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An evolving market for takeovers
HOME > PAST ISSUE > MARKETS > PodiumDecember 2006
China's new takeovers code could represent the advent of self-regulation in the market but inconsistent enforcement may remain an issue
China's new Administrative Measures on Takeovers of Listed Companies (takeovers code), which came into effect on September 1, aims to facilitate takeover activity and protect shareholders. These conflicting aims are played out in various ways, the most novel being the introduction of partial offers.
The takeovers code also emphasizes the self-regulatory role of the market through the involvement of financial advisors.
The code applies to companies listed on the Shanghai or Shenzhen stock exchanges, not shares listed overseas. Foreign strategic investors are subject to the code, which also requires them to be subject to the jurisdiction of Chinese courts and arbitration.
The takeovers code introduces greater flexibility to offerors by allowing partial offers in certain circumstances. Like the 2002 code, offers are triggered by a person crossing the 30% shareholding threshold.
Partial offers are allowed in two circumstances: voluntary offers, and when the offeror acquires more than 30% through "on market" purchases. Partial offers must be for a minimum of 5% of the shares of the target company. Shareholders have some protection through the requirement that, under a partial offer, shares must be acquired proportionately. It is believed that partial offers may make takeovers more affordable and may also result in more dispersed shareholdings.
In other circumstances, including acquisitions by agreement and through concert parties (defined to include immediate and extended family members), the offeror must make a general offer unless a waiver from the China Securities Regulatory Commission (CSRC) is obtained.
Under the takeovers code, an offeror may apply to the CSRC to be exempted from the obligation to make an offer. Summary applications may also be made in certain circumstances.
Grounds for a waiver include where there is no change of de facto controller. A waiver will also be considered if the target company is in financial difficulty and the offeror proposes a restructuring plan and agrees to a three-year share lock-up.
Grounds for a summary waiver include reaching the threshold as a result of approved transfers of state-owned assets for nil consideration. Summary waivers are also open to offerors crossing the threshold but intending to increase their shareholding by no more than 2% every 12 months.
Under the takeovers code, the offer price may not be lower than the highest price paid by the offeror during the six-month period prior to the date of the offer announcement. If the offer price is lower than the mean of the daily weighted average price during the 30-day period prior to the offer announcement, the financial adviser must determine if the price is reasonable, or if the price has been subject to manipulation or other irregularity. The 90% discount under the 2002 code is no longer available.
The code provides that an offer can be made by cash or securities exchange, or a combination of both.
The takeovers code imposes additional requirements in the case of an MBO:
50% or more of the board must be independent directors
the target company must have its assets appraised
the MBO must be approved by two-thirds of the non-connected independent directors and a simple majority of the non-connected shareholders.
Directors of a target company responding to a takeover offer must not violate certain minimum standards. In particular, directors must act in the interest of the target company and must not cause material changes to the company's operations. The issuance of new shares to defeat a takeover, however, is not expressly prohibited (as it was under the 2002 takeover code).
The level of regulatory supervision depends on the percentage of target company shares owned by the offeror and parties with whom it acts in concert.
For instance, relatively simple reporting and disclosure requirements apply when a shareholding reaches 5% of total target company shares. Once the shareholding reaches 20%, an offeror must disclose additional information, such as details of potential competition and connected transactions. Financial advisers must also issue an opinion if the offeror is the single largest shareholder. Once a shareholding reaches 30%, full reporting and disclosure are required along with an offer document, takeover announcement and a financial adviser's opinion. The offer document must be approved by the CSRC.
Post-takeover, the offeror and the target company must report to the CSRC every month for 12 months. The reports must cover the operations of and changes to the target. The offeror is subject to a 12-month lock-up period (though share transfers between connected entities are permitted).
The takeovers code emphasizes the advisory and monitoring functions of PRC-qualified financial advisers. Offerors are required to appoint a PRC-qualified financial adviser before making an offer. These advisers are responsible for, among other things, due diligence on shareholder qualifications and takeover objectives. They must also issue opinions on the offeror's legal compliance and on the truthfulness, accuracy and completeness of all submissions to the regulators.
Financial advisers must continue to provide guidance on legal compliance for 12 months after completion. They must also issue quarterly reports on material transactions or events during the 12-month period. Suspicious transactions or activities are to be reported to the regulatory authorities.
The takeovers code is a step toward a more active takeover market in China. Transaction costs may fall and takeovers are set to become more efficient. It remains to be seen, however, whether the code is vigorously enforced and whether minority shareholders have been suitably protected.
Gary Lock is managing partner of Herbert Smith LLP's Shanghai office
The takeovers code also emphasizes the self-regulatory role of the market through the involvement of financial advisors.
The code applies to companies listed on the Shanghai or Shenzhen stock exchanges, not shares listed overseas. Foreign strategic investors are subject to the code, which also requires them to be subject to the jurisdiction of Chinese courts and arbitration.
General offers
The takeovers code introduces greater flexibility to offerors by allowing partial offers in certain circumstances. Like the 2002 code, offers are triggered by a person crossing the 30% shareholding threshold.
Partial offers are allowed in two circumstances: voluntary offers, and when the offeror acquires more than 30% through "on market" purchases. Partial offers must be for a minimum of 5% of the shares of the target company. Shareholders have some protection through the requirement that, under a partial offer, shares must be acquired proportionately. It is believed that partial offers may make takeovers more affordable and may also result in more dispersed shareholdings.
In other circumstances, including acquisitions by agreement and through concert parties (defined to include immediate and extended family members), the offeror must make a general offer unless a waiver from the China Securities Regulatory Commission (CSRC) is obtained.
Waivers
Under the takeovers code, an offeror may apply to the CSRC to be exempted from the obligation to make an offer. Summary applications may also be made in certain circumstances.
Grounds for a waiver include where there is no change of de facto controller. A waiver will also be considered if the target company is in financial difficulty and the offeror proposes a restructuring plan and agrees to a three-year share lock-up.
Grounds for a summary waiver include reaching the threshold as a result of approved transfers of state-owned assets for nil consideration. Summary waivers are also open to offerors crossing the threshold but intending to increase their shareholding by no more than 2% every 12 months.
Offer price
Under the takeovers code, the offer price may not be lower than the highest price paid by the offeror during the six-month period prior to the date of the offer announcement. If the offer price is lower than the mean of the daily weighted average price during the 30-day period prior to the offer announcement, the financial adviser must determine if the price is reasonable, or if the price has been subject to manipulation or other irregularity. The 90% discount under the 2002 code is no longer available.
The code provides that an offer can be made by cash or securities exchange, or a combination of both.
Management buy-outs (MBOs)
The takeovers code imposes additional requirements in the case of an MBO:
50% or more of the board must be independent directors
the target company must have its assets appraised
the MBO must be approved by two-thirds of the non-connected independent directors and a simple majority of the non-connected shareholders.
Frustrating actions
Directors of a target company responding to a takeover offer must not violate certain minimum standards. In particular, directors must act in the interest of the target company and must not cause material changes to the company's operations. The issuance of new shares to defeat a takeover, however, is not expressly prohibited (as it was under the 2002 takeover code).
Supervision, reporting and disclosure
The level of regulatory supervision depends on the percentage of target company shares owned by the offeror and parties with whom it acts in concert.
For instance, relatively simple reporting and disclosure requirements apply when a shareholding reaches 5% of total target company shares. Once the shareholding reaches 20%, an offeror must disclose additional information, such as details of potential competition and connected transactions. Financial advisers must also issue an opinion if the offeror is the single largest shareholder. Once a shareholding reaches 30%, full reporting and disclosure are required along with an offer document, takeover announcement and a financial adviser's opinion. The offer document must be approved by the CSRC.
Post-takeover, the offeror and the target company must report to the CSRC every month for 12 months. The reports must cover the operations of and changes to the target. The offeror is subject to a 12-month lock-up period (though share transfers between connected entities are permitted).
Financial advisers
The takeovers code emphasizes the advisory and monitoring functions of PRC-qualified financial advisers. Offerors are required to appoint a PRC-qualified financial adviser before making an offer. These advisers are responsible for, among other things, due diligence on shareholder qualifications and takeover objectives. They must also issue opinions on the offeror's legal compliance and on the truthfulness, accuracy and completeness of all submissions to the regulators.
Financial advisers must continue to provide guidance on legal compliance for 12 months after completion. They must also issue quarterly reports on material transactions or events during the 12-month period. Suspicious transactions or activities are to be reported to the regulatory authorities.
Looking forward
The takeovers code is a step toward a more active takeover market in China. Transaction costs may fall and takeovers are set to become more efficient. It remains to be seen, however, whether the code is vigorously enforced and whether minority shareholders have been suitably protected.
Gary Lock is managing partner of Herbert Smith LLP's Shanghai office
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