An Acronym Investors in Chinese Companies Should Know
1. What is VIE?
VIE is Variable Interest Entity, created to circumvent ownership restrictions of companies in sectors considered sensitivity by the Chinese government. VIEs are contracts that give a foreign-listed company control of a local company without direct share ownership. VIE structure are most common in Nasdaq-listed Chinese internet companies including Baidu, Sina and Renren.
2. What is the risk of VIEs?
The trouble with these contracts is that they are not recognized under Chinese laws. This means that there are no property rights that can be asserted in insolvency. What the invertors should do is to read the label on the can very carefully.
Let’s take Dongfang Shipbuilding, a Chinese Company, whose shares were recently suspended on London’s junior Aim market, as an example:
Exhibit A: Shareholders rights
Due to the restrictions on ownership of shipbuilding businesses in the PRC, the Company can currently own no more than 49 percent of Dongfang Shipbuilding and, as a result, has to rely on the Contract Arrangements to ensure the full economic benefit of Dongfang Shipbuilding as if it owned 100 percent.
Exhibit B: Risks relating to China
Whilst the Company has received a legal opinion from its PRC legal counsel to that effect, there may be a risk that the relevant PRC authorities may determine that the Contractual Arrangements will be considered by the PRC Government, courts or tribunals of the PRC to be in breach of relevant PRC laws, regulations, policies and provisions. In addition, in the future the PRC Government authorities may issue new interpretations and/or issue new laws, regulations, policies or provisions that result in the Contractual Arrangements being deemed to be in violation of the then prevailing PRC laws, regulations, policies or provisions. If the Contractual Arrangements are determined to be in breach of any existing or future PRC laws and regulations, including the article 11 of the New M&A Regulations, the relevant authorities would have broad discretion in dealing with such breach. In the event any of the above was imposed on the Company then the Company may not be able to gain the intended benefit of the Contractual Arrangements and may therefore not be able to gain the remaining 51.0 per cent. economic benefit from the business and operations of DF Shipbuilding. In addition, the Company may also, as a result, lose control over the operations of DF Shipbuilding.