With Part 1 having giving a general introduction of the outbound direct investment (ODI) procedures of Chinese enterprises, this article will look at some common issues in the ODI application practice.
(1) Whether a project needs to go through ODI procedures. The definitions of “overseas investment” are not entirely consistent in the relevant regulations of the National Development and Reform Commission (NDRC) and the Ministry of Commerce (MOFCOM). In practice, the focus of the authorities in their reviews is whether domestic entities have obtained overseas interests, including corporate ownership, rights of control, and management controls.
An ODI application is only required if a Chinese enterprise receives overseas interests. Taking the overseas lending of a domestic enterprise as an example, if the funds are provided to overseas affiliated parties for operations, it is merely an act of lending. The enterprise has not obtained overseas interests and thus does not need to go through ODI procedures.
However, if the funds are lent to overseas affiliated parties, who will in turn use such funds to acquire equity interests of an overseas enterprise, the lender will be deemed to have obtained overseas interests through the remittance of domestic funds, in which case ODI applications become necessary.
(2) When to make an ODI application. According to the practice of most local development and reform commissions, an ODI application should be made before the applicant obtains the rights and interests of the overseas enterprises, even if at this point the applicant has yet to make an investment, or any consideration to the overseas enterprise. The practice of MOFCOM is the same.
On the basis of the above criteria, if and when a domestic enterprise receives warrants issued by an overseas enterprise, it has not obtained any overseas interests, hence there is no need to go through the ODI procedures. The application obligation should be fulfilled when it exercises the warrants in the future.
(3) ODI applications involving multiple domestic entities. Generally, domestic enterprises that intend to invest abroad are the applicants for ODI projects. However, some projects involve multiple domestic entities, and which party should apply for the ODI requires specific analysis.
When a new ODI project involves multiple domestic investors, the main investor should be the applicant. As for an additional investment, or transfer of shares of an overseas project that has already been through ODI procedures, the standards of review from the two departments are completely different.
The NDRC regards the above-mentioned situation as an independent and new ODI project, and requires the party with the highest investment (in the current round) to make an ODI application. However, the MOFCOM views it as a change to the original ODI project, and requires the domestic investor with the highest shareholding ratio in the investment project to be the applicant for the ODI change.
If the applicant of the ODI project changes during the process, for example, the applicant of the previous round will no longer be the majority shareholder after the completion of the new round of investment, and the project will be transferred from the original filing commercial department to the local commercial department where the new applicant is located for review.
(4) The use of route companies. For tax and shareholding structure optimization purposes, many enterprises choose to set up one or more layers of overseas entities between them and their destination enterprises, which are the route companies in the context of ODI. Both NDRC and MOFCOM adopt the “penetrative” principle and focus their reviews on the enterprises that the funds eventually flow into, and only require filing or approval for ODI for such destination enterprises.
There is no requirement of application for the establishment of route companies, but the applicant needs to fully disclose its investment route (that is, each layer of the route companies).
If an overseas enterprise registered as a route company subsequently conducts business operation, the domestic enterprise should go through another ODI procedure. However, it should be noted that, in practice, some local governments may not accept the ODI application in the above-mentioned scenario.
(5) Equity transfer of the ODI projects with unfinished investment. For projects that have completed ODI filing/approval, equity transfers can be made before the investment is fully completed. Both departments regard it as a change to the original project.
(6) Applications for overseas reinvestment projects. The authorities supervise the entire process of overseas investment, including the reinvestment made by destination enterprises that have already processed ODI applications. According to the authorities, the investment made by the destination enterprise, using its operating profits or self-raised funds from overseas, constitutes an overseas reinvestment. In contrast, if the funds originate from the domestic enterprises (e.g., through capital increase or lending), the investment will be regarded as an outbound investment from the domestic enterprise, instead of an overseas reinvestment.
For reinvestment, the MOFCOM requires a post-reporting. The NDRC has no procedural requirements in principle, except for the following situations: (1) where sensitive industries are involved; and (2) where the investment made by the Chinese party exceeds US$300 million.
(7) Simultaneous acquisition of multiple overseas projects under the control of the same domestic enterprise. In practice, domestic investors may acquire multiple overseas projects held by the same domestic enterprise through its overseas entity (such as a holding company or platform). There may be two specific scenarios: one is the direct acquisition of an overseas holding platform, and the other is the acquisition of equity in a single overseas project company.
The first thing to note is that if the project has defects in the previous ODI procedures, the investor will have a high chance of not being able to obtain ODI filing or approval for this project. Also, a direct acquisition of the holding platform may seem convenient, but the applicant may face obstacles. If the holding platform company has not previously been ODI-registered as the destination enterprise, or only registered as a “route company”, it is very likely that the authorities will reject the filing/approval in practice.
In terms of ODI applications for each project, there are operational difficulties and uncertainties as to whether the filings/approvals for different projects can be completed simultaneously, and it is likely that acquisition transactions cannot be made in one package. It is recommended that enterprises consider flexible arrangements, such as project-by-project closing, in similar complex transactions to deal with the uncertainty of the ODI procedures.
Selena She and Kenneth Kong are partners at Llinks Law Offices.
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