U.S. Companies to Face New Challenges in China Following Creation of Unreliable Entity Regime

U.S. companies could face new headaches in the escalating U.S.-China trade war due to China’s forthcoming “unreliable entity list,” recently announced by the Ministry of Commerce of China (MOFCOM) in response to an Executive Order from President Donald Trump.

On May 15, 2019, President Trump issued an Executive Order (the Executive Order) prohibiting U.S. persons from acquiring, importing or dealing in information and communications technology or services developed, manufactured, or supplied by any company owned by, controlled by or subject to the jurisdiction of a foreign adversary of the U.S.

The purpose of the Executive Order is to prevent espionage activity and to protect U.S. critical infrastructure, communications technology and national security. Although the Executive Order does not identify any particular persons or countries, it is widely interpreted to target China, and specifically, Huawei, a Chinese telecommunications company. The U.S. Department of Commerce has 150 days from the date of the Executive Order to issue implementing regulations (approximately mid-October). To date, the ban on imports of Huawei’s products and services has not taken effect.

The U.S. Director of National Intelligence must provide the president with a threat assessment under the Executive Order by the end of June, which will form the basis for the Department of Commerce to issue implementing regulations. However, in the meantime, the Department of Commerce has added Huawei to the “Entity List,” effectively banning Huawei from receiving any exports of goods, technology, software or services subject to U.S. jurisdiction.

In response to these actions, MOFCOM announced on May 31, 2019 that it was establishing an unreliable entity list, which would identify foreign persons who have blockaded, cut off supplies to, and discriminated against Chinese entities based on noncommercial considerations and which have resulted in damage to China’s related industries or have threatened or potentially harmed China’s national security.

In deciding whether to include a foreign person on the unreliable entity list, a MOFCOM official explained that the Chinese government authorities may consider the following factors in rendering a decision:

• Whether the foreign person has done anything to blockade Chinese entities, cut off supplies to Chinese entities or has engaged in other discriminatory practices against Chinese entities
• Whether the actions taken and practices engaged in are based on commercial considerations, violate market rules or violate the spirit of the applicable contract
• Whether the actions taken for noncommercial purposes and the discriminatory practices engaged in by the foreign person have caused substantial damage to the interests of Chinese enterprises or related industries
• Whether the foregoing actions and practices constitute a real or potential threat to China's national security

Once a person has been added to the unreliable entity list, MOFCOM will take legal and administrative measures to investigate the actions and practices of that person in accordance with the applicable laws and regulations, such as the Foreign Trade Law, the Anti-Monopoly Law and the National Security Law, and the specific rules to be published thereunder. MOFCOM may impose fines or sanctions against the blacklisted person, and the reputation of the blacklisted person may also be tarnished in the China market.

MOFCOM will warn the Chinese public of the risks involved in dealing with the blacklisted person, and the government authority responsible for the administration of foreign trade and investment will deem the foreign person an unreliable business partner. While blacklisted companies will be given the right to challenge their inclusion on the unreliable entity list, simply being added to the list may result in bad publicity in the China market and cause the blacklisted person to incur costs and expenses to defend against the listing.

While it is not clear when they will be published, companies required by U.S. law to comply with the Executive Order are strongly advised in the next few months to watch for the publication in China of the specific rules regarding the unreliable entity list. Companies in the telecommunications industry or those which have business dealings with Huawei may find themselves in a precarious position as they try to balance compliance with two competing sets of laws. This may necessitate an adjustment to business strategies or the need to find alternative sources of supply.

More broadly, if a company becomes blacklisted in China, its ability to conduct business there may be suspended indefinitely. U.S. and Chinese officials continue to negotiate a potential end to the trade war, but in the interim, U.S. companies especially should consider the impacts on their businesses of a prolonged downturn in U.S.-China relations.