Today, before to continue our analysis about M&A in China, I would like to drag your attention towards another theme, though it has already discussed millions of times by other authors, because it is always useful to refresh what we learnt about this incredible country.
China has become the most favorite recipient for Foreign Investments, not only because it has resulted immune to recent financial crisis, but also because it is still growing faster in respect to other economies. Then, if we consider that it is predicted that in 15 years time China will represent 25 percent of the entire consumption at global level, no wonder why enterprises from all over the world are jumping into this market.
In February 2011 China formally overtook Japan to become the world’s second-largest economy. As a member of the World Trade Organization (from 2011), China benefits from access to foreign markets. But relations with trading partners have been strained over China’s huge trade surplus and the piracy of goods. However, the fact is that nobody can ignore the importance of this market. So, today I want to remind you how to enter or establish a presence in China.
BUSINESS PRESENCE
There are Main types of business models in China: locally incorporated companies (may be limited by shares or by guarantee), sole proprietorships, partnerships and registered branches of foreign companies.
The
Main vehicles available to foreign direct investors are:
(i) Representative Office (R.O.); (ii) Branch; (iii) Equity Joint Venture (Sino-Foreign Equity Joint Venture); (iv)Contractual Joint Venture (Sino-Foreign Contractual Joint Venture); Wholly Foreign Owned Enterprise (WFOE);
Foreign Company Limited by Shares
; Foreign Trade Companies (FTC); Foreign Invested Commercial Enterprises (FICE).
• PRC laws allow and encourage foreign investors to set up foreign investment holding company (‘FIHC’) and multinational corporations’ regional headquarters (‘MCRH’) in China.
FOREIGN INVESTMENT RESTRICTIONS AND CONDITIONS
The Catalogue for the guidance of foreign investment and Investment categories:
Foreign investments from 1995 have been regulated or “directed” by the so-called Catalogue for the Guidance of Foreign Investment. The “Catalogue” was first published in 1995 and had since been updated from time to time to reflect China’s changing focus on enhancing the quality of foreign investments. On December 24, 2011 the NDRC and the MofCOM jointly issued the revised catalogue, effective as from January 30, 2012 to replace its previous version issued in 2007. Changes under the revised Catalogue are evidently driven by China’s new shift of focus to quality of foreign investment in particular concerning new technologies and focused also on the environmental protection. Foreign investments must be implemented in a manner that is consistent with Chinese policy and in a way that will promote China’s development. The Catalogue lists a number of industries and it classifies them according to whether foreign investment is: (i) encouraged; (ii) permitted; (iii) restricted; (iv) prohibited. Under PRC laws, the approval of related authorities is necessary for the set-up and many other activities of foreign invested enterprises (‘FIEs’).
In particular foreign investors are encouraged under the new revised Catalogue to invest in projects that call for energy-saving and environmental protection, or engage in new-generation Information Technology, high-end equipment manufacturing, new-energy, new material and new-energy automobiles.
Establish a presence in the Chinese market
The foreign investor has two ways to approach the Chinese market:
(i) Direct ways to enter Chinese market such as JV; CJV; WFOE; and other type of companies permitted by the Company Law; and (ii)
Indirect ways
which generally takes one of just two forms: (1)
licensing agreements or
(2)
franchises networks.
Licensing, is used mainly for technology or trademark-related products, has the advantage of limiting a foreign company’s risk exposure. In fact the company need not set up an office or a joint venture or another type of business entity. However it is necessary to be aware of the following:
- A licenser has less control over how its product is priced, marketed, and distributed.
- Uncertainty over China’s protection of intellectual property and shifting Chinese priorities and policies can undermine deals with Chinese enterprises.
Alternatively, a
franchising network
allows a second way for a foreign firm to establish a presence in the Chinese market.
-
It allows a foreign
investor to enter the Chinese market with a relatively small initial investment, and it is more easy to expand the business. - The new franchise regulations passed in 2007 effectively abolished many restrictions and gray areas previously existing.
- Foreign brands just need to own two successful stores anywhere in the world.
Eligible Chinese party
Generally, Chinese investors do not have to meet special conditions in order to become a party to a Sino-foreign joint venture.
Under normal circumstances, only companies, enterprises or other economic organizations with the status of legal person may be allowed as a Chinese party to joint ventures.
Subject to conditions, local Chinese natural persons are now allowed to set up EJVs or CJVs with foreign companies or individuals. However, so far this reform has only been launched in the Pudong district of Shanghai, and the fields of these FIEs with local Chinese natural persons must be limited to encouraged/permitted industries.
There are mandatory requirements on the qualification of Chinese counterparts in the joint venture of certain industries (such as establishing a Sino-foreign cooperative education institution).
Partnership enterprises
Foreign companies, enterprises or natural persons can also set up a partnership.
Foreign invested partnerships should comply with the regulations of the Partnership Enterprise Law of PRC and the rules for the accessibility foreign investment.
Representative office
Representative offices are entitled to carry out market research, product publicity, etc, but they are not allowed to engage in any profit-making activities. The R.O. represents the most basic form of foreign investment, and it is essentially used for the following reasons: (i) to obtain a better comprehension of the Chinese market; (ii) to build business relationships with potential customers; (iii) to evaluate the potential of the business if established in this market. Representative Offices are now granted a license to operate for one year only. The business license must be renewed every year.
Foreign investors should make registration to the authorities for the set-up of its representative office.
With the next entry I will complete this panorama about how to enter the Chinese market, then we will continue with M&A in China.
– Cristiano Rizzi