2 types of joint venture structure in the China market
Equity Joint Venture (EJV) – EJVs have capital investments from both local andforeign firms. The percentage of the capital investment determines the amount of profit and risk that both the foreign and local company assumes. Foreign firms entering business sectors where WFOEs are prohibited often use EJVs, although this is becoming less prevalent as more and more sectors are being opened up to WFOEs.
Cooperative Joint Venture (CJV) – CJVs are also partnerships with a local company; however, the amount of risk and profit shared by each party is not determined by capital investment but is agreed upon at the beginning of the partnership. CJVs were used more frequently in the 1990s when the Chinese economy was not as developed. International companies often injected funds, while local Chinese companies provided equipment and other necessities. Laws, regulations and procedures for establishment can vary substantially between sectors. The common risks associated with entering into partnerships also apply in China but this is often exacerbated by disparities in the culture and business practices between the foreign and local partners.
More about JVs
Foreign companies should enter into JVs only when both parties have established a clear understanding of the business objectives and appropriate exit strategies have been developed.
Steps that a foreign company could take to assess the viability of the JV are:
Undertake thorough due diligence on your proposed JV partner. If there are no legal, financial or reputational issues, you can proceed with a clear mind. If something does come up, you can choose your next step. Good due diligence will always give you leverage.
Ensure that the JV agreement states that any disputes must be handled in China. Foreign companies often believe that litigation or arbitration is best done outside China, preferably in their home country. But in reality this will offer little protection to a foreign company. A foreign court or arbitrator has NO authority in respect of a China JV.
Ensure that you retain the power to appoint the legal representative and the general manager, because this will give you effective control over the JV. Securing a majority of board seats or even a majority shareholding will not.
Hire you own legal counsel when setting up the JV. Do not rely on the Chinese JV partner to undertake the legal work for establishment. Your interests in this process are not aligned. Find a foreign lawyer with experience in China.
Hire an independent accountant, rather than using one that is recommended by your JV partner. This should ensure that you retain transparency on what is happening within the JV.
Outsource the control and maintenance of sensitive documentation, such as company certificates, seals (known as ‘chops’ in China), permits or licences. This will ensure that no contracts can be signed without your knowledge or approval.