Today I would like to introduce the theme of the “share swaps” as it represents a new way to acquire a listed company in China. This new method of acquisition was introduced by the M&A Regulations 2006 (available at the following web-site:
http://english.mofcom.gov.cn/aarticle/policyrelease/domesticpolicy/200610/20061003434565.html
).
Share Swaps
: The New Method to Acquire a Domestic Enterprise (DE)
The newest hot topic in China is
Share
Swaps
.
Share swaps represent a critical development in the M&A panorama. This not only represents a new form of payment for a target (listed) company, but also a newly allowed form of investment to establish a presence in China. Basically the shares of an existing company (or of a newly established company, namely the Special Purpose Vehicle or “SPV”) are used as consideration for the shares of the target company. Except for SPVs, only companies listed on recognized stock exchanges may use equity for acquisition in China (Articles 28 and 29 of the M&A Regulations 2006). In any case, approval from MofCOM is required for all acquisitions in which equity is used as consideration (Article 32 of the M&A Regulations).
The most straightforward means of acquiring an enterprise in China is to acquire its offshore holding company. This does not typically require Chinese government approval, although approval might be needed if certain competition law reporting thresholds are met (see section on Anti-monopoly review).
It is also worth noting that it is uncertain whether CSRC ( http://www.csrc.gov.cn/) was only given the authority to approve all SPV companies’ offshore listing or only the listings of those that are limited to equity interest exchange transactions. This does not mean that the CSRC has no jurisdiction over the overseas listing of SPV upon its acquisition of a related domestic company via cash transaction. If CSRC’s jurisdiction over the said transaction under the M&A Regulations 2006 ( also available at:
http://fdi.gov.cn/pub/FDI_EN/Laws/GeneralLawsandRegulations/RegulationsonForeignInvestment/P020090727403337182397.pdf
) maybe uncertain even though the presence of Article 40, it seems more appropriate to affirm that the CSRC’s regulatory power over such case is granted by Article 238 of the Securities Law (
http://www.csrc.gov.cn/pub/csrc_en/laws/rfdm/statelaws/200904/t20090429_102757.htm
).
(Article 40, M&A Regulations 2006, states that:
“Where a special purpose company to be listed overseas, the listing shall be proved by the security regulatory authority under the State Council. The country or region where the special purpose company is listed shall have a sound legal and regulatory system, and the securities regulatory authority of such country or region has concluded a memorandum of understanding on cooperation in regulation with the securities regulatory authority under the State Council, and has kept the effective relationship of cooperation in regulation.”
Article 238 of the Securities Law provides that “
the direct or indirect share offering and listing of domestic enterprise shall get the approval of the securities regulatory authority of the State Council in accordance with relevant regulations of the State council).”
More precisely the SPV, which was not mentioned under the 2003 Interim Regulations, is defined under the 2006 Regulations as an overseas company directly or indirectly controlled by the PRC companies or PRC individuals for the purpose of consummating the listing in an overseas securities exchange of the shares in a PRC domestic company actually owned by the PRC companies or individuals. As an exception to general rule under Article 29 of the 2006 Regulations, shareholders of the SPV may use unlisted shares in the SPV or newly issued shares in the SPV as the consideration for the acquisition of shares in a domestic affiliate. If a PRC domestic company wants to set up a SPV, it must submit application documents to the Ministry of Commerce for approval, and, once MofCOM grants approval for the SPV, the shareholders shall go through the relevant foreign exchange registration formalities with the local branch of the State Administration of Foreign Exchange. The listing of a SPV in an overseas exchange is subject to the approval of the China Securities Regulatory Commission (CSRC). Prior to the submission of the listing application to CSRC, the related M&A transaction with share swaps must be approved by MofCOM. The total value of the shares issued should not be lower than the value of the shares in the domestic enterprise under the share swap based on the appraisal report issued by a qualified PRC asset appraisal firm. Within 30 days of the completion of the overseas listing, the domestic company must report to MofCOM regarding the overseas listing and the plan for the repatriation of the proceeds from the listing back into China.
Just to conclude the present entry, it must be stressed once more that the M&A Regulations 2006 are the first PRC regulations to legally endorse and set out the regulatory framework for cross-border share swaps as a form of payment for foreign investors to acquire shares of a domestic enterprises. Substantially, as we already noted, the shares of an existing company or of a newly established enterprise, are used as consideration for the shares of the target domestic company.
Though some uncertainties remain, the revisions will have a significant impact on Chinese companies listing on foreign exchanges using SPVs such as red-chip listing, in particular the key changes introduced by the M&A Regulations 2006 relate to the reporting procedures to, and approval by, MofCOM. Specifically, Article 11 of the M&A Regulations now requires approval at the central government level where a domestic company, enterprise, or natural person proposes to acquire an affiliated domestic company in the name of an offshore company legally established or controlled by such domestic company, enterprise, or natural person. The M&A Regulations 2006 evince a suspicion that foreign investors, through M&A activities, are acquiring domestic companies for inadequate consideration and with adverse consequences for economic security, employment, and other policies. As a result, the M&A Regulations are clearly aimed at stopping Chinese enterprises and individuals from diverting their assets offshore and stopping FIE status from being given to enterprises that are not truly foreign-owned.
Cristiano Rizzi
(Some of my entries are extracted from my work titled M&A and Takeovers in China, so if you are interested in this topic, please visit:
http://www.kluwerlaw.com/Catalogue/titleinfo.htm?ProdID=9041140484
).