China’s re-entry into the World Trade Organisation (“WTO”) in December 2001 represented a fundamental shift in China’s commercial and legal environment. A new wave of foreign investment is now permitted as China begins to open certain industry segments, particularly in the services sector, that previously were closed to foreign participation. Whereas previously only major multi-national corporations were equipped to manage the complexities of investment in China, more and more small- and medium-sized foreign enterprises are entering China as it becomes the workshop for the world, increasingly in high technology areas as well as in more traditional manufactured goods.
Operations of multinational corporations in China are becoming increasingly more localized, and Chinese enterprises are becoming increasingly sophisticated and internationalized. Certain remnants of the old centrally-planned economy have not yet been fully discarded, but the direction of change in China continues to be positive and the pace of change continues to be remarkable. Thus, while conducting business in China is still challenging, the market and regulatory environment continues to improve, keeping pace with the growing importance of China as a manufacturing centre and consumer market.
China and World Trade Organisation
In connection with its re-entry into the WTO, in addition to a schedule of tariff reductions China has agreed to certain market access undertakings in key service sectors, including telecommunications, insurance, banking, trade, distribution and logistics, etc. In the majority of these sectors, foreign investment and participation is to follow a schedule whereby initial investment caps and business scope and geographic scope limitations are gradually liberalized over a period of several years. Implementing regulations may impose additional practical restrictions, but these WTO service sector commitments do represent a major step forward in the overall opening of China to foreign investment.
China Foreign Investment Framework
China’s WTO commitments are reflected in the Foreign Investment Guidance Catalogue (“Catalogue”), which lists various types of foreign investment projects under the following category heads: encouraged, restricted and prohibited. All foreign investment projects not included in the Catalogue are considered to be permitted.
Establishment of foreign-invested enterprises (“FIEs”) all require approval of the Ministry of Commerce (“MOFCOM”) (the successor in powers and authorities of the former Ministry of Foreign Trade and Economic Cooperation), or its local counterpart, the provincial or municipal Commission of Foreign Trade and Economic Cooperation (“COFTEC”). While the process is well established, and the foreign investment vehicles in China are considered stable, MOFCOM and the local COFTEC do have some discretion in certain aspects of the FIE approval process.
Production-oriented FIEs with a minimum 25% foreign investment are currently entitled to certain tax incentives (see Section 3.2 below). FIEs with at least 25% foreign investment also have greater access to foreign loans (including shareholder loans from the foreign parent) with no practical interference by Chinese foreign exchange regulatory authorities. Foreign investors can invest less than 25% of the equity in a Chinese-registered company, but such investment vehicles do not qualify as FIEs or for the favourable tax and foreign exchange treatment described above.