Establishing a Regional Headquarters in Shanghai

A Regional Headquarters, standing alone, is not a legal entity. It is a conceptual name for a legal entity that functions as a Regional Headquarters. Such an entity may be in the form of a wholly foreign-owned investment company (a holding company), a wholly foreign-owned management company or another enterprise form approved by the Shanghai government.

Requirements for Regional Headquarters

Since the establishment of a holding company is governed by national laws, the Tentative Provisions and the Implementing Rules elaborate how to recognize an existing holding company as a Regional Headquarters, and how to establish a new Regional Headquarters in the form of a management company. In both cases, a Regional Headquarters needs to meet the following conditions and requirements:

(a) it should have independent legal person status;

(b) its parent company's total assets must be no less than US$400 million;

(c) its parent company's total investment in China shall be no less than US$30 million; and

(d) it should invest in, or be authorized to manage, no less than three enterprises in China or abroad, and should have management and service authorities over such managed enterprises. As explained above, it seems that one of the managed enterprises must be an overseas entity. However, it appears that such a requirement is not currently enforced by the Shanghai COFTEC.

The Tentative Provisions further provide that those multinational companies that do not satisfy all of the conditions listed in (a) through (d) above, but have made "extraordinary contributions" to the region's economy (Tentative Provisions, Article 5), may also be approved to set up Regional Headquarters in Shanghai. Our informal discussions with officials of the Shanghai COFTEC reveal that Shanghai COFTEC has discretion in evaluating what constitutes extraordinary contributions. In general, extraordinary contributions mean contributions of a manner that are beyond advanced technology, management expertise or new product contributions; Shanghai COFTEC sees these three areas as normal contributions of any foreign-invested enterprises (FIEs).

Recognizing a Holding Company as A Regional Headquarters

The establishment of a holding company in Shanghai is still subject to the approval of the central government. After its establishment, a holding company may then be recognized as a Regional Headquarters. Among the 78 holding companies in Shanghai, by March 2003 25 were recognized as Regional Headquarters.¹ The incentives for holding companies to be recognized as Regional Headquarters are mainly twofold. First, they can enjoy the benefits offered by the Shanghai government (see the "Benefits as a Regional Headquarters" section below), and second, they are in theory able to manage overseas affiliates, and affiliates in which the holding company has not invested. It appears that being recognized as a Regional Headquarter is only available to holding companies registered in Shanghai and is not available to multinational companies' FIEs that exist in any other form.

Establishing A Regional Headquarters in the Form of a New Management Company

The Tentative Provisions allow for the creation of management companies. A management company requires a minimum registered capital of US$2 million, while a holding company requires US$30 million. The chief benefit of a management company is that it provides an opportunity for multinational companies to establish a Regional Headquarters in Shanghai with a relatively small investment. Multinational companies that have not established holding companies in China, or have established holding companies in cities other than Shanghai, may consider setting up management companies.

The Implementing Rules set out the procedures for establishing a management company. In particular, they require a foreign investor to submit the following documents to the Shanghai COFTEC for approval:

1. an application report, a feasibility study report and articles of association for the establishment of the management company executed by the foreign investor;

2. documents authorizing the basic functions of the management company executed by the foreign investor;

3. documents concerning the creditworthiness of the foreign investor, the registration document of the foreign investor and the legal representative's identification documents;

4. the balance sheets of the foreign investor for the latest three years;

5. the approval certificates, business licences and capital verification reports of the enterprises in China in which the foreign investor has investments;

6. authorization documents for the proposed legal representative of the management company executed by the foreign investor, and the resume and relevant identification documents of the proposed legal representative;

7. the relevant proofs and tax payment receipts, if the foreign investor intends to contribute its profits in renminbi to the registered capital of the management company; and

8. other documents required by the Shanghai COFTEC.

Permitted Business Scope

A Regional Headquarters, whether in the form of a holding company or a management company, may engage in the following operations, management and services:

(a) investment and operational decision making;

(b) marketing and sales services;

(c) capital (i.e., treasury functions) and financial management (i.e., accounting functions);

(d) technical support, research and development;

(e) information support and services;

(f) employee training and management; and

(g) other operational, management and service activities as permitted by law.

The capital and financial management functions of a Regional Headquarters are probably limited to that of a centralized internal capital management system, to manage or allocate funds, or coordinate funds utilization among its managed enterprises. A Regional Headquarters may enter into a three-party agreement with a commercial bank and the managed enterprises, to achieve such purposes.

It appears that a Regional Headquarters may not engage in manufacturing activities, and that a management company may not engage in investment activities.

Benefits as a Regional Headquarters

In addition to the permitted activities, Regional Headquarters may enjoy the following benefits:

(a) Regional Headquarters with research and development functions may enjoy the same preferential treatments as hi-tech enterprises;

(b) a Regional Headquarters whose incorporation and tax registration are in Pudong New Area will enjoy preferential tax treatments applicable in Pudong. Pudong has issued a set of preferential policies applicable to Regional Headquarters. We understand that these policies are in the process of being streamlined and revised to reflect Pudong's intention of granting Regional Headquarters more preferential tax treatments than those provided to other enterprises in Pudong, and to refund Regional Headquarters all or substantial portions of income tax, business tax and VAT that Pudong will have received in the first few (probably three) years after the recognition or establishment of the Regional Headquarters, for supporting Regional Headquarters' development. Notably, the new policies would probably make an innovative step in providing for refunds of individual income taxes that Pudong will have collected for supporting employee training expenses;

(c) when calculating operating profit, Regional Headquarters will be able to deduct their actual payroll as operating costs, without any restriction on the amount of such deduction; and

(d) the Shanghai government encourages and supports Regional Headquarters to establish multinational purchase and logistics centres in Shanghai. Such centres will be able to obtain import and export rights, and will enjoy VAT rebates for exported goods. It appears that a Regional Headquarter itself may not be qualified to become a purchase and logistics centre, and the requirements and procedures for setting up such centres under national laws will have to be followed.

Conclusion

The Tentative Provisions and Implementing Rules demonstrate the Shanghai government's commitment to compete with other cities in Asia and strength Shanghai's image as a regional management, service and financial centre for multinational companies, amid China's overall foreign investment environment and its limitations. Whether the new legislation will be effective in helping Shanghai attract more multinational companies to set up headquarters there will depend on how well Shanghai's new legislation works with national laws and regulations, and whether the various central government departments in charge of taxation, customs, foreign exchange and banking, among others, share the same commitment as the Shanghai government.

Endnote

1 See the website of the Shanghai Municipal Commission of Foreign Economic Relations and Trade at www.smert.gov.cn.