Legal practice in listed companies’ overseas M&A

According to item (3), article 4 of the Provisions on Several Issues concerning Regulation of Material Asset Restructurings of Listed Companies, issued by the China Securities Regulatory Commission (CSRC), ensuring integrity and validity of a target’s assets has been a top priority for the securities regulator, given that any title defect could have an impact on a target’s sustainable profitability and the viability of commitments as to performance.

In the case of Shandong Tyan Home involving asset acquisition, the CSRC was especially concerned about whether the mining rights held by Hanking Gold Mining (the target) were integral and extendable and whether land extension was at risk. In the case of China Aerospace International Holdings, also involving asset acquisition, the CSRC was worried that the mortgage created over 100% of the land held by IEE’s Slovakia subsidiary, and its buildings and structures, in favour of a local bank might have an impact on asset ownership of the acquiring listed company upon closing of the deal.

As the first step of the due diligence process performed on an overseas target, Chinese lawyers should identify ownership of all assets held by the target so that integrity and validity of ownership is ascertained. This requires not only collaboration with an accountant in establishing an asset ledger covering all assets of the target, but also familiarity with provisions of the local jurisdiction concerning assets, including, without limitation, access to information about validity period of the ownership, what can be done upon expiration of the validity period, how the asset is acquired, and encumbrance on the assets, if any.

Having established a clear picture of the ownership of assets held by the target, Chinese lawyers need to focus particularly on issues like those described below that may have an impact on integrity and validity of the target’s assets.

1.Assets with encumbrance. The overseas target may use mortgage, pledge or any other forms of encumbrance to raise funds for its production or operational needs. When reviewing the financing contract for a case like this, Chinese lawyers must pay special attention to provisions that restrict shareholders of the target from transferring their equity in the target and create encumbrance over assets as security for the deal. In addition to a field inspection on assets concerned to check whether they are still used for the target’s production and operational activities, the lawyers should review the contract under which the encumbrance is created to identify enforcement conditions of the encumbrance. A field interview needs to be conducted with the encumbrancer to get to know how the principal obligation is fulfilled, and assess how likely it is that the encumbrance will be enforced. Meanwhile, the lawyers also need to confirm whether the target has a repayment plan in place. If yes, they should assess feasibility of the repayment plan based on the target’s financial data.

2.Assets with upcoming maturity. For assets with upcoming maturity, the Chinese lawyers should confirm if they are indispensable for the production and operation of the target, and what conditions have to be met to enable renewal, if at all possible. If renewal is possible and the target meets all conditions of renewal, the Chinese lawyers should advise the target to prepare for renewal well before the maturity, and obtain valid proof of renewal before the CSRC review procedure for the proposed acquisition initiates. If renewal is not possible, the reasons and basis for the non-renewal should be obtained, based on which an analysis should be conducted to confirm whether the non-renewal will have any material impact on production and operation of the target. If there is any material impact, the lawyers should focus on pertinent solution of the target.

3.Assets pending authorization. For assets pending authorization, the Chinese lawyers should inquire about the estimated date of authorization and find out the relevant basis. Materials already submitted by the target for the purpose of obtaining the authorization should be collected as part of working papers, and an explicit legal opinion issued by local lawyers that states that the target faces no legal obstacle in acquiring the asset needs to be obtained.

4.Assets with joint ownership. Joint ownership is most likely to be adopted as a solution to holding patents. With respect to any patent under joint ownership, the Chinese lawyers should review the written agreement between the co-owners to ensure that there is no obstacle to the target continuing to use the patent upon completion of the acquisition. Besides, they should confirm that no controversies or disputes exist between the co-owners, and that there are no provisions that restrict any co-owner from transferring its share in the ownership.

COMPLIANCE RISK

The Chinese securities regulator’s review on material asset restructurings by listed companies aims ultimately at ensuring sustainable profitability and operating stability of the targets. The regulator’s focuses include such issues as compliance risks in the operation of the overseas target, legal and policy risks, as well as risks related to politics, tax, employment, etc. The regulator takes differentiated approaches depending on circumstances in the countries or regions where the targets are based.

For targets from developed markets, especially France and other European countries, the regulator is concerned especially about risk of compliance relating to environment and protection of labour rights and interests. A case in point is an acquisition by China Aerospace, where the Chinese regulator focused on ensuring compliance related to protection of labour rights and interests by one of the targets based in France. In order to conduct an adequate assessment on compliance risk, the Chinese lawyers for the deal obtained a legal opinion on labour compliance from the local lawyers. As for Tyan’s acquisition of a mining company that is subject to enormous environmental regulations, the lawyers for the deal attach great importance to environmental compliance both in the due diligence process and in collaboration with local lawyers.

Wang Guan is a partner and Meng Wenxiang is a salary partner at Grandway Law Offices. Xie Yijie, a paralegal at Grandway, also contributed to this article