China WFOE Formation and Management Structures

Many believe forming a China WFOE consists mostly of filling in lines on an application and submitting it to a China government office and then sitting back and waiting. If you share this belief you are, among other things, completely ignoring all that goes into deciding how to manage the WFOE once formed. I was recently cc’ed on the below email a from one of our China lawyers to a client explaining to the client the initial issues involved in determining a WFOE’s management structure:

We will need to determine how to set up management of your WFOE. The issues are below.

For a PRC WFOE, there are three layers of management:

  1. Board of directors/legal representative.
  2. General manager.
  3. Supervisor.

You will need to decide on each. Here are the issues:

  1. Board of directors. There are two choices:

Option A: Board of a directors: Three or five person board of directors. The Chairman is the legal representative of the company.

Option B. One person managing director. The managing director is the legal representative of the company.

The Chinese system is different from the U.S. system. Under the Chinese system, the person who represents the company for execution of contracts and for execution of government reports and similar is not the CEO/President selected by the board of directors. Rather, the Chairman of the Board/Managing Director is the legal representative of the company and is the person who takes on that role. For this reason, the Chairman/Managing Director is involved in the day to day operations of the company in a way that is very different from the U.S. system where the director does not get involved in day to day management.

Note also that the role of general manager will be discussed below. It is permissible for the Chairman/Managing Director to also serve as the general manager of the PRC corporation.

It is not required that any director be a Chinese national or a resident of China.

2. General manager: The WFOE is required to appoint a general manager. The general manager is an employee, appointed by the board of directors. The general manager is charged with the management of the day to day operations of the company. Usually, the general manager will control the banking relationship and will have direct contact with the local government on tax and operational issues.

It is not required that the general manager be a Chinese national or a resident of China. Note, however that since the general manager is responsible for the WFOE’s day to day business operations, it can be awkward if the general manager is not resident in China.

As noted above, it is permissible for the Chairman/Managing Director to also be appointed as the general manager. Note also, however, that this dual role results in great power being held in the hands of a single individual.

3. Supervisor. The supervisor is charged with monitoring the performance of the board and the general manager on behalf of the shareholders. For most WFOEs, the supervisor post is not significant. However, Chinese law requires that a supervisor be appointed. The supervisor cannot be a board member or the general manager. Typically, U.S. companies appoint the CFO of their company to be the supervisor.

As you can see, there are many options for management. Within this set of options, the typical single shareholder WFOE management structure is as follows:

1. Single managing director who has active supervision over the shareholder. This person is usually resident in the U.S.

2. General manager who is an employee resident in the China office. This is a close call. Some companies chose to appoint a general manager who is an employee of the U.S. shareholder but who is not resident in China. This is usually done only when that general manager will be spending a substantial amount of time in China. A completely non-resident general manager is possible but unusual.

3. Single supervisor who is the CFO of the shareholder.

Though the above is the most common management arrangement, there are many alternatives which can be adapted to your specific needs. Usually the most difficult decision is in selecting the appropriate general manager.

Please consider the above before we talk tomorrow.

As is true of so many things related to China law, setting the right foundation at inception will virtually always be cheaper and better for you in the long run. My law firm’s China attorneys are often consulted by companies whose WFOEs have “gone rogue” because of a bad management structure and those situations are nearly always very difficult and very expensive and oftentimes downright ugly to resolve. Don’t let that sort of situation happen to you.