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Analysis on the Equity Transfer Points of Foreign Enterprises

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Recently, many friends asked me: how to transfer the equity of foreign enterprises, Sino-foreign joint ventures and Sino-foreign cooperative enterprises? What are the issues needed to pay attention to? Based on years of my practical experience, I summarize as follows:

Analysis on equity transfer points of foreign enterprises
With the two laws and regulations of the Regulation on the Implementation of the Enterprise Income Tax Law of the People's Republic of China and the Law of the People's Republic of China on Income Tax of Enterprises with Foreign Investment and Foreign Enterprises are unified into one income tax law, the unification of the income tax of domestic and foreign enterprises has greatly raised the cost of investment in China. Before the “Integration system for dividend Taxation”, the nominal tax rate for the income tax law of domestic and foreign enterprises is 33%, but the foreign capital enterprise's actual tax rate is about 13%, and the effective tax rate of domestic enterprises is 25%, domestic enterprises tax burden is almost twice as many foreign companies. After the “Integration system for dividend Taxation”, foreign capital enterprise not only lost the tax advantages, but our country has reduced the tax incentives to its projects, and limit the regions to arbitrarily increase the tax break clause, this made the payable tax amount increases, the foreign capital enterprise face more intense competition. But, although the tax preference tax is gradually lost, but because of the upfront capital investment and the appeal of Chinese market, many foreign companies will not choose to leave, and may change the enterprise form namely to domestic enterprises in order to survive.

Firstly, the equity transfer between the parties will not take effect immediately for the equity transfer of foreign enterprises. According to the Article 20 of the Implementing Regulations of the Law of the People's Republic of China on Sino-Foreign Equity Joint Ventures, if one party to the joint venture intends to transfer all or part of its equity to a third party, consent shall be obtained from the other party to the joint venture, and approval from the examination and approval authorities is required. The formalities for change of registration shall be handled with the registration authority; and according to the Article 22 of the Rules for the Implementation of the Law of the PRC on Wholly Foreign-Funded Enterprises, The increase or assignment of the registered capital of a wholly foreign-funded enterprise shall be subject to approval by the examining and approving organ; and the said enterprise shall go through the procedures for the change of registration with the administrative department for industry and commerce. According to the Article 10 of Law of the People’s Republic of China on Sino-Foreign Contractual Joint Ventures, if a Chinese or foreign party wishes to make an assignment of all or part of its rights and obligations prescribed in the contractual joint venture contract, it must obtain the consent of the other party or parties and report to the examination and approval authority for approval. Therefore, when the shareholders of a foreign company want to transfer their equity, the equity transfer contract signed by the parties shall be approved by the commercial department before deciding whether to take effect.

Secondly, shareholders of Chinese-foreign joint ventures and Chinese-foreign contractual joint ventures must obtain the consent of all shareholders before the transfer of equity. This restriction on shareholder voting views constitutes a substantial barrier to the transfer of equity by shareholders of foreign companies, as even minority shareholders holding l % of foreign capital. If other shareholders are opposed to the transfer of equity, they can also successfully block the transfer of equity. Compared with domestic enterprises shareholders vote on the opinions of procedural constraints, for the foreign capital enterprise, there is no provision that opposition must purchase the transfer of equity, and there is also no provision that no reply or purchase is consent to transfer. In addition, the premise of examination and approval by the department of commerce is to report to the business department for all approval materials, including but not limited to the board of directors’ resolutions, articles of association and contract amendments, and shareholders waive the right of preemption, etc. they all need signatures of the shareholder. Therefore, how to ensure that all shareholders can cooperate with the equity transfer procedure is the first challenge for the shareholders of the foreign enterprise.

Thirdly, the restriction of the foreign investment industry catalogue and the restriction of the transfer subject all aggravate the burden of the equity transfer of foreign enterprises. All foreign investment industrial catalogues for foreign investment in the industry is divided into four classes of encouraged, permitted, restricted and prohibited, prohibited class belongs to the closed area of foreign investment, such as China's primary and middle school compulsory education and news. Except that there are special provisions in the approval level to the restricted class, there are many restricted industries are not allowed wholly foreign owned holdings or foreign holding, for example, industries that are not allowed wholly foreign owned holdings or foreign holding that are specified by the provisions of the foreign investment industry catalogue, the Chinese shareholders shall not transfer its entire stake to foreign party.

Restrictions on the subject of transfer mainly reflect in the Article 1 of The Law of the PRC on Chinese-Foreign Equity Joint Ventures, With a view to expanding international economic cooperation and technological exchange, the Peoples Republic of China permits foreign companies, enterprises, other economic entities or individuals (hereinafter referred to as foreign parties) to incorporate themselves, within the territory of the Peoples Republic of China, into equity joint ventures with Chinese companies, enterprises or other economic entities (hereinafter referred to as Chinese parties) on the principle of equality and mutual benefit and subject to authorization by the Chinese Government. Thus, it can be seen that Chinese natural person shareholders cannot serve as a Sino-foreign joint venture shareholder.

In the process of foreign capital transfer, the most important thing is to review the equity transfer contract, to prevent the contract risk and avoid the contract dispute by making up the loopholes in the contract. The first step in the review of the equity transfer contract is to examine whether the underlying property of the transfer of shares is defective or has the special characteristics such as restriction or prohibition of circulation.

For the determination of the equity transfer price is generally following the principle of autonomy of will, but due to the foreign investment enterprise equity transfer involves the examination and approval of the department's approval, if the equity transfer price is too deviated from the original amount or value of the asset, a reasonable explanation of the transfer price of both parties would be required by the examination and approval department, so the assignor and the assignee had better conform the transfer price reasonably based on the latest audit reports and financial statements. In addition, due to the foreign capital enterprise equity transfer contract will take effect only after approved by the examination and approval authorities, payment time of the stock transfer price is best to agree to a period of time after the contract has been approved by the examination and approval authorities rather than a period of time after signing.

Finally, due to the different approval policies for the equity transfer of foreign enterprises in different places, such as whether should submit the employee resettlement scheme or not; Therefore, before reviewing the equity transfer contract, it is important to know whether the target company has special requirements, so as to avoid the waste of human resources and material resources.

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