The U.S.-China relationship has consumed global attention—particularly from a business perspective. Despite trade tensions and slowing economic activity, China is one of the fastest growing economies in the world. As McKinsey & Company reported earlier this year, China’s GDP will increase by the size of the Australian economy in 2019. Furthermore, the company reported that Chinese consumption rates will likely grow by $6 trillion between now and 2030.
“China represents a huge market for businesses, whether you’re a startup or you’re an existing middle-market company trying to grow your market share,” said Tom Chang, senior vice president and head of cross border banking at East West Bank.
However, there are some key guidelines that you must be aware of to enter into a successful joint venture. In this article, we’ll touch on regulatory concerns, how to choose the right banking partners and the importance of relationship-building when considering a joint venture.
China’s economy is highly regulated, so you need to understand the government’s policies surrounding your industry before you pursue a partnership. “The Chinese government specifically promotes the growth of certain industries and places tighter controls on non-encouraged industries in order to shape the country’s economic development,” Chang said.
As a capital-controlled environment, China places rules on inflows and outflows of currencies, which means businesses can’t simply wire funds in and freely convert them between USD and RMB, according to Chang. Instead, you must work with banks to provide specific supporting documents to comply with regulatory standards.
Given this complex regulatory environment, commercial banking for wholly foreign-owned enterprises (WFOEs) in China is a highly customized service with a strong advisory component. It’s important to have the right professional team in place, including accountants, lawyers and bankers who will keep you aware of the latest regulatory requirements.
Assembling the right team to manage your China investment is essential to your success, as well as to stay in compliance with domestic and international laws.
“It’s important for CFOs and business owners to understand that there are a lot of opportunities in China, but at the same time, you need to make sure you fully understand all of the necessary requirements and what are the pitfalls to be aware of,” Chang said.
Among the most important appointments you’ll make is your business manager in China, so be discerning when choosing this person. The same standards apply here as selecting your foreign bank partner: transparency, communication and service. The business manager must keenly understand the company’s interests and obligations, and be meticulous about maintaining all required records.
You’ll need to select a commercial bank advisor, as well. Chang said that while the bank can’t advise the company on tax matters, it can provide banking regulatory guidance, which is critical to understanding capital controls.
“The bank is the ultimate gatekeeper to review those documentations, so why not talk to the bank directly and find out what are the documents required before you go down that path?” Chang said. This is a particular concern with regard to profit repatriation. The most common method businesses choose is to distribute profits out of China through dividends, but there are documentation protocols and rules (such as producing and verifying audited statements) that must be followed in order for those to be lawful.
Unsurprisingly, you also need a good tax advisor, according to Chang. In addition to the corporate income tax, businesses that operate in China must also pay a value-added tax (VAT). Chang noted that if you’re not in compliance with Chinese tax law, your operations there could be shut down, so it’s critical that you understand your obligations. It’s imperative that you have an advisor who is versed in the legalities of transferring money into the Chinese subsidiary, as well.
You also need to assemble legal counsel that represents the right type of expertise. “Hiring someone locally who understands the international component, as well as local authorities, is very important,” Chang said.
Don’t default to hiring an attorney because they’re based in one of the big Chinese cities. “He or she may not necessarily be fully familiar with where your factory is located, [and] he or she will still have to deal with local labor and tax laws,” Chang said. Seek out a reputable international attorney, but make sure someone on your team can attend to local regulatory practices, as well.
Finally, connect with your peers in the WFOE space. You can learn a great deal from their challenges and experiences, and Chang recommended inviting them to be part of your advisory team, where they can serve as go-to resources as you establish the venture.
All WFOEs must have at least two bank accounts, according to Chang—a basic account and a capital account. A WFOE can only have one basic account, which is used for settlements and must be opened at the place of registry. The capital account will be used to fund your registered capital into China. Often, companies will establish additional RMB operating accounts to avoid using basic accounts for all their transactions and banking in a given geographic area.
Chang recommended using three guidelines when selecting your banking partners:
Transparency: You should have access to your WFOE bank accounts without having to translate and be able to access them online wherever you are traveling. Visibility to your bank records should be the top consideration of any WFOE when selecting a bank.
Communication: Make sure your banking advisor is fluent in English and will be able to communicate directly with you. Your advisor should be willing to provide you the necessary guidance on documents needed for transactions and provide you with regular regulatory updates. Chang advised against merely relying on the translations of documents and solely relying on the local manager for all banking transactions. Owners are encouraged to have direct access and a relationship with their bank, should their local manager change.
Service: “Always consider the nature of your business and what is important to you as a foreign-owned enterprise doing business in China,” Chang said, and select a banking partner that will support those goals, can service your account across time zones and provide the resources and guidance your particular company needs.
Selecting your banks based on these guidelines will help you avoid running afoul of regulations, as well as prevent fraudulent activity in your business and accounts, Chang said.
"Always consider the nature of your business and what is important to you as a foreign-owned enterprise doing business in China."
However great an opportunity you identify in China, it’s critical that you delve into your prospective partners’ backgrounds and their networks, said Chet Scheltema, senior counsel at Teeple Hall law firm. If you run a small company or are in an industry that’s not heavily regulated, you’ll want to look at the decision-makers' personal networks, Scheltema said. This includes their professional networks, local government contacts, former classmates, and their families to gain insight into their values and ways of doing business.
But if you’re in an industry that is closely linked to the government, such as the automotive industry, you must also take a much closer look at government involvement, Scheltema noted. A business leader in such an industry will have extensive government contacts, and a state-owned enterprise will have government departments to report to. You need to fully understand the relevant government hierarchy and influence in order to make a sound decision about the joint venture. You may opt to hire an agency that specializes in due diligence research and is accustomed to analyzing industries in which there is a great deal of government influence and communication.
Getting to know prospective partners gives you a sense of whether they are people with whom you want to work, but it also establishes a foundation for trust and security. Because not all countries have the same protections regarding fraud and other business risks, relationships can become an important stand-in for regulations that reduce the chances of dishonesty and/or fraud, according to Scheltema.
“Everybody talks about relationships, and it’s true that the key is relationships,” he said. “One of the reasons for that is, then you are able to develop a degree of comfort that you can trust the person. And when they are in your network of friends and connections, too, then the person who might defraud you or cheat you is a little less likely to do that because they know there might be repercussions in that network.”
It’s not just about playing defense, though. Scheltema said that vetting your partners’ networks is important as you look to the future and identify opportunities in other ventures or consider expansion you might want to pursue. Could your partner’s network be of help? The more deeply you get to know your potential partners, the better, and it’s important to pay attention early.
“For the Chinese, the negotiations started when you first met, and it all just blends together,” Scheltema said. “It’s an ongoing process of feeling each other out, trying to understand how the joint venture partnership is going to work.”