For decades foreign and Chinese companies used tax heavens like the Cayman Islands and Bermuda´s as a way to circumvent restrictions in China´s laws. Now the country is closing that loophole, but last week also offered a way out for those who feared to be in trouble, writes accounting professor Paul Gillis at his weblog, at least for online ventures.
The new MIIT (Ministry of Industry and Information Technology) rule provides an escape valve. It appears limited to companies operating in online data processing and transaction processing (operating e-commerce). It is unclear to me how far that definition will stretch.
Many foreign multinationals operate in China through the VIE structure. Only a few have disclosed this fact, since disclosure is only required when the VIE operations are material to the company as a whole. Amazon, CBS, and Pearson Education have disclosed the existence of Chinese VIEs. The new rule seems to help Amazon, and it is less clear whether CBS or Pearson Education will be able to take advantage of it.
The law might also be used by some of the overseas listed Chinese companies that will have difficulty complying with the new foreign investment law. Tencent cannot put in place the control structure required because the Hong Kong Stock Exchange does not allow it. Ctrip does not have a dual class share structure or sufficient Chinese ownership to demonstrate Chinese control, and the new rule might provide an out for them.
It is also unclear to what extent operations will have to be moved into the Shanghai Free Trade Zone in order to qualify for the new rule. Such is the nature of Chinese regulation; implementation details will take some time, even though the new rule is already effective.
Many overseas listed Chinese companies are in the process of going private from the US exchanges with the intent to relist on China’s frothy boards. I believe this trend is less motivated by changes in VIE rules than the high valuations currently available on Chinese exchanges.
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