Shanghai CIETAC’s finding on VIE case raises plenty of questions

The widely adopted variable interest entity (VIE) mode, also known as “protocol control mode”, has long remained in ambiguous territory when it comes to the law. The Alipay dispute and Tudou.com report, incidents that have arisen since the end of 2011, have drawn even greater attention to it.

VIE legislation is still in the works, but disputes between investors represented by foreign private equity or venture capital (PE/VC) funds and the founders or controllers of domestic enterprises, under VIE frameworks, have been increasing. These disputes have mainly revolved around the right to control and manage the enterprise, the conveyance and distribution of profits, the core legal issues in a VIE framework.

Between 2010 and 2011, we successfully acted as counsel in two related arbitrations arising from a VIE dispute. In the two arbitrations, the tribunals of the Shanghai Sub-commission of the China International Economic and Trade Arbitration Commission (Shanghai CIETAC), composed of different arbitrators, both rendered awards invalidating the VIE agreement and the entire arrangement on similar grounds. These cases are the first ones in which Shanghai CIETAC has rendered a direct award on the validity of VIEs, and are worth our attention.

Kenneth Kong is a partner and Shelly Sui is an associate at Martin Hu & Partners (MHP Law Firm)