Chinese guarantees in the shipping industry - old issues revisited

A guarantee issued by a Chinese entity to secure contractual obligations or repayment of debt is not an unfamiliar subject for people in the shipping industry. The uncertainty for a foreign party with Chinese guarantees, is that as the guarantee is given in a foreign currency (usually in United States dollars), it may well be subject to the foreign exchange control regulations in the People's Republic of China (PRC or China). This can present problems when it comes to enforcement. The Chinese guarantor may deny liability on grounds that the guarantee is invalid if it has not been approved by (or registered with) China's State Administration of Foreign Exchange (SAFE), or if the guarantee has not been issued with proper corporate authorisation, in accordance with the Chinese guarantor's articles of association, or internal rules. Although the effectiveness of the guarantee is a matter of Chinese law, the guarantee contract itself is usually governed by English law and subject to jurisdiction of the English courts, or London arbitration. As such, disputes may find their way to London, for resolution under English law, with evidence of Chinese law being adduced, where necessary.

SAFE approval - is it still required?

The starting point is whether a guarantee needs SAFE approval. Previously, under the Measures for the Administration of External Guarantee Provided by Domestic Institutions 1996 (the 1996 SAFE Measures), all "external guarantees" were required to be approved by SAFE. An external guarantee means an undertaking, in writing, by an institution within China to a party outside China that if the debtor fails to pay the debt when it falls due for payment, the guarantor will make payment upon demand. The guarantor may be a Chinese financial institution, a Chinese enterprise or a foreign-invested enterprise. A domestic enterprise can provide external guarantees only for its foreign subsidiary or for an enterprise in which it holds equity for a share of the debt, in proportion to the equity it owns; and if a guarantor provides an external guarantee without SAFE's approval, the guarantee is invalid.

This requirement was subsequently relaxed. The latest SAFE Notice Concerning the Administration of Foreign Security Provided by Domestic Institutions (the 2010 SAFE Notice) provides that there is no limit on the quota of non-financing foreign security provided by a Chinese bank qualified to engage in the business of issuing guarantees. These banks...