Navigating the software as a service sector in China
Software as a service (SaaS) is a growing market in China. The current Chinese laws and regulations impose investment or access restrictions on foreign companies seeking to provide SaaS directly to Chinese clients. Several options may be available to Canadian companies wishing to enter this market, depending on their available resources and chosen business models.
Option 1: licensing agreement with a Chinese company
A Canadian company can sign a cooperation agreement with a Chinese partner, licensing its SaaS product to its Chinese partner. This is the most common way of offering foreign SaaS in China. The Chinese company is responsible for the localization of the product and acts as the "developer," while the Canadian company acts as the "service provider" to the Chinese company. In this scenario, the Chinese company is fully responsible for the website's contents, must apply for the commercial Internet Contents Provider (ICP) license, and signs service contracts with clients in its name.
This arrangement enables Canadian SaaS to be installed on a server or a cloud platform located in China. The Chinese partner takes the burden of obtaining a commercial ICP license. However, this means that the Canadian company neither directly offers its SaaS products in China nor controls the China servers. The Canadian company would have to consider protection of its intellectual property and accuracy of royalty payments from the Chinese partner.
Option 2: operate remotely via resellers
A Canadian SaaS provider can keep its servers outside China and provide service to a Chinese client through a Chinese reseller. The client receives a user name and a password that can connect to the foreign servers hosting the SaaS products. The reseller collects the fee from the client and remits the money to the Canadian company after deducting taxes. This option relieves the Canadian company from applying for an ICP license. Pricing would have to factor in remuneration for the Chinese reseller.
The downside of this option is the variable connection speed and the risk that access to foreign websites may be blocked by Chinese firewall. A Chinese client could use a corporate virtual private network (VPN) to ensure access to offshore servers. However, the Chinese government permits only corporate VPNs supplied by three Chinese state-owned telecommunication companies – China Mobile, China Unicom and China Telecom. These VPNs are usually costly, which may reduce the attractiveness of this option for Chinese clients.
Option 3: joint venture (JV) with a Chinese company
Setting up a joint venture (JV) is the only way that a Canadian SaaS provider can legally operate its business in China under its name due to current investment restrictions in the SaaS sector under Chinese law. The JV can apply for a commercial ICP license and offer SaaS to clients directly.
The costs involved in the application can be high. For example, the registered capital of the JV must be more than RMB 10 million for cross-provincial business, and more than RMB 1 million for a business within a single Chinese province. The share of the Canadian company in the JV is capped at 50%. The approval takes about three months, and costs can exceed RMB 200,000. Each year, only a minimal number of approvals are granted.
If the services of the JV involve news, culture, publishing, education, healthcare, medicine and medical devices industries, approval from sectoral regulators is also required before proceeding with the commercial ICP license application.
Note on variable interest entities (VIE): There are examples of foreign investors being able to participate in sectors not officially open to such foreign investments in China under the Foreign Investment Law. The use of variable interest entities (VIE), is a grey area under Chinese law. There is an elevated risk that a foreign investor may not be able to defend their interests in case of a dispute effectively. In any event, the resolution of such disputes may be costly. Canadian companies should consult qualified counsel and fully evaluate associated risks.
Cyber and data regulations
China's cyber and data regulations are important considerations for SaaS vendors in China. Canadian companies are strongly recommended to familiarise themselves with China’s cybersecurity regime, in particular the requirements on cross-border data transfer, to assess the potential impacts on their business in China. For more information about China’s cyber and data regulations, please contact the Trade Commissioner Services in China.
Canada's Export Controls Regulation is another important consideration for Canadian SaaS vendors, especially if the software has applications in sectors that are considered dual-use, such as aviation, nuclear, new materials, information and communication technology, etc. Please refer to the Export Permits for Cryptographic Items page of the Export Controls Division of Global Affairs Canada for more information, including applying for a permit.
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