After much anticipation, the Standing Committee of the PRC National People's Congress (NPC) on June 29, 2007 passed the Labor Contract Law (LCL), which will take effect January 1, 2008. Media reports in the United States and China have highlighted the views of foreign multinational corporations (MNCs) on the development and impact of the law and have suggested that MNCs are the target of this legislation. In fact, however, the new LCL is the product of a lengthy and significant internal debate within the Chinese Communist Party on the protections that should be provided to all workers within China's "socialist market economy," including domestic Chinese companies, foreign-invested enterprises (FIEs), and other foreign commercial entities in China. Thus, all companies doing business in China would do well to familiarize themselves with the LCL and its possible practical implications.
The context for the law: Rising number of labor disputes
Increasing social unrest and worsening income inequality in recent years have prompted PRC leaders to promote the concept of a "harmonious society," the goals of which include taking steps to ensure that broader classes of workers and rural laborers can benefit from China's economic progress. The new policy focus is also in part a response to the rising number of labor disputes. According to Ministry of Labor and Social Security (MOLSS) statistics, the number of labor disputes submitted for arbitration in 2006 was 447,000, nearly triple the number in 2001 (see Figure). In 2005, nearly 63 percent of disputes were filed in Beijing, Guangdong, Jiangsu, Shandong, Shanghai, or Zhejiang—developed coastal cities and provinces that have benefited the most from economic reforms. These developed regions are also home to many of China's new private enterprises and to most foreign companies in China
The LCL is one of numerous policy measures that are emerging to address the causes of labor disputes. In particular, legal analysts have described the law as designed to address mistreatment of migrant workers and the urban poor by private and collective enterprises. Examples of this mis- treatment reported frequently in the Chinese and foreign media include late or non-payment of wages, dangerous and unhealthy working conditions, absence of written contracts, abuse of labor dispatch agencies and other sub-contracting methods, and other techniques used by employers to evade their legal responsibilities.
Indeed, legislation has existed for many years that deems illegal all of the forms of worker mistreatment listed above. The best known of these regulations is the Labor Law, passed in 1995. China also has numerous national, provincial, and local labor regulations.
While the existing legal protections provided to workers under China's regulatory structure are generally considered quite comprehensive, compliance with and enforcement of these protections varies and central government authorities have uncovered many abuses. Local labor bureaus, labor arbitration commissions, and courts are frequently under the influence of local governments, whose interests may align more closely with those of local employers than with workers. Local governments face conflicting pressures and numerical targets of success imposed by higher-level government authorities. Keeping unemployment low is among the most significant of these targets, and local government officials may believe that many Chinese small and medium-sized enterprises would shed workers if they had to pay the full, legally required costs of employment.
In such circumstances, workers can find it difficult to use existing channels to address grievances successfully. Migrant workers from the countryside who have come to the cities seeking work and are not formal legal residents of the area in question are often particularly vulnerable, as they lack knowledge of their legal rights. Moreover, as non- residents, their interests are often simply ignored by local authorities. Many observers believe China's new LCL is intended to raise the profile of labor issues in an effort to prod local governments to fulfill their obligations to protect workers' legal rights.
To be sure, the LCL will affect FIEs that violate workers' rights. But according to the PRC government's own statistics, FIEs account for significantly fewer labor disputes formally submitted to labor mediation and arbitration commissions than do state-owned and domestic private enterprises. (The overall number of disputes in FIEs, as in other types of enterprises, is rising, however.) Anecdotal evidence suggests that many labor disputes in FIEs occur in enterprises established by smaller investors or those operated by investors from countries or economies with less-developed labor practices and standards.
Most MNCs bring global workplace practices to their China facilities and comply with local labor laws and regulations. At the same time, however, US and other developed-economy MNCs are highly visible employers and, despite their generally good employment records, attract a disproportionate amount of attention from media, unions, and the PRC government.
The law's development
The main proponents and drafters of the LCL within the PRC government were MOLSS and the All-China Federation of Trade Unions (ACFTU; see the CBR, July-August 2007, Feeling the Pressure?). The law was the focus of significant debate among various groups within China throughout the drafting and legislative process. The law progressed through 13 internal drafts before finally—in a welcome step toward increased transparency in China's legislative process—being released for public comment in spring 2006 and again for a round of invitation-only comments in late 2006-early 2007. Following another closed round of comments in May 2007, the law passed in June.
In late September, MOLSS was working on implementing regulations for the LCL, which will provide more detail on how the provisions of the law will function in practice. It is unlikely, however, that these regulations will fully address all of the questions companies have regarding the law, and companies should plan for a transition period during which human resources departments explore potential compliance solutions and develop working practices in conjunction with local labor bureaus. Finally, local labor bureaus, trade unions, and labor dispute arbitration commissions may interpret the law and its implementing regulations differently.
Practical implications for foreign companies in China
Along with the LCL, companies should be aware of various new requirements included in other recent labor laws and regulations, such as the Employment Promotion Law. More labor-related laws and regulations are expected in the coming months. Of particular note, MOLSS will likely release implementing regulations for the LCL, and the NPC may pass the Labor Dispute Arbitration Law, which was read for the first time in August.
Below are responses to the most frequently asked questions on the LCL that the US-China Business Council, the publisher of the CBR, has received from company managers.
What does the LCL cover?
The LCL covers how labor contracts are written, enforced, and terminated. It discusses
• Severance payments;
• Noncompete clauses;
• Probationary periods;
• Part-time employees;
• Mass layoffs;
• Collective bargaining;
• Labor dispatch agencies;
• The formulation of company policies; and
• The role of labor unions.
How does this law differ from existing law?
The new LCL changes how the above subjects are addressed. A few examples of the changes include
• Collective bargaining Though existing laws already allow for collective bargaining, the new law introduces the concept that collective bargaining can occur across an industrial sector in a defined geographic area. Recent regulations in Shanghai outline specific processes for collective bargaining and appear to call for mandatory collective contracts for all enterprises in the municipality (see Box).
• Severance payments Previous rules on severance compensation allow for one month's pay for each year of employment, with a cap set at 12 months, for certain situations. The new law introduces payment caps at three times the local average monthly salary for all positions. It also introduces the requirement to pay severance for nearly all terminations, including at the conclusion of a fixed-term contract that the employer does not wish to renew.
• Mass layoffs The 1995 Labor Law stipulates that enterprises must notify labor unions or "employee representatives" 30 days prior to any layoff. The LCL expands upon this rule by requiring employers to explain layoffs that involve 20 or more employees or 10 percent or more of all staff to the labor union or the entire staff, as well as to hear staff opinions. Moreover, in making layoff decisions, employers must now give preference to retaining employees on open-ended contracts or relatively long fixed-term contracts and to employees whose households contain elderly persons or children and no other employed persons.
• Training reimbursement The 1995 Labor Law granted enterprises the right to establish training funds and provide training to employees but addressed neither required terms of service for employees who receive training at a cost nor compensation for employers if employees leave the company soon after such training is completed. The new LCL allows employers that incur training costs (outside the general training fund stipulated by other regulations) for particular employees to require a fixed term of service from those employees and permits employers to collect damages from employees who violate that term of service.
Are all of these provisions new?
No. Many of the provisions reflect existing national or local laws and regulations, and the LCL consolidates or re-emphasizes them. For example, the Company Law has provisions on communicating with trade unions about major transformations in company policy. Provisions that allow collective bargaining have been on the books for some time but were somewhat vague and rarely implemented.
Must companies rewrite contracts prior to January 1, 2008?
Although the law does not require new contracts for all employees prior to January 1, some experts are advising companies to review and revise contracts in light of the new provisions, especially with regard to term, probation, severance, and noncompete agreements. For instance, existing fixed-term labor contracts will be grandfathered, as will existing noncompete clauses, though some legal experts have warned that implementing legislation may change this. Thus, instead of relying on grandfathering, companies may want to redraft and redesign noncompete agreements now with their employees to ensure that the agreements comply with the new law. The ultimate answer, however, will only come once the implementing regulations have been issued and authorities start to enforce these provisions.
Legal experts are also encouraging companies to review their employee handbooks, policies, and similar documents against the changes in the new law.
How will the law affect employee contracts?
To employers accustomed to the "at will" system used in the United States, China's employment environment appears more restrictive. Both the 1995 Labor Law and the LCL stipulate three types of labor contracts: fixed- term, open-ended, and contracts based on the completion of an assignment. An existing MOLSS circular states that in cases where the employee has been with the employer for more than 10 years, and both parties wish to continue the employment contract, an open-ended contract should be granted. In addition, the new law adds a provision that entitles employees to open-ended contracts if they have already signed two fixed-term contracts, regardless of length. The calculation for fixed-term contracts will apply only to contracts signed after January 1, 2008. The LCL also states that if an "employment relationship" exists without a written contract for one year, it is considered an open-ended contract; previous drafts of the law did not include this provision.
How will the law affect employee termination?
The LCL includes more circumstances in which the employer can fire for cause, including material conflict of interest and deception on the part of the employee in signing the labor contract. But experts caution that termination for cause can still be difficult because of local labor tribunals' generally narrow definition of what constitutes proof in wrongful termination cases. Therefore it remains important to document employee history and communication in detail and in writing.
The LCL requires advanced notification to the labor union of the termination of an employee, a change from earlier laws that did not mention such advance union notice. If a company does not have a union, it may be prudent to send a letter to the local labor authorities or ACFTU branch informing them of the termination to fulfill the requirement for written notification.
What process must companies use to change company rules and regulations?
The LCL requires "consultation" with a trade union or employee representative for changes to company rules and regulations that have a direct impact on employees, such as overtime or sick leave. Companies have generally interpreted "consultation" to mean discussion with, but not necessarily final approval from, unions or employee representatives. The Supreme People's Court will likely issue a judicial interpretation to clarify the process of consultation on company rules and regulations as described in Article 4 of the LCL. Companies without unions may want to consider providing draft copies of new rules and regulations, such as employee handbooks, to all employees and requesting comments from employees before finalizing.
What costs are associated with compliance?
Compliance with the new law will likely increase costs in various areas. Companies may find that severance and noncompete payments are higher under the new law, though these payments are capped. In addition, compliance with the LCL will require administrative tracking of the specifics of each contract and filing of required reports with the local labor authorities, which may entail additional staff.
Does the LCL address labor disputes?
While the LCL does not have a specific chapter addressing labor disputes (Chapter 10 of the 1995 Labor Law covers this in detail), many articles in the new law reaffirm parts of existing regulations that allow an employee or a trade union to take an employer to a labor tribunal.
Must labor dispatch agencies change their procedures under the LCL?
Two key provisions of the LCL alter labor dispatch agency activities. First, the new law limits the positions that may be filled by dispatched employees to those that are "supplementary, replacement, and temporary." MOLSS will reportedly provide clarification on which functions or jobs fit these categories.
Second, labor dispatch agencies must sign contracts with dispatched employees for at least two years. If the receiving company terminates the employee before the two years are complete, the dispatch agency will be required to pay the employee minimum wage until the two years are complete. Dispatch agencies will likely seek to pass the higher cost of the two-year provision on to receiving companies.
Receiving companies and dispatch agencies have "joint liability" for any situations in which harm is inflicted on dispatched employees. In practice, receiving companies will likely be held responsible for any damages.
These provisions may have a significant impact on foreign company representative offices, which must use dispatch agencies for local hires (unlike FIEs, representative offices do not have legal person status in China and there- fore cannot directly hire PRC nationals).
Should the China operations of foreign companies form unions now if they have not yet done so?
Under PRC law, a union must be formed if at least 25 employees request its formation. Formation of a union must be initiated by employees, however, not management. Companies may choose to consult directly with their staff or employee representatives on the issue to ensure that employee wishes are understood.
A step forward?
By passing the LCL and reviewing other labor regulations, China is taking valuable steps to improve working conditions. Though the new law may ultimately raise labor costs, it may also help companies in China standardize their work- place policies and improve working conditions. The degree to which the LCL is effective, however, will be determined by the law's implementing regulations and how the regulations are enforced. As with most PRC laws, enforcement at the local level will be key.
