China’s Encryption Law & Its Key Features

china law

China’s National People’s Congress passed the Encryption Law. Consistent with prior drafts, the Encryption Law defines “encryption” as “technologies, products, or services applying specific transformations to information to effect encryption protection or security authentication” (Article 2).

 

According to DLA Piper, the new encryption classification: encryption products, technologies and services will now be categorized into three tiers: “core”, “ordinary” and “commercial”. The first two tiers will be used to protect “state secrets”, and so will be more heavily regulated than the latter (i.e., state-monitored security assessments and audits may take place during the development, implementation and maintenance of such technologies; and it appears that only local PRC vendors may be entitled to sell and provide such technologies). It is anticipated that most businesses will only be dealing with “commercial” encryption, but organizations will need to check this is the case.

Key features of China’s encryption law for foreign companies

  • Foreign companies can participate. The law requires local governments not to discriminate against foreign-funded players and encourages cooperation on commercial encryption.
  • Local authorities are to include encryption in economic and social development plans and fiscal budgets. While the law does not state specific amounts, it could help local encryption startups.
  • Commercial encryption services must pass checks and obtain certifications if they involve national security and public interest.
  • Those that fail to use commercial encryption in accordance with this law and refuse to correct their actions will be fined between RMB 100,000 and RMB 1 million.

 

Under the new law, commercial encryption is no longer considered a state secret. This is a significant change from the current regulatory position and lays the foundation for liberalizing the production, sale and use of commercial encryption.

To ensure compliance, China will set up a system to “test and authenticate” commercial encryption products to ensure they comply with technical specifications and regulations, with the Office of State Commercial Cryptography Administration (OSCCA) charged with conducting inspections.

China regularly conducts mass surveillance on digital conversations and can force companies to both store data locally as well as turn it over on request. It likewise has the power to shut down services or entire products in response to security incidents.

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Strategic Advantage of Forming Joint Venture in China

A joint venture (JV) is a business arrangement in which two or more parties agree to pool their resources for the purpose of accomplishing a specific task. A joint venture might involve two companies with different areas of expertise working together to create a new product or provide a new service. Common joint ventures involve the utilizing of assets, not just financial, which one business has, and the other does not have at their disposal.

 

Joint Venture a Useful Tool for Doing Business in China

Joint ventures are a commonly used company structure in China. setting up a joint venture may be a strategic investment vehicle for market entry or expansion into China – one that allows investors to reduce their risks while gaining access to local networks and resources.

 

Types of JV in China

There are two types of joint ventures that are quite popular among the foreign businesses willing to set up a business in China.

 

  • An Equity Joint Venture (EJV) is a limited liability company where profits and losses are distributed by the ratio of capital contributions.
  • A Cooperative Joint Venture (CJV) may be structured as a limited liability company or a non-legal person entity where profits are distributed in any agreed way.

 

Foreign investment in China is subject to the relevant restrictive and prohibitive measures provided for under the Special Foreign Investment Access Administrative Measures (Negative List). Under the latest 2019 Negative List, foreign investment in certain sectors such as the manufacture of whole automobiles (except for special-purpose automobiles and new energy automobiles), medical institutions, education institutions, etc, must be partnered with Chinese investors in the form of EJVs or CJVs.

The China International Trust and Investment Corporation is responsible for working with foreign investors in finding business opportunities in China and assisting them in negotiating the terms of the joint venture. The recently enacted Labor Management Regulations must also be consulted by the parties since these regulations provide guidance on some of the more essential issues involved in management and labor relations.

Joint ventures are formed in a wide variety of sectors and industries in China.  Foreign companies can invest in businesses that are restricted by the government to Chinese companies. Certain sectors are reserved only for Chinese entities or JVs. Chinese partner likely already has experience doing business in China. The Chinese partner can handle all application and registration matters on behalf of the JV.

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