Foreign Acquisitions and Joint Ventures in China Introduction

Foreign Acquisitions
and Joint Ventures in China
Li Jiao and Bart Kasteleijn
HIL International Lawyers & Advisers
Amsterdam/ Shanghai
Since the introduction of the economic reform and opening-up policy
in China in the late 1970s, 1 the country has been quite successful in
attracting foreign investment. As a matter of fact, the People’s Republic of China (PRC) has remained in the top three after it overtook the
United States to become the world’s largest foreign direct investment
(FDI) recipient back in 2003.
In spite of the global recession, China’s economy grew 8.7 per cent
in 2009, with a 9.5 per cent GDP growth at the time of writing in
2010. 2 As one of the largest transitional economies, the impressive
performance of the Chinese market during the recent financial crisis
has shown its potential and energy. This explains why inbound investment in China keeps on growing amidst gloomy economic results in
most of the world.
According to an UNCTAD report, the outlook of FDI in China
remains relatively optimistic, while the global FDI flows were dropping in 2009. China and Hong Kong are among the handful of
economies that continued to get larger capital inflows in the last quarter of 2009 than the quarterly average of 2007. 3
When it comes to FDI, foreign investors would prefer cooperating
with local partners to setting up a wholly owned business, in hopes of
enjoying commercial benefits from using the business network, goodwill, and know-how of local partners. Foreign investors also would
In this chapter, China refers to Mainland China, excluding Hong Kong, Macao,
and Taiwan.
World Bank Office, Beijing, “China Quarterly Update” (March 2010), at
UNCTAD Global Investment Trends Monitor at
Foreign Acquisitions and Joint Ventures in China
have to cooperate with a local party in a foreign investment enterprise
(FIE), subject to certain legal restrictions under PRC law. Some industries are restricted for foreign investors, such as the development and
production of seeds and processing of edible oils from soybeans.4
Without cooperation with Chinese partners, foreign investors are not
allowed to invest in these restricted industries.
The cooperation can be formed primarily in two ways: acquisitions
and new (greenfield) capital investment. Despite its popularity worldwide, the acquisition has not yet become the prevailing way for
industrial business to enter into China, but may do so. Compared with
greenfield investments, acquisitions by foreign companies are more
vulnerable to domestic competition and local uncooperativeness and
may be rejected or hindered on political grounds, rather than on legal
merits. In comparison, greenfield investment usually attracts less
attention from political and regulatory bodies and will be approved
more easily.
Furthermore, with the introduction of regulations on foreign-invested partnership enterprises, partnership joint ventures
(PJVs) have become available for foreign investors. This new investment vehicle provides more leeway for foreign investors compared
with the traditional instruments: the equity joint venture (EJV) and the
cooperative (also called a contractual joint venture – CJV).
This chapter first provides a brief introduction on the law and practice of foreign investment in general and then discusses acquisition.
Next, joint ventures in China are explained, with emphasis on the corporate governance of the EJV. Finally, the new investment vehicle, the
PJV, is highlighted.
Overview of Regulations on Foreign Direct Investment
Foreign Investment Industry Catalog
Foreign investment activities in China are highly regulated. Not all
industries are available for foreign investment. According to the Provisions on Guiding Foreign Investment Direction, issued by the State
Council on 11 February 2002 and effective from 1 April 2002, foreign-invested projects are divided into four categories: encouraged
Under the Foreign Investment Industrial Guidance Catalog, these two businesses
are categorized as restricted industries for foreign investment, requiring PRC
investors having a controlling interest in FIEs.
Li Jiao and Bart Kasteleijn
industries, permitted industries, restricted industries, and prohibited
industries. 5
The Foreign Investment Industrial Guidance Catalog (the Catalog)
is issued by the National Development and Reform Committee
(NDRC, formerly called the National Development Planning Commission) and the Ministry of Commerce (MOFCOM, formerly called
the Ministry of Foreign Trade and Economic Cooperation or
MOFTEC) and amended by the same authorities from time to time. 6
The Catalog sets out the industries falling within the encouraged,
restricted, and prohibited categories, respectively. Industries not
listed are considered to be in a default category normally referred to as
“permitted”, and are open to foreign investment unless otherwise
specified in other PRC regulations.
The Encouraged Category
The encouraged category contains 351 industrial areas. In a number of
industries, the business entity is limited to an EJV or a CJV, or to an
EJV and a CJV. In line with China’s World Trade Organization (WTO)
commitments, the service sector has been opened wider to foreign
investors in certain new areas, notably “modern logistics” and
“outsourcing services”, which were recently added to the encouraged
The Restricted Category
The restricted category contains eighty-seven industrial areas. As in
the encouraged category, the business entity is limited to an EJV or a
CJV, or to an EJV and a CJV in a number of industries. In some industries, the Chinese party will hold the controlling stakes or the relative
controlling stakes.
In several industries, the requirements of foreign investment ratio
are detailed. These industries include the domestic business and international business in basic telecommunications (where the foreign
equity stake limit is forty-nine per cent); insurance (where the foreign
equity limit in life insurance companies is fifty per cent); securities
companies, confined to A share consignment-in, B share, H share, and
Provisions on Guiding Foreign Investment Direction, Article 4.
The newly revised version of the Catalog was issued on 31 October 2007. This
marks the fourth revision to the Catalog since its first promulgation in 1995 (the
previous revisions occurred in 1997, 2002, and 2004, respectively).
Foreign Acquisitions and Joint Ventures in China
government and company bonds consignment and transaction (where
the foreign equity limit is one-third); 7 and securities investment fund
management companies where the foreign equity stake is limited to
forty-nine per cent. 8
Under the PRC Securities Law, the term “securities company”
refers to a limited-liability company or a stock-listed company that
has been established and engages in the business operation of securities.
A securities company may undertake some of or all of the following business operations: (a) securities brokerage; (b) securities
investment consulting; (c) financial advising relating to activities of
securities trading or securities investment; (d) underwriting and recommendation of securities; (e) self-operation of securities; (f)
securities asset management; and (g) any other business operation
concerning securities.
The Prohibited Category
The prohibited category comprises forty industrial sectors, highlighting two overriding policy objectives of the Chinese government: (a)
control and elimination of investment in environmental unfriendly
industries; and (b) prohibition of foreign participation in industries
that are deemed to be politically sensitive.
Compared with the previous version of the Catalog, the “scientific
research, technical service, and geological exploration industry” 9 are
important additions to the prohibited category.
In the culture, sports, and entertainment sectors, radio and television program production and operation companies as well as film
production companies have been upgraded from the restricted category to the prohibited category, as have, for example, the construction
Shares on the Shanghai and Shenzhen stock exchanges refers to shares that are
traded in Renminbi. Some shares on the two stock exchanges in Mainland China,
known as B shares, are traded in foreign currencies. H shares refer to the shares of
companies incorporated in Mainland China that are traded on the Hong Kong
Stock Exchange.
Under the PRC Law on Funds for Investment in Securities, a fund management
company is one that manages the raising of capital for investment in securities by
openly selling fund units.
This phrase is not clearly defined, but is likely to cover a variety of activities
ranging from development and application of human stem cells, gene diagnosis
and treatment technology, to geographic surveys, marine mapping, aerial survey
mapping photography, administrative boundary mapping, relief map
compilation, and electronic navigation map compilation.
Li Jiao and Bart Kasteleijn
and operation of golf courses. Foreign investment in news websites,
Internet-based video and audio program services, business premises
for Internet access services, and Internet cultural operations also have
been added to the prohibited category, underscoring the more tight
control of the Chinese government over foreign participation in
Internet-based news and cultural services.
Variable Interest Entity
In an effort to circumvent the legal obstacles and invest in industries
listed in the restricted or prohibited category, such as Internet-based
services, investors create the so-called variable interest entity (VIE)
structure. 10 SINA, SOHU, and Baidu 11 are only a few examples of
companies that have gone public in the United States by using this
The VIE structure involves an offshore entity owned at least in part
by PRC entrepreneurs. International investors make their investment
in the offshore entity. The offshore entity owns a PRC subsidiary,
called a wholly foreign-owned enterprise (WFOE), which is a party to
a web of contracts with the PRC operating company. The contracts
shift the bulk of the economic benefits and obligations of the operating company to the WFOE and thus (indirectly) to the offshore
investors. Some of the operating assets and personnel also may be
transferred to the WFOE, depending on applicable regulations.
In most cases, the web of contracts results in the WFOE having
effective control over the PRC operating company, or at least over
major decisions, and the operating company’s financials will be consolidated with those of the FIE under the Variable Interest Entity
Consolidation Rules (FIN 46R) issued by the Financial Accounting
Standards Board. 12
Governing Law of Foreign Direct Investment
China does not have unified private international legislation. Instead,
the rules on the applicable law are scattered among many statutes,
administrative regulations, and judicial interpretations. With respect
The VIE structure also can be used by other PRC companies, regardless of
whether or not they are in a restricted industry.
The three companies are all well-known Internet companies in China.
“ C h i n a R i s i n g ” , I n v e s t o r R e l a t i o n s St r a t e g i c C o m m u n i c a t i o n s , a t
Foreign Acquisitions and Joint Ventures in China
to the applicable law in FDI, most Chinese legislation subjects corporate and regulatory matters to the jurisdiction of PRC law. According
to the PRC Contract Law, PRC law will apply to EJV and CJV contracts. 13
Furthermore, the Provisions on Mergers and Acquisitions of
Domestic Enterprises by Foreign Investors (the M&A Rules) also provide that agreements on asset acquisition will be governed by PRC
law. These principles have been strengthened by the Provisions on
Several Issues Concerning the Application of the Law in Trials of Foreign-Related Civil and Commercial Contract Disputes (the SPC
Provisions) issued by the Supreme People’s Court. According to the
SPC Provisions, agreements on EJVs and CJVs, share transfer agreements, and share purchase agreements will all be governed by PRC
law. Any circumvention of the mandatory application of PRC law is
null and void.
Applicable Regulations and Authorities
Applicable Regulations
To cooperate with their Chinese peers, foreign investors have three
alternatives: EJVs, CJVs and — since 2009 — PJVs. There is a statute
regulating EJVs, the PRC Sino-Foreign Equity Joint Venture Law (the
EJV Law),14 and one regulating CJVs, the PRC Sino-Foreign Cooperative Joint Venture Law (the CJV Law).15 These two statutes prevail over
the PRC Company Law in case of any inconsistency. In addition to
these statutes, MOFCOM and the State Administration of Industry and
Commerce (SAIC) have both issued and updated multiple regulations.
MOFCOM and SAIC further clarify this issue in the Implementing
Opinions on Several Issues Concerning the Application of the Law in
the Administration of the Examination, Approval, and Registration of
Foreign-Invested Companies (Rules Number 81) on 24 April 2006.
According to Rules Number 81, the ranking of the relevant statutes
and regulations is as follows: (a) the EJV Law and the CJV Law; (b)
PRC Contract Law, Article 126. In the case of Sino-foreign EJV contracts,
Sino-foreign CJV contracts, and contracts for Sino-foreign cooperative
exploration and exploitation of natural resources performed within the
boundaries of the People’s Republic of China, the law of the PRC applies.
The EJV Law was promulgated by the National People’s Congress in 1979 and
was revised by the same authority in 1990 and 2001, respectively.
The CJV Law was promulgated by the National People’s Congress in 1988 and
was revised by the same authority in 2000.
Li Jiao and Bart Kasteleijn
the PRC Company Law and the Registration Regulations issued by the
national SAIC; and (c) in the absence of the provisions (a) and (b),
other subalternate administrative regulations prevail. 16
There is no statute on PJVs; alternatively, reference is always made
to the Partnership Enterprise Law. 17 Furthermore, the national SAIC,
as the competent authority, also has issued rules on foreign-invested
partnership enterprises.
There are two types of basic approval requirements for a foreign
investment project: (a) project approval by NDRC or its local counterparts; and (b) investment approval by MOFCOM or its local
counterparts. MOFCOM is the principal authority responsible for
approving the application of EJVs and CJVs. NDRC also plays a
prominent role in approving the application of foreign-invested enterprises (FIEs), including EJVs and CJVs.
According to the Administration of the Verification of Foreign-Invested Projects Tentative Procedures (the NDRC Measures), 18
almost all foreign-invested projects, such as the establishment, share
transfer, and the increase in registered capital of an FIE, require the
approval of the competent NDRC. 19
Currently, if the total investment amount for foreign investment in
the encouraged or permitted industries is US $300-million or more,
the projects must obtain approval from the central NDRC and
MOFCOM. 20 In the case of foreign investment in the restricted industries, the project must obtain approval from the central NDRC and
MOFCOM if the total investment amount is US $50-million or more.
SAIC and its local counterparts are the registration authorities.
Separately, according to the designation of the State Council, SAIC is
Rules Number 81, Article 1.
The Partnership Enterprise Law was promulgated by the National People’s
Congress in 1997 and was amended on 27 August 2006. This law took effect on 1
June 2007.
The NDRC Measures were issued on 9 October 2004 and took effect on the same
NDRC Measures, Articles 2 and 18. The approval authority in this case could be
the national NDRC or a local NDRC, depending on the investment amount of the
relevant FIE.
SAIC, “Several Opinions on Fully Making Use of the Industry and Commerce
Administrative Functions in Order to Better Serve the Development of
Foreign-Invested Enterprise” (7 May 2010).
Foreign Acquisitions and Joint Ventures in China
in charge of reviewing the application of PJVs. Therefore, the national
SAIC also has issued detailed rules on the administration of PJVs.
Acquisition by Foreign Investors in China
Economic Background
In 2007, the minister of MOFCOM said that merger and acquisition by
foreign investors in China was still in its infancy. According to the statistics, in 2007, 1,274 foreign-invested enterprises were established
by way of mergers and acquisitions, accounting for a mere 3.1 per cent
of the total number of FIEs. The amount of foreign capital actually
used was US $1.8-million, which accounts for only 2.2 per cent of the
total amount.
Recently, the Chinese government vowed to vigorously support the
participation of foreign investors in the restructuring, reform, merger,
and reorganization of domestic enterprises in the form of equity acquisition. 2 1 Thus, it is foreseeable that acquisitions of domestic
companies will become an increasingly popular investment vehicle
for foreign investors.
Key Government Agencies
The agency with the most prominent role in the acquisition process is
MOFCOM, which has the primary responsibility for supervising foreign-related transactions, and it is involved in all transactions. It is
China’s primary foreign investment regulator and approval authority.
NDRC also plays a vital role in the acquisition process. It is responsible for both approving and verifying foreign investment project
applications and supervising the restructuring of state-owned enterprises.
The State-Owned Assets Supervision and Administration Commission (SASAC) also is an important agency in a foreign acquisition
process. It is responsible for both approving foreign investment project applications and supervising the restructuring of state-owned
enterprises and assets. It closely monitors transaction values and
SAIC, “Several Opinions on Fully Making Use of the Industry and Commerce
Administrative Functions in Order to Better Serve the Development of
Foreign-Invested Enterprise” (7 May 2010).
Li Jiao and Bart Kasteleijn
payment schedules. It may act as both regulator and vendor through
one of its designated agencies or companies.
The China Securities Regulatory Commission (CSRC), which is
responsible for monitoring and regulating China’s capital markets,
will be involved in transactions targeting listed companies. As acquisitions involving listed companies become more common, CSRC will
play a greater role in the merger and acquisition process.
In addition, inbound monetary exchange control makes the State
Administration of Foreign Exchange (SAFE) an important authority
in acquisition practices. Under the M&A Rules, when the approval
authority decides to approve a foreign investor to purchase the shareholders’ equity in a domestic company, it must simultaneously make
copies of the relevant approval documents separately to SAFE at the
equity transferor’s locality. The local SAFE will issue the relevant
certificate on registration of share transference of foreign exchange
earnings and foreign exchange from foreign investment, which is the
valid document to prove that the foreign investor has paid the consideration for an equity subscription. 22
Regulations on Acquisitions by Foreign Investors in China
In General
A foreign investor pursuing an acquisition transaction in China has a
choice between an equity purchase, an asset acquisition, or a statutory
merger. All three forms of acquisition are recognized by PRC law. The
preferred acquisition method will depend on various considerations, such
as the financial status of the target, the required governmental approvals,
the transaction time, and the tax consequences of the structure.
The targets of acquisition by foreign investors can be domestic
companies, FIEs, state-owned companies, and listed companies.
There are specific regulations for each of these transactions.
Acquisition of Domestic Companies
The M&A Rules are of paramount importance in this area. The M&A
Rules were jointly issued by MOFCOM together with five other
authorities: SAIC, SASAC, SAFE, CSRC, and the State Administration of Tax (SAT) on 8 August 2006 and became effective on 8
September 2006. Due to the implementation of the Antimonopoly
M&A Rules, Article 25.
Foreign Acquisitions and Joint Ventures in China
Law (AML) of the PRC, the M&A Rules were further amended by
MOFCOM on 22 June 2009. The major features relating to the M&A
Rules are addressed in the following paragraph.
Application Scope of the Provisions on Acquisitions of Chinese
Enterprises by Foreign Investors
Under the M&A Rules, a foreign investor may acquire or increase an
equity interest in a PRC target company in the following two ways:
equity acquisition and asset acquisition.
For the purpose of the M&A Rules, an equity acquisition means a
foreign investor’s purchase of the equity of a shareholder in an enterprise that is not foreign-invested (a domestic company) or
subscription to a domestic company’s capital increase, resulting in the
conversion of the domestic company into a newly established FIE. In
the case of equity acquisition, the acquired company has the same status with respect to its debts and claims as before the acquisition.23
For the purpose of the M&A Rules, an asset acquisition means the
acquisition of the assets of domestic companies by FIEs or by foreign
investors intending to set up FIEs with the assets so acquired. In the
case of asset acquisition, the debts and claims stay with the domestic
company instead of being transferred to the acquiring company. 24
In the case of an asset acquisition, the foreign investor cannot use
the acquired assets for business purposes before an FIE vehicle is
established in China. 25 Foreign investors are not allowed to operate
domestic assets.
Industrial Control The M&A Rules explicitly state that the foreign investor’s acquisition of domestic enterprises must comply with
the requirements stipulated by laws, administrative regulations and
rules of China, and with policies concerning industry, land, and the
According to the Catalog, a merger or acquisition in an industry
where a foreign investor is not allowed to operate may not result in a
foreign investor holding the enterprise’s entire equity. In an industry
that needs Chinese participation, the Chinese party will maintain its
participation in the enterprise after the enterprise in that industry is
M&A Rules, Article 13.
M&A Rules, Article 13.
M&A Rules, Article 23.
Li Jiao and Bart Kasteleijn
acquired. A foreign investor is not allowed to acquire any enterprise in
an industry where operation by a foreign investor is forbidden. 26
The business scope of the enterprise previously invested by the
merged domestic enterprise must meet the relevant requirements on
foreign investment industrial policies; it will otherwise be modified
accordingly. 27
Payment of Consideration
In General
The payment of consideration can be made in two ways.
Forms of Consideration The foreign investor is allowed to make
payment of consideration in the form of cash, assets, 28 and/or shares
in a company listed on a stock exchange with a sound regulatory system, 29 or shares in a special purpose vehicle (SPV). 30
Under the M&A Rules, the consideration is not allowed to be notably lower than the valuation of the equity as determined by a qualified
Chinese valuator. In the event that the transaction involves
state-owned equity, the equity must be valued by a valuator specialized in appraising state-owned assets, and the report must be filed with
or approved by SASAC. 31
Generally, the M&A Rules provide that the investor must effect
payment of the consideration in full within three months from the issuance of the business license of the resulting FIE; otherwise, if
approved by the relevant authorities, payment of sixty per cent of the
consideration may be effected within six months and the balance
within one year from the issuance of the business license of the FIE.
However, the rules impose a shorter schedule on acquisitions affected
by capital increase of the target. In such cases, the foreign investor
must pay not less than twenty per cent of the capital increase when the
target applies for a new FIE business license.32
Pursuant to the Circular on Relevant Issues Relating to the Administration on Approval Registration, Foreign Currency, and Taxation of
M&A Rules, Article 4.
M&A Rules, Article 4.
M&A Rules, Article 16.
M&A Rules, Article 28.
M&A Rules, Article 39. An SPV refers to an overseas company directly or
indirectly controlled by a domestic company or a Chinese natural person to
realize the interests of a domestic company actually owned by the domestic
company or Chinese natural person by means of overseas listing.
M&A Rules, Article 14.
M&A Rules, Article 16.
Foreign Acquisitions and Joint Ventures in China
Foreign Invested Companies (Circular 575), 33 in the event that the
payment of consideration has not been made in full, the foreign investor will only be entitled to the profit proportionate to the percentage of
its payment. In addition, the foreign investor will not be allowed to
exercise its decision-making power in relation to the target company,
if any, and cannot consolidate the assets of the target company into its
own financial statement. 34
Commercially Impractical Payment Time Limits Under the M&A
Rules, all purchase consideration must be paid to the sellers within
three months. Although extensions are permitted with special
approval and there is some flexibility as to the form of consideration,
this creates a certain tension with commercial realities, impacting
many merger and acquisition deals in China.
In particular, unless ameliorated in the future implementing rules,
this requirement will pose a barrier to arrangements allowing the
buyer to a holdback (escrow) and to an earnout period. These payment
structures are frequently utilized by buyers to help manage the risks of
acquiring targets with compliance or structural problems, or targets
that are dependent on key individuals for a successful transition.
Share Swaps by Foreign Purchasers
In General A welcome development of the M&A Rules is found in
Part Four (Use of Equity as the Method of Payment in the Acquisition
of a Domestic Company by a Foreign Investor), which contains
detailed regulations governing share swaps between foreign purchasers or SPVs and the shareholders of the domestic target. An acquisition paid for with foreign-listed shares is only permitted, however, in
the case of share deals in a merger or acquisition.
Qualifications of Purchaser
Pursuant to Section 1 of Part Four of
the M&A Rules, a foreign company intending to use its shares as
acquisition currency must: (a) be legally incorporated in a foreign
jurisdiction with a well-developed system of corporate law; (b) not
have been (including its management team) subjected to sanctions by
the relevant authorities in the previous three years; and (c) be
Promulgated on 30 December 2002 by the Ministry of Foreign Economic
Relations and Trade (formerly MOFTEC).
Circular 575, Article 6.
Li Jiao and Bart Kasteleijn
publicly listed under a mature stock transaction system from which
SPVs are exempted. 35
Qualifications of Shares
A foreign purchaser’s shares to be used
as acquisition consideration must: (a) be lawfully held by shareholders and be freely transferable; (b) have undisputed ownership and not
have been pledged or subject to any third-party rights; (c) be listed on
an overseas public stock exchange (but not on an over-the-counter
exchange); and (d) have a transaction price that was stable during the
year preceding the transaction. 36
Conditions for the Share Swap
Above all, the foreign purchaser
must either be an overseas company listed on a market with “sound
securities trading systems”, or must be an offshore SPV established
for the particular purpose of realizing domestic interests or assets by
means of an overseas listed company.
National Security Review
Besides the antitrust review, the M&A Rules also incorporate the
national security review. MOFCOM approval is required if a “key
industry” is involved, acquisition of which may have an impact on
“national economic security” or result in a transfer of actual control of
a domestic enterprise that owns a well-known trade mark or historic
Chinese brand name.37 So far, there have not been any reported cases
on the basis of Article 12 of the M&A Rules, but some transactions
have been indefinitely delayed for unknown reasons.
For example, in October 2005, the Carlyle Group signed an agreement to pay US $375–million for an eighty-five per cent stake in
Xuzhou Machinery, a state-owned enterprise and China’s largest construction machinery manufacturer and distributor. The transaction
was filed with MOFCOM and the hearing was held in July 2006.
MOFCOM refused to approve the transaction, but neither did it
make a decision disapproving the transaction. Although no official
opinion has been made public, newspaper reports citing unidentified
sources stated that the Ministry believed a foreign investor should not
hold a controlling stake in a manufacturer as important as Xuzhou
M&A Rules, Article 28.
M&A Rules, Article 29.
M&A Rules, Article 12.
Foreign Acquisitions and Joint Ventures in China
Machinery. After the purchase details were revised several times, the
transaction ended with the Carlyle Group acquiring a forty-five per
cent share in Xuzhou Machinery in March 2007.
Acquisition of State-Owned Enterprises
The most important regulatory legislation in relation to the issues of
state-owned assets in a merger and acquisition transaction are the
Interim Measures for the Supervision and Administration of
State-Owned Assets of the Enterprises, the Interim Measures for the
Management of the Transfer of the State-Owned Property Right of
Enterprises, the Interim Measures for the Administration of Valuation
of State-Owned Assets of Enterprises, and the Use of Foreign Investment to Restructure State-Owned Enterprises Tentative Procedures
(the Tentative Procedures).
Under the Tentative Procedures, except for those areas where foreign investment is prohibited for overriding reasons such as state
security or national interest, foreign investors are allowed to restructure state-owned enterprises and unlisted companies with state
shareholdings (collectively known as SOEs) in most industries by
way of equity or asset transfer.
Scope of Application
The Tentative Procedures are aimed at regulating the restructuring of
SOEs and the subsequent establishment of FIEs. However, the new
regulation’s scope of application specifically excludes any participation in financial enterprises and listed companies.38
Five forms of restructuring are governed by the Tentative Procedures.
First, foreign investors can restructure a state-owned enterprise
into an FIE by acquiring all or part of the state’s interest in the enterprise.
Second, foreign investors can restructure a company with state
shareholdings into an FIE by acquiring all or part of the state’s
Third, domestic creditors of a state-owned enterprise can transfer
the debt owed by the enterprise to foreign investors and restructure the
enterprise into an FIE.
Tentative Procedures, Article 2.
Li Jiao and Bart Kasteleijn
Fourth, foreign investors can acquire all the assets or the major
assets of a state-owned enterprise or of a company with state
shareholdings. With these assets, they can establish an FIE either on
their own or jointly with the seller of the assets.
Finally, a state-owned enterprise or a company with state-owned
shareholdings can take on foreign investors as shareholders by way of
capital increase or new shares issue and become an FIE.
Foreign Investors
There are no minimum asset value requirements for foreign investors.
However, foreign investors are generally required to contribute capital, advanced technology, and business management expertise to the
SOEs. Additionally, they should be already engaged in the same or
similar industries as that of the target SOE, and should have explicit
medium- or long-term investment plans. Other broad qualification criteria include a sound commercial reputation, strong financial
standing, and economic strength.39
Approval Authority
Approval issues remain among the first and most difficult challenges
faced by foreign investors. The Tentative Procedures provide that any
SOE proposing to undergo restructuring involving foreign investors
must receive the necessary approvals from the government. If the new
FIE resulting from a restructuring under the Tentative Procedures
would have total assets in excess of US $30–million, approval authority is at the central level. 40
The Tentative Procedures are not clear as to which departments
will have the final say in foreign investment issues and do not clarify
whether subsequent approval of one department is conditional on the
earlier approval of another department. As several government
departments may have jurisdiction over various aspects of an acquisition and restructuring transaction, foreign investors may be confused
as to which department should be approached first to commence the
approval process. Also, it is not quite clear what role MOFCOM may
Tentative Procedures, Articles 5 and 8(4).
Tentative Procedures, Article 9.
Foreign Acquisitions and Joint Ventures in China
Approval Procedures
The Tentative Procedures provide a cumbersome and multi-stage
approval procedure for restructuring a SOE into an FIE.41
First, approval by the “economic and trade department of the same
level” is required for the restructuring application and related documentation. This includes the feasibility study, basic information about
the parties, audited accounts of the foreign investor for the preceding
three years, reorganization plans, the employee arrangement plan,
plan for credit and debt settlements, and the future business scope and
shareholding structure of the new FIE, among other documents.
Second, approval of the acquisition contract by the financial
department is required.
Finally, based on these two approvals, approval is required for the
establishment of the FIE, followed by its business registration.
The Tentative Procedures are not clear about how the various procedures interrelate — for example, how MOFCOM’s existing
procedures for the approval of the establishment of FIEs match the
procedures described in the Tentative Procedures.
Payment of Consideration
In general, foreign investors must pay for any acquisition in hard currency remitted from abroad. However, in line with well-established
regulations and policies, those foreign investors with existing operations in China can pay in local currency if they have profits or have
other legitimate assets in China. 42
The consideration will normally be settled in a single payment,
which must be within three months of the date on which the newly
established FIE’s business license is issued. Alternatively, if there are
“real difficulties”, 43 foreign investors can pay sixty per cent within six
months and, subject to the provision of guarantees for the payment,
the remaining forty per cent within one year.
A foreign investor that intends to make the payment in installments
must apply for approval to the SASAC that originally approved the
transfer of equity in the target company. 44
Tentative Procedures, Article 9.
Tentative Procedures, Article 10.
This term is not defined under the Tentative Procedures.
Tentative Procedures, Article 11.
Li Jiao and Bart Kasteleijn
Acquisition of Listed Companies
Circular 28 is titled “Measures for the Administration of Strategic
Investment in Listed Companies by Foreign Investors”.
Before Circular 28 was issued, only a limited number of foreign
financial institutions holding a qualified foreign institutional investor
(QFII) status could legally purchase tradable A shares of PRC listed
companies and H shares in Hong Kong. Foreign investors not holding
a QFII status could only acquire a stake in listed companies by privately purchasing non-tradable state holdings.
Under Circular 28, a type of equity investment totally different
from the comparatively short-term share trading under the existing
QFII scheme is targeted. Furthermore, Circular 28 also subjects strategic foreign investments to much lower entry requirements and to
fewer investment restrictions than the QFII requirements. For
instance, Circular 28 technically allows strategic foreign investors to
control a listed company, while QFIIs are not permitted to hold more
than ten per cent of the issued share capital of a listed company.
Legal Framework of Antitrust Review
on Mergers and Acquisitions
In General
The AML 45 and its implementing regulations together serve as the
principal guidelines on the antitrust review on acquisitions by foreign
investors in China.
Antimonopoly Law
Covered Transactions Article 20 of the AML defines transactions
(or concentrations) as: (a) a merger of undertakings (b) an undertaking’s acquisition of control over another undertaking (or undertakings) by acquiring equity or assets; and (c) an undertaking’s
acquisition of control over, or the possibility of exercising decisive
influence on, another undertaking (or undertakings) through a contract or by similar means.
China adopted its Antimonopoly Law at the Twenty-Ninth Meeting of the
Standing Committee of the Tenth National People’s Congress on 30 August 2007.
The Law came into effect on 1 August 2008.
Foreign Acquisitions and Joint Ventures in China
Under Article 22 of the AML, consolidations within a group are
explicitly excluded when one undertaking involved owns more than
fifty per cent of the voting shares or the assets of all the other undertakings, or when more than fifty per cent of the voting shares or the
assets of every undertaking involved in the concentration are owned
by the same undertaking, which is not a party to the concentration.
Under Article 22(2), acquisition of another firm’s assets or stock is
achieved when the acquisition will result in attaining control of the
target. The AML does not set out specific percentage levels or other
factors to specify the standard of control; so far, there is no further
explanation on the definition of “control”.
Under Article 22(3), in the case of contract or means other than the
acquired control, the ability to exert decisive influence also is incorporated as a standard norm.
Timing of Notification According to Article 22 of the AML, the
merging parties must notify the proposed merger. The closing of the
transaction is prohibited if there is no notification. In accordance
with the significance of the pre-merger review system, it is necessary
that the closing be prohibited while the competition agency reviews
the transaction for a specified period following notification.
In terms of the intent of notifying parties to consummate the proposed transaction, inferred from requirements for initial notification
listed by Article 23, the parties are not permitted to notify a transaction until a definitive agreement has been executed. Filings on the
basis of a letter of intent, heads of agreement, or a public announcement of the intention to make a tender offer are not permitted.
Substantive Standard
The substantive standard in a Chinese
merger review is defined by Article 28 of the AML: whether the proposed concentration will result in, or may result in, the effect of eliminating or restricting market competition. Compared with the
“substantial lessening of competition” test in the United States and
the “significantly impedes effective competition” standard in the
European Union (EU), Article 28 of the AML lacks the requirement
of “substantial” or “significant” effect on competition.
However, Article 28 allows the Antimonopoly Enforcement
Agency (AMEA) to balance any positive effects of the concentration
on competition against potential negative effects. The AMEA also
Li Jiao and Bart Kasteleijn
may decide not to prohibit the transaction for public interest reasons,
which remain undefined.
Article 27 of the AML lists some factors to be considered during a
substantive review: (a) the market share of the undertakings involved
in the relevant market and their ability to control the market; (b) the
degree of market concentration in the relevant market; (c) the effect of
the concentration on market entry and technological progress; (d) the
effect of the concentration on consumers and other undertakings; (e)
the effect of the concentration on national economic development; and
(f) other factors affecting market competition, as determined by the
Article 27 appears to be inconsistent with international norms, as it
permits consideration of a goal other than the protection of consumers, such as protection of domestic competitors or national economic
Review Periods Merger transactions usually include complex
legal and economic issues; competition agencies therefore need sufficient time to properly investigate and analyze these issues in order
to reach a well-informed decision. On the other hand, merger transactions are often time-sensitive, and the completion of merger reviews
by relevant competition agencies will normally be a closing condition for a transaction, either by operation of law or contract. Delay in
the completion of merger reviews may cause the transaction to break
off. Therefore, a reasonably short period for review is critical for a
sound merger review regime.
Under the AML, the time periods for review of a notification of
concentration are stated as: thirty days for the initial review (Article
25), ninety days for a further review (Article 26), with the possibility
of an extension of up to an additional sixty days beyond that
ninety-day period under specific, defined conditions (Article 26). 46
These periods provide undertakings with the assurance that their proposed transaction will be approved within thirty days or in no more
than 180 days.
The key question is when the periods of limitation for the initial
review and further review start. Based on Article 26 of the AML, the
clock for a further review starts ticking on the date on which the
These conditions are: (i) the extended period is agreed on by the undertakings;
(ii) the documents and materials submitted by the undertakings are not correct
and need to be further verified; and (iii) there has been a material change in
circumstances after the notification by the undertakings.
Foreign Acquisitions and Joint Ventures in China
AMEA makes the decision to have a further review. When the initial
review starts is less clear. According to Article 25 of the AML, it will
start from the time all the documents required by Article 23 are
lodged at the AMEA. Submission of additional information within
the time limit provided by the AMEA is required when the filing is
incomplete (Article 24). Thus, the starting point of the time limit for
initial review is deemed to be the time of receipt of the additional
Decisions As with other jurisdictions in the world, a two-phase
review procedure is deployed under the AML. In fact, the PRC
antimonopoly legislation has many parallels with EU law.
Non-problematic transactions are allowed to proceed following a
preliminary review undertaken during a brief initial review period.
According to Article 25, following the preliminary review during
the initial period, the AMEA will decide whether to conduct a further review.
If the AMEA decides not to enter into the further review proceedings or the AMEA does not make any decision within the initial
thirty-day period, the undertaking may lawfully consummate the notified transaction.
Based on Article 26 and Article 29 of the AML, the AMEA can,
after further review, make one of three decisions: approval, disapproval, or conditional approval. If the AMEA does not make any
decisions by the time the second period expires (150 days at most), the
parties may proceed with the transaction.
Enforcement Agencies Under the M&A Rules, both MOFCOM
and SAIC were empowered to receive and review merger control filings. Under the AML, the Antimonopoly Commission (AMC) is a
policy-making and consultation body that will formulate competition policy and coordinate the enforcement activities of the AMEA.
The AMEA will be primarily responsible for actual enforcement of
the AML. The State Council has designated its enforcement authority
to be split among three existing agencies: MOFCOM, SAIC, and
NDRC. MOFCOM is the authority in charge of merger review under
this framework.
Li Jiao and Bart Kasteleijn
Implementing Rules under the Antimonopoly Law
In General In order to promote more uniform and predictable implementation of the law, MOFOCM has promulgated several rules under
the AML, relating to various aspects of the merger review process.
These rules are the Provisions of the State Council on Thresholds
for Prior Notification of Undertakings (the Thresholds Provisions),
the Regulations on Notifications of Concentrations of Undertakings
(the Notifications Regulations), and the Regulations of Review of
Concentrations of Undertakings (the Review Regulations). In addition, the AMC has formulated the Guidelines for Definition of
Relevant Market (the Market Guidelines).
Notification Thresholds Article 3 of the Thresholds Provisions
names distinct notification thresholds. Notification is required when
the combined worldwide turnover of all the undertakings involved
exceeded CNY 10–billion in the last fiscal year, and the China-wide
turnover of each of at least two undertakings exceeded CNY 400-million; or when the combined China-wide turnover of all undertakings
involved exceeded CNY 2-billion in the last fiscal year, and the
China-wide turnover of each of at least two undertakings exceeded
CNY 400-million.
These thresholds are consistent with international practices. The
“local nexus” approach is used.
In essence, there are two sets of thresholds: one considering the
parties’ combined turnover (either worldwide or in China); the other
considering individual turnover of at least two parties in China.
Reporting is required only if both thresholds are exceeded.
However, under the Notification Regulations, it is unclear whether the
acquired Chinese target must be included as one of the two undertakings.
Under the Notification Regulations, the turnover of a party must
include the turnover of all other firms directly or indirectly controlled
by that party, the turnover of all firms that directly or indirectly control that party. The entire group turnover will be counted to determine
whether pre-merger notification is compulsory. However, turnover
from transactions between members of the group can be excluded for
these purposes.
Article 7 of the Notification Regulations provides special rules for
the partial acquisition of a target company by limiting the seller’s
turnover to that derived from the portions of its business that are the
subject of the concentration.
Foreign Acquisitions and Joint Ventures in China
Furthermore, the Notification Regulations contain provisions dealing with “creeping acquisitions”, by means of which multiple
transactions made between the same group of undertakings over a
two-year period, but which do not individually meet the turnover
thresholds, may be considered in aggregate in assessing whether the
merger notification thresholds are met.
Finally, according to Article 4 of the Notification Regulations,
MOFCOM has the right to investigate a merger below the turnover
thresholds but in which facts and evidence collected in accordance with
prescribed procedures have established that a concentration does effect,
or is likely to effect, the elimination or restriction of competition. It is as
yet unclear under what criteria MOFCOM will apply when exercising
this power.
Merger Remedies Under Article 11 of the Review Regulations, the
undertakings can offer (and amend) remedies to address the
anticompetitive effects identified. These remedies could be structural
(such as divestitures of assets or businesses), behavioral (such as opening the infrastructure of online networks and platforms, licensing key
technologies, and terminating exclusive agreements), or comprehensive, combining both structural and behavioral remedies.
Furthermore, MOFCOM clarifies the time when the merging parties should propose the remedies. It is stated that an objection by
MOFCOM is not a prerequisite for the proposal of remedies by the
merging parties. A modification to the plan of concentration may be
proposed at any time during the process of merger review. 47
Greenfield Foreign Investment
Before deciding on greenfield investment in China, 48 the foreign
investor must first make a fundamental decision as to which form of
legal entity the enterprise should have. Basically, there are four
business forms available for foreign investors: WFOE, EJV, CJV,
and PJV.
Interpretations on Regulations on Notifications of Concentration of
Undertakings; Regulations of Review of Concentrations of Undertakings.
The definition of a “greenfield investment” is provided in “Introduction”, above.
Li Jiao and Bart Kasteleijn
Since China’s entry into the WTO in 2001 and the PRC government’s relaxation of FDI regulations, WFOEs have become the most
common vehicle for foreign investment (other than a branch office,
which has no legal personality and is not meant to be used for capital
However, as the PRC government requires participation or control
by a Chinese company in a number of industries, foreign investors
must turn to setting up joint ventures. Even if the participation of a
Chinese company is not mandatory, foreign investors may still choose
to enter the market through a joint venture. This is because a joint venture can benefit foreign investors when a Chinese partner has certain
strengths — such as central or local government support, land use
rights, 49 licenses, distribution network, know-how, and access to suppliers — which will reduce start-up costs and improve the foreign
investor’s chance of success.
In transitional countries, a joint venture offers an opportunity for
each party to benefit significantly from the comparative and complimentary advantages of the other. As an advantage to local partners,
foreign partners can offer advanced process and product technology,
management know-how, logistics, and access to export markets. It is a
popular means for both sides to achieve their objectives.
Compared with acquisitions, a new joint venture formed by two or
more undertakings has, so far, not been deemed as a concentration of
undertakings under the AML. Thus, a joint venture does not need to go
through antitrust clearance.
Equity Joint Venture
In General
In China, most joint ventures are EJVs. This section will deal with
four key issues concerning this common vehicle for foreign investment. The focus is on corporate governance, which determines which
party has ultimate operational control over the joint venture.
China has a dual land tenure system under which land ownership is independent
of land use rights. Land use rights are the rights for natural or legal persons to use
land for a long, fixed period of time, comparable to long-term lease rights in
many jurisdictions. The land is owned either by the state or by a rural collective
economic organization.
Foreign Acquisitions and Joint Ventures in China
Scope of Investors
The existing EJV Law allows non-PRC citizens to establish EJVs. 50 In
contrast, PRC citizens are barred from setting up an EJV with a foreign investor. Only PRC enterprises or other economic organizations
may do so. 51
This exclusion is, however, not a real handicap in practice.
According to the Interim Provisions for the Acquisition of Domestic Enterprises by Foreign Investors (the Interim Rules) issued in
2002, 52 a PRC citizen holding equity in a domestic company for
more than one year may remain as a Chinese investor in the FIE
after it has entered into a foreign joint venture. The one-year limitation was lifted on the replacement of the Interim Rules by the M&A
Rules. Since then, a PRC citizen may participate in a target joint
venture as long as he has been a shareholder in it before the transaction took place.
Furthermore, on 20 April 2010, the government of Pudong District53
issued the Tentative Measure on Establishing an EJV and a CJV by PRC
Natural Persons at Pudong District (the Tentative Measure). As an experimental measure, this Tentative Measure expressly allows, for the first
time in China, PRC natural persons to establish an EJV or CJV directly
with foreign investors. MOFCOM is presently conducting research
regarding the possibility of similarly reforming the EJV Law and the CJV
Credit Gap
The “credit gap”, a typical Chinese feature, refers to the difference
between the total amount of investment (TIA) and the registered capital of an FIE. The Tentative Rules on the Ratio of Registered Capital to
Foreign Investment in Sino-Foreign Equity Joint Ventures (the SAIC
Equity Joint Venture Law, Article 1.
This exclusion is understandable against the historic background of the economic
reform and opening-up process at the end of the 1970s, when very few Chinese
individuals, if any, were wealthy and experienced enough to do business with
foreigners. Furthermore, governments justified the exclusion, claiming that
citizens may be corrupted by doing business with foreign investors.
The Interim Rules were jointly issued by MOFCOM, SAIC, SAT, and SAFE.
Pudong is the main new central business district of Shanghai, east of the Huangpu
River, which divides Shanghai in two.
Information available at
Li Jiao and Bart Kasteleijn
Rules), issued by SAIC on 17 February 1987, set the ratio for FIEs.55
According to the implementing rules of the WFOE law, 56 the total
amount of investment refers to the total amount of funds required to
set up and operate a WFOE. The SAIC Rules detail the ratio of the registered capital to the total investment amount as follows:
Total Investment Amount (TIA)
in US $
The Ratio of Registered
Capital to TIA
0 to 3,000,000 (inclusive)
more than 7/10
3,000,000 to 10,000,000 (inclusive)
more than 1/2a
10,000,000 to 30,000,000 (inclusive)
more than 2/5b
30,000,000 and above
more than 1/3c
a When the total amount of investment is more than US $3,000,000
but less than US $4, 200,00, the registered capital must be no less than
US $2,100,000.
b When the total investment amount is more than USD 10,000,000
but less than US $12,500,000, the registered capital must be no less
than US $5,000,000.
c When the total investment amount is more than US $30,000,000
but less than US $36,000,000, the registered capital must be no less
than US $12,000,000.
China has been tightly regulating the flow of foreign exchange. In
case of a debt owed to a foreign enterprise (foreign debt), inbound and
outbound capital flow into and from China requires approval from the
respective authorities, such as the NDRC and SAFE or their local
counterparts. Foreign debt within the credit cap, however, is exempt
from these approval procedures. To obtain a foreign debt, an FIE is
only required to file notification with the local SAFE in charge. In
comparison, a non-FIE has to complete lengthy approval procedures
to obtain a foreign debt. In this regard, the credit gap is actually a privilege for FIEs only.
The SAIC Rules specifically addressed Sino-foreign joint ventures. However,
further to a circular issued by MOFTEC (the predecessor of MOFCOM), the
SAIC Rules also apply to WFOEs. There are separate rules specifying the ratio
applicable to particular industries, such as the real estate industry. These special
rules are not applicable to WFOEs.
These rules were issued by the Ministry of Foreign Economic Relations and
Trade on 12 December 1990 and revised on 12 April 2001.
Foreign Acquisitions and Joint Ventures in China
Corporate Governance
Under Chinese law, the PRC Company Law (promulgated in 1993 and
amended in 2006) is the basic code of law to regulate business entities,
and the EJV Law is a special law. Logically, the promulgation of the
Company Law should have preceded the EJV Law, but this was not the
case. The EJV Law was formulated in 1979, during the reform period.
As a curious consequence, there is a clear contrast between the corporate governance structure of the EJV Law and the corresponding
structure stipulated by the PRC Company Law.
Despite the fact that the EJV Law and its Implementing Regulations (Regulations for the Implementation of the Sino-Foreign Equity
Joint Ventures) have been amended several times since their promulgation in 1979 and 1983, respectively, the statutory corporate
governance structure of the EJV remains intact.
The EJV Law and its Implementing Regulations stipulate that the
board of directors of an EJV is the corporate organ with the highest
authority, 57 without importing the concept of shareholders or the
forum of the shareholders’ meeting. Although the EJV Law does not
clearly state that it is not permitted to set up the shareholders’ meeting,
it does not give legal status to a shareholders’ meeting. However, the
concept of capital contribution works in the same manner, so the terminology “shareholding” is not common.
Furthermore, in practice, documents issued by the board (rather
than documents issued by a shareholders’ meeting) are acknowledged
by SAIC and other relevant government organs. The corporate governance of an EJV adopts the one-tier structure of a single board of
directors. In contrast, the corporate governance structure stipulated by
the Company Law is more modern and in line with the theory of separation of ownership and management, in which the corporate
governance organs invariably include the shareholders’ meeting, the
board, and the management. There are a number of unique aspects in
the corporate governance of EJVs.
First, the number of the directors is agreed by the joint venture parties and the directors also are directly appointed by them. The
directors should report to the joint venture parties while accepting
their supervision. The joint venture parties have the right to dismiss
and replace the directors. 58
Enterprise Joint Venture Law, Article 6; Implementing Regulations, Chapter 5.
Enterprise Joint Venture Law, Article 6.
Li Jiao and Bart Kasteleijn
Second, the managers (non-directors) also are directly appointed
by the joint venture parties. Although it is required by law that the
general manager and deputy general manager must be appointed by
the board, 59 in practice, the joint venture parties reserve the right of
decision, and therefore the senior managers will follow their instructions and represent their interests rather than those of the EJV
A foreign majority shareholder may assume that, since the board
is elected by a simple majority (fifty-one per cent) vote of shareholders, he can control the EJV. However, this is by no means
always the case.
First, control of the board by one party is nearly impossible, as both
joint venture parties may find ways to influence the directors.
Second, even if the foreign investor is able to control the board, it
does not give him control of the EJV. This is because, often as a concession during negotiations, the foreign investor allows the Chinese
party to appoint the representative director and the general manager.
This may easily result in the situation that the foreign investor loses
effective power, because having control over the day-to-day management is more effective than controlling the board.
In practice, the general manager of the joint venture exercises real
power and the board has secondary power. Besides, the foreign chairman of the board of directors is put in a dilemma: he cannot take the
responsibility of supervising the management, which has the executive power. As a result, the foreign investor’s struggle for board
control is rendered meaningless, as it is dependant on the management.
To maintain control over the EJV, the investors should therefore
ensure the right to appoint and remove the representative director and
the general manager of the EJV. Besides, the investors should not
ignore their power to make binding contracts on behalf of the EJV, to
deal with the company’s bank and other key service providers, and —
last but not least — retain or have control over the company’s seal or
“chop”. 60
Chinese law requires that a minority shareholder must be granted a
veto right in certain vital voting decisions. For example, under Chinese law, it is mandatory that the minority party has a veto right at
Implementing Regulations, Article 36.
The “company chop” is the company’s official stamp. The company chop
provides the legal capacity to execute agreements, provide guarantees, transfer
assets, and legally bind the company. The “chop” is deemed more important than
a signature and is indispensable in communications addressed to the authorities.
Foreign Acquisitions and Joint Ventures in China
board level over decisions such as a change in the amount of registered
capital, the permitted scope of business, and any future reorganization
or liquidation of the venture. 61
Thus, in a shared-management EJV that is structured in such a way
that one party has more than a co-equal role in the EJV, the party with a
greater ownership percentage will not necessarily control the operation of the EJV.
Cooperative Joint Venture
Difference between a Cooperative Joint Venture
and an Enterprise Joint Venture
In General In China, CJVs and EJVs are similar in many aspects.
The formats of agreements, legal standings, approval processes, and
approvals from authorities are identical.
The general management structures and governance procedures
also are virtually the same. However, CJVs and EJVs differ in two
important aspects: investors’ liability and dividend policy.
Investors’ Liabilities Unlike an EJV, which has to be a separate
legal person, a CJV has the choice to organize itself either as a limited
company or as a non-legal person.
There are advantages and disadvantages for a CJV organized as a
non-legal person. The costs are lower and it is more flexible; after
all, it is a contract. However, it may expose parties to unlimited liability with respect to the joint venture. By contrast, if the CJV has
limited liability, its investors only assume the liabilities arising
from the CJV limited to their subscription capital investment in the
CJV. In practice, the majority of CJVs are set up as limited-liability
Flexibility in Dividend Policy
The investors of CJVs may reach a
consensus on the dividend policy in the CJV agreement and need not
necessarily share the profits of the CJV in proportion to the
Implementation Regulations, Article 33. Decisions on the following matters may
be made only after being unanimously agreed on by the directors present at the
board meeting: (a) amendment of the articles of association of the joint venture;
(b) termination and dissolution of the joint venture; (c) increase or reduction of
the registered capital of the joint venture; and (d) merger or division of the joint
Li Jiao and Bart Kasteleijn
percentage of their equity holdings. 62 Foreign investors, in particular, may wish to declare more dividend from the CJV, or declare a dividend earlier than originally provided in the CJV agreement. 63
Advantages of a Cooperative Joint Venture
The foreign partner of the CJV can contribute or lease expensive technology and equipment to the CJV. The CJV’s fee or royalty to the
foreign party will then be paid as an expense from the joint venture’s
revenues before profit sharing. 64
This strategy can be used in sectors in which the law caps foreign
ownership and when the Chinese party cannot afford to fund assets up
front. In comparison, under an EJV ownership structure, such an arrangement is impractical or impossible unless the Chinese side can contribute
the amount of cash or assets needed to fund its equity up to the minimum
Chinese ownership level required.
Partnership Joint Venture
With the amendment of the Partnership Enterprise Law in 2006, 65 the
possibility of setting up a PJV has been under discussion. Article 108
of the Partnership Enterprise Law provides that the State Council 66
may formulate separate administrative measures on setting up partnership enterprises by foreign enterprises or individuals.
A PJV must always have at least one Chinese partner (i.e., it must
be a Sino-foreign partnership). This provision has two implications:
first, it explicitly allows foreign persons to establish a partnership
enterprise; second, it gives no detail on how to do this, leaving this to
the discretion of the State Council. Therefore, the Partnership Enterprise Law allows foreign persons to establish a partnership enterprise
in China; however, until the State Council issued a regulation on it,
this remained a theoretical option.
Cooperative Joint Venture Law, Article 10.
Cooperative Joint Venture Law, Article 21.
Cooperative Joint Venture Law, Article 21.
The Partnership Enterprise Law, originally promulgated on 23 February 1997,
was amended on 27 August 2006 by the Standing Committee of the NPC. The
amended Partnership Enterprise Law (the Revised Partnership Law) took effect
on 1 June 2007.
The State Council is largely synonymous with the central government and is the
chief administrative authority of the PRC.
Foreign Acquisitions and Joint Ventures in China
On 25 October 2009, the long-awaited regulation, Measures for the
Administration of the Establishment of Partnerships in China by Foreign Enterprises or Individuals (Measures on Foreign-Invested
Partnership Enterprises), was finally issued by the State Council. This
measure, effective from 1 March 2010, outlines the procedures for the
setting up of a partnership enterprise by foreign investors.
According to the Measures on Foreign-Invested Partnership Enterprises, the partners may go to SAIC for registration when setting up a
partnership enterprise. After filing the registration, SAIC will notify
Article 5 of the Measures on Foreign-Invested Partnership Enterprises reads as follows:
"when foreign enterprises or individuals are to establish a
partnership in China, the representative designated by all of
the partners or the agent jointly appointed by them shall apply
for registration of the establishment to the local administration for industry and commerce authorized by the State
Council’s administration for industry and commerce (the
Registration Authority). If the Registration Authority grants
registration, it shall additionally forward the relevant registration particulars to the department in charge of commerce at
the same level."
In accordance with Article 5 of the Measures on Foreign-Invested
Partnership Enterprises, the establishment of a foreign-invested partnership enterprise no longer requires the approval of MOFCOM;
instead, it only needs to register with SAIC. This implies that SAIC,
instead of MOFCOM, will become the approval authority for foreign-invested partnership enterprises.
The Measures on Foreign-Invested Partnership Enterprises are
rather generic, containing only sixteen Articles. They neither detail
the documents required to form a partnership enterprise nor specify
the level of the SAIC in charge, to mention only a few major concerns
encountered in practice. Therefore, the promulgation of the Measures
on Foreign-Invested Partnership Enterprises seems to be a symbolic
gesture rather than a practical guideline.
To clarify these issues, SAIC issued the Provisions for the
Administration of the Registration of Foreign-Invested Partnership
Enterprises (the SAIC Provisions) on 29 January 2010. The SAIC
Provisions, effective from 1 March 2010, detail the procedures for
registration with SAIC. As SAIC is the principal authority to
Li Jiao and Bart Kasteleijn
review the application for foreign-invested partnership enterprises,
the SAIC Provisions will be the governing rules on the establishment and amendment of foreign-invested partnership enterprises.
The following subsection is a brief introduction to the SAIC Provisions.
Models There are two models for foreign partners to set up PJVs in
China: (a) with Chinese individuals, legal persons, and other organizations registered and located in Mainland China; and (b) through
participation in an existing domestic partnership.
In these two models, PJVs have the option to take the form of a general partnership, a limited-liability partnership, or a limited
partnership, as stipulated by the Revised Partnership Law. Among
these, the limited-liability partnership is only for professional service
providers, including, but not limited to, law firms and accounting
Compared with model (a), at first glance model (b) seems more feasible and more timesaving and cost-efficient for foreign partners. A
complete due diligence will be conducted in order to minimize the risk
from the operation of the domestic partnership before the participation date of the foreign partners. In consideration of the current
administration and the business nature of China, it will be difficult to
get a complete and timely due diligence report to satisfy the foreign
partners. Therefore, model (a) is highly recommended. Factors that
need to be considered in the joint venture agreement are profit sharing,
funding, non-compete obligations, and exit.
Available Industries
The SAIC Provisions prohibit foreign investors from investing in a partnership engaged in restricted industries.
According to Article 3 of the SAIC Provisions, no foreign-invested
partnership enterprise is allowed to engage in the projects falling
under the prohibited category, or those marked as “restricted to
equity joint ventures”, “restricted to cooperative joint ventures”,
“restricted to equity and cooperative joint ventures”, “the Chinese
party shall hold a controlling interest”, or “the Chinese party shall
hold a relative controlling interest” or those for which there are
requirements in respect of the foreign investment ratio.
This limitation implies that foreign investors may only set up partnership enterprises in industries either encouraged or permitted under
Foreign Acquisitions and Joint Ventures in China
the Catalog. These encouraged or permitted industries generally feature high-tech and green technologies.
Qualifications for Partners
The SAIC Provisions set only one
restriction on the partners’ qualifications. According to Article 6 of
the SAIC Provisions, solely state-owned enterprises, partly
state-owned enterprises, listed companies, charitable public institutions, and associations may not become general partners. This
provision aims to protect these entities from bearing unlimited
Division of the Registration Authority
With regards to the registration, foreign-invested partnership enterprises are divided into two
categories: the ones specifically aiming at capital investment (RMB
funds) and others.
RMB funds are subject to the authority of the SAIC above the
sub-provincial level, 67 such as the SAIC of Shanghai Municipality,
the SAIC of Guangdong Province, and the municipal SAIC of Ningbo.
In comparison, other foreign-invested partnership enterprises can be
approved by the SAIC at a lower level, such as the district SAIC in the
region where the partnership is located.
Under the SAIC Provisions, foreign investors are able to establish
partnership enterprises in China. On 1 March 2010, the effective date
of the SAIC Provision as well as the Measures on Foreign-Invested
Partnership Enterprises, a PJV was established at Suzhou city in
Jiangsu Province
According to the official site of the State Council, Kunshan Sun
City Garden Center, the first PJV established in China, was set up
by a PRC citizen and an American company. 68 Compared with an
The SAIC Provisions, Article 5, reads as follows: The administrations for
industry and commerce of provinces, autonomous regions, municipalities
directly under the central government, cities with independent development
plans, and sub-provincial level municipalities shall be responsible for the
administration of the registration of those foreign-invested partnerships the main
business of which is investment.
Central People’s Government website at
Li Jiao and Bart Kasteleijn
EJV and a CJV, a PJV grants its partners more freedom in certain
Diversified Forms of Contribution When making a contribution,
partners have more discretion in terms of the forms of the contribution and the time limit. Foreign partners may contribute their share in
services — an option that is unavailable for the investors of EJVs and
Furthermore, foreign partners may make their own schedule on
paying their contribution. In comparison, the investors of EJVs and
CJVs have to make their first capital contribution payments within
three months after the incorporation date, and must pay their total
subscription fully within two to five years after the incorporation
date. 69
Flexibility in Operations There are fewer limitations on organizing and operating PJVs. Partners do not have to set up a board to manage the undertakings; instead, they may entrust a partner or a third
party to do so. In the absence of this provision, all the general partners
are deemed managing partners.
The only limitation is that a limited partner may not become a managing partner. 70 EJVs and CJVs, as limited-liability companies, have a
board as the highest authority; CJVs, as unlimited-liability vehicles,
have a joint management committee.
Share Transfer Partners may decide whether to set a limitation
on the share transfer in a PJV. Partners may expressly abandon the
unanimous consent requirement to transfer a share in the
Simplified Approval Procedures As a principal guideline for foreign-invested partnership enterprises, the SAIC Provisions list the
documents required to file the establishment and amendment
In case of an FIE engaging in investment, the maximum period for contribution is
five years. Otherwise, investors must pay up their subscription within two years
after the incorporation date of an FIE.
The SAIC Provisions, Article 10, reads as follows: If the partnership agreement
is silent on the matter, or if all of the general partners did not decide to appoint an
managing partner, all of the general partners shall be managing partners. Limited
partners may not become managing partners.
Foreign Acquisitions and Joint Ventures in China
registration. 71 The SAIC Provisions also specify the timeline for
SAIC to review an application, which is a maximum of twenty working days. 72
SAIC Provisions, Article 12.
SAIC Provisions, Article 42.