How will the new PRC Foreign Investment Law impact your company

Effective from 1st January 2020, the new PRC Foreign Investment Law (hereinafter ‘new FIL’) and its implementing regulations have raised considerable interest internationally and opportunities for foreign investors to China have started to increase. Under the new FIL, cooperation between Chinese and foreign investors has become more diversified, and a larger umbrella to foreign-invested companies has been built up to protect their investors. 

With the implementation of the new FIL, the three laws regulating foreign-invested enterprises, namely Law on Sino-Foreign Equity Joint Ventures, the Law on Wholly Foreign-Owned Enterprises, and the Law on Sino-Foreign Cooperative Joint Ventures (collectively also called the 'Three FIE Laws’), have been abolished at the same time. Thus, foreign-invested enterprises established after 1st January 2020 are governed by the Company Law and the Partnership Enterprise Law, while foreign-invested companies established before 1st January 2020 have a five-year transition period to comply with the new requirements of FIL.

Equal treatment

The new FIL is carried out with the objective of promoting a transparent and robust framework for foreign investments in China, in order to expand market access and promote foreign investment, and further protect the rights and interests of foreign investors. Despite this, some industries remain off limits to foreign investors such as mining, the sale of tobacco, books and newspapers etc. The new law provides an equal platform for foreign investments that are not on the Negative List (‘Special Administrative Measures for Foreign Investment access’) ensuring that both foreign and Chinese investors can compete with an equal footing in China, including equal access to governmental support, market entry, fund-raising opportunities and equal weight in rulemaking specifically. With equal treatment of foreign investors, a more friendly business environment would be set up to attract increasing foreign investment into the China market.

Investment protection

The new FIL emphasizes the protection of foreign investors’ intellectual property rights to address a major concern or key focus of foreign investors. Under the new law, the administrative authorities and their staff members are not allowed to force technology transfer by administrative means, and they must keep trade secrets of foreign investors or foreign-invested enterprises. The provisions of the current regulations on cross-border technology transfer and licensing are likely to require corresponding amendments as well. Additionally, foreign investors will also be able to remit more types of profits across borders, highlighting the willingness of China to financially open the country.

Additionally, the new law promotes the ‘free’ foreign exchange settlement of capital injection, profits, capital revenues, assets disposal incomes, royalty fees, compensation, indemnity, and liquidation process etc.

In short, the Chinese authorities have a great willingness to attract foreign investment, and consequently, the new FIL is carried out to expand the market access for foreign investors, with equal treatment similar to domestic companies and investment protection such as intellectual property rights provided to investors.

Changes

Given the new FIL published and three FIE Laws abolished, several changes would apply to both domestic and foreign investors with a significant impact especially on Joint Venture companies. The formation of foreign investment would become more diversified, with a more friendly business environment for foreign investors to boost the investment in China.

1. Chinese individuals are opened to jointly fund with foreign investors. 

Previously, only Chinese companies could become shareholders of a Sino-Foreign Joint venture (up to 75% of the equity), while Chinese individuals are not listed as investors under Three FIE Laws, which set big obstacles to Chinese individuals becoming investors with foreign investments. Under the new FIL, Chinese individuals can collaborate with foreign investors to fund an enterprise with no ownership limitation, which as a result will highly increase the passion as well as cooperation between investors.

2. Sino-Foreign Equity Joint Ventures (EJV) or Sino-Foreign Cooperative Joint Ventures (CJV) are no longer the formation of foreign-invested enterprises.

To make foreign-invested enterprises and domestic enterprises more equal, foreign-invested companies will have to comply with the PRC Company Law, in accordance with their corporate structure and governance, same as domestic companies. Meanwhile, there would only be a limited liability company, company limited by shares, and a partnership as a formation of foreign invested enterprises. EJV, or CJV would not be applicable anymore according to the new FIL.

At the same time, Negative List to foreign investors is squeezed, with a decreasing list of industries prohibited from sole foreign investors. For example, certain financial sectors (securities, futures, and life insurance) will be fully open from 51% to 100% foreign ownership in 2021, and for such types of businesses a Chinese investor (i.e., in a formation of joint venture) is no longer a mandatory requirement.  

3. Board of directors are no longer the highest authority.

Same as domestic companies, the highest authority in a foreign-invested enterprise would be the investor(s) under the new FIL, which will be aligned with the PRC Company Law and Partnership Law as well.

Specifically, all major issues such as change of articles of association, increase and decrease of registered capital, merger or spin-off and dissolution are free to be agreed upon by shareholders representing at least 2/3 of voting rights, while it was decided by the board of directors unanimously in the past.

Other important changes are related to the profit-sharing rules which can be set in proportion to the capital contribution or otherwise agreed upon by the shareholders as well as the abolishment of restrictions on equity transfer which no longer requires the unanimous approval of the other shareholders.

The new FIL offers a more sophisticated and flexible organisational and corporate governance structure aiming at facilitating the formation and cooperation between Chinese and foreign investors.

4. Reporting in lieu of pre-approval 

To simplify the administrative procedures for foreign-invested enterprises, information reporting systems will take the place of pre-approval from local authorities based on the new FIL. With the new FIL coming into effect, foreign-invested enterprises will no longer need to get approval from the Ministry of Commerce for any company incorporation or legal structure updates.

Foreign investors are now only required to report certain information to the Ministry of Commerce on the establishment and operation, given that information-sharing platform between several authorities. This reduces the role of the Ministry of Commerce as a gatekeeper against foreign investors.

In practice

Starting from 1st January 2020, local authorities gave a five-year transition period to existing foreign invested enterprises to comply with the new FIL considering the practical situation for enterprises. During the transition period, companies are encouraged to make applicable and appropriate conversion to their current corporate form, article of association as well as shareholders agreement (if any). This makes foreign and domestic investors comply with the same rules under the PRC Company Law and Partnership Law on corporate governance, voting, share transfers, profit sharing and so forth.

While any foreign-invested enterprises established on or after 1st January 2020 will have to comply with the PRC Company Law, as to their corporate structure and governance (Article 31). 

Finally, under the new FIL, many foreign-invested enterprises, especially existing joint ventures, may face the challenge to renegotiate the terms of their shareholder agreement and define the new corporate governance structure to meet the requirements of the new FIL and reflect the relevant provisions in their articles of association (and/or joint venture contracts).

How can Hawksford help?

Hawksford is an established provider of company registration and outsourced corporate services in China. With more than 100 multilingual professionals based in five offices, we can offer the very best local knowledge to our international clients and provide them with comprehensive introductions to the several local and international banking institutions we’ve had the pleasure of cooperating within the last decade.

We assist companies with a wide range of corporate services including WFOE set-up, Joint Venture set-up, draft of article of association according to the new legal framework and the requirements of our multi-national clients.

We have consolidated experience in advising clients regarding legal structure changes, corporate governance, compliance, and internal control offering a wide range of customised solutions.