China Approves Draft Implementation Regulations for Foreign Investment Law

The Chinese Ministry of Justice released draft implementation regulations for the Foreign Investment Law (Implementation Regulations) for public comments on 1 November 2019. Premier Li Keqiang chaired a State Council executive meeting on 12 December 2019, and adopted the draft Implementation Regulations. The Implementation Regulations will come into force as of 1 January 2020, along with the Foreign Investment Law (FIL) which was already passed in March 2019.

Since many experts considered that the wording of the FIL is too vague, the Implementation Regulations are expected to play a significant role in shaping the law and it will therefore have effect on foreign investment and existing foreign-invested businesses in China.

This article will give a recap on the recent legal developments in the field of foreign investment in China (paragraph 2), so that the introduction of the Implementation Regulations can be put in perspective. The key measures of the Implementation Regulations will be summarized (paragraph 3). Finally, legal analyses on the issues that remain unsolved will be provided (paragraph 4).

1. Recent developments in the field of foreign investment
China has achieved several legislative progresses in the foreign investment field in 2019. Before discussing the key measures of the Implementation Regulations (as introduced above), the prior developments in the field of foreign investment are set out below:

• The FIL, as the unified fundamental law for guiding and managing the foreign investment in China, was formally released on 15 March 2019. According to FIL, the existing FIEs will have a transition of 5 years, starting from 1 January 2020, to transform the company’s governance structure. Broad principles were brought forward by the FIL, but more detailed implementing measures were expected to facilitate the new FIL’s enforcement. For more details, read our previous publication China Passed the New Foreign Investment Law
• On 30 June 2019, the new versions of Special Administrative Measures on Access to Foreign Investment (Negative Lists) applicable to the Pilot Free Trade Zone (FTZ Negative List) and the whole nation (National Negative List) were released. The National Negative List reduces the number of restrictive measures from 48 to 40 and the FTZ Negative List reduces restrictive measures from 45 to 37 respectively compared to the 2018 versions. New measures have been introduced in value-added telecommunications and infrastructure, manufacturing, mining and agriculture, etc. For more details, please read our previous publication Further Opening-Up of China’s Markets with New Negative Lists and Encouraged Catalogue
• On 10 September 2019, the State Administration of Foreign Exchange (SAFE) officially announced the reform to scrap investment quota limits for foreign investors’ access to China’s capital markets under both schemes of Qualified Foreign Institutional Investor (QFII) and RMB Qualified Foreign Institutional Investors (RQFII). The goal of the said reform is to make it more convenient for overseas investors to participate in China’s domestic financial markets, and to make China’s bond and stock markets more broadly accepted by international markets. For more details, please read our previous publication Further Opening-up of World’s Second-Largest Capital Market — China Scraps the Investment Quota limit
• On 25 October 2019, SAFE introduced twelve measures to promote cross-border trade by issuing the Notice on Further Promoting the Convenience of Cross-Border Trade and Investment (Notice). The Notice aims to further ease regulatory controls over foreign exchange income and payment. For more details, please read our publication China’s New Measures to Promote Cross-border Trade and Investment Facilitation 
• On 1November 2019, the Implementation Regulations were introduced to support and clarify the upcoming FIL. These regulations will be discussed in more detail below.

​​​2. Implementing Regulations
The new Implementation Regulations aim to lower market entry barriers for FIEs, actively encourage foreign investment, protect the legitimate rights and interests of foreign investors and raise the efficiency of government services. The principal features of the draft are:

2a) Promotion of Foreign Investment
First, the Implementation Regulations establish non-discriminative rules to implement the FIL. Chapter II provides the following:

• The negative list applicable to foreign investment will be adjusted from time to time based on the principle of further opening-up and liberalization (Art. 6);
• Various national policies on investment preference to promote the development of business shall be applied equally to FIEs (Art. 9);
• The comments of FIEs and foreign chambers of commerce shall be considered when promulgating laws, regulations and rules concerning foreign investment (Art. 10);
• Foreign investment will be encouraged and guided in particular industries and regions in China by establishing special economic zones and formulating “encouraged” industry investment catalogues, and re-investment of profits in China will be encouraged through preferential treatment of foreign investors (Art. 12-14);
• FIEs will be eligible to participate in government procurement competition on an equal footing and will not be subject to variant or discriminatory treatment (Art. 17-18).
• FIEs may make public offerings of their shares or issue bonds domestically or overseas under conditions and procedural requirements that are equally applicable to FIEs and domestically-invested enterprises (Art. 19). While no law currently prohibits FIEs from engaging in public offerings in China, in practice, only a few FIEs have done so because of their foreign ownership. This clause likely paves the way for FIEs to raise funds in China’s domestic equity and debt markets.

Second, the Implementation Regulations set detailed rules to preserve a fair competition environment for foreign investment enterprises. For instance by adopting the following:

• FIEs will be eligible to participate in the formulation of national standards, industrial standards, local standards and organization standards equally as domestic-invested enterprises. Besides, FIEs are allowed to participate in the translation work of national standards. Unless the relevant technical requirements in the public standards of FIEs are more stringent than which in the mandatory standards, the government shall not apply the technical requirements which are stricter than mandatory standards to FIEs. The government shall not force, directly or in any disguised form, FIEs to apply recommended standards or organization standards.  (Art. 15-16);
• To ensure legality and fair competition, a legal and fair competition review will be carried out before issuing regulatory documents in the foreign investment field. Policy commitments as provided under Article 25 of FIL shall refer to commitments on preferential measures and facilitative conditions made by the government to FIEs and foreign investors. The said policy commitments as well as any legally binding contracts concluded between the government and FIEs or foreign investors shall be fulfilled and may not be changed unless due to national interest and public welfare (Art. 27-29)

2b) Protection of foreign investment (including Intellectual Property Rights)
To protect foreign investment, Chapter II of the Implementing Regulations includes several clauses intended to further strengthen the protection of intellectual property and other rights of FIEs:

• Expropriation will be prohibited unless authorised by law or in accordance with the public interest. Fair and reasonable compensation is provided, but further criteria are unclear (Art. 22);
• Foreign investors’ legitimate income generated in China (e.g., return on capital, investment proceeds, dividends, IP license royalties and residual assets) may be freely repatriated in either RMB or foreign exchange without interference from any entity or individual (Art. 23).
• Protection of intellectual property rights (IPR) will be strengthened by establishment of a punitive damages system against IPR infringement and a rapid collaborative protection mechanism (Art. 24).
• The provisions on prohibiting the use of administrative measures to force technology transfers are to be further refined (government agencies will be barred from invoking their authority with respect to registration, investment filing, administrative licensing, and administrative penalties to force technology transfers) (Art. 25)
• Administrative personnel will be mandated to strictly protect FIE’s commercial secrets in the process of carrying out their duties (Art 26).
• A working mechanism to receive and respond to complaints made by foreign investors and FIEs will be established (Art. 30).
• FIEs will have the right to join or withdraw from such social institutions as chambers of commerce and trade associations without interference or penalty (Art. 33).

2c) Investment management
To manage foreign investment, Chapter III  provides the following:

• Investment from overseas enterprises or other entities wholly owned by Chinese individuals (but excluding foreign investment enterprises) approved by relevant government institutions will not be subject to the negative list, essentially treating such entities as domestically-invested (Art. 35);
• Industry regulators would be required to apply the same conditions and procedures for both FIEs and domestically-invested enterprises when reviewing applications for administrative licenses and may not impose additional or more stringent approval conditions on foreign investment entities (Art. 36);
• The examination mechanism for foreign investors investing in fields in which foreign investment is restricted (in the negative list) is further clarified, including the removal of repetitive administrative licensing requirements for foreign investments (Art. 37);
• Foreign investors and FIEs are required to provide relevant foreign investment information through the enterprise registration and public credit disclosure systems, provided that government agencies are to formulate rules on the scope and frequency of such disclosure based on the principle of necessity to minimize the burden on foreign investors and FIEs (Art. 38).

2d) Transition Period
As discussed in more detail in Buren’s article China Passed the New Foreign Investment Law, the three current foreign investment laws will be replaced by the new FIL. FIEs established according to the three foreign investment laws andwhose original organization forms are inconsistent with the requirements of the Company Law and Partnership Enterprise Law, should conform their structures to the new FIL. To reconcile such modification process, the Implementation Regulations provide a three-phased process (Article 42), as follows:

• Phase one – 5-year transition period (i.e. 1January 2020 to 31December 2024): during this period existing FIEs are encouraged to go through a modification process and register with the relevant authorities;
• Phase two – 6-month grace period (i.e. 1 January, 2025 to 30 June 2025): during this period any FIE who has not yet modified its structure is obliged to do so;
• Phase three – rejection of registration (i.e. from 1July 2025): any FIE who has failed to make the required modifications will not be able to register with the relevant authorities.

However, in practice, challenges may exist for specific FIEs to modify their structures to conform their structure to the new FIL. As for Sino-foreign joint ventures, difficult negotiations between joint venture partners may be involved during the reconciliation process.
 

3. Analysis
Although the Implementation Regulations provide much-needed clarity on the certain challenging issues covered by the FIL, several issues remain to be solved:

• The Implementation Regulations do not  clearly define essential terms vaguely described in the FIL, including what constitutes a foreign investment and foreign investor, what the specific process is for filing and approving foreign investments, and what the specific responsibilities are for regulatory agencies at all levels.
• Clarity is needed on the national security and information reporting systems, including details on the regulators and stakeholders, timelines, and review process. Implementing regulations should limit third-party influence, increase administrative efficiency by reducing industrial licensing requirements, and narrow the scope of national security review criteria by maintaining the balance between open trade and foreign investment environment and national security concerns.

4. Conclusion
These Implementation Regulations have long been anticipated. Several provisions are likely to be welcomed by foreign investors, especially in areas such as standard setting, IPR protection, negative list implementation and equal treatment for FIEs. However, the draft is still quite vague on important issues, as discussed above. . Besides, it should be noted that Wang Shouwen, China’s Vice Minister of Commerce, in an official statement on 29 October 2019, said that the State Council’s executive meeting recently adopted Several Opinions on Better Utilization of Foreign Investment, which will be issued it as soon as possible. These opinions and other official publications may soon give answers to some of the remaining questions.