Practical Issues in a CLS Restructuring

Many companies prefer a national name for the entire group that can upgrade their corporate image and represent the entire group in the Chinese market.

But China imposes certain restrictions on company name registration. For example, a company is required to carry the name of the city where it is incorporated, which may affect the company's business success in other cities. An industrial restriction is also imposed, which requires the company name to include a narrow description of its industry or business scope. This poses a problem for a group restructuring that covers multiple industry classifications. If the CLS wishes to have a company name without either restriction, it has to obtain approval from the State Administration for Industry and Commerce (SAIC) by meeting regulatory requirements that are often subject to the SAIC's discretionary interpretation. Since all nationwide names should be registered at the central SAIC, such names should first be reviewed by local SAICs before final registration at the central SAIC. This process is very time-consuming. It is advisable to have the CLS name registered as early as possible. Approval of the company name is a precondition to obtaining the approval certificate of the CLS from the Ministry of Commerce. The name registration is usually only valid for six months, which requires the CLS to obtain its final business licence within six months of obtaining name registration.

Promoters: Selection and Negotiation

In most CLS restructurings conducted by multinational companies, it is relatively easy for them to select overseas affiliates as offshore promoters. In order to satisfy the requirement that more than half of the promoters shall be Chinese companies, multinational companies have to select their Chinese partners as well. Depending on multinational companies' business strategies, a qualified Chinese partner might be a company that can provide strategic support and cooperation in related industries. The Chinese partners should also be willing to hold minority shares in the CLS. If a joint venture is to be converted into a CLS and the existing partners continue to be involved in the CLS restructuring, it is normal that negotiations arise over the share structure, composition of the board of directors, development plans, capital contributions, technology transfer/licensing, and other business arrangements. As there are still many majority shareholder restrictions for overseas investors in certain industries, it is very difficult for multinational companies to negotiate with Chinese partners for more favourable shareholdings.

Communication with Approval Authorities

Considering that a CLS restructuring needs approval by the competent Chinese government authorities, good communication with the approval authorities will help them understand the structure and purposes of the group restructuring. Many uncertainties over Chinese regulations and policies can also be clarified. Discussions with the approval authorities at the planning stage of the group restructuring are recommended before settling on any legal structure.

Tax Consolidation

In many cases, potential tax savings are an enticement for a CLS restructuring. After the CLS absorbs other legal entities as its branch companies, different branch companies of the CLS can then realize income tax consolidation by utilizing the losses of certain branch companies to offset the taxable profits of other branch companies. To maximize such savings (if they exist), evaluation and forecasting of the losses and taxable profits of the branch companies, including before and after the restructuring, should be conducted. The sequence of absorption of the legal entities into the CLS should also be carefully arranged in accordance with the above evaluation and forecasting of the possible tax savings.

It is more complicated if the branch companies are in different tax jurisdictions in China. For tax consolidation and treatment after completion of a group restructuring, the tax authority where the CLS headquarters is registered will play a decisive role. But cancellation of the legal person status of the existing subsidiaries may upset the local authorities that have jurisdiction over the legal process. Therefore it will take persuasive efforts to resolve tax issues.

Cost Control in Group Restructuring

Controlling costs is also a key factor for the success of group restructuring. If not identified and controlled in a timely manner, hidden costs might pose an unbearable burden on the entire project.

For example, when independent legal entities are absorbed into the CLS and become branch companies, their various licences/permits and bar codes for products may have to be changed accordingly. In the supermarket business, for example, any change in bar codes will be charged by the supermarkets at different rates. Therefore, a multinational company that has many products sold in Chinese supermarkets may be charged a huge amount by different supermarkets if the bar codes are changed due to a group restructuring. Depending on the number of products and supermarkets involved, such fees can become unbearable. In addition, the time and costs incurred in the change of licences or permits may also have a negative impact on the process of the group restructuring. Hence, it is advisable that hidden costs should first be identified and a viable plan to control such costs should be worked out before conducting a group restructuring.

BOSS & YOUNG