Prohibited Get together Screening and the Hidden Risks in China Enterprise Transactions

By Tom McVey & Ngosong Fonkem*

 If your organization is doing enterprise with a Chinese language firm, it’s important to pay attention to the dangers related to prohibited events underneath U.S. export management and sanctions legal guidelines. The USA has strict laws prohibiting U.S. firms from partaking with sure international people and entities. These embrace events listed on the Treasury Division’s List of Specially Designated Nationals and Blocked Persons (the “SDN Record”), in addition to the Commerce Division’s Entity Record, Denied Persons List, and Military End-User List (for sure merchandise), amongst others.  There are additionally sure restrictions on importing merchandise from China’s Xinjiang Uyghur Autonomous Area (“XUAR”) or from events listed on the Uyghur Compelled Labor Prevention Act Record (“UFLPA”).  It’s essential to display your transactions to make sure that you’re not doing enterprise with restricted events. That is notably essential when coping with Chinese language firms, as many Chinese language people and entities have just lately been added to those lists.

The Complexity of Screening for Prohibited Events

Prohibited get together screening entails extra than simply checking names on just a few lists. For example, underneath the Workplace of International Belongings Management’s (OFAC’s) “fifty p.c rule,” if a celebration or events listed on the SDN Record personal 50% or extra of an organization, that firm can be thought of blocked, even when it isn’t explicitly on the SDN List.  Exporters continuously try to establish who the shareholders or members are in any firm with which they’re conducting a transaction to verify that no get together or events on the SDN Record personal 50% or extra of that firm. Sadly, international firms usually hesitate to offer correct shareholder info, which exposes U.S. firms to compliance dangers.

Equally, the Commerce Division’s Export Administration Laws (“EAR”) comprise varied restricted get together lists. These lists prohibit the export or switch of sure merchandise to listed events or require extra authorizations for transactions. It’s the duty of U.S. firms to find out if the events concerned of their transactions are on these lists. See for instance EAR §744.21(b)(1) which offers: “Exporters, re-exporters, and transferors are accountable for figuring out whether or not transactions with entities not listed on complement no. 7 or 4 to this half are topic to a license requirement underneath paragraph (a) of this part.”

Nonetheless, there are hidden  complexities in these necessities. For instance, the EAR’s Army Finish Person regulation prohibits exporting sure merchandise to “Army Finish Customers” in China. On this part, the time period “army finish person” is broadly outlined as “[T]he nationwide armed companies (military, navy, marine, air power, or coast guard), in addition to the nationwide guard and nationwide police, authorities intelligence or reconnaissance organizations (excluding these described in § 744.22(f)(2)), or any individual or entity whose actions or capabilities are supposed to assist ‘army finish makes use of’ . . . . ”  This time period contains not solely events listed on the Military End-User List, but in addition every other get together that meets the definition of “Army Finish Person” in EAR §744.21(g), together with events whose actions or capabilities are supposed to assist “army finish makes use of” in China.

The same requirement exists underneath EAR § 744.22, which prohibits exporting all EAR-regulated merchandise to “military-intelligence finish customers” or “military-intelligence finish makes use of” in China and sure different international locations.  Figuring out these connections may be difficult, posing important compliance dangers for U.S. exporters.

Prohibited get together screening isn’t restricted to exporters; it is usually essential for U.S. importers. With the implementation of the Uyghur Compelled Labor Prevention Act, U.S. importers should excercise due diligence measures to adjust to laws that prohibit importing items from entities linked to China’s XUAR area, or these listed on the UFLPA Entity List. Given the complexity of provide chains, it may be tough to find out whether or not imported merchandise contain prohibited types of labor or are related to listed entities, creating challenges for U.S. importers.

Penalties for non-compliance

Non-compliance with prohibited get together restrictions can result in extreme penalties. Violations  underneath the EAR and OFAC sanctions can lead to fines as much as $1 million and imprisonment for as much as 20 per violation.  Underneath the UFLPA, non-compliance can lead to a whole ban on imports of the product into the US.

Due Diligence Screening Methodology

There are a number of steps that firms can take to aim to scale back these dangers. Along with screening for restricted events, firms continuously request their international counterparties to signal export and import compliance certifications. They will additionally embrace import and export compliance clauses of their buy and sale contracts. These certifications can require the international events to signify that they’ll function in compliance with U.S. export and import legal guidelines, disclose the names of their shareholders, and make sure that none of their shareholders are listed on any related watchlists. Based mostly on this info, firms can  then display the shareholder names towards the SDN Record and different related lists.

Equally, for EAR compliance, firms can require that their international counterparties affirm, amongst different issues, that they don’t fall underneath the definition of “army finish person” or “military-intelligence finish person”. They need to additionally try to verify that the exported product won’t be utilized in any “army finish use” or “military-intelligence finish use” as outlined within the EAR. Within the case of UFLPA compliance, firms can request certifications and documentation from their international counterparties confirming that no power labor was concerned of their provide chain. This documentation might embrace  manufacturing facility go to stories, audit stories, and provide chain maps, amongst different issues.

Since it isn’t unusual for Chinese language and different international firms to misconceive the complicated U.S. import and export necessities, U.S. firms continuously additionally conduct their very own impartial due diligence critiques of the events concerned within the transactions.  Such critiques usually would look at the international firm and its homeowners to achieve perception into their operations and to establish any potential points or issues. The gadgets to be reviewed will depend upon the main points of the transaction concerned, however can embrace researching the Chinese language firm’s shareholders, the character of its enterprise actions (together with any connections with Chinese language army companies or XUAR) and whether or not there are any stories of fraudulent, legal or compliance violations. These impartial third-party critiques assist the U.S. firms fulfill their compliance obligations and assist reveal their good religion efforts to adjust to the legal guidelines. By conducting this due diligence, firms can scale back the chance of violating laws and doubtlessly scale back penalties. These critiques additionally present helpful details about the Chinese language firm that can be utilized for enterprise or negotiation functions.


China poses distinctive challenges in terms of conducting due diligence critiques, primarily as a consequence of Chinese language authorities  restrictions on info obtainable to international firms and governments.

Regardless of these challenges, Harris Bricken has in depth expertise conducting due diligence critiques of Chinese language firms, leveraging important sources to beat these limitations.

When mixed with different compliance practices akin to restricted get together screening and export/import compliance applications, due diligence critiques can function a helpful software in safeguarding U.S. firms concerned in Chinese language enterprise transactions.


* The above submit was written by Tom McVey and Ngosong Fonkem.

Tom McVey  is a world company lawyer and enterprise advisor in Washington, Dc. Mr. McVey advises shoppers on the Export Administration Laws, the OFAC sanctions applications, ITAR, the International Corrupt Practices Act, the anti-boycott legal guidelines and the Committee on International Funding in the US (CFIUS). He additionally advises on cross-border enterprise transactions together with worldwide gross sales and distribution, joint ventures, mergers and acquisitions, non-public fairness, worldwide enterprise planning and company compliance.

Ngosong Fonkem is a world commerce lawyer at Harris Bricken the place he additionally heads up the agency’s Africa Apply. You will discover out extra about Ngosong right here.