VIEWS ON THE DRAFT OF FOREIGN INVESTMENT LAW

  • martedì 22 gennaio 2019
  • Asia

Introduction

On December 26th 2018, the official website of the National People's Congress (NPC) released a draft Foreign Investment Law (the "Draft"), and sought for the public’s comments. As a basic law for foreign investments, the Draft will supersede the Sino-Foreign Equity Joint Ventures Law, the Wholly Foreign-Owned Enterprise Law and the Sino-Foreign Cooperative Joint Venture Law (together, the "Three Laws") in combination, taking up significant legislative mission of reconstructing the basic framework system for foreign investments. Meanwhile, the Draft is also broadly viewed as a revision of the Foreign Investment Law (draft for comments) released in 2015. The release of this Draft and the public enquiry for comments signifies that the significant matter of enacting a basic law for foreign investments has been reaccelerated, after three years of releasing the Foreign Investment Law (draft for comments).

In order to figure out the preliminary results achieving from the establishment of basic framework system for foreign investments and related matters accurately, we will first discuss the main body of the Draft, briefly summarize the basic provisions for system construction set out in the Draft, and further discuss and analyze some related issues on reconstructing the framework system for foreign investments in the Draft based on the Three Laws and the 2015 Foreign Investment Law (draft for comments). Finally, in order to further perfect of the Draft, we will provide some suggestions on revising.

. Summary of the main body of the Draft

The Draft of Foreign Investment Law consists of six charters and 39 articles. The main body is the part excluding General Provisions, Supplementary Provisions and Liabilities, which consists of three charters and provides related legislative principles, directions and regulations from three aspects including the promotion, protection and administration of foreign investments respectively. In relation to the system building, the Draft mainly suggests the following basic systems from the said three aspects:

1. Basic system for promoting investments

a. The Draft provides that foreign investments shall be applicable to the Pre-establishment National Treatment plus Negative List Management System (the PENTPNLMS). This Draft officially confirms the PENTPNLMS for foreign investments, which was first implemented by the Shanghai Pilot Free Trade Zone in 2013 as a pilot policy, in form of basic law, which has significant meaning. 

b. The Draft specifically provides that foreign-funded enterprises can be financed via publicly offering securities including shares and corporation bonds by law and by other means. While there has been no substantial obstacle for foreign-funded enterprises to publicly offer shares and bonds for a relatively long time, the Draft specifically provides foreign-funded enterprises with the rights to issue shares and bonds by law for the first time, which is still meaningful.

2. Basic system for protecting investments

a. The Draft specifically emphasizes that the PRC government will protect the intellectual properties of foreign investors and foreign-funded enterprises by law, and provides that no administrative means shall be used to make mandatory transfer of technology. While such provision is not a new regulation, it can be viewed as a positive response to the complaints of the west world regarding to the China’s weak protection for intellectual properties for a long time.

b. The Draft provides that the PRC government will establish a complaint system for foreign-funded enterprises, improve significant policy measures in the complaint process, and timely resolve issues raised by foreign-funded enterprises. Such regulation can be seen as a direct reflection of the preservation and preferential treatment of the rights of foreign-funded enterprises, which was first reflected in the Foreign Investment Law (draft for comments).

3. Basic system for administrating investments

a. The Draft provides that the PRC government will establish an information reporting system for foreign investments. The content and scope of informative reports shall be established under the necessary and strictly-controlled principles. Foreign investors or foreign-funded enterprises shall file investing information with the commercial department via enterprise registration system and enterprise credit information publicity system. The investing information which can be acquired via department information sharing shall not be required to refile. Such regulation is also originated from the Foreign Investment Law (draft for comments).

b. For national security, there are principle provisions regarding to the safety censorship for foreign investments, and the Draft specifies that the decision of safety censorship is the final decision. There is a whole charter set out in the Foreign Investment Law (draft for comments) regulating the safety censorship, but in this Draft, there are only principle provisions. In this regard, it still awaits further implementing rules against the subsequent practical operations.

. Overall impression and assessment on the Draft

As a basic law for foreign investments enacted under the new situation of China's opening up and utilization of foreign capital, the legislative purport of the Foreign Investment Law is quite distinct. The very first article of the Draft specifically provides that its purpose is to promote foreign investments and protect the legitimate rights and interests of foreign investments. Such legislative purport also can be seen throughout the whole Draft—there are 20 of 39 articles which are concerning about how to promote and protect foreign investments. As we can see from the content of the articles, the Draft provides foreign-funded enterprises with equal treatment to domestic-funded enterprises in terms of policy-making, governmental sourcing, administrative services, corporation financing, and protection of intellectual properties. Against the background of expanding opening up and positively utilizing foreign investments in recent years in China and the Sino-US trade frictions, it is reasonable for the Draft to emphasize the promotion and protection of investments with more length. However, it should be noticed that because the legislative purport weights too much on the promotion and protection of investments, the Draft lacks expressions for the basic function of building and reconstructing the framework system of foreign investments. As a basic law for foreign investments being classified as the substitute of the Three Laws, it is hard to understand that the Draft Foreign Investment Law does not provide expressions for the special elements of foreign-funded enterprises, such as the body, establishment and organization style, which were provided in the original Three Laws. In addition, most of the provisions set out in the Draft are of principle, there is little operable provisions. If the law is enacted like this, there will be too many operable provisions which need to be presented by formulating implementing rules, which will undoubtedly bring new challenges to the perfection of legal system for foreign investments.

. Discussion on several issues about constructing the basic framework system for foreign investments in the Draft

As mentioned before, this Draft Foreign Investment Law has a clear purpose to promote and protect foreign investments. However, it should still be further improved in terms of constructing basic framework system for foreign investments. Especially, under the principle of unified supervision of domestic and foreign investment, how to incorporate the unique elements and operative systems of foreign-funded enterprises needs to be concerned. Specifically, we believe that we should further consider the following matters in terms of the construction of the basic framework system for foreign investments:

1. Issues on investing body of foreign-funded enterprises

As to the foreign investing body, article 1 of the Sino-Foreign Equity Joint Ventures Law provides the composition of the main body of both foreign and domestic investments. Articles 11 and 12 of the Foreign Investment Law (draft for comments) released in 2015 specifically defined the terms “Foreign Investor” and “Chinese Investor”. However, this Draft Foreign Investment Law only mentions the composition of investing body in the definition of foreign investments in article 2, and only the composition of foreign investing body (under article 2 of the Draft, the foreign investing body includes foreign individuals, corporations and other organizations), but there is no provision for domestic investing body, which will create confusion on how to ascertain the domestic investing body. This Draft Foreign Investment Law undoubtedly has some deficiency in terms of defining investing body, as compared to the mode of defining with specific articles in the Foreign Investment Law (draft for comments).

In addition, the Draft Foreign Investment Law does not define the domestic investing body, as a result, the legislative achievements, which for the first time included China’s domestic individuals as the investors of foreign-funded enterprises, of the original Foreign Investment Law (draft for comments) cannot be retained and continued. That China’s domestic individuals are restricted as being the investors of foreign-funded enterprises was first caused by the special access system for enterprises set up by individual domestic residents in the early stage of the reform and opening-up. However, after a long period of time, as such restriction on domestic individuals has been loosened in China, the restrictive provisions on the qualifications of domestic individuals as being the investing body set out in the Sino-Foreign Equity Joint Ventures Law are increasingly insufficient to meet the needs of economic societies and the tendency of consistent development of domestic and foreign investments. Therefore, both the legal theoretical and practical societies are calling for cancellation of such restriction (in this regard, please refer to the article named “Discussion on the Possibilities for Domestic Individuals to Hold Shares of Foreign-Funded Enterprises” previously written by the author).

Therefore, since the Foreign Investment Law (draft for comments) has explicitly granted the qualification for domestic individuals to invest in foreign-funded enterprises, it is a great pity for this Draft to lack the content of defining domestic investing body.

Based on above reasons, we suggest that the qualification of domestic investors should be supplemented and improved, and domestic individuals should be incorporated into the scope of domestic investing body. While perfecting the legislative system of the Foreign Investment Law, we should encourage domestic residents to actively participate in the introduction of foreign investments and promote the opening up, so as to better promote the formation of a new round of opening up in China.

2. Issues on the establishment procedures of foreign-funded enterprises

Presently, there are two classifications of legal norms for establishing foreign-funded enterprises in China: One is for the foreign investment projects in the industries within the scope of negative list of foreign investment; the other is for the foreign investment projects outside the scope of negative list. As for the former, they’re still applicable to the approval procedures set out in the Three Laws; and as for the latter, they are set up under the provisions set out in the Interim Measures for the Recordation Administration of the Formation and Modification of Foreign-Funded Enterprises (the “Interim Measures”) following the filing system. Upon the Foreign Investment Law taking effect, the Three Laws will be abrogated immediately, which means the setup of the industrial projects with foreign investment within the scope of negative list will lose its basis and guidelines. And, although the Interim Measures has set out the filing guidelines for the industrial projects with foreign investment outside the negative list, part of the establishment registration procedures are still implemented according to the Three Laws and their relevant regulations. Therefore, as a basic law for foreign investments, we believe that it is necessary to specify the basic establishment registration principles and regulations, especially the establishment registration principles for the foreign investment projects within negative list, so as to resolve the issues in the process of succeeding the old laws with the new smoothly upon the abrogation of the old laws.

3. Issues on the governance structure of foreign-funded enterprises

As for the corporate governance structure, according to the provisions set out in the Equity Joint Ventures Law, the board of directors is the governing organization and the high authority of Sino-foreign equity joint ventures, but there is no such provision set out in the Draft Foreign Investment Law. In relation to the legislative system, we consider that such regulation of corporate governance will applicable to the rules set out in the Company Law according to the principle of internal and external consistency. However, there are evident differences between the Company Law and the original Three Laws in terms of corporate governance structure (the board of directors is the high authority in foreign-funded companies, and the board of shareholders or the stockholders' meeting in domestic-funded companies).Therefore, how to regulate and link up such differences is also an issue worthy of consideration. If it simply provides that the application and operation shall be subjected to the Company Law, the foreign investors who are accustomed to the board-governing structure will feel inadaptable or even confused. However, the detailed changes on such issue should be further observed upon the Draft taking effect.

4. Issues on the organizational forms of foreign-funded enterprises

As for the organizational forms of foreign-funded enterprises, the original Three Laws provided three types of organizations, ie. Sino-foreign equity joint ventures, Sino-foreign cooperative joint ventures and wholly foreign-owned enterprise. However, this Draft (along with the Foreign Investment Law (draft for comments) ) has also not defined the organizational forms of foreign-funded enterprises, which seems that the nature of enterprises will not be legally defined by the nature of Sino-foreign joint ventures any more, which also means that there will be no such classifications any more, and the organizational forms of enterprises will be differentiated under the provisions set out in the Company Law of China according to the principle of internal and external consistency. However, since foreign-funded enterprises have the attribution of foreign investment, it cannot be neglected that there are differences between foreign and domestic enterprises (and not just between the names). Therefore, we believe that it is necessary to clarify how to differentiate the types of foreign-funded enterprises so as to impose specific regulation under the consistent norms for organizational forms set out in the Company Law. In addition, the Sino-foreign cooperative joint ventures set out in the Sino-Foreign Cooperative Joint Ventures Law include the organizational forms of non-corporation structures. If the organizational forms will be determined under the Company Law in the future, it means that such cooperative enterprises cannot be established for they are not consistent with the requirements of the Company Law’s organizational forms. Therefore, upon the Three Laws being superseded by the Foreign Investment Law, how to specify the legal regulations for existing enterprises of such types is also an issue worth of consideration.

5. Issues on the VIE structure

Whether the VIE structure is legitimate has long been one of the focused issues for basic legislation for foreign investments. The 2015 Foreign Investment Law (draft for comments) first specifically incorporated the VIE structure into the administration of foreign investments via introducing the concept of “effective control standard”, and suggested three legislative options, including “reporting/disclosure exemption mode”, “recognizing exemption model” and “accessing approval mode” in relation to the VIE structure in its specification. Such action triggered extensive concerns in the market about whether the VIE structure mode can be continued. Surprisingly, this Draft Foreign Investment Law deletes not only the concept of “effective control standard”, but also all provisions in relation to the VIE structure, which means the attempt of resolving such issue by way of basic legislation is put aside. Considering that the legislative keynote for this Draft is to promote and protect foreign investments, it is reasonable to put aside the norms of the VIE structure.

In the long run, since the VIE structure not only relates to whether the listing structures of domestic enterprises, who use the VIE structure mode to list overseas presently and in the future, is legitimate, but relates to significant issues including market access for foreign investments and standard controls of the administration of negative list, it is still necessary to launch legal norms and guidelines to resolve such issue. Even there is no such provision set out in this basic law of foreign investments, it needs to be specified in the follow-up separated regulations, departmental rules or normative documents.

.Conclusion

As mentioned above, this Draft Foreign Investment Law will increase the promotion and protection of foreign investments to the height of legislative purport. It is clear that legislators mean to promote the further development of foreign investments and improve the business environment for foreign-funded enterprises. However, as a basic law for foreign investments, the provisions set out in the Draft are too general and even lacks norms in some degree in terms of reconstructing basic framework system for foreign investments. Although such lack of regulating norms can be filled by formulating implementing rules in terms of legislative techniques, we still suggest to improve relevant basic elements (such as elements in terms of investing body) in the structure of legal system, so as to effectively reconstruct the basic framework system for foreign investments, succeed the Three Laws with the Foreign Investment Law smoothly, increase the scale and quality of the utilization of foreign investments in China, and facilitate the better development of foreign investments in new situations. 

Henry Hou, Asia Desk BLB