Common legal issues in listing domestic design institutes

By Yuan Yueyun, Grandway Law Offices
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Recent years have witnessed a nationwide surge in design institute IPOs. So far, more than 30 design institutes have listed, while other strong and well-known candidates are preparing their own IPOs. In an increasingly competitive economic environment, IPOs have become all but inevitable for design institutes wishing to become larger and stronger.

The planning and design industry is a part of the special technical service sector, upstream to construction, characterised by intensive intelligence and localised operation.

With evident industry-specific characteristics, the industry faces a series of common legal issues. Based on personal experience and analysis of design institute listings, the author here summarises common legal challenges in the listing of domestic design institutes in China.

REFORM AND TRANSFORMATION

Judging from cases of listed design institutes such as JSTI, ARTS Group, Tus-Design and Shenzhen New Land Tool, a considerable number of them have reformed or transformed from public institutions to state-owned or private enterprises – a result of China’s institutional reform of survey and design institutes. Prior to 1999, most of China’s survey and design entities were publicly owned institutions under government agencies at various levels. Since 1999, central and local survey and design entities have carried out institutional reforms, leading to certain issues in design institutes’ reform and transformation into enterprises.

BECOMING SOES

After comprehensive audit, evaluation and approval procedures, the assets of a public institution are transferred to the state-owned system, and the local State-owned Assets Supervision and Administration Commission or designated entities will set up a state-owned enterprise (SOE) with assets of the original public institution. The related assets and business are undertaken by the limited company after the reform, with registration of the original public institution cancelled; while original employees transfer to the limited company or other public institutions, based on personal preferences.

BECOMING PRIVATE ENTERPRISES

Yuan Yueyun, Grandway Law Offices, Common legal issues in listing domestic design institutes
Yuan Yueyun
Partner
Grandway Law Offices

After comprehensive audit, evaluation and approval procedures, the management and employees of the original public institution purchase all or part of its net assets to set up a limited company. Net assets not purchased by employees are transferred to other public institutions or retained in the original institution, while original employees likewise transfer to the limited company or other public institutions, based on personal preferences.

Key issues of a public institutions’ reform or transformation into enterprises lie in the compliance and completeness of the procedures, and whether it leads to any loss of state-owned assets.

Generally, the assets of public institutions transferred to state-owned enterprises are at less risk of loss, as they remain state-owned assets before and after. However, for public institutions transformed into private enterprises, potential loss of state-owned assets often becomes a focal point in review, due to employees’ purchase of net assets.

In the IPO process, in addition to fully demonstrating the compliance and completeness of the procedures, intermediaries also need to obtain written confirmations for the reform process and results issued by provincial governments.

EMPLOYEE STOCK OWNERSHIP

Employee stock ownership mainly occurs during reform of public institutions into private enterprises, where certain employees purchase net assets of the original public institution and become shareholders of the limited company. However, if there are a large number of employees purchasing shares, to meet the rigid cap of 50 shareholders of a limited company, some companies, research institutes included, opt for entrusted shareholding by core employees. Others such as JSTI, ARTS Group, Tus-Design and Shenzhen New Land Tool hold shares in the name of trade unions or a conference of shareholding employees.

As early as 2002, the China Securities Regulatory Commission stopped reviewing and approving the issuance application of a company with a conference of shareholding employees or trade union as the promoter or shareholder, with the trade union or conference of shareholding employees no longer qualified as a legitimate shareholder. Therefore, for companies whose trade unions or conferences of shareholding employees still hold shares, such shares should be transferred and held under the name of specific employees.

In case of any reserved equity for the trade union, such equity should be quantified and transferred to specific employees. After the clean-up for conference of shareholding employees or entrusted shareholding, intermediaries should also interview the employees involved to confirm that their shareholding is true and voluntary, and identify any disputes or controversies.

BUSINESS COMPLIANCE

Due to industry characteristics, design institutes face many business-related compliance issues, mainly including:

Affiliation of professional and technical personnel. As a survey and design entity, a design institute must have appropriate business qualifications, including those for urban and rural planning, engineering design and survey, with different requirements of expertise corresponding to different levels of qualifications. As a result, many design institutes accept external affiliation to satisfy the application requirements for business qualifications.

Compliance in securing business. Most major clients of design institutes are government agencies, public institutions or SOEs, with bidding as the primary method of obtaining businesses. During review, attention is usually diverted to the compliance of bidding and any irregularities such as collusive tendering, bid rigging or default in bidding.

Illegal subcontracting. Most suppliers of design institutes are their outsourcing entities. Due to the high similarity between outsourcing and illegal subcontracting, it is necessary to analyse and judge whether there is illegal subcontracting in outsourcing of acquired projects, based on the content, amount and work results of the main project contract and outsourcing.

The above-mentioned business compliance issues are highly concealable and difficult to verify. Thus, to remove all obstacles for design institute listing, intermediaries must comprehensively sort through a company’s business contracts and propose precise schemes to ensure compliance.

Yuan Yueyun is a partner at Grandway Law Offices

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