Foreign investors in China are increasingly using shares in existing domestic companies to acquire an interest in other domestic companies. But they should be aware of certain restrictions be¬fore contemplating such a move. PRC law allows a shareholder of a limited liability company or a company limited by shares ("Invested Company") to make capital contribution in the form of equity held in another domestic company ("Equity Company"), provided that the sum of the equity and other non-monetary property contributions of all shareholders does not exceed 70% of the registered capital of the Invested Company.
Contributed equity must have clear title and be legally transferable and appraised by a qualified appraisal institution, which includes all of the "Big Four". Equity may not be used as a capital contri¬bution under any of the following circumstances: the registered capital of the Equity Company has not been fully paid up; the equity has been pledged or frozen; the equity is non-transferable by law or according to its articles of association; or the contributor fails to obtain any statutorily required approval for the equity transfer.
The law treats the period for equity contributions more strictly than for other kinds of contributions. An investor who makes an equity capital contribution when a company is formed, for example, must make payment within one year after the Invested Company is established. In contrast, the payment of an equity capital con¬tribution that is made when increasing the registered capital of a company must take place before the Invested Company applies for a capital increase. This is intended to shorten the period in which the investor has a dual stockholder capacity in the Equity Company and the Invested Company and to reduce risk and uncertainty during this period.
Different procedures are followed at the time of capital contribu¬tion, depending on the corporate form of the Equity Company. An Equity Company that is a limited liability company must apply to the registration authority to register the Invested Company as a new shareholder. If the Equity Company is a company limited by shares listed on the stock exchange, it must conduct the share transfer and undergo transfer registration formalities at respec¬tive stock exchanges and securities depository and clearing institutions. Some equity transfers, such as those of an Equity Company that is a foreign-invested enterprise, are subject to approval.
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