China removes VATS cap for foreign owned businesses
23 August 2016
The first value added telecommunications service licence was issued to a Wholly Foreign Owned Enterprise (WFOE) in China in April 2016 following the removal of the 50% cap on foreign ownership in the online data processing/transaction processing subcategory of VATS.
Removing the cap on foreign ownership
What? The PRC Ministry of Industry and Information Technology (MIIT) removed the 50% cap on foreign ownership in the online data processing/transaction processing subcategory of VATS. In terms of its application, the removal of this ownership cap is generally limited to the online trading of commodities and related services.
What does the remove of the cap on foreign ownership mean for international business?
Although businesses looking to capitalise on the world’s largest e-commerce market will still need to take into account some practical issues, the rewards could be unlimited.
On 28 April 2016, the MIIT for the first time, granted a Value Added Telecommunications Service Licence (VATS Licence) to Heiwado (China) Co Ltd, a WFOE with 2 Japanese shareholders for its “online data processing and transaction processing business”. This marks the first WFOE to be allowed to conduct online platform trading activities in the PRC.
The Chinese e-commerce market has always been an attractive one for businesses, with more and more Chinese consumers choosing to shop online. The regulations governing online trading have been relaxed in more recent years and foreign invested enterprises in China have been able to sell their own goods online through WFOEs. Furthermore, recent changes liberalising the regulatory framework for platform and marketplace trading online makes the Chinese e-commerce market more attractive than ever.
Telecommunication services in the PRC is divided into two categories:
- Basic Telecommunications Services (BTS)
- Value Added Telecommunications Services (VATS)
Proprietary trading, (the sale of an operator’s own goods via the operator’s own website to businesses or consumers), does not require a VATS Licence and foreign entities’ subsidiaries in China trading in their own goods only need to ensure a basic website filing with the MIIT.
Platform trading, however, (hosting a platform for third party sellers (similar to Amazon Marketplace)), is subject to VATS supervision and requires a special license – an online data processing/transaction processing licence (Transaction Licence).
Historically, VATS Licences were subject to a 50% cap on foreign ownership. This led to many Chinese online companies listed overseas having to adopt highly complex business structures.
The application and review process in order to obtain a VATS licence was also time consuming and often difficult to navigate. This made hosting an e-commerce site in China, and therefore improving the performance and availability of an e-commerce website to Chinese customers, extremely difficult.
However, the e-commerce pilot programmes which tested the liberalisation of e-commerce on a local level (first established in the Shanghai Free Trade Zone), were extended nationwide in June 2015 and there is a political push from the highest levels to remove previous restrictions on e-commerce.
Regulatory Framework and Change
On June 19 2015 the MIIT released the Circular 196 which removed the 50% cap on foreign ownership in the online data processing/transaction processing subcategory of VATS. In terms of its application, the removal of this ownership cap is generally limited to the online trading of commodities and related services. The ownership cap was effectively removed for Transaction Licences.
It does not include other business services offered online, such as online travel, taxi, internet content services including online SMS services, online search providers, image and video services, interactive voice response services, advertising and classifieds, which require an Internet Content Provider Licence (ICP Licence) under the VATS category.
Consequently, businesses requiring ICP Licences are still subject to a 50% cap on foreign ownership. Currently, many e-commerce providers hold a VATS Licence which includes both an ICP and Transaction Licence so this is particularly relevant. Some question remains over whether services such as sponsored sellers or promoted sellers often offered to third party sellers by online platform hosts falls under ICP and therefore still requires an ICP Licence and would still be subject to the 50% cap.
Impact of Circular 196
By issuing its first ever VATS Licence to a WFOE, the MIIT has shown the first tangible sign of the liberalisation of the Chinese e-commerce market. The impact of Circular 196 will continue being felt and is likely to affect the following:
- Strategic foreign investors currently operating online platform businesses can now look to expand into the Chinese market using a WFOE structure without the need for a Chinese partner. They can also look to acquire existing PRC e-commerce businesses to gain a foothold in the Chinese market
- Domestic e-commerce companies currently listed overseas and using the very complex variable interest entity structure can look to restructure their business and shareholdings, opting to use a more stable legal route to market
The outlook for e-commerce in the PRC
Although the outlook for e-commerce liberalisation is extremely positive in the PRC, businesses looking to capitalise on this market will still need to take into account some practical issues which remain, including:
- the MIIT has not yet fully defined “e-commerce” and, in practice, the MIIT seems to favour the view that e-commerce only applies to traded goods
- the relevant examination and approval procedures for a VATS Licence still needs to be undertaken and may be time consuming
- there are still many requirements investors must meet in order to qualify for a VATS Transaction Licence, including having a track record of good performance and operating experience in managing VATS services and meeting the minimum registered capital requirements for the WFOE
- the Transaction Licences does not allow WFOEs to carry out other internet information services which require an ICP Licence
However, for a company wishing to take direct advantage of the world’s largest e-commerce market, the rewards could be unlimited.