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How to pick the right trading entity for China

7th Jun '16

Establishing a trading entity in China can be a complicated business. Andrew Cave continues our Routes to Growth series by looking at the options

So you’ve decided your business should set up in China? Now you have to decide how to set about trading there.

Foreign businesses are not allowed to employ Chinese staff unless they have registered a company in China. Becoming incorporated can be complicated.

The British government’s UK Trade & Investment service advises companies to get professional advice early on. There’s a good reason. It is difficult to alter a business’s structure and scope once a legal entity has been incorporated.

“A launch-pad service can help to test the market without committing yourself”

The most popular option, it says, is to set up a Wholly Foreign Owned Enterprise (WFOE), an independent entity legally responsible for its activities in China.

These were introduced in 1986 to allow foreign companies to trade without a mainland Chinese investor. WFOEs are 100 per cent foreign-owned, private limited liability companies. Many see them as the best way to protect intellectual property.

Typically, it takes three to five months to establish a WFOE in Shanghai, but that can vary in other cities.

WFOEs are allowed to buy direct from Chinese factories without having to use agents, brokers or trading companies. They can also distribute products in the country’s wholesale and retail markets after obtaining the necessary licences.

The minimum registered capital requirement for a WFOE is RMB30,000 (£3,200) for multiple-shareholder companies, although Jaime Ubilla, a partner at the international law firm UB & Co, warns that this can be much higher, depending on the industry sector and government assessment.

It is “very hard” to withdraw the registered capital invested in a WFOE during its period of operation, he says. Any increase in registered capital requires government approval.

British firms that use WFOEs include the specialist chemicals manufacturer Arrow Solutions, wind turbines firm Orenda Energy Solutions and TeleAdapt, a Watford-based company that sells telecoms adapters and Wi-Fi connectors to hotels.

CXP_OFF_C044Y15_E0The alternative is a joint venture with a Chinese partner. However, foreign ownership may be restricted to less than 50 per cent of the equity, depending on the industry. Moreover, Chinese joint ventures are notorious for their high failure rate, according to Dan Harris, of international law firm Harris Moure.

Precision is the key to success. Harris recommends establishing both partners’ goals early on, along with what property, technology, intellectual property, expertise and employees each will contribute.

He also recommends reaching contractual agreements on who will make decisions and fund losses, and how the two sides will resolve disputes and eventually end the venture.

A third way in is through a Foreign Invested Commercial Enterprise (FICE), which can be either a WFOE or a joint venture and allows businesses to obtain import and export licences and to buy and export products sourced in China.

FICEs are most common among distribution and retail businesses, while general WFOEs tend to be in manufacturing and production.

Chris Devonshire-Ellis, founder of Dezan Shira & Associates, a foreign direct investment specialist, says that if businesses need to invoice clients or buyers in China in renminbi they should form a FICE. The minimum capital requirement for this, however, is RMB100,000 – higher than for a WFOE.

Setting up a representative office in China may appear the easiest way to establish a presence. However, this only permits a limited range of activities, such as observing market conditions, liaising locally for investors, conducting market research and carrying out office administration.

fansRepresentative offices cannot conduct sales, directly employ foreign staff or engage in direct business activities, while legal responsibility rests wholly with the foreign owner.

Other options include using a business incubator, a company that helps new businesses to get established, or another body offering a presence on the ground in China. The China-Britain Business Council, for example, has a “Launchpad” service that can test the market without committing to setting up operations.

It will employ a Launchpad manager, advertise for staff, schedule interviews, advise on candidates and provide administrative support, including managing payroll and expenses.

But there is no fast track to success in China. Whichever way you choose, that’s when the hard work starts.

Always seek legal advice before deciding which route to take.

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