The difficulties of doing business in China have become clear in the 20 years since China reopened to foreign investment. This is evident in the foreign-invested enterprise. The foreign-invested enterprise provides greater protection for foreign investments.
This includes enhanced protection for foreign investors’ intellectual property rights and trade secrets. It also implies a more simplified and transparent regulatory regime.
In this article, we will break down all you need to know about the foreign-invested enterprise. We included the definition, types, challenges, and everything you need to know. Let’s get started.
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What is a foreign-invested enterprise (FIE)
A foreign-invested enterprise (FIE) is a common business structure in China and other Asian countries. International businesses must use this legal form when investing financially in a China-based business or project.
A foreign-invested enterprise (FIE) is any of several legal structures that allow a company to participate in the foreign economy.
FIEs are subject to stringent government regulation at several key points. This limits how much a company can profit from foreign ventures. It also determines the amount of control a foreign parent has in the foreign country.
Types of Foreign Invested Enterprises (FIEs)
There are different types of foreign-invested enterprises. They are mostly in China between Chinese and foreign parties. They are set up with the approval of the Ministry of Commerce.
The foreign-invested enterprises are of three types:
- Pure joint ventures, in which the parties do not establish a separate legal entity. Thus bear the risk of profit and loss directly,
- Hybrid joint ventures, in which the parties establish a separate business entity. They, however, limit their liabilities to their capital contributions, and
- The FCLS. An FCLS is a type of joint-stock company that foreign investors can establish. It is the only type of FIE whose shares can trade on a Chinese stock exchange.
When Should a Business Use a Foreign Invested Enterprise?
Setting up a company in China as a foreign enterprise is advantageous if your company requires a significant legal presence in the country. Compliance with the Foreign Investment Enterprise is necessary where-
- As a non-China-based investor, you wish to establish an enterprise or project to invest in. This goes whether it is within China, whether on your own or with other investors;
- As a non-China-based investor, you seek to acquire shares or other securities in a China-based enterprise;
- Other types of foreign investment that China’s laws may specify from time to time.
You should use a foreign-invested enterprise when-
- You want to invest in a promising local business;
- You want to start a project in China that will necessitate collaboration with local businesses;
- Where your company requires a branded platform on the ground in China. It may need this to engage customers or collaborate with other local businesses.
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When is a Foreign Invested Enterprise Not Required?
International enterprises may mistakenly believe that a foreign-invested enterprise is a requirement to do business in China. There are a variety of other business solutions that could be appropriate. Some of them are-
#1. A Bureau of Representation (RO)
An RO can only perform a limited number of activities in China. They are primarily for international businesses scoping out the local market. They are also great for the ones that are conducting market research.
Similarly, they cannot execute contracts, import or export goods, or conduct business in their name with other companies.
#2. A Worldwide PEO
A global PEO can provide employment solutions for a workforce in China. This includes recruiting and hiring staff in China to work on your client’s behalf.
Using a global PEO may eliminate the need to establish your own FIE, branch, or another local subsidiary.
#3. Foreign investment regime
Policy. The FIL includes several market-liberalizing principles. This reflects the Chinese government’s desire to expand market access. It also shows they can create a level playing field for foreign investors.
The most recent Negative Lists have eased access restrictions even further.
What is the Scope of Foreign Invested Enterprise?
Foreign investment is any direct or indirect investment activity conducted within China by foreign investors. This could include foreign individuals, enterprises, or other organizations. It is not limited to the incorporation of FIEs, the acquisition of equity interests, or assets in Chinese companies.
Foreign investors and FIEs that conduct business in China must follow Chinese laws and regulations. In practice, foreign investments that fall under the Negative List go through review. SAMR or its local branches do the review during the corporate registration process.
It can also be through relevant sector regulators, or both, during the operating license approval process.
The foreign-invested enterprise covers both direct and indirect investments in the form of mergers and acquisitions. If an investor is not Chinese or is not incorporated in China, the investor is a foreign investor.
Hong Kong, Macao, and Taiwan investors are foreign investors in the foreign-invested enterprise. This means that if you are a foreign investor, you must work by the foreign-invested enterprise laws.
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What is the Foreign Invested Enterprise Screening?
Foreign investment and national security reviews are required for the foreign-invested enterprise. Foreign investment information must get to MOFCOM. Only restricted investments that have passed the review of SAMR or its local branches will get the permission.
If a foreign investor invests in a prohibited sector, the authorities may order the foreign investor to discontinue the transaction.
They may also dispose of the shares or assets acquired, or unwind the transaction. This depends on the status of the investment transaction. The foreign-invested enterprise screening is mandatory. While there is no monetary penalty for failure to notify, you may have to file a filing.
What are the Procedures for Foreign Invested Enterprise?
For the foreign investment enterprise, some procedures are set out. The following are the major steps in the review and reporting procedures –
- China has implemented a ‘national treatment plus negative list’ approach for foreign investment in China.
- During the corporate registration process, SAMR and its local branches will review the documents. These documents go through foreign investors or FIEs, or both.
- If the foreign investment falls within the restricted sectors of the Negative Lists, that’s one thing. They must then notify the authorities that they have met all applicable Negative List requirements.
- Following its review, the relevant authority will register permitted or encouraged investments. It will also register restricted investments that meet the relevant restrictions and requirements. They will reject the registration of prohibited or discouraged investments.
- Typically, initial reports and change reports should file concurrently with the corporate registration procedure. It could also be within 20 days of the occurrence of the relevant changes. That is if the corporate registration procedure is not involved.
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Prohibition and mitigation under the Foreign Invested Enterprise
The Working Mechanism may prohibit or impose remedies on a transaction under the foreign-invested enterprise. However, it is unclear what types of remedies will be acceptable in a given case.
If foreign investment in China raises national security concerns, both structural and behavioral conditions may go through investigations.
For example, the NDRC reportedly requested a national security review of Diodes Incorporated’s acquisition of Lite-On Semiconductor.
According to public sources, the Taiwan-based target eventually sold its controlling stake in a Chinese subsidiary. This was before they could obtain both merger control and national security review approval.
It is unclear whether the divestment was for Chinese authorities to facilitate the review process.
In terms of review and outcome, the foreign-invested enterprise is opaque. There is no public information on the number of transactions they have reviewed, prohibited, or mitigated.
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Prohibited sectors with the Foreign Invested Enterprise FIE
Foreign investors are not allowed to invest in 22 industries across 10 sectors. This is ranging from agriculture to information technology and scientific research. The prohibited sectors are-
- Internet news information services,
- Internet publishing services,
- Internet video and audio program services
- Development and application of diagnosis and treatment technologies related to human stem cells and genes
- Domestic express mail services
- Editing, publishing, and production of books, newspapers, periodicals, audio-visual recordings, and
- Electronic publications
There are fewer prohibited areas on the FTZ Negative List and the Hainan Negative List. Foreign investors are not prohibited from investing in artistic performance groups in FTZs and Hainan FTP.
VIE Structure of Foreign Invested Enterprise
The variable interest entity (VIE) structure allows a foreign investor to invest in restricted sectors through contractual arrangements. The foreign investor controls Chinese domestic operating companies holding the necessary licenses.
It does this through a set of legal agreements rather than sharing ownership. It is widely used in industries such as technology, education, and healthcare where they prohibit foreign investments.
Concerns are up about the enforceability and legitimacy of the VIE structure. This allows foreign investors to effectively circumvent foreign investment restrictions. The current PRC legal regime, however, remains silent on the legitimacy of the VIE structure, and the Chinese government appears to allow its existence tacitly in practice.
Summary
Given the difficulties that managers face, it is not surprising that foreign-invested enterprises in China are underperforming. According to various surveys, one-third to more than one-half of businesses are losing money. The profits for those who are profitable are slim.
Of course, one can always hope that things will get better. If efforts to eliminate corruption are successful, intellectual property violations can reduce. The legal system would get back strength and an effective workforce comes back into existence.
In all, the foreign-invested enterprise is in place for a good purpose. Its rules work tirelessly to ensure it acts out those purposes.
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FAQ
A foreign-invested enterprise (FIE) is a business structure that allows a company to invest financially in a company or project in another country. This type of business structure is most commonly used in China, but it is also used in other jurisdictions, particularly in Asia.
The Chinese government employs a system of Negative Lists to control foreign investment in ‘prohibited’ sectors. They can permit foreign investment in restricted sectors, subject to certain conditions.
Yes. Oil and gas exploration, for example, no longer requires a joint venture with a Chinese partner. Other certain financial sectors will be fully open from 51% to 100% foreign ownership in 2022.
Foreign direct investment has played an important role in the country’s economic/trade development and institutional reform. The Chinese government has already developed several FDI policies. This includes tax breaks and the Guiding Directory on Industries Open to Foreign Investment.
Yes. Purchasing stocks directly in a foreign market such as India or China is possible. Though it may be more difficult than purchasing domestic shares. Foreign investors can buy China A-shares.
China’s economy accelerated at the end of 2020, but annual growth was the lowest in 45 years due to the virus. Chinese individuals cannot invest directly in foreign stocks and bonds unless they do so through banks or qualified institutional investors. Citizens are also prohibited from exchanging yuan to purchase property abroad.
Breeding and production of genetically modified agricultural organisms and fishing for aquatic products. Exploration and mining of rare earth and radioactive minerals. Chinese herbal medicines and tobacco and cigarettes. Postal services and publishing and news
References
- nhglobalpartners.com– Foreign-invested enterprise
- eusmecentre.org.cn– How the establishment of FIE
- china-briefing.com– China new law on FIE
- jonesday.com– China new FIE law
- Image Source
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