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How Can A Foreign Investor Set up A Limited Liability Company in China?

Sun, 07 Mar 2021
Categories: Insights

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As explained in my previous post, if foreign investors wish to enter the Chinese market, they may consider setting up a branch (representative office) first. If foreign investors want to further localize their businesses in China, they may then consider setting up a limited liability company.

This post will focus on how a foreign investor should establish a limited liability company in China, i.e., a foreign-invested enterprise (FIE).

 (N.B. This post will only focus on the limited liability company and FIEs in this post only refer to the companies in the form of limited liability company.)

1. Can foreign investors establish FIEs in China? 

Yes, foreign investors may establish an enterprise either solely or jointly with other investors in China, and may also merge and acquire shares or equity of domestic enterprises in China. These enterprises include limited liability companies, joint-stock companies and partnership enterprises. However, the FIEs in this post only refers to limited liability companies.

2. Which foreign investors can set up FIEs in China?

Foreign individuals, enterprises or other organizations may set up FIEs in China.

3. Is there any statutory minimum amount of registered capital for FIEs?

It depends. 

Except for special industries, there is no statutory minimum amount of registered capital for a limited liability company in China. 

These special industries usually include the industries of banking, securities, funds, investment, insurance, publishing, construction, tourism, telecommunications, international freight or air transport, etc.

4. Is the registered capital of FIEs required to be paid in a lump sum?

No.

The registered capital shall be the capital contributions in the amount subscribed by all shareholders as registered with the company registration authority.

The shareholders shall make the capital contribution they subscribe within the time limit as specified in the Articles of Association of the company. 

In other words, the shareholders shall not be required to make the capital contribution they subscribe when the company is incorporated. Shareholders may specify in the Articles of Association any time during the business term of the Company to be the date for making a capital contribution.

5. Are there any restrictions on the sectors for foreign investment?

There are some restrictions, but the scope of which is gradually narrowing down.

Where a foreign investor intends to establish an FIE, if its business scope is not included in the Negative List (i.e., the Special Administrative Measures for Foreign Investment Access (外商投资准入特别管理措施)) promulgated by the Chinese government, the business that the FIE intends to run shall not be subject to the restrictions on foreign investors.

If its business scope is included in the Negative List, foreign investors shall be subject to the restrictions:

(1) Chinese law does not allow a foreign investor to make an investment concerning the Prohibited Sectors set out in the Negative List, such as rare earth, tobacco, traditional Chinese medicine, legal service, mapping, news, publication (including online publication), films and television, auction of cultural relics, etc.

(2) If foreign investors want to enter the Restricted Sectors in the Negative List, the FIE shall comply with the requirements for equity percentages, senior officers and other special administrative measures for restrictive access specified in the Negative List, and shall obtain approval from the Chinese government. The restrictive areas include industries of automobiles (except for new energy vehicles), nuclear power plants, air transportation, civil airports, telecommunications, etc.

The Chinese government will regularly update the Negative List to gradually narrow down the scope of restrictions. On 23 Jun. 2020, the latest version of the Negative List was published:

i. The Special Administrative Measures for Foreign Investment Access (Negative List) (外商投资准入特别管理措施, (负面清单)) (2020 Edition)

ii. The Special Administrative Measures for Foreign Investment Access in Pilot Free Trade Zone(FTZ Negative List) (自由贸易试验区外商投资准入特别管理措施, (负面清单)) (2020 Edition)

In order to circumvent the application of the Negative List, many foreign investors adopt the VIE structure, i.e., the structure whereby foreign investors control a Chinese domestic enterprise by a series of contracts, and then the domestic enterprise enters the Chinese market under regulation.

This practice is very common for TMT enterprises in China, because most of the investors in such enterprises are foreign venture capital funds. The Chinese government has long been aware of this situation, but has yet to say whether it will ban it in order to prevent a shock to the financing of TMT enterprises.

6. Is foreign investment subject to security review of the Chinese government?

It depends.

Under the following two circumstances, foreign investors shall make declarations for security review before investment:

i. where the investment involves the industry of national defense, or the investment is planned to conduct in areas surrounding national defense facilities;

ii.. where investors invest in important or key agricultural products, energy, resources, equipment manufacturing, infrastructure, transportation, cultural products, information technology, Internet, finance and technology, and obtain the de facto control of the invested enterprise. 

7. Shall the foreign investment be subject to antimonopoly review by the Chinese government?

It depends.

If the merger and acquisition of Chinese enterprises by foreign investors constitutes the concentration of business operators (CBO), foreign investors shall also report to the Chinese government and accept the review.

Under the Regulation on the Declaration Threshold for the Concentration of Business Operators (关于经营者集中申报标准的规定) promulgated in 2008, if the CBO satisfies the following conditions, the relevant business operators shall apply to the law enforcement agency for approval:

(1) the total global turnover of all business operators involved in the CBO in the previous accounting year exceeds CNY 10 billion with at least two business operators each having a turnover of more than CNY 400 million within the territory of China in the previous accounting year;

(2) the total turnover of all business operators involved in the CBO within the territory of China in the previous accounting year exceeds CNY 2 billion with at least two business operators each having a turnover of more than CNY 400 million within the territory of China in the previous accounting year.

8. Is the FIE required to have a permit to run its business?

It depends.

Except for the restricted areas specified on the Negative List mentioned above, FIEs, like domestic companies in China, are not required to apply for a permit for most of their businesses.

However, in specific industries, Chinese law requires all enterprises, be it domestic companies or FIEs, to apply for a permit before running their business, such as enterprises for catering, hotels, enterprises for recreation, and Internet, etc. If such business may exert any impact on the environment and fire safety, the applicable examination and approval shall also be required.

9. How many shareholders shall an FIE have?

If the foreign investor sets up a limited liability company, the number of shareholders should be less than 50.

If it is a joint-stock limited company, the number of shareholders should be in the range from 2 to 200, and more than half of which should have domiciles in China.

10. What kind of investment risks will the FIE shareholders be faced with?

The shareholder of a limited liability company shall be liable for the company to the extent of the capital contribution it subscribes.

This also means that if the shareholders have not actually paid up their capital contributions, and the assets of the company are insufficient to repay its debts, the shareholders shall make up the amount of outstanding capital contributions necessary to help the company to pay off the debts.

11. What kind of assets may a foreign investor use as a capital contribution?

Shareholders may make capital contributions in currency or in the non-currency property that may be valued in currency and transferable in accordance with the law, such as physical objects, intellectual property and land use rights, except for the property that may not be used as a capital contribution in accordance with the laws or administrative regulations.

12. Can foreign investors remit their investment profits out of China?

A foreign investor may, in accordance with the law, freely transfer inward and outward its contributions, profits, capital gains, income from asset disposal, royalties of intellectual property rights, lawfully obtained compensation or indemnity, income from liquidation, and so on within the territory of China in CNY or a foreign currency.

13. What items should be registered when an FIE is established?

The registered items of FIEs include: (1) name; (2) domicile; (3) name of the legal representative; (4) registered capital; (5) type of company; (5) business scope; (7) business term; and (8) name of the shareholder.

In particular, the registered capital shall be calculated in RMB. Therefore, if an FIE is invested in foreign currency, the registered capital shall also be converted into the amount in RMB.

14. How to name an FIE?

The name of an FIE shall use Chinese characters.

The name of an enterprise shall consist of four elements: (1) the administrative regions where it is located; (2) trade name; (3) characteristics of industry or business operation the FIE involves; (4) form of organization. 

For example, the company, Beijing Mercedes Benz Sales Service Co., Ltd (北京梅赛德斯-奔驰销售服务有限公司), has the said four elements.

15. What is the corporate governance structure of FIEs?

In China, the corporate governance structure consists of shareholders, directors, supervisors, managers, and legal representatives. Chinese law does not place any nationality restrictions on the candidates for these positions.

(1) Shareholders’ meeting

If a company has more than one shareholder, it shall form a shareholders’ meeting.

Voting right: the shareholders shall exercise the voting right at the shareholders’ meeting in proportion to their respective capital contributions, but other voting methods may be stipulated in the Articles of Association.

Voting method: adoption of resolutions on the following matters shall require the approval by shareholders representing two-thirds or more of the voting rights: (1) the shareholders’ meeting makes the resolution to amend the company’s Articles of Association, increase or decrease the registered capital; (2) resolution on the company’s merger, division, dissolution or change of the corporate form. The above-mentioned is a mandatory statutory requirement. Voting on other matters may be decided by the Articles of Association at the discretion of the company.

(2) Board of directors

The company can have only one executive director or a board of directors composed of 3-13 people. Company directors have a tenure of up to three years, who can also be re-elected.

Voting right: One director has one vote.

Voting method: The voting may be decided by the Articles of Association at the discretion of the company.

(3) Supervisor

The company can have only one or two supervisors, or a board of supervisors with more than three supervisors. Company supervisors have a tenure of up to three years, who can also be re-elected.

(4) Manager

A company may have manager(s) who is(are) responsible for the board of directors.

(5) Legal representative

The company must designate a person as its legal representative. The Articles of Association may stipulate that the chairman of the board or the manager acts as the legal representative.

Where the legal representative of a company is changed, the company shall go through the formalities for registration of the change.

The legal representative may express his/her intention on behalf of the company. In many cases, the government or trading partners will require the legal representative to sign the documents.

If the company is determined by the court or the government to assume liabilities, the legal representative may also be required to assume applicable personal liabilities.

16. Can FIEs be listed in China or raise funds in other ways?

The FIEs may raise funds by a public offering of shares, corporate bonds, and other securities or by other means. 

17. Can FIEs acquire land use rights in China?

Yes.

The FIEs may obtain land use rights in China, including acquiring the land use right from the government or purchasing the land use right from other enterprises.

In fact, no enterprise can own the land in China. Because the land in China is exclusively owned by the State or rural communities.

However, such kind of land use right has been very similar to “ownership”, under which FIEs may acquire the land use right granted by the land administrative departments of the governments. They may build houses on the land and enjoy the ownership of the houses, and they may also mortgage the land use right for financing.

Land use right has an effective term, such as 70 years for residential purpose, 50 years for industrial purposes, and 40 years for commercial, tourism, and recreational purposes.

Pursuant to China’s Civil Code, where the land involved is residential land, the term of the land use right can be extended automatically without application. Where it is concerned with the land for other purposes, the land use right holder may apply for an extension of the term.

18. Will FIEs be expropriated by the Chinese government?

It depends.

In accordance with the law, generally, the State shall not expropriate the investment of foreign investors. However, under special circumstances, the State may expropriate or requisite an investment made by foreign investors for public interests in accordance with the law. Such expropriation or requisition shall be made pursuant to statutory procedures and fair and reasonable compensation will be given in a timely manner.

19. Shall FIEs establish trade unions?

Workers and staff members of FIEs have the right to establish trade unions in accordance with the law.

In the case that an enterprise has more than 25 trade union members, it shall establish a primary trade union committee (the “primary trade union”); in the case that it has less than 25 trade union members, it may establish a primary trade union or elect one coordinator.

Local trade unions at all levels shall be established in places above the county level. All-China Federation of Trade Unions shall be established uniformly by the State. If a trade union member in an enterprise wants to set up a primary trade union, he/she must report it to the trade union at the next higher level for approval.

Contributors: Guodong Du 杜国栋

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