By Wang Jun and Stephen Lou

In light of the financial downturn, many foreign invested and domestic companies in China have been laying off their employees in masses. Though much of the focus has been in the manufacturing sector with stories of massive lay-offs and factory shutdown, very few industries will be completely immune to the downturn – forcing many employers to consider downsizing as an option to weather the storm. This, coupled with the new Labor Disputes Mediation and Arbitration Law (effective May 1, 2008), allowing employees to file labor arbitration cases free of charge, China has since reported a significant increase in applications for labor dispute arbitration filed. Consequently, employers should be especially aware of proper procedures when considering the termination of employees during these times.

Under current Chinese law, there are two options available for the employer to reduce its financial obligations to employees based on financial difficulties. With respect to the first option, in lieu of dismissing the employee, the employer may negotiate with the employees to adjust the current employment agreement by significantly decreasing the employee’s work assignment and salary; in effect placing the employee on “holiday status”. The second option would be to simply terminate the current employment contract with the employee.

Renegotiation due to financial difficulties

Under the first financial difficulties-based option, Article 35 of the PRC Employment Law (PEL) provides that the employer may negotiate with the employees to significantly decrease their work assignment and salary up to the minimum standard allowable by Chinese law. In such severe cases, the employees could potentially be paid the minimum salary standard allowable by law (approximately USD120/per month in Beijing), and in essence, the employees would be placed on “holiday”.

Note however that this arrangement may only be temporary and the employer would be required to specify the duration term of this arrangement. However, in the “holiday arrangement” scenario the employment contract would remain in full force and effect, entitling the employer to end the “holiday” at anytime and ask the employees to return to work.

The employer should be aware that the employees are not obligated to agree to the “holiday arrangement”, thus the minimum salary may not be feasible. As such, if the employer wishes to utilize the “holiday arrangement”, the employer should consider providing a reasonable payment and duration of term that the employees are likely to accept.

Once the employees agree to the “holiday arrangement” it is imperative that an agreement be signed between the employer and employee effectively modifying the employment agreement to reflect that such an arrangement was made with the consent of the employee. Failure to do so may subject the employer to employees claiming the illegal termination of the employment agreement. If successful, could lead to certain damages and additional penalties.

In any event, the “holiday arrangement”, if accepted by the employees, may be preferable to the employer, allowing more flexibility to the terms while maintaining goodwill with the employees. This option would allow the employer recall the employees once the financial difficulties period has ended.

Wang Jun (wangjun@gaopenglaw.com) is a partner with Gaopeng & Partners in Beijing and Chair of the International Business Practice Group. His practice focuses on business law, specializing in cross-border mergers and acquisitions, corporate finance, foreign investment, anti-trust, and private equity.

Stephen Lou (stephenlou@gaopenglaw.com) is a foreign legal counsel with Gaopeng & Partners’ International Business Practice Group in Beijing. His practice involves international corporate and commercial transactions, including FDI, franchising, mergers and acquisitions and general corporate matters.

This is the first part of “Practice and Procedures for Termination of Employees Due to Financial Difficulties in China”, next week we will publish the second part.