Interview with Steve Yu

Written on 23 May 2018

Can you give us some insight into what is happening in the Chinese economy right now? What are the key trends?

The Chinese economy continues to perform strongly. China’s GDP has risen from 54 trillion to 82.7 trillion yuan (around USD 13 trillion) over the last five years and an interesting aspect of that is an increasing number of Chinese consumers are connected to the Internet; every year the e-commerce market grows well over 20%. That, of course, attracts more foreign companies each year that come for this rapidly growing and highly lucrative industry. But the market isn't simply a porting of practices from the west, the Chinese Internet landscape is quite different. It is always a good idea to keep an eye on those differences: from e-commerce legalizations to the differences in website infrastructure and the overall feel of the internet in China.

Smart phones also are playing a huge role in this boom, with the way that Chinese consumers make purchases leading the way, using payment apps like Alipay and WeChat. Alipay is a great example of Chinese's tech quest for global expansion as the app supports a large number of cross-border online and in-store payments in different countries.

Looking forward, despite the downward pressure on economic activity, economic growth looks likely to continue, if at a slower pace. The general manufacturing sector will be completely opened up, and access to sectors like telecommunications, medical services, education, elderly care, and new-energy vehicles will also be expanded. In the near future, China intends to actively expand imports and lower import tariffs on automobiles, some daily consumer goods, and even more.

Can you give us a brief perspective on the tech scene in hubs like Shenzhen, Shanghai, Beijing?

For Beijing (21M population), high-tech enterprises at Zhongguancun (the Silicon Valley of China) have been at the forefront of the world in technologies and new industries such as graphene and artificial intelligence. Currently, Zhongguancun is home to 312 listed companies, with a total market value of more than USD 839.69 billion. As of the end of 2017, enterprises at Zhongguancun had established 535 branches overseas.

Shenzhen (12.5M population), is the home for established tech giants such as telecom gear makers ZTE, Huawei, and internet company Tencent, as well as rising stars like DJI Technology Co. BGI, the world's biggest gene research center is also based in Shenzhen. Emerging industries such as information technology, biotech, green energy and new materials now account for about 40 percent of Shenzhen's economic output. Compared with Beijing, this city has a high degree of market autonomy and less interference from municipal government. The local government is very service-oriented and supportive, attaching importance to the industries of science and technology. These are all beneficial for shaping Shenzhen as an international center for innovation in science and technology in the future.

Shanghai (24M population), as the financial mecca of China, has not often been thought of as the country’s hub for tech innovation. But recently, Shanghai has blossomed into a startup haven. Zhangjiang Hi-Tech Park, in the center of Pudong district, is thriving as a community of upcoming businesses and established tech giants. ZJ Park now hosts 13,000 small- to medium-sized companies, 49 regional headquarters and around 138 R&D centers.

How about funding and private equity?

The general picture of China’s funding and PE market is that of a flourishing market. There is an increasing amount of RMB fundraising, e.g. USD 72.51 Billion was raised by China PE and VC in 2016. This showed a 177% growth over 2015. High technology, media and entertainment, financial tech, healthcare, real estate and consumer sector were the favorites of PE\VC in 2017. Capital in play now comes from sources such as government and industry funds, private-company funds and state owned enterprise (SOE) funds. As a result, Chinese private equity and venture capital-led merger and acquisition activities will be more active in 2018.

If you are thinking about M&A in China, the first step is to check whether or not the business is open to foreign investors. If it is, normally the share transfer needs to be filed/registered with local authority and the ultimate owner/purchaser of the Chinese company is required to be disclosed in order to make the filing. The filing process is not complicated and will usually takes 3 - 5 working days to complete, provided that all the documents required are in good order.

After filing, you'll also need to be aware that your acquisition of the Chinese subsidiary will be subject to the local company income tax, unless the transaction falls into certain circumstances of exemptions. We always advise investors to consult with tax professionals for a full review on the deal and planning the tax structure for the transaction properly.

If you are looking to China for funding, it is worth keeping in mind that the local authority has set different categories of outbound investment to orient the local enterprises, such as encouraged categories, restricted categories (for instance, investment in real estate, entertainment and sports clubs, etc.) and prohibited categories (for example, gambling).

In order to mitigate the risks of outbound investment, the government will actively supervise before the investment (“prior supervision”) and monitor the status of the investment going forward (“afterwards supervision”). The prior supervision procedures are relatively explicit and comprehensive as the investment shall go through approval/filing as well as foreign currency registration before it will be made.

2017 was a big year in terms of acquisitions with some of the highlights being:

1) IDG capital together with China Oceanwide purchased International Data Group’s global investment business;

2) Alibaba purchased (which is the biggest ticket platform in China) and become its sole shareholder;

3) CITIC capital acquired McDonald's business in China for USD 2 billion and renamed it as Golden Arch. After the acquisition, CITIC owns 52% shares of GA, while Carlyle and McDonald's own 28% and 20% respectively.

4) China National Chemical Corp. purchased 94.7% shares of Syngenta Agriculture for around USD 4.9 billion. Syngenta is the world's largest agricultural company and the world's third largest seed company.

5) U.S. private equity firm Blackstone group announced that it agreed to sell Logicor to China Investment Corporation for 12.25 billion euros (USD 13.8 billion). Logicor’s operation includes real estate business with a size of 13.6 million square meters located in 17 countries. Its customers include Amazon. This will be the second largest real estate transaction in Europe on record.

What have been some of the main developments so far this year from a legal perspective and what key issues are on the horizon?

The past year has witnessed a number of regulatory developments of note. The developments in the area of foreign invested company registration and anti-unfair competition are particularly relevant to foreign investors and their Chinese subsidiaries’ day-to-day operations.

To make the process for establishment of foreign-invested enterprises (FIEs) more efficient, China has recently implemented a new filing-based system in place of the approval system that has governed the incorporation of FIEs for over 30 years. This means foreign investors are generally no longer required to obtain approvals from the Ministry of Commerce for incorporation of FIEs. Instead, the establishment (or changes to the particulars) of FIEs is now only subject to an online record-filing procedure. These changes are codified in revisions to the foreign investment laws and ancillary administrative regulations. The filing regime does not apply to so-called “restricted industries” specified in the Special Entry Administration Measures (the “Negative List”), where approval is still required for foreign investment. This new system will continue to improve in practice in 2018.

The revision of the anti-unfair competition law provides greater clarity about what is considered to be unfair competition activity and will facilitate effectiveness in regulating anti-competitive conduct. For instance, the amendment expands the definition of “protected commercial marks” to include the domain name and website name used for a particular product. This will promote effectiveness in regulating anti-competitive conduct online.

IP is always a big issue for foreign companies heading into China so we always encourage foreign investors to register their trademarks/domain names in China if they are considering ever developing business in the country, as trademark/domain squatting is not uncommon to see in the market. The registration can give the investors a solid legal base to protect their trademarks and domain names. With respect to confidential information (such as know-how or unique technologies), we suggest making sure that an non-disclosure agreement is in place before releasing information to Chinese business partners, to avoid unnecessary disputes in the future. And then there are some more general concerns:

  • Employment - The Chinese labor laws are very employee-favored and do not allow “at-will” terminations by the employer. Unilateral termination by the employer can happen only when it complies with the local law requirements and falls under the causes as described by the law. On the other side, the employee can unilaterally terminate the employment relationship by giving just one month’s notice. Under Chinese labor law, the employment contract has been renewed twice, the employment term will automatically become open ended.
  • Stock options – currently, it is not very common for Chinese companies to offer stock options to their employees as encouragement/benefits. Nevertheless, more and more big Chinese companies (such as Huawei) have started to offer such benefits to their employees in order to attract talents and promote initiatives.
  • Visas – The process for expats to apply for work permits in China has become more and more straight forward in recent years, but the requirements for qualifications remain unchanged (e.g. at least bachelor degree, certificate of no criminal record, reference letter issued by previous employers, etc.). And the age of the expat shall be under 60 years old for male and 55 years old for female.
  • Paid leave - Local law requires that employees who have been employed for more than 1 year but less than 10 years will be entitled to 5 days of paid leave. The employees will be entitled to 10 days of paid leave if they have been employed for more than 10 years but less than 20 years. In practice, however, many foreign invested companies in China will normally grant a minimum of 10 days of paid leave as an incentive to their local employees. Some companies apply their home country paid leave policy to their Chinese subsidiaries.

What general advice would you give to American companies thinking about China as a market opportunity? Any common mistakes to avoid or methodologies for success to follow?

There are a few key things to bear in mind for companies considering opportunities in China. First, devoting time to planning and analysis will prepare foreign investors well for the growing China market. Many companies want to get on the ground quickly. Time pressure to be successful can create problems though. Second, always be hands on. Without a constant presence and close supervision in China, it will be difficult for a foreign-invested company to ensure its best interests are being advanced by its local employees. And finally, don't underestimate the importance of localization. Training local talents and integrating the company culture of the overseas office into the China subsidiary are important. But localization does not mean relying on “Guanxi” (including connection with local government officials). Many new foreign investors might have a certain level of misunderstanding about doing business in China is all about “Guanxi”. It is important to have good business relationships but never let “Guanxi” get in the way of common business sense.

What are some of the lifestyle adjustments Americans should expect to make when setting up in China?

Foreign investors will need to be flexible and adjust to a country that practices business according to "Chinese characteristics" deeply related to its traditions. To adjust to these cultural differences, it is important to be humble and to learn from the new culture that you are dealing with in order to grasp the complexities of the Chinese market. For example, while western employees incline to delegate duties and have flexible lines of authority, Chinese employees are used to a more hierarchical structure which clearly defines the role of each person. Such differences can often lead to tensions between western managers who are accustomed to employees acting on their initiative, and Chinese staff who always follow instructions from the top. But with an appreciation of the local practices and characteristics, Americans and other investors will find China a welcoming and prosperous place to do business. And this doesn't mean you won't feel anything but at home; our own backyard of Shanghai is a wonderfully vibrant metropolitan city, with cuisine from all over the world, a vibrant nightlife with city lights to match and a widespread use of English.

What have been some highlights from your year?

Last year, we continued to represent both international and domestic clients on cross-border transactions and trades across the entirety of the country. We provide local labor law advice, general corporate advice, IP and TNT related legal advice and compliance advice related to China market entry. This coming year promises to be just as energetic and full of work.