Keepwell deeds, also known as letters of comfort, are a credit protection tool commonly used by Chinese companies issuing debt offshore. These deeds are used in offshore finance transactions, particularly those that use bonds relating to a Chinese transaction. It is estimated that Keepwell deeds are used in around 16%, or US$96 billion, of outstanding Chinese offshore bonds.
A recent debt-structuring proceeding before the Chinese courts has raised questions about the enforceability of Keepwell deeds. In this article we consider why arbitration clauses may enhance the enforceability of Keepwell deeds involving Chinese parties.
2. What is a Keepwell deed?
Under a Keepwell deed, an onshore Chinese parent company undertakes to ensure the solvency and financial stability of its offshore subsidiaries that issue bonds or loans in order to service the loan or bond for the duration of the agreement. These Keepwell provisions are one method of protection for bondholders against default.
The benefit of using the Keepwell structure is that it does not require Chinese regulatory approval, unlike guarantees.
A typical Keepwell structure involves a Chinese onshore parent company undertaking:
(1) to maintain effective control over its offshore subsidiary;
(2) to provide adequate funding to the subsidiary to fulfil its payment obligations; and
(3) not to impose adverse covenants on the assets of the offshore subsidiary.
In order to enforce Keepwell deeds, the financier does not have a debt claim against the Chinese parent company for not repaying the loan or bond, but rather has a claim for breach of contract against the parent company. However, the law regarding Keepwell deeds in China is uncertain and the enforceability of these deeds has until recently been untested in the Chinese courts.
3. Enforceability of Keepwell deeds in China
In February 2020, the Beijing First Intermediate Court (the Court) approved an application to restructure the Peking University Founder Group Limited (Founder Group), the commercial arm of Peking University. The Court subsequently invited creditors to register their claims with the administrator appointed by the Court on 4 October 2020.
In April 2020, the administrator made its preliminary decision. It recognised claims supported by the corporate guarantees provided by the Founder Group, but categorised claims based on Keepwell deeds signed by the Founder Group as “pending recognition”.
On 23 August 2020, the administrator reached its final decision and refused to recognise the bonds made under a Keepwell deed which are valued at around USD 1.7 billion. The final decision included a notification that the bond holders were entitled to file an objection to the Court if they disagreed with the decision.
The administrator’s final decision raises concerns about whether and how Keepwell deeds can be enforced. Keepwell deeds commonly include clauses granting courts in Hong Kong exclusive jurisdiction to hear any dispute in relation to the deed. This would generally include any disputes in relation to enforceability.
However, when a restructuring application against a company has been accepted by a court in Mainland China, China’s bankruptcy law provides that the Chinese court has exclusive jurisdiction to hear any dispute against the company. It is likely that this would be interpreted to include a dispute regarding whether a Keepwell deed is enforceable.
The question then arises, should the enforceability of Keepwell deeds be decided by the Chinese courts as part of the restructuring proceeding, or by Hong Kong courts in accordance with the terms of the Keepwell deed?
4. Arbitration clause may help overcome enforcement issues
If the creditors seek to challenge the administrator’s final decision and rely on their contractual right to commence a claim in the Hong Kong courts, it is unclear how this conflict will be addressed if the administrator objects to the jurisdiction of the Hong Kong courts. There is a risk that any decision made by the Hong Kong courts may be unenforceable if a Chinese court decides that it has exclusive jurisdiction to hear any application by the creditors.
However, Keepwell deeds that submit disputes to arbitration, rather than the Hong Kong courts, may be able to avoid any jurisdictional conflicts between the Hong Kong and Chinese courts.
The Supreme Court of the People’s Republic of China (the SPC) has issued an interpretation of China’s Bankruptcy law which indicates that the exclusive jurisdiction of the restructuring court may not apply in circumstances where the parties have agreed to arbitration. According to the SPC, when a creditor disagrees with the administrator’s assessment of creditors’ claims, the creditor can submit the dispute to arbitration if there is a valid arbitration agreement that was concluded between the parties before the court accepted the restructuring application.
In the context of proceedings similar to those involving the Founder Group, this would mean that any dispute about the enforceability of a Keepwell deed could be heard by an arbitral tribunal (if the deed contained a valid arbitration agreement) and would not be subject to a decision by the Chinese courts.
5. Enforcement of Keepwell Deeds may not a matter of Chinese public policy
Although the law regarding Keepwell deeds in China is somewhat uncertain and the enforceability of these deeds has not been fully tested in the Chinese courts, a recent decision by the Shanghai Financial Court highlights that any attempt to resist the enforcement of Keepwell deeds based on Chinese public policy is unlikely to be endorsed by Chinese courts.
In that case, the defendant resisted the enforcement of a judgement made by a Hong Kong court that recognised and enforced a Keepwell deed. The defendant argued that a Keepwell deed should be properly categorised as a guarantee which would be subject to approval of the Chinese State Administration of Foreign Exchange (SAFE). As the Keepwell deed never received approval from SAFE, the defendant argued that the enforcement of the Keepwell deed was contrary to Chinese public policy.
Although that decision concerns enforcement of a Hong Kong court judgment rather than an arbitral award, there is no reason to suspect that an arbitral award would be set aside if a similar public policy argument was raised.
 A R Tutor-Ackroyd, ‘Bankruptcy case casts doubt on US$96 billion of offshore Chinese bonds claims, puts pressure on financial products skirting capital controls’, South China Morning Post Online, 17 May 2020.
 Enterprise Bankruptcy Law of the People's Republic of China, article 21.
 最高人民法院关于适用〈中华人民共和国企业破产法〉若干问题的规定（三）, article 8.