Four China Company Structures

The following article on establishing a legal framework for doing business in China is reproduced by courtesy of ICS Trust. You can email Daniel Booth at dbooth@icstrust.com or download the full ICS brochure. Also see their comments on opening an office in Hong Kong. We do not take any liability for the accuracy of material supplied by third parties.

REPRESENTATIVE OFFICE (RO)

Representative offices are relatively easy to establish when compared to other FIEs in China. ROs can provide the foreign company with a presence in China but are not separate legal entities from the parent. In fact, the Chinese government does not recognize ROs as formal structures and as such, these forms of FIEs are quite restricted.

ROs can conduct indirect business activities such as serving as a local support centre for Chinese customers, quality control, sourcing, or as a liaison for Chinese suppliers. It is important to note that ROs are restricted from direct trading or distribution activities in China and are not allowed to issue invoices or receive payments.

WHOLLY FOREIGN-OWNED ENTERPRISE (WFOE)

WFOEs are legal entities in China that are 100% funded by foreign investors. A WFOE can provide the foreign investor with full autonomy as well as increased protection of trade secrets. However, there are still many industry sectors that currently restrict the establishment of WFOEs. These restrictions are expected to loosen as the Chinese government continues to liberalize the country’s investment environment for foreign capital.

WFOEs provide investors with full domestic retail and wholesale distribution rights and remove the need for a Chinese partner in many industry sectors. As a consequence, WFOEs have become the most popular FIE currently being used by international investors.

For foreign-investment purposes, in June 1995 the Chinese government promulgated the ‘Interim Provisions for Guiding Foreign Investment’ and the ‘Industrial Catalogue for Foreign Investment’. Investment projects are divided into four categories: prohibited, restricted, permitted and encouraged. Foreign investment projects that fall within the “permitted’ and “encouraged” categories will be prioritized for approval as long as government financing is not required for the project. Projects that fall within the “restricted” category are subject to more stringent scrutiny and must pass through the government’s assessment and approval system before being established. The “prohibited” category accounts for industry sectors that are still closed to foreign investors.

Those foreign investment projects under one of the following headings will be listed as “prohibited”:

Those projects that endanger state security and damage the public interest;
That cause environmental pollution and damage natural resources and public health;
That use large farmland and are unfavorable to the protection and development of land resources;
That endanger the security and normal function of military facilities
That adopt the unique craftsmanship or technology of the country to make products; and
Other cases that are regulated by the laws and administrative regulations of the State.

JOINT VENTURES Equity Joint Venture (EJV)

EJVs formed between a foreign and Chinese partner are often set up with specifi c objectives such as manufacturing and are typically used for long-term projects. EJVs are limited liability companies with liabilities limited by the amount of the investment. They must be registered as a legal entity in China, which gives them specifi c abilities including the right to legal action against other entities or persons in a Chinese court. In common practice, both partners contribute capital to acquire equity of the EJV and the relevant equity contributions will determine their share of the results, with the foreign partner contributing at least 25% of total equity.

EJVs have full domestic retail and wholesale distribution rights in China, but since China fulfi lled its WTO obligations by allowing wholly foreign-owned enterprises (WFOEs) to fully engage in domestic retail and wholesale operations, there continues to be a decline in the popularity of EJV setups.

Co-operative Joint Venture (CJV)

CJVs are also commonly referred to as contractual joint ventures. They are used for shorter-term projects, and can be registered as legal entities with limited liability although there is no obligation to do so. If the company does decide to register as a legal entity, the foreign partner must contribute at least 25% of the registered capital. CJVs are similar to EJVs but differ in that the obligations of each party are established by contract which provides the partners with more flexibility in negotiating the terms of the agreement. In common practice, the foreign partner provides funding, production technology and management skills while the Chinese partner contributes resources such as land and buildings.

CJVs also have full domestic retail and wholesale distribution rights in China, but as with other forms of joint ventures, they are waning in popularity as WFOEs with full distributional capabilities gain popularity.