23 July 2014
Practice Group(s):
Corporate/M&A
China’s (Shanghai) Pilot Free Trade Zone:
Widening the Outbound Investment Pipeline
By Amy L. Sommers, Cindy S. Hong and Aqua Xiangyu Huang
The launch of the China (Shanghai) Pilot Free Trade Zone (FTZ) last September
attracted a lot of attention both inside and outside of China. Since then, the lack of
progress implementing stated goals for the FTZ as a destination for foreign investment,
coupled with logistical challenges of getting to and from the FTZ’s remote location, have
attracted considerable comment. As a result, the discussion about the FTZ has so far
focused almost exclusively on inbound investment and associated impediments to
execution, which have led to some skepticism as to the significance of the FTZ.
Interestingly, little has been said with regard to the FTZ’s potential in relation to outbound
investment despite the fact that this is identified as one of the key initiatives associated
with the launch of the FTZ. With record high China foreign exchange reserves and the
appetite of Chinese companies for acquisition in a broad range of industries in mind, this
Legal Insight examines how the FTZ has already adopted key measures and the
potential significance for outbound investment.
The high level of foreign-direct investment (FDI) from the United States (U.S.) into China
each year is well known. Less well known, is that in 2013, the level of Chinese FDI into
the U.S. actually exceeded the level of investment by U.S. companies in China1 and it
appears this is likely to be the case again in 2014. The measures described below are
expected to widen the outbound investment pipeline.
Companies should be thinking about how they and their industry may benefit (or
otherwise) from this emerging trend.
Administrative Measures2: Streamlined Project Approval
Previously, outbound investment projects required approvals from China’s National
Development and Reform Commission (NDRC) and its Ministry of Commerce
(MOFCOM) before the project could proceed.3 If the investor was a state-owned
enterprise, the endorsement of the State-Owned Assets Supervision and Administration
1
According to China’s Ministry of Commerce, the value of China FDI into the US exceeds investment by
US companies into China in both 2013 and the first half of 2014: In 2013, Chinese investors invested
about US$4.23 billion in the US, while US investment in China was about US$3.353 billion.
2
Administrative Measures for the Record-Filing of Overseas Investment Projects of the FTZ
promulgated by the Shanghai Municipal Government on September 29, 2013, which came into effect on
October 1, 2013. Administrative Measures for the Record-Filing of the Investment in and Establishment
of Enterprises Overseas by Enterprises within the FTZ promulgated by the Shanghai Municipal
Government on September 29, 2013, came into effect on October 1, 2013 (both administrative
measures are collectively referred to as the “Administrative Measures”).
3
Outbound investment projects with smaller scale can obtain approval from provincial-level NDRC and
MOFCOM without the need for national-level approval. Projects carried out by local enterprises for an
amount less than US$10 million and not involving any sensitive countries or sectors can be filed with the
provincial-level MOFCOM. The filing time is only three working days. However, such projects still need
to be filed with the provincial-level NDRC and the filing time for this is seven working days. Therefore,
the time to obtain approval from both provincial-level NDRC and MOFCOM is still longer than that
required in the FTZ.
China’s (Shanghai) Pilot Free Trade Zone: Widening the Outbound
Investment Pipeline
Commission was also needed. The Administrative Measures have substantially
streamlined this process, converting what was a substantive approval process to a mere
filing requirement; the catch is that the simplified filing requirements are available only to
would-be investors based in the FTZ.
Companies in the FTZ are only required to file the proposed overseas project and
investment with the FTZ Administrative Commission (Commission). Project filings in the
FTZ no longer require the applicant company to prepare a detailed project report;
instead, they are asked to simply fill out a Record-Filing form and submit relevant
supporting documents, such as a business licence, articles of association, resolutions
approving the outbound investment, proof of operation, assets and credit standing and a
letter of intent relating to the overseas project.
The Commission will then issue a project filing opinion and a certificate within five
working days after the applicant has submitted all the required materials. This
streamlined process could create time savings of several months compared to the
existing outbound investment approval process applicable to companies registered
outside the FTZ. Once the applicant receives the certificate from the Commission, it can
then proceed to handle the foreign exchange, customs and tax matters for its overseas
investment.
Investment in sensitive countries and regions (eg countries without diplomatic relations
with China and countries in a state of war or civil disorder), or in sensitive sectors (eg
basic telecommunication operation, media, large-scale land development, energy and
minerals) remain subject to the existing outbound investment regulatory approval regime.
Despite the NDRC’s recent amendment of its outbound investment rules (which apply to
companies outside the FTZ), the NDRC can still take seven working days, or up to 20
working days to review a submission upon acceptance of all application documents for
complicated cases or cases where the investment amount is above US$300 million.
Compared to the requirements stipulated in the Administrative Measures, the time
savings that can be achieved for companies in the FTZ wishing to conduct outbound
investment is significant.
PBOC Opinion4: Flexible Flow of Funds
One of the groundbreaking aspects of the PBOC Opinion is the creation of free trade
accounts (FTAs). Funds flowing between FTAs and offshore accounts will not be subject
to existing restrictions on the movement of funds between China and overseas
accounts.5 FTAs open up the possibility of free transfers of funds for companies in the
FTZ, enabling these companies to use their Chinese Yuan (RMB) more flexibly for
outbound investment.
Currently, in order to transfer funds for outbound investment, companies are required to
provide evidence to the remitting bank in China of a genuine, lawful underlying
transaction. This requirement is waived for transfers from FTAs, and companies can
spend RMB abroad freely and benefit from improved efficiency in funds utilization.
4
Opinions of the People’s Bank of China on Providing Financial Support for the Development of the FTZ
promulgated by the People’s Bank of China on December 2, 2013 and effective on the same date
(“PBOC Opinion”).
5
Clauses 4 and 5 of the Opinion.
2
China’s (Shanghai) Pilot Free Trade Zone: Widening the Outbound
Investment Pipeline
In addition, the PBOC Opinion specifically encourages outbound investment by enabling
companies in the FTZ to process currency exchanges, payments and receipts for direct
outbound investment with banks inside the FTZ without further requirements.6 This
means that a company will no longer be required to seek approval from the local State
Administration of Foreign Exchange (SAFE) branch before sending capital funds abroad
for outbound investment.
On May 21, 2014, PBOC issued implementing rules7 for FTAs aimed at clarifying unclear
aspects of the PBOC Opinion and creating the framework for implementing FTAs.
However, as foreign investment involves various agencies and procedures, we expect it
will take some time to assess how these simplified procedures can assist FTZ based
companies’ outbound investment initiatives.
PBOC Notice8: Alternative Financings
The PBOC Notice permits offshore RMB loans and outlines the scale and scope for using
these loans.
Companies in the FTZ are allowed to borrow RMB funds offshore. The term of the loan
should be more than one year and it must be used for establishing or operating projects
either in the FTZ or outside of China.9
The amount of offshore RMB loans is capped at an amount calculated by multiplying the
actual paid-in capital (for enterprises), or 1.5 times of the actual paid-in capital (for
nonbanking financial institutions) by the macro-prudential policy parameter. The macroprudential policy parameter is determined by the Shanghai PBOC and is based on the
level of national credit control. Currently, the macro-prudential policy parameter is set at
one. As a result, the amount of RMB that a foreign-invested enterprise (FIE) can borrow
is increased. For example, assuming the FIE’s registered and paid-in capital is RMB10
million, the amount of offshore RMB it can borrow will be RMB10 million based on the
existing parameter. Whereas, a FIE registered outside of the FTZ with the same
capitalization can only borrow a maximum of RMB4 million –the difference between its
total investment amount and its registered capital.
Thus, the PBOC Notice facilitates outbound investment for companies in the FTZ by
making offshore funding more accessible, available and attractive. Given lower interest
rates may be available in other jurisdictions, companies in the FTZ may also be able to
enjoy access to less expensive funding from overseas.
6
Clause 8 of the Opinion.
Detailed Rules of the China (Shanghai) Pilot Free Trade Zone on Prudent Risk Management of
Separate Accounting Business (Trial) promulgated by the Shanghai Head Office of People’s Bank of
China on May 21, 2014 which became effective on the same date.
8
Notice of the Shanghai Head Office of the People Bank of China on Supporting the Expanded CrossBorder RMB Use within the FTZ promulgated by the Shanghai Head Office of the People’s Bank of
China on February 20, 2014 and effective on the same date (PBOC Notice).
7
9
The Q&A section of the Shanghai PBOC website shed more light on what the Shanghai PBOC
considers to be 'establishing or operating' projects outside China: eg outbound investment in the form of
greenfields investment, mergers and acquisitions, etc.
3
China’s (Shanghai) Pilot Free Trade Zone: Widening the Outbound
Investment Pipeline
SAFE Notice10: Provision of External Guarantee
Under China’s general foreign exchange regime, a People’s Republic of China-registered
company wishing to guarantee the economic performance (such as a borrowing) of an
overseas company (eg a subsidiary of the guarantor) must obtain approval for the
guarantee from the SAFE. The SAFE Notice eliminates this administrative approval for
companies registered in the FTZ. Additionally, when providing external guarantees,
companies in the FTZ are not subject to requirements relating to the proportion of net
assets owned by the guarantor and guaranteed entity, the guarantee’s profitability status
or equity affiliation between the guarantor and guarantee. The simplified formalities for
foreign exchange registration eliminate yet another regulatory hurdle for outbound
investment.
Seen in their totality, the changes summarized here have the potential to significantly
impact the foreign-investment ambitions of companies registered in the FTZ.
Authors:
Amy L. Sommers
amy.sommers@klgates.com
+86.21.2211.2085
Cindy S. Hong
cindy.hong@klgates.com
+86.21.2211.2086
Aqua Xiangyu Huang
aqua.huang@klgates.com
+86.21.2211.2089
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©2014 K&L Gates LLP. All Rights Reserved.
10
Notice of the Shanghai Branch of the State Administration of Foreign Exchange on Printing and
Distributing the Detailed Rules of Implementation on Providing Foreign Exchange Administrative
Support for the Development of the China (Shanghai) Pilot Free Trade Zone promulgated by the
Shanghai branch of the State Administrative of Foreign Exchange on February 28, 2014 and effective
on the same date (“SAFE Notice”).
4