(The Wholly Foreign Owned Enterprise: Part 1 of 2)
Having examined the obstacles in doing business in China and explained some very important aspects of this particular market, it is time to introduce the main instruments at the disposal of the foreign investor to establish a presence I China. In fact these same investment vehicles frequently are the object of this new trend, namely M&A, to enter the China’s market. Therefore, it is better to have a close look at their functioning before to continue our discussion on M&A issues.
What type of business presence?
Foreign investors generally establish a business presence in China in one of six ways: 1) wholly foreign-owned enterprise (WFOE); 2) foreign invested commercial enterprise (FICE); 3) representative office (RO); 4) joint venture (JV ); 5) partnership enterprise (PE); or 6) Hong Kong company.
This entry is dedicated to the “Wholly foreign-owned enterprise”
Generally a WFOE is set up as a limited liability company (Ltd. Co.), but it can also assume a different form or structure (e.g. limited by shares) obtaining a special authorization from the MofCOM. If a WOFE is structured as a limited liability company then the foreign investor will be liable to the enterprise to the extent of his investment. If the enterprise has another form and therefore another type of liability, the foreign investor’s liability will be determined in accordance with Chinese laws and regulations (reference must be done to the Company Law, available at:
http://www.lehmanlaw.com/resource-centre/laws-and-regulations/company/the-company-law-of-the-peoples-republic-of-china.html
). The WFOE Law is available at:
http://www.lehmanlaw.com/resource-centre/laws-and-regulations/foreign-investment/law-of-the-peoples-republic-of-china-on-wholly-foreign-owned-enterprises-2000.html
The wholly foreign owned enterprise is perceived as an effective method to enter the market if their administration can be carried out in complete autonomy regarding to specific business activity.
A
Wholly Foreign Owned Enterprise
can carry out activities of production, both for the Chinese market and for the International market (but with some restrictions regarding investments in strategic sectors), as well as ‘services’ activities, e.g. in marketing or consulting. In this regard it is necessary to underline that from 2005 WFOEs can also be Trading Companies (as pointed out in the section on FTCs) and they can precisely exercise the following activities:
- Wholesale;
- Retail;
- Distribution, agency, franchise.
The business sector in which the WFOE can operate it is not at the discretion of the foreign investor, but it depends on government policy choices. The legislative reference remains the ‘
Catalog for the Guidance of Foreign Investment Industries’
periodically revised by the MofCOM, which embodies and reflects the central government policies. In order to reflect China’s latest 12
th
Five year plan promulgated in March 2011, the NDRC and the MofCOM, on 24
th
December 2011, jointly issued the new revised version of the Catalogue which will become effective as from 30
th
January 2012. (
http://www.fdi.gov.cn/pub/FDI_EN/Laws/law_en_info.jsp?docid=87372
). With this recent move the Chinese government underlined that now it is now more receptive to foreign investment in emerging industries such as hi-tech and innovative technology, environmental protection, renewable resources, new energy, modern agriculture, manufacturing and services.
The choice to operate with this type of investment instrument certainly it allows complete control over own means, and the foreign investors particularly jealous of their secrets, as well as their technology, patents and other intellectual property rights used in ‘business activities, will feel more safe and secure to conduct their business in this country, rather than having to share with a Chinese partner, in case of a joint venture, the information just mentioned.
1. Different Types of WFOE
Following are different types of WFOE. Commonly,
- If the WFOE only be allowed to manufacture here. We can say it’s manufacturing WFOE.
- If the WFOE is allowed to do Consulting & Service, we call them Consulting WFOE.
- If the WFOE is allowed to do Trading, Wholesale, Retail or Franchise in China, we call them Trading WFOE or FICE (Foreign-Invested Commercial Enterprise)
2. Advantages of WFOE
The advantages of incorporation a WFOE, compared with other types of enterprises, include, but not limited to:
- Independence and freedom to implement the worldwide strategies of its parent company without having to consider the involvement of the Chinese partner;
- Ability to formally carry out business rather than just function as a representative office and being able to issue invoices to their customers in RMB and receive revenues in RMB;
- Capability of converting RMB profits to US dollars for remittance to its parent company outside of China;
- Protection of intellectual know-how and technology;
- For Manufacturing WFOE, no special requirements for Import / Export license for its own products;
- Full control of human resources
- Greater efficiency in operations, management and future development.
3. Articles of Association
Articles of Association is Company Rules in China and it will mention exactly how the WFOE can operate, the official version of Articles of Association must be in Chinese.
4. Business Scope
According to WFOE regulations, “Foreign investors are permitted to setting up a 100% foreign owned enterprise in industries that are conducive to the development of China’s economic benefits, and not prohibited or restricted by China government.” The Catalog of Guidance to Foreign Investment” categorises fields of potential investment as “prohibited,” “restricted” and “encouraged”. It is advisable to fully comprehend the interpretation of these categories. In China, Business scope of a business is a “one sentence description” covering all of the present and future activities of the WFOE; it is essential this encompasses every envisaged scope of future activity. The WFOE can only conduct business within its approved business scope, which ultimately appears on the business licence. One of the most important issues in WFOE application is business scope. Any amendments to the business scope require further application and approval. Business scope of a company in China is not as broad and general as in other countries. Generally business scope includes investment consulting, international economic consulting, trade information consulting, marketing and promotion consulting, corporate management consulting, technology consulting, manufacturing, and other scopes. After China’s entry into WTO, more and more business is open to WFOE especially in Trading, Wholesale and Retail business.
5. Registered and Paid up Capital
The Registered Capital of a WFOE should be adjusted according to the scale of the business to be conducted here in China. However, the suggested minimun amount is USD$100,000 for all kinds of WFOE. Initial Paid-up would be 20% of the registered capital, the balance should be remitted within 2 years. However, the amount of registered capital is dependent upon factors like Scope of Business and Location. In reality local authorities will review the feasibility study report (and check the lease contract) approve the investment on a case-by-case basis; reduced registered capital could be negotiated in some cases.
To be more exaustive, the registered capital is the amount that it’s required to run the business until it can break even – the ‘registered capital’ is a guideline only. If you do looking for a minimum registered capital, for instance RMB 30,000 (this figure is stated in the Company Law), in practice with this amount it is impossible to establish a WFOE in China.
Today I stressed the most important characteristics of this investment instrument, however there are some more points to be discussed with the next entry before to move in examining the other investment vehicles.
– Cristiano Rizzi