Three primary investment forms are commonly used by foreign companies to establish a permanent presence in China -- the Sino-foreign Joint Venture, the Wholly Foreign Owned Enterprise, and the Representative Office.
Sino-Foreign Joint Ventures
This investment form requires the foreign company to team up with a Chinese partner. As Chinese companies are typically short on money (particularly hard currency), the foreign partner usually provides the bulk of the funding while the Chinese partner supplies land use rights, deals with the Chinese bureaucracy, and helps recruit employees for the venture.
Sino-foreign Joint Ventures can be divided into two types -- (1) Equity Joint Ventures, and (2) Cooperative Joint Ventures (also known as Contractual Joint Ventures). In an Equity Joint Venture, the parties are obligated to divide their respective contributions to the joint venture (whether in cash or in kind) into discrete ratios, which ratios must be strictly adhered to when apportioning profits both during the venture’s operation and after liquidation. In a Cooperative Joint Venture the parties need not calculate a contribution ratio for each partner and thus may freely apportion profits according to the terms of a negotiated Joint Venture Agreement. Cooperative Joint Ventures are often used for Build-Operate-Transfer (BOT) projects.
Wholly Foreign Owned Enterprises
Known affectionately among old China hands as the WFOE (pronounced ‘woofie’), this investment form allows 100% foreign ownership. It is attractive to the increasing number of foreign investors who already have business experience in China and thus don’t need to rely on a local partner to hold their hand as they make their way through the byzantine corridors of the local market. It is also popular among less experienced investors who want to avoid the hassles of dealing with a Chinese partner.
Some industries are off-limits to 100% foreign ownership (there are even a few sensitive industries in which participation by Sino-foreign joint ventures is prohibited), but WFOE regulations have recently been relaxed in compliance with China’s WTO obligations -- certain restrictions have been eliminated concerning WFOE export volume and technological capabilities that once forced many investors to choose between either working with a Chinese partner or substantially modifying their business plans to conform to WFOE regulations.
Representative Offices
Although the establishment of a Representative Office (“RO”) is by far the most popular first step for foreign companies seeking a presence in China, it is not an investment vehicle per se. Strictly speaking, it is not even a company. It is barred from carrying out direct business activities -- it may not receive fees for its services, and its staff may not even sign contracts (although unfortunately, under certain circumstances it can still be taxed by the Chinese authorities). It is normally used for purposes such as market research, product sourcing, and liaison. The RO is popular among foreign investors as a way of establishing a company presence in China, and as a preliminary step aimed at learning enough about the Chinese market to minimize reliance on local partners in future ventures. The main advantage of an RO is that it is relatively quick, easy, and inexpensive to establish.
The foregoing investment forms are not the only options. Some companies prefer investment in or acquisition of existing Chinese companies, and various cooperative arrangements with Chinese companies (such as compensatory trade, processing and assembling, etc.) are gaining increasing acceptance because they can spare a would-be investor from the risks of establishing a Chinese company from scratch.
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