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Lehman, Lee & XuLehman, Lee & Xu

Edward E. LehmanEdward E. Lehman

Macau University of Science and TechnologyMacau University of Science and Technology

澳门科技大学澳门科技大学

November 200November 20077

20020077 年年 1111月月


雷曼律师事务所雷曼律师事务所


Investment VehiclesInvestment Vehicles

Foreign Direct InvestmentForeign Direct Investment


Market StatisticsMarket Statistics

In 2003, China surpassed US as leading destination for FDIIn 2003, China surpassed US as leading destination for FDI In 200In 20077, China and India were main destinations for FDI in , China and India were main destinations for FDI in

the worldthe world FDI will exceed USD FDI will exceed USD 770 billion in 20060 billion in 2006 Between 1978 and 200Between 1978 and 20077, average GDP growth rate over , average GDP growth rate over

9.5%9.5%


Market Entry EssentialsMarket Entry Essentials

Have a clear entry strategyHave a clear entry strategy whatwhat how how wherewhere

Have a clear exit strategyHave a clear exit strategy Have full knowledge of the risks:Have full knowledge of the risks:

market research/due diligencemarket research/due diligence local and foreign competition local and foreign competition regulatory/legal issues regulatory/legal issues (national, provincial and (national, provincial and

municipal)municipal)

Long-term commitment is key.Long-term commitment is key.


TaxationTaxation

Foreign Enterprise Income TaxForeign Enterprise Income Tax Flat rate of 30%Flat rate of 30% Plus 3% local tax on the taxable profit.Plus 3% local tax on the taxable profit.

Manufacturing: special treatment Manufacturing: special treatment First 2 years : no taxFirst 2 years : no tax Next Next 33 years: 50% years: 50% Can enjoy 50% reduction for further 3 years if export Can enjoy 50% reduction for further 3 years if export

more than 70% of productionmore than 70% of production In some SEZs can enjoy even further tax reduction if In some SEZs can enjoy even further tax reduction if

export 100% export 100% ((To be modified when the new Income Tax Law enters into To be modified when the new Income Tax Law enters into

effect on January 2008effect on January 2008))


Preferential TaxationPreferential Taxation

Open Economic ZonesOpen Economic Zones Taxed at a rate of 24%Taxed at a rate of 24% Eligible for tax holiday & 3 year reduced rate.Eligible for tax holiday & 3 year reduced rate.

Special Economic ZonesSpecial Economic Zones Taxed at a rate of 15%Taxed at a rate of 15% Shenzhen, Zhuhai, Xiamen, Shantou and Hainan Island.Shenzhen, Zhuhai, Xiamen, Shantou and Hainan Island. Eligible for tax holiday & 3 year reduced rate.Eligible for tax holiday & 3 year reduced rate.

Soon will be eliminated and general rate 2Soon will be eliminated and general rate 255%%

((To be modified when the new Income Tax Law enters into To be modified when the new Income Tax Law enters into effect on January 2008effect on January 2008))


New Income TaxNew Income Tax

To To be effective on Jan. 1, 2008be effective on Jan. 1, 2008 Introduce the conIntroduce the concept of "Tax Resident Enterprise" ("TRE")cept of "Tax Resident Enterprise" ("TRE")

Tax Resident Enterprise" ("TRE") concept is introduced whereby TREs are subject Tax Resident Enterprise" ("TRE") concept is introduced whereby TREs are subject to China income tax on worldwide income, and non-TREs on China source incometo China income tax on worldwide income, and non-TREs on China source income..

FIEs registered in China are always TRE.FIEs registered in China are always TRE. Foreign Enterprise ("FE") whose effective management institute is based in China is Foreign Enterprise ("FE") whose effective management institute is based in China is

regarded as a "TRE". regarded as a "TRE".

Tax Rate – FIEsTax Rate – FIEs Standardised rate of 25%, with reduced rate of 20% for qualified small and thin-Standardised rate of 25%, with reduced rate of 20% for qualified small and thin-

profit companies.profit companies. 15% for encouraged high/new-tech enterprises.15% for encouraged high/new-tech enterprises. FIEs approved before the publication date of the CIT Law and currently taxed at FIEs approved before the publication date of the CIT Law and currently taxed at

15% or 24% will be offered a gradual increase to 25% within 5 years.15% or 24% will be offered a gradual increase to 25% within 5 years. High/new tech enterprises no longer need to be located within so called high-tech High/new tech enterprises no longer need to be located within so called high-tech

parks and can enjoy tax incentives wherever located.parks and can enjoy tax incentives wherever located.



Tax Rate – FEsTax Rate – FEs 20% withholding tax ("WHT") rate for passive income 20% withholding tax ("WHT") rate for passive income

derived by Non-TREs.derived by Non-TREs. Foreign investors may explore potential use of a Special Foreign investors may explore potential use of a Special

Purpose Vehicle resident in treaty countries/regions to Purpose Vehicle resident in treaty countries/regions to do WHT planningdo WHT planning..

Tax Incentive PolicTax Incentive Policyy The tax incentive policy is shifting from "Geography-The tax incentive policy is shifting from "Geography-

based" tax incentives to "Pre-dominantly Industry-based" tax incentives to "Pre-dominantly Industry-oriented, Limited Geography-based" tax incentive oriented, Limited Geography-based" tax incentive policy. policy.

The new tax incentive policy is focused on high/new The new tax incentive policy is focused on high/new technology which is critical to China's future success.technology which is critical to China's future success.



Previous preferential tax treatmentsPrevious preferential tax treatments Unused tax holiday of FIEs approved to be established before CIT Law is Unused tax holiday of FIEs approved to be established before CIT Law is

grandfathered till the expiry. Where the tax holiday has not yet started grandfathered till the expiry. Where the tax holiday has not yet started because of tax losses, it shall be deemed to commence from the first because of tax losses, it shall be deemed to commence from the first effective year of Unified CIT Law.effective year of Unified CIT Law.

New FIEs which engage in high/new-tech industries encouraged by the New FIEs which engage in high/new-tech industries encouraged by the State and located in SEZs and Pudong may enjoy transitional preferential State and located in SEZs and Pudong may enjoy transitional preferential treatments (to be defined).treatments (to be defined).

Enterprises in encouraged industries located in Western regions would Enterprises in encouraged industries located in Western regions would continue to enjoy the existing tax incentives.continue to enjoy the existing tax incentives.

Tax DeductionsTax Deductions Most rules similar to current law for FIEs.Most rules similar to current law for FIEs. Charitable donation is limited with a cap.Charitable donation is limited with a cap. Non-deductible expenses have been expanded to include sponsorship Non-deductible expenses have been expanded to include sponsorship

expenses, and unverified provisions and reserves.expenses, and unverified provisions and reserves.


FDI Legal FrameworkFDI Legal Framework

Legal framework guiding foreign investment in China:Legal framework guiding foreign investment in China: State Council, Guidance of Direction of Foreign State Council, Guidance of Direction of Foreign

Investment Provisions Investment Provisions (the (the "Guidance Provisions""Guidance Provisions")) Foreign Investment Industrial Guidance CatalogueForeign Investment Industrial Guidance Catalogue (the (the

"Catalogue""Catalogue")) Since China's World Trade Organization (WTO) entry, Since China's World Trade Organization (WTO) entry,

government has relaxed investment regulations government has relaxed investment regulations


FDI DivisionsFDI DivisionsEncouragedEncouraged (262) (262)

AgricultureAgriculture

New/high technologyNew/high technology

Industries which develop Western/Central regionsIndustries which develop Western/Central regions

RestrictedRestricted (92) (92)Resource-intensive/wasteful enterprisesResource-intensive/wasteful enterprises

Approval according to the amount of InvestmentApproval according to the amount of Investment

ProhibitedProhibited (33) (33)Industries which cause pollution and ruin natural resourcesIndustries which cause pollution and ruin natural resources

Projects which utilize processes/technologies which are unique to Projects which utilize processes/technologies which are unique to ChinaChina

PermittedPermittedAll other industries not listed in the Catalogue.All other industries not listed in the Catalogue.


Investment in PRCInvestment in PRC

Business enterprises must:Business enterprises must: obtain state approval on a project-by-project basis obtain state approval on a project-by-project basis comply with numerous regulationscomply with numerous regulations

Each particular business scope requires a minimum Each particular business scope requires a minimum amount of Registered Capital, which must be amount of Registered Capital, which must be contributed in formation of the company. contributed in formation of the company.

Depending on the proposed investment vehicle and Depending on the proposed investment vehicle and industry, the requirements for approval will vary industry, the requirements for approval will vary


Foreign Investment Operating Foreign Investment Operating StructuresStructures

Representative OfficeRepresentative Office Equity Joint VentureEquity Joint Venture Cooperative Joint VentureCooperative Joint Venture Wholly Foreign Owned EnterpriseWholly Foreign Owned Enterprise Holding CompanyHolding Company


Representative OfficeRepresentative Office

Straightforward and iStraightforward and inexpensive way to establish a nexpensive way to establish a commercial presence in China commercial presence in China

Over 35,000 foreign companies have established Rep Over 35,000 foreign companies have established Rep Offices in ChinaOffices in China

RO allow foreign companies to:RO allow foreign companies to: further understand the Chinese market, further understand the Chinese market, promote their products and services, promote their products and services, develop new contacts, develop new contacts, examine the feasibility of an investment projectexamine the feasibility of an investment project

For certain industries For certain industries (insurance and banking),(insurance and banking), a RO is a legal a RO is a legal prerequisite to establish an operating entity in Chinaprerequisite to establish an operating entity in China


Representative OfficeRepresentative Office

A RO is an "extension" of foreign company A RO is an "extension" of foreign company (not a separate legal (not a separate legal entity) entity)

Restrictions on business activities Restrictions on business activities Once established, RO may:Once established, RO may:

lease premises, lease premises, employ local and expatriate staff employ local and expatriate staff (approval)(approval) conduct business liaison activities on behalf of its overseas parent conduct business liaison activities on behalf of its overseas parent

company. company.


Legal FrameworkLegal Framework

People's Republic of China State Council Interim Provisions on People's Republic of China State Council Interim Provisions on the Administration of Resident Representative Offices of Foreign the Administration of Resident Representative Offices of Foreign Enterprises (Enterprises ( 中華人民共和國國務院關於管理外國企業常駐中華人民共和國國務院關於管理外國企業常駐代表機構的暫行規定代表機構的暫行規定 ))

Measures for the Administration of Registration of Resident Measures for the Administration of Registration of Resident Representative Offices of Foreign Enterprises (Representative Offices of Foreign Enterprises ( 外國企業常駐代外國企業常駐代表機構登記管理辦法表機構登記管理辦法 ))

Detailed Rules for the Implementation of the Examination, Detailed Rules for the Implementation of the Examination, Approval and Administration of the Resident Representative Approval and Administration of the Resident Representative Offices of Foreign Enterprises in China (Offices of Foreign Enterprises in China ( 關於審批和管理外國關於審批和管理外國企業在華常駐代表機構的實施細則企業在華常駐代表機構的實施細則 ))


Establishment CriteriaEstablishment Criteria

Applicant must comply with stipulated establishment criteria:Applicant must comply with stipulated establishment criteria: be lawfully registered in the country in which it is located, be lawfully registered in the country in which it is located, enjoy a "good business reputation" enjoy a "good business reputation" supply true and reliable information to approval and registration supply true and reliable information to approval and registration

authorities authorities handle establishment procedures in accordance with Chinese law. handle establishment procedures in accordance with Chinese law.

applicant has been in business for a specified period of time applicant has been in business for a specified period of time evidence of prior business with Chinaevidence of prior business with China


Permitted Scope of BusinessPermitted Scope of Business

A RO may only engage in "non-direct business activities“A RO may only engage in "non-direct business activities“ business liaison, business liaison, product presentation, product presentation, market surveying,market surveying, technical exchangetechnical exchange

"..... under no circumstances may a Rep Office sign contracts, "..... under no circumstances may a Rep Office sign contracts, receive income or in any way engage in direct profit-making receive income or in any way engage in direct profit-making activities ...."activities ...."

Serious consequences:Serious consequences: warning, warning, hefty fines,hefty fines, confiscation of any illegally-generated income confiscation of any illegally-generated income cancellation of its business registration!cancellation of its business registration!


TaxationTaxation

Although permitted activities do not generate income, Although permitted activities do not generate income, ROs must pay:ROs must pay: foreign enterprise income tax foreign enterprise income tax

RO tax is based on turnover at a rate around 10% over RO tax is based on turnover at a rate around 10% over expenses expenses


How to Establish a Rep OfficeHow to Establish a Rep Office

Two separate stages:Two separate stages: applying for approval applying for approval applying for registration applying for registration

Upon registration, Registration Certificate (Upon registration, Registration Certificate ( 登記登記証証 ) will be issued) will be issued (fully established)(fully established)

Post-registration formalities within 30 days.Post-registration formalities within 30 days. Parent company is responsible for all activities Parent company is responsible for all activities

conducted by the RO in China. conducted by the RO in China. RO under a newly incorporated subsidiary companyRO under a newly incorporated subsidiary company

in existence for at least one yearin existence for at least one year minimum capital US$10,000minimum capital US$10,000


Approval ProcessApproval Process

Approval Authority:Approval Authority: MOFCOM or its local bureau (provincial or municipal MOFCOM or its local bureau (provincial or municipal

level) level) In specialised industries, the relevant Chinese In specialised industries, the relevant Chinese

government authority (Ministry of Justice…)government authority (Ministry of Justice…) Designated Sponsor: Designated Sponsor:

application submitted to MOFCOM through a application submitted to MOFCOM through a government-authorised "sponsor" organisation government-authorised "sponsor" organisation

role of the sponsor is to submit application documents on role of the sponsor is to submit application documents on behalf of the Applicant for approval.behalf of the Applicant for approval.

renewal or change in Business Registration Certificate renewal or change in Business Registration Certificate must be effected through the original sponsor must be effected through the original sponsor


Application Documents Application Documents

Documents to be submitted:Documents to be submitted: application form and application letter (Chinese) application form and application letter (Chinese) copy of Applicant's constitutional documents (also Chinese copy of Applicant's constitutional documents (also Chinese

translation) translation) reference letter from bankreference letter from bank lease agreement of the premises lease agreement of the premises letter of appointment of the Chief Representative letter of appointment of the Chief Representative passport copies passport copies any other documents which may be required. any other documents which may be required.

Approval authorities will grant approval within 20 working Approval authorities will grant approval within 20 working daysdays (Certificate of Approval ((Certificate of Approval ( 批準証書批準証書 ))))


RegistrationRegistration

With the State Administration for Industry and With the State Administration for Industry and Commerce (Commerce (SAICSAIC) or its local bureau () or its local bureau (AICAIC) )

Within 30 days from date of issuance of the Certificate Within 30 days from date of issuance of the Certificate of Approval of Approval

Documents to be submitted:Documents to be submitted: original Certificate of Approval, original Certificate of Approval, copies of all documents submitted at the approval stage, copies of all documents submitted at the approval stage, registration form and a prescribed fee (RMB2,000). registration form and a prescribed fee (RMB2,000).

SAIC (or local AIC) issues Business Registration SAIC (or local AIC) issues Business Registration Certificate, within 20 days. Certificate, within 20 days.

Registration Certificate valid for one year Registration Certificate valid for one year (renewed (renewed annually)annually)


Post-Establishment RegistrationsPost-Establishment Registrations

Once Registration Certificate has been issuedOnce Registration Certificate has been issued Registration with various official departments:Registration with various official departments:

public security bureau, public security bureau, local and state tax authorities, local and state tax authorities, customs authorities customs authorities local bank local bank

Also apply for work permits, employment visas and Also apply for work permits, employment visas and residence permits for expatriate staff residence permits for expatriate staff


Employment of Local Chinese Employment of Local Chinese EmployeesEmployees

RO may not directly employ local Chinese employees RO may not directly employ local Chinese employees (not independent legal entities) (not independent legal entities)

Must use “local service agencies" (FESCO…) Must use “local service agencies" (FESCO…) Impose:Impose:

service charge on ROservice charge on RO administration fee on employeeadministration fee on employee

Takes care of labour and social insurance contributions Takes care of labour and social insurance contributions on behalf of the employee.on behalf of the employee.


RO SummaryRO Summary AdvantagesAdvantages

Quick and simple.Quick and simple. InexpensiveInexpensive No minimum registered capital.No minimum registered capital. Allows for collection of market information and preparation for Allows for collection of market information and preparation for

direct market entry.direct market entry. Easy to dismantleEasy to dismantle

DisadvantagesDisadvantages Cannot engage in revenue generation.Cannot engage in revenue generation. Taxation regardless of prohibition on profit making activities.Taxation regardless of prohibition on profit making activities.


Joint VenturesJoint Ventures

First structure established by PRC to facilitate foreign First structure established by PRC to facilitate foreign investment in the country. investment in the country.

Two JV structures available: Two JV structures available: equity joint venture (“EJV”) equity joint venture (“EJV”) cooperative or contractual joint venture (“CJV”).cooperative or contractual joint venture (“CJV”).

In some sectors JVs are the only means for foreign firms to get a foothold into the market (aviation, telecoms..)

The larger the project, the more likely the Chinese The larger the project, the more likely the Chinese government will require a EJV structure to be used government will require a EJV structure to be used


Reasons for entering into JVReasons for entering into JV

Lack of viable options JV is often the only investment vehicle permitted

Real estate acquisition JV partner can provide land in crowded or expensive

development areas Investors must make sure that land-use rights have been

converted into granted rights and have been legally transferred to the JV

Guanxi or brand Network of connections, sales and distribution clientele,

or its strength as a brand name


……also for Chinese partneralso for Chinese partner

Chinese partner looks to a foreign investor for the Chinese partner looks to a foreign investor for the following:following: CapitalCapital Management expertise and techniquesManagement expertise and techniques Training opportunities for Chinese staffTraining opportunities for Chinese staff Financial engineering and rescue skillsFinancial engineering and rescue skills


Disadvantages of JVDisadvantages of JV

Inflexibility JV operations are governed by the initial JV contract Changes in the contract require:

unanimous vote of the board of directors (includes representatives of local and foreign partners)

government approval creates difficulties in adapting to market changes

Difficulties in expanding investment Chinese party unable to contribute additional capital increase equity stake in the venture (requires unanimous vote by the board)

Conflict of interest between partners management philosophies of Chinese and foreign JV partners may differ


Setup ProcessSetup Process

Divided into 4 stages:Divided into 4 stages: Project approvalProject approval Feasibility study approvalFeasibility study approval JV contract/AOA approvalJV contract/AOA approval Enterprise registrationEnterprise registration


Equity Joint VenturesEquity Joint Ventures

Most common type of foreign business structure in China

Method of transferring cash and expertise to domestic enterprises

Independent chinese legal person with limited-liability EJVs are associations of one or more companies jointly

undertaking a commercial enterprise with a Chinese partner

Established for a fixed term (usually 10 – 50 years)Established for a fixed term (usually 10 – 50 years)


Equity Joint VenturesEquity Joint Ventures

Profits, risks and looses shared in proportion to the partners’ equity stakes determined by capital contributions

Foreign participation must be at least 25% for the JV to enjoy preferential tax treatment afforded to FIEs.

Equity can be contributed in the form of: foreign currency, equipment, buildings intangible assets (industrial property)


CapitalizationCapitalization

Parties must make their contributions in proportion to their equity stakes in the venture

Parties may pay: in a single lump sum within six months after license issued by installments

15% within three months85% within two years (five years for

investment companies) If registered capital over US$10m can negotiate a longer schedule Failure to meet the capital payment schedule:

revocation of business license payment of damages


EJV Management StructureEJV Management Structure

Two tier structure:Two tier structure: Board of DirectorsBoard of Directors

appointed by investors appointed by investors

Management organizationManagement organization responsible for day to day operation responsible for day to day operation


Summary EJVSummary EJV

AdvantagesAdvantages Chinese partner will bring connections and an established Chinese partner will bring connections and an established

sales and distribution network;sales and distribution network; Local partner will bring local and particularized knowledge Local partner will bring local and particularized knowledge

of both market and bureaucracy.of both market and bureaucracy. Chinese partner will usually have or can easily obtain an Chinese partner will usually have or can easily obtain an

operational site, which aides in efficient start-upoperational site, which aides in efficient start-upDisadvantagesDisadvantages JV contract often difficult to negotiateJV contract often difficult to negotiate Differing objectives and management styles often result in Differing objectives and management styles often result in

conflict.conflict. Lack of control by foreign partyLack of control by foreign party Difficulty in selling shares in ventureDifficulty in selling shares in venture..


Cooperative Joint VentureCooperative Joint Venture

Offer more flexibility Organized in a very similar manner to an EJV Profits, risk and looses distributed according to the JV

contract can specify an accelerated return on investment for the

foreign investor Mainly used in ventures: Mainly used in ventures:

involving large fixed assets involving large fixed assets (real estate and infrastructure (real estate and infrastructure projects)projects)

where desired Chinese partner does not have sufficient where desired Chinese partner does not have sufficient cash/assets to contribute to an EJVcash/assets to contribute to an EJV


Kinds of CJVsKinds of CJVs

Purely contractual arrangement:Purely contractual arrangement: each party agrees to:each party agrees to:

undertake certain obligationsundertake certain obligations provide certain capital (cooperative conditions)provide certain capital (cooperative conditions)

agreement sets out the objectives of the venture agreement sets out the objectives of the venture rights and obligations flow strictly from the contractrights and obligations flow strictly from the contract no separate legal entity and therefore unlimited liabilityno separate legal entity and therefore unlimited liability

Independent Chinese legal person Independent Chinese legal person liability limited to the amount of capital of the JVliability limited to the amount of capital of the JV sharing of profits and risks governed by agreement sharing of profits and risks governed by agreement

between the parties between the parties


CJV AgreementCJV Agreement

Parties should provide in the CJV contract: Parties should provide in the CJV contract: investment or cooperation conditions, investment or cooperation conditions, distribution of earnings or products, distribution of earnings or products, sharing of risks and losses, sharing of risks and losses, form of operation and management form of operation and management title to property upon termination of the CJVtitle to property upon termination of the CJV

Since CJV is based on a contractual relationship, it Since CJV is based on a contractual relationship, it leaves much room for negotiating profit sharing, leaves much room for negotiating profit sharing, management etc…management etc…


ContributionsContributions

Investment or cooperation conditions provided by Investment or cooperation conditions provided by parties may be in the form of:parties may be in the form of: cash, cash, material objects, material objects, land-use rights, land-use rights, industrial property rights, industrial property rights, non-patented technology non-patented technology other property rights.other property rights.


Summary on CJVSummary on CJV

Similar to Equity Joint Venture in structure but with Similar to Equity Joint Venture in structure but with more flexibility because of the following:more flexibility because of the following:

1.1. Sharing profits is governed entirely by contractSharing profits is governed entirely by contract

2.2. Foreign partner can obtain return of investment in Foreign partner can obtain return of investment in priority to Chinese partner.priority to Chinese partner.

Setup requirements similar to that of Equity Joint Setup requirements similar to that of Equity Joint Venture.Venture.


EJV vs. CJVEJV vs. CJV


Wholly Foreign Owned Enterprise Wholly Foreign Owned Enterprise

Enterprises established by foreign investors in Enterprises established by foreign investors in accordance with relevant Chinese law, exclusively with accordance with relevant Chinese law, exclusively with their own capital (their own capital (Law of PRC onLaw of PRC on WFOEs) WFOEs)

WFOE structure can only be used in certain business WFOE structure can only be used in certain business sectors (restrictions)sectors (restrictions)

Not authorized in PRC until 1986 Not authorized in PRC until 1986 In 1997, WFOEs largest number of approved FIEs, In 1997, WFOEs largest number of approved FIEs,

eclipsing EJVeclipsing EJV WFOEs can better achieve business goalsWFOEs can better achieve business goals

WTO accession made it easier to establish WFOE WTO accession made it easier to establish WFOE


Advantages of WFOEAdvantages of WFOE

Complete management control (no chinese partner) avoid disputes and conflicts (common in JV)avoid disputes and conflicts (common in JV) business decisions more flexibly and quickly to adjust business decisions more flexibly and quickly to adjust

operations to the demands of markets operations to the demands of markets Simpler establishment procedures

quicker negotiation and approval process (no JV contract)

Easier to terminate JV can only be liquidated on agreement of both parties or

through a court order Dissolution of a WFOE requires government approval


Advantages of WFOEsAdvantages of WFOEs

Foreign investors are entitled to all the profitsForeign investors are entitled to all the profits reinvest or repatriatereinvest or repatriate

Greater control over:Greater control over: confidentiality of technology confidentiality of technology IPRsIPRs

Flexibility of location JVs located where local partner has an existing plant WFOEs are free to build on green field land


Potential Drawbacks Potential Drawbacks

Foreign investors may need more time and energy to Foreign investors may need more time and energy to develop their businesses develop their businesses (no Chinese partner)(no Chinese partner)

More legal restrictions on the establishment and More legal restrictions on the establishment and operation of WFOEs operation of WFOEs (restricted in sensible areas)(restricted in sensible areas)

Foreign investor cannot rely on a Chinese partner to Foreign investor cannot rely on a Chinese partner to provide a site for operations. provide a site for operations. will have to make its own arrangements for land usewill have to make its own arrangements for land use


WFOE Registration ProceduresWFOE Registration Procedures

WFOEs are established in three stages:WFOEs are established in three stages: preparation, preparation, examination and approval, examination and approval, registration.registration.


PreparationPreparation

Prior to application for establishment, submit a report Prior to application for establishment, submit a report to the local government where enterprise is to be to the local government where enterprise is to be established established

Report shall include: Report shall include: aim of the establishment aim of the establishment scope and scale of business operation scope and scale of business operation products to be producedproducts to be produced technology and equipment to be usedtechnology and equipment to be used area of land to be used area of land to be used quantities of water, electricity, coal, gas and other forms quantities of water, electricity, coal, gas and other forms

of energy resources required of energy resources required requirement of public facilities.requirement of public facilities.


ApplicationApplication WFOE application must be submitted to MOFCOM (local) WFOE application must be submitted to MOFCOM (local) Include following documents:Include following documents:

written application form written application form (in Chinese)(in Chinese)

feasibility study report feasibility study report articles of association of the WFOE articles of association of the WFOE (in Chinese)(in Chinese)

name list of the legal representative name list of the legal representative legal and credit certifying documents legal and credit certifying documents inventory of goods and materials to be importedinventory of goods and materials to be imported any other documents required any other documents required

Business License: 90 daysBusiness License: 90 days Registration (SAIC): within 30 daysRegistration (SAIC): within 30 days Secondary filings (tax, customs and SAFE): 30 days Secondary filings (tax, customs and SAFE): 30 days


Articles of AssociationArticles of Association Most important documentMost important document Must include:Must include:

name and location of the enterprise;name and location of the enterprise; aim and scope of business operations;aim and scope of business operations; total amount of investment, registered capital, and time limit for total amount of investment, registered capital, and time limit for

contributing investment;contributing investment; form of organization;form of organization; internal organizational structures and functions, duties and limits of internal organizational structures and functions, duties and limits of

powers of legal representative, general manager, chief accountant powers of legal representative, general manager, chief accountant and other staff members;and other staff members;

system of financial affairs, accounting and auditing;system of financial affairs, accounting and auditing; labor administration;labor administration; term of business operations, termination, and provisions for term of business operations, termination, and provisions for

liquidation;liquidation; procedures for the amendment of the articles of association.procedures for the amendment of the articles of association.


CapitalizationCapitalization Capital contributions can be made in:

currency machinery equipment technology

Capital paid according to schedule set forth in AOA Payment can be made in installments:

15% or more within 90 days remaining within two years of establishment

If not met, business license may be revoked FIEs may not reduce registered capital Increases or reassignment must be:

approved by original approval authorities registered with SAIC


Total Investment and CapitalizationTotal Investment and Capitalization

Ratio between registered capital and total capital Ratio between registered capital and total capital investment:investment: Total investments up to $3,000,000, registered capital Total investments up to $3,000,000, registered capital

must be a minimum of 70% of this amount;must be a minimum of 70% of this amount; Total investments over $3,000,000 to $10,000,000, Total investments over $3,000,000 to $10,000,000,

registered capital must be a minimum of 50% of this registered capital must be a minimum of 50% of this amount;amount;

Total investments over $10,000,000 to $30,000,000, Total investments over $10,000,000 to $30,000,000, registered capital must be a minimum of 40% of this registered capital must be a minimum of 40% of this amount;amount;

Total investments over $30,000,000, registered capital Total investments over $30,000,000, registered capital must be a minimum of one third of this amount.must be a minimum of one third of this amount.


Summary on WFOESummary on WFOE

AdvantagesAdvantages Quicker setup as there is no Chinese partnerQuicker setup as there is no Chinese partner Simpler management structure and objectives which are simply those Simpler management structure and objectives which are simply those

of the parent organization.of the parent organization.

DisadvantagesDisadvantages Independence is often, in itself, a shortcoming because of lack of Independence is often, in itself, a shortcoming because of lack of

connections, established markets, and local knowledge.connections, established markets, and local knowledge. WFOEs cannot operate in some sensitive areas such as securities.WFOEs cannot operate in some sensitive areas such as securities.


Liquidation of JVs and WFOEsLiquidation of JVs and WFOEs

Liquidation Liquidation can occur voluntarily and involuntarily.can occur voluntarily and involuntarily. FIEs declared in bankrupt liquidated in accordance with FIEs declared in bankrupt liquidated in accordance with

laws and regulations on liquidation due to bankruptcy. laws and regulations on liquidation due to bankruptcy. Solvent FIEs who wish to liquidate, may proceed:Solvent FIEs who wish to liquidate, may proceed:

in accordance with constituting documentation in accordance with constituting documentation (AOA)(AOA)

procedures set out in laws procedures set out in laws appointment of a liquidation committee to oversee the appointment of a liquidation committee to oversee the

processprocess


Restructuring the Joint venture Restructuring the Joint venture

Restructuring FIEs through Restructuring FIEs through M & A M & A need to rationalize investments need to rationalize investments create new investment opportunitiescreate new investment opportunities

Transforming EJV to a WFOE.Transforming EJV to a WFOE. not possible to use the restructuring of a JV to circumvent not possible to use the restructuring of a JV to circumvent

WFOE restrictions WFOE restrictions relevant authorities must approve the new created WFOErelevant authorities must approve the new created WFOE creation of WFOE only allowed if not restricted or creation of WFOE only allowed if not restricted or

forbidden sectorforbidden sector


Holding CompaniesHolding Companies

Established as JVs or WFOEs Allows to consolidate all China projects under one corporate

umbrella No direct involvement in production activities Minimum registered capital US$30m Latest changes in 2004 regulations:

allow to provide after-sales service for all products that it imports (before limited to parent’s company)

sell imports made by its overseas parent company (no retail) entrust other enterprises to manufacture its products or the products

of its parent company and sell them on the domestic and overseas markets


Holding CompaniesHolding Companies

Over 250 foreign investors have established holding companies

Examples: Unilever, Rhone-Poulenc, Philips, Motorola, General Electric, Siemens BOSCH


Establishment RequirementsEstablishment Requirements

Total asset value of US$400m in the year prior to application, have established FIEs with a paid-up capital of over US$10m and plans for three or more investment projects.

Ten or more FIEs established in China with paid-up capital of at least US$30m.

If established as JV, Chinese partner must have assets of at least Rmb100m


Establishment ProcedureEstablishment Procedure

Holding company must be approved (both): by commercial department of the city or province in

which it is to be established by MOFCOM

Registration with SAIC, tax bureau, customs bureau and SAFE are required

Registered capital must be paid in full within two years of approval: must be paid in cash existing paid-in capital of FIEs in China may not be used

to capitalize the holding company.


Acquiring ControlAcquiring Control

Holding company acquires control over existing FIE by: assign the equity interests to the holding company as a

gift; use the holding company’s earnings to purchase the

equity from the foreign investor; increase the holding company’s registered capital

(US$30m) as necessary to acquire the FIE


Offshore Holding CompaniesOffshore Holding Companies Valuable tool to manage China investments Valuable tool to manage China investments Established in tax free Jurisdictions Established in tax free Jurisdictions (HK, BVI, Mauritius)(HK, BVI, Mauritius) Benefits:Benefits:

Exit StrategyExit Strategy easy transfer of interests in the China operation (offshore easy transfer of interests in the China operation (offshore

transfer)transfer) no approval needed from SAIC, MOFCOM or SAFEno approval needed from SAIC, MOFCOM or SAFE

Limiting LiabilityLimiting Liability liabilities incurred by the China entity will be the liability liabilities incurred by the China entity will be the liability

of the holding companyof the holding company Transfer PricingTransfer Pricing

lower taxes for products made in China but sold elsewherelower taxes for products made in China but sold elsewhere


Offshore Holding CompanyOffshore Holding Company

Tax BenefitsTax Benefits Offshore:Offshore: money held by holding company will be tax freemoney held by holding company will be tax free

In China:In China: impact of China taxation can be managed by impact of China taxation can be managed by licensing the IP from parent companylicensing the IP from parent company

In Home Jurisdiction,In Home Jurisdiction, money can be: money can be:

repatriated at a tax advantageous timerepatriated at a tax advantageous time reinvested in international venturesreinvested in international ventures

ParentCompany

OffshoreCompany

ChineseCompany

IP IP


Two Relevant Case Studies of Two Relevant Case Studies of Direct Investment in ChinaDirect Investment in China

1) Carrefour1) Carrefour 2) Microsoft2) Microsoft


Carrefour Case StudyCarrefour Case Study

Entering into the Chinese marketEntering into the Chinese market:: China partially opened its retail for foreign investment in 1992. China partially opened its retail for foreign investment in 1992. Carrefour entered China in 1995 by forming a joint venture with Carrefour entered China in 1995 by forming a joint venture with

the Chinese firm Zhong Chuang, establishing a firm named “Jia the Chinese firm Zhong Chuang, establishing a firm named “Jia Chuang” to hold the majority of shares.Chuang” to hold the majority of shares.

To set up its stores the company entered into direct deals with To set up its stores the company entered into direct deals with different local governments.different local governments.

Local Local approach to the Chinese marketapproach to the Chinese market:: Carrefour considered the country to be comprised of several small Carrefour considered the country to be comprised of several small

marketsmarkets.. Most of the products were procured from ChinaMost of the products were procured from China.. Store formats, location, and the products sold were customized Store formats, location, and the products sold were customized

according to the local preferencesaccording to the local preferences.. Store managers were empowered to run the stores according to the Store managers were empowered to run the stores according to the

local requirementslocal requirements


Carrefour Case StudyCarrefour Case Study

Descentralized managementDescentralized management.. SStore managers operate stores with complete freedom. tore managers operate stores with complete freedom. Freshness ensured by Freshness ensured by procuring the majority of its products locallyprocuring the majority of its products locally

(a well valued atribute by chinese consumers).(a well valued atribute by chinese consumers). Results of Carrefour strategyResults of Carrefour strategy

In China, where vast economic, social, and cultural differences In China, where vast economic, social, and cultural differences existed among different provinces, Carrefour existed among different provinces, Carrefour has been has been able to cater able to cater to the needs of different customers successfully.to the needs of different customers successfully.

As of As of 20072007, Carrefour operate, Carrefour operatess in China through its 80 in China through its 80 hypermarkets and around 250 hard discount stores. hypermarkets and around 250 hard discount stores.

China China isis Carrefour's sixth largest market, with sales of over € 2.06 Carrefour's sixth largest market, with sales of over € 2.06 billion.billion.


Microsoft Case StudyMicrosoft Case Study

Chinese market arrival: 1992Chinese market arrival: 1992 In 1992 Microsoft entered in the Chinese Market by setting up a In 1992 Microsoft entered in the Chinese Market by setting up a

Rep. Office.Rep. Office. Wrong pricing strategyWrong pricing strategy:: Microsoft Microsoft chargedcharged same prices same prices asas

elseelsewhere in the world.where in the world. Piracy: Piracy:

Counterfeit copies available on the street aCounterfeit copies available on the street att very cheap prices. very cheap prices. The problem wasThe problem was not not brand acceptancebrand acceptance.. EEveryone was using veryone was using

Windows but no one was paying.Windows but no one was paying. Microsoft fought unsuccessfully to protect its intellectual property.Microsoft fought unsuccessfully to protect its intellectual property.

AAnothernother problem problem was: was: The promotion and implementation of Linux operating systems by The promotion and implementation of Linux operating systems by

the Bejing Government.the Bejing Government.



Tolerating piracyTolerating piracy as strategy: as strategy: By 2001, Microsoft realized that usual pricing strategies By 2001, Microsoft realized that usual pricing strategies

were going to fail due to China´s weak IP enforcement.were going to fail due to China´s weak IP enforcement. Tolerating piracy turned out to be Microsoft's best long-Tolerating piracy turned out to be Microsoft's best long-

term strategy:term strategy: Windows is used on an estimated 90% of China's 120 Windows is used on an estimated 90% of China's 120

million PCs.million PCs. Piracy helped to competPiracy helped to competee with Linux. A counterfeit copy with Linux. A counterfeit copy

of windows is cheaperof windows is cheaper.. The latter requires The latter requires lessless discs. discs.



Local Investment and Institutional cooperation.Local Investment and Institutional cooperation. Microsoft set up a long-term vision strategy that matches with the Microsoft set up a long-term vision strategy that matches with the

government's development agenda to get their support. government's development agenda to get their support. Launching extensive training programs for teachers and Launching extensive training programs for teachers and

software developers.software developers. Microsoft computing initiatives in rural areas of China.Microsoft computing initiatives in rural areas of China. Making officials participate to decide in which local software Making officials participate to decide in which local software

and outsourcing companies should invest.and outsourcing companies should invest. Chinese government started thinking more like Microsoft:Chinese government started thinking more like Microsoft:

It required central, provincial, and local governments to begin It required central, provincial, and local governments to begin using legal softwareusing legal software..



Microsoft's strategy outcomeMicrosoft's strategy outcome In 2006 the Chinese government required local PC In 2006 the Chinese government required local PC

manufacturers to load legal software on their computers manufacturers to load legal software on their computers Microsoft Corp. and Lenovo announcedMicrosoft Corp. and Lenovo announced in 2007 in 2007 a a

global agreement to pre-load Windows Live services on global agreement to pre-load Windows Live services on Lenovo PCs sold worldwideLenovo PCs sold worldwide..

More than 24 million PCs will be sold More than 24 million PCs will be sold in 2007in 2007, adding , adding to the 120 million already in place.to the 120 million already in place.