Written by Elaine Lo (Partner) and Andy Yip (Solicitor) of Johnson Stokes & Master (21 Mar 2003)
The Ministry of Foreign Trade and Economic Co-operation ("MOFTEC"), the State Tax Bureau, the State Administration for Industry and Commerce ("SAIC") and the State Administration of Foreign Exchange jointly promulgated the Provisional Regulations on the Merger and Acquisition of Domestic Companies by Foreign Investors (the "M&A Regulations") on 2 January 2003. The main purpose of the M&A Regulations is to provide guidelines for the acquisition of domestic companies in the People's Republic of China (the "PRC") by foreign investors. However, the new M&A Regulations also contain, for the first time in PRC legislation, anti-competition rules requiring foreign investors to disclose to PRC government authorities the amount of their business turnover in the China market, the number of acquisitions which have been made during the preceding 12-month period, and the market share already possessed (or will be possessed) by a foreign investor and its affiliated entities in the relevant industry.
The M&A Regulations will become effective on 12 April 2003.
Scope of Application
The M&A Regulations are applicable under the following investment arrangements:
(a) the acquisition by foreign investors of shares or equity interest in PRC domestic companies, or the subscription by foreign investors of new shares or equity interest in PRC domestic companies, which results in the conversion of such PRC domestic companies to foreign-invested enterprises ("FIEs") (such arrangement being herein referred to as "Equity Acquisition");
(b) the establishment of a FIE by foreign investors, which FIE is then used to acquire and operate assets purchased from PRC domestic companies; and
(c) the acquisition by foreign investors of assets from PRC domestic companies, which assets are then used to establish a FIE which (upon its establishment) will operate those assets.
(the arrangements described in sub-paragraphs (b) and (c) above are collectively referred to as "Asset Acquisition").
Major Principles and Requirements
(a) Entry Restrictions
The limitations on foreign ownership in different industries, as outlined in the Foreign Investment Industries Guidance Catalogue (the "Catalogue"), must always be observed. Hence, foreign investors are not allowed to acquire 100% of the equity or shares of a PRC domestic company, the businesses of which are not allowed to be wholly owned and operated by foreign investors under the Catalogue. In those industries where the Chinese party is required to maintain majority ownership and control, an Equity Acquisition or Asset Acquisition can only be carried out if the Chinese shareholders will remain as the majority shareholders of the newly formed FIE after the acquisition. Foreign investors are prohibited from acquiring shares or equity interest in those PRC domestic companies which are engaged in industries in which foreign investment is prohibited.
(b) Acquisition Price
The price of the acquisition should be determined on the basis of the valuation report prepared by a PRC asset valuation company entrusted by the parties to the acquisition. If State-owned assets are involved in an Equity Acquisition or Asset Acquisition, the price for the acquisition should be determined in accordance with the relevant regulations governing the management of State-owned assets. The acquisition price should not be, prima facie, lower than the appraised value of the relevant equity interest or assets of the target company as stated in the valuation report.
(c) Payment of Acquisition Price or Capital Contribution
(i) Foreign investors who establish a new FIE through the acquisition of equity interest, shares or assets of a PRC domestic company should pay the acquisition price in full within 3 months from the date of issuance of the business licence of the FIE. If the approval authorities have agreed to grant an extension of time for the payment of the acquisition price, then at least 60% of the acquisition price should be paid within 6 months, and the remainder of the acquisition price should be settled within 1 year, from the date of issuance of the business licence of the FIE.
(ii) For an Equity Acquisition which involves the subscription for new equity or shares by foreign investors in the target company, foreign investors are required to pay for their subscribed capital within 6 months from the date of issuance of the business licence of the FIE if they intend to pay up their subscribed capital in one lump sum. If a foreign investor intends to pay its capital subscription by several instalments, then not less than 15% of its capital subscription should be paid within 3 months from the date of issuance of the business licence of the FIE.
(iii) If foreign investors intend to establish a FIE through an Asset Acquisition, the time for capital contribution shall be determined in accordance with the provisions of the joint venture contract and articles of association of the FIE. If foreign investors were to first establish a FIE, and then use such FIE to purchase and operate assets acquired from PRC domestic companies, an amount of capital contribution which is equivalent to the price of those assets to be acquired shall be paid in accordance with the time period for the payment of acquisition price set out in item (c)(i) above. The remainder of the capital contribution shall be paid in accordance with the time period set out in item (c)(ii) above.
(iv) If foreign investors use cash as capital contribution and if the equity interest or shareholding of an individual foreign investor is less than 25%, the capital contribution should be made within 3 months from the date of issuance of the business licence of the FIE. If non-cash assets or industrial property rights are being contributed, then the capital contribution may be made within 6 months from the date of issuance of the business licence of the FIE.
(d) Registered Capital and Total Investment
The amounts of registered capital and total investment of a FIE to be formed from an Equity Acquisition or Asset Acquisition shall comply with the following ratios:
Amount of Registered Capital
Amount of Total Investment
1. Less than US$2.1 million
Cannot exceed 1.43 times of the amount of registered capital
2. US$2.1 million to US$5 million
Cannot exceed 2 times the amount of registered capital
3. US$5 million to US$12 million
Cannot exceed 2.5 times the amount of registered capital
4. More than US$12 million
Cannot exceed 3 times the amount of registered capital
Foreign investors should make their application for a proposed acquisition to the provincial branch of MOFTEC in the province where the target company is located. If an acquisition is proposed to be made in an industry in which specific approval from MOFTEC at central government level is required, the provincial MOFTEC will forward the application to MOFTEC at central government level for approval. With the exception of those applications requiring special consideration by MOFTEC and SAIC as set out in paragraph 4 below, the examination and approval authorities will make a decision as to whether to approve the application within 30 days after the date of receipt of all the relevant application materials.
(a) Foreign investors are required to report to MOFTEC and SAIC if a proposed acquisition falls within one of the following categories:
(i) the business turnover of any one party to a proposed acquisition (including the foreign investor and its affiliated entities) in the China market exceeds RMB1.5 billion in the year of making the proposed acquisition;
(ii) the foreign investor has already acquired more than 10 PRC domestic companies engaging in the same or related businesses as the target company during the past year;
(iii) the market share in China of any one party to the proposed acquisition (including the foreign investor and its affiliated entities) has reached 20%; or
(iv) the proposed acquisition would result in the market share in China of any one party to the proposed acquisition (including the foreign investor and its affiliated entities) reaching 25%.
After considering such issues as market competition and the economic security of the country, MOFTEC and SAIC will decide whether to grant approval for the proposed acquisition within 90 days after the date of receipt of all the relevant application materials.
(b) Foreign investors are also required to submit the acquisition proposal to MOFTEC and SAIC for consideration before making the formal application if the proposed acquisition falls within one of the following categories:
(i) the foreign investor already owns assets in China with a value exceeding RMB3 billion;
(ii) the business turnover of the foreign investor in the China market exceeds RMB1.5 billion in the year of making the proposed acquisition;
(iii) the market share in China of the foreign investor and its affiliated entities has reached 20%;
(iv) the proposed acquisition would result in the market share in China of the foreign investor and its affiliated entities reaching 25%; or
(v) the proposed acquisition would result in the foreign investor directly or indirectly investing in more than 15 FIEs in the PRC engaging in the same or related businesses.
(c) Parties to the acquisition can apply to MOFTEC and SAIC for a waiver of the requirements to submit a report or the acquisition proposal to MOFTEC and SAIC as described in sub-paragraphs (a) and (b) above if the proposed acquisition falls within one of the following categories:
(i) the proposed acquisition is capable of enhancing fair competition in the China market;
(ii) the proposed acquisition will involve the restructuring of an enterprise or enterprises operating at a loss, and can secure the employment of employees of the relevant enterprise(s);
(iii) the proposed acquisition will attract advanced technology and management talent, and can enhance international competitiveness of PRC enterprises; or
(iv) the proposed acquisition can improve the environment.
As the anti-competition rules set out in paragraph 4 above represent the first time that anti-trust or anti-competition legislations are issued, it is difficult to ascertain, at this moment, how the anti-competition rules will be interpreted or applied by the new Ministry of Commerce, which has been established to take over the functions of the now defunct MOFTEC.
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