China Issues New Rules for Shanghai Free Trade Zone: The Devil Will Be in the Details

October 03, 2013

On September 27, 2013, the State Council, the government’s top policy-making body, released new rules to govern the Shanghai Pilot Free Trade Zone (the “Zone”). As indicated by the title however, “General Plan for the China (Shanghai) Free Trade Zone” (the “Plan”), most of the detailed rules needed to give practical effect to these changes are still to come.

Encouragement of Foreign Investment and Innovation in the Financial Services Sector

According to the Plan, key programs will be implemented in the Zone to open up the financial services sector. These programs will include trial programs to set market-oriented interest rates and allow RMB convertibility on capital accounts, measures to facilitate cross-border RMB financing, steps to open the financial services industry to qualified private capital and foreign financial institutions, and ways to encourage the establishment of foreign invested banks and joint venture banks and to gradually allow foreign enterprises to participate in commercial derivatives transactions within the Zone. The language in the two paragraphs announcing these programs is conceptual in nature, amounting to a general guidance about future intentions rather than actual rules.

Encouragement of Foreign Investment in the Services Sectors

The announced steps to be taken to facilitate investment by both domestic and foreign firms in 18 service sectors in the Zone are more specific, but these too fall short of operational rule making:

  1. Banking services
  • Qualified foreign financial institutions will be allowed to set up foreign banks in the Zone and to establish joint venture banks with qualified domestic Chinese private financial institutions.
  • Restricted license banks will be permitted in the Zone under “proper circumstances”.
  • Chinese banks will be allowed to carry out offshore banking business in the Zone after relevant regulations have been adopted and close government supervision has been put in place.
  1. Professional healthcare and medical insurance
  • A pilot program will be commenced in the Zone for the establishment of foreign invested professional healthcare and medical insurance organizations.
  1. Financial leasing
  • Financial leasing companies will be allowed to set up subsidiaries in the Zone that can finance single machines or single vessels, and these subsidiaries will not be subject to the current minimum registered capital requirement.
  • Financial leasing companies will be permitted to carry out business factoring in the Zone if related to their primary businesses.
  1. Ocean cargo transportation
  • Foreign equity restrictions for Sino-foreign joint venture and Sino-foreign cooperative shipping companies will be relaxed in the Zone.
  • Vessels registered outside China that are wholly-owned or controlled by Chinese companies will be allowed to conduct coastal shipping between the Shanghai port and other Chinese coastal ports through a pilot program for import and export cargo containers.
  1. International ship management
  • International ship management companies that are wholly-owned will be permitted in the Zone.
  1. Value-added telecommunications
  • Subject to certain activities within the purview of the State Council, foreign invested companies will be allowed to engage in certain types of telecom value-added businesses so long as China’s network security will not be harmed.
  1. Selling and servicing of gaming consoles and machines
  • Foreign invested companies will be permitted to manufacture and sell gaming consoles and machines. The consoles and machines can be sold across China if their game contents have been cleared by the culture content regulators.
  1. Legal services
  • Mechanisms will be explored to enhance business cooperation between mainland law firms and foreign law firms (including those in Hong Kong, Macau and Taiwan).
  1. Credit investigation
  • Foreign credit investigation companies will be allowed in the Zone.
  1. Travel agencies
  • Qualified Sino-foreign joint venture travel agencies registered in the Zone will be permitted to provide overseas travel services (other than to Taiwan).
  1. Human resource agencies
  • Sino-foreign joint venture human resource agencies will be allowed in the Zone; the equity cap for foreign shareholders will be 70%.
  • Hong Kong and Macau based service providers will be permitted to establish wholly-owned human resource agencies in the Zone.
  • The minimum registered capital for foreign-owned human resource agencies will be reduced from USD 300,000 to USD 125,000.
  1. Investment management
  • Foreign invested joint stock investment companies will be allowed in the Zone.
  1. Engineering design
  • Foreign engineering design companies (excluding engineering surveying companies) will not be subject to a track record requirement when applying to provide services in Shanghai.
  1. Construction services
  • Wholly-foreign-owned construction companies in the Zone will not be subject to equity caps when contracting for Sino-foreign construction projects in Shanghai.
  1. Performance brokerage
  • Equity caps for foreign invested performance agencies will eliminated and wholly foreign owned performance agencies will be allowed in the Zone; their services can be provided only in Shanghai.
  1. Entertainment venues
  • Wholly-foreign-owned entertainment venues will be allowed in the Zone.
  1. Educational and vocational training
  • Sino-foreign cooperative educational and vocational training organizations will be permitted in the Zone.
  1. Medical services
  • Wholly-foreign-owned medical service entities will be allowed in the Zone.

<text-decoration:>“Negative List” Approach and Simplified Filing Process</text-decoration:>

China’s current Catalog for the Guidance of Foreign Invested Enterprises that separates inbound foreign investment into “encouraged,” “allowed,” “restricted” and “prohibited” categories will be replaced with a “negative list” approach in the Zone. Under the negative list approach, the current foreign investment approval procedures will not apply. Instead, if a sector is not listed on the negative list, a foreign company can invest in that sector following a registration process (as is applicable to domestic investments by Chinese entities).

On September 29, 2013, the Shanghai government released implementing rules including:

(i) the “Special Administrative Measures on the Entry of Foreign Investment into China (Shanghai) Free Trade Zone (the “2013 Negative List”) which lists 18 sectors and as many as 1,069 specific business areas where foreign investments are either restricted or prohibited;

(ii) the “Registration Administrative Measures on Foreign Invested Enterprises in China (Shanghai) Free Trade Zone” (the “Administrative Measures on Foreign Invested Enterprises”); and

(iii) the “Registration Administrative Measures on Foreign Investment Projects in China (Shanghai) Free Trade Zone” (the “Administrative Measures on Foreign Investment Projects”).

Under the Administrative Measures on Foreign Invested Enterprises, the Zone’s Administrative Committee is responsible for the registration of foreign invested enterprises in the Zone. A foreign invested enterprise, after obtaining a pre-approved corporate name, then registers through the Administrative Committee’s online system. The Administrative Committee must review and approve the registration within one business day. The Administrative Measures on Foreign Invested Enterprises became effective for three years on October 1, 2013.

Under the Administrative Measures on Foreign Investment Projects, the Administrative Committee is responsible for the registration of foreign investment projects that are not on the negative list. Such foreign investment projects include joint ventures, Sino-foreign cooperatives, wholly-foreign-owned projects, foreign investors’ acquisitions of China domestic enterprises, and new investments by foreign invested enterprises (excluding, however, certain domestic investment projects as specified by the State Council). To register a foreign investment project, an applicant is required to complete a registration form and submit other specified materials to the Administrative Committee. The Administrative Committee must respond within 10 business days after receiving complete application materials. According to Dai Haibo, a deputy director of the Zone Administrative Committee, the new registration procedure could reduce the time it takes to obtain a foreign investment business license from approximately 29 days to as few as 4 days. The Administrative Measures on Foreign Investment Projects became effective on October 1, 2013.

Our Thoughts

Since the State Council’s goal to make Shanghai an “international finance center” by 2020 was announced in March 2009, it can be argued that both Hong Kong and Shenzhen have outpaced Shanghai in the race to the top. The State Council’s recent decisions to establish the Shanghai Free Trade Zone provide an opportunity to reinvigorate the effort to make Shanghai a truly global financial center. Whether all the detailed rules needed to give effect to the State Council’s announced objectives will flow quickly or slowly remains to be seen, but its most recent steps, most especially its prompt action adopting definitive rules to implement the “negative list” approach for foreign investment licenses in the Zone, provide good reason to hope.

This article was originally published by Bingham McCutchen LLP.