To promote the expansion of PRC companies domestically and
internationally by mergers and acquisitions in the current global
economic crisis, the China Banking Regulatory Commission has
promulgated the "Guidelines on Risk Management for Loans
extended by Commercial Banks for Mergers and Acquisitions"
(the "Guidelines") on 6 December 2008.
Previously, pursuant to Article 20(3) of the PRC General Lending
Rules (the "Lending Rules"), any bank loan for the
investment of any beneficial interest in shares or equity is
prohibited unless otherwise specified by law. The
Guidelines remove the prohibition under the Lending Rules and
PRC banks may now extend loan to borrowers to
finance or fund payment of the price of a merger and
acquisition transaction ("M&A Loan"). M&A Loans
refer to those loans extended to PRC purchasers or their
subsidiaries and may include loans for cross border acquisitions
but do not include loans made to financial investors.
Definition of "merger and acquisition
According to Article 3 of the Guidelines, "merger and
acquisition transaction" ("M&A Transaction") is
defined as a transaction in which a PRC company merges with another
company and/or acquires the actual controlling interest of another
target company as a going concern either by way of acquiring the
existing shareholding, subscribing for new shares, assets
acquisition or assumption of loans.
It is still not possible to utilize the M&A Loan to set up
new companies or greenfield investments or in a M&A transaction
of a non-controlled nature. The Guidelines do not place any
limitation on the place of incorporation of the target
company. As stated above, subject to compliance with the relevant
foreign exchange regulations, PRC companies may use the M&A
Loan to acquire the controlling shareholding of an overseas
Under the Guidelines, a bank may only make M&A Loans if
(a) the adequacy ratio of its loan loss reserves is not less
(b) its capital adequacy ratio must not be less than 10%;
(c) the balance of its general reserves shall not be less than
1% of the balance of its loans.
Risk management obligations of the bank
For the purpose of risk management, the Guidelines impose the
on banks in extending any M&A Loan to
finance a M&A Transaction :-
(a) The total amount of outstanding M&A Loans extended by a
bank shall not exceed 50% of its core net capital;
(b) The total amount of outstanding M&A Loan of a single
borrower shall not exceed 5% of its core net capital;
(c) The amount of M&A loan shall not account for more than
50% of the total funding used for a single M&A
(d) The term of the M&A Loan shall not exceed 5 years;
(e) The borrower shall provide sufficient security to cover the
bank's lending risk.
The Guidelines also require banks to adopt more stringent
requirements towards securities to be provided by the borrowers for
M&A Loans than in the case of other types of lending.
In addition, for the purpose of risk assessment, the Guidelines
also require the bank to form a special team to conduct the
following investigations, analyses and assessments and make a
written report before extending any M&A Loan :-
(a) Strategic risk including the industry prospect, market
structure, business strategy, management team, corporate culture
and shareholders' support;
(b) Legal and compliance risk;
(c) Merger and integration risk;
(d) Operational and finance risk;
(e) Financial model and forecast of the financial data of the
purchaser and the target company and indication of the finance
leverage and ability of repayment; and
(f) Sufficiency of the source of funds of the borrower for
Whilst the Guidelines aim to encourage PRC companies to
consolidate or expand domestically or overseas, it is too early to
comment on the practical effect of the Guidelines considering the
onerous obligations on the bank for the evaluation and risk
management of M&A Loans.
If you have any question about the above Guidelines or other
issues on foreign direct investments, joint ventures, mergers and
acquisitions in Mainland China, experienced lawyers in our China
Business Department will be happy to assist you.
The content of this article is intended to provide a general
guide to the subject matter. Specialist advice should be sought
about your specific circumstances.
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