By Steve Dickinson
On August 3, 2008, the PRC State Council released its long awaited merger notification rules: Regulation on Notification Thresholds for Concentrations of Undertakings, State Council Regulation Number 529, available online in Chinese here. These merger notification rules are required by Article 21 of the PRC Anti-Monopoly Law (“AML”), which requires prior notification for mergers meeting the State Council rules. Since failure to provide notification renders the merger void, the requirement has be viewed with concern, particularly since no hint was given in the AML on what the standard would be. The particular concern was that an excessively low standard would cause excessive involvement of the PRC authorities in international mergers not specifically targeted at China.
Under the new rules, there are two notification thresholds: one for foreign M&A transactions with an impact on China and another one for M&A (mergers and acquisitions) transactions with purely domestic effect. The thresholds are as follows:
• International M&A Transactions: In the last fiscal year, (1) the combined earnings of all participants exceeds RMB 10 billion and (2) the China wide earnings of at least two of the participants exceeds RMB 400 million each.
• Domestic M&A Transactions: In the last fiscal year, (1) the combined earnings of all participants exceeds RMB 2 billion and (2) the China wide earnings of at least two of the participants exceeds RMB 400 million each.
The rule does not provide for how to provide notification for the procedure to follow in processing the notification.
The notification standards have been intentionally set at the middle range of internationally accepted international standards. For international M&A activities, it is expected that very few if any transactions will trigger the notification requirement. The same is true of domestic transactions.
The new standards make clear the PRC does not intend to use the AML rules to excessively interfere in international M&A transactions. The trend in fact has been for the PRC to bring its approach into alignment with the international approach, particularly the approach taken in Europe. With respect to domestic M&A transactions, there are two things to note. First, these rules apply without regard to the nationality of the participants. That is, even if both participants are PRC companies, they still must comply with the notification requirement. This is a major change from the previous situation, where only foreign participants in M&A transactions were required to report. The main effect of the notification thresholds is this impact on domestic transactions. Second, it is not clear whether these rules will have any impact on foreign M&A activity in China. Currently, foreign M&A transactions are governed by the 2006 M&A rules. The M&A rules contain extensive reporting requirements, including antimonopoly related reporting rules. No statement has been made by the State Council or any other agency on the effect of the new rules on the M&A rules. Until a specific statement is made, it should be assumed the 2006 M&A Rules are still effective and that the new AML thresholds apply only to purely domestic transactions. Even without consideration of the M&A rules, all foreign investment in China is subject to extensive reporting and approval. Any M&A transaction that even comes close to the size of transactions that would trigger the AML thresholds will already have been so thoroughly reviewed that the antitrust issue will mean little or nothing concerning approval or disapproval of the transaction.
Much foreign commentary on the AML has showed a fundamental misunderstanding of the PRC foreign investment policy. As PRC officials have repeatedly stated, nothing concerning the AML or its rules is intended to change the current position of the PRC on utilization of foreign investment. China will remain remarkably open to foreign investment. However, the fundamental principal is that foreign investment is expected to contribute something new to China. If nothing new is contributed, that is, if the investment is purely for “speculative” purposes, then the investment will not be approved.
The basic rules are as follows:
• Foreigners are free to invest in China through WFOEs or JVs in any of the areas of investment classified as permitted or encouraged in the current Catalog for Guiding Foreign Investment.
• Foreigners are permitted to purchase small established Chinese companies where the government is too busy to be concerned with management of the small company.
• Foreigners are permitted to purchase large established Chinese companies suffering from financial problems, provided the foreign purchaser will restructure the company and assume the company’s obligations to workers and creditors.
• Foreigners are permitted to acquire a minority interest in large and successful Chinese companies, provided such investment will provide collateral benefits in the form of technology transfer or access to new markets.
• Foreigners are not permitted under any circumstances to purchase a majority interest in a large and successful established Chinese company.
These are the rules. Of course, they are not written down in this form. However, failure to follow these rules likely will lead to problems. The foreign press often gives examples of transactions that disapproved by the PRC in Beijing. In every case of which I am aware, the disapproved transaction has failed to comply with the above stated rules. I am not aware of a single disapproved transaction within the past five years that complied with these rules. These rules will not change and foreign investors need to understand this before they even start investigating transactions in China.