WFOE

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PRC Wholly Foreign-Owned Enterprise (“WFOEs”)

Professor Shen Wei

I. Introduction

z Background on WFOEs – Now the vehicle of choice - very popular with foreign

investors – In 2000, more WFOEs were approved than EJVs for the first

time – Foreign investors, barring certain exceptions due to

investment restrictions, have realized the benefits of not having a Chinese partner and a joint venture

– Not permitted until 1986 – and used to follow far behind equity joint ventures

– WFOEs can better achieve foreign investors’ business objectives (protection of technology, product quality and management control) than joint ventures

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I. Introduction

JV z Connections of Chinese

partner z Access to raw materials,

power, other inputs z Access to land z Access to employees z Suited to industrial sector

WFOE z Autonomy z Market economy z Availability of land, materials,

HR z Trodden path, not trail blazing z Suited to light industry and

services sectors

I. Introduction

Greenfield Investments z Classic greenfield joint ventures now rarely straightforward z Typically involve reorganization of State-owned assets z Typically a JV or buy-in into existing entity z Chinese ownership requirement z Huge industrial projects z Access to raw materials, land etc.

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I. Introduction - Example

Vendor

SPV Holdco

JV1

JV2

WFOE

Non-Target

business

Target business

II. Regulatory Framework

z PRC, Wholly Foreign-Owned Enterprise Law z PRC, Wholly Foreign-Owned Enterprise Law Implementing Regulations z The Foreign Investment Guidance Catalogue z PRC, Company Law z Other relevant regulations regarding labor issues, capital contributions,

tax, certain industry specific regulations, etc. z Some legislation for equity joint ventures is applied to WFOEs by analogy

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III. Form/Corporate Structure

z WFOE’s have legal person status – Similar to a “corporate person” in the West

z Limited liability companies z There are no shares in WFOEs – an investor’s interest in a WFOE is

reflected by the amount of registered capital it contributed to the WFOE z Scope of Business z Most WFOEs are established by one foreign investor, but the legislation

does contemplate that WFOEs may have more than one foreign investor

IV. Establishment

z Preparation of a Feasibility Study Report (“FSR”) – FSR is similar to a business plan in the West; it should provide the

technical and economic assumptions upon which the WFOE will operate

– FSR is the first real document submitted for approval of a project – FSR is not a legally binding document, but it should accurately

reflect the business and objectives of the WFOE

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IV. Establishment (Con’t)

z Execution of Articles of Association – Articles contain standard provisions regarding capital, the Board of

Directors, Management etc. – Articles are submitted for government approval – Approval body depends on size of investment – (usually MOFCOM at

the city/local/provincial level, or Beijing central government level if large project)

– WFOEs are permitted for a fixed term although typically can be renewed

V. Specific Issues/Provisions

z Capital Contributions and Financings – Investor is required to make capital contributions – Contribution may be in cash or in-kind; there are limits on amount of

contributions in form of technology/intellectual property

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V. Specific Issues/Provisions (Con’t)

– registered capital vs. total investment z registered capital = equity z total investment = equity + debt z equity ratios are set by regulations depending upon amount of

total investment, and WFOEs must abide by the ratio regulations

z difference between registered capital and total investment (if there is a difference) is the borrowing capacity of the WFOE

z any change in either amount requires approval of the WFOE’s Board and the original government examination and approval authority of the WFOE


z Restrictions and Conditions – WFOEs used to have to meet one of the following two conditions:

z the enterprise must use advanced technology and equipment, develop new products, save energy and raw materials; or

z the value of the products the enterprise exported each year must account for more than 50% of the total value of all products produced during the same year

– These conditions were imposed as part of the authorities reluctance to authorize the establishment of WFOEs due to the lack of control they would have over them

– While you sometimes hear these conditions still referred to, they were done away with and are no longer applicable

– However, WFOEs are still restricted and/or prohibited in certain protected industries, and it is advisable to consult the Foreign Investment Guidance Catalogue

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– Example of restricted and/or prohibited industries include public utilities, transport, real estate, leasing, post and telecommunications, press, publishing, television, cinematography, etc.

– Such restrictions are gradually being removed in line with China’s WTO commitments


– Corporate Governance z Board of Directors z Legal Representative z General Manager / Deputy General Manager z Supervisory / Supervisory Board

– Exit z Liquidation z Trade sale of interest/registered capital

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– Advantages z Most importantly, the greater control a foreign investor has over

management and operation of a WFOE as compared with joint ventures

z No need for partner consents for important decisions z Greater control over product quality and labor management and

incentives z Foreign investor has complete control, within statutory

requirements, over the use and distribution of profits z WFOEs afford foreign investors greater control over the

confidentiality of technology than is possible with joint ventures. Chinese partners in joint ventures often transfer technology without authorization to another Chinese entity they control which may be in competition with foreign-invested joint venture


– Disadvantages z In practice, there are very few when you compare WFOEs to

joint ventures z Some argue a lack of “guanxi”, or relationships provided by a

local partner z Land Use – typically the Chinese partner contributes land use

rights to a joint venture. However, it is not difficult for a foreign investor to find space, including manufacturing facilities, on its own and obtain land use rights

z Market access – A foreign investor must create its own distribution network

WFOE

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