New regulations issued by China's regulators now allow foreign investors to use offshore renminbi (RMB) funds to make direct investments into China, signalling another step towards the liberalisation of the RMB and deregulation of the country's capital barriers for fund transfers.
These changes, which have immediate effect, were announced by China's Ministry of Commerce (MOFCOM) and the People's Bank of China (PBOC) under the Notice on Cross-border Direct Investment with RMB Fund (关于跨境人民币直接投资有关问题的通知) (MOFCOM Notice) and the Administrative Measures on RMB Settlement Business for Foreign Direct Investment (外商直接投资人民币结算业务管理办法) (PBOC Measures) issued on 12 and 13 October 2011 respectively.
The new regulations provide a new channel through which offshore RMB can now flow back into China through cross-border trade settlement or direct investment.
Whilst foreign direct investment (FDI) in RMB was not previously prohibited, it was procedurally burdensome and lengthy, and required reviews and approvals from MOFCOM and PBOC at the central level. The issuance of these two regulations provides much needed and welcome transparency and certainty to this process.
In announcing the changes, the Chinese authorities expressed a desire to boost the cross-border use of RMB and to standardise the RMB settlement business of banks and foreign investors for FDI. The regulations are consistent with the Chinese government's policy direction towards internationalisation of the RMB and opening up of the foreign exchange administration on capital accounts.
Some doors, however, remain closed to foreign investors. Portfolio investments in securities markets are not permitted other than to the limited number of qualified foreign institutional investors (QFII) who have successfully obtained a quota for securities trading from the State Administration of Foreign Exchange (SAFE).
Below, we provide a brief introduction of the two new rules and comment on some key issues:
The MOFCOM Notice permits the direct investment into China by foreign investors with the use of "legally obtained" offshore RMB funds. These are defined to include RMB funds sourced from:
cross-border trade settlements;
dividend distributions and funds derived from share transfer, capital reduction and liquidation of foreign invested enterprises (FIEs); and
the issuance outside China of RMB-denominated bonds or RMB denominated securities.
Existing rules apply
The MOFCOM Notice makes it clear that the existing rules, regulations and policies that apply to investments into China using other foreign currencies (e.g. USD or HKD) apply equally to RMB investments. So, for example, the restrictions that currently apply to investments into certain industries, the national security rules and the merger control regime apply equally.
MOFCOM is the regulatory body responsible for the approval of RMB denominated FDI, including greenfield FIE projects, capital increases or the acquisition of domestic companies. Previously central MOFCOM level approval was required but the new rules now confer local MOFCOM branches may authorise approval. The exceptions to the local approval process are where the investment falls into one of the following categories:
the investment amount is RMB 300 million or greater;
the investment is made in certain finance sectors such as finance guarantees , financial leasing, micro-finance or auction;
the investment is made to establish a foreign invested holding company, a foreign invested equity investment enterprise or a foreign invested venture capital enterprise; or
the investment is made in industries under the macro-economic control of the State, such as cement, iron and steel, electrolytic aluminum or ship building.
There are several areas where offshore RMB cannot be used. These include investments, directly or indirectly into negotiable securities and financial derivatives, or in entrusted loans (an entrusted loan is a structure often used to avoid restrictions on inter-company loans). However, this restriction does not apply if a foreign investor uses RMB funds to acquire shares by way of a private placement of shares of a domestic listed company.
The PBOC Measures set out operating procedures for PRC banks to handle RMB settlement relating to inbound FDI and borrowing by FIEs of offshore RMB loans.
Prior to the proclamation of the new measures, cross-border RMB settlement for inbound FDI transactions has required approvals on a case-by-case basis from PBOC and MOFCOM. The new rules replace the PBOC approval requirement with a less onerous post-investment registration requirement.
Registration and accounts
Following an investment the relevant FIE (whether newly-established or a PRC company acquired by a foreign investor) is required to register the dealing with the local PBOC.
The rules also set out in some detail the various types of RMB bank settlement accounts to handle the receipt for RMB inflow of funds. These accounts, and the relevant procedures, are similar to those that apply to foreign currency inflows.
Foreign debt calculations
The Measures also require that all borrowings, whether denominated in RMB or in a foreign currency, by a FIE from its foreign shareholder, any of its intra-group affiliates and foreign financial institutions, should be aggregated in determining the total amount of the FIE's foreign debt.
The internationalisation of the RMB remains a priority for the Chinese government, and the regulations are another encouraging and reassuring step towards reaching that goal.
The regulations demonstrate a significant relaxation of China's regulatory control on the flow of offshore RMB into China. They will open up even more opportunities for foreign investment into China, and in particular further promote the development of offshore RMB bond and financing markets in Hong Kong.
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