Making the choice to enter the China market is a big one. Once you’ve made the decision to go, you’ll need to decide what business structure is right for you. We’ll go over some of the options below.
Company Structures for China Market Entry
Variable Interest Entities (VIEs)
VIEs were a go-to structure for many businesses hoping to escape the many restrictions and regulations placed on a foreign company by having the board of directors be made up entirely of Chinese citizens. The Chinese government caught wind of this loophole and closed it in 2015. So basically, forget about this structure as an option.
For SMEs, a rep office may seem like a great choice to break into the China market at first. Start-up costs and regulations are very low for this business structure. And the fact is, you’ll see a lot of small businesses without the capital to start a WFOE try and go this route. The problem is, if you’re actually looking to make money in China, this isn’t an option.
A rep office in China is only allowed to gather information and promote a product or service. It’s not allowed to sell anything. Can you form a rep office and start selling and hope the government doesn’t notice because you’re so small? Sure and, believe me, lots of people do. But, if you do get caught, the fines will be huge and you’ll be kicked out of China, so is it really worth it? Another issue with rep offices is that, if you decide to later convert them to a WFOE to make a profit, it’ll actually cost you more than had you just formed the WFOE from the get-go.
Joint Venture (JVs)
Joint Ventures are tricky for China market entry. They require finding a reliable Chinese partner, not always an easy task and one to discuss with your China business consultant very closely. You’ll want to do extensive due diligence to ensure your partner is going to be a good fit.
Warning! China joint ventures do not follow the same legal structure as American ones. Many foreign companies make the mistake of arguing for a majority share of 51% in a joint venture. They assume that, like in the US, if they have controlling interest in choosing the board, they’ll be in charge of the company. This is flat out wrong.
The keys to controlling a Chinese business are the ability to appoint the Legal Representative and General Manager as well as the control of the company chop or seal. Controlling the board doesn’t matter under Chinese law and, of course, your potential China business partner knows this. They’ll try to negotiate for control of the real levers of power, so be careful. Check out our article on negotiating with Chinese businesses for some tips on how to handle that process.
Wholly Foreign Owned Enterprises (WFOEs)
This is the best way to enter the China market if you’re going to hire employees or plan to get paid in China. You will have complete control of your company, be operating fully within the law, and not have to worry about vying for control with local investors or partners.
The only drawback is that the costs in terms of time and money can be significant. You’ll need a lot more capital up front. Assets can be used but need prior approval by the Chinese regulator and may not be assigned the same value that you gave them. The entire process is much more complicated than in the US and can take anywhere from 3-6 months on average.
If all you’re looking to do is enter the China market and sell your product or service, there are other options, which we’ll discuss in another post. But if you want your organization to truly make the move into China, you’ll need to use one of the structures above.
Casey W. Xiao-Morris is China Business Consultant at Leverage China, LLC, specializing in capturing China’s market opportunities for American companies. Casey can be reached at cxmorris@LeverageChina.com