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At the Center of the Middle Kingdom: Multinationals Move Inland At the Center of the Middle Kingdom: Multinationals Move Inland(0)

[ By Andy Scott, Managing Editor, China Briefing ]

Central China, initially overlooked by many foreign investors as being too far from the ports in Tianjin, Shanghai and Shenzhen, is emerging as an essential destination for multinationals in China.

While still lagging significantly behind the coast, the six Central provinces of Anhui, Henan, Hubei, Hunan, Jiangxi and Shanxi have seen foreign investment take off over the past year, increasing more than 50 percent from 2006. The economies of the six provinces now make up 20 percent of the national total. While the region still needs further reform and opening-up, increased investment in infrastructure, favorable government polices, and rising consumer incomes are driving many to branch out of the hyper-developed coastal regions and move inland.

Location, location, location

Central China boasts some of the most connected cities on the mainland thanks to a well developed rail network. The network integrates dozen of trunk lines and hundreds of branch lines, accounting for 23 percent of the national rail mileage. According to regional authorities, the rail network handles 36 percent of the nation?s passenger flow and 30 percent of the goods traffic.

The importance of the region as a crossroads for China was brought home earlier this year when much of South China up through Hubei and Henan provinces was brought to a standstill by severe winter storms that disrupted train schedules and brought down power grids, leaving millions stranded or without power. According to government figures, the region has seen a 40 percent increase in road and waterway traffic in the last 10 years. Passenger rail traffic has risen 70 percent while goods traffic is up by 85 percent.

Increased spending on infrastructure has allowed cities like Wuhan to better integrate with Beijing, Shanghai, Guangzhou and Hong Kong, as well as European and Central Asia capitals. But will this integration mean increased foreign investment? As was pointed out in the November 2006 issue of China Briefing (available in the archives section of www.china-briefing.com), moving inland brings with it major logistics costs for manufacturers.

For those that move inland, getting to the sea means turning to China?s road, rail, and inland waterway networks to transport their cargo to the coast. While transport infrastructure has grown rapidly in recent years, it still lags industrialized countries ? capacity constraints exist and most of the infrastructure outside the developed eastern coast is not built to handle a modern transport industry.

China Rail map system can handle only around 30 percent of demand for the Yangtze corridor according to a 2007 Jones Lang LaSalle study. A high proportion of the rail network is not double tracked (of 72,000 km of rail, only 24,000 km is dual track), and priority is given to coal and raw materials rather than industrial goods, forcing many manufacturers to resort to trucks to ship their products.

Next :
The Future of Central China: A Provincial Roadmap


To know more, the whole issue is available (after a free subscription) on China Briefing website with others archives
For more information on China’s legal and tax issues or to ask for professional advices in related matters, please write to info@dezshira.com

Managing your joint venture partner Managing your joint venture partner(0)

Having conducted your due diligence, negotiated your investments, and agreed to get hitched, you now need to work out the management protocol.

This subject is the topic of much debate, with conflicting points of view. Conducting business also is largely time consuming, emotional and stressful. This is only enhanced in a multi-cultural environment. There will be times both parties feel they are correct. Have you identified the potential areas of differing opinions and decided privately amongst your own foreign colleagues which to tolerate and which not to? It may be wise to draw up a blueprint of potential areas of disagreement and work out in which your China partner is more likely to have the expertise, and in which you are. It is common sense.

Many companies leave the entire operations up to the Chinese partner to run. This is a crucial mistake. A new business needs all the support it can get. You need to invest in a foreign manager to keep an eye on things, especially during the early stages. Correct systems, accounting, and quality control issues all need to be taken care of. You have standards; ensure these are implemented and operational in your JV. The ideal solution is an expat manager ? if not for the long-term, then certainly for the initial development stages. However, the general manager is responsible for the operations of the business. It is wise to make this one of your personnel.

Chinese management

For the longer term, it is better for JVs to have strong Chinese management in place. The reason for this is the difference in basic fundamentals of economic understanding between Chinese and expatriate managers. As Jack Perkowski, chairman of Asimco, one of China’s most successful companies, told me earlier in the year, Chinese managers have a better appreciation of Chinese costs. Consider the US$100 and RMB100 bill.

They have many similarities. They are the highest denomination in their respective countries. Both have pictures of national leaders on them. Yet in America, US$100 is not considered a lot of money. However, in China, RMB100 is considered a lot of money, despite the exchange rate showing it to be worth just US$14. Chinese managers therefore have a far greater understanding of the fundamental dynamics of how much RMB100 is worth than an expatriate manager and this is a key attribute when conducting financial transactions in buying and selling supplies, products and services in China.
To know more, the whole issue is available (after a free subscription) on China Briefing website with others archives
For more information on China’s legal and tax issues or to ask for professional advices in related matters, please write to info@dezshira.com

Managing your China joint venture partner Managing your China joint venture partner(0)

[ By Chris Devonshire-Ellis, Senior Partner, Dezan Shira & Associates ]

Investing in a joint venture in China has attracted a certain amount of criticism amongst some sections of the legal community, who see them only as sure fire ways to get into trouble, with the likely misbehavior of the Chinese partner providing a whole gamut of challenges best left well alone. Such views are myopic.

Indeed, in certain restricted industry areas, a foreign investor must have a JV partner, and in others, that partner must also possess the majority equity. If entry into these markets is to be undertaken, then there is no option ? businesses must learn to live with a JV partner, and how to effectively manage them to minimize risk.

Alternatively, for some investors, having a Chinese partner may bring to the table certain advantages that may well prove useful and economical, such as inheriting a good quality factory, existing skilled or semi-skilled workforce, and existing distribution channels versus developing from scratch a greenfield plant. While it may make sense to ?go it alone? with a WFOE in the more developed areas of China such as Shanghai and the East Coast, when business turns to China’s central and western regions, having a Chinese partner with the local regional knowledge may also prove advantageous. To demonstrate China’s diversity, one only needs to look at a bank note. The current RMB series incorporates seven languages on the notes, and previous editions have featured some of China’s 56 different ethnic minorities. China is much more than just mandarin, rice, noodles and chopsticks, and local knowledge via a partner may well prove immensely useful when conducting business in the country’s inland locations.

You may not be bound by China’s regulatory regime to need a JV partner, but it may make still make perfect regionally cultural and economic sense to have one.

Under these circumstances then comes the overriding question: how can you get the best out of your investment into a China JV? Or put another way: how can you best manage your JV partner?

In this issue of China Briefing we will look at several separate scenarios: managing risk and due diligence, structuring a JV, managing a partner when owning a minority share, owning a majority share, and investing in a JV when you do have the option to use a WFOE instead. While some of this advice is interchangeable, all of it represents critical management tools that will allow a foreign investor to maximize their investment, minimize their risk, and develop a mutually profitable business with a Chinese partner.

Next :
Managing your joint venture partner


To know more, the whole issue is available (after a free subscription) on China Briefing website with others archives
For more information on China’s legal and tax issues or to ask for professional advices in related matters, please write to info@dezshira.com

Joint venture structuring in restricted industries Joint venture structuring in restricted industries(0)

[ By Chris Devonshire-Ellis, Senior Partner, Dezan Shira & Associates ]

Joint ventures have attracted some unsavory press in the past, with lurid tales of foreign investors being burnt and treated poorly by their Chinese counterparts. While there is truth to some of this, other problems with a China JV are often the responsibility of an errant foreign investor also. No-one likes to admit blame when things go wrong. In our firm, we are often called in to provide internal audits on JVs by the foreign investor or for mergers and acquisitions ? a surprisingly large number are doing very well indeed.

When investing in China?s restricted industries, you have to have a joint venture partner. Often the maximum percentage of equity allowed in foreign ownership can only be 50 percent. So what options are available to the foreign investor to mitigate the risk of not owning, on paper, a majority stake? All JVs are bespoke, so the situations and investment environment can vary considerably. But there are some well proven guidelines to follow that can assist you get the most out of your JV.

50-50 ownership

The problem with this is the potential risk of getting into a static management position later with both parties disagreeing on a future direction. At worst, a board at loggerheads and unable to agree on a decision can effectively wreck an entire business. I find it best to build into the JV structure a mechanism that can provide a way out under certain circumstances. It is better to have made a bad decision that can be reversed than to have a board unable to move in any direction.

There are a number of ways in which this can be accomplished. Agree to give up one percent and have the Chinese side own the majority, which in the case of respected partners should not be an issue if the management team is healthy and the business able to declare dividends. A one percent loss of dividends is a small price to pay for a united board. Alternatively, other mechanisms can be enacted within the JV articles to permit the chairman, for example, the deciding vote in the event of a split vote. This needn?t be immediately enacted ? it could be triggered if after say three or four board votes on the subject were spilt, allowing both parties time to negotiate or better understand the issue at hand.
To know more, the whole issue is available (after a free subscription) on China Briefing website with others archives
For more information on China’s legal and tax issues or to ask for professional advices in related matters, please write to info@dezshira.com

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[ By Andy Scott, Managing Editor, China Briefing ]

China?s booming economy is drawing foreign investors in record numbers. However, for some, that has meant having to deal with volumes of ever-changing regulations, high initial capital expenditures and shifting political alliances. Some of China?s most highly regulated industries have come to represent the last, great Holy Grail for foreign investment in the mainland. Whether it is banking or energy, these sectors continue to remain elusively out of reach for all but the biggest and most patient of the large multinationals. In this article, we focus on three very different industry sectors to examine how the regulations affect being able to do business in China.

Banking

China?s banking industry has seen major changes over the past decade. Merely five years ago, China?s banks were all large, entirely state-owned and cobbled by massive debt. When the government wiped away much of that dept, many of the banks on the mainland transformed themselves into the darlings of Hong Kong, raising billions in initial public offerings.

In 2007, China?s banking sector rose to RMB52.6 trillion, up from RMB43.9 trillion in 2006, according to statistics released by the China Banking Regulatory Commission (CBRC). China?s five big state-owed banks ? Bank of China, China Construction Bank, the Industrial and Commercial Bank of China, the Agricultural Bank of China and the Bank of Communications ? accounted for 53.3 percent of the total assets. Eyeing the potential market on the mainland, foreign banks are now also increasingly moving in to set-up their own, locally-incorporated branches, giving them the ability to conduct both foreign currency and local RMB business.

By the end of 2007, more than 20 foreign banks had received permission to operate on the Chinese mainland with corporate status. The banks, including Citibank, Deutsche Bank, Standard Chartered Bank and Mizuho Corporate Bank, can conduct comprehensive business in foreign currencies and the RMB, and since late 2006, RMB business for Chinese residents. In November 2006, the CRBC promulgated the Regulations of the People?s Republic of China on the Administration of Foreign-funded Banks, paving the way for foreign banks to enter the Chinese market, but putting in place restrictions on business scope and capital requirements that foreign funded banks must first fulfill.

Currently, branches of foreign banks are allowed to engage in local currency retail business with local residents if the branches incorporate locally, however, in order to do so, they must acquire a local currency business license. To do this, foreign bank branches must individually apply to the CBRC for the license.

Foreign banks must also meet significant capital requirements before they are allowed to operate on the mainland. According to the regulations, the minimum operating fund requirements for foreign bank branches is RMB200 million to conduct foreign currency business and RMB300 if they want to conduct both RMB and foreign currency businesses. For locally incorporated banks of foreign banks, the register capital required is the same as domestic Chinese banks, RMB1 billion, while the minimum operating fund requirement is RMB100 million.

To establish a foreign-funded bank, an applicant must first apply for preparatory establishment and submit the following documents to the banking regulatory institution in the location where the foreign-funded bank is to establish:

  • application (name, address, registered capital or operating capital and the categories of the institution to be established)
  • feasibility study report
  • draft of the articles of association of the solely foreign-funded bank or Sino-foreign equity joint bank to be established
  • business operation contract by all shareholders to a solely foreign-funded bank or Sino-foreign equity joint bank to be established
  • articles of association of the shareholders to a solely foreign-funded bank or Sino-foreign equity JV, or the articles of association of the foreign bank of a branch to be established
  • diagram of the shareholder structure
  • the three most recent annual statements of the shareholders that plan to establish a solely foreign-funded bank or Sino-foreign equity joint bank or of the foreign bank that plans to establish branches
  • anti-money laundering system of the shareholders or foreign bank
  • photocopy of the business license or financial business licensing document which is issued by the financial regulatory authority of the county or region of the foreign shareholders or the foreign bank
  • other materials as required by the banking regulatory institution of the State Council

Next :
Joint venture structuring in restricted industries


To know more, the whole issue is available (after a free subscription) on China Briefing website with others archives
For more information on China’s legal and tax issues or to ask for professional advices in related matters, please write to info@dezshira.com

Controlling stock and other inventory issues Controlling stock and other inventory issues(0)

[ By Ronin Lin, Manager, Dezan Shira & Associates Shanghai office ]

Inventory control is one of the most important business processes during the operation of a trading or manufacturing company as it relates to purchases, sales and logistic activities. In order to have clear inventory management, a company should not only focus on logistic management but also on sales and purchase management. Commonly, we think of the warehouse as the most important component of inventory management and that the accounting department is responsible for the inventory management. However, inventory control is not only the responsibility of the accounting department and warehouse but the responsibility of the entire organization. Actually, there are many departments involved in the inventory control process, such as sales, purchasing, production, logistics and accounting. All these departments must work together in order to achieve effective inventory controls.

Common inventory control problems

Most inventory control problems are due to improperly defined control processes and activities; inventory control activities that are not standardized; and vague or ill-defined departmental authority and responsibility. As operation activities are decided and controlled by individuals making independent decisions rather than by pre-set procedures, and with each department following their own set of rules, obstacle to communication and information sharing can quickly spring up. As a result, the efficiency and effectiveness of the whole process is extremely low because the communication between departments is different (e.g. different data standards, formats, etc). This can also lead to the information flow through departments breaking down.

Improper delegation of authority and responsibility among departments can result in departments without proper authorization to secure the inventory control activities. For example, the warehouse is responsible to secure the inventory and create a clear inventory record. But if the sales department or production department is too powerful, it could influence the activities of the warehouse by sending raw materials directly to production lines without proper confirmation from the warehouse or finished goods could be delivered directly from the production line without informing the warehouse, which could create large problems for inventory management.
To know more, the whole issue is available (after a free subscription) on China Briefing website with others archives
For more information on China’s legal and tax issues or to ask for professional advices in related matters, please write to info@dezshira.com

Financial, tax and accounting issues Financial, tax and accounting issues(0)

1. Different bank accounts with different functions

Why does one need to open so many different bank accounts? Why can we not just use one banking institution to handle all business transactions? Unfortunately, SMEs in China are likely to use at least two to three different banks when it comes to running operations on the mainland.

SMEs will need to open a capital account to receive foreign investment capital from the holding company, a settlement account in foreign currency if the company has overseas business, and a basic RMB bank account to pay salaries and other expenses in local currency.

It is also a normal practice to have two additional, separate bank accounts to make payments to the state tax authorities. This bank is selected by the authorities themselves.

Additionally you may need to open a separate loan account to receive loans from the mother company. All these bank accounts have different functions, and the company concerned should clearly define them including arranging for the different signatory authorizations, security levels and related arrangements. From a practical point-of-view, you may also have to consider choosing a bank logistically closer to your operation base or office reducing the time to withdraw money or issue checks. Finally, as more and more foreign banks are allowed to operate on a much broader scope in China, the foreign investor will be faced with even more options to choose from.

2. Initial cash flow problems

International investors are likely to face cash flow problems in the initial investment period: unforeseen expenses in the budgeting phase (we hear this a lot), slow sales revenues, longer credit terms given to clients in order to open up new markets, deposits required at customs and immediate payment requirements by local suppliers before they get to know your company credit standing. All of these may put an unexpected dent on your wallet at the early stages of your investment.

If you are stretched and need some immediate cash please note that different cities in China may have different local policies on foreign currency control and lending.

Next :
Controlling stock and other inventory issues


To know more, the whole issue is available (after a free subscription) on China Briefing website with others archives
For more information on China’s legal and tax issues or to ask for professional advices in related matters, please write to info@dezshira.com

Practical financial, tax and accounting issues affecting international SMEs during the early stages Practical financial, tax and accounting issues affecting international SMEs during the early stages(0)

[ By Echo Jia, Manager, and Alberto Vettoretti, Managing Partner, Dezan Shira & Associates ]

Foreign companies have long looked to China as a means of lowering manufacturing costs and gaining access to a large, developing market. Abundant natural resources, cheaper labor, big local markets and a developed supply chain base combined with local government incentives including tax breaks, special investment treatment and repatriation of profits have been attracting international small-medium sized enterprises (SMEs) to China since the early 80s. Investing halfway across the globe is not without its challenges though, and there are many problems and difficult issues a China ?first-timer? will encounter. For SMEs especially, understanding these problems and issues will be the difference between making and losing money on the mainland.

Recent economic factors affecting international SMEs

1. New policies announced by the Chinese government

Over the past year, the Chinese government has announced several new customs policies and taxation policies, including a new corporate income tax law that took effect on January 1, 2008 and a VAT rebate reduction on some 2,891 types of products in July, 2007. Regarding foreign direct investment, the aim of these measures is to encourage high, value-added foreign industries into China and move away from pollution-causing, low-tech manufacturing. In the future, the Chinese government will become increasingly selective of foreign investors. Local governments will welcome high-tech, high value-added, low-polluting, low-natural-resource-consuming foreign investors; and be more restrictive over low-value-added, low-tech, labor intensive and resource intensive industries. Furthermore, from 2008, foreign companies no longer receive preferential tax treatment, as they did under the old Foreign Enterprise Income Tax, unless they qualify as a high/new technology enterprise, in which case the company?s tax rate will be 15 percent.

2. Influence of RMB?s appreciation

From a global viewpoint, possible influences may be:

  1. Asset value increase in China
  2. Advantages for importation
  3. Disadvantages for exportation
  4. Cost increase on RMB loans
  5. Conversion of earned profits from RMB into US$
  6. Investment in China will now require more US$ injection
  7. Labor cost in China may increase

Next :
Financial, tax and accounting issues


To know more, the whole issue is available (after a free subscription) on China Briefing website with others archives
For more information on China’s legal and tax issues or to ask for professional advices in related matters, please write to info@dezshira.com

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[ By Edward Ma, Dezan Shira & Associates ]

?There are two distinct classes of men…those who pay taxes and those who receive and live upon taxes? Thomas Paine, American Revolutionary thinker.

All foreign invested enterprises in China are required to prepare annual financial statements, including balance sheets and income statements for their annual Chinese audit. Such accounts must be in accordance with the Chinese accounting standards for business enterprises ? there are now no differences between standards for domestic and foreign enterprises.

Foreign invested enterprises (FIEs), including their legally responsible persons, must take full responsibility for the truthfulness, legitimacy and completeness of these financial statements. These documents must be completed ahead of the submission of consolidated accounts for tax purposes by the end of April every year, for the financial calendar year ending the previous December 31.

These statements will be used for computing the FIEs taxable and distributable profit. Accordingly, an annual audit by a firm of certified public accountants registered in the PRC is required under Chinese law.

There are a number of areas where you need to take particular care and where there are some differences between Chinese and Western accounting practice.

These are guidelines only as every business is different.

Tax items often queried by Chinese independent auditors

Adjustments for foreign related payment income
If the foreign company has paid overseas insurance for their expatriate employees, it should be noted that this is not tax deductible unless it is recorded as a salary payment and with IIT paid. Foreign-sourced income should be provided for by providing evidence of foreign taxes paid with the relevant foreign documentation.

Related party transactions and transfer pricing
If the FIE had any transactions with related parties, then they must make sure that these were at arm?s length and with adequate documentation to substantiate the charges/income, so that the results were not materially affected by related party transactions that were not in the ordinary course of business. Pay particular attention to transfer pricing issues. Tax officials reserve the right to adjust transfer prices, interest charged by related parties based on market prices or even based on the prescribed profit margin. Transfer pricing should not be used as a mechanism to reduce the amount of profit retained in China. If this is abused and discovered, the tax bureau will regard it as tax evasion and the penalties and repercussions can be severe.

Withholding obligations
If the FIE made or accrued in its costs or expenses any payments, such as rental (including office and expatriate housing), royalty charges, interest, services or management fees for services performed in China by foreigners (individuals or organizations), pursuant to related contracts and agreement, the relevant withholding obligation should be provided for on an accrual basis. This means 10 percent withholding enterprise income tax and five percent business tax apply. These charges shall be accompanied by substantial evidence ? otherwise they are not deductible. All the above debts in foreign currency also need to be registered with SAFE prior to approval for remittance.

Input VAT
The VAT invoice must be verified by the tax bureau within 90 days as from the invoicing date, otherwise it cannot be deducted. Furthermore, if you have any unusual loss of inventory, then the VAT input related to the inventory previously credited has to be reversed in the period when the loss is recognized.

Export VAT
Export VAT refunds for the year should be reconciled with the tax bureaus within three months of the end of the year. FIEs should register all export receivables of the previous year with the bureau. Failure to do so may result in the export sales being deemed as domestic transactions, subject to output VAT if the payment for export sales is not received and related documents are not presented within the deadline.

Stamp Duty
Although not a material issue with much cost, FIEs should not forget to pay stamp duty on all books, records and applicable contracts. Fines for non-compliance outweigh the dutiable value.


To know more, the whole issue is available (after a free subscription) on China Briefing website with others archives
For more information on China’s legal and tax issues or to ask for professional advices in related matters, please write to info@dezshira.com

Filing annual individual income tax returns in China Filing annual individual income tax returns in China(0)

Early in 2008, expatriate employees in China with annual incomes in excess of RMB120,000 (about US$16,200) should complete an annual self-declaration to be submitted by the end of March ? at the latest ? for their income earned in the 2007 tax year. This annual self-declaration means such expatriates should complete and submit an Individual Income Tax Declaration Form to the local tax authority in addition to their regular routine monthly tax filings.

Who Is subject to annual self-declaration?

In accordance with The Implementing Rules of the Individual Income Tax Law of the People?s Republic of China and The Self-declaration Rules Concerning Individual Income Tax, taxpayers who meet any one of the following five conditions should file self-declarations of individual income taxes.

  1. An annual income of more than RMB120,000
  2. Income derived from two or more places inside the People’s Republic of China
  3. Income derived partly or fully from sources outside the People’s Republic of China
  4. Have received taxable income but not paid tax
  5. Other conditions regulated by the State Council

A mandatory requirement even if taxes have been paid

In addition, if a person has derived an income of over RMB120,000 in the tax year, has paid the correct individual income tax, and has made self-declarations of his individual income tax to the tax authorities, in accordance with the self-declaration rules, they must still a complete self-declaration of their 2007 income to the tax authorities.

What information should be included in the individual income tax declaration form?

For individuals with an annual income in excess of RMB120,000, when reporting their income taxes after the end of the tax year, they should provide the following basic personal information: name, ID type and number, profession, employer, place of residence, address in China, post code and telephone number, as well as tax data such as the annual amount of any different sourced incomes, taxes payable, taxes prepaid and withheld, foreign tax credit and taxes owed or overpaid. In addition, foreigners should declare their nationality and date of arrival in China.

Where should the annual self-declaration be filed?

The self-declaration rules state that, for taxpayers with an annual income of over RMB120,000 declaration of individual income taxes shall be made as follows:

  • taxpayers employed within China should make their declarations at the local tax authorities of the place where their employers are located
  • taxpayers with two or more employers within China should make the declaration at a fixed local tax authority in the place where one of the employers is located
  • taxpayers with no employer in China, and whose annual incomes include incomes from production or business operations by individual households engaging in industry and commerce, or incomes from contracting or leasing operations of enterprises or institutions (hereafter referred to as incomes from production or business operation), should make the declaration at local tax authorities in the place where one of these businesses are resident
  • taxpayers who have no employer in China, and whose annual incomes include no incomes from production or business operation, should make the declaration at local tax authorities in their place of their residence registration.

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