Recently a businessman from United States called me inquiring about a dispute between his company (“ACO”) and a Chinese company (“CCO”) manufacturing air bags based in Shanghai. After reviewing the contract between the two companies, I feel quite sorry for ACO.

The story goes like this: the ACO entered into a three-page contract with CCO under which ACO helped CCO to develop the North American market for CCO’s products. Initially, they set a term of three years in the contract and later extended for another year. After years of efforts, when ACO saw the dawn of success of soliciting orders for CCO, the cooperation failed due to CCO’s breach of contract by not upgrading their production lines to meet OEM clients’ requirements, as agreed in the Contract. ACO’s commission, calculated at certain percentage of sale volume, is gone for good. Now, ACO is left with only lawsuit to recover his losses. Chinese laws are the governing laws for the contract as provided therein and CIETAC is the arbitration institution they submit to.

Let us put aside the merits of the case. I was actually surprised to find that the contract between the parties were so poorly drafted that ACO was definitely put in a disfavored position. In particular, absent are those default liabilities we have always seen in international business contracts.

Given the nature of transaction under that contract and the long term of contract, ACO is the party that will spend time, money and other costs most of the time in and for persuading North American automakers to visit CCO’s plants, assess their quality control process etc., it is important for ACO to bind CCO to the performance of the contract until success. Otherwise, ACO will be exposed to great losses if CCO withdraws half way, as happened now. To achieve that, it will require the contract to set out every possible scenario that matters to both parties and accordingly specify breach liabilities (liquidated damages or other methods of computing losses) in regard of each and any breach of contract that are likely and easy for courts to enforce. In the business world, this is probably only possible way to avoid and minimize risk exposure.

Bear in mind, a contract without default liabilities clauses is a tiger without teeth.

International businessmen shall be particularly cautious in that regard when dealing with Chinese counterparts. In Chinese culture, people have the custom of not bringing up down sides of a thing and generally like having ambiguous and elusive clauses in contract, which may be troublesome to all parties to that contract.