Reduction rules for VCFs in the capital market

Against the backdrop of stabilising the secondary market and boosting trading vitality, the way private equity (PE) funds pare their holdings has become one of the most important means to enhance the liquidity of capital markets.

This article dissects the Several Provisions on the Shareholding Reduction by the Principal Shareholders, Directors, Supervisors and Senior Executives of Listed Companies, as well as the Special Provisions on Shareholding Reduction by Venture Capital Fund (VCF) Shareholders of Listed Companies.

It also details implementation rules for the special provisions of the Shanghai Stock Exchange and Shenzhen Stock Exchange, with key points on VCFs’ shareholding reduction.

Scope of VCFs

VCFs refer to venture capital funds filed with the Asset Management Association of China (AMAC). The filing needs to comply with regulations such as the Measures for the Registration and Recordation of Private Investment Funds, the Instructions on the Filing for Private Investment Funds, and the Main Concerns in the Filing of PE and VCFs.

Compared with filing with the National Development and Reform Commission (NDRC), the AMAC filing has a relatively simple process, avoiding the review of multiple departments, with a shorter review time. The advantage of NDRC filing is that it allows companies to enjoy special policies of VC firms, such as tax incentives.

Reduction policies

As of the acceptance date of IPO documents:

1. If the investment period is less than 36 months in any 90 consecutive days, the VCF shall not reduce its shareholding by more than 1% of the total amount of shares, and not reduce its shareholding by more than 2% in bulk trading.
2. If the investment period is more than 36 months but under 48 months in any 60 consecutive days the VCF shall not reduce its shareholding by more than 1% of the total amount of shares, and not reduce its shareholding by more than 2% in bulk trading.
3. If the investment period is more than 48 months in any 30 consecutive days, the VCF shall not reduce its shareholding by more than 1% of the total amount of shares, and not reduce its shareholding by more than 2% in bulk trading.

The investment period is calculated from the date when the VCF’s investment in the IPO reaches RMB3 million (USD420,000) in total, or 50% of overall investment to the date of listing. If a business has received more than RMB6 million investment accumulatively prior to listing, the watershed time point from which the longest investment period is calculated is when overall investment reached or exceeded RMB3 million.

In this case, if a VCF’s first or preliminary rounds of cumulative investments are below RMB3 million and it makes big purchases later, then calculation of the investment period is delayed.

Eligible issuers

If a VCF can apply the above-mentioned reduction policies, the enterprise it invests in should satisfy at least one of the following conditions:

1. When receiving the first investment, the enterprise has been established for less than 60 months;
2. When the enterprise receives the first investment it has fewer than 500 employees, and its annual sales and total assets both do not exceed RMB200 million (according to annual consolidated accounting statements audited by an accounting firm); and
3. As of the acceptance date of IPO materials, the enterprise has been certified as a high-tech enterprise in accordance with the Guidelines for the Administration of the Certification of High-Tech Enterprises.

Note that time nodes of the first two conditions are both “when the enterprise receives the first investment”, without a limit on the invested amount.

For enterprises with multiple rounds of financing, asset-heavy or high financing amounts, despite being emerging enterprises they tend to have more total assets than limited in the second condition. PE funds filed with AMAC may refer to reduction policies on VCFs.

Meanwhile, in the new Provisions of Further Regulating Shareholding Reductions issued by the China Securities Regulatory Commission on 27 August 2023, if the stock of a listed company trades below the offering price or book value of the stock – or the listed company has distributed no cash dividend, or distributed cash dividends that are cumulatively less than 30% of its average annual net profit for the past three years – a controlling shareholder or actual controller shall not reduce its shareholding in the company at the secondary market, and its parties acting in concert should be subject to the above-mentioned requirements.

If a listed company discloses that it has no controlling shareholders or actual controllers, the largest shareholder and its actual controllers are subject to the requirements.

The issuance of new provisions does not materially affect VCFs. However, if a VCF is acting in concert with the actual controller of the listed company, or is the largest shareholder in absence of the actual controller, it still needs to comply with such provisions.

Michelle Lu is a senior partner at Brightstone Lawyers. She can be reached by phone at +86 135 2423 0064 and by e-mail at jiaqian.lu@brightstonelawyers.com