FINANCE ASIA
February 2000

The Dalian Verdict

A groundbreaking victory by Citibank in China is nothing short of a revolution

By Lotte Chow

        By all accounts, Citibank Shanghai did a good job for Wafangdian Ballbearing Group in Dalian, northern China. Back in 1996 when the ballbearing manufacturer wanted an investment bank to help it formulate a financial plan to raise funds, Citibank Shanghai offered help. The bank found a bonafide investor for Wafangdian and steered the company to a successful IPO on the Shanghai Stock Exchange. The once cash-strapped company suddenly became cash-rich.
        But Wafangdian didn’t want to pay for Citibank’s service.
        “They didn’t pay anything,” says David Buxbaum, senior partner at Brand Farrar Buxbaum and legal counsel for Citibank’s Shanghai branch. “The firm received money from the strategic investor and the public offering, but they didn’t pay Citibank.”
        Citibank took Wafangdian to court.
        “Citibank didn’t want to go to court,” explains Buxbaum. “Most foreign companies operating in China prefer to have good relationships with Chinese firms. We do, too. We tried to settle out of court, but Wafangdian wouldn’t budge. They didn’t come up with anything that was remotely reasonable to us.”
        That left Citibank with no choice.
        “The thing is this, if Citibank had done all this work, done all the things that its client asked it to and did it wonderfully, and it didn’t get pay anything, that would set a terrible precedent in China,” Buxbaum says.
        “It would be as if to say, you can get a financial plan for free, a wonderful investor for free and go public for free. What a terrible situation it would be,” he adds.
         It wasn’t meant to be that way. When Citibank agreed to be Wafangdian financial adviser, helping the company to improve its financial structure, both parties were enthusiastic about the venture. Senior officials from the two companies met frequently and worked closely.
        Citibank agreed that it would guide Wafangdian to form a financial plan, including identifying potential strategic investors, analyzing possible funding sources and operation mechanisms, determining a proper levek of indebtedness and even the number of shares to be issued. The bank also assisted Wafangdian in investor negotiations and drafted all necessary documents.
        In return, Wafangdian would pay Citibank an annual fee of $20,000, an achievement fee of 2.5% of the amount of funds raised via issue of stocks and other securities, and all service-related expenses.
        These terms were stipulated in a contract signed by Citibank’s Shanghai manager Zhong Minmin and Wafangdian’s chairman and president Yu Jie.
        But after Citibank came up with the goods, Wafangdian declined to pay.
         “Wafangdian never denied Citibank did a lot of work,” Buxbaum says. “It just didn’t pay.”
        Why didn’t Wafangdian pay?
        An oversight? Not familiar with the ways of the world? Believed they could get away with it in China’s transition from socialism to a market economy? Who knows.
        Citibank calculated it was owed $950,000 for services provided between 1996 and 1997. that comprised a $750,000 in achievement fees and $180,000 in expenses.
        After exhausting all channels for payments, the bank went to court.
        Hence at the People’s Court in picturesque Dalian, Liaoning province, the case was heard before a panel of three fudges.
        The case was tried in public, with Citibank and Wafangdian officials testifying in three hearings in the Dalian court over a period of six months in 1998. After hearing the testimony and looking at all the evidence, the court decided Citibank performed its duties according to the terms of the contract, while Wafangdian did not.
        On December 13, 1999, the court ordered Wafangdian to pay Citibank damages of $506,540 and RMB109,387.
        The amount fell short of what Citibank had sought. But Buxbaum says he is pleased.“The court gave most of what we wanted. More important, by winning, Citibank made a statement: if you do good work, you expect to be paid and you will get paid,” he says.
        Buxbaum says the case was significant in several ways.
        First, it shows that a foreign entity can go against a major Chinese corporation in China and persuade the court to award damages. Buxbaum says this case stands out because Citibank won against a well-known, well-connected and highly-influential company in the neighbourhood it operates in.
        “People are concerned about the legal system in China. Yes, China’s legal system is uneven but this is an example of a legal system at its best,” says Buxbaum, an expert in Chinese law who has practiced in China since 1972.
        Another significance: the court had acted in a reasonable way. While the judges weren’t familiar with investment banking contracts which, unlike loan defaults and company bankruptcy cases, are still a novelty in China, they took the time and efforts to study and understand the case. “They asked intelligent questions and raised good points, legal and factual. We felt the hearings were properly conducted. They were fair and the results were fair.” Buxbaum says.

        Chinese aw experts agree that Citibank’s victory signals an improvement of the rule of law in China and is a positive sign for foreign companies operating in China. It shows China’s legal system has come a long way since the days of the Cultural Revolution when there were no courts, no lawyers and no law schools under Mao. Even in the early 1970s, there was only a constitution, a counter-revolution law and a marriage law. That was the extent of China’s legislation.
        Since China’s open-door policy began in the late 1970s, the court system has been reinstated, law schools and law departments reopened, law schools and law departments reopened, lawyers retrained and new legislation promulgated.
        But weaknesses in the system remain – a point on which Chinese law experts agree. For one thing, there aren’t enough people trained in law to be judges. Second, judges are paid by the government and often are under pressure not to make judgments against state enterprises.
        Buxbaum admits skepticism abounds in regard to China’s legal system, especially among foreigners who believe they are discriminated against when they stand in court against a Chinese defendant. Buxbaum’s advice: have a good case, with good evidence, good preparations, good presentations and a sound argument.
        Buxbaum adds that he doesn’t believe the court judgment will sour Citibank and Wafangdian relations “15 or 20 years ago, if you sued a Chinese company, you would sour relations. But there are so many litigations in China today that I don’t think Chinese companies would hold it against you.
        For Citibank and Wafangdian, I don’t think there is personal hostility between them. It’s a normal commercial decision, no spite, no mutual antagonism.”
        Wafangdian could lodge an appeal and not pay the damages, but will it?