New PRC Rules on offshore SPVs established to acquire/float assets of Chinese companies

The State Administration of Foreign Exchange (SAFE) issued end of May 2007 the Operating Procedures Regarding the Circular on Foreign Exchange Control over Financing and Return Investment Through Offshore Special Purpose Companies by Domestic Resident (Operating Procedures). The Operating Procedures are not publicly available and remain, as of today, an internal guideline to the local branches of SAFE. They further clarify "Circular No.75" issued by SAFE in October 2005.

The Operating Procedures impose different registration requirements for SPVs at different stages of their financing activities. Both direct establishment of offshore SPVs and indirect controlling over offshore SPVs by domestic residents are subject to registration with SAFE. When SPVs set up or acquire equity in domestic enterprises, and when SPVs float assets which cause substantial change of capital structure, SAFE registration is required.

According to the Operating Procedures, SPVs established to acquire and float assets of Chinese companies need to fulfil several conditions, for example:

• to obtain a registration for establishing the SPV through injection of onshore assets or interests, the PRC onshore SPV should have a common management and common shareholder structure;
• the PRC onshore target company and the offshore financing institution should have signed a letter of intent or a memorandum of understanding in respect of the financing, and the contents of the business plan must be adequate and complete; and
• the offshore company should have been in continuous operation for at least three years in the approved scope of business.

Further applicants shall provide to SAFE the following additional information/documentation to be granted the relevant registration:

• the financial report of the PRC onshore company in the past three years;
• the audit report and the tax-paying certificate of the offshore company in the last three years[1];
• employee/management incentive plan (if any);
• offshore financing agreements and or memorandums; and
• documents evidencing the legitimate sources of foreign exchange over USD50,000 to be paid to set up the offshore SPV.

The Operating Procedures also expand the scope of "domestic resident natural person". They provide that the following individuals are "domestic resident natural person" for purposes of registration:

• an individual holding PRC ID card or passport or other qualified identification documents;
• an individual who has a domicile in China and has returned China after temporary leaving for certain reasons;
• an individual who has domestic interests of a enterprise within the territory of China; or
• an individual who has foreign interests converted from domestic interests of an enterprise within the territory of China.

Circular No. 75 and the Operating Procedures have been adopted to enhance the practicability of the registration scheme, rather than creating difficulty or imposing more strict restriction on overseas financing of SPVs. Red chip listing is still considered as one of the efficient ways for Chinese private-owned medium-and-small-sized companies to raise fund on overseas capital markets.

[1] It is for the registration for establishing offshore SPV by PRC resident legal person. If the offshore SPV is set up by PRC resident natural person, audit report and tax-paying certificate of two years (one year for technology R&D company) are required.