IS A SHATTERED VASE STILL A VASE? VALUATION OF CHINESE VIE STRUCTURES

Abstract

The Chinese Variable Interest Entity (“VIE”) structure, which seeks to grant foreign investors with the right to legal and economic rights in domestic Chinese companies, has gained much negative press in recent years due to the scandals plaguing them – from the directors of these VIEs who divested subsidiaries without the parent’s knowledge to ex-Chairmen who refuse to return the VIEs’ seals. The fundamental issue of the legality and enforceability of these contracts stands on tenuous grounds due to Chinese laws which prohibit foreign investments, and threaten to break the contractual glue affixing the VIEs’ shareholders’ rights with the parent company. This thesis argues that regulators, listing controllers, and investors should be more wary of the problems surrounding these entities. Regulators of accounting rules should re-examine the rules for the consolidation of entities as the substance over form approach under the accounting rules for VIEs (which was intended to rein in offbalance sheet liabilities) has been made use to incorporate positives to the firms’ balance sheets, which should be grounds for separate treatment. Lastly, this thesis seeks to show the markets’ perception of these VIE structures, from a long-term perspective as well as its reaction to the valuation of such structures postnegative news announcements on the VIE structures’ potential enforceability. It finds that the market has discounted listed firms with VIEs, it is submitted that it would be in the best interests of the firms and the regulators to allow for direct equity ownership of the VIE without the use of such convoluted mechanisms.