Benefiting from a strong support of state and banks, more and more Chinese enterprises are looking overseas and joining the global competition. Almost all of the active investors in China have recognized that the global financial crisis has provided them with opportunities to expand their business and invest overseas at a lower cost.
Despite the rapid growth of Chinese outbound direct investment, it has been blocked by other countries frequently. These countries are concerning about the potential threat to national security as well as unfair profit sharing with China state owned enterprises(SOEs). Chinese investors, neither state owned nor private, didn know a way to fairly join competition, and their traditional or chaotic practices have caused rejection in some countries.
Chinese investors have learned lessons, it is necessary for them to consider some changes that could help maximize the benefits both for themselves and for the host country.
2 Lessons of SOEs ODI
According to the report of China Ministry of Commerce, Chinese outbound direct investment reached the amount of $55.18 billion in the first part of 2010, registering a surge of 24 percent compared to the same period of 2009. The most popular sectors for Chinese investors are mining, commercial services, manufacturing, wholesale and retail. Specifically, the data of 2008 indicates that:
- 86 percent, or 117 out of 136 centrally-administered SOEs invested a total of $35.74 billion in 2008, by contrast the overall Chinese outbound direct investment was $55.91 billion. SOEs contributed 64 percent of Chinese total ODI, said China Ministry of Commerce.
- Centrally-administered SOE had established 1791 companies worldwide, their investment covered 127 countries.
- 79.9 percent of these investments were profitable; however, 19 SOEs reported losses due to offshore investment.
- The centrally-administered SOEs, with the strength of abundant capital, were especially interested in raw materials, such as iron ore and commodities. By contrast, Chinese private owned enterprises (POEs) contributed a relative smaller amount of ODI.
Obviously, this could lead to an increasing aversion to Chinese ODI, for instance host countries could see Chinese investors as a national security threat. Furthermore, the ODI of SOEs has often faced challenges before success. There are some suggestions regarding POEs or SOEs with a private-owned appearance that might be able to dispel this negative reaction from host countries.
3 Ability of Chinese POE invest overseas
Estimated figures indicate that by the end of 2010,there were more than 825,000 people whose wealth exceeded RMB 100 million in China, and more than 19,000 people whose assets exceed RMB 1 billion. The masses of high net wealth individuals (HNWI) and their private-own enterprises are capable of participating in outbound direct investment.
In addition, it is well known that the Chinese government has not opened the high profit margin industries to private investors; therefore the private investors who own abundant capital only have a few limited paths to industrial investment. It is reasonable that private investors prefer real estate investment and agriculture (commodities) investment, but such choices are also the cause of currency inflation and instability of Chinese development.
Economists urged the Chinese government to further liberalize domestic sectors for private capital and to encourage private investment overseas. Through such domestic liberalization, China could ease pressure upon its high value foreign exchange reserve (mainly in US dollars) and also could guide capital investment in more healthy and more knowledge-based sectors in order to ease pressure of inflation.
Administrative Measures on Outbound Investment, which was introduced by China Ministry of Commerce, was enforced on 1 May 2009. And SAFE Administration Rules on Outbound Direct Investment by Domestic Institutions implemented on 1 August 2009. The two regulations are recognized as a landmark of the Chinese effort to encourage private capital transform to defacto multinational corporations.
4 Chinese Investors Understanding of Offshore Structure
There are several existing and potential ways for Chinese ODI investors to venture overseas, each of them with advantages and drawbacks.
- Chinese companies could execute oing out by selling original equipment overseas with their own brand. This method combines the advantages of Chinese companies for both cost and brand. It will also contribute to the national economy by generating jobs and generating taxes.
- Chinese companies can enter the overseas market as a manufacturer of customized products; it is profitable and it also can boost export of Chinese brands.
- Chinese corporations can join international competition by setting up a sales network worldwide. This is a way with the potential to achieve Chinese companies benefits, but at a relatively high administration cost.
- Chinese companies can set up factories abroad directly and get closer to market and consumers. But it seems this method would work only in developing countries or regions, because most Chinese enterprises lack the capital and technology to expand into developed countries.
- Mergers and acquisitions (M&A) is another way for Chinese corporation to expand overseas. It could shorten the time for global expansion. However, Chinese corporations should be equipped with sufficient funds, and make an in-depth study of the target company and the strength of its management.
- In case that a Chinese company already has a global brand, research and development centre overseas, and a worldwide sales network, Huawei successful path to becoming a leading global telecom solutions provider could be a case for reference.
Every ODI investors will face difficulties especially in initial stages of going out, the obstacles may include a difference of culture and legislation or a lack of qualified human resources. The companies that are likely to be successful are those that have excelled in domestic market, posses a fully understanding of the international market, and have clear strategies and strong execution capabilities.
After ten years experience of going out, Chinese private investors gradually accept offshore financial centers as investing structure. The choice has proven itself to be both realistic and wise.
5 Status of using offshore structure for Chinese private ODI
The concept of offshore finance, or the utilization of international finance centers (IFC), was launched in China in the early 1990s, and it is now wide spread among Chinese businessmen who engage in international trading and investment.
An international financial centre is a non-specific term of reference usually meant to designate a city as a major participant in international financial markets for the trading of cross-border assets. It usually has at least one major stock market as well as other financial markets, and contains a significant presence of international banks and financial services companies. The bedrock of the success of most offshore IFCs is the offering of a variety of offshore structures typically, the company, partnership, trust and private foundation.
Offshore structures are formed for a variety of reasons, among which, confidentiality and tax efficiency are of most significance. Chinese private investors have already accepted that by using offshore structures, they may enjoy the benefits of tax planning. However, relatively few players have more wisely considered the additional value-added benefits due to a lack of market research or comparative study of some more traditional and active IFCs. For example, the British Virgin Islands, Cayman Islands, Hong Kong, and Singapore are used widely by the Chinese for their active marketing activities, yet some other IFCs have not invested their energy in enlightening potential Chinese private investors of their advantages.
Considering the fate of some of the traditional centers (BVI, Cayman Islands, Hong Kong, Singapore, Samoa, Barbados, Bermuda, etc.) which have actively promoted themselves in the past and have caught the attention of China State Administration of Taxation and State Administration of Foreign Exchange, the more low-key jurisdictions with a traditional reputation must be recognized as a viable alternative. One may find out that there were at least three to four conferences a year in Shanghai to promote IFCs and nearly twenty such conferences in major cities in China held annually, either directly by traditional IFCs or indirectly through well known third party conference and training providers. However, less active IFCs, enjoying a lower-key approach, prefer to arrange private and small-circle brain-storming events as part of their marketing activities. Such IFCs with no high-keys actually have significant and sometimes unique benefits in cross-border investment structuring. A prime example is Guernsey.
6 Guernsey as a Solution due to its high Reputation and Transparency
Guernsey is widely recognized as one of the world premier IFCs due to its first class structure, stable economy, and transparent, comprehensive, sophisticated, modern and pragmatic law system with easy access to courts, an efficient company registry, cutting edge technology and an established relationship with the United Kingdom that goes back hundreds of years.
Guernsey recently adopted the concept that any new corporate tax regime must be "simple, competitive, internationally acceptable, based on a solid rationale, promote a sustainable economy, and must give rise to other benefits such as double taxation agreements." In addition, Guernsey has said t is also of fundamental importance that Guernsey ensures the outcome of the next stage of the corporate tax strategy be fully sustainable in the long term, and mitigate any negative economic effects on our economy Hence, it is fair to say that Guernsey looks to provide certainty for investors and seeks to maintain the respect of the international community.
In Guernsey, the general rate of corporate income tax is currently zero percent. There are no capital gains tax, no inheritance taxes, no sales taxes and no exchange control regulations, which allows for free and easy transfers of funds. An 'exempt' status regime still exists in Guernsey but only in respect of collective investment schemes and certain related investment fund entities. However, Guernsey has recently committed to reviewing its tax regime in light of pressures from the EU working group for the Code of Conduct for Business Taxation ( he Code Group . The other Crown Dependencies of Jersey and the Isle of Man did not commit to such reviews of their own regimes and hence they are now under formal assessment by the Code Group and are making changes to their respective regimes.
In Guernsey, with the exception of certain types of banking business taxed at 10% and income from regulated local utility companies and Guernsey land and property which are taxed at 20%?all other companies are generally taxed at 0%, . Partnerships and trusts are generally transparent for tax purposes. In addition, Guernsey is hoping to offer private foundations more benefits by either the end of 2011 or in early 2012, the draft law for which is currently out for consultation.
In contrast to the Cayman Islands and British Virgin Islands, Guernsey is a destination for low tax or tax neutrality, rather than a tax haven. Its credentials as an IFC are based on a robust regulatory and legal system. In fact, the Island has been white-listed by the G20 and subsequently in January 2011 endorsed by the OECD for its commitment to Global Tax Transparency, as well as being commended by the IMF for its high standards of financial regulation, supervision and stability along with its robust criminal justice framework, demonstrating that this jurisdiction has substantially implemented internationally agreed standards.
7 Guernsey's Approach to China
Guernsey, a jurisdiction that has been approached by Shanghai Municipal Government recently in connection with finance, may have more opportunities to assist Shanghai with its future as an international financial center. Guernsey has attempted to help Shanghai in building up an IFC by 2020, as they are developing the relationship through the bilateral cooperation of regulators, financial professionals and tax officials.
In November 2010, the Shanghai Municipal Financial Services Office and the States of Guernsey signed a Memorandum of Understanding, marking the acceleration of the municipality efforts to turn Yangshan Port into a pilot offshore finance centre, learning from Guernsey regulatory model to establish legal and supervisory systems in line with international norms.
Reviewing China development in the past three decades, Shanghai has benefited from its infrastructure, policy support and the reform of its payment system. Shanghai development could never be restricted. Shanghai is an international, metropolitan city with the accolade of first financial centre of the Far East since the 1940s.
Officials and professionals in Shanghai admit that the development of an IFC requires the free convertibility of the renminbi or liberalization of strict foreign exchange controls as well as the loosening of China unified tax system and the supply of human talent specialized in offshore finance.
Shanghai should have a neutral tax system rather than a loose tax policy, as a stable tax system with international-standard legal and supervisory systems would boost confidence among companies operating in Shanghai and Shanghai international finance zone should act as an onshore financial centre, whist Yangshan Port should attempt to offer offshore financial services as a pilot scheme.
Having identified China strengths in economic development and reform and developed relationships through governmental channels, Guernsey shall no longer be regarded as a little known player but as a player with wisdom. In this way, China outbound direct investors, be they SOEs or POEs, can expect more to be achieved when using Guernsey, not only for outbound investment, but also for wealth management.
