At Your Service

Foreign service providers are starting to make inroads in the China market—with some exceptions

by Julie Walton

Before China joined the World Trade Organization (WTO) in 2001, the few foreign service providers operating in China did so under a highly restrictive framework that dictated their choices of partner, location, and business scope. China's WTO commitments on services lift most of these restrictions, allowing foreign investors in China to operate as they do in other economies around the globe. Of course, this does not mean that foreign service providers are gaining completely unfettered access to each service sector in China. Foreign firms in many sectors may only form joint ventures and often are restricted to minority stakes.

But in some services, such as publications distribution, the central government has not only fully met the letter and spirit of its WTO services commitments, but exceeded them. In others, such as construction, the reverse has happened. Sectors once fairly open to foreign investment now appear more restricted. In many other sectors, companies that were initially discouraged by restrictions in place even after WTO entry have, through quiet advocacy or creativity in choice of joint venture partner, advanced their cause.

A review of the most notable advances—and of backsliding, as the PRC government tries to strengthen domestic companies so that they can hold their own against foreign behemoths—makes abundantly clear that China's changing regulatory and economic landscape since WTO entry has kept even the most seasoned foreign investors on their toes.

Distribution

China's prohibitions on foreign control of distribution channels have long frustrated investors. Wholesaling, retailing, and other distribution services have slowly opened to foreign investors since China joined the WTO, and restrictions on geographic location, equity participation, and form of incorporation will be lifted December 11, 2004 (see the CBR, September-October 2003, p.14). Initially, the central government's implementation record in this sector was poor, despite its own clearly defined time frames. Yet, as more significant commitments approached, implementation sped up. For example, the General Administration of Press and Publication (GAPP) and the former Ministry of Foreign Trade and Economic Cooperation (MOFTEC) published a rule in 2003 that permitted wholly foreign-owned retail outlets for books, magazines, and newspapers about 18 months ahead of schedule. The rule also allowed foreign investment in online publication sales, chain stores, and reader's clubs, as well as in existing publication distributors, including state-owned enterprises. The same rule will allow wholly foreign-owned wholesale companies for books, magazines, and newspapers in December 2004.

Germany's Bertelsmann AG was the first to take advantage of this new opening. The company bought a 40 percent stake in Beijing 21st Century Book Chain in December 2003, subsequently forming the first national joint venture retail bookstore chain. This deal reflected GAPP's recognition that it must upgrade and modernize the country's print media distribution sector and that inviting foreign investment is one way to stimulate change in the industry.

Another notable area of progress has been in gasoline retailing. Both Royal Dutch/Shell Group and BP plc are vigorously pursuing gas station ventures with Sinopec and PetroChina, respectively. Of China's 80,000 gasoline stations, only 300 are foreign-invested. Given the huge increase in auto purchases in China, the demand for gasoline is sure to rise steadily in coming years. The Shell and BP joint ventures are the first large-scale forays for foreign companies into the retail oil business as allowed under China's WTO commitments.

The companies will be limited to joint ventures for the foreseeable future: though most distribution-related restrictions will be lifted December 11, 2004, foreign companies cannot have controlling stakes in chain store operations with more than 30 outlets, a restriction with no deadline for removal. As each company's joint venture plans to establish 500 outlets initially, the two oil giants are limited to minority shares.

Logistics

China made no overarching commitment to open its logistics sector. Distribution, transportation, freight forwarding, and shipping are all addressed separately within China's WTO commitments, causing confusion and frustration among foreign investors because of overlapping business license and registration procedures. This fragmentation reflects the greatest challenge facing foreign investors in logistics: China's lack of infrastructure, both physical and regulatory.

To be sure, this fragmentation of the logistics sector has prevented smaller foreign logistics companies from operating in China. Currently, international giants Dutch-based Maersk Logistics, US-based APL Logistics, and UK-based P&O Nedlloyd are the only firms allowed to operate nationwide as wholly foreign-owned logistics companies. But the central government is aware that a fractured and inefficient logistics framework hinders the growth of Chinese companies as well as foreign ones.

Indeed, most of the challenges to foreign participation in this sector are unrelated to China's WTO commitments. Ministerial infighting prevents the railway, aviation, customs, and communications and transport authorities from creating a comprehensive regulatory process for companies that want to provide fully integrated, nationwide logistics services. At the local level, the need to protect jobs pushes local officials to discourage outside trucking companies from providing services, though recent pressure from the central government to eliminate local protectionism may reduce this sort of barrier over the next few years. Finally, overcrowded highways on the eastern seaboard, mountainous terrain in the west, and poor refrigeration technology present significant obstacles to anyone transporting fragile or perishable goods.

Compounding these difficulties, central government regulators have a mixed record in opening the logistics sector to foreign participation. The Ministry of Railways released rules governing foreign participation in the rail sector right before China joined the WTO, making good on its promise to open rail freight forwarding to foreign joint ventures upon WTO entry (see the CBR, March-April 2004, p.24). Railroads are particularly important to foreign investors because most of the country's freight travels by rail. Wholly foreign-owned rail freight companies will be permitted in 2007. On the other hand, road transportation was liberalized initially in 2002, but foreign stakes were capped at 75 percent—considered by many in the foreign business community as contrary to the spirit of China's WTO commitments. According to these commitments, wholly foreign-owned enterprises (WFOEs) are allowed in road transport by December 11, 2004. Regulations allowing foreign majority investment in freight forwarding companies were released on time in 2002; companies will have to wait until 2005 to establish WFOEs.

Fortunately, many of the WTO trade, distribution, and freight-forwarding commitments are to be phased in this year, so foreign investors might soon have an easier time navigating the system. For instance, the new foreign commercial enterprise regulations governing distribution should make it easier for companies to streamline their operations (see A New Era for Distribution in China).

Insurance

By the end of May 2004, 38 foreign insurance companies were operating in China in both life and nonlife areas. Though this may sound impressive compared to the handful that had set up before WTO entry, foreign life insurance companies are restricted to joint ventures with a maximum foreign stake of 50 percent. (The exception is American International Group, Inc. [AIG], whose wholly foreign-owned branches in China were permitted to remain so after China entered the WTO. AIG was also allowed to establish four more wholly foreign-owned branches in Beijing; Dongguan and Jiangmen, Guangdong; and Suzhou, Jiangsu.)

Insurance licensing remains an opaque process, with high capital requirements for setting up branches. Furthermore, though nonlife insurers may set up WFOEs, they may not set up a branch without first establishing a subsidiary in China. Consequently, foreign insurers account for only about five percent of China's insurance market, although in Shanghai, which has been open longer to foreign investment, foreign companies have about 10 percent of the market.

Companies are moving quickly to take advantage of new opportunities as more cities open and as foreign insurers gain permission to provide a broader array of services.

Companies have accepted the long approval process and high capital requirements to obtain access to China's potentially lucrative insurance market. Yet these obstacles and the limits on foreign stakes in life insurance have prompted some companies to reach out to nontraditional partners, hoping to tap into nationwide distribution networks and new population segments, or gain strong political backing. For instance, New York Life International, LLC partnered with Haier Investment Development Co. in a 50-50 joint venture to sell life insurance in Shanghai. And UK-based insurer Aviva plc partnered with China National Cereals, Oils, and Foodstuffs Import & Export Co. to sell life insurance in Guangzhou.

Travelers Insurance Co., part of Citigroup Inc., received preliminary approval in June 2004 to begin setting up a life insurance joint venture with Shanghai Alliance Investment Ltd., an investment arm of the Shanghai branch of the State Asset Supervision and Administration Commission. It took the China Insurance Regulatory Commission a year to approve Travelers's initial application to begin establishing an insurance joint venture. The two sides now have about six months within which they must formally start operations.

Companies are moving quickly to take advantage of new opportunities as more cities open and as foreign insurers gain permission to provide a broader array of services. Aviva recently won approval to open branches selling life insurance in Beijing and in Chengdu, Sichuan, two cities that were opened at the end of 2003, and expects to offer health insurance products after December 11, 2004.

Alternatively, some companies have chosen to wait until China has phased in more of its geographic or business scope commitments. Liberty International Holdings, Inc. waited until China's WTO commitments allowing WFOEs in nonlife insurance took effect before setting up its WFOE in Chongqing to offer property and casualty products.

The June release of the Implementing Rules of the Regulations on the Administration of Foreign-Invested Insurance Companies should speed up the liberalization process. The capital outlay required to open a new branch was lowered to ¥20 million ($2.42 million), and the stake that foreign companies may buy in Chinese insurers was doubled to 20 percent. When AIG purchased a 9.9 percent stake in People's Insurance Co. of China in November 2003, AIG indicated it might raise its stake when regulations permitted it do so—which they now do.

Banking

Foreign bankers in China have faced many of the same problems plaguing foreign insurers: high capitalization requirements, lengthy licensing processes, and limitations on business scope. Despite these difficulties, most foreign banks committed to China are finding ways to conduct business profitably. Banks from more than 60 countries and regions had received approval to set up operations by the end of March 2004. This included 195 businesses and 213 representative offices.

US-based Citibank, UK-based HSBC, Japan-based Mizuho Bank, and Hong Kong-based Bank of East Asia were first to receive permission to handle renminbi-denominated business for domestic Chinese companies after this liberalization took effect (on time) in December 2003.

In early 2004, HSBC joined with Bank of Shanghai, and Citibank partnered with Shanghai Pudong Development Bank, to launch dual-currency credit card services for Chinese individuals. Though foreign firms may not issue their own local credit cards until 2007 at the earliest, the tie-ups present a unique investment opportunity for the two foreign companies to gain strategic market know-how prior to venturing out on their own. In this case, outright prohibition on offering one type of financial service has not prevented foreign players from finding legitimate ways to operate in the market.

Media and entertainment

The central government has long restricted foreign investment in the content and management of China's media and entertainment offerings. But rising levels of disposable income and greater access to diverse media and entertainment sources have created significant demand for new products, especially among the urban population. This demand, combined with the rapid development of the industry and China's WTO commitments, has pushed liberalization.

China accelerated compliance with its WTO commitments in the tourism industry by two years when it issued regulations in June 2003 that permit wholly foreign-owned travel agencies to operate in China.

On the management side, Warner Brothers International Theaters, Inc. has been actively forging partnerships with Chinese media or real estate companies to build and operate theaters across the country. Although China only committed to allow foreign minority shares for cinema management, Warner Brothers's October 2003 deal—in which it took a 51 percent stake in a new joint venture with the Shanghai Cinema Group—effectively opened the door to foreign majority ownership in theater management in accordance with the WTO's Most Favored Nation principle. Warner Brothers has not stopped there, reaching out to the Wanda Group real estate company to build 30 multiplex cinemas in North China and the Guangzhou Jinyi Film and Television Investment Co. Ltd. to build at least 10 more in South China. With only a little more than 1,200 cinemas nationwide, compared with 30,000 in the United States, China seems to have ample room for growth in this sector.

Authorities have also lifted the ban on foreign investment in film and television content production companies (see the CBR, November-December 2003, p.42). The State Administration of Radio, Film, and Television (SARFT) issued a regulation in October 2003 that permits foreign investment in film production and film technology companies beginning December 1, 2003. Foreign investors may hold majority shares in film technology ventures in certain provinces and cities, and foreign partners may take stakes of up to 49 percent in film production companies. International media giant Viacom became the first foreign company to take advantage of this liberalization when it announced in March 2004 a joint venture with Shanghai Media Group (SMG) to produce Chinese-language children's programming for distribution on SMG's channels. In July, SARFT issued another rule that allowed Sino-foreign co-production of films.

Advertising

The regulatory environment surrounding advertising and foreign participation in the sector has long been restrictive and haphazard. For instance, one locality may place restrictions on how long an ad may be displayed while another may regulate the size of the ad. Minority foreign ownership was permitted upon WTO entry, with majority foreign ownership to be allowed by December 2003. But because there were no new approval procedures, older rules remained in place that effectively barred foreign majority stakes in advertising joint ventures despite the commitments. In March 2004, the State Administration of Industry and Commerce and Ministry of Commerce (MOFCOM) finally released provisions that permitted foreign majority ownership of up to 70 percent and established a legal framework under which new players can enter the market and existing advertisers can gain greater control over their China operations through branching or acquisition. Although WFOEs will be permitted on December 11, 2005, Star TV, the Hong Kong-based broadcast company, received approval from MOFCOM in July 2004 to establish a wholly foreign-owned advertising company. Star TV qualified to establish the WFOE early through the Hong Kong-PRC Closer Economic Partnership Arrangement.

Telecom

China's WTO commitments have not provided the access that foreign telecom service providers had hoped for. Since China's WTO entry in 2001, AT&T has been the only service provider approved (for data communications, virtual private networks, remote access, and Internet) but the joint venture is restricted to operating in Pudong and most of the deal was hashed out over several years prior to China's accession. The Ministry of Information Industry (MII) has failed to approve new entrants or lift geographic restrictions and has defined its WTO commitments narrowly. China's 2004 commitments include raising the ceiling on foreign joint venture participation in mobile voice and data basic telecom services to 49 percent and opening fixed-line basic telecom services among Beijing, Guangzhou, and Shanghai to joint ventures in which foreign investors may hold up to a 25 percent stake. But MII's revised Catalogue on Telecommunications Services Classification, issued in March 2003, remains an obstacle to foreign investment because it does not define which items within the revised value-added telecom services (VATS) section are open to foreign investment. MII officials have maintained that the VATS operations listed in China's WTO commitments are exhaustive and that not all VATS operations are open to foreign investment.

Additional regulatory hurdles, such as the absence of the much-anticipated telecom law, also inhibit market access. It appears that a final law will not be issued until 2005 at the earliest. This law is particularly important because it will likely outline a framework for network consolidation, interconnection, and universal service provisions, and establish a regulatory authority, which would lower some of the barriers foreign investors face in this sector.

Other openings

Several other services have opened in notable ways:

Auto finance
In 2003, the China Banking Regulatory Commission (CBRC) issued rules governing auto-financing activities by nonbank financial institutions. Though consistent with China's WTO pledges, the implementing rules were not only two years late, but impose practical limitations, such as high capital requirements and caps on total lending. Nevertheless, foreign companies have made strides in accessing the market. In 2003, CBRC approved General Motors Corp., Volkswagen AG, and Toyota Motor Corp. to offer auto-financing services. Ford Motor Co. received initial approval this year.
Leasing
China has yet to issue established, comprehensive, WTO-compliant approval processes for leasing. Yet despite this obstacle, Caterpillar China Financial Leasing Co. received approval in April to establish a wholly foreign-owned leasing company. It will be able to serve its customers after December 11, 2004, when China's WTO commitments take effect. In early 2004, MOFCOM's foreign investment department announced that it was amending the rules that govern foreign-invested leasing operations, with the goal of having new rules in place by the end of the year. At that time, MOFCOM had already received 10 applications from foreign firms to set up leasing businesses. MOFCOM said it would be unlikely to approve all applications, but it would probably select one or two to conduct trial operations of wholly foreign-owned leasing companies.
Convention services
According to China's WTO commitments, joint ventures with foreign majority ownership in convention and exhibition services were permitted upon accession in 2001. China made no other commitments in this area, but in February 2004, MOFCOM issued rules allowing the establishment of WFOEs, thus exceeding China's WTO commitments. Foreign partners in existing JV companies may choose to buy out their partners, which often happens when complete foreign ownership is allowed in a particular sector.
Tourism
China accelerated compliance with its WTO commitments in the tourism industry by two years when it issued regulations in June 2003 that permit wholly foreign-owned travel agencies to operate in China. The regulation covers only foreign-majority joint venture and wholly foreign-owned travel agencies established before December 11, 2007, when all geographic, registered capital, and branch restrictions are due to be lifted. JAL International Travel Service of Japan became the first WFOE travel agency shortly after the release of the regulations, while German-based Touristik Union International became the first foreign company to have a controlling stake (75 percent) in a Sino-foreign travel joint venture.

Tourism ventures are also riding the coattails of the central government's Great Western Development Strategy, launched in 1998 to attract investment to central and western China (see the CBR, March-April 2004, p.8). Though infrastructure development and manufacturing were the primary targets of the plan, service industries, especially tourism, are finding new areas for investment. For instance, the Sichuan branch of China International Travel Service established a joint venture with American Express Travel in mid-2004 to promote Sichuan and western China. Other companies are setting up small eco-tourism ventures.
Education
Exploding demand for college-level services has already led to the establishment of joint venture courses or degree programs among a wide range of foreign universities and Chinese institutes of higher education. China's WTO commitments also permitted majority foreign ownership in primary and secondary noncompulsory education services in 2001. As a result, the Ministry of Education has had to revise many rules to offer various types of private, for-profit schools, a significant shift that seems to acknowledge demand for alternative education.

Construction

With much of China's outdated urban infrastructure straining to provide for ever-larger populations, foreign companies operating in the construction, urban planning, and utilities sectors have long considered China's market ripe for their services. Prior to China's WTO entry, numerous factors, including restrictive PRC regulations and differing local investment procedures, limited broad foreign investment in these sectors. Although new regulations ostensibly opened these sectors to foreign investment, companies still face many hurdles if they want to participate.

The former MOFTEC and the Ministry of Construction issued regulations in 2003 that fulfill China's WTO commitment to open the urban planning sector, but the rules include several provisions that have made actual foreign participation difficult. The Regulation on Management of Foreign-Invested Urban Planning Service Enterprises allows joint venture and wholly foreign-owned investment in urban planning, but prohibits foreign investment in comprehensive urban planning, thus limiting foreign investment to "micro-level urban planning." The regulation does not define "micro-level urban planning" or explain how it may differ from engineering or construction consulting services.

Foreign construction and engineering companies have also faced numerous difficulties simply maintaining the access they had before China joined the WTO, let alone trying to secure the greater access China's WTO commitments promise. Although regulations technically opened China's construction and engineering sector to WFOEs in November 2002, well ahead of the 2004 deadline, significant implementation problems emerged in 2003 that rendered the liberalization virtually meaningless. High capitalization requirements, the repeal of laws that qualify foreign engineering and construction companies, and other measures, such as the requirement that PRC certification be based on experience in the PRC only, rather than on the company's experience globally, have stalled sector liberalization. Previously, most foreign engineering and design companies operated quite well on a project-by-project approval basis. Their hopes for the construction and engineering sector after China's WTO entry centered on being able to expand as WFOEs. In the current situation, however, companies face more restrictions than ever.

One potential bright spot might be in the provision of urban utility services. In 2002, officials at the Ministry of Construction and the former State Development Planning Commission began to comment publicly on the need to open the urban utility sector to foreign investment to alleviate the shortfall of government funds available to maintain the system. The Ministry of Construction allowed several cities to experiment with pilot projects allowing foreign investment in public utilities; Beijing formally opened its utility sector in January 2003. In April 2004, the Ministry of Construction issued rules opening the sector nationwide to foreign-invested enterprises with majority Chinese ownership. The rules guide local governments on how to franchise local public utility supply services in water, natural gas, public transportation, and sewage and solid waste treatment to business entities. It remains to be seen how these new rules will affect foreign investment in the utility sector. Price controls on water or gas, inefficient distribution methods, and lack of comprehensive credit and payment systems still discourage full foreign participation.

Serving the people

Foreign companies are gaining access to China's service market, and their aggressive and creative business models sometimes push PRC regulatory authorities to a broader understanding of what China's WTO commitments mean in practice. At the same time, powerful government and industry forces actively protect—and in some cases prop up—certain sectors, regardless of the international agreements the government has made. But it is important to understand China's WTO service sector commitments in the context of China's overall economic development. For example, without a modern framework governing mergers and acquisitions, foreign companies would have a harder time breaking into the banking sector (see Box). And WTO commitments cannot translate into market access if other non-WTO related barriers such as inefficient distribution systems and price controls exist. In short, a combination of factors has propelled or limited foreign companies' access to China's service market, and thus, a combination of investment policies, market developments, regulatory reforms, and yes, China's commitment to fulfill its promises, will drive liberalization in the future.

M&A Laws Push Sector Openings

Many of the investments that foreign companies have made in sectors liberalized since China entered the World Trade Organization could not have been made were it not for substantial changes in the laws governing mergers and acquisitions. Both the Notice on Strengthening the Administration of Examination, Approval, Registration, Foreign Exchange Issues, and Taxation of Foreign Invested Enterprises and the Provisional Regulation on the Acquisition of Domestic Enterprises by Foreign Investors simplify the process by which foreign companies can acquire domestic Chinese firms.

Under the new system, foreign investors may now purchase assets in existing domestic companies without creating new joint ventures. They may also invest directly in domestic companies via an asset purchase or the transfer of shareholder rights. Furthermore, the restriction that companies must take a minimum 10 percent equity stake was removed, although in most cases companies are looking to take much larger stakes. With expanded options for mergers and acquisitions, foreign companies are now less restricted in their investment options.

—Julie Walton

Julie Walton is manager, Business Advisory Services, at the US-China Business Council in Washington, DC.

Subscribe/Renew CBR Archives Advertise in CBR Print Advertising Online Advertising Request Media Kit Business Directory Online Store Links Departments China Conference Calendar China Business USCBC Bulletin US & PRC Contacts Travel Savvy NEW! Business Resources Short Takes Critical Eye Commentary Interview Company Profile Opportunities Reviews Last Page Join the CBR mailing list to receive updates and announcements. Timely, relevant publications on the Chinese business climate	Home About Us Contact Staff Join Our Team For Contributors For Journalists FAQ
	At Your Service Foreign service providers are starting to make inroads in the China market—with some exceptions by Julie Walton Before China joined the World Trade Organization (WTO) in 2001, the few foreign service providers operating in China did so under a highly restrictive framework that dictated their choices of partner, location, and business scope. China's WTO commitments on services lift most of these restrictions, allowing foreign investors in China to operate as they do in other economies around the globe. Of course, this does not mean that foreign service providers are gaining completely unfettered access to each service sector in China. Foreign firms in many sectors may only form joint ventures and often are restricted to minority stakes. But in some services, such as publications distribution, the central government has not only fully met the letter and spirit of its WTO services commitments, but exceeded them. In others, such as construction, the reverse has happened. Sectors once fairly open to foreign investment now appear more restricted. In many other sectors, companies that were initially discouraged by restrictions in place even after WTO entry have, through quiet advocacy or creativity in choice of joint venture partner, advanced their cause. A review of the most notable advances—and of backsliding, as the PRC government tries to strengthen domestic companies so that they can hold their own against foreign behemoths—makes abundantly clear that China's changing regulatory and economic landscape since WTO entry has kept even the most seasoned foreign investors on their toes. Distribution China's prohibitions on foreign control of distribution channels have long frustrated investors. Wholesaling, retailing, and other distribution services have slowly opened to foreign investors since China joined the WTO, and restrictions on geographic location, equity participation, and form of incorporation will be lifted December 11, 2004 (see the CBR, September-October 2003, p.14). Initially, the central government's implementation record in this sector was poor, despite its own clearly defined time frames. Yet, as more significant commitments approached, implementation sped up. For example, the General Administration of Press and Publication (GAPP) and the former Ministry of Foreign Trade and Economic Cooperation (MOFTEC) published a rule in 2003 that permitted wholly foreign-owned retail outlets for books, magazines, and newspapers about 18 months ahead of schedule. The rule also allowed foreign investment in online publication sales, chain stores, and reader's clubs, as well as in existing publication distributors, including state-owned enterprises. The same rule will allow wholly foreign-owned wholesale companies for books, magazines, and newspapers in December 2004. Germany's Bertelsmann AG was the first to take advantage of this new opening. The company bought a 40 percent stake in Beijing 21st Century Book Chain in December 2003, subsequently forming the first national joint venture retail bookstore chain. This deal reflected GAPP's recognition that it must upgrade and modernize the country's print media distribution sector and that inviting foreign investment is one way to stimulate change in the industry. Another notable area of progress has been in gasoline retailing. Both Royal Dutch/Shell Group and BP plc are vigorously pursuing gas station ventures with Sinopec and PetroChina, respectively. Of China's 80,000 gasoline stations, only 300 are foreign-invested. Given the huge increase in auto purchases in China, the demand for gasoline is sure to rise steadily in coming years. The Shell and BP joint ventures are the first large-scale forays for foreign companies into the retail oil business as allowed under China's WTO commitments. The companies will be limited to joint ventures for the foreseeable future: though most distribution-related restrictions will be lifted December 11, 2004, foreign companies cannot have controlling stakes in chain store operations with more than 30 outlets, a restriction with no deadline for removal. As each company's joint venture plans to establish 500 outlets initially, the two oil giants are limited to minority shares. Logistics China made no overarching commitment to open its logistics sector. Distribution, transportation, freight forwarding, and shipping are all addressed separately within China's WTO commitments, causing confusion and frustration among foreign investors because of overlapping business license and registration procedures. This fragmentation reflects the greatest challenge facing foreign investors in logistics: China's lack of infrastructure, both physical and regulatory. To be sure, this fragmentation of the logistics sector has prevented smaller foreign logistics companies from operating in China. Currently, international giants Dutch-based Maersk Logistics, US-based APL Logistics, and UK-based P&O Nedlloyd are the only firms allowed to operate nationwide as wholly foreign-owned logistics companies. But the central government is aware that a fractured and inefficient logistics framework hinders the growth of Chinese companies as well as foreign ones. Indeed, most of the challenges to foreign participation in this sector are unrelated to China's WTO commitments. Ministerial infighting prevents the railway, aviation, customs, and communications and transport authorities from creating a comprehensive regulatory process for companies that want to provide fully integrated, nationwide logistics services. At the local level, the need to protect jobs pushes local officials to discourage outside trucking companies from providing services, though recent pressure from the central government to eliminate local protectionism may reduce this sort of barrier over the next few years. Finally, overcrowded highways on the eastern seaboard, mountainous terrain in the west, and poor refrigeration technology present significant obstacles to anyone transporting fragile or perishable goods. Compounding these difficulties, central government regulators have a mixed record in opening the logistics sector to foreign participation. The Ministry of Railways released rules governing foreign participation in the rail sector right before China joined the WTO, making good on its promise to open rail freight forwarding to foreign joint ventures upon WTO entry (see the CBR, March-April 2004, p.24). Railroads are particularly important to foreign investors because most of the country's freight travels by rail. Wholly foreign-owned rail freight companies will be permitted in 2007. On the other hand, road transportation was liberalized initially in 2002, but foreign stakes were capped at 75 percent—considered by many in the foreign business community as contrary to the spirit of China's WTO commitments. According to these commitments, wholly foreign-owned enterprises (WFOEs) are allowed in road transport by December 11, 2004. Regulations allowing foreign majority investment in freight forwarding companies were released on time in 2002; companies will have to wait until 2005 to establish WFOEs. Fortunately, many of the WTO trade, distribution, and freight-forwarding commitments are to be phased in this year, so foreign investors might soon have an easier time navigating the system. For instance, the new foreign commercial enterprise regulations governing distribution should make it easier for companies to streamline their operations (see A New Era for Distribution in China). Insurance By the end of May 2004, 38 foreign insurance companies were operating in China in both life and nonlife areas. Though this may sound impressive compared to the handful that had set up before WTO entry, foreign life insurance companies are restricted to joint ventures with a maximum foreign stake of 50 percent. (The exception is American International Group, Inc. [AIG], whose wholly foreign-owned branches in China were permitted to remain so after China entered the WTO. AIG was also allowed to establish four more wholly foreign-owned branches in Beijing; Dongguan and Jiangmen, Guangdong; and Suzhou, Jiangsu.) Insurance licensing remains an opaque process, with high capital requirements for setting up branches. Furthermore, though nonlife insurers may set up WFOEs, they may not set up a branch without first establishing a subsidiary in China. Consequently, foreign insurers account for only about five percent of China's insurance market, although in Shanghai, which has been open longer to foreign investment, foreign companies have about 10 percent of the market. Companies are moving quickly to take advantage of new opportunities as more cities open and as foreign insurers gain permission to provide a broader array of services. Companies have accepted the long approval process and high capital requirements to obtain access to China's potentially lucrative insurance market. Yet these obstacles and the limits on foreign stakes in life insurance have prompted some companies to reach out to nontraditional partners, hoping to tap into nationwide distribution networks and new population segments, or gain strong political backing. For instance, New York Life International, LLC partnered with Haier Investment Development Co. in a 50-50 joint venture to sell life insurance in Shanghai. And UK-based insurer Aviva plc partnered with China National Cereals, Oils, and Foodstuffs Import & Export Co. to sell life insurance in Guangzhou. Travelers Insurance Co., part of Citigroup Inc., received preliminary approval in June 2004 to begin setting up a life insurance joint venture with Shanghai Alliance Investment Ltd., an investment arm of the Shanghai branch of the State Asset Supervision and Administration Commission. It took the China Insurance Regulatory Commission a year to approve Travelers's initial application to begin establishing an insurance joint venture. The two sides now have about six months within which they must formally start operations. Companies are moving quickly to take advantage of new opportunities as more cities open and as foreign insurers gain permission to provide a broader array of services. Aviva recently won approval to open branches selling life insurance in Beijing and in Chengdu, Sichuan, two cities that were opened at the end of 2003, and expects to offer health insurance products after December 11, 2004. Alternatively, some companies have chosen to wait until China has phased in more of its geographic or business scope commitments. Liberty International Holdings, Inc. waited until China's WTO commitments allowing WFOEs in nonlife insurance took effect before setting up its WFOE in Chongqing to offer property and casualty products. The June release of the Implementing Rules of the Regulations on the Administration of Foreign-Invested Insurance Companies should speed up the liberalization process. The capital outlay required to open a new branch was lowered to ¥20 million ($2.42 million), and the stake that foreign companies may buy in Chinese insurers was doubled to 20 percent. When AIG purchased a 9.9 percent stake in People's Insurance Co. of China in November 2003, AIG indicated it might raise its stake when regulations permitted it do so—which they now do. Banking Foreign bankers in China have faced many of the same problems plaguing foreign insurers: high capitalization requirements, lengthy licensing processes, and limitations on business scope. Despite these difficulties, most foreign banks committed to China are finding ways to conduct business profitably. Banks from more than 60 countries and regions had received approval to set up operations by the end of March 2004. This included 195 businesses and 213 representative offices. US-based Citibank, UK-based HSBC, Japan-based Mizuho Bank, and Hong Kong-based Bank of East Asia were first to receive permission to handle renminbi-denominated business for domestic Chinese companies after this liberalization took effect (on time) in December 2003. In early 2004, HSBC joined with Bank of Shanghai, and Citibank partnered with Shanghai Pudong Development Bank, to launch dual-currency credit card services for Chinese individuals. Though foreign firms may not issue their own local credit cards until 2007 at the earliest, the tie-ups present a unique investment opportunity for the two foreign companies to gain strategic market know-how prior to venturing out on their own. In this case, outright prohibition on offering one type of financial service has not prevented foreign players from finding legitimate ways to operate in the market. Media and entertainment The central government has long restricted foreign investment in the content and management of China's media and entertainment offerings. But rising levels of disposable income and greater access to diverse media and entertainment sources have created significant demand for new products, especially among the urban population. This demand, combined with the rapid development of the industry and China's WTO commitments, has pushed liberalization. China accelerated compliance with its WTO commitments in the tourism industry by two years when it issued regulations in June 2003 that permit wholly foreign-owned travel agencies to operate in China. On the management side, Warner Brothers International Theaters, Inc. has been actively forging partnerships with Chinese media or real estate companies to build and operate theaters across the country. Although China only committed to allow foreign minority shares for cinema management, Warner Brothers's October 2003 deal—in which it took a 51 percent stake in a new joint venture with the Shanghai Cinema Group—effectively opened the door to foreign majority ownership in theater management in accordance with the WTO's Most Favored Nation principle. Warner Brothers has not stopped there, reaching out to the Wanda Group real estate company to build 30 multiplex cinemas in North China and the Guangzhou Jinyi Film and Television Investment Co. Ltd. to build at least 10 more in South China. With only a little more than 1,200 cinemas nationwide, compared with 30,000 in the United States, China seems to have ample room for growth in this sector. Authorities have also lifted the ban on foreign investment in film and television content production companies (see the CBR, November-December 2003, p.42). The State Administration of Radio, Film, and Television (SARFT) issued a regulation in October 2003 that permits foreign investment in film production and film technology companies beginning December 1, 2003. Foreign investors may hold majority shares in film technology ventures in certain provinces and cities, and foreign partners may take stakes of up to 49 percent in film production companies. International media giant Viacom became the first foreign company to take advantage of this liberalization when it announced in March 2004 a joint venture with Shanghai Media Group (SMG) to produce Chinese-language children's programming for distribution on SMG's channels. In July, SARFT issued another rule that allowed Sino-foreign co-production of films. Advertising The regulatory environment surrounding advertising and foreign participation in the sector has long been restrictive and haphazard. For instance, one locality may place restrictions on how long an ad may be displayed while another may regulate the size of the ad. Minority foreign ownership was permitted upon WTO entry, with majority foreign ownership to be allowed by December 2003. But because there were no new approval procedures, older rules remained in place that effectively barred foreign majority stakes in advertising joint ventures despite the commitments. In March 2004, the State Administration of Industry and Commerce and Ministry of Commerce (MOFCOM) finally released provisions that permitted foreign majority ownership of up to 70 percent and established a legal framework under which new players can enter the market and existing advertisers can gain greater control over their China operations through branching or acquisition. Although WFOEs will be permitted on December 11, 2005, Star TV, the Hong Kong-based broadcast company, received approval from MOFCOM in July 2004 to establish a wholly foreign-owned advertising company. Star TV qualified to establish the WFOE early through the Hong Kong-PRC Closer Economic Partnership Arrangement. Telecom China's WTO commitments have not provided the access that foreign telecom service providers had hoped for. Since China's WTO entry in 2001, AT&T has been the only service provider approved (for data communications, virtual private networks, remote access, and Internet) but the joint venture is restricted to operating in Pudong and most of the deal was hashed out over several years prior to China's accession. The Ministry of Information Industry (MII) has failed to approve new entrants or lift geographic restrictions and has defined its WTO commitments narrowly. China's 2004 commitments include raising the ceiling on foreign joint venture participation in mobile voice and data basic telecom services to 49 percent and opening fixed-line basic telecom services among Beijing, Guangzhou, and Shanghai to joint ventures in which foreign investors may hold up to a 25 percent stake. But MII's revised Catalogue on Telecommunications Services Classification, issued in March 2003, remains an obstacle to foreign investment because it does not define which items within the revised value-added telecom services (VATS) section are open to foreign investment. MII officials have maintained that the VATS operations listed in China's WTO commitments are exhaustive and that not all VATS operations are open to foreign investment. Additional regulatory hurdles, such as the absence of the much-anticipated telecom law, also inhibit market access. It appears that a final law will not be issued until 2005 at the earliest. This law is particularly important because it will likely outline a framework for network consolidation, interconnection, and universal service provisions, and establish a regulatory authority, which would lower some of the barriers foreign investors face in this sector. Other openings Several other services have opened in notable ways: Auto finance In 2003, the China Banking Regulatory Commission (CBRC) issued rules governing auto-financing activities by nonbank financial institutions. Though consistent with China's WTO pledges, the implementing rules were not only two years late, but impose practical limitations, such as high capital requirements and caps on total lending. Nevertheless, foreign companies have made strides in accessing the market. In 2003, CBRC approved General Motors Corp., Volkswagen AG, and Toyota Motor Corp. to offer auto-financing services. Ford Motor Co. received initial approval this year. Leasing China has yet to issue established, comprehensive, WTO-compliant approval processes for leasing. Yet despite this obstacle, Caterpillar China Financial Leasing Co. received approval in April to establish a wholly foreign-owned leasing company. It will be able to serve its customers after December 11, 2004, when China's WTO commitments take effect. In early 2004, MOFCOM's foreign investment department announced that it was amending the rules that govern foreign-invested leasing operations, with the goal of having new rules in place by the end of the year. At that time, MOFCOM had already received 10 applications from foreign firms to set up leasing businesses. MOFCOM said it would be unlikely to approve all applications, but it would probably select one or two to conduct trial operations of wholly foreign-owned leasing companies. Convention services According to China's WTO commitments, joint ventures with foreign majority ownership in convention and exhibition services were permitted upon accession in 2001. China made no other commitments in this area, but in February 2004, MOFCOM issued rules allowing the establishment of WFOEs, thus exceeding China's WTO commitments. Foreign partners in existing JV companies may choose to buy out their partners, which often happens when complete foreign ownership is allowed in a particular sector. Tourism China accelerated compliance with its WTO commitments in the tourism industry by two years when it issued regulations in June 2003 that permit wholly foreign-owned travel agencies to operate in China. The regulation covers only foreign-majority joint venture and wholly foreign-owned travel agencies established before December 11, 2007, when all geographic, registered capital, and branch restrictions are due to be lifted. JAL International Travel Service of Japan became the first WFOE travel agency shortly after the release of the regulations, while German-based Touristik Union International became the first foreign company to have a controlling stake (75 percent) in a Sino-foreign travel joint venture. Tourism ventures are also riding the coattails of the central government's Great Western Development Strategy, launched in 1998 to attract investment to central and western China (see the CBR, March-April 2004, p.8). Though infrastructure development and manufacturing were the primary targets of the plan, service industries, especially tourism, are finding new areas for investment. For instance, the Sichuan branch of China International Travel Service established a joint venture with American Express Travel in mid-2004 to promote Sichuan and western China. Other companies are setting up small eco-tourism ventures. Education Exploding demand for college-level services has already led to the establishment of joint venture courses or degree programs among a wide range of foreign universities and Chinese institutes of higher education. China's WTO commitments also permitted majority foreign ownership in primary and secondary noncompulsory education services in 2001. As a result, the Ministry of Education has had to revise many rules to offer various types of private, for-profit schools, a significant shift that seems to acknowledge demand for alternative education. Construction With much of China's outdated urban infrastructure straining to provide for ever-larger populations, foreign companies operating in the construction, urban planning, and utilities sectors have long considered China's market ripe for their services. Prior to China's WTO entry, numerous factors, including restrictive PRC regulations and differing local investment procedures, limited broad foreign investment in these sectors. Although new regulations ostensibly opened these sectors to foreign investment, companies still face many hurdles if they want to participate. The former MOFTEC and the Ministry of Construction issued regulations in 2003 that fulfill China's WTO commitment to open the urban planning sector, but the rules include several provisions that have made actual foreign participation difficult. The Regulation on Management of Foreign-Invested Urban Planning Service Enterprises allows joint venture and wholly foreign-owned investment in urban planning, but prohibits foreign investment in comprehensive urban planning, thus limiting foreign investment to "micro-level urban planning." The regulation does not define "micro-level urban planning" or explain how it may differ from engineering or construction consulting services. Foreign construction and engineering companies have also faced numerous difficulties simply maintaining the access they had before China joined the WTO, let alone trying to secure the greater access China's WTO commitments promise. Although regulations technically opened China's construction and engineering sector to WFOEs in November 2002, well ahead of the 2004 deadline, significant implementation problems emerged in 2003 that rendered the liberalization virtually meaningless. High capitalization requirements, the repeal of laws that qualify foreign engineering and construction companies, and other measures, such as the requirement that PRC certification be based on experience in the PRC only, rather than on the company's experience globally, have stalled sector liberalization. Previously, most foreign engineering and design companies operated quite well on a project-by-project approval basis. Their hopes for the construction and engineering sector after China's WTO entry centered on being able to expand as WFOEs. In the current situation, however, companies face more restrictions than ever. Foreign companies are gaining access to China's service market, and their aggressive and creative business models sometimes push PRC regulatory authorities to a broader understanding of what China's WTO commitments mean in practice. One potential bright spot might be in the provision of urban utility services. In 2002, officials at the Ministry of Construction and the former State Development Planning Commission began to comment publicly on the need to open the urban utility sector to foreign investment to alleviate the shortfall of government funds available to maintain the system. The Ministry of Construction allowed several cities to experiment with pilot projects allowing foreign investment in public utilities; Beijing formally opened its utility sector in January 2003. In April 2004, the Ministry of Construction issued rules opening the sector nationwide to foreign-invested enterprises with majority Chinese ownership. The rules guide local governments on how to franchise local public utility supply services in water, natural gas, public transportation, and sewage and solid waste treatment to business entities. It remains to be seen how these new rules will affect foreign investment in the utility sector. Price controls on water or gas, inefficient distribution methods, and lack of comprehensive credit and payment systems still discourage full foreign participation. Serving the people Foreign companies are gaining access to China's service market, and their aggressive and creative business models sometimes push PRC regulatory authorities to a broader understanding of what China's WTO commitments mean in practice. At the same time, powerful government and industry forces actively protect—and in some cases prop up—certain sectors, regardless of the international agreements the government has made. But it is important to understand China's WTO service sector commitments in the context of China's overall economic development. For example, without a modern framework governing mergers and acquisitions, foreign companies would have a harder time breaking into the banking sector (see Box). And WTO commitments cannot translate into market access if other non-WTO related barriers such as inefficient distribution systems and price controls exist. In short, a combination of factors has propelled or limited foreign companies' access to China's service market, and thus, a combination of investment policies, market developments, regulatory reforms, and yes, China's commitment to fulfill its promises, will drive liberalization in the future. M&A Laws Push Sector Openings Many of the investments that foreign companies have made in sectors liberalized since China entered the World Trade Organization could not have been made were it not for substantial changes in the laws governing mergers and acquisitions. Both the Notice on Strengthening the Administration of Examination, Approval, Registration, Foreign Exchange Issues, and Taxation of Foreign Invested Enterprises and the Provisional Regulation on the Acquisition of Domestic Enterprises by Foreign Investors simplify the process by which foreign companies can acquire domestic Chinese firms. Under the new system, foreign investors may now purchase assets in existing domestic companies without creating new joint ventures. They may also invest directly in domestic companies via an asset purchase or the transfer of shareholder rights. Furthermore, the restriction that companies must take a minimum 10 percent equity stake was removed, although in most cases companies are looking to take much larger stakes. With expanded options for mergers and acquisitions, foreign companies are now less restricted in their investment options. —Julie Walton Julie Walton is manager, Business Advisory Services, at the US-China Business Council in Washington, DC. Top of Page Table of Contents
	Permissions Copyright Information Privacy Policy The US-China Business Council © 1997-2008 by the US-China Business Council. All rights reserved.

Departments