Legal View: M&A makeover makes good sense

The merger and acquisition provisions enacted jointly by China’s Ministry of Commerce and other ministries in 2003 were overhauled in August this year. The new provisions, which came into effect on September 8, represent a significant upgrade.

The added involvement of the securities regulator and state-owned asset watchdog in its enactment is expected to facilitate wider acceptance within the government and enhance the effective implementation of the new provisions.

Important changes were made in a number of areas, in recognition of the growing importance of China’s private enterprises, the increased international mobility of Chinese entrepreneurs and the significant role they are playing in foreigners’ M&A activities.

Previous obstacles to the continuing participation of these entrepreneurs in target companies post-acquisition have largely been removed.

However, a system has also been put in place to regulate entrepreneurs’ investment overseas and subsequent “round-trip investments” back into China and to neutralise the implications that a change in their nationality may have on the legal characterisation of their domestic businesses.

The prospect of using foreign shares for investment in Chinese companies was an eye-catching feature in the 2003 provisions that was never realised. The role of foreign shares as a recognised form of investment has now been defined.

While their much narrower application – largely confined to two scenarios that are both foreign listing-related – is a disappointment to many, the clearer and more detailed regime that has now been put in place for its implementation is nonetheless a welcome development.

Foreign acquirers and their Chinese targets are also required to disclose more information on relationships between the parties involved and the basis for determining the purchase price. This is to enable regulators to ask relevant questions and spot potentially problematic acquisitions more easily.

While no change or further elaboration has been made to the original anti-trust filing provisions – largely because the long-awaited anti-trust law is still being debated – new criteria for barring foreign acquisitions in the name of protecting key industries, national economic security, famous trademarks and famous Chinese trade names have been introduced in addition to the existing market concentration and anti-competition rules.

Clarifications were made on the interaction of the provisions with legislation on protecting state-owned assets, securities listing and foreign exchange and on the continuing applicability of the 25 per cent minimum foreign ownership rule for recognising enterprises as foreign invested.

It is a useful reminder that the provisions do not constitute all-encompassing legislation on M&A by Chinese enterprises, that existing legislation has a role to play in the process and that new problems will no doubt arise on the consistency of the various regulatory systems and the need for these systems to continue to adapt to one another.

The overhaul of the provisions addresses certain pressing issues arising from the increased sophistication of China’s economy and the type of foreign capital it is now attracting and highlights possible directions for further upgrading of the provisions in the future.

All these are further food for thought for foreign investors planning China acquisitions.

Kenneth Chan heads Allen & Overy’s China group as a partner in its Hong Kong office.