Transcript Chinese Regulation of Foreign Business

Chinese Regulation of
Foreign Business - 2010
James V. Feinerman
James M. Morita Professor of Asian Legal Studies
Georgetown University Law Center
Introduction
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Foreign Trade
Foreign Investment in China
Chinese Investment Abroad
Customs
Commodity Inspection
Taxation
Civil & criminal law
Technical standards of different countries
International Practices & Treaties
China: Basic Facts
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2009 GDP: $$4.758 trillion (estimate)
2009 PPP-adjusted GDP: $8.767 trillion (3rd in the
World)
Per-capita PPP-adjusted GDP: $6,500 (2009 est.)
(127th in the World)
Average GDP Growth past decade: 10%
Projected 5-year GDP Growth Average: 10%
(almost 3 x US!)
Foreign Direct Investment: $576.1 billion
(December 2009 est.)
Selected 2008 FDI Recipients
(Source: UNCTAD)
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Worldwide
Africa
Latin America
Asia
European Union
NAFTA
India
Hong Kong
China
$1.697 Trillion
$ 78 Billion
$ 121 Billion
$ 297 Billion
$
549 Billion
$ 361.1 Billion
$
27.3 Billion
$
63 Billion
$ 92.4 Billion
Look Before You Leap
Market Access – Restrictions and Investment Vehicles
Intellectual Property Protection
 Legal System/Dispute Resolution/Corruption
 Foreign Exchange/Taxation
 Guanxi 关系 = Connections
 Dealing with State-owned Enterprises
 Financial Transparency/Hidden Liabilities
 Employees and Employment Law Matters
 Land/Real Estate
 Corporate Governance and Corporate Culture
 Local v. National Isssues (local protectionism)
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Brief History of Foreign Investment
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Tight government control and “special treatment” of
foreign investors moving towards loosening of control
in the light of WTO agreements
1970s first foreign investment laws
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Foreign Invested Enterprises (FIEs) a distinct legal category
More government control, but some special privileges
Late 90s and 00s: New M&A and FIE laws
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Provisional Measures on Domestic Investment by Foreign
Invested Enterprises (2000)
Rules on Merger and Division of FIEs (1999, amended 2001)
Investment Regulations Investment Catalog (2002 – new
updates)
Current Investment Framework (1)
Important Sectors of China’s Economy Initially
(Some Remain) Closed to Foreign Investment
 Pre-WTO Liberalization Increases Availability
of Wholly Foreign-Owned Enterprises
(WFOEs) vs. Joint Ventures (JVs)
 Government Approval at Local, Provincial or
National Level Required of all Investments
 Level of Government Approval Depends on
Amount, Location and Nature of Proposed
Investment
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Current Investment Framework (2)
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Special Economic Zones (SEZs) Provide
Additional Flexibility/Advantages, e.g.,
Shanghai Pudong Waigaoqiao)
 Foreign Investment and Economic
Development Concentrated on East Coast
 Tax Advantages for Certain Foreign Invested
Enterprises, but Regulations are Complex
 RMB Still Not Fully Convertible (swap markets;
now bank account convertible)
Market Access
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Foreign Investment catalogue – 4 Categories
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Encouraged
Restricted
Prohibited
Unlisted = Permitted
Business Scope Narrowly Defined
WTO Concessions
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Improve trade & foreign investment environment
Open new service sectors to foreign investment
Modify intellectual property rights and technology transfer
rules
Reduce tariff and non-tariff barriers
New Foreign M&A Regulations
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Percentage restrictions
Mandatory asset appraisals set floor on purchase
price
Protection of existing creditors/guaranty of payment
Requirement for public notice
Labor issues
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“Employment settlement plans” approved by authorities
Certain acquisitions must be approved by labor organizations
Purchase price
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Form of consideration flexible
Payment within prescribed period after approvals
Growth Factors for M&A
Investments
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Fast growing number of qualified “target companies”
Foreign investors’ increasing interest in existing
Chinese businesses instead of greenfield investments
State-owned being privatized
Chinese companies seeking international
financing/tech expertise
Global capital markets looking for “China concept”
Potential increase in China asset values as RMB is
revalued upward
Investment Vehicles
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Representative office
Equity joint venture (“EJV”)
Cooperative joint venture (“CJV”)
Wholly foreign-owned enterprise (“WFOE”)
Limited Liability Company
Joint Stock Company
Other forms (e.g., Holding Company, Branch
Office, Limited Partnership,
Processing/Contractual Arrangements)
Selecting the Chinese Partner
While foreign companies are increasingly likely to
establish wholly foreign-owned enterprises in the PRC,
most still seek a Chinese co-venturer. Typical reasons
include:
 Chinese policy discourages or prohibits wholly foreignowned investment in the sector in question;
 The Chinese partner holds a dominant market
position, which the proposed joint venture will inherit;
 The Chinese partner has a distribution network,
assets, relationships or other advantages that will
permit the joint venture access to markets, raw
materials or quotas.
Due Diligence: Overview
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Investor’s first line of protection – thorough business
and legal due diligence
Experienced international businesspeople appear to
ignore the basic tent when investing in China
Professional due diligence in China presents peculiar
challenges:
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Less reliable information than foreign investors are used to
Obscure and volatile state of China’s legal system
Chinese companies’ lack of familiarity (and patience!) with
corporate formalities and record keeping
Great breadth of authority afforded China’s bureaucracy
Due Diligence: Key Points
Nature and Powers of the Partner
 Financial Records (all sets of books)
 Employees
 Contractual obligations
 Tax
 Ownership – and division – of Assets
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Transition Issues for Transfers of
Existing Facilities into Joint Ventures
If existing plant of facilities will become part of the JV:
 Mechanics and details of this transfer
 Appendix listing all of the Chinese partner’s assets and liabilities
that are to be transferred to the new entity
 Land use rights, buildings and other fixed assets
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“allocated” or “granted” state-owned land use rights
Allocated land is transferred to the use for free (annual land use tax)
User has no rights to transfer; state may recover the land at any time
without paying compensation
For granted land, the used pays the state a land grant premium for
the right to use it for a stated period of years
Granted land use rights are transferable (including by mortgage and
lease) and may not be abrogated by the state (except for
compensation in the exercise of its right of eminent domain)
Inventory, receivables, intangibles and contractual rights
Valuation Issues – Cash and In-kind
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Relative value of parties’ contributions determines share of profits
Value of non-cash contributions is usually a hotly negotiated issue
(Chinese contributions usually in-kind; foreign usually cash or
combination)
Value of non-cash contributions must be set forth in the capital
contribution section of the JV contract
Non-cash contributions by foreign parties must also be valued by the
State Import and Export Commodities Inspection Administration
Actual contribution of both cash and non-cash inputs must be verified
by a licensed PRC accounting firm
State-owned assets (such as assets owned by state enterprises)
must be valued by a valuation firm licensed by the State Assets
Management Bureau
Localities have standards to value land use rights; foreign investors
should investigate whether Chinese side’s valuation falls within the
official range
Investors should bear in mind that the official guidelines assume
granted land use rights rather than allocated land use rights
Other Issues
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Registered Capital
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Conditions to the Effectiveness of JVs
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Objectives, sources of investment, sources of foreign exchange and raw
materials, site, technology requirements
Economic benefit analysis, financial projections
Labor requirements
Marketing plans, distribution, export percentages, forex balancing
Non-competition clauses
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Transfer of property
Contribution of assets
Necessary approvals
Feasibility Studies – Prior Approval Mandatory
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Minimum of 1/3 total capital; cannot be reduced
Geographic
Product line(s)
Marketing plans, distribution
Chinese Law Opinion Letters
Off-shore Holding Structures
Most foreign investors prefer to conduct their Chinese
investments through a series of offshore, single
purpose, limited liability companies:
 Permits investors to limit China project liability to one
offshore entity
 Facilitates future transfers of the investment
 Where there are multiple foreign investors in a JV,
foreign parties may work out the details of their
cooperation in a shareholders’ agreement
 Chinese JV law does not provide for more complex
corporate capital structures, such as preferred stock,
redemption rights, or the like
Exit Strategies
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Most investors in China are strategic investors –
manufacturing firms wishing to establish long-term
production facilities to service China and Asian
regional markets
They typically are not greatly concerned about the
mechanics or financial consequences of disposing of
their investments
Growing group of financial/portfolio investors in China
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Investment funds
Merchant banks
Other financial institutions
These investors are keenly interested in strategies for
tax-efficient exit from their investments within a set
time horizon
Intellectual Property
IP Rights Violations Remain a Serious Threat
 IP violations are widespread in China
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Infringing/counterfeiting (20%+ of all consumer products)
Piracy (90%+ of movies, software, games, books)
Imitation of product designs
IP theft by employees/partners
In the US, Canada, Japan and EU, China is the No. 1
source of seizures of infringing goods
Chinese government entities may acquiesce in
infringing/counterfeiting activities
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Local governments (sole source of revenue and salaries for
local courts and judges) protect local taxpayers and
employers
National government determined to advanced China’s
technological progress by whatever means
Intellectual Property – Conclusions
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China’s IP Laws “closing in” on international standards
IP enforcement in China – still a “work in progress”
Foreign companies should file and protect IP in China
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Patents
Trademarks and copyrights
Non-compete and confidentiality agreements
Foreign IP owners can successfully enforce IP rights
in China
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Don’t be reluctant to sue in China
Don’t wait too long – two-year statute of limitations
Choose counsel carefully