Chinese outbound investment and the role of the BVI company

Chinese investors are increasingly looking abroad for investment opportunities to gain access to new markets, advanced technology and brand development. Chinese outbound investment has grown even during the financial crisis which, for cash-rich Chinese companies, has provided a market for lower-cost foreign asset acquisitions. Access to natural resources has been a driving force behind Chinese outbound investment in Asia, Australia, Africa and Latin America to meet China’s domestic demand. However, Chinese investors have also engaged in brand acquisitions in developed markets such as the US and the UK.

In recent years, it has been an increasingly popular practice for Chinese companies to conduct outbound investment through companies incorporated in the British Virgin Islands (BVI). A BVI company does not attract any corporate, profit or income tax and is not subject to any transaction or document-based taxes such as stamp duty in the BVI.

Joint venture BVI companies

BVI companies can be used to establish a joint venture (JV) vehicle to invest in an overseas market. Chinese investors can jointly own the JV with a partner from another country. One advantage of establishing a JV in the BVI is that it provides neutral ground for doing business with foreign companies. A company in China and a company in Brazil could establish a BVI JV in which each has a shareholding and each has certain appointed directors to the board. BVI law would govern the JV company and any shareholder agreements, which means that neither JV partner would have the benefit of better knowledge of the local laws or business customs. In turn, it makes good commercial sense to ensure that the JV vehicle is established in a jurisdiction where one’s partner is not in a position to use local influence with government officials to its advantage. This can be a legitimate cause for concern for Chinese outward investment in certain emerging markets.

Directors’ duties

A key consideration in the management of any JV is the role of directors. Each investor in a JV company is likely to insist on having at least one representative on the board of directors of the JV vehicle. Supplemental to the duties of a director set out in the BVI insolvency legislation, and common law directors’ duties, the BVI Business Companies Act 2004 codifies the principal duties of a director. The most significant provision in relation to JV directors is that a BVI company has the unusual ability to include a provision in its memorandum and articles of association which provides that a director of a BVI JV can act in the best interests of one or more shareholders of the JV, regardless of whether such actions are in the best interest of the JV itself. This is useful in the situation where a particular shareholder requires a director to act in a certain manner.

Limiting investment risk

Many Chinese investors set up BVI companies to ensure that liability is limited to the amount invested. For example, a Chinese company might set up a BVI company and invest money in it so that the BVI company can carry out trading operations overseas. In return for the money invested, the Chinese company will receive shares in the BVI company. If the investments go wrong and the BVI company makes a loss, the Chinese company will not lose more than it has invested because the BVI company is set up as a limited liability company.

Initial public offerings

Equally, a BVI company is a useful tool to raise capital in established finance centres such as Hong Kong, London or New York. The BVI company can be used as a listing vehicle because a BVI company can be tailored to meet the regulatory requirements of established stock markets with relative ease. The BVI does not have any of its own securities laws and therefore the BVI company need only reflect the requirements in the chosen market. In 2009, the Hong Kong stock exchange announced that it would allow BVI companies to list. The move followed the BVI government signing a tax information exchange agreement with China in 2009 and quickly led to the first initial public offering of the shares of a BVI company in Hong Kong.

Asset holding vehicles

For tax efficiency reasons, BVI companies are also regularly used as asset holding vehicles for assets such as real property. Chinese investors use BVI companies to acquire property in places such as the US, which means that the BVI company benefits from any increase in the value of the property and also receives any income that the property is able to provide. When a BVI company disposes of real property, it is not subject to tax on its capital gains.

Confidence in dispute resolution

A result of the popularity of BVI companies for Chinese outbound investment is that the BVI Commercial Court is well used to dealing with disputes arising from Chinese investments around the world. BVI JV partners have sought the protection of the BVI court in relation to investments such as iron ore projects in the Republic of Congo and coal mines in Indonesia, to name but two examples. BVI legislation provides protection to shareholders of BVI companies by granting a suite of possible remedies from the BVI court. A shareholder can apply for a compliance order, for example, which is an order to enforce compliance with the provisions of the constitution of the company or to restrain conduct in contravention of it. Unfair prejudice proceedings are also available in the BVI court in circumstances where a shareholder considers that the affairs of the JV company have been, or are likely to be, conducted in a manner that is oppressive, unfairly discriminatory or unfairly prejudicial. In such circumstances the BVI court has, for example, the power to wind up the company or require a majority shareholder to buy out a minority at a fair and reasonable price.

Peter Tarn is a partner at Harneys in London. He can be contacted on +44 (0)20 7842 6082 or by email at peter.tarn@harneys.com

Ian Mann is an associate, litigation and insolvency, at Harneys in the British Virgin Islands. He can be contacted on +1 284 494 4310 by email at ian.mann@harneys.com