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When Zou Hailin was first invited to take part in the drafting of China's new bankruptcy law in 1994, he hardly expected that it would take 12 years for the legislation to see the light of day.

Zou, a legal studies researcher at the Chinese Academy of Social Sciences and an expert in bankruptcy law, has experienced many debates and heard the wide range of opinions from legislators, regulators, experts and entrepreneurs.

Social security matters, the reform of State-owned enterprises (SOEs) and the financial risks resulting from bankruptcy were the three major issues to come up in these debates.

It was hoped the law could, to some extent, help solve all three issues, said Zou. But that was only an illusion.

It took a long time for people to realize that the aim of the law is to establish a legal framework for corporate bankruptcy and the discharge of relevant rights and interests, with a clear procedure to handle relevant matters, he said. It should not be given additional functions or regarded as a way to bail out struggling SOEs.

Zou is relieved that the new bankruptcy law has been passed and will finally take effect from next June, although he said that it remains far from perfect.

China actually enacted a trial corporate bankruptcy law in 1986, but the market reforms that swept the country soon meant that this was obsolete.

The new corporate bankruptcy law ushers in a new era for the nation's market reforms, according to Jia Zhijie, a member of the Standing Committee of the National People's Congress, China's top legislature, which approved the law on Sunday.

Companies in China, either domestic or foreign, now have a clearer procedure to follow when filing for bankruptcy and creditors' interests should be better protected.

In addition, for the first time, the law sets out clear procedures regarding the bankruptcy of China's financial institutions, an issue that had long been a grey area.

Jia said that the new bankruptcy law combines international standards with the needs of modern Chinese society.

For example, it establishes a new order for the discharge of creditors' interest, which complies better with international conventions and better protects investors' and lenders' interests.

With regard to bankruptcies occurring after the promulgation of the law, companies should first pay for claims with secured property and then pay wages, medical, insurance and other compensation they owe their employees.

While for past bankruptcies, normally compensation and insurance for employees were first paid and sometimes even secured property, including collateral to banks, was used as such compensation.

But it was criticized by some experts as disrespecting market rules, while others said it was a tradition to properly protect the interests of SOEs' employees.

Jia said that, as a kind of compromise, the latter practice still applies for bankruptcy cases that happened before the promulgation of the new law. But the new law will be a watershed.

Moreover, companies going bankrupt or their creditors can apply to the court for a reorganization of the enterprise, which means there is still a chance of rescuing the companies if the court approves the specific reorganization plan.

Zou said the reorganization procedure draws on US experiences, but it may require greater efforts for Chinese courts to implement this.

Another key issue is the bankruptcy of financial enterprises.

The law says financial regulators can apply to the court for the bankruptcy or reorganization of a certain financial institution if its assets are unable to cover all due debts.

And debt-ridden financial enterprises taken over by regulators can be exempted from relevant civil lawsuits and proceedings that take them as the defendant.

Such an arrangement is to avoid the losses of financial assets after bankruptcy and prevent associated financial risks, said Wang Xinxin, a professor at the Renmin University of China and a member of the panel who drafted the new bankruptcy law.

The intervention of regulators will also help to maintain social order.

But this requires additional legislation, such as administrative regulation, to clarify the details regarding the bankruptcy of financial institutions such as banks, securities firms and insurers.

Generally speaking, the new bankruptcy law will bring an end to the government rescue of non-financial enterprises when they experience financial woes as a result of poor management or negligence, experts said.

From now on, most corporate bankruptcies will have to follow market-oriented rules and procedures, which means that their managers are liable if the enterprises are not well run.

The Chinese Government had previously planned to close down another 2,000 SOEs by 2008. Because this plan was drawn up before the promulgation of the new bankruptcy law, these enterprises will enter the policy-arranged bankruptcy procedure, but the remainder of the SOEs will have to rely on their own and settle relevant debts by themselves.

(China Daily August 29, 2006)