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“Actual Controlling Person” Concept Under PRC Foreign Direct Investment Regime

October 11, 2017

Chinese law has increasingly focused on requiring disclosure of the ultimate beneficial owner behind foreign invested companies.  In this article, we discuss the history behind this trend, explore some of the ambiguities around what constitutes an “actual controlling person,” and discuss some of the practical implications of this trend for foreign investors.

I. History

Starting from April 8, 2015, China’s Ministry of Commerce (MOFCOM) began requiring foreign-invested enterprises (FIEs) to disclose their “actual controlling persons”.  Initially, only FIEs established in China’s free trade zones were subjected to this requirement and, on set up, were required to submit a copy of the certificate of incorporation or equivalent document of their “actual controlling persons”.[1]  However, this requirement was loosely followed in practice due to a lack of standards as to what constituted an “actual controlling person” and a lack of legal consequences for failure to provide such information.  The general practice for many foreign investors was to just submit documentation for the direct shareholder of the FIE without going up the chain of ownership to the ultimate beneficial owners.

On October 8, 2016, MOFCOM promulgated the Provisional Measures on Administration of Filing for Establishment and Change of Foreign Invested Enterprises (the “2016 Measures”), which replaced these FTZ rules.  The 2016 Measures require all FIEs in China to disclose their ultimate “actual controlling person,” together with the “actual controlling person” of their investors, upon establishment of an FIE.  Further, following establishment, FIEs are required to disclose any subsequent change to their ultimate actual controlling person.[2]  On July 31, 2017, MOFCOM amended and updated the 2016 Measures and promulgated an updated version (the “2017 Measures”), which further required FIEs to submit a structure chart showing their relationship to their ultimate actual controlling person both on establishment and in connection with subsequent changes.[3]

Unlike the previous FTZ rules, the 2016 Measures and the 2017 Measures include legal consequences for failure to disclose accurate and complete information on a timely basis as required therein.  Specifically, FIEs can be compelled to rectify non-compliance within a prescribed time frame and can be fined up to RMB30,000 if the violation is severe or if rectification is not carried out on time.[4]  Violations will also be publicized via the foreign investment information disclosure platform of MOFCOM.[5]

II. What is the definition and criteria for an “actual controlling person” under the PRC FDI regime?

The standard of what constitutes an “actual controlling person” has been consistently difficult to pin down under the various iterations of these rules and has been inconsistently interpreted by government officials.  In a press release related to the 2016 Measures, MOFCOM indicated that the term “actual controlling person” should be understood to refer to “any natural person, enterprise, government authority, or international organization that ultimately exercises control over an FIE directly or indirectly through equity interests, contract, trust, or any other means.”  In addition, since October 8, 2016, the form that all FIEs need to complete and submit to MOFCOM’s online filing system (the “MOFCOM Form”) further provides that “control” may be demonstrated through any of the following indicia: (i) holding 50% or more of the equity interests, shares, property, voting rights, or equivalent, whether individually or together with related parties; (ii) holding less than 50% of the equity interests, shares, property, voting rights, or equivalent but with the voting power to materially influence a company’s decision-making body; or (iii) other material influence over a company’s operation decision, human resources, finances, or technology.[6]

The MOFCOM Form attached to the 2016 Measures required FIEs to trace up their ownership chain until reaching a person in one of the following categories: foreign listed company, foreign natural person, foreign government agency (including government fund), international organization, domestic listed company, domestic natural person, or state-owned enterprise/collectively-owned enterprise.  The amendments in the 2017 Measures do not carry over these criteria, but in interpreting the 2017 Measures, there is a general understanding that they still apply.  

III. The “actual controlling person” concept under other areas of PRC law

Other PRC laws and regulations also incorporate the concept of “actual controlling person.”  The PRC Company Law defines an “actual controlling party” as “a party which is not a shareholder of a company but exercises actual control over the company through an investment relationship, agreement, or other arrangements.”[7]

Possibly because there is a longer history, the practice under Chinese securities law of evaluating what constitutes an “actual controlling person” is more developed than the Chinese FDI regime.  Further, while relevant standards and practices in determining an “actual controlling person” for PRC capital market purposes may not be directly applicable for FDI purposes, some of the principles—such as the treatment of financial investors, recognition that in some cases there may be no “actual controlling person,” etc.—might be helpful by way of analogy to address the practical difficulties of foreign investors wrestling with these rules in an FDI context.  Also, as the securities law has been in place for a long time and is well accepted, they may have persuasive authority with MOFCOM.

Under PRC securities law, among the conditions that must be satisfied by a listing candidate is that there has been no change of “actual controlling person” for the issuer in the last two or three years (depending on whether it will be listed on the Main Board or the Growth Enterprises Market).[8]  The China Securities Regulatory Commission (CSRC), in the Notice of Printing and Distribution of its Guiding Opinion on the Understanding and Application of “No Change of Actual Controlling Person” under Article 12 of the Administrative Measures for Initial Public Offering and Listing of Stocks-Opinion No. 1 on Application of Securities and Futures Laws (the “Guiding Opinion”), provides that control over a company refers to “a power to have material influence over the resolution of the shareholders’ meeting or dominance over the action of a company, which originates from the direct or indirect equity investment relationship.[9]  Specifically, in the Guiding Opinion, CSRC provides that “in determining the control of a company, not only the equity investment relationship shall be reviewed, but also a case-by-case study shall be done, by taking into account factors including the substantial influence over shareholders’ meetings and board meetings, and the roles played in the proposal and appointment of board members and the executives for a comprehensive analysis.[10]  In another circular, CSRC provides that an investor should be deemed to have “control” over a company if (1) it is a controlling shareholder holding 50% or more of the shares in the company; (2) it can factually control over 30% of the voting power of the company; (3) it can decide the appointment of half or more of the board directors of the company through the voting power it owns; and (4) it may exert a material influence over the shareholders’ meeting of the company through the voting power it owns.[11]  On top of this relatively clear standard, additional guidance is provided in public securities filings.  We have summarized below a handful of illustrative scenarios that have played out in such filings.

Scenario 1: Controlling shareholder being the “actual controlling person”

The most common scenario occurs, where the controlling shareholder (i.e. holding 50% or more shares, or over 30% of the voting power of a company) is disclosed as the “actual controlling person” of a company. [12]

Scenario 2: Financial investors that do not participate in a company’s operation often not treated as an “actual controlling person” regardless of their significant shareholdings in a company

To the extent that the main goals of a financial investor are to receive investment returns from an investee company, such an investor generally will not be considered an “actual controlling person” of the company if they are not involved in the operation of the company, even if they hold a significant stake in a company.[13]  For example, in the cases of Chongqing Lummy Pharmaceutical and Rongxin Power Electronic, the financial investors were not treated as  “actual controlling persons” even though they held over 25% of the shares in these companies and were among the top two biggest shareholders.  However, please note that the published securities filings do not speak to minority veto rights and whether these might cause an investor to be treated as an actual controlling person.

Scenario 3: “Mutual actual controlling person (共同的实际控制人)” cases under a minority shareholders situation

The Guiding Opinion recognizes that unrelated parties may act as a single control block which should be treated as “mutual actual controlling persons (共同的实际控制人).”[14]  Therefore, where a group of minority shareholders agree to undertake identical actions as “persons acting in concert (一致行动人)” in a contract or through similar arrangements, they may be considered an “actual controlling person” of a company.[15]  For example, in the case of Anhui USTC, shareholdings were widely distributed and no shareholder had 20% or more of the shares of the company.  However, 14 shareholders entered into an agreement and consented to undertake identical actions in shareholder meetings.  Such a block of shareholders as a whole owned about 25% of the company, overwhelming other shareholders and, hence, were found to constitute “mutual actual controlling persons” of the company.

Scenario 4: No “actual controlling person”

The Guiding Opinion allows for the possibility that there may be no “actual controlling person” where the shares of the company are owned by minority shareholders and there is no agreement for concerted action or other similar arrangements among the shareholders.  The standard seems to be whether any of the shareholders (acting in concert by agreement or acting alone) can decide on or exert material influence on the decision-making of the company.[16]  For example, in the case of Chemspark, shareholdings were widely distributed and owned by 34 shareholders.  The biggest shareholder held a 15% interest, with no other shareholder owning a comparable interest.  It was determined that none of the shareholders alone could exert a material influence over the shareholders’ meeting through their shareholdings or voting power.  There was no “persons acting in concert” among the shareholders through agreement, related party relationship, or other arrangement, either.  The company therefore stated in the filing that it had no “actual controlling person.”

IV. What are the practical difficulties in practice in respect of such disclosure requirement for foreign investors?

There is limited guidance on how control is constituted and the guidance does not cover all scenarios in practice.

Despite the imposition of the burdensome disclosure requirement for actual controlling parties, there is limited guidance under the PRC FDI regime on how to identify on “actual controlling person” and how far up the ownership chain a company is required to trace when making a filing.  Moreover, the definition of “control” stipulated under the 2016 Measures is impractical in many cases.  For example, assume a situation where there are ten unrelated shareholders, each holding 10% interests and all are minority shareholders, with no one shareholder “controlling” the FIE.  Another common case might be a complex ownership structure, involving individuals, family trusts, angel funds, and employee equity compensation plans, none of whom has actual control.  It would be difficult to identify an “actual controlling person” in the above scenarios.

In this context, to the extent that the recognition and disclosure of “actual controlling person” under China’s securities laws is well established, it may be a useful benchmark in discussing these issues with MOFCOM.

It is impractical in many cases to trace back to an “ultimate” investors and track the change thereof.

In many cases, an FIE will have limited clarity into the ultimate beneficial owners of its equity.  For example, where an FIE is invested by a private equity fund, it will almost never receive an accounting of the individuals who are the ultimate beneficial owners of the GP.  Furthermore, it is unlikely that an FIE could force disclosure from investors far up its chain of ownership, much less compel timely disclosure of changes in ownership from such investors.

There is limited guidance on how detailed any structure chart should be.

To the extent that foreign investors are required to file a structure chart with respect to their ownership structure, it is unclear from the 2017 Measures how detailed such structure chart should be.  Inasmuch, we have seen inconsistent implementations of this requirement in practice.  For example, different jurisdictions take different positions on whether foreign investors need to list each shareholder or just the “controlling” shareholders.

Different local counterparts of MOFCOM have different level of standards for document acceptance.

Based on an informal survey of filing agents who regularly handle the registration of FIEs, many local MOFCOM officials do not conduct substantial review of the information reported by FIEs and just accept FIEs’ filings at face value on the strength of representations given by the filing party that they will be responsible for the accuracy and completeness of the information submitted.  Many local MOFCOM officials further simply look at the shareholder’s equity ratio in a company when determining who qualifies as an “actual controlling person.”

V. Other Implications of the “actual controlling person” concept

In addition to the strengthened disclosure burden as discussed above, the “actual controlling person” concept may have other implications for foreign investors as well.

More disclosure always comes along with more questions and scrutiny from PRC government authorities.  Insofar as foreign investors have to disclose the ultimate controlling person behind the special purpose vehicles (SPVs) they use, it is uncertain whether the use of SPVs will still be effective to achieve their goals.  For example, historically, offshore NGOs set up SPVs offshore and used those SPVs as direct shareholders to set up commercial subsidiaries in China because it was extremely difficult for offshore NGOs to otherwise establish an office in China.  If the NGO behind an SPV is fully disclosed, it is uncertain whether the PRC government will allow this arrangement and, therefore, whether this arrangement can still continue to work in practice.

In addition, historically, under the so-called variable interest entity (VIE) arrangement, foreign investors could finance businesses operating in an industry that was treated as “restricted” to foreign investment by using a wholly foreign-owned vehicle to control a Chinese entity that possessed a coveted industry license.  Such a contractual arrangement may constitute “control” as defined by the 2017 Measures.  While not currently disclosable (because a VIE is not currently treated as an FIE), the draft Foreign Investment Law published by MOFCOM on January 19, 2015, for public comments proposed that entities registered in China and “controlled” by foreign investors would be treated as foreign investors.  Moreover, to the extent foreign investors are prohibited from investing in an industry that is identified as “prohibited” (and must seek MOFCOM approval for market entry if they plan to invest in an industry that is identified as “restricted”), using a VIE structure to bypass Chinese rules on prohibited or restricted industries could become difficult if the draft Foreign Investment Law were ever adopted and applied the 2017 Measure’s definition of control.

VI. Conclusion

In summary, China’s “actual controlling person” concept under the PRC FDI regime is important for foreign investors not only because it is a question of compliance, but also because it has other market entry implications for foreign investors to consider.  This is an area where limited guidance is published.  However, there are existing benchmarks under Chinese law that may be useful by way of guidance.



* O’Melveny recognizes legal consultant Qianru Hong for her valuable contribution in researching and drafting this article.


[1] Article 11 of Measures for the Recordal Administration of Foreign Investment in China Pilot Free Trade Zones (for Trial Implementation) 《自由贸易试验区外商投资备案管理办法(试行)》 issued by MOFCOM and came into effect on May 8, 2015.

[2] Article 6 of and Appendix 1 to the 2016 Measures, 《外商投资企业设立及变更备案管理暂行办法》.

[3] Article 8 of and Appendix 1 to the Provisional Measures on Administration of Filing for Establishment and Change of Foreign Invested Enterprises (Amended in 2017)《外商投资企业设立及变更备案管理暂行办法》(2017年修订)issued by MOFCOM and came into effect on July 31, 2017.

[4] Article 25 of the 2017 Measures.

[5] Article 23 of the 2017 Measures.

[6] Appendix 1 to the 2016 Measures, the Filing Form for Establishment of Foreign Invested Enterprises《外商投资企业设立备案申报表》, which is still required to fill in under the 2017 Measures based on our experience.

[7] Article 216 of the PRC Company Law公司法, issued and latest amended by the Standing Committee of the National People’s Congress on December 28, 2013 and came into effect on March 1, 2014.

[8] Article 12 of the Administrative Measures for Initial Public Offering and Listing of Stocks (Amended in 2015)《首次公开发行股票并上市管理办法 (2015年修订)》issued and latest amended by CSRC on December 30, 2015 and came into effect on January 1, 2016.  Article 14 of the Administrative Measures for Initial Public Offering and Listing of Stocks on the Growth Enterprises Market《首次公开发行股票并在创业板上市管理办法》 issued by CSRC on May 14, 2014 and came into effect on the same day.

[9] Article 2 to CSRC’s Notice of Printing and Distribution of its Guiding Opinion on the Understanding and Application of “No Change of Actual Controlling Person” under Article 12 of the Administrative Measures for Initial Public Offering and Listing of Stocks--Opinion No. 1 on Application of Securities and Futures Laws 《关于印发 <首次公开发行股票并上市管理办法> 第十二条“实际控制人没有发生变更”的理解和适用证券期货法律适用意见第1号》的通知, issued by CSRC on November 25, 2007 and came into effect on the same day.

[10] Article 2 of the Guiding Opinion.

[11] Article 84 of the Administrative Measures for the Takeover of Listed Companies (Amended in 2014) 《上市公司收购管理办法(2014年修订)》, issued and latest amended by CSRC on October 23, 2014 and came into effect on November 23, 2014.

[12] For example, the case of Ningbo Zhongda Leader 宁波中大力德 (002896). See page 1-1-30 of the prospectus for relevant disclosure, a softcopy of which is available here.

[13] For example, the cases of Chongqing Lummy Pharmaceutical 莱美药业 (300006) and Rongxin Power Electronic 荣信股份 (002123). See page 52 of and page 1-1-47 the respective prospectus for relevant disclosure, a softcopy which is available here and here.

[14] Article 3 of the Guiding Opinion. Such conditions include every party must directly own shares of the company or indirectly own the voting rights of underlying shares, and the mutual controlling shall be clearly stated in proper documents such as the articles of the association, relevant agreements or other arrangements.

[15] For example, the case of Anhui USTC 科大讯飞(002230). See page 1-1-55 of prospectus for relevant disclosure, a softcopy of which is available here.

[16] For example, the case of Chemspark 斯派克 (430392). See page 2 and 16 of prospectus for relevant disclosure, a softcopy of which is available here.


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