China has recently released a new draft of the Foreign Investment Law of the People's Republic of China which will consolidate the various existing laws on foreign investment under a single piece of legislation.
The new draft law defines the different types of foreign investment and covers investment promotion, investment protection, investment administration and legal liability in respect of foreign investment. The draft, which is open for public consultation until 24 February 2019, is markedly different from the earlier (and significantly longer) consultation draft released in 2015. In this bulletin, we summarise the key provisions in the new draft law and highlight the main differences from the 2015 consultation draft.
- Definition of foreign investment
- Foreign investment promotion
- Investment protection
- Investment administration and legal liability
Definition of foreign investment
In the new draft law, foreign investments are defined as foreign investors' direct and indirect investment activities in the PRC. Specifically included within the definition are investments in new projects or enterprises; increased investment in existing enterprises; mergers and acquisitions of shares, equity, assets and other similar interests in enterprises in the PRC; and foreign investors' other investments in the PRC made in accordance with laws and regulations.
The 2015 consultation draft listed various other additional foreign investment scenarios including (i) providing financing to enterprises in which the investor already holds shares, equity, assets and other similar interests; (ii) obtaining permits to explore and exploit natural resources or construct or operate infrastructure; (iii) acquiring real estate rights, such as land use rights or building ownership; (iv) controlling or owning interests of domestic enterprises by contract, trust or other means; and (v) transaction conducted outside the PRC which results in the transfer of the de facto control of an enterprise in the PRC to a foreign investor. These scenarios have been replaced in the new draft law by the miscellaneous provision covering other investments in the PRC made in accordance with laws and regulations.
Foreign investors are defined to include individuals, enterprises and other organisations. However, this definition differs from the one proposed in the 2015 consultation draft which also deemed as foreign investors other state or regional governments and their affiliated departments or institutions. Given they are no longer specifically included in the definition, it remains uncertain how investments by such entities will be regulated.
More importantly, the definition of "indirect" investment is not clear in the new draft law. The investment scenarios in the 2015 consultation draft relating to controlling or owning interests of domestic enterprises by contract, trust or other means have been removed. Therefore, VIE structures, common in foreign investments, appear to fall outside of the scope of the definition of foreign investment in the new draft law. This suggests that the regulation of VIE structure is likely to be subject to further discussion and legislation.
Additionally, unlike the 2015 consultation draft which provided that foreign investors controlled by Chinese citizens or companies could apply for an exemption from the law, it is not clear in the new draft law whether such an exemption will be available.
Foreign investment promotion
The new draft law emphasises establishing a stable, transparent and predictable investment environment for foreign investment in China. The new draft law sets out the major principles for promoting foreign investments which include, among others: (a) national policies for developing enterprises will be applied consistently to foreign-invested enterprises; (b) China will ensure foreign-invested enterprises have opportunities to participate in the nation's standardisation work and to compete fairly in government procurement projects; and (c) financing options for foreign-invested enterprises will include the public offering of shares, corporate bonds and other securities. These principles were not clearly stated in the 2015 consultation draft.
The new draft law also sets out various protection principles for foreign investments including the following:
The state will not expropriate foreign investments. If expropriation is required in the public interest, the state should apply procedural fairness and provide fair and reasonable compensation.
The capital contributions, profits and capital gains of foreign investors may be freely remitted outside the PRC.
The intellectual property rights of foreign investors and foreign-invested enterprises will be protected in accordance with the law. And administrative means should not be used to compel the transfer of technology, which is an important new protection has not previously been clearly provided for.
Foreign investment rules shall not illegally: impair the legitimate rights of, or impose additional obligations on, foreign-invested enterprises; create unlawful conditions for market access or exit; or intervene or influence the normal production and operation activities of foreign-invested enterprises.
Local governments and their relevant departments shall strictly abide by policy commitments and contracts made according to the law. The focus on compliance with the protection principles at the local government level is also new, having not previously been included in the 2015 consultation draft.
The mechanism for submitting and handling complaints for the protection of the rights of foreign-invested enterprises shall be improved.
Investment administration and legal liability
The new draft law specifies three administrative systems governing foreign investment: (i) a pre-establishment national treatment and negative list system; (ii) a foreign investment information reporting system; and (iii) a foreign investment national security review system. However, the 2015 consultation draft provided greater details on each of these systems.
The new draft law stipulates the legal consequences for violation of the negative list system providing for rectification orders or orders to cease investment activities or dispose of shares and assets within the prescribed time limit, or orders to take other necessary measures to restore matters to the original state prior to the investment. However, unlike the 2015 consultation draft, the new draft law does not cover the details of the legal consequences for violation of the foreign investment information reporting system nor the foreign investment national security review system.
Given the lack of detail in the new draft law, it is therefore currently not clear how the systems will be implemented and the legal consequences for foreign investors who do not comply with certain aspects.
The new draft law is expected to be issued in final form and be effective in early 2020. It will replace the existing laws on wholly foreign-invested enterprises, Sino-foreign equity joint ventures and Sino-foreign cooperative joint ventures. Given this, the current approval regime and the existing ancillary laws and regulations for foreign investments fall under the negative list will also need to be terminated. However, there are still a number of uncertainties in the new draft law regarding the approval regime, in addition to the uncertainties as noted above.