China - Year Of The Dog 2018 - Embrace The Opportunities But Watch Out For The Challenges.

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Asia Pacific Legal Updates

 

13 March, 2018

 

China - Year Of The Dog 2018 - Embrace The Opportunities But Watch Out For The Challenges.

 

2017 saw China’s GDP achieving an unexpected 6.9% growth. This is the first time since 2010 that the pace of GDP growth has picked up. 2017 also saw the Chinese government continuously sending mixed messages regarding foreign investment. On the one hand, new rules were promulgated to transform China’s foreign investment regime. These changes further opened the Chinese market to foreign investors, streamlined governmental regulation on foreign investment projects and improved market entry. On the other hand, considerable challenges continued. The regulatory regime and compliance enforcement activities were strengthened, particularly relating to cyber security, data protection, environmental protection, anti-trust, anti-unfair competition and anti-bribery.

While uncertainties and risks will continue in 2018, there will be opportunities to be embraced as well.

 

Re-emphasis on foreign investment

 

The Chinese government has released encouraging signals for foreign investors. Recent promulgations include:

 

  • The 2017 version of the Foreign Investment Industrial Guidance Catalogue (effective on 28 July 2017) (2017 Catalogue)
  • The 2017 Catalogue adopts a new two-part structure. The first part contains the encouraged industries. The second part contains the negative list, which applies nationwide and integrates items under the restricted industries, prohibited industries and encouraged industries with shareholding restrictions.
  • The 2017 Catalogue contains 63 restricted and prohibited items, reducing the 2015 Catalogue by 30 items. The changes focus on mining, manufacturing and service industries.
  • The 2017 Catalogue removes restrictions which apply to both foreign and domestic investors, including in relation to the construction and development of large theme parks, golf courses, villas, construction of certain fire power generation plants, processing of traditional medicine under the protected catalogue and processing of ivory and tiger bones. Administration of foreign investment in these industries will be the same as for domestic investment.

 

The 2017 version of the Free Trade Zone Foreign Investment Market Entry Negative List (2017 FTZ Negative List) (effective on 10 July 2017)

 

The 2017 FTZ Negative List reduces the 2015 FTZ Negative List by 27 items.

 

Compared to the 2015 FTZ Negative List, the changes to the 2017 FTZ Negative List focus on mining, manufacturing, transportation, IT services, financing, leasing and commercial services, education, culture, sports and the entertainment industry.

 

State Council’s 22 measures covering five aspects to promote FDI growth (issued on 8 August 2017)

 

The measures intend to:

 

  • further reduce restrictions on, and further open up, sectors for foreign investment (for example, in manufacturing of new energy automobiles and the banking, securities and insurance industries);
  • formulate supportive policies on finance and tax (for example by encouraging the continuous expansion of investment in China by foreign investors);
  • improve the investment environment of state level development zones;
  • improving the rules and systems to encourage foreign talent; and
  • optimise the business operation environment (for example by accelerating the pace of new legislation on foreign investment and ensuring the free remittance of legitimate profits).

 

Policy on withholding tax deferral for direct re-investment of dividends into encouraged industries by foreign investors (retrospectively effective from 1 January 2017)

 

Under the policy, deferred payment of withholding tax on dividends derived from China is permitted if the dividends are re-invested into encouraged industries by way of capital increase, greenfield projects, equity acquisitions or other equity investments, but excluding acquisitions of listed shares (except for qualified strategic investments).

 

The dividends must be eligible distributed profits derived from Chinese enterprises.

 

The dividends must be transferred directly from the Chinese enterprise distributing the profits to the re-invested entity.

 

Foreign investors may apply for a refund of the paid withholding tax within three years after payment. 

 

Continuous compliance challenges

 

Despite the above policies and the further opening-up of China, foreign investors still need to remain alert in view of the strengthened regulatory regime and compliance enforcement activities:

 

Cybersecurity

 

Since the Cybersecurity Law came into effect on 1 June 2017, a series of supporting measures and rules, judicial interpretations and national standards have been promulgated. These cover various matters including regulation of content on internet media channels, examination of network security products and services and personal information protection and provide more specific guidance on the regulatory regime. There are further draft regulations in the pipeline in relation to matters such as data export and critical information infrastructure. In addition to legislation, post-enactment developments from enforcement cases have also been widely reported. We have already seen enforcement activities and cases on breach of security protection obligations, obligations to manage online information, obligations of real-name registration and verification as well as personal information protection. Cybersecurity will continue to be a regulatory focus area in 2018. Foreign investors should closely monitor the regulatory developments and analyse their implications for transactions and business operations.

 

Data privacy

 

As required by the Cybersecurity Law, network operators must comply with the principles of legality, legitimacy and necessity in dealing with personal data. The Cybersecurity Law, together with various implementing rules, imposes a series of data protection obligations on network operators. Protection of personal information has also been reflected and emphasised in other legal areas, such as consumer protection (for example by the Law on Protection of Consumer Rights and Interests and the draft E-commerce Law) and employment law. Some recent controversies involving data protection and big internet names have attracted great attention from the government and the general public, and will no doubt raise the awareness of data protection across Chinese society. With the Cybersecurity Law and other laws on data protection being enacted and implemented, we expect data protection to receive even greater attention in 2018. 

 

Continuously updated anti-trust and anti-unfair competition measures

 

With respect to anti-trust, amendment to the Anti-Monopoly Law is expected to be put on the legislative agenda this year. While we are expecting to see more initiatives to crack down on administrative monopolies this year, the National Development and Reform Commission and the State Administration for Industry and Commerce are closely monitoring price fixing and abuses of market dominance. We are also seeing a trend of tightened scrutiny of the more high profile and complex gun-jumping cases on merger control filings. With respect to anti-unfair competition, although the amended Anti-Unfair Corruption Law just took effect on 1 January 2018, we have already seen investigations into alleged breaches of the new law. Due to the extensive investigative powers of the authorities, it would not be surprising to see the new provisions being deployed immediately and we expect an uptick in both investigations and administrative penalties as a result of the new law. We also anticipate that implementing rules will be issued in 2018, which will help clarify the new law. 

 

Environmental protection

 

We have seen increasing enforcement activity by regulators in 2017. Many companies in breach of environmental protection laws and regulations were ordered to cease business operation or face closure. Big administrative penalties are also commonly seen. Environmental protection will remain a top agenda item of the government in the mid- to long-term. On the one hand, companies will need to ensure their own compliance on environmental protection. On the other, companies will also need to pay attention to compliance by their suppliers and business partners to avoid potential business interruption due to government enforcement activities against those third parties. 

 

Our observations

 

We expect to see continued resilience in China FDI in 2018 given the positive signals from the government.

 

There will be new opportunities for foreign investors in newly opened and less restricted industries (for example in the financial sector).

 

Compliance will continue to be a hot topic in China. We expect to see ongoing compliance initiatives by regulators. FIEs should maintain robust internal systems to comply with increasing compliance requirements, particularly relating to cybersecurity, data privacy, environmental protection, anti-trust, anti-unfair competition and anti-bribery.

 

Given the mixed regulatory environment, foreign investors will continue to rationalise their Chinese businesses. More market restructuring and M&A activities involving multinational corporations are expected. 

 

herbert smith Freehills

 

For further information, please contact:

 

Karen Ip, Partner, Herbert Smith Freehills

karen.ip@hsf.com