FDI Catalogue reflects economy and industry push

Since 1995, the Foreign Investment Industrial Guidance Catalogue (外商投资产业指导目录) (Catalogue) has played a highly important role in China's foreign investment regulatory framework. The Catalogue classifies various industry sectors into three categories: “Encouraged”, “Restricted” and “Prohibited”. All other industry sectors that are not specifically listed in the Catalogue fall within the “Permitted” category.

The National Development and Reform Commission (NDRC) and the Ministry of Commerce (MOFCOM) (and their predecessors), as the authorities in charge of foreign investment matters, update the Catalogue every few years in order to guide foreign investment to the direction that is in line with China's macro-economic development strategy and policy. On March 13 2015, the NDRC and MOFCOM jointly issued the latest version of the Catalogue (2015 Catalogue) which became effective on April 10 2015. The 2015 Catalogue is the sixth edition and is very likely to become the last one in light of the upcoming PRC Foreign Investment Law (中华人民共和国外国投资法) (FIL), which China's legislature is now considering.

The major changes at a glance

The last version of the Catalogue was promulgated in 2011 (2011 Catalogue). This year's Catalogue has introduced the following key changes:

• The total number of industries in the Encouraged category has remained unchanged but several new industries have been added while certain ones have been removed;
• 41 industries have been removed from the Restricted category, reducing the number from 79 to 38;
• Two industries have been removed from the Prohibited category, reducing the number from 38 to 36; and
• Foreign investors are now permitted to have a larger shareholding in companies operating in certain industries, specifically:
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  • the number of industries which cannot be solely owned by foreign investors has been reduced from 43 to 15; and
  • the number of industries which only permit foreign investor(s) to take a minority stake has been reduced from 44 to 35.

Key industries

When comparing the 2015 Catalogue with the 2011 Catalogue, the key word is “relaxation” in the sense that restrictions on foreign investment in many sectors have now been lifted. However, a small number of industries are now subject to more stringent restrictions than ever before. The changes in the 2015 Catalogue illustrate the Chinese government's intention and efforts to guide foreign investments to fit into its plan for adjusting and optimising China's economic structure.

Sectors opened up

Foreign investors who contemplate making an investment in certain manufacturing industries or in the sectors of infrastructure, real estate, energy, e-commerce, services, logistics or finance will generally benefit from the 2015 Catalogue.

Manufacturing

There is a notable regulatory relaxation with respect to general manufacturing industries under the 2015 Catalogue. Most of the Restricted manufacturing sectors in the 2011 Catalogue have been removed from the 2015 Catalogue and have become Permitted. Examples include manufacturing in beverages, tobacco, chemical raw materials and chemicals, medical, chemical fibre, general equipment and petroleum processing. As a result, except for certain sensitive sectors involving special equipment manufacturing (for example, integrated automobile manufacturing and shipbuilding which remain Restricted and weapon manufacturing which is still a Prohibited industry), the general manufacturing industries have been opened up to foreign investors.

Infrastructure

The “construction and operation of rail transport such as urban underground railways and light railways” remains an Encouraged industry under the 2015 Catalogue. However, the previous requirement that Chinese investor(s) must take a majority stake in the investment no longer exists, which means that foreign investors can be the sole investors in urban rail transit systems in Chinese cities. The “construction and operation of sewage treatment plants” is a new addition to the Encouraged category, which indicates the general policy trend of encouraging foreign investment in the environmental protection sectors.

Real estate

As far as the real estate industry is concerned, land plot development, construction and operation of high-end hotels, office buildings and international exhibition centres, as well as real estate secondary market trading and real estate intermediary and brokerage companies, all used to be in the Restricted category under the 2011 Catalogue. However, these have all been removed under the 2015 Catalogue and so have become Permitted.

Energy

Despite remaining subject to the Chinese majority stake requirement, “construction and operation of power grids” has been relocated from the Restricted category to the Encouraged category. Several types of power plants have also become Encouraged category under the 2015 Catalogue.

E-commerce and information technology

Although still in the Restricted category, the previous foreign shareholding restriction applicable to the e-commerce industry has now been lifted under the 2015 Catalogue. The e-commerce industry is treated differently from the other value-added telecommunications sectors (which remain subject to restrictions on foreign shareholding). The “development and application of Internet of things technologies”, which is a newly emerged and fast growing industry in China, has also become Encouraged under the 2015 Catalogue.

Logistics

Both railway freight and cross-border automobile transportation have been lifted from the Restricted category under the 2015 Catalogue and are now Permitted.

Finance

The foreign shareholding cap on securities companies has been raised from the previous one third (33%) to 49% to reflect a regulatory change introduced in 2012 by the China Securities Regulatory Commission. In addition, finance, trust, monetary intermediary and insurance brokerage companies have all been removed from the Restricted category and have become Permitted.

Sectors closed off

Despite the general relaxation of foreign investment restrictions under the 2015 Catalogue, there are several industries that have tightened up, such as medical institutions, education and automobile manufacturing.

Medical institutions

Although medical institutions were Permitted under the 2011 Catalogue and foreign investors have been allowed to establish wholly foreign-owned medical institutions in seven provinces and municipalities since July 2014, medical institutions have, surprisingly, been relocated to the Restricted category under the 2015 Catalogue. This suggests that the Chinese government is taking a cautious approach in opening up this industry to foreign investors, and those looking to establish medical institutions may encounter difficulties in obtaining the necessary regulatory approvals.

Education

The restricted access to the education industry has been significantly enhanced under the 2015 Catalogue. Specifically, “higher education institutions” have been moved from Encouraged to Restricted. “Pre-school education” has now been added to the Restricted category. With respect to “ordinary senior high schools”, in addition to the previous requirement that foreign investment should take the form of cooperative joint ventures, the Chinese partner must now take the lead in the joint venture. This also applies to the “higher education institutions” and “pre-school education” sectors. The 2015 Catalogue clarifies that for a Chinese partner to have “a leading role” means that the principal or the chief executive of the cooperative joint venture must be a Chinese national and the members appointed by the Chinese partner to the council, board of directors or joint management committee must be no less than half of all the members.

Automobile manufacturing

The “manufacture of assembled vehicles, special purpose vehicles and motorcycles” has been listed in the Restricted category and foreign shareholdings in these sectors cannot exceed 50% under the 2015 Catalogue. A foreign investor can also only establish two joint ventures in the business of manufacturing integrated automobiles in China, although it can acquire Chinese domestic automobile manufacturing enterprises jointly with its Chinese joint venture partner.

FDI significance

Consolidation of existing restrictions

The 2015 Catalogue has consolidated all existing prohibitions and restrictions on foreign investment which were previously scattered throughout various regulations issued by different authorities into a single document. For example, the restrictions on the manufacturing of integrated automobiles mentioned above were first set out in the Automotive Industry Development Policy issued by NDRC in 2004 but have never been included in previous versions of the Catalogue.

The catch-all provisions in the Restricted and Prohibited categories of the 2015 Catalogue are also rephrased as “Other Industries That are Restricted/Prohibited by State Laws or Regulations or by International Treaties Concluded or Acceded to by China”, which means that only laws (enacted by the National People's Congress or its Standing Committee), regulations (promulgated by the State Council and Local People's Congress or its Standing Committee) and international treaties may add new restrictions or prohibitions concerning foreign investment in addition to those which have been provided under the 2015 Catalogue. The various Chinese ministries will no longer have the authority to set any additional restrictions or prohibitions.

Applying the Shanghai FTZ experience

The general approach of the 2015 Catalogue is to further open up certain industry sectors, especially the service industry and the general manufacturing industry, to foreign investment by learning from the experience of the China (Shanghai) Pilot Free Trade Zone (Shanghai FTZ) which is supposed to be a pilot for reforms in the economic and trading sectors. As a result, some of the practices adopted in the Shanghai FTZ have been reflected in the 2015 Catalogue. For example, the foreign shareholding restriction on the e-commerce industry was lifted in the Shanghai FTZ in January 2015. By incorporating it into the 2015 Catalogue, this relaxation has been extended to the whole country.

Developing certain industries

Compared with the 2011 Catalogue, the amendments introduced in the 2015 Catalogue reflect the needs of China's current economic development. For example, the removal of the whole real estate industry from the Restricted category is likely to have been driven by the cooling down of China's real estate market since 2014. The political climate has changed from limiting speculative investments by all means to encouraging the development of the real estate market in a steady manner. It is expected that the general policy towards foreign investment in the real estate market may be further relaxed. The removal of the foreign shareholding restriction in the e-commerce sector, as mentioned above, is another example of enhancing the development of the industry.

Practical limitations

Some of the relaxations may not be attractive enough to foreign investors in practice. For instance, although “construction and operation of power grids” has been moved from Restricted to Encouraged, foreign investors may not be interested in investing in this sector anyway due to the dominant market positions of the State Grid Corporation of China and the China Southern Power Grid. For similar reasons, the removal of railway freight transportation from the Restricted category may be another easing which, in practice, does not greatly benefit foreign investors given the existence of China Railway Corporation.

Future of the Catalogue

China has undergone exciting and frequent regulatory reforms in recent years. A major potential change will be the formal promulgation of the FIL, the draft of which was published by MOFCOM on January 19 2015. The FIL aims to restructure the country's foreign investment regime in all respects, including, the replacement of the Catalogue with a Negative List, as has been adopted in the Shanghai FTZ and the three other free trade zones (in Guangdong, Tianjin and Fujian). The Negative List will comprise two categories: Restricted and Prohibited. Under the proposed new regulatory regime, foreign investment in industries that are not on the list will no longer be subject to pre-approval requirements, and instead will only need to fulfil various filing procedures that will be set out in detail in the FIL.

Depending on when the FIL is officially released, the 2015 Catalogue may be the last version of the Catalogue. China's legal landscape in relation to foreign investment will change significantly and many of the current regulatory regimes will be phased out, with the Catalogue being one of them.


Sun Hong and Tony Zhong, Norton Rose Fulbright, Shanghai