News & Events

Cleantech Investing in China: Issues & Prospects

The last 12-18 months have seen a dramatic rise in cleantech investments involving China. According to a Cleantech Group report issued in January 2010, Chinese companies raised $331 million in 2009 in venture capital investment in eight sectors: energy generation, materials, transportation, recycling, agriculture, energy efficiency, energy storage and wastewater. Nearly half (47%) of all the cleantech companies that went public worldwide in 2009 were in China. This activity has essentially followed PRC government’s increased commitment to the development of a robust domestic cleantech industry, creating opportunities for Chinese and overseas companies. During the same period, investing in China generally (in cleantech or otherwise) has continued to present investors with rapidly evolving regulations and issues that must be identified and addressed early on in a transaction. Successful solutions to these issues facilitate not only economic returns but also – assuming the US and China are able to navigate the currently choppy waters of their relationship and work cooperatively on climate change – promote the broader goal to protect the environment.

Cleantech Investment and Production Trends in China

China policy decisions on development funding are making their mark: the PRC currently produces about a third of the world’s photovoltaic solar panels each year and now ranks fourth in the world in wind energy capacity. The Chinese biofuel and alternative energy auto industries are also growing, the latter highlighted by the recent transformation of BYD, a Chinese company, from a mobile telephone battery-producer to a front-runner in the electric vehicle industry. Finally, the government’s $2.9 billion electric automobile development program has already resulted in the sales of 13,000 electric automobiles in 13 cities in China.

A significant parallel development is the rise of funds formed onshore in China. Denominated in local currency, renminbi (RMB), industry sources indicate:

  • National Development and Reform Commission (NDRC)1 counterparts have approved 90 RMB funds since 2006.
  • In 2009, RMB funds raised RMB128 billion to invest in China, up 227% from 2008. Average fund size RMB1.65 billion ($240 million).
  • In 2009, RMB funds constituted 89% of all VC funds raised for China.
  • Although they present potential conflicts of interest and economic issues from the perspective of existing offshore LPs, a number of foreign VC funds that are active in China have already set up RMB funds.
  • Major PE funds including Blackstone and Carlyle have announced plans to establish domestic fund operations in China.

Part of their allure may be that RMB funds enable more rapid time-to-closing for investments, generally requiring only a local filing with, rather than an affirmative approval from, PRC government authorities. Also, recent rules which take effect in March 2010 will allow foreign investors to establish foreign-invested partnerships (FIPs) on their own or in cooperation with domestic individuals or enterprises. In a departure from previous regulations, FIPs can be established with only a registration with a local branch of the State Administration of Industry and Commerce rather than an affirmative approval from the PRC Ministry of Commerce (MOFCOM) which previous regulations require.

In light of these trends, RMB funds will play an increasingly significant role in the financing and development of cleantech companies with operations in China.

Transaction Issues

FDI Regulation

The starting point for any legal analysis of a foreign direct investment (FDI) in China is the Foreign Investment Industry Catalogue, which, on a by-industry sector basis, sets forth permitted ownership levels and forms of foreign investment in China2. FDI in several cleantech industries, such as wind power, solar energy, pollution control, waste disposal, recycling and environmental protection equipment, are in the “encouraged” category, which generally means that FDI in such areas may be afforded simpler and quicker investment approvals by local or provincial authorities. Biofuel production, in contrast, is a category restricted to FDI and thus requires provincial or central government level approvals, depending on the size of the investment.

In addition, there are restrictions on the level of foreign ownership that may impact investment in certain cleantech sectors. A clean development mechanism (CDM) project, for example, may only have a maximum of 49% foreign ownership, unless the foreign party is a Hong Kong company. FDI in the automobile manufacturing and research and development sectors (eg, electric cars) may not exceed 50%. Further, FDI in “new energy” power generation equipment or key related equipment manufacturing may only be undertaken as a Sino-joint venture: photovoltaic, geothermal, tidal, garbage and biogas power generation, and wind power generators of 1.5 mW or more. Other sectors – for example, water, environment and public facility management – require that the Chinese party in a joint venture hold the majority of the shares.3

Structuring Issues

In the past, foreign investors including VC and private equity funds have generally preferred to invest in Chinese businesses wherever possible using offshore holding structures since these provide 1) a generally more flexible capital structure, 2) the ability to minimise the need for PRC regulatory approvals upon an exit event and 3) the ability to access offshore capital markets in either the US or – as is becoming increasingly the preference of China-based businesses – Hong Kong. However, as a result of the effect of the Principles on the Merger and Acquisition of Domestic Enterprises by Foreign Investors (M&A rules)4 and related rules promulgated by the PRC State Administration for Foreign Exchange (SAFE), FDI, rather than indirectly offshore into a holding company that controls such enterprise, is in many cases the only available structure for investing in a Chinese business, cleantech or otherwise. The M&A rules effectively prohibit “round-tripping” investments, whereby onshore equity interests or assets are exchanged for shares in an offshore holding company. Prior to the effectiveness of the M&A rules, such investments were used to restructure domestically-owned companies into offshore holding companies controlling domestic operating subsidiaries.

The result is that the large majority of domestic Chinese enterprises financed with foreign capital that were not already structured and owned offshore as of September 2006 are structured as onshore joint ventures which themselves cannot be listed offshore and need to be restructured into joint stock companies prior to listing on the PRC domestic A-share market, each of which options requires further regulatory approvals prior to any sale or domestic listing in China.

Other Issues

Foreign Exchange Controls

The RMB is still not freely convertible, so a joint venture or other domestic entity must apply for registration with the local branch of SAFE before it can apply to designated foreign exchange banks for the opening of a foreign exchange account. For foreign exchange loans from offshore, registration (but not prior approval) is required and the loan amount is limited. All payment of principal and interest on external debt must be approved by SAFE.

Taking Security Onshore in China

Governmental registration and/or approval with various regulatory authorities is required for most onshore security arrangements. In practice, obtaining the required registrations or approvals for foreign security granted for the obligations of a third-party has been difficult, rendering the enforceability of a foreign guarantee or security questionable at best under Chinese law.

Given onshore enforcement issues, the common approach is to structure transactions with bona fide offshore security, where practicable. For example, in a recent senior secured financing by a global investment bank to a cleantech manufacturer in China, the loan to an offshore parent company (to avoid domestic PRC registration) was secured by shares in an offshore listed affiliate (to avoid challenges with obtaining and enforcing on security in China). Since the pledged assets frequently are shares in offshore holding companies and/or bank account proceeds located in multiple tax-efficient jurisdictions, it is vital to work with local counsel early on in the transaction to confirm a clear mechanism enabling rapid and reliable enforcement on the pledged collateral.


Since the effectiveness of the PRC Anti-Monopoly Law (AML) beginning in August 2008, any analysis of a significant investment or acquisition must account for a potential notification filing with and review by the Anti-Monopoly Bureau of MOFCOM.5

In addition to review of reported transactions, MOFCOM is empowered under the AML to investigate whether non-reportable transactions are likely to eliminate or restrain competition. Accordingly, for transactions that raise substantive issues, parties may need to consider voluntarily notifying MOFCOM if they wish to minimise the risk of a post-closing enforcement action (eg, required divestitures or unwinding of transaction).

For transactions that require a notification, China’s anti-monopoly law prohibits the parties from closing until MOFCOM issues a decision that no further examination is required or the applicable waiting period expires (which could be up to 150 days). Parties should be cognizant of this fact when planning timetables for a deal and should allocate sufficient resources to the information assembly and related tasks necessary to gain prompt merger clearance. For transactions that parties anticipate may be likely to attract MOFCOM attention, early assessment should be made with respect to whether pre-filing consultations with MOFCOM are appropriate and at what point preparation of the notification filing (or other submittal) should begin, if needed.


China is emerging as a global leader in the cleantech industry and significant opportunities exist for savvy investors and for companies with innovative technology that China needs and does not yet have (or in which the locally developed forms lag foreign counterparts). At the same time, investors should be prepared to navigate vaguely-drafted regulations and the issues presented thereby as well as structural and other issues. It is critical to identify and address potential issues early on in a China cleantech transaction to realise economic success and environmental benefits.

Chuck Comey is managing partner of Morrison & Foerster’s Shanghai office.

This article first appeared in NVCA Today (Pg 9, First Quarter 2010 issue). For more information, please go to


1 The NDRC (??????????), formerly known as the State Planning Commission and State Development Planning Commission, is a macroeconomic management agency under the PRC State Council which exercises broad administrative and planning control over the Chinese economy. The functions of the NDRC are to study and formulate policies for economic and social development, maintain the balance of economic development, and to guide restructuring of China’s economic system.

2 The Catalogue classifies industries into four categories, ie, “encouraged projects”, “restricted projects”, “prohibited projects” and “permitted projects”. Industries not specifically designated by the Catalogue as falling within one of the first three categories by default fall into the permitted category. Foreign investments in encouraged and permitted categories below an investment value of $100 million are generally subject to simpler and quicker approval reviews by the local or provincial counterpart of MOFCOM, the relevant PRC approval authority. Larger investments or investments in restricted categories may require provincial or central level MOFCOM approval, which is generally slower and sometimes more challenging to obtain.

3 Circular Abolishing the Requirement on the Rate of Localisation of Equipment Procurement on Wind Power Projects (???????????????????????) (NDRC Energy [2009] No. 2991) issued by NDRC on 25 November 2009.

4 The M&A Rules were jointly promulgated on 8 August 2006 by MOFCOM, SAFE and four other government agencies, effective 8 September 2006.

5 Under regulations promulgated under the AML, mergers, acquisitions (including potentially minority investments resulting in a de facto acquisition of control) and joint ventures in which one party is deemed to acquire control require a pre-transaction notification to MOFCOM if at least two parties to the transaction each had revenues exceeding RMB400 million (or $57.8 million) and all parties to the deal had either RMB10 billion (approximately $1.47 billion) in global revenues or RMB2 billion (approximately $293.4 million) in China revenues during the proceeding fiscal year.