Guidance over which forms of foreign investment are favoured by China, and which are not, is not a new phenomenon. In 1995, it was formalised by the State Planning Commission in the Directing of Foreign Investment Tentative Provisions and related Foreign Investment Industrial Guidelines. Now China's Ministry of Foreign Trade and Economic Cooperation (Moftec) has issued a follow-up internal notice to all local foreign investment approval authorities.
Entitled the Opinion on Guiding the Work of Examining and Approving Foreign Investment Enterprises, the notice is the product of a 1996 government work conference convened by China's foreign investment approval authorities. Its purpose is to answer some of the questions which have arisen in the course of implementing the earlier regulations.
The opinion takes the form of a working document rather than a law or set of regulations. Government approval agencies at both the state and local levels are intended to refer to it when considering proposed foreign investment projects – at least until 'any relevant laws or regulations are formally issued or amended.
The dirty dozen
The opinion only addresses 12 specific industry sectors. The choice of these industries may reflect those sectors where local policies are seen to be to most at variance with central government policies. Certainly, projects in at least some I of these sectors have been considered by local approval authorities to fall within the limits of their authority, regardless of their total investment amount; Moftec would seem to hold another view.
The first part of the opinion addresses the 12 sectors in turn. It reminds the authorities of the State Planning Commission approval categories, ranging from 'encouraged' to 'restricted category B', depending on the degree to which foreign investment is permitted within any given industry. The opinion pays special attention to the scope of business for foreign investment enterprises operating in these sectors, as well as the conditions which they must meet before they are approved.
Next, the opinion discusses the approval policies and procedures related to several 'sensitive' types of investment vehicle. These include companies limited by shares, investment companies and the transfer of shares from existing enterprises. On these matters, Moftec takes the following stances:
* Companies limited by shares must be 'strictly scrutinised' by government approval authorities. At present, joint ventures and other foreign investment enterprises should not act as the sponsors of foreign investment enterprise companies limited by shares. The opinion also touches on the question of foreign companies acquiring 'legal person shares' in an unlisted Chinese partner to a listed company, reiterating Beijing's ban on these transactions.
* Investment companies are already the subject of Moftec rules, but the opinion includes a number of explanations aimed at addressing various problems encountered by local authorities in applying them. For example, the business scope of investment companies is already covered in the Establishment of Companies with an Investment Nature by Foreign Investors Tentative Provisions and their accompanying explanation. Now, in the opinion, Moftec puts a gloss on certain activities an investment company may carry on in relation to that scope.
An investment company may establish warehouses and collect warehousing fees when acting as an agent for the purchase and sale of items by its invested enterprises. It may purchase property for its own use, although it may not engage in the business of property transfers or rentals. And an investment company may conduct research and development, technology services and other services, as long as it does not engage in production-oriented activities.
* Transfer of shares from an existing enterprise raises a number of problems, of which some are addressed. In particular, the opinion grapples with the problem of how such a transfer involves 'foreign investment'. On a transfer, payment is made directly to the Chinese parent for its investment in an existing domestic enterprise. The foreign party makes no direct investment in the enterprise transferred, so it is difficult to regard it as a 'foreign investment enterprise under China's joint venture laws. Fortunately, the opinion is happy to perform a sleight of hand and believes that the foreign investor 'will use the equity interest in the existing enterprise that it has purchased as a capital contribution'.
Breaking new ground
Many foreign investors have questioned whether foreign investment enterprises will be allowed to grow as their business expands, or whether capital injections will be held back by approval authorities. The third part of the Moftec opinion relates to this topic.
The opinion states that, in general, an increase in the capital of the foreign investment enterprise may be examined and approved by the original approval agency, providing the increase does not cause the amount of the enterprise's total investment to exceed the limits of the approval authority of that agency. In other words, foreign enterprises which were originally approved by a local agency will need to apply to the provincial or central-level agencies for approval if a planned capital increase pushes the amount of the enterprise's total investment over US$30m.
The Moftec opinion may not be the first of its kind, but it will play a special role in foreign investment approval work throughout China in the coming months, perhaps years. In many cases, the policies and requirements it sets out are not new, but foreign investors are likely to find it helpful to have a document to which they may refer when completing their project approval procedures. Other areas of the opinion break new ground and are likely to foreshadow the contents of more formal regulations yet to be created. In either case, investors will want to refer to this document before launching new projects, or expanding existing ones.
Freshfields is an international law firm. Most of its offices throughout Asia, Europe and North America include China specialists. For further details, contact Matthew Cosans through its office in Hong Kong, tel. (852) 2846 3400 or Doug Markel in Beijing, tel: (86) 10 6410 6338.