China’s “Unreliable Entity List” Creates New Countervailing Risks for Companies Navigating U.S. Sanctions and Long-Arm Enforcement

Newly issued Unreliable Entity List (“UEL”) regulations establish a framework for list-based economic sanctions to be administered by China. Viewed together with “blocking statutes” implemented in March 2020 and October 2018 prohibiting parties in China from unilateral cooperation with foreign civil and criminal investigations, this new UEL regime is the latest among several measures that seek to deter and penalize cooperation with foreign government actions perceived to be detrimental to Chinese business and government interests.

China’s UEL regime shares certain similarities with the economic sanctions and export controls regime administered by the U.S. Treasury Department’s Office of Foreign Assets Control, the U.S. State Department and the U.S. Commerce Department. Both are list-based regimes with licensing and delisting mechanisms. Both empower the implementing government unilaterally to restrict financial transactions, trade and visa privileges. Both are designed to deter individuals and entities from taking actions that the implementing government deems to be at odds with that country’s national security, foreign policy and economic interests.     

China’s Ministry of Commerce (“MOFCOM”) has indicated that the UEL regime is not intended to target any particular country or entity. Nonetheless, multinationals seeking to comply with U.S. sanctions against Chinese individuals or entities, or to cooperate with U.S. civil or criminal investigations into business activities in China, are more likely to be targets. Multinationals should consider ways to comply with U.S. enforcement requirements while balancing the countervailing risks arising from the new UEL regime and other recent measures from China, as discussed below.

Background

The UEL regime was first announced by MOFCOM on May 31, 2019. That announcement came on the heels of the U.S. Commerce Department adding Huawei Technologies Co., Ltd. to its Entity List ten days earlier. On September 18, 2020, the U.S. Commerce Department implemented an Executive Order to restrict the use of WeChat and TikTok apps in the United States. One day later, on September 19, 2020, MOFCOM published its Provisions on the Unreliable Entity List (“UEL Provisions” or “不可靠实体清单规定”). 

The UEL Provisions require the creation of an interagency task force composed of central government agencies (the “Working Mechanism”) to implement the UEL regime. The interagency task force, which has yet to be created, will have broad powers to investigate the conduct of a foreign entity to determine whether designation on the UEL is warranted. There is an open question as to whether and to what extent the task force could obtain records located overseas from a foreign entity.  Currently there are no established mechanisms for Chinese authorities to obtain overseas records from foreign entities akin to the U.S. authorities’ overseas subpoena power.

Activities that Could Trigger UEL Designation

Article 2 of the UEL Provisions defines a “foreign entity” as an enterprise, other organization or individual of a foreign country.  It directs measures to be adopted in response to the following actions taken by a foreign entity:

1. endangering national sovereignty, security or development interests of China; and

2. suspending normal transactions with or discriminating against a Chinese entity in violation of normal market transaction principles and causing serious damage to the legitimate rights and interests of that entity.

Article 7 directs the interagency task force to consider the following factors when deciding whether to designate a foreign entity on the UEL:

1. danger to China’s national sovereignty, security or development interests;

2. damage to the legitimate rights and interests of Chinese enterprises, other organizations or individuals;

3. compliance with internationally accepted economic and trade rules; and

4. other factors that should be considered.

A decision to designate, once made, will be publicly announced with immediate effect. The announcement may include an alert about the risks of conducting transactions with the designated foreign entity.

Restrictive Measures on Designated Foreign Entity

Article 10 allows the interagency task force to choose one or more of the following measures to impose on a foreign entity designated on the UEL:

1.restricting the foreign entity from engaging in China-related import or export activities;

2. restricting the foreign entity from investing in China;

3. restricting relevant personnel or transportation vehicles of the foreign entity from entering China;

4. revoking the relevant personnel’s work permits and rights to stay or reside in China;

5. imposing a fine, commensurate with the severity of the circumstances; and

6. other necessary measures.

Rectification Period and Delisting from the UEL

Article 9 allows a designated foreign entity to rectify its conduct within a certain time period. This serves as a grace period during which restrictive measures will not be implemented. But if the foreign entity fails to timely rectify its conduct, the restrictions and prohibitions above will be imposed on the foreign entity without further notice.

Article 12 allows the interagency task force to delist a designated foreign entity from the UEL at its discretion at any time. A designated foreign entity may also petition the task force for removal. Article 13 directs the task force to delist the designated foreign entity immediately if it has rectified its conduct.  Any removal decision must also be accompanied by a public announcement.

License to Transact with a Designated Entity

A designated foreign entity may be restricted or prohibited from engaging in China-related import or export activities. When it is necessary for a party in China to conduct transactions with that designated foreign entity, the Chinese party can submit an application to the office of the interagency task force. If approved, the Chinese party can continue to undertake transactions with the foreign entity according to the approval.

Analysis and Outlook

Certain necessary details regarding the implementation of the UEL regime remain unclear, including procedures governing investigations, designation of entities, licensing of transactions, and appeals and delistings, as well as the composition of the interagency task force. We expect the UEL regime to be further developed through subsequent implementation rules in the near future. Full implementation of the UEL regime was one of four Chinese legislative priorities identified in the PRC State Council’s directive in May 2020. As a point of reference, China’s Cybersecurity Law, which the State Council had deemed a top legislative priority in 2017, was supplemented with one administrative regulation within one month of enactment and another within two months, followed by another 27 ministry-level rules and a judicial interpretation from the Supreme People’s Court within the first two years.

China’s UEL regime shares certain similarities with the economic sanctions and export controls regime administered by the U.S. Treasury Department’s Office of Foreign Assets Control, the U.S. State Department and the U.S. Commerce Department. Both are list-based regimes, with delisting and licensing mechanisms. Both operate as unilateral regimes of the implementing country. Both involve prohibitions on financial transactions, trade and visa privileges—designed to deter individuals and entities from taking actions that the implementing government deems to be at odds with the national security, foreign policy and economic interests of that country.

In today’s highly politicized business environment, the UEL regime is likely to be used for a combination of regulatory objectives and foreign policy goals. Foreign entities will likely face heightened risks if they are (1) involved in geopolitically sensitive projects or transactions bearing on China’s national security and development interests; or (2) perceived to have caused serious damage to the interests of strategically important Chinese companies by, for example, sharing information with foreign government authorities which leads to penalties or trade restrictions against those Chinese companies.

In the last two years, China has adopted a number of measures that have resulted in countervailing pressure on multinationals seeking to comply with extraterritorial enforcement actions by the United States or other governments. The UEL might be regarded as another measure in this category. China’s International Criminal Judicial Assistance Law, enacted in October 2018, requires prior approval by Chinese authorities before any individual or entity in China may provide information or assistance to overseas criminal proceedings. A more subject matter specific civil blocking statute is the new Article 177 of China’s Securities Law, effective March 1, 2020. It prohibits documents and materials “relating to securities business activities” in China from being provided to overseas securities regulators without prior approval by the State Council.

In this increasingly complex regulatory landscape, multinationals seeking to comply with unilateral sanctions and investigative requests by, for example, the U.S. government that implicate parties or business records in China need to undertake a risk assessment that considers countervailing interests and risks. To reduce the risk of a UEL designation by the Chinese government, a multinational being called upon to cooperate with an extraterritorial investigation by another government should strive to do so while at the same time complying with China’s criminal and civil blocking statutes. When compliance with another government’s sanctions regulations requires a multinational to wind down dealings with a Chinese party, the parties should strive to agree to commercially reasonable wind-down plans and substitute arrangements.

As further explained in the Terms / Notices linked below, the information provided herein is not legal advice. Any information concerning the People’s Republic of China (“PRC”) is not an opinion on, determination on, or certification of the application of PRC law. We are not licensed to practice PRC law.