Foreign investors looking to expand their business in China may consider using offshore companies, a practice popular among businesses and individuals. However, entering into a contractual relationship with an offshore company could present certain risks, especially in the manufacturing industry.
When entering into a manufacturing agreement, a binding contract should be drawn up with the company which is actually producing the goods. In some cases, an offshore company owns a Chinese corporate entity, which in turn owns the manufacturing facility in China that will make the products. This type of structure won’t protect the interests of a foreign party if problems arise.
Challenges of Offshore Jurisdiction
It is important to be able to confirm the existence of an offshore company before doing business, but some offshore jurisdictions do not provide such information in a timely manner.
Though some jurisdictions will provide this information free online in just a few seconds, others could take much longer and require payment. In Hong Kong, there is no charge for confirming that a company exists, but the search may take long because the Companies Registry now requires identification details.
Legal Risks
When confronted with a lawsuit, an offshore company could claim that it had no control over the activities of the Chinese entity and therefore has no legal responsibility. It is common that the offshore company’s management consists of someone who serves as director, who may never have been in China, or dealt with factory in question.
Faced with the possibility of legal trouble, the corporate structure could be changed so that the offshore company no longer owns the China factory or dissolved completely. At that point, the offshore company becomes irrelevant. In this case, the offshore entity was simply being used as a façade.
Identifying Manufacturers
An offshore company that claims to be a manufacturer in China may be a sign of trouble. Someone who actually runs a factory in China will have no choice but to form a corporate entity – even if it is overlaid by a Hong Kong or offshore company.
It is easier and cheaper for an intermediary taking orders and passing them to Chinese factories, to set up an offshore operation than to create a proper corporation in China.
When choosing manufacturers in China, offshore corporate entities should raise immediate red flags. Legal recourse could be almost impossible given their detachment from actual production.
Executing proper due diligence and creating a binding contract with the Chinese entity responsible for manufacturing the products is the best route, instead of falling for false assurances.
Before going into business with any offshore company, foreign investors should trace the ownership path to its origin to cut through any corporate veils.
Woodburn Accountants & Advisors is one of China’s most trusted business setup advisory firms.
Woodburn Accountants & Advisors is specialized in inbound investment to China and Hong Kong. We focus on eliminating the complexities of corporate services and compliance administration. We help clients with services ranging from trademark registration and company incorporation to the full outsourcing solution for accounting, tax, and human resource services. Our advisory services can be tailor-made based on the companies’ objectives, goals and needs which vary depending on the stage they are at on their journey.
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