China is launching a “New Infrastructure” campaign to turbocharge its economic recovery from the coronavirus pandemic and boost sustainable growth and innovation.
At the meeting of the Communist Party of China Political Bureau Standing Committee on 4 March 2020, seven “New Infrastructure” sectors were recognised as the focus of the country’s next-generation development, namely:
internet data centres;
new energy vehicle charging stations;
industrial internet of things (IoT);
inter-city transportation and inner-city rail systems;
artificial intelligence; and
The market expects that a new round of spending and investment in these New Infrastructure sectors will be the theme for China’s economic development. A number of local governments have put New Infrastructure projects in their government work reports. Policy incentives have guided market funds into the sectors, but the government is also expected to encourage “New Infrastructure” development via special bonds, public-private partnerships, and credit support.
We will publish series of articles to briefly introduce a market overview, foreign investment rules, and key legal issues for each sector of the New Infrastructure. This is Part 1 focusing on internet data centres.
INTERNET DATA CENTRES
The internet data centres (“IDC”) sector generally comprises the (i) leasing of corresponding computer room facilities, for provision of placement, agent maintenance, system configuration and management services, to users’ servers and other internet or other network-related equipment; (ii) leasing of database systems, servers or storage space, etc; (iii) leasing of communications lines and outlet bandwidth, and other application services, as one of the “value-added telecommunication services” under the catalogue B11 in the Telecommunication Services Classification Catalogue (2015 Version) issued by MIIT. IDC service may also include internet resource collaboration services such as data storage, internet applications development and operation management etc.
Private investment in IDC was first promoted in 2012 by the MIIT’s Implementing Opinions on Encouraging and Guiding Private Investment to Further Enter into Telecommunications Industry which provides that opening IDCs and internet service providers (“ISPs”) businesses to private investment should be further specified so as to guide the private investment to participate in the operation activities of IDCs and ISPs.
According to the Analysis Report on Domestic Value-Added Telecommunications Business Licensing issued by the China Academy of Information and Communications Technology, as of the end of March 2020, there were 2,362 domestic data center operators. Key market players providing IDC services include China Mobile, China Unicom, and China Telecom (as basic telecommunication service operators), Global Data Solutions, 21Vianet Group and Sinnet (as third party operators).
2. Foreign investment rules
According to the Special Administrative Measures for Access of Foreign Investment (Negative List) (2019 Edition) (“Foreign Investment Negative List”), provision of telecommunication services including IDCs is generally restricted.
For investors from Hong Kong and Macau, under the Closer Economic Partnership Arrangement (“CEPA”) entered into by Mainland China and Hong Kong/Macau respectively, IDC service is open to Hong Kong and Macau service supplier with the restrictions that the proportion of Hong Kong capital in the shareholding shall not exceed 50%. The “service supplier” is further required by CEPA to be incorporated or established in Hong Kong, to have engaged in substantive business operations for three years or more and to be capable of provision of document and information in relation to the verification by Hong Kong or Macau telecommunications regulators.
In summary, except for certain qualified investors from Hong Kong and Macau permitted under CEPA, foreign investors are generally prohibited from investing in the IDC sector in China.
3. Key issues to note
3.1 Regulatory approvals
Construction of IDC infrastructure is subject to record filing at National Development and Reform Commission (“NDRC”), similar to other traditional infrastructure projects in China that do not fall in the scope of projects concerning state security, or involving significant national productivity layouts, the development of strategic resources or major public interests (which require NDRC project approval).
Besides the general regulatory regime that applies to construction of IDCs as infrastructure, such as permits for planning, construction and environmental assessment etc., the construction of IDCs is also subject to energy-saving review from development and reform departments due its nature of high energy consumption.
For the operation of IDCs, IDCs operators shall obtain the value-added telecommunication service operating permit (“IDC Permit”) from MIIT.
3.2 Alternative approaches for foreign investors
Due to the policy restraints on the foreign investment in IDCs operations, the market is dominated by domestic players and few foreign invested companies have obtained IDC Permits. Most of the foreign investors in such foreign invested companies are registered in Hong Kong. In practice, foreign investors may choose to enter the IDC sector through a VIE arrangement as follows:
the infrastructure that houses the IDC is owned through a WFOE;
the infrastructure is then leased to the IDC operator holding IDC Permit; and
the WFOE enters a VIE arrangement with the IDC operator and its natural person shareholder in order to have some “control” over the IDC operator.
Two issues to be noted in this structure: (i) the infrastructure leased by the WFOE shall not include any IT facilities as the leasing of IT facilities for IDC services may be construed as IDC services which require an IDC Permit; (ii) VIE arrangements may be construed as foreign investment under the new Foreign Investment Law hence the above structure may be deemed invalid and illegal as a circumvention of the Foreign Investment Negative List and a violation of the Foreign Investment Law.