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July 25, 2014

Investing In the Chinese Health Care Sector: A New Frontier to be Explored with Care

The recent liberalization of the Chinese health care sector offers tremendous opportunities for foreign investors to tap the huge health care service market—which has been long dominated by Chinese state-owned enterprises, without any considerable foreign investment.  However, foreign investors should be mindful of the potential issues and risks when considering an investment in the health care sector in China.

Liberalization of the Chinese Health Care Sector

The Chinese health care industry has traditionally been heavily regulated and dominated by Chinese state-owned enterprises.  Around the time of China’s entry into the World Trade Organization (WTO) in 2001, the Chinese central government began to liberalize the health care industry by issuing relevant regulations to allow foreign investors to set up joint venture (JV) health care institutions in China.  However, various technical restrictions in the actual implementation of these regulations, such as the maximum equity ownership restriction for foreign investors and strict approvals by the central government approvals, did not trigger any significant foreign investment in this sector.

In November 2010, about nine years after China’s entry into WTO, in order to accelerate the stagnated national Medicare reform, the Chinese central government issued the Opinions on Encouraging and Guiding Non-State-Owned Funds to Establish Medical Institutions (Circular 58) to encourage private and foreign investment in the health care sector.  Concurrently, the Chinese central government also delegated the authority to approve the foreign invested JV health care institutions to the provincial approval authorities in a bid to facilitate the establishment of foreign invested health care institutions in China. The Chinese central government also issued various special policies to allow qualified health care service providers from Hong Kong, Macau and Taiwan to set up wholly-owned medical institutions in mainland China. 

In early 2012, the State Council also promulgated the roadmap and implementation plan on health care reform for the 12th Five-Year Plan period (2011–15), which sets forth the objectives and benchmarks of the reform, as well as the goals to be accomplished during 2012–2015.  According to the roadmap, the Chinese Government will continue to encourage the establishment of non-public medical facilities and strives to achieve the goal of having non-public medical facilities provide 20 percent of the total hospital beds and medical services in China by 2015.

Key Issues in Investing in the Chinese Health Care Sector

Despite the Chinese central government’s effort to promote foreign investment in health care sectors, pending Circular 58 implementation rules and given various political and cultural reasons, foreign investors should be mindful of and prepared for the following issues before investing in medical institutions in China.

1.  Regulatory Maze

Like foreign investment in other Chinese industries, a health care foreign investment project will be subject to complicated layers of regulation on foreign investment activities, which China established along with its rapid economic development. These regulations mainly include industry access review, foreign investment review and approval, antitrust review, national security review, tax and foreign exchange regulation or supervision of the sale of state-owned assets, depending on the specific conditions of the deal structures and the nature of the specific target businesses or JV partners.

The principal government agencies responsible for reviewing and approving a health care foreign investment project may include the Ministry of Health (MOH), Ministry of Commerce (MOFCOM); Ministry of Human Resources and Social Security (MOHRSS); the State Administrations of Industry and Commerce (SAIC), of Foreign Exchange (SAFE) and of Taxation (SAT); the State-Owned Assets Supervision and Administration Commission (SASAC); and the China Securities Regulatory Commission (CSRC).  It is never an easy task for a foreign investor to navigate through red tape for a variety of approvals, and to make things worse, foreign investors often have to face the ambiguity of the law and the contradictory views and practices of different government agencies, which result from a combination of fast-changing and unclear laws and regulations and a lack of unified and detailed implementation rules.

It is important to note that, in practice, the relevant governmental authorities, including MOH and MOFCOM, are reluctant to approve direct equity acquisition of the existing medical institutions by foreign investors.

2.  Maximum Foreign Ownership Restrictions

Although the Chinese central government has amended China’s Catalogue of Foreign Investment Industry Guidelines in 2011 (2011 Catalogue) to remove the restriction on the maximum equity ownership of the foreign investors in medical institutions, pending the corresponding revisions in the implementation rules governing the review and approval on the establishment of the foreign invested health care institutes, foreign investors (except those from Hong Kong, Macau and Taiwan, who may enjoy the special policies to establish wholly-owned health care companies in mainland China), are currently still restricted to a maximum foreign equity ownership of up to 70 percent in a foreign invested health care institution. Only in certain provinces in central and western China, where foreign investments are more encouraged, will foreign investors be allowed to own up to 90 percent of the equity interest in a foreign invested health care institution.

Qualified service providers in Hong Kong, Macau or Taiwan can set up 100 percent owned medical institutions in mainland China.  If a foreign investor intends to acquire an entity in Hong Kong, Macau or Taiwan, through which it could enter into mainland China’s medical service market, they should bear in mind that there is a one year phase-in requirement before the acquired company would be considered a Hong Kong or Macau health care service provider.

3.  Minimum Total Investment Requirement

According to Chinese laws, a foreign invested enterprise (FIE) must specify its total investment and registered capital in their legal documents.  The total investment is defined as the total capital a FIE will need to finance its operations, including the share capital or commercial loans, while the registered capital is defined as the share capital the shareholders must pay.  The ratio between the total investment and the registered capital of a FIE must be consistent with the statutory percentages.

In accordance with the Chinese regulations on establishing foreign invested health care institutions, the minimum total investment requirement for each JV medical institution is RMB 20 million (around US $3.15 million), of which US $2.1 million must be paid by the shareholders as registered capital.  According to the recent Administrative Measures for Joint Venture Medical Institutions (Draft circulating for comments) issued by MOH on April 13, 2012, the requirement of the total investment may be raised to RMB 100 million for establishing any JV medical institutions.  Whether or how soon these draft measures will be enacted remains to be seen.

Notably, “chain licensing” is currently not available for foreign invested medical institutions.  Each individual clinic or hospital must be established as a separate JV medical institution and the minimum total investment requirement must be satisfied for each institution.

Registered capital may be paid in installments during the first two years following the establishment of the FIE, and it may be used to finance the operations of the FIE (e.g., paying staff salaries and purchasing operational equipment).  However, a foreign investor planning to start with a small-scale health care institute, may have legitimate concern that unused excess capital will become entrapped in FIE bank accounts in China because they are not allowed to use these funds for other investment or financing projects in China, nor can they repatriate such paid-in registered capital back to their home office without going through the lengthy and complicated approval process for a capital reduction or liquidation of the company.

4.  Access to the National Health Care Reimbursement System

Circular 58 states that non-state-owned medical institutions may be admitted to the health care reimbursement system (HRS) so that patients could get reimbursed mostly, if not totally, for the medical costs from social security funds.  Admission to the HRS is only possible after meeting certain statutory criteria, including adopting health care service and medicine pricing policies as regulated by the government and passing the statutory accreditation tests.  These admissions may be obtained regardless of whether it is state-owned, privately-owned or foreign-invested, and whether it is for a for-profit or a non-profit entity.  However, given the restricted margins in the service pricing policies adopted by the Chinese government, as well as various compliance issues relating to such medical cost reimbursement, foreign investors must be extremely careful when they decide to participate in the HRS.

5.  Compliance Issues

As discussed above, foreign invested medical institutions are, in practice, mainly limited to Sino-foreign JVs. As a result, to establish a new JV medical institution, a foreign investor must cooperate with a local Chinese partner with experience investing in or managing medical institutions.  However, foreign investors may choose to not rely heavily on their Chinese partners when handling the complicated processes for obtaining licenses or managing financial matters, particularly the medical cost reimbursement activities.  In this case, foreign investors’ compliance risks arising from the U.S. Foreign Corrupt Practices Act (FCPA) and Peoples Republic of China Anti-corruption laws are relatively high because of the unsatisfactory overall compliance environment of medical institutions in China.

Conclusion

The opportunities within the health care service market in China, the world’s most populous country with more than 1.4 billion population, are too large to be ignored.  Given the complex regulatory environment and business regulations discussed above, foreign investors should consult with experienced professionals to hammer out their China strategy early in any deal process.

© 2014 McDermott Will & Emery

About the Author

McDermott Will & Emery is a premier international law firm with a diversified business practice. Numbering more than 1,100 lawyers, we have offices in Boston, Brussels, Chicago, Düsseldorf, Frankfurt, Houston,...

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