The Chinese Securities Regulatory Commission (CSRC) has warned investors, through an internal memo, of the use of variable interest entities (VIEs).
The VIE structure has been used by foreign investors to enter industries where China has restricted or prohibited investment by foreign nationals. Typically, Chinese founders of a Chinese company who hold the license to do business in China in a heavily regulated industry will invest in an offshore company along with foreign investors. The offshore holding company will, then, create a wholly-owned subsidiary of the holding company in China. This company will enter into agreements with the original Chinese company holding the business licenses. The offshore holding company, thus, may control the domestic companies via the contracts.
The memo has alleged that VIEs may be a threat to national security. The memo has not, yet, been officially endorsed by the CSRC or the State Council, but if the memo is (could be going through the procedure now) we could see a quick backlash by the government. The backlash could include the invalidation of agreements between the subsidiary of the offshore holding company and the China company holding the licenses.
The backlash is not likely to come soon and the memo seems to insinuate that present VIEs will be safe, but structuring any new deals in a VIE structure is dangerous business than can be handled in other less risky manners.
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