The telecom industry has traditionally been highly regulated and restricted in terms of foreign  investment in China.  China tightly controls what types of telecom business including basic  telecom services (BTS) and value-added telecom services (VATS) are open for foreign  investment.  China has not yet allowed foreign investment in BTS, but has had three types of  VATS open for foreign investment including: information services, store and forward  services, and on-line data processing and transaction processing services pursuant to its WTO  commitments1.

However, the national telecom regulations have imposed a 50% foreign equity ownership cap  on VATS.  This means, foreign investors cannot set up a wholly owned subsidiary (WFOE),  but must find a Chinese partner to set up a 50/50 joint venture (JV) for engaging in VATS  businesses.  Despite the route of JV offered under the national regulations, in practice it has  been extremely difficult to obtain the VATS license from the Ministry of Industry and  Information Technology (MIIT) for actually establishing a JV2 .  This has led many foreign  investors to adopt the so-called VIE structure for operating a VATS business in China.

With the launch of the Shanghai Free Trade Zone (FTZ) in September 2013, for promoting  the FTZ, China has opened additional VATS businesses for foreign investment and lifted the  foreign equity ownership cap concerning some VATS businesses in the FTZ.  We highlight  below the key points of interest under the recently issued FTZ telecom rules3 .

Additional VATS Businesses Opened for Foreign Investment

  • Call center services (呼叫中心业务)
  • Domestic multi-party communications services (国内多方通信服务业务)
  • Internet access services (因特网接入服务业务)
  • Domestic internet virtual private network services (VPN) services (国内因特网虚拟专用 网业务)

Higher Foreign Equity Ownership Allowed

For VATS businesses opened for foreign investment in FTZ, the foreign equity ownership  cap in the following specifically named categories of VATS business is either raised to 55%  or lifted completely:

  • WFOE Allowed (that is, no cap on foreign equity ownership)
    • App stores under information services  (信息服务中的应用商店)
    • Store and forward services (存储转发类业务)
    • Call center services (呼叫中心业务)
    • Internet access services  (因特网接入服务业务) (Note: limited to serving  users within the FTZ)
    • Domestic multi-party communications services (国内多方通信服务业务)
  • 55% Foreign Controlled JV Allowed (that is, the foreign equity ownership cap is  increased from 50% under the national telecom regulations to 55% in FTZ)
    • E-commerce business under on-line data processing and transaction  processing services (在线数据处理与交易处理业务中的经营类电子商务)

Relaxed Approval Requirements

The VATS license can be issued by the Shanghai Communications Administration (SCA)  without going through MIIT, which can significantly save the approval time.   Correspondingly, the sanction authority in FTZ is also delegated to SCA.

The minimum registered capital for foreign invested telecom companies is universally set at  RMB 1 million (approximately USD 167,000), compared to the national telecom regulations  where a minimum registered capital of RMB 10 million (approximately USD 1.67 million) is  required for carrying out cross-province telecom business.

COMMENTS

Overall, the FTZ telecom rules have opened a new door for foreign investors to incorporate a  WFOE or a 55% foreign majority JV in the FTZ for carrying out the specifically named  VATS business, whilst still being able to reach users nationwide (except for the internet  access services).

This relaxation in the FTZ may have given greater expectation around further general  relaxation on foreign investment in the telecom industry.  However, to the contrary, we even  expect some kind of tightened control in the immediate future.  The recent establishment of  two task forces at the central level (the Committee on National Security and the Central  Internet Security and Informatization Leading Group)  has signaled that China is going to pay  increasing attention to internet security.  In such an atmosphere, any further opening for  foreign investment in telecom business nationwide would not be realistic.  This therefore  would make FTZ a more attractive area for foreign investors to tap into the Chinese VATS  market.

When considering the VATS investment in the FTZ, it's important to remember that under  the FTZ rules,  a company must first incorporate a company in the FTZ without a VATS  business scope, and then apply to the SCA separately for the VATS license.  Once the VATS  license is issued, the company is required to go back to the business registration authority to  amend its business license for incorporating the licensed VATS business.  Therefore, in  theory, there is a risk that if the VATS license was not granted by the SCA, the foreign investor would be stuck with a WFOE or JV in the FTZ, which is not qualified to carry out  the VATS business.  To minimize such risk, potential investors shall consider sufficient  advance consultation with the SCA before incorporating any company