FOREIGN INVESTED COMMERCIAL ENTERPRISES
China Opens Distribution Sector to Foreign Investment

A new era is beginning for foreign companies doing business in China. On April 16, 2004, the Ministry of Commerce (MOFCOM) issued the Measures for the Administration of Foreign Investment in the Commercial Sector, effective June 1, 2004. The measures implement one of China's most significant WTO commitments: to permit subsidiaries of foreign companies in China to engage in wholesaling, retailing and franchising, as well as distribution support services such as warehousing, inventory management, delivery, after sales services, and repair and maintenance.

The measures allow majority foreign ownership of most types of distribution businesses immediately and will allow 100% foreign ownership on December 11, 2004. Existing limits on the geographic location and numbers of foreign invested distribution enterprises will also be lifted on that date.

The threshold requirements for entering the distribution sector are low, and it appears that an existing foreign invested enterprise (FIE) may apply to expand its scope of business to include distribution. Hence, the opening of this sector should bring radical changes to the way that foreign companies sell goods and provide services in China. A joint venture or wholly owned subsidiary manufacturing in China will now be able to sell product lines that include the products of its parent, other affiliates and unrelated companies, whether foreign or domestic. Foreign investors will be permitted to set up companies in China for the sole purpose of wholesale or retail trade. Providers of systems integration, after sales services and many other types of services will be able to sell parts, components and other products together with their services.

A summary of the measures is set out below.

General

The measures apply to the establishment of foreign invested commercial enterprises ("FIE Commercial Enterprises") in China by foreign companies, enterprises, other economic organizations and individuals.

MOFCOM will supervise and control the market entry and operations of FIE Commercial Enterprises. 

Scope of Business of FIE Commercial Enterprises

Foreign investors must establish an FIE in China to engage in the following commercial sector businesses:

1. Commission Agency: Sale of the goods of others pursuant to contract and for a fee by sales agents, brokers, auctioneers or other wholesalers, and provision of related subordinated services.

2. Wholesaling: Sale of goods to retailers, to industrial, commercial and institutional users, and to other wholesalers, and provision of related subordinated services.

3. Retailing: Sale of goods for individual or collective consumption from a fixed location or via television, telephone, mail order, internet or vending machines, and provision of related subordinated services.

4. Franchising: Grant of authority pursuant to contract for the use of a trademark, trade name, business method, etc., in exchange for remuneration or franchising fees.

Requirements for Investors

The foreign investor in an FIE Commercial Enterprise must have high prestige and must not have violated PRC laws or regulations. China will encourage the establishment of FIE Commercial Enterprises by foreign investors with "relatively powerful economic strength, advanced commercial management experience and marketing technology, and an extensive international sales network."
Requirements for the FIE.

An FIE Commercial Enterprise must meet the following conditions:

1. Its minimum registered capital must comply with the requirements of the Company Law (RMB 500,000 for wholesalers and RMB 300,000 for retailers).

2. It must comply with the normal total investment and registered capital requirements for FIEs.

3. In general, its term of operations may not exceed 30 years, or 40 years in the Western Region of China.

Requirements for Opening Retail Shops 

An FIE Commercial Enterprise must meet the following conditions to open retail shops:

1. If applying to open a shop at the same time as applying to establish the enterprise, the proposed shop must conform to the urban development plan and the commercial development plan of the city where it is located.

2. If applying to open a shop after the establishment of the enterprise, then in addition to meeting the above requirement, the enterprise must also (a) have undergone annual inspection on time and passed, and (b) have received all of its registered capital from its investors.

Scope of Business

The scope of business of retailing enterprises (with approval):
1. Retailing of merchandise;
2. Import of merchandise for the enterprise's own sales;
3. Procurement of domestic products for export;
4. Other related ancillary business.

The scope of business of wholesaling enterprises (with approval):
1. Wholesaling of merchandise;
2. Commission agency (excluding auctioneering);
3. Import and export of merchandise.

An FIE Commercial Enterprise may authorize other persons to operate shops through franchising. An FIE Commercial Enterprise may engage in one or several of the above activities with approval; the classes of merchandise in which it will deal must be set out in the scope of business provision of its joint venture contract (if a joint venture) and articles of association.

Approval and Registration

The procedures for establishing an FIE Commercial Enterprise are as follows:

1. The three steps in the usual FIE approval process, i.e., project approval, feasibility study approval and enterprise establishment approval, are combined into one step.

2. Except as described in 3 and 4 below, an FIE Commercial Enterprise and each retail shop must be approved by MOFCOM after having been reviewed and preliminarily approved by the provincial level commerce bureau. The approval process for both steps together should not exceed four months

3. A retail FIE Commercial Enterprise applying to open a shop in the provincial level jurisdiction where it is located may be approved by the provincial level commerce bureau (1) it does not engage in television, telephone, mail order, internet, or vending machine sales, (2) it does not deal in the restricted merchandise listed in Articles 17 and 18 of the measures, and (3) it meets the following conditions:

a. If the area of a single shop does not exceed 3000 square meters and the total number of shops in the province does not exceed three, the number of shops in the same class opened by the foreign investor in China through FIE Commercial Enterprises cannot exceed 30;

b. If the area of a single shop does not exceed 300 square meters and the total number of shops in the province does not exceed 30, the number of shops in the same class opened by the foreign investor in China through FIE Commercial Enterprises cannot exceed 300.

c. Where (1) the owner of the trademark or trade name used by a joint venture Commercial Enterprise is an enterprise with domestic investment or a PRC natural person, (2) the Chinese party holds a controlling interest and (3) the FIE Commercial Enterprise does not deal in the restricted mechandise listed in Articles 17 or 18 of the measures, the establishment of the enterprise and the opening of shops may be approved by the provincial level commerce bureau. If a shop will be opened in another province, the approval authority will solicit the opinions of the provincial commerce bureau of the other province.

FIE Commercial Enterprises are registered with the Administration for Industry and Commerce based on the normal procedures for FIEs. (Article 11)

Application Documents

In general, the application documents for an FIE Commercial Enterprise are the same as for other FIEs. However, two exceptions should be noted:

1. Special Requirements The investors must submit an "explanatory letter" from the commerce bureau of the local government where the shop or shops will be located that they will conform to the urban development plan and the commercial development plan of the local government. As the measures do not provide any detail or time limits in relation to this letter, it is not certain whether this requirement could lead to delays or other problems.

2. The trademark license contracts, trade name license contracts, technology transfer contracts, management contracts and service contracts to entered into by the FIE Commercial Enterprise must be appended to the joint venture contract or articles of association and submitted for approval.

Restricted Merchandise

1. Distribution of books, newspapers and periodicals must comply with the Measures for Administration of Foreign Invested Enterprises for the Distribution of Books, Newspapers and Magazines.

2. Gas stations operated by FIEs that sell processed oil must have a stable supply of products and comply with regulations and standards on gas stations, facilities, fire safety, environmental protection; the particulars are subject to separate MOFCOM regulation.

3. Pharmaceutical products subject to state regulations on the sale of drugs; the particulars are subject to separate MOFCOM regulation.

4. For distribution of automobiles are subject to separate MOFCOM regulation.

5. Except as otherwise provided in Articles 17 or 18, FIE Commercial Enterprises that deal in agricultural by-products or agricultural production materials are not subject to geographic, ownership or capital restrictions.

6. Wholesaling enterprises may not deal in pharmaceuticals, pesticides or mulching film before December 11, 2004; or chemical fertilizer, processed oil or crude oil before December 11, 2006.

7. Retailing enterprises may not deal in pharmaceuticals, pesticides, mulching film or processed oil before December 11, 2004; or chemical fertilizer before December 11, 2006.

8 Wholesaling enterprises may not sell salt or tobacco. Retailing enterprises may not sell tobacco.

Foreign Ownership Limit for Certain Chain Stores

A foreign investor shall not hold more than 49% in any FIE Commercial Enterprise if (1) the investor has more than 30 shops in China, (2) such shops deal in books, newspapers, magazines, automobiles (until December 11, 2006), pharmaceuticals, pesticides, mulching film, chemical fertilizer, processed oil, grain, vegetable oils, edible sugar, or cotton, etc., and (3) the products have multiple brands and come from multiple suppliers.

Franchising

An FIE Commercial Enterprise engaged in franchising activities must comply with these measures and with other state regulations on franchising.

Auctioneering

An FIE Commercial Enterprise that engages in the auction business must comply with the Auction Law and the Cultural Relics Law, and MOFCOM is the approval authority; the particulars are subject to separate regulation.

Existing FIEs in Other Businesses

The measures also apply to existing FIEs other than FIE Commercial Enterprises that wish to apply to concurrently engage in commission agency, wholesaling, retailing or franchising. Such enterprises should apply to amend their business scopes in accordance with law.

Investors From Hong Kong, Macao and Taiwan

The measures apply to investors from Hong Kong, Macao and Taiwan that wish to establish FIE Commercial Enterprises. The following special provisions also apply:

1. CEPA qualified service providers allowed to set up WFOEs from January 1, 2004.

2. CEPA qualified services providers allowed to set up in all local cities in China and county level cities in Guangdong.

3. From January 1, 2004, CEPA qualified service providers may apply to set up automobile retail enterprises, provided: (1) average annual turnover of USD 100 million or more for three years before application; (2) assets of USD 10 million or more in year prior to application; (3) registered capital of commercial enterprise at least 10 million RMB (6 million in Western Region).

4. Permanent residents of Hong Kong or Macao with PRC citizenship may set up sole proprietorships for commercial activities (except franchising), with a maximum floor area of 300 square meters.