When a sourcing project gets to a certain size, it often makes sense to set up a permanent presence on-the-ground in China to help manage the supply chain. This series of blog posts covers some of the key areas of consideration when it comes to setting up in China.
Options for business formation
An outline of the principal forms of business vehicle used by foreign investors to establish an enterprise in the PRC is set out below.
Note: Generally, there are also other types of vehicles, such as cooperative joint ventures (“CJV”), foreign Invested Companies Limited by Shares, holding companies, foreign invested domestic companies, these are all applicable to foreign direct investment. However only the vehicles that are most often used by SME’s are addressed in this manual for practical purposes.
Let’s first look at EJV’s, then in next few blog posts, we will explore the other options.
Equity Joint Ventures
EJVs can only be incorporated as independent legal persons in the form of limited liability companies. For each EJV, there must be at least one foreign partner and one domestic partner.
The liability of each partner to the EJV is limited to the amount of capital it agrees to contribute to the registered capital of the EJV, whilst the EJV itself is liable for its debts to the extent of all its assets.
EJVs, as well as other entities such as CJVs, and WFOEs, are subject to specific requirements regarding “registered capital to total investment amount” ratios. Special approval to exceed these ratios may be applied for, but such approval will only be granted in exceptional circumstances. The same ratio requirements also apply to CJVs and WOFEs.
The main advantage of the EJV structure is certainty, as the regulatory framework for EJVs is older and more well-established than that of other business vehicles. EJVs were the first investment vehicle available after the PRC started to open up to foreign investment in 1979. In addition, EJVs are usually the vehicle of choice for domestic partners and regulators, due to their relatively long history and “plain vanilla” nature. For these reasons, EJVs have in the past been the most commonly used foreign investment vehicle in the PRC.
The benefit of certainty needs to be balanced against the relative inflexibility of the EJV structure, in particular, the requirement that profit distribution must be in proportion to capital contribution.
The law also requires that minority shareholders in joint ventures are given certain protection. Unanimous board approval must be granted for changes to capital or amendments to the articles of association, and in the event that a party intends to sell its equity interest, the other party has a statutory right of first refusal to purchase the interest.
Next Post: Wholly Foreign Owned Enterprises
Written for CSIC by Sophie Mao
China based lawyer at www.AsiaBridgeLaw.com