For foreign investors in China, business downturns and their consequences, especially business closings and layoffs, can be daunting. Tales of rebellious employees facing layoffs are legion in Chinese business lore. With proper planning though, such scenarios can be avoided. In this article, we will share practical tips when dealing with redundancies in China.

Understanding PRC legal requirements for terminations

Chinese law does not recognize the concept of employment at will. Instead, employers may only terminate employees through mutual agreement, or under specific grounds.1 Termination without legitimate causes, or in violation of the required procedures, may be deemed as wrongful termination, which could result in fines for the employer or the forced reinstatement of terminated employees.

Depending on the circumstances, different termination procedures may be required. For example, where investors decide to liquidate a company and terminate all employees, employers can terminate employees by unilateral termination notices while paying minimum statutory severance compensation to all employees, as required by law. In contrast, where investors wish to terminate most employees while maintaining the company in a dormant situation, the layoff procedures are more cumbersome and require that employers prove "economic" reasons for layoffs.2 Further, specific consultations with employees and a filing of termination with local labor authorities are required.3

In view of different requirements for termination under different circumstances, investors should review the specific situations and relevant PRC law requirements when strategizing how to reduce their Chinese operations. Such planning will help investors better understand the economic and timing costs in terminating employees.

PRC law's preference for mutual termination

Under most circumstances in PRC law, mutual termination is usually the preferred manner of termination, including for the two scenarios mentioned above, and will allow employers to avoid some of the more cumbersome procedures that are otherwise necessary.

PRC law allows employers and employees to negotiate a mutual termination agreement, and such mutual termination agreements are generally not subject to rigorous procedures or requirements, such establishing grounds for termination. The parties can agree on a mutual termination with or without cause effective immediately without prior notice. Under current laws, there are no filing requirements with labor authorities and no limits on the number of employees to be terminated through mutual agreement. However, at a minimum, the terms of mutual termination must offer the statutory severance compensation if such mutual termination is initiated by the employer.

Mutual termination can greatly reduce the risks of labor disputes stemming from terminations as they necessarily entail employees agreeing to the terms of their termination. As such, their ability to challenge such terminations are strictly limited, including claims that the agreement is invalid or was induced by coercion or fraud. In contract, the risk for labor disputes can be quite high with other forms of termination, especially as PRC law grants terminated employees free access to labor arbitration. As a result, employees have little to lose by challenging other forms of termination, whereas employers face uncertainty and legal costs from such disputes.

For all the reasons above, it is highly recommended that employers consider negotiating a mutual termination and release with the employees.

Tactics for negotiating mutual termination agreements

Though mutual termination presents obvious advantages, there is of course the difficulty in reaching terms with employees. Employers will likely need to incentivize employees by offering  severance compensation in excess of what employees would otherwise be entitled to under PRC law, and exert whatever other pressure may be available to the employers over employees.

As mentioned above, no specific procedures are required for mutual termination. One recommended strategy is to try to limit the time allowed for employees to review and consider the mutual termination agreement, as employees will often use increased time to organize and demand greater compensation.

Instead, employees should be given the option of (i) signing the mutual termination agreement with compensation in excess of the statutory severance, or (ii) being terminated by the employer unilaterally through notice (assuming the right of such termination), with a requirement that this choice be accepted quickly or else the mutual termination agreement be withdrawn.

Calculating compensation for termination

When terminating employees, PRC law requires that employers compensate employees based on the total number of years that the employees have worked for such employers,4 unless the termination results from serious misconduct of the employee such as a crime or serious violation of company policies.5

Aside from statutory severance requirements, employers may need to provide additional compensation to incentivize employees agreeing to mutual termination. When determining the amount of such severance, several factors should be taken into consideration in order to make a comparatively fair termination plan.

Such ex-gratia severance should reflect the length of service years for the employee, with the result that longer-serving employees receive greater amounts. Indeed, where companies attempt to offer equal amounts of ex-gratia severance to all employees, regardless of service length, longer-serving employees often resist such offers.

Employers may also need to pay additional compensation to employees with special protections under PRC law, such as employees with work-related injuries, or pregnant employees/those on maternity leave. PRC law grants certain protected employees protections from unilateral termination, including prohibiting the employer from terminating such protected employees during an economic layoff and other grounds for termination by the employer. 6 Though such protected employees are allowed to be terminated through mutual agreement, the fact that the employer may not be able to terminate them based on certain terminating grounds requires greater incentives to induce such protected employers' agreement to mutual termination.

Local government assistance with employee protests

After a notice of termination is published, it is likely that employees will seek to organize a response to negotiate the terms of termination. In general, many PRC employees are not aware of their statutory rights and will instead organize a response to aggressively pressure employers for compensation. Where such demands are excessive and rejected by employers, confrontations have occasionally occurred in China, even including violence.

It is advisable for employers to consult in advance with the local labor authority and officials of the relevant industrial zone on the terminations to ensure their involvement and assistance. Officials may have strong incentives to help resolve potential conflicts, such as: (1) officials do not wish such confrontations to escalate and reflect poorly on them or (2) officials do not wish employees to obtain unreasonable requests and set precedent for other such confrontations in their region.

If involved in the termination, officials may explain to the employees the PRC legal requirements and local policies on termination, as officials have more credence with employees to explain that their requests may be unreasonable than the employers or their lawyers. In addition, if employers involve officials, such officials are more likely to be sympathetic in subsequent disputes over terminations of unreasonable employees.

Legal trends to watch

While mutual termination is usually preferred under PRC law, authorities appear to be considering greater restrictions on mutual termination in future. According to a Draft Regulation on Layoffs by Enterprises, published by PRC authorities on December 31, 2014 soliciting public opinion7, employers that intend to terminate more than 20 employees through mutual termination agreements will in the future be required to notify the company's labor union or all employees (where there is no labor union) of such termination 30 days in advance, and employers must report to local labor authorities the total number of employees to be terminated by mutual agreement. The draft regulation does not specify whether such notices are a prerequisite for a termination to take effect. Regardless, the adoption of the draft regulation into law would place a heavier burden on employers terminating employees through mutual agreement.