With China’s economy slowing, our China lawyers are getting an increasing number of calls from US and European companies seeking our help in closing down their China WFOEs. Most of these WFOEs were formed within the last five to ten years and most of these WFOEs never did well in China. None of that should be surprising, but what should be surprising is that in about half the cases, the WFOEs were never really necessary and should never have been formed in the first place. In this post we discuss, very generally, when a WFOE is required.
But before I do that, I want to explain, at least briefly, why so many China WFOEs get formed when they are unnecessary: money. Plain and simple. The typical US or European company goes to a China entity formation company and says “I want a China WFOE” and the typical China entity formation says, “sure, let’s get started.” At no point in the process does anyone ever analyze whether a China WFOE makes any sense at all for the US or European company and at no point at all does anyone ever analyze whether forming a China WFOE is the best way for the American or European company to begin doing business in China or with China.
My firm’s China attorneys take the completely opposite approach. When someone tells us that they want our help in forming a China WFOE, our first question is: “Why do you think you even need one.” With the both the costs and the difficulties of doing business in China as a WFOE always rising (and that rise has only accelerated in the last few years), this question has become an increasingly salient one. In determining how to go into China, there is absolutely no “one size fits all” solution and for most companies, there are a whole host of options short of forming a China WFOE.
My goal with this post is not to tell anyone how they should conduct business with China. Rather, it is to try to reduce the number of companies that form a China WFOE simply because they did not realize that they had other options. My goal is to make you at least thing
Going into China as a Joint Venture is one option. China joint ventures actually tend to be more complicated, more difficult and more rife with potential downsides than even a China WFOE, but there are absolutely times when they make the most sense. To learn more about China Joint Ventures, I urge you to read some or all of the following:
- How Not To Write A Joint Venture Agreement
- China Joint Ventures That Work
- Chinese Joint Ventures — The Information The Chinese Government Does Not Want You To Know
- Avoiding Mistakes in Chinese Joint Ventures
- Love The One You’re With. When China Joint Ventures Make Sense.
- China Joint Ventures. Who’s Your Partner?
- Joint Venture Jeopardy
Opening a China Representative Office is another entity alternative to doing a China WFOE. In the good old days (say 7-8 years ago), Rep Offices were oftentimes a good way for foreign companies to test the China market. Forming a Rep Office was (and still is) considerably cheaper and easier than forming a Wholly Owned Foreign Entity (WOFE) or a Joint Venture and yet by doing so, the foreign company could enter China on its own. The problem with China Rep Offices today, however, is that the Chinese government has so limited their range of activities and taxes them in such a strange and potentially repressive way that they rarely make sense for most companies seeking to do business in China. For more on what is involved in setting up a Representative Office in China and the pros and cons of doing so, check out the following:
- How To Start A China Business — Representative Office
- Setting Up Your China Rep Office. What It Really Takes.
- The Slow Death Of The China Rep Office.
- Representative Offices In China. Things Just Got More Difficult/Expensive…..
- The China Representative Office (RO). Got WFOE?
But for many companies seeking to do business with China, neither a WFOE nor a Joint Venture, nor even a Rep Office makes sense. For many companies, their best option for doing business with China is to not have any China entity at all. When a US or European company calls my law firm wanting “to go into China,” our default position is to try to figure out how that company can achieve its China goals without going into China at all. Setting up and running a company in the United States or in England or in Germany or Australia or wherever our client happens to come from is difficult and time consuming and expensive doing the same thing in China even more so, even ignoring the language and cultural difficulties.
But what are the alternatives to “going into China” via a WFOE, a Joint Venture, or a Rep Office? Many foreign companies have no real desire to go into China at all; heir real desire is to make money from China by selling their product or service or technology to China. When you look at their situation that way, Looking at it that way, three additional options should spring to mind:
- Selling product into China via a distributer or distributers based in China.
- Selling product into China simply by exporting it from your own country.
- Licensing or selling a brand name or a technology to a company in China.
Way back in 2012, we did a post, Selling Your Product To China Through A Distributor. Just The Basics. on how distributorships are a viable option for product into China without having to form a China entity to do so:
I often get calls from companies that want to get their product into China or increase sales there. Many times, they are under the false impression that they have only two choices to accomplish these two things: go it alone or form a joint venture with a Chinese company. Entering into a distributorship relationship with a Chinese company (or companies) is another option. From a strictly legal perspective, distribution relationships between foreign and Chinese companies are fairly straightforward and are far easier and generally less risky than joint venture deals and typically far less costly and time consuming than going it alone.
From a business perspective, taking most products into China (be they industrial or consumer), marketing it, selling it, and then delivering it, is a massive task for any foreign company. I hate to trot out a cliche, but China is a big and diverse country and it should be viewed as many markets, not just one. Yet with China’s wealth rapidly increasing, it is the rare company that is not at least desirous of adding China to its list of markets. China is becoming a consumer/buyer nation.
For more on China distributorship relationships, and to get a better feel for whether such a relationship might make sense for your business, I suggest you check out the following:
- China Distribution Agreements In Real Life
- Getting Your Product Into China Via Distributorship. A Legal Piece Of Cake.
- China Distribution Agreements: Exclusivity Is NOT Required
- Selling Your Product In China Through A China Distributor. Easy-Peasy.
Licensing and Technology Transfer arrangements are another option for monetizing your product, name or technology in China without actually forming and operating a Chinese company. In a licensing or technology transfer deal, the foreign company sells (essentially leases) rights to a Chinese company for a limited geographic area (maybe just China) and/or for a limited time or sometimes even for everywhere and forever. This sale of rights too can be limited geographically or even by product. For instance, XYZ foreign company may make 20 different products but license or sell rights to use its name and product technology and product IP (such as patents) for only one or two of its product and limit that license right even further by limiting the geographical use to just China or even just one city in China. For more on China licensing agreements, check out the following:
- China Licensing Agreements: The Extreme Basics
- China Technology Licensing. Sometimes It Makes Perfect Sense.
- Eight Tips For Your China Licensing Agreement
Lastly, and certainly not least, is the option of simply selling and exporting your product into China from your own country. We have clients who have done this particularly successfully with things like industrial equipment, where there is a real and perceived benefit to having the product made in the United States. For these clients, selling from the US and shipping from the US works just fine because the price of their products are so high (typically $100,000 and up) or the prestige factor is so tied to their foreignness (we are seeing this more and more with consumer and food products) that shipping costs are not that big a factor. For more on this straight selling and exporting method, check out the following.
- Selling Your Product Into China. What You Need To Know.
- Six Strategies for Exporting to Asia/China
- Selling Into China. Because There Is Lots Of Money To Be Made.
- Selling Product Or Services Into China. No Business License Required.
- How To Manufacture In AND Sell In China Without A WFOE
Yes, oftentimes, forming a China WFOE is the best or only way for you to conduct business in China. But oftentimes there are other and better ways for you to do so.
To read our previous nine posts in this series, just work your way backwards, daily by date.