The document discusses the pros and cons of establishing a joint venture (JV) in China. It outlines the key legal structures for foreign companies operating in China, including equity JVs, cooperative JVs, and wholly foreign owned entities. While JVs provide access to local partners' networks and resources, they can be difficult to manage due to cultural differences, loss of control, and disputes over intellectual property. The document analyzes a failed Danone JV in China and provides lessons learned, such as maintaining management control, properly protecting IP, and establishing clear expectations upfront.

1. To JV or Not to JV That is The Question Richard Kimber Managing Partner RHK Legal 25th January 2011

2. 1. Legal Structures Available in China 2. A Joint Venture - The Pros and Cons 3. Danone JV- What went wrong 4. Lessons Learned Outline

3. Equity Joint Ventures Cooperative Joint Ventures Wholly Foreign Owned Entities Partnerships - New There are four legal structures under which foreign companies can conduct business in China

4. Profit and Risk Sharing are proportionate to the equity of each partner A minimum of 25% of the capital must be contributed by the foreign partner No minimum investment for the Chinese Partner Equity in a joint venture cannot be transferred without approval of from the Chinese government Either party can appoint the Chairman (Legal Representative) Key Elements of Equity Joint Venture

5. German Chamber of Commerce Survey - 2007 The ratio of WFOEs to JVCs was 2:1 75% of JV companies would enter the market as WFOES if they could choose again Reasons: Direct Management Control of Operations Control of Technology and Know How Independent Market Exit Decision No need to share Profits Quicker Set Up So why JV?

6. Same 2007 Survey: JV Partners support in dealing with authorities Access to JV Partners Customer or Sales Network Access to large local labour force Better Chance of Getting Government Contracts Sharing Risk and Capital Expense of R&D So what are the Pros of a JVC

7. JVs only permitted for : -development and application of new technologies for recovery of crude oil -production and R&D of automobile electronic devices and control systems -power transmission and transformers, geothermal power generation, wind power generation, nuclear power generation Also - Market Access

8. Local Partner's Objectives may be different from Foreign Partner Cultural Differences may lead to misunderstanding / operational conflicts Potential loss of control over daily operations Foreign Partner may lose control of its intellectual property So what are the Cons

9. Due Diligence: Thoroughly vet joint venture partner Make LOI or MOU as detailed as possible - less to argue about in JV Agreement Develop a jointly agreed business plan for the joint venture Exert daily management control over the Joint Venture - if you are minority shareholder seek power to appoint CFO and General Manager Recognize that the Chinese side will always seek to vary the rights under a Joint Venture to suit changes in business conditions - try to be flexible in response How to Maximize the Prospects for a Successful Joint Venture

10. Plan carefully for dispute settlement - mediation is better option Plan for an orderly dissolution - if disagreements cannot be resolved How to Maximise the Prospects for Success (cont'd)

11. What Went Wrong and Why? Background: 1996 - Joint Venture Formed Chinese Party - 49% (SOE) FrenchParty 25.5% and Hong Kong Party 25.5% through a Singapore SPV (total 51%) Sino-Foreign - Beverage Joint Venture

12. Chinese Party - majority shareholder - 49% - board control It saw other 2 shareholders as minority shareholders Its sole contribution to the JVC had been the Chinese Party trademark - valued at RMB 100 million Foreign Investors had contributed cash - RMB 500 million However - TM was never assigned to JV because Trademark Office refused -saw TM as "most famous trademark" belonging to the State. This issue was never resolved however parties agreed in 1998 to enter into a license agreement giving JVC defacto ownership of mark and exclusivity of use. 1996 to 1998 - JV ran smoothly

13. French Party bought out HK Party and became 51% shareholder with board control. Chinese Party and Chairman of JV saw this as a loss of control of the trademark and of the company. Problems then arose: (i) While French Party was majority shareholder it delegated effective management control to Chinese side – French Party took its eye of the ball. (ii) Chinese side then established other competing companies and installed his relatives to operate these companies. (iii) These non JV companies effectively competed with the JVC and used the trademark exclusive licensed to the JVC. 1998 - a watershed

14. Result: French Party and Chinese Party have now been in arbitration for the past 4 years and French Party is now trying to recover its investment in a company which has grown to be the No.1 beverage supplier in China with a 15% market share.

15. Most importantly – file for IPR protection within China whether it be trademark, patent, technology, trade secrets or just know how and before you commence negotiations. - if assigning technology to a JVC ensure that the foreign party has rights to receive a license back of improvements to the technology, preferably an exclusive license back or if not exclusive then a perpetual royalty free license. -in the case of a license of technology insert a change of control clause to provide that if Chinese side disposes of its shares in the JVC this will trigger a cancellation of the license. Lessons Learned

16. Clearly define who may use the technology transferred to the JVC (are subcontractors and subsidiaries excluded) Include clauses binding both the JVC and its personnel, e.g. non-compete clauses, confidentiality clauses, non-solicitation clauses. Lessons Learned (cont’d)

17. Be active in the management of the JVC - attend all board and shareholder meetings Don’t let the Chinese side consider the foreign party is an absent shareholder - resentment will form. If minority shareholder - try to get CFO position and daily management control Try to avoid 50/50 JVCs or 51/49 JVCs - in Chinese business culture local joint ventures are alway either 70/30 or 60/40 so it is crystal clear who controls the business. -the Chinese side does not differentiate between 51/49 and 50/50. “A meeting of equals” Lessons Learned (cont'd)

18. Provide a solid base on which to establish the JVC - show as much as possible what the foreign side is bringing to the JVC - technology/management expertise/new markets/new products -avoid the scenario where all that was being given was IP (trademark) and the focus turned to that, instead of to the business itself. Lessons Learned (cont'd)

19. At the employee level: Make employees aware that unauthorized communication hurts their company and their jobs Ensure employment contracts contain non-compete clauses and confidentiality agreements Lesson Learned (cont’d)

20. A successful JV in China can be one... "where the parties lie in the same bed but have different dreams” But always remember in the words of Longfellow, a JVC is like a child... "when they are good, they are very very good but when they are bad they are horrid" In Summary

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