The most basic form of foreign business presence in China is the Resident Representative Office (RO). A China Representative Office provides a permanent base from which its resident personnel may conduct non-profit business activities related to foreign enterprises. As a practical matter, it is desirable, and in most cases necessary, to establish a formal Representative Office for a foreign company to do the following in China:

(1)	Market research, display and publicity activities related to the products or services of foreign enterprises;
(2)	Liaison activities related to product sales, service provision, domestic procurement, and domestic investment of foreign companies;
(3)	Open bank accounts;
(4)	Hire Chinese employees through foreign affairs service units.

Representative Offices are prohibited from engaging in profit-making activities and violations may result in fines and the closure of the office. There is no precise definition of profit-making activities of Representative Offices. However, it is clear that the Representative Office may not directly enter into contracts with a view to making profits nor may it directly invest in the PRC with a view to making profits.

More information on Resident Representative Office (RO)

The Joint Venture (JV) is used to be the most common foreign investment vehicles in China.

(1)      Legal Form

JV is limited liability corporate body. The concept of limited liability has now been widely accepted and popularized in China and is basically in conformance with the international conventions.  

(2)      Capital Contributions

Capital contributions to a JV can be made in currency, or in kind, intellectual property rights, land use rights and other non-monetary properties that can be valued in currency and can be transferred in accordance with the law. The investors shall share the profits according to their respective capital contribution percentages and shall be liable to the JVs within the limit of their subscribed contributions.

(3)      Management and Operation

JV functions substantially as a corporation in Western jurisdictions, with its operation and management under the supervision and direction of the board. JV also shares many characteristics of a partnership in that the directors are appointed by the parties in general proportion to the investors?respective equity shares. There is no concept of a Shareholders meeting in a JV with power being concentrated at the board level. Also, equity interests can be transferred only with the consent of the other investors, and certain other fundamental activities require unanimous Board resolutions to be validly executed.

(1)      Permitted Industries

In connection with China’s entry into the WTO, certain previous requirements that a Wholly Foreign Owned Enterprises (WFOE) shall be a high-technology or export-oriented manufacturing enterprise have been eased. With the in-depth development of economic globalization, some industries have now been opened to WFOEs, and WFOEs are permitted to engage in a wider range of industries. However, WFOEs are still not allowed to engage in the industries restricted by the negative list or specified by PRC laws and regulations.

(2)      Parties Involved

Foreign investor in a WFOE does not need to negotiate with its China counterpart for the matters such as the scope of operation, number of workers, percentage of exports and changes in control or ownership of the business. A WFOE will therefore be easier to establish and exit from than JV. In fact, WFOE has become the most preferred and popular investment vehicle of investors.

(3)      Management and Operation

Responsibility for the daily operations of a WFOE lies solely with its own management, and financial reports must be filed to the PRC tax authorities on a regular basis.

More information on Wholly Foreign Owned Enterprises (WFOE)

(1)      Acquisition of Equity Share in Existing FIE

As an alternative to establishment of a new FIE or as part of an overall acquisition transaction involving entities in China, it is possible to acquire the registered capital in an existing FIE held by a domestic or foreign investor. The other party(parties) to a JV have a pre-emptive right to acquire the equity share of the proposed transferor and have absolute consent rights to any transfer generally. All transfers of shares in any FIE additionally require amendment to the AA of the FIE, unanimous approval of the FIE’s highest authority and approval of the Local registration authority. Consequently, the transfer of shares in any FIE, including a WFOE, is more complex than a simple transfer of shares in an off-shore corporate entity generally, and the transfer of shares in a JV is even more complex as it invites a possible renegotiation of the AA as a condition to the transfer.

(2)      Acquisition of Off-shore Vehicle

Many financial or strategic investors planning to do private placement capital raises in anticipation of an eventual public offering set up an offshore Special Purpose Vehicle (SPV) in a tax-efficient jurisdiction to be the named foreign investor in the FIE. Even many multinational strategic investors not planning for a potential exit from the investment may also utilize an offshore SPV for their China investments for internal management purposes. Instead of selling its interests in the FIEs concerned, the foreign investor may sell its shares in the offshore SPV which holds the FIE interests in China. Consents and approvals of such sale of offshore SPV interest are not required, as PRC law is not directly applicable to such transaction.

However, since JV operates in many respects as a partnership (and good partner relationships are the key to the success of any such JV), and since the new investor may wish to negotiate amendments to the AA of the JV in any event as a condition to the acquisition of the SPV shares (which will require approval from the board and registration authority), it is as a practical matter necessary and desirable for each new investor in the SPV to cultivate a positive working relationship with, and obtain at least tacit consent of, the other investors before concluding the investment.

Acquisition of the shares in an offshore SPV holding all of the shares of a WFOE, of course, is much simpler. However, given the ease with which a new WFOE can be set up, the circumstances in which acquisition of the SPV’s indirect interest in an existing WFOE will, as a practical matter, be simpler may be limited.

 
(3)      M&A Conversion of Domestic Enterprises

A foreign investor may directly acquire equity interest in an existing domestic enterprise (equity transaction), and the investment otherwise complies with the laws, rules and regulations applicable 10.251--to FIEs, then the target domestic company can be converted into a new FIE. Alternatively, the foreign investor can also acquire assets of a domestic enterprise and inject these into an existing FIE or use such assets to establish a new FIE (asset transaction).

The form of M&A discussed here, is a direct form of investment, as opposed to the typical quasi-M&A investment in which the domestic company contributes or sells its key assets to the new Sino-foreign joint venture but the joint venture does not assume the liabilities of the Chinese company (although typically the liabilities of the Chinese investor must be addressed, otherwise the Chinese party will not be able to make the investment).