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Opportunities in Shanghai pilot free trade zone

The launch of the China (Shanghai) Pilot Free Trade Zone (the SFTZ) and associated reforms in September last year have been heralded as a watermark in China's steps towards market liberalisation and opening up to the world economy. The zone offers a number of opportunities for any entity that has invested in or wishes to invest in China. There may be a first-mover advantage to be had here. We highlight below why these changes may be of interest to you.

Increased foreign shareholding in companies and full management control

If you or your client is in any of the industries listed below, entry barriers to operating in China are greatly reduced, affording the benefit of a greater percentage of foreign ownership and control: financial services, health insurance, shipping, internet service providers, data processing and storage, gaming equipment production and sales, credit investigation, travel agencies, recruitment agencies, investment management, engineering and design, architecture, construction, performance brokerage, entertainment venues, private education institutions and medical clinics.

Multinational corporations (MNCs) can use their cash more efficiently

New cash-pooling arrangements would allow multiple subsidiaries of a multinational to contribute to and draw from the same cash pool. Multinationals without an SFTZ presence normally use an entrustment loan structure to lend to each other and each subsidiary is subject to a separate borrowing limit. The SFTZ cash-pooling arrangements allow a shared use of registered capital, borrowings, trade payments, etc among multiple subsidiaries which are likely to largely resolve the cash lock-up issue faced by many corporate treasurers.

FIEs can raise domestic capital more easily

A foreign parent company of an SFTZ company may issue Panda Bonds in China (essentially RMB-denominated bonds issued to China domestic investors by a foreign company). Daimler issued the first Panda bond in March 2014 and we anticipate that European issuers are likely to lead the race, especially if they are in a cash-intensive industry or if they are looking to grow their business in China.

MNCs can streamline their business from multiple entities to a single operating entity

Certain business lines in the above-listed industries can now operate out of a single entity rather than having to be spread across multiple entities. The SFTZ offers businesses the opportunity for vertical integration which saves on running costs. Previously, for example, goods and services have needed to be separated for tax reasons – and they are now able to operate under a single entity.

It saves time and administration costs

The statutory timeline is now only 11 days to set up a business in the SFTZ, as opposed to months elsewhere in China. If your client is in an industry that relies on international trading (such as manufacturers that rely on the import of parts and export of end products or commodities trading houses), the SFTZ will reduce the red tape and costs in import/export and transportation.

They may be able to attract Chinese outbound investment more easily Outbound investment by Chinese companies based in the SFTZ is generally only subject to a registration process in comparison to the cumbersome approval process (save for a limited number of sensitive industries and countries). This is likely to see the establishment of outbound investment platforms by major Chinese companies, a new wave of outbound investment and the advent of outbound investment PE funds.

The SFTZ promises major financial reforms

The PRC government is looking to use the SFTZ as a testing ground for the liberalisation of interest rates, and to both accelerate the pace of RMB internationalisation and to further open China's capital markets. The SFTZ is a watershed moment for China and we believe that many of the market and financial reforms, once tested in the zone, will roll out across the country. In this context, we note, for example, the recent publication of a draft consultation paper, published by the State Administration of Foreign Exchange, concerning a major relaxation of the foreign security regime (reflecting what has recently been put in place in the SFTZ). This development will surely be of great importance to finance parties, both at the boardroom level and at an operational and transactional level.

If you require further details please contact Wensheng Ma.

Legal and Regulatory Risk Note