Doing business in China: The meaning of Guanxi

While most of the rest of the world has struggled with the worst economic downturn for more than 50 years, the last 12 months have seen China top the global construction market.

Forecasts predict that, by the end of this year, China will account for one-fifth of the world’s building industry - unsurprising given that it already consumes 50% of the world’s concrete and 33% of its steel. With conditions at home continuing to be challenging, China is simply too important a market for UK companies to ignore.

However, to succeed in China, UK businesses need to do their homework and ensure that they have a good understanding of Chinese business culture and practices. They also need to be flexible in the way they conduct business and deal with their Chinese counterparts.

It is inappropriate to produce a detailed draft contract too soon in the negotiations

Remember China is a country that still aspires to some form of communist ideal, and the Communist Party remains the glue that binds the it together through this period of massive change and growth. While there is a great deal of bureaucracy, China is also highly decentralised, with real decision-making devolved down to local and regional levels. Most of the regulations that affect western companies trading in China are controlled by the State Administration for Industry and Commerce’s network of over 3,000 offices.

“Guanxi” (roughly translated as “relationships”) is extremely important, and getting this right is key to doing business. In the UK, we enter into transactions and, if these are successful, a relationship may be expected to develop. In China, the converse is true. The Chinese believe that friendship has to be established first and then a successful working relationship may follow. The need to invest time and effort in developing friendships cannot be overstated. The exchange of presents and attendance at official banquets, business suppers and similar events should not be seen as optional extras, but rather as crucial elements of building a successful business in China.

This emphasis on guanxi means that Chinese companies are not usually interested in formal contracts unless they feel confident in the relationship. It is inappropriate and can be counter-productive to produce a detailed draft contract too soon in the negotiations. That said, once mutual trust has been established, the respective rights and obligations of the parties should be formally documented.

The Chinese also adopt a different legal approach to contracts. In China, contract law is based on legislation, and, as court judgments do not form precedents, there is no concept of case law. There are three key principles of commercial contract law - fairness, good faith and the safeguarding of public morality - and Chinese parties will expect these to play a fundamental role in the way in which contracts are performed. Whereas in the UK, we expect (save in exceptional circumstances) a party’s legal rights and obligations to be enforced strictly upon the terms of the contract, the Chinese expect the parties to adopt an approach of fairness and that, where appropriate, the terms of the contract will be renegotiated to take into account changing circumstances, such as increases in the cost of raw materials.

These three principles also affect the way in which disputes are approached, with Chinese parties usually insisting on some form of negotiation before either party begins formal dispute-resolution procedures. In fact, some Chinese legislation requires the parties, wherever possible, either to consult with each other or to mediate before resorting to arbitration or litigation.

The focus in the Chinese government’s current five-year plan (to 2015) on construction in rural areas, the development of new materials, and energy conservation means that there are plenty of opportunities for UK firms. However, the construction industry has come under the spotlight in recent years due to quality issues and corruption. When doing business in China, UK companies must have all appropriate qualifications and licences, while maintaining the highest standards. They also need to ensure that they put “adequate procedures” in place to prevent bribery, as the UK’s Bribery Act catches acts that take place in China.

Tom Peel is a partner and Robert Goldstone is an associate at Walker Morris