Key points on transition to the new Foreign Investment Law clarified, while further reforms awaited
With the coming into effect of the new Foreign Investment Law ("FIL") from 1 January 2020, important clarifications to certain concepts have been made, in new implementing rules of the State Council1 ("Rules") and a judicial interpretation of the Supreme People's Court on the FIL. Around the same time, the State Administration of Market Regulation ("SAMR") released a new notice2 clarifying the transition to the FIL, and the Ministry of Commerce ("MOFCOM") overhauled its foreign investment filing system.
Enhanced investor protection and investment facilitation
Three concepts in the Rules help enforce the FIL principle that foreign investments will not be
expropriated without reasonable compensation: no discrimination, market value must be compensated, and rights of administrative appeal for the expropriated party.
The Rules provide a defined basis for investors to hold government authorities to their FIL obligations to comply with commitments and contracts, by (i) specifying that "commitments" include all forms of written policy support or preferential/ accommodative treatment for local investments, and (ii) expressly disallowing changes to governmental divisions, officers or functions as basis for reneging on their contractual obligations.
On the FIL's commitment to protect foreign investors' IP, the Rules promise to step up
1 Implementing Rules for the Foreign Investment Law ( ), State Council, 26 December 2019.
2 Notice on Tight Implementation of Foreign Investment Enterprise Registration under the Foreign Investment Law (
), SAMR, 31 December 2019.
Enhanced investor protection and investment facilitation Increased transparency Regulatory responsibilities VIEs: risk profile unchanged New start further defined FIE approvals and filings: streamlined and refined Future developments in relation to foreign investment Summing up
1 2 2 2 3 3 5 5
sanctions and law enforcement against infringers, presumably contemplating, amongst others, the stiffer penalties in the 2019 amended Patent Law.
To underpin the FIL's commitments to a fair and competitive government procurement process including equal treatment of foreign invested enterprises ("FIEs"), the Rules provide that supplier selection may not be restricted on the basis of ownership, corporate form, nationality or brand.
The Rules broaden and deepen the State's commitment of public consultation to include all regulatory documents, going beyond the scope of the obligation in the FIL regarding national laws, regulations and rules. Where appropriate, more proactive consultation, including discussion symposiums and public hearings, is contemplated in addition to soliciting written comments. It is also clarified that material proposals will be responded to or acted upon.
To ensure that foreign investment is transparently regulated, the Rules provide that (i) regulatory documents not promptly published as required by the FIL may not be applied by regulators, and (ii) the period from publication to implementation of key regulatory documents must be reasonably defined. This may result in codification of points where undisclosed "window guidance" has been used by regulators in supervising foreign
investments, e.g. in the area of reviewing crossborder foreign exchange remittances.
Notably, the Rules attempt to reinforce the various FIL-based legislative rights by holding accountable government functionaries who discriminate against FIEs (including in relation to the procurement process described above), illegally restrict crossborder remittances by foreign investors, or breach the terms of contracts or commitments.
VIEs: risk profile unchanged
The FIL did not expressly touch on "variable interest entity" (VIE) structures, which attempt to give economic exposure and control to foreign investors in sectors where restrictions on foreign investment apply.
The provision in the consultation draft of the Rules which would have exempted from foreign ownership restrictions all reverse investments into mainland China by wholly Chinese-owned entities subject to approval by the State Council (which was considered a step to lay down the foundation for future regulation of VIE structures) has been withdrawn from the final text. This, coupled with the new judicial interpretation of the Supreme People's Court, leaves largely unchanged the risk profile of VIE structures.
In the absence of further regulations, and in light of other recent legal and policy changes and
developments such as the CDR3 regime and the New Tech Board, the risk of VIE structures being generally unwound continues to be low in practice, though there remains a possibility that the government may test-regulate VIEs in specific sectors such as education, and then extend this to other sectors. Thus, VIEs continue to be a key area in which future developments are to be monitored.
New start further defined
The Rules provide more detailed guidance on the restructuring path for FIEs established under the old FIE laws, required by the FIL to be completed by 2025. Contrary to the consultation draft, there will be no further 6-month grace period; changes to corporate governance to remove those elements specific to the old FIE laws will need to be made by 1 January 2025, but it has been clarified that pre-FIL contractually negotiated share transfer, dividend and asset distribution rights can remain in place. Re-registration of the corporate form will not be necessary, save for those unincorporated FIEs, which can re-register as partnerships or limited liability companies. There is now a clear break from the pre-FIL rules, as the Rules state expressly that they and the FIL prevail over any inconsistent provisions of the previous foreign investment legislation; also, mainland Chinese
3 China Depositary Receipt
individuals are now expressly permitted to invest in FIEs.
The Rules are a good start in managing the transition to the new FIL governance structure, though other aspects still remain to be clarified. For example, the Rules provide that existing FIEs that have not revised their governance by 2025 will be publicised and their SAMR registrations will not be accepted (but have not prescribed the governance applicable to such FIEs from 2025). The adjoining table summarises required revisions, using equity joint ventures for comparison purposes.
FIE approvals and filings: streamlined and refined
In accordance with the provision for a foreign investment information reporting system in the FIL, MOFCOM has introduced new reporting requirements for all FIEs, replacing the previous filing-based system for establishment of, and changes to, FIEs which had been in place since 2016. The new reports, which comprise an information report, an amendment report, a deregistration report and an annual report, are to be submitted through SAMR's enterprise creditworthiness publicity system which is also used to register the establishment of new FIEs and domestic enterprises.
FIL corporate governance changes by 2025: high-level overview
Board of directors is highest authority
Shareholders' committee is highest authority
Certain matters require unanimous board resolution
Certain matters require two-thirds majority shareholder approval; no board veto matters at law
Dividends pro rata to shareholding
Dividends pro rata to shareholding unless otherwise agreed by shareholders
Liquidation assets allocated pro rata to shareholding, unless otherwise agreed in the articles of association
Liquidation assets allocated pro rata to shareholding
No fixed term
Unanimous board consent required for transfers of shares/ equity interests
Simple majority shareholder consent required for transfers of shares/ equity interests
It is also clarified that the new reports must be completed for all direct and indirect investments by FIEs in mainland China (this appears to be the intention behind the provision of the Rules that expressly applies the FIL and the Rules, as a general principle, to all investments by FIEs in mainland China). How the other aspects of the FIL/Rules would apply to such investments (for example, with regard to foreign exchange remittance) is still unclear.
Importantly, (i) the new system, once up and running, should result in time and efficiency savings for foreign investors, as they will be able to submit all FIE-related information on a single platform without needing to make multiple filings with MOFCOM and SAMR, and (ii) procedures for the filing of the new MOFCOM reports and the application for establishment for FIEs are not sequential. Submission of the MOFCOM report is not a necessary condition for the registration of a new FIE, nor will SAMR verify whether the MOFCOM report has been submitted. However, on-the-ground enquiries suggest that certain local bureaux of SAMR may not yet be ready to complete registrations without some form of acknowledgment from MOFCOM it may take
4 For an explanation of the negative list, see Linklaters publications, "China's Negative List and Encouraged Foreign Investment Catalogue
some time for the new system to be fully implemented.
All investment filings made by foreign investors, or FIEs, in sectors not restricted to foreign investment under the negative list4 are to be treated the same as domestic investor filings. Importantly, the new judicial interpretation of the Supreme People's Court expressly prohibits courts from declaring that an investment agreement in any of these sectors is void, or has not come into effect, on the basis that relevant industry regulatory approvals have not been obtained, thus drawing a clear line between the effectiveness of an investment agreement and compliance with industry regulatory approval / consent/ filing requirements in these sectors.
For FIEs in sectors restricted to foreign investment under the negative list, the previous requirement of MOFCOM approval, involving the issuance of a MOFCOM approval certificate, has been abolished. SAMR is required to register the establishment of these FIEs provided they comply with the restrictions as to foreign ownership percentage, legal representative and key persons in charge (if applicable) under the negative list, and to the extent that necessary industry-specific regulatory approvals have been obtained. SAMR is
2019 edition", and "China advances foreign investment and negative list reform with seventh draft catalogue", available on www.linklaters.com.
MOFCOM's new information reports (requirements for deregistration reports are yet to be published)
Information on the FIE: name, location, business, capital, investment structure, details of projects encouraged by the State, legal representative, directors, supervisors, general manager
Information on shareholders: domicile, capital, details of ultimate controller and any Chinese shareholding
More details required if the FIE is formed from the acquisition of a domestic enterprise, or an investment in a listed company
Amendment report for changes to the above
Industry permits, number of employees and patents, annual salaries paid, details of investments by Fortune 500 companies in and reverse investments by the FIE, financial information including assets, liabilities, income, expenditure, imports and exports, tax paid, and (if a FIE holding company) interests in and dividends from subsidiaries.
not required to re-check the FIEs' compliance with the restrictions under the negative list.
Future developments in relation to foreign investment
Apart from VIEs, FIL transition issues and foreign investment reporting, expected developments in the near future include (i) guidelines to assist foreign investors by explaining the investment environment and how to effect various administrative processes, as well as by providing information and data on investment projects, (ii) a central government-led joint consultation committee to deal with foreign investors' complaints including rules on procedures and timing to be put in place by MOFCOM, and (iii) a new regime for national security review of foreign investment.
The Rules are a welcome clarification of certain aspects of the FIL. A new wave of reform has been kickstarted, defining the path to full implementation of the FIL in 2025. The SAMR and MOFCOM reforms are intended to give greater autonomy to investors and uphold the sanctity of contracts and streamline administrative procedures to bring the investment reporting regime closer to developed jurisdictions. The authorities should take a pragmatic approach to the information requirements, so that they do not cause undue additional burdens to investors.
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