20 March 2019

China’s new Foreign Investment Law - a new era for foreign investment in China?

The Foreign Investment Law of the People’s Republic of China (FIL) was approved and passed by the National People’s Congress (NPC) on 15 March 2019. In its current form, the FIL will become effective at the beginning of 2020, at which time it will replace the set of Chinese laws commonly known as the “Three Enterprise Laws” that has been the seminal legislation governing foreign investment in China since the early 1980s. 

The FIL was promulgated in an unprecedentedly short examination and approval process, particularly in light of its ambitious goals and the broad and significant implications it will undoubtedly have on both Chinese and foreign business activities in the PRC.

This note briefly discusses the background of the FIL and highlights a few issues in the FIL that should be of interest to foreign investors doing business in China.

Background

The business and legal community in the PRC had been anticipating the promulgation of the FIL (in one form or another) since the Ministry of Commerce (MOFCOM) first made public a draft of this law in January 2015. After an initial flurry of activity and speculation on when and in what form it would become official law, not many regulatory actions followed, and the 2015 draft FIL became a relatively dormant topic until another draft (which was substantially shorter and more foreign investor “friendly”) was made public in December 2018.

The release of the 2018 draft FIL and the subsequent promulgation of the FIL came at a time when the PRC government and the Trump administration were negotiating and finalising a trade deal that will hopefully alleviate the current trade tension between the two biggest economies in the world. It is probably no coincidence that the FIL (as officially promulgated) specifically addressed some of the “hotter” issues that had long been the subject of complaints by U.S. companies doing business in China (eg forced technology transfer, and theft of business and trade secrets) and left out the more controversial provisions that had been in the 2015 draft FIL (eg PRC National Security Review and the legality of VIE structures).   

The FIL (as officially promulgated) contains many principles that will undoubtedly be to the liking of foreign investors doing business in China. For example: the FIL states that “opening up” is a fundamental national policy of the PRC; and a stated goal of the FIL is to construct and perfect a market environment that promotes foreign investment and is “stable, transparent, predictable and has fair competition”.

At the same time, the FIL does not offer much detail on how these principles will be implemented and enforced. The detailed implementation and enforcement mechanisms will hopefully be included in subsequent implementing measures and other supporting regulations.

Highlights

In addition to replacing the “Three Enterprise Laws”, highlights of the FIL include the following:

  • National Treatment and Negative List. Foreign investors and their investments will be treated, at the establishment stage, in a manner no less favourable than that granted to domestic Chinese investors and their investments, and foreign investment into sectors other than those on the negative list shall enjoy national treatment. China will treat foreign and domestic investment equally with respect to the application of business development policies and participation in formulating standards, and will give equal treatment to foreign investment enterprises in the government procurement of products manufactured and services provided within China.  
  • Restrictions on Expropriation of Investment. The government generally will not expropriate foreign investment, except under “special circumstances”. In cases of requisition or expropriation, the government will provide “fair and reasonable compensation”.
  • Protection of IP Rights and Prohibition of Forced Technology Transfer. The law encourages technology cooperation based on voluntary principles and commercial rules, and prohibits the forced transfer of technology by administrative agencies and their employees. The confidentiality obligations of administrative agencies and their employees were included in the final version of the law, under which government officials are required to keep confidential those business secrets of foreign investors or foreign-invested enterprises that were made known to them during the performance of their duties.
  • Administration Systems. The management of foreign investment is subject to certain systems, the details of which are silent as regards the law, and are expected to be fleshed out in the form of implementing rules:
  • pre-establishment of national treatment and “negative list” for the administration of foreign investment
  • information reporting system
  • security review system
  • anti-monopoly review
  • "Grandfathering-in" of Existing FIE Structure. Existing FIEs established according to the FIE Laws may continue to retain their current organisational forms for five years after the implementation of the new law. Accordingly, shareholders of existing FIEs will have to transform their structure in accordance with laws governing corporate forms, including the PRC Company Law. This provision has raised some concerns among joint venture partners as joint venture terms previously negotiated and agreed upon (eg customary dividend splits, early return of capitals, etc for cooperative joint ventures) may be open for renegotiation during the reorganisation process.  
  • Legal Responsibilities. FIL sets out legal responsibilities for foreign investors investing in restricted and prohibited sectors. Penalties include restoration of the status quo ante by, for instance, the disposal of their shares or assets within a prescribed time, and confiscation of illegal proceeds. Although not expressly specified, this may apply in circumstances where foreign investors invest in prohibited or restricted sectors through structures such as VIE. FIL also sets out liabilities (including criminal liabilities) for PRC officials for abusing their powers, neglecting their duties or engaging in malpractice for personal gain during the course of performing their duties, or for divulging or illegally providing business and trade secrets to others. The penalty for violating the information reporting requirements includes a fine of between Renminbi 100,000 and Renminbi 500,000.

How we can help

Since the first draft form of FIL was published in 2015, A&O lawyers have been speaking with regulators about the issues highlighted in this note (and other issues under the FIL).

We would be very happy to have a conversation with you about the opportunities and risks for your business in China that may arise from the FIL, and how best to manage them.

Jack Wang +86 21 2036 7009
Partner, Shanghai jack.wang@allenovery.com
Victor Ho +86 10 6535 4381
Partner, Beijing victor.ho@allenovery.com
David Shen +86 21 2036 7138
Partner, Shanghai david.shen@allenovery.com
Wayne Lee +86 21 2036 7168
Partner, Shanghai wayne.lee@allenovery.com

This ePublication is for general guidance only and does not constitute definitive advice.

© Allen & Overy LLP 2019