Legal risks of the VIE Structure

Statistics from the US Securities and Exchange Commission (SEC) and the Hong Kong Exchange (HKEx) show that in between 1999 and 2010, more than 91 Chinese domestic entities listed on American stock exchanges, including Nasdaq, the New York Stock Exchange and the American Stock Exchange, and eight on the HKEx using the Variable Interest Equity (VIE) Structure. In 2010, there were 38 domestic entities listed by VIE Structure on foreign stock exchanges, including 34 on US Stock Exchanges and four in Hong Kong. The VIE Structure has become a trendy method for Chinese entities to list abroad. However, this structure brings about more legal risks compared to other forms, such as an equity merger.

The VIE Structure is a legal business structure that has been adopted by Chinese domestic entities to realise an overseas listing. It allows an investor to hold a controlling interest in the entity without that interest translating into possessing enough voting privileges to result in a majority. To successfully build up to the VIE Structure, the actual controller of a domestic entity normally establishes or controls an overseas shell company as a listing company at first. Then the shell company or its subsidiary sets up a wholly-owned foreign enterprise (WOFE) in China; and finally the domestic entity, its shareholders and WOFE enter into a series of contracts (VIE contracts).