Impact of EU state aid rules on Chinese investors

By Wang Jihong and Zhao Huiqi, Zhong Lun Law Firm

On 17 June 2020, The EU issued a White Paper on Levelling the Playing Field as Regards Foreign Subsidies, placing a big target on foreign subsidies. The EU believes that, bound by EU state aid rules, the support and subsidies coming from member states to their companies are greatly restricted within the EU internal market.

Wang Jihong Zhong Lun Law Firm State aid rules
Wang Jihong
Zhong Lun Law Firm

The EU state aid rules, however, do not apply to non-EU states. Therefore, companies of non-EU states could gain unfair competition advantages in the EU market upon their operation and investment, through support and subsidies from foreign governments.

Although the EU claimed that the white paper is not targeted at any specific country or region, in the course of compiling the white paper, some media explicitly pointed out that China was at the centre of the debate.

Definition and approval

As a part of the EU’s competition policy, the EU state rules are made extremely strict to avoid any subsidy race or market barriers created by governments of the members states, so as to maintain a market environment of fair competition.

Zhao Huiqi Zhong Lun Law Firm State aid rules
Zhao Huiqi
Zhong Lun Law Firm

These state aid rules are the basic rules of the EU stipulated in the Treaty on the Functioning of the European Union (TFEU). Article 107(1) of the TFEU provides: “Save as otherwise provided in the treaties, any aid granted by a member state, or through state resources in any form whatsoever, which distorts or threatens to distort competition by favouring certain undertakings or the production of certain goods, shall, in so far as it affects trade between member states, be incompatible with the internal market.”

In a Commission Notice on the Notion of State Aid as referred to in article 107(1) of the TFEU, the European Commission (EC) specified the elements that constitute state aid, i.e., the EU state aid rules only regulate aid with the following elements: (1) it is funded by the member state or through state resources; (2) it is an advantage for the beneficiary of the measure, which refers to subsidies, tax relief or preferential treatment contrary to market standards; (3) it is selective in granting that advantage, which means it favours certain undertakings or production of certain goods; and (4) it distorts or threatens to distort competition, or affects trade, that is, to affect products and services that are traded between member states, and proving that the aid strengthens the position of the beneficiary companies in relation to competitors would suffice.

The EC has exclusive jurisdiction over state aid. In principle, member states cannot provide or implement any state aid until given approval. Any form of state aid provided by a member state without the necessary prior EC approval would constitute “illegal aid”.

However, the state aid is not entirely prohibited, and could be approved by the EC after review. When reviewing state aid, the EC may approve it if it considers that the state aid is compatible with the EU internal market, involves an important project of EU public interest, or is for the common interest of the EU.

Potential risk

For foreign investors, state aid is defined broadly. Any measures that contain the above-mentioned four elements, including tax legislation and policy, will be deemed as state aids. For example, in case SA.38373 on tax reduction implemented by Ireland to Apple, the EU considered that Ireland’s tax ruling on Apple ignored the fact or economic basis of profit allocation, and gave Apple a prominent advantage over other businesses, and thus constituted illegal aid.

On 15 July 2020, the Court of Justice of the European Union (CJEU) held in its first instance judgment that the EC failed to prove that Apple had received illegal state aid from Ireland through preferential tax agreements. However, the EC did not waver in its determination to continue to track all forms of illegal state aid. Therefore, there is still a risk that future tax legislation and policy will be held as illegal aid.

In addition, since the state aid rules in fact regulate the EU member states, foreign investors are in a passive position on state aid determination, and have no right to defend to the EC. In Autostrada Wielkopolska SA v European Commission, the CJEU ruled that the procedural inclusion of the beneficiary companies was not required for consultations between EU member states and the EC on state aid rules.

That is to say, the administrative procedure related to state aid is only for the EU and the member states concerned, and the beneficiary companies have no right to engage in adversarial debate with the EC as stakeholders in the procedure.

Future impact

The EU state aid rules ensure that subsidies provided by the public sector are compatible with EU’s internal market. Many subsidies from non-EU states are illegal under EU state aid rules. However, since the rules only apply to supportive measures granted by EU member states, these foreign subsidies are not regulated by EU state aid rules.

For companies subsidized by foreign governments, the white paper aims to ensure a level playing field between them and those restricted by EU state aid rules through reviewing and restricting their business operations in the EU.

Considering that, before the official release of the white paper, relevant EU officials have repeatedly mentioned in public that Chinese state-owned companies always enjoy unfair competitive advantages in investing in the EU through government subsidies, Chinese investors are suggested to keep track of EU legislation, consider possible changes in advance when negotiating relevant projects, and prepare for new regulatory requirements following official legislation of the white paper.

Wang Jihong is a partner and Zhao Huiqi is an associate at Zhong Lun Law Firm

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