For decades, foreign direct investment in China has been governed by the “three Foreign Invested Enterprises (FIE) Laws” and their respective implementation rules. These laws have served as the main legal framework for regulating the activities of international companies operating in China through their subsidiaries. However, as of January 1, 2020, these laws will be invalidated and replaced by China’s new Foreign Investment Law. This significant legal shift is intended to create a more streamlined, transparent, and modern framework for foreign investment, but it also brings important changes that international businesses need to understand and prepare for.
Key Changes Under the New Foreign Investment Law
One of the most notable aspects of the new Foreign Investment Law is that it offers “national treatment” to foreign-invested enterprises (FIEs), meaning that foreign businesses are to be treated on an equal footing with domestic Chinese companies in most sectors. This represents a more open and welcoming approach to foreign investment, aligning China’s policies more closely with international standards. However, with this increased flexibility comes the requirement for foreign-invested enterprises to comply with China’s Company Law and other relevant regulations, which may differ from the regulatory environment under the old FIE laws.
For example, under the current regime, many FIEs operated with a unique set of governance rules that allowed greater flexibility in managing corporate structures, particularly for joint ventures. The new law, however, mandates that all FIEs transition to governance models in line with domestic companies, which could result in adjustments to their corporate governance practices.
Transition Period for Compliance
Recognizing the complexity of this transition, the new Foreign Investment Law provides for a five-year transition period, starting from January 2020, to allow foreign-invested enterprises time to adapt to the new requirements. This transition period is particularly important for companies with complex corporate governance structures, such as joint ventures, which will need to be restructured to comply with the new regulations.
One area where compliance adjustments may be necessary is in the term limits for boards of directors. Under the old FIE laws, the board of directors of a foreign-invested joint venture could have a term of up to four years, with the option for renewal upon expiration. However, under China’s Company Law, the maximum term for a board of directors in a domestic company is only three years, also renewable at the end of the term. This seemingly minor change will affect hundreds of thousands of foreign-invested joint ventures in China, including those owned by Canadian, U.S., and European companies, requiring them to amend their corporate governance structures to remain compliant.
Implications for Foreign Businesses
While the new Foreign Investment Law offers foreign companies more opportunities and legal protections in China, it also requires careful attention to compliance. The introduction of national treatment brings foreign enterprises closer in line with domestic companies, but it also subjects them to the same rules and regulations, including China’s Anti-Monopoly Law, Environmental Law, and Employment Law. Foreign businesses operating in industries previously subject to sector-specific restrictions or enhanced regulatory scrutiny may now face fewer barriers, but they must ensure their governance, reporting, and operational practices align with Chinese legal standards.
Furthermore, the new law introduces a mechanism for foreign investment review, particularly for investments in industries deemed sensitive to national security. This aligns with international practices but may pose additional regulatory hurdles for foreign companies in certain sectors, such as technology, telecommunications, and defense.
Corporate Governance Adjustments
Another critical area that businesses need to focus on during this transition period is corporate governance. Joint ventures, in particular, will need to ensure their structures comply with the new requirements. In addition to adjusting board terms, companies may need to review shareholder agreements, management practices, and voting mechanisms to ensure that these align with the more rigid requirements under China’s Company Law.
Moreover, the role of shareholder meetings, the supervisory board, and management personnel must be revisited. For example, Chinese Company Law requires regular shareholder meetings and provides specific guidelines for decision-making processes and the division of authority between management and shareholders. International companies accustomed to different governance models will need to make these adjustments within the five-year window.
Strategic Planning for the Future
For international companies already operating in China or those planning to invest in the Chinese market, it’s essential to proactively address these changes. Although the five-year transition period provides time to adjust, companies should begin reviewing their corporate governance practices, legal structures, and compliance protocols as soon as possible. This is particularly important for businesses with complex joint ventures or those in industries that may be impacted by the foreign investment review process.
Seeking guidance from legal professionals with expertise in Chinese corporate law is strongly recommended to ensure a smooth transition. International companies will need to fully understand the requirements of the new Foreign Investment Law and take the necessary steps to align with it, avoiding any potential disruptions to their operations in China.
In summary, while China’s new Foreign Investment Law introduces more flexibility and opportunities for foreign businesses, it also imposes stricter compliance requirements. Companies operating under the former FIE laws must adjust to the new regulatory framework and ensure their governance structures align with China’s Company Law. With the five-year transition period, now is the time for foreign companies to plan and implement the necessary changes to maintain compliance and thrive in the Chinese market.