau tests it, declares it polluted and asks you to bear the cost of clean up.

Using technology transfer agreements to manage your JV partner

Technology transfer can be written into the JV contract as an asset to be contributed by the foreign partner, and a value placed on this. Even though the Chinese partner in China may for whatever reason (regulatory, financial, political) hold a majority position of equity, the JV itself is still dependent upon the foreign partner to provide it with the necessary technology.

Technology transfer agreements are legal frameworks for transferring technology, expertise or facilities from one party to another. This could include importing or exporting technology externally from China into the country, or it could involve transfers within China.

This process of technology transfer is usually complex and, especially if you want to import or export technology, worth noting that there are some rules you should take into account.

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