China: International Financing for Chinese Companies: An Update After SAFE Notice 106

Last Updated: 7 August 2007
Article by Thomas Shoesmith, David Tang and Julian Y. Zou

This summer, just when investors thought it was safe to go back in the water, the Chinese government leaked new internal guidelines affecting virtually all international financings of Chinese companies.

The new rules, known as "Implementation Notice 106," were generated by the Chinese State Administration for Foreign Exchange, or "SAFE." The foreign exchange authorities play an important role in transactions which provide international financings for Chinese companies because they must approve any reorganization of a Chinese company into an offshore holding company structure, as well as any acquisition by Chinese residents of any equity interest in that holding company.

This is not the first scare SAFE has thrown into the international financial community. Almost three years ago, SAFE brought international financing of Chinese companies to a virtual standstill by its Circulars 11 and 29. Investors were stymied by rules that made it almost impossible to structure international financing transactions. Then, in November 2005, perhaps responding to pressure from Chinese companies hungry for capital, SAFE replaced its earlier promulgations with the new Circular 75. Most investors viewed as a significant step forward, as it replaced rules that were impossible to follow with a relatively straightforward system requiring registration of offshore holdings by Chinese residents.

Almost a year later, in an unusual display of cooperation and coordination, six Chinese ministries, including SAFE, jointly promulgated comprehensive regulations dealing with international financing transactions for Chinese companies. The new rules became effective on September 8, 2006, and although they posed some new challenges for reverse mergers and other financings, they provided a clear roadmap that investors could follow.

Then, in late May 2007, SAFE released internal guidelines to all of its local offices dealing with the application of SAFE Circular 75. The rules leaked to the public in late June 2007. The initial reaction was dramatic, with some observers predicting, again, the end of international financing of Chinese companies. A closer examination of Notice 106 suggests that it will make it more difficult to execute some financing transactions, but it is hardly the end of foreign investments it in China.

In order to help our clients and friends understand SAFE's new Implementation Notice 106, we have prepared a comprehensive analysis and outline, including how it relates to and, in some cases, goes beyond both SAFE Circular 75 and the six-ministry rules from September 8, 2006. An executive summary of this analysis follows the links below.

Click here for our detailed outline and analysis of SAFE Notice 106. The text of Notice 106 in Chinese and English can be obtained by contacting any member of our China team.

What did Notice 106 do?

Confronted once again with complex and seemingly contradictory regulations in China, investors are asking, "What is the bottom line? What did Notice 106 do?"

Since the language of the notice is not crystal clear, and because it may be applied differently from one location to another, it is not possible to answer these questions with certainty. However, on the basis of the discussion above, the following requirements are probably in store for investors based on SAFE's most recent internal guidelines.

New Requirements for Central MOFCOM Approval

Maybe the most frightening early reaction to Notice 106 was the report that it would require approval from MOFCOM in Beijing for all international financings of Chinese companies. It is commonly believed that approvals from the central office of MOFCOM, as opposed to its local branches, would be difficult to obtain for middle-market international financing transactions.

We think this was an overreaction; it is not clear whether Notice 106 will result in an expanded requirement for central MOFCOM approvals. Except for the possibly anomalous situations created by Annex 4 (in which SAFE appears to insist on central approval for all establishments or acquisitions of new foreign-invested enterprises, or "FIEs"), Notice 106 should not give rise to new requirements for MOFCOM approval:

Notice 106, by definition, covers activities by special purpose companies, and, by definition, special purpose companies are formed to carry out offshore financings on the strength of domestic assets owned or controlled by their Chinese shareholders.

When such an offshore entity acquires the onshore company or assets (which, by definition, are related), Circular 10 already required central MOFCOM approval. Thus, references to MOFCOM approvals in Notice 106, in these circumstances, do not add anything to existing rules.

As a corollary, if the structure involved in a given situation does not include a special purpose company as defined by SAFE, then the entire notice is inapplicable.

However, Annex 4 of Notice 106 appears to reach out to cover the foreign exchange registration of establishment by special purpose companies of new subsidiaries in China ("WFOEs") as well as joint ventures and acquisitions of unrelated companies, in situations where the domestic company will receive the proceeds of the offshore financing.

The anomalous situation created by Annex 4 raises the possibility of a "Catch-22." This is serious enough that many commentators have thought it will essentially end international financing of Chinese companies until subsequent regulation solves the problem. We are more optimistic.

  • When SAFE does not insist on central MOFCOM approval. In some situations, the local SAFE office may take a liberal view of Notice 106 and simply ask for the foreign investment certificate issued by whatever level of MOFCOM issued the certificate. Local COFTEC officials, however, are not always clear when central MOFCOM approval is required, and in the meantime, they are taking the "safe" route by insisting on central MOFCOM approval. In this situation, even when SAFE itself does require central MOFCOM approval, the local COFTEC office can, as a practical matter, do so.

  • When SAFE does insist on central MOFCOM approval. In other situations, the local SAFE office may take a more literal reading of SAFE 106 and require central MOFCOM approvals regardless of what the local COFTEC office says.

  • Catch-22. The problem is that MOFCOM in Beijing may well take the position that it is not required to, and it won't, get involved in the approval process unless mandated by Circular 10, which only requires central approval in the case of share swaps, material industries, renowned Chinese brands, national security, and acquisitions in which the target company is related to the acquirer or the investment amount reaches the level of MOFCOM's jurisdiction.

Thus, an investor might find itself being sent to Beijing by local officials, only to be turned away and sent back to the local offices, only to be sent back to Beijing again, and so forth.

Only the accumulation of practical experience in China will reveal whether this situation will actually create problems, or whether the authorities, as they often do, solve this by the application of common sense. We are optimistic in this regard.

Three-Year Waiting Period for All Offshore Holding Companies

Another early reaction to Notice 106 that frightened the international investment community was the belief that Annex 4 of Notice 106 was attempting to impose a three-year requirement on all special purpose companies that acquire existing domestic companies, whether or not related, or that establish a new WFOE or joint venture.2 This would, in effect, impose a three-year waiting period on any structures that are aimed at international financing of Chinese operations. The language of Annex 4 is unclear, however, and we do not think SAFE intends to impose a blanket three-year waiting period requirement.

However, Annex 3 imposes a new three-year requirement in situations where an offshore company was previously established as an operating company, and now plans to seek offshore financing on the strength of domestic assets, equity, or operations. In these cases, the offshore entity must have been engaged in the same line of business for at least three years. Audit reports and tax certificates must be submitted for the entire three-year period.

Two-Year Waiting Period in Some Situations

Annex 2 of Notice 106 imposes a new two-year requirement for situations in which a domestic resident uses offshore funds or assets to establish or acquire control over an offshore entity, converting it to a special purpose company. In this situation, before SAFE will register the company as a special purpose company, it must have been in operation in the same line of business for at least two years. Audit reports and tax certificates must be submitted for the two-year period. The period is shortened to one year for technology companies.

Coverage of "Triangular" Structures

Before the release of Notice 106, some investors employed "triangular" structures in various situations to permit foreign investment in the Chinese economy when direct ownership of certain PRC assets was restricted, for example, in the Internet, education, human resources, and public security sectors.

In these structures, an offshore entity would establish a WFOE (or a PRC joint venture), which would enter into a web of contractual relationships with a PRC company; the effect of the contracts was to shift the preponderance of the economic benefits and burdens relating to the PRC company's operations to the foreign-invested entity (FIE), as well as assets and other items in some cases. In most situations these contracts resulted in the FIE acquiring effective control over the PRC entity, whose financials were then consolidated with those of the FIE under FIN 46r.

Since no "acquisition" of an existing domestic company was involved in these cases,3 the situation was not captured by Article 11 of Circular 10, and therefore the parties did not feel obligated to seek central MOFCOM approval.4 Of course, local COFTEC approvals were required for the establishment of the FIEs.

In addition, the offshore entities in these situations were not seen as "special purpose companies" because before Notice 106, the two definitions, in Circular 75 and Circular 10, both were phrased in terms of financings based on domestic assets or equity "held" or "owned" by the offshore entity or its shareholders.

Notice 106, for the first time, expanded its definition of "special purpose company" to include situations in which the offshore financing was based on domestic assets or equity "controlled" by the offshore entity or its shareholders.5 This opened the door for Notice 106 to assert that the offshore entities, which merely "controlled" PRC operating companies by way of contract still had to be registered as special purpose companies. But what is the effect of this? Most practitioners would have said that the domestic shareholders of the offshore entities in these cases should register under Circular 75 anyway. Annex 4 may be attempting to add an insistence on central MOFCOM approvals in these situations, but whether MOFCOM will agree is problematical. Without an acquisition, there is no need for central MOFCOM approvals under existing regulations (primarily, Circular 10).

As noted above, the language of Annex 4 also could be read as requiring a three-year waiting period for offshore companies engaging in triangular structures, but that language is not clear, and it will be necessary to wait and see how regulators apply these provisions.

Coverage of Legacy Structures

In a significant new development, Annexes 3 and 4 of Notice 106 add waiting-period requirements in cases wherein an existing offshore operating company plans to engage in an offshore financing based on the strength of domestic assets or equity.

Until now, so-called "legacy" situations6 have offered considerable comfort for investors in the reverse merger industry; legacy companies were not captured by Circular 10, and therefore the former regime of mainly local approvals applied.

The new requirements will mean that the younger legacy companies will have to mature for some period of time before they can engage in an offshore financing transaction. It is worth noting that almost one year has already passed since the effective date of Circular 10, when the last companies achieved "legacy" status.

New Compliance Obligations

Notice 106 adds some compliance obligations for the domestic company, as well as the offshore special purpose company,7 where previously only the domestic shareholders had the burden of compliance.8

Tightened Provisions Relating to Sources of Offshore Funds

Notice 106 tightens up somewhat on the source of offshore funds that might be used by domestic persons to fund offshore vehicles. The new provisions are addressed to domestic residents who use assets already offshore to fund special purpose companies in the run-up to an offshore financing, and include a requirement that the source and "legality" of more than US$50,000 in offshore currency must be explained.

Retroactive Registration

Notice 106 permits retroactive registration for domestic residents who missed the March 31, 2006 deadline for registering existing offshore holdings, but threatens penalties if the onshore company made any remittances offshore without proper foreign exchange approvals.9 The tone of Annex 6, which deals with this issue, is deeply skeptical.

Click here for our detailed outline and analysis of SAFE Notice 106. The text of Notice 106 in Chinese and English can be obtained by contacting any member of our China team.


1. The Ministry of Commerce (MOFCOM), SAFE, the State Administration of Taxation (SAT), the State Administration of Industry and Commerce (SAIC), the State-Owned Assets Supervision and Administration Commission of the State Council (SASAC), and the China Securities Regulatory Commission (CSRC).

2. Notice 106, Annex 4, Column 2, Item 2.

3. It is possible that regulators could view the FIE's acquisition of control over the PRC entity as a de facto acquisition, but these structures have an almost ten-year history in China and are clearly documented in filings with the US Securities and Exchange Commission. The Ministry of Information Industry specifically acknowledged the widespread use of this structure in the internet sector, in a 2006 release, although it did express some discomfort with it at the same time.

4. That article requires central MOFCOM approval when " …a Domestic Company, enterprise or natural person acquires, in the name of a foreign company established according to law or controlled by it, a Domestic Company with which it is connected."

5. Notice 106, Annex 1, Column 3, Item 2.

6. In other words, Chinese companies that reorganized themselves into offshore holding company structures before the effective date of Circular 10.

7. An offshore special purpose company has the obligation to apply for modifications to the offshore investment registration after material changes in its capital structure. These changes include acquisition of an onshore company as well as offshore financing. See Notice 106, Annex 5, Column 3, Item 2.

8. See Annex 5 for requirements applicable to an offshore special purpose company.

9. Notice 106, Annex 6.

The content of this article is intended to provide a general guide to the subject matter. Specialist advice should be sought about your specific circumstances.

To print this article, all you need is to be registered on

Click to Login as an existing user or Register so you can print this article.

Some comments from our readers…
“The articles are extremely timely and highly applicable”
“I often find critical information not available elsewhere”
“As in-house counsel, Mondaq’s service is of great value”

Related Video
Up-coming Events Search
Font Size:
Mondaq on Twitter
Register for Access and our Free Biweekly Alert for
This service is completely free. Access 250,000 archived articles from 100+ countries and get a personalised email twice a week covering developments (and yes, our lawyers like to think you’ve read our Disclaimer).
Email Address
Company Name
Confirm Password
Mondaq Topics -- Select your Interests
 Law Performance
 Law Practice
 Media & IT
 Real Estate
 Wealth Mgt
Asia Pacific
European Union
Latin America
Middle East
United States
Worldwide Updates
Mondaq Ltd requires you to register and provide information that personally identifies you, including what sort of information you are interested in, for three primary purposes:
  • To allow you to personalize the Mondaq websites you are visiting.
  • To enable features such as password reminder, newsletter alerts, email a colleague, and linking from Mondaq (and its affiliate sites) to your website.
  • To produce demographic feedback for our information providers who provide information free for your use.
  • Mondaq (and its affiliate sites) do not sell or provide your details to third parties other than information providers. The reason we provide our information providers with this information is so that they can measure the response their articles are receiving and provide you with information about their products and services.
    If you do not want us to provide your name and email address you may opt out by clicking here
    If you do not wish to receive any future announcements of products and services offered by Mondaq you may opt out by clicking here

    Terms & Conditions and Privacy Statement (the Website) is owned and managed by Mondaq Ltd and as a user you are granted a non-exclusive, revocable license to access the Website under its terms and conditions of use. Your use of the Website constitutes your agreement to the following terms and conditions of use. Mondaq Ltd may terminate your use of the Website if you are in breach of these terms and conditions or if Mondaq Ltd decides to terminate your license of use for whatever reason.

    Use of

    You may use the Website but are required to register as a user if you wish to read the full text of the content and articles available (the Content). You may not modify, publish, transmit, transfer or sell, reproduce, create derivative works from, distribute, perform, link, display, or in any way exploit any of the Content, in whole or in part, except as expressly permitted in these terms & conditions or with the prior written consent of Mondaq Ltd. You may not use electronic or other means to extract details or information about’s content, users or contributors in order to offer them any services or products which compete directly or indirectly with Mondaq Ltd’s services and products.


    Mondaq Ltd and/or its respective suppliers make no representations about the suitability of the information contained in the documents and related graphics published on this server for any purpose. All such documents and related graphics are provided "as is" without warranty of any kind. Mondaq Ltd and/or its respective suppliers hereby disclaim all warranties and conditions with regard to this information, including all implied warranties and conditions of merchantability, fitness for a particular purpose, title and non-infringement. In no event shall Mondaq Ltd and/or its respective suppliers be liable for any special, indirect or consequential damages or any damages whatsoever resulting from loss of use, data or profits, whether in an action of contract, negligence or other tortious action, arising out of or in connection with the use or performance of information available from this server.

    The documents and related graphics published on this server could include technical inaccuracies or typographical errors. Changes are periodically added to the information herein. Mondaq Ltd and/or its respective suppliers may make improvements and/or changes in the product(s) and/or the program(s) described herein at any time.


    Mondaq Ltd requires you to register and provide information that personally identifies you, including what sort of information you are interested in, for three primary purposes:

    • To allow you to personalize the Mondaq websites you are visiting.
    • To enable features such as password reminder, newsletter alerts, email a colleague, and linking from Mondaq (and its affiliate sites) to your website.
    • To produce demographic feedback for our information providers who provide information free for your use.

    Mondaq (and its affiliate sites) do not sell or provide your details to third parties other than information providers. The reason we provide our information providers with this information is so that they can measure the response their articles are receiving and provide you with information about their products and services.

    Information Collection and Use

    We require site users to register with Mondaq (and its affiliate sites) to view the free information on the site. We also collect information from our users at several different points on the websites: this is so that we can customise the sites according to individual usage, provide 'session-aware' functionality, and ensure that content is acquired and developed appropriately. This gives us an overall picture of our user profiles, which in turn shows to our Editorial Contributors the type of person they are reaching by posting articles on Mondaq (and its affiliate sites) – meaning more free content for registered users.

    We are only able to provide the material on the Mondaq (and its affiliate sites) site free to site visitors because we can pass on information about the pages that users are viewing and the personal information users provide to us (e.g. email addresses) to reputable contributing firms such as law firms who author those pages. We do not sell or rent information to anyone else other than the authors of those pages, who may change from time to time. Should you wish us not to disclose your details to any of these parties, please tick the box above or tick the box marked "Opt out of Registration Information Disclosure" on the Your Profile page. We and our author organisations may only contact you via email or other means if you allow us to do so. Users can opt out of contact when they register on the site, or send an email to with “no disclosure” in the subject heading

    Mondaq News Alerts

    In order to receive Mondaq News Alerts, users have to complete a separate registration form. This is a personalised service where users choose regions and topics of interest and we send it only to those users who have requested it. Users can stop receiving these Alerts by going to the Mondaq News Alerts page and deselecting all interest areas. In the same way users can amend their personal preferences to add or remove subject areas.


    A cookie is a small text file written to a user’s hard drive that contains an identifying user number. The cookies do not contain any personal information about users. We use the cookie so users do not have to log in every time they use the service and the cookie will automatically expire if you do not visit the Mondaq website (or its affiliate sites) for 12 months. We also use the cookie to personalise a user's experience of the site (for example to show information specific to a user's region). As the Mondaq sites are fully personalised and cookies are essential to its core technology the site will function unpredictably with browsers that do not support cookies - or where cookies are disabled (in these circumstances we advise you to attempt to locate the information you require elsewhere on the web). However if you are concerned about the presence of a Mondaq cookie on your machine you can also choose to expire the cookie immediately (remove it) by selecting the 'Log Off' menu option as the last thing you do when you use the site.

    Some of our business partners may use cookies on our site (for example, advertisers). However, we have no access to or control over these cookies and we are not aware of any at present that do so.

    Log Files

    We use IP addresses to analyse trends, administer the site, track movement, and gather broad demographic information for aggregate use. IP addresses are not linked to personally identifiable information.


    This web site contains links to other sites. Please be aware that Mondaq (or its affiliate sites) are not responsible for the privacy practices of such other sites. We encourage our users to be aware when they leave our site and to read the privacy statements of these third party sites. This privacy statement applies solely to information collected by this Web site.

    Surveys & Contests

    From time-to-time our site requests information from users via surveys or contests. Participation in these surveys or contests is completely voluntary and the user therefore has a choice whether or not to disclose any information requested. Information requested may include contact information (such as name and delivery address), and demographic information (such as postcode, age level). Contact information will be used to notify the winners and award prizes. Survey information will be used for purposes of monitoring or improving the functionality of the site.


    If a user elects to use our referral service for informing a friend about our site, we ask them for the friend’s name and email address. Mondaq stores this information and may contact the friend to invite them to register with Mondaq, but they will not be contacted more than once. The friend may contact Mondaq to request the removal of this information from our database.


    From time to time Mondaq may send you emails promoting Mondaq services including new services. You may opt out of receiving such emails by clicking below.

    *** If you do not wish to receive any future announcements of services offered by Mondaq you may opt out by clicking here .


    This website takes every reasonable precaution to protect our users’ information. When users submit sensitive information via the website, your information is protected using firewalls and other security technology. If you have any questions about the security at our website, you can send an email to

    Correcting/Updating Personal Information

    If a user’s personally identifiable information changes (such as postcode), or if a user no longer desires our service, we will endeavour to provide a way to correct, update or remove that user’s personal data provided to us. This can usually be done at the “Your Profile” page or by sending an email to

    Notification of Changes

    If we decide to change our Terms & Conditions or Privacy Policy, we will post those changes on our site so our users are always aware of what information we collect, how we use it, and under what circumstances, if any, we disclose it. If at any point we decide to use personally identifiable information in a manner different from that stated at the time it was collected, we will notify users by way of an email. Users will have a choice as to whether or not we use their information in this different manner. We will use information in accordance with the privacy policy under which the information was collected.

    How to contact Mondaq

    You can contact us with comments or queries at

    If for some reason you believe Mondaq Ltd. has not adhered to these principles, please notify us by e-mail at and we will use commercially reasonable efforts to determine and correct the problem promptly.

    By clicking Register you state you have read and agree to our Terms and Conditions