Starting a Wholly Owned Foreign Enterprise in China.
Due to the recent focus on the emerging economies in Asia, international firms the world over have been pursuing entry into the vibrant and dynamic markets of the continent. China particularly has seen record numbers of foreign companies wanting to set-up operations in the country and the most popular vehicle of expansion has been through establishing Wholly Owned Foreign Enterprises.
The Whole Owned Foreign Enterprise (WFOE) has been a favourite, due to multiple comfort factors inherent in the structure, such as the ability for the firm to be 100% owned and controlled without needing to join with a Chinese partner. 100% ownership would allow firms set up by internationals to enjoy higher security and intellectual property right, as well be able to repatriate profits without as much legal leaping as other entities would have to do.
What types of WFOE to establish.
There are three types of WFOEs that may be set up in China, Manufacturing, processing, and assembly WFOEs, Foreign-invested commercial enterprises and Service WFOEs. It is worth the time and the effort to do research into each type and be sure that your business falls firmly into the category you stated in your articles of association, as roaming outside the parameters of your business scope may end up being costly in terms of lost revenue and in some cases, even closure of business activities by the authorities.
Manufacturing, processing, and assembly WFOEs
These companies are involved in all sorts of industries that process raw materials or secondary materials to produce other goods and services for import, export and domestic wholesale.
Foreign-invested commercial enterprises
These firms are not allowed to engage in manufacturing activities such as conversion of materials from one form to another, instead they are primarily based to act as an agents, and to retail and wholesale domestically, source domestically and import and export all over China.
Firms in this bracket are expertise and service providers and prohibited from handling physical goods, their main business focus will often be on consultation.
It should be noted however that there are a range of industries in which foreign firms are not allowed to participate, because of the government sensitivity to the industries, as they are perceived as harmful to national interest in the hands of foreign entities, such as mass media and defense. Other industries t prohibited are any that can be considered to be harmful to the environment or technologically backward.
Organizing a WFOE: Key Considerations
Business scope. It is vital that your business scope, within your articles of association be accurate and define exactly what your company is doing, as you will not be allowed to operate outside the parameters you set for yourself in your scope. Your business scope must also be approved by the authorities.
Capital requirement. The capital requirement will depend on the location of the WFOE as well as the industry in which it is in, but as a guide, multiple shareholder companies need RMB 30000 to set up, whereas single-shareholder companies need RMB 100000 to set up. Working capital needs, should not be underestimated
Feasibility study report
The feasibility study follows a standard format and will be included in your application documents. It is reviewed by the Ministry of Commerce to assess how much thought has been put in your foreign direct investment decision, although the report is non-binding, it will be in your company’s best interest to be thorough in this regard. Included in this study will be your operating budget as well as key industry focus.
Environmental protection valuation report
This is issued by the Environmental Protection Bureau and is meant to ensure that your business activities (particularly manufacturing) are not detrimental to the environment, information required from you will include; the raw materials, machinery and equipment used, in addition, the consumption and disposal of toxic elements of production
Key articles of association
These are the operating rules of the company, they are not a mere formality and it is imperative that they are properly structured. Included in these will be
Business scope article. Which will express the limits of your business activities in China.
Production scale article. This can help you draft an exit strategy, because it could include links between production and profitability to scales that if unacceptable will require for the business to be liquidated.
Liquidation audit article. A board of director’s resolution approves liquidation and termination in conjunction with the production scale article included in your articles of association.
Total investment article. Clarity is important here, because the relationship between your registered capital and your total investment capital can affect debt financing and the ability to obtain parent company loans.
Profits repatriation article. This gives the parent company the right to bill the WFOE for services, royalties, and R&D costs. And will make it easier to overlay expenses and send money out as an invoice payment.
Trade union article. While Chinese staff have the right to form a trade union and elect a representative. This document will assist you to control the union’s budget and influence its expenditure.
Once your key articles have been carefully revised, they will need to be translated into the Chinese language and this version of your articles of association will legally take precedence over the English version, so be sure to employ a professional interpreter to complete the task.
Taxes and Auditing
As a WFOE, you need to be familiar with the taxes your company will be required to pay. Tax and auditing issues can often be complicated for foreign entities to manage on their own, therefore it is strongly advised that you outsource the function to a local firm. Taxes required from WFOEs include Enterprise income tax, Value-added tax, Business tax, Consumption tax, Withholding tax.
All WFOEs are required to be audited annually and included will be yearend financial statements that include balance sheets, income statements and cash flow statements – in accordance with the Chinese General Accounting and Audit Practice. Again, these are best outsourced to a local firm experienced in this function.
It is highly advisable to find a business consulting company like Daxue Consultants to assist your company to set-up a wholly Foreign Owned Enterprise in China, this will help you avoid costly mistakes.