China Proposes to Facilitate Foreign Investment in Listcos By Hunter QIU 2018-08-30


On July 30, 2018, the PRC Ministry of Commerce (the “MOFCOM”) released a proposed amendment to the Administrative Measures for Strategic Investment by Foreign Investors in Listed Companies, enacted by MOFCOM, China Securities Regulatory Commission (the “CSRC”), the State Administration of Taxation (the “SAT”), the State Administration of Industries and Commerce (the “SAIC”) and the State Administration of Foreign Exchange (the “SAFE”) on December 31, 2005, as amended in 2015 (the “Measures”) soliciting public comments (the “Draft Amendment”). The Drat Amendment would substantially ease restrictions on foreign investments in listed companies in China.



Context of the Measures

Not until October 1, 2016, all foreign investments into China are subject to prior approval from the MOFCOM (more time for regulatory approval implicated).  However, formation and change of foreign invested enterprises[1](“FIE” or “FIEs” as the case may be) in industry sectors not subject to the special administrative measures for foreign investment access or the negative list[2] are only subject to record-filing requirements, pursuant to the Decision of the Standing Committee of the National People’s Congress of China to Amend the Four Laws including the PRC Wholly Foreign-owned Enterprises Law, enacted on September 3, 2016 (the “NPC Decision”).  Foreign investments in sectors not on the Negative List are no longer subject to time-consuming, sometimes less than transparent, approval requirements of the MOFCOM and the parties can freely contract for the effective date of the joint venture agreements. To implement the decision of the top legislature, the MOFCOM enacted the Interim Administrative Measures for the Record-filing of the Incorporation and Change of Foreign-invested Enterprises on October 8, 2016 (as amended on July 30, 2017 and June 30, 2018) (the “Record-filing Measures”).  The Record-filing Measures streamlined the record-filing procedures and combined the separate record-filing requirements of MOFCOM and the SAIC into one, saving investors substantial procedural hassle and time.  Foreign investors could close transactions in a much speedy and predictable fashion.  


Amid heated trade war between the U.S. and China, on June 10, 2018, the PRC State Council released the Circular on Several Measures Concerning the Active and Effective Use of Foreign Investment to Boost High-quality Economic Growth (the “Circular #19”) to roll out polices and measures aiming at further opening of the market and facilitating foreign investment. The approval requirement under the Measures conflicts with the Negative List based national treatment rule under  the NPC Decision and the Record-filing Measures.  In light of Circular #19, the Draft Amendment has removed the approval requirement that conflicts with the NPC Decision and the Record-filing Measures, reduced the qualification requirements for foreign investors and the lockup period, lifted the minimum shareholding requirement, permitted share swaps involving shares in a foreign private company, and introduced other provisions aiming at facilitating foreign investments in listed companies.


1. Foreign investments in public companies not on the Negative List are subject to the Record-filing Requirement.


Foreign investments in public companies not subject to the Negative List are no longer subject to MOFCOM approval.  Under the Measures, all foreign strategic investments in listed companies are subject to MOFCOM approval, contradicting with the new rules set forth in the NPC Decision and the Record-filling measures.  The implementation of the Measures would be expanded to cover foreign investments in listed companies under the Draft Amendment. In other words, foreign investments in listed companies not subject to the Negative List would be subject to the much investor-friendly Record-filing Measures[3].  This pending rule change would have significant implication because the Negative List only prohibits or restricts foreign investments in 48 industry subsectors; and from the perspective of deal numbers, it is estimated that most foreign investments in listed companies would no longer be subject to MOFCOM approval. 


2. Foreign investments in listed companies subject to the Negative List below threshold amount would be subject to the approval by the Provincial MOFCOM.


Under Art. 3 of the Draft Amendment, foreign strategic investment in public companies on the Negative List is subject to the MOFCOM approval if the amount of investment exceeds the threshold amount[4]; otherwise, approval from the provincial authorities of commerce (the “Provincial MOFCOM”) suffices. Such threshold amount shall be 


(i) the amount of purchase price specified in the share purchase agreement or the private placement agreement; 

(ii) the maximum possible amount in case of tender offer; and 

(iii) the total amount in case the investment is completed through two or more means specified under item (i) and (ii).


Currently, under the Measures, all foreign strategic investment in listed companies shall be approved by the MOFCOM.


3. The Lockup Period has been Reduced to 12 Months.


Under Art. 7 of the Draft Amendment, A Share[5] stocks of listed companies acquired by foreign investors shall not be transferred within 12 months or such longer lockup period imposed by the CSRC or stock exchanges, if applicable. The lockup period could be 12 months, 24 months or 36 months, in case of a “Material Asset Reorganization” as such term is defined under Art. 2 of the Administrative Measures for the Material Assets Reorganization of Listed Companies, enacted by the CSRC on July 7, 2014, as amended on September 8, 2016, or in case of a “Private Placement” as such term is defined under the Implementing Rules for Private Placements of Listed Companies, enacted by the CSRC on September 17, 2007, as amended on February 15, 2017. There are cases the stocks acquired by foreign investors are divided into two or three portions, each subject to a lockup period varying from 12 months to 24 or 36 months.  Therefore, not every case of foreign investment might be entitled to a reduced 12-month lockup period and CSRC regulations shall be consulted to ascertain the lockup period applicable to the particular case.


4. The minimum share percentage of 10% has been dropped.


Under the Measures, a minimum of 10% of the issued and outstanding stocks of the listed company shall be acquired by the foreign investor upon the first closing.  This minimum 10% threshold requirement reflects the policy goal of the Measures to attract sizeable “strategic investment” from foreign investor(s) to help improve corporate governance, management and operational standards of listed companies.  However, such 10% threshold requirement has not been strictly enforced in quite a few cases where the listed companies issued stocks of less than 10% to purchase foreign assets. Such 10% threshold requirement has been dropped in the Draft Amendment.


5. Qualification Requirements for Foreign Investors have been Reduced and Foreign Individuals are Permitted to Invest in Listed Companies.


Under the Measures, qualified foreign investors, or their actual controllers, shall own US$100 million plus assets or alternatively, manage US$500 million plus assets out of China.  However, under the Draft Amendment, for non-controlling transactions, a qualified foreign investor, or its actual controller, is required to own US$50 million plus assets or alternatively, manage US$300 million plus assets; and for controlling transactions, a foreign investor, or its actual controller, is subject to the same asset requirement. Also, under the Draft Amendment, the assets could be within China or out of China. Under such reduced asset requirement, substantially more foreign investors would be qualified to invest in the capital market in China.


In addition, qualified foreign individuals would be expressly[6] allowed for the first time to invest in listed companies under the Draft Amendment. The individual investor shall provide proof showing his capability to identify and bear the risks involved and lack of criminal record in the past three years.


6. Cross-border Share Swaps are Permitted.


Under Art. 6, a foreign investor can make strategic investment in a listed company with the existing or newly issued shares of a foreign company provided that: 


(i) the foreign company was duly incorporated in a jurisdiction with mature corporate legal system, and neither the foreign company nor its management personnel has received any serious penalties imposed by its regulator in the past three years; 

(ii) the shares are transferable and held legally by the foreign investor; and 

(iii) the foreign investor meets other relevant requirements of the CSRC. 


This provision marks a major difference from the requirement under the Provisions on the Merger and Acquisition of Domestic Enterprises by Foreign Investors, enacted by the MOFCOM on June 22, 2009 (“Circular #6”) which provides the shares a foreign investor uses as purchase consideration to acquire shares in a listed company in China must be publicly traded stocks issued by a foreign company incorporated in a jurisdiction with mature corporate legal system, and the trading price of the stock is stable during the past one year[7].  These stringent requirements for the foreign shares have been the major hurdles in many proposed share swap transactions between foreign companies and Chinese companies. Although M&As are frequently structured as share swaps in the U.S. and other mature capital markets for the benefits of reduced tax exposure and financing need and other reasons, among all share swaps we have advised on in China, most got abandoned and the very few exceptions got closed due to very peculiar circumstances not generally applicable to others[8].  Cash purchase has been the predominant means listed companies in China use to complete cross-border M&As. However, cash purchase is problematic because


(i) due to tightened foreign exchange control in effect these years, listed companies in China have difficulty to purchase U.S. dollars or other foreign currencies; and 

(ii) the foreign seller might be exposed to immediate tax obligation in connection with any substantial capital gains resulting from the cash purchase. 


From the perspective of companies listed in China, this Art. 6 might enable Chinese listed companies to invest in or acquire foreign companies by share swap, a tool rarely utilized because of the regulatory hurdles.  Advantages of share swaps are obvious for listed companies in China.  For example, in many buyout transactions led by Chinese buyers, Chinese buyers would want to allow the selling founder(s) or key person of the foreign target to acquire or keep certain shares in the Chinese buyers through share swaps to align the interest and reduce potential moral hazard associated with a retained management team without any ownership interest in the company. Share swaps also allow Chinese buyers to substantially reduce or eliminate the need to purchase foreign currencies.  We anticipate share swaps would be a preferred form of foreign investment in listed companies.


Since China enacted and enforces separate sets of regulations for foreign direct investments (“FDI”) and domestic enterprises’ overseas direct investment (the “ODI”), a share swap would trigger regulatory requirements under both the FDI laws and regulations and the ODI related laws and regulations.

a. Requirements under the FDI Laws and Regulations

For share swap involving a listed company subject to the Negative List, thus triggering the approval requirement of the MOFCOM or its provincial branch, the listed company or the foreign investor shall submit, among other: the Certificate for Enterprise Overseas Investment issued by the MOFCOM or its local branch (the “ODI Certificate”), relevant proof of registration with the SAFE, and report issued by a China registered professional intermediary containing results of diligence of the truthfulness of the application document, the financial status of the foreign investor and opinion on whether the transaction satisfies the requirements under Art. 6[9].


While the Draft Amendment is silent on whether a share swap with a public company not subject to the Negative List would trigger the requirement for the ODI Certificate and foreign exchange registrations, Art. 8 of the Record-filing Measures provides that when making filings in connection with the formation or change of a FIE, the FIE or its investor(s) shall submit, among other documents, the ODI Certificate issued to the domestic enterprise in case the foreign investor contributes to or form the FIE using qualified shares in a foreign company, i.e. via a share swap[10].  The Record-filing Measures apply to all FIEs not subject to the Negative List, therefore, such Art.8 shall apply to listed companies as well. Based on the above, a share swap with a public company not subject to the Negative List would also trigger the ODI approval/registration requirement.


b. Requirement under the ODI Laws and Regulations

While it is not our primary focus of discussion here we would like to point out that a share swap with a foreign private company would also be viewed and regulated as an ODI transaction and is subject to a separate set of laws and regulations applicable to ODI transactions[11].  Depending on whether the foreign company is engaged in industry sectors restricted for ODI or based in unstable or unsafe jurisdictions, ODI specific approval or registration with the NDRC, MOFCOM and SAFE will be required.  As a general comment, due to China’s shrinking foreign reserve and other factors, China has tightened control over ODI transactions and strictly review application for purchase of foreign currencies. Should any foreign investor consider share swap with a listed company in China, the ODI approval or registration process shall be initiated as early as possible, regardless of whether any cash consideration is contemplated.


7. Exceptions


This Draft Amendment does not apply to purchase of stock on secondary markets by QFLP and RQFLP; secondary market trading through Shanghai-Hong Kong Linkage or Shenzhen-Hong Kong Linkage; a foreign investor’s obtaining of A Shares through domestic IPO of a FIE; and a foreign natural person’s obtaining of stocks pursuant to ESOP, etc.


8. Conclusions


China committed to further open the market and provide national treatment to foreign investors investing in industry sectors not subject to the Negative List.  As the Record-filing Measures have been implemented nation-wide, the Draft Amendment reflects the government’s efforts to expand the implementation of the foreign investment access rules to cover listed companies.  Since the NPC Decision in 2016, an increasing number of foreign investors have invested in listed companies not subject to the Negative List or its predecessor, including a handful of cases involving share swaps.  While we have not seen cases where foreign investors complete typical hostile takeover, tend offer or privatization transactions in connection with companies listed on Shanghai or Shenzhen stock exchanges, foreign investors have been acquiring substantial non-controlling shares in the listed companies in pursuit of strategic partnership or commercial cooperation. Foreign investors interested in investing in listed companies in China are advised to closely follow new regulations to be enacted by the MOFCOM, NDRC and SAFE from time to time.





[1] Foreign invested enterprise could take the form of a wholly foreign owned enterprise, an equity joint venture or a contractual joint venture.


[2] The industry sectors not subject to the “special administrative measures for access of foreign investment” refer to those industry sectors not prohibited or restricted in terms of ownership percentage or management roles for foreign investment, as specified on the Special Administrative Measures for Access of Foreign Investment (the “Negative List”) (2018 Edition), enacted by the MOFCOM and National Development and Reform Commission (the “NDRC”) on June 28, 2018, or its predecessors.


[3] Art. 7 of the Record-filing Measures provides, where a listed company introduces a new foreign investor and is subject to the record-filling requirement, it shall complete the formalities for the record-filing and submit the Change Application within 30 days after completing the securities registration with the securities registration and settlement institution.


[4] The threshold amount is US$100 million under the Service Guideline of Approval Matters related to Foreign Investments, as updated the MOFCOM on December 1, 2017; note however, the threshold amount has been increased to US$1 billion under Circular #19.  Due to the obvious discrepancy, the threshold amount remains to be clarified by the MOFCOM.


[5] A Share means ordinary shares denominated in RMB, issued by a PRC domestic company for subscription and trade in RMB by domestic investors primarily.


[6] Despite lack express permission under the Measures, foreign individuals were permitted to invest in listed companies in several cases. 


[7] Art. 28 and 29 of Circular #6.


[8] In each of the publicized share swap transactions completed by listed companies Capital Tourism Hotel and Aerospace Technology, the share swaps were essentially carried out between affiliates under the same control.


[9] Art. 16, of the Draft Amendment.


[10] While it is not our primary focus of discussion in this newsletter, we would like to point out that a private company might also carry out a share swap with a foreign investor, converting itself into a FIE, pursuant to item (8), Art. 8 of the Record-filing Measures. Up until now, share swap is not a common practice between foreign private companies and Chinese private companies either although we advised on one major share swap involving a private Chinese company in Shanghai Free Trade Zone (Yanfeng Auto Interiors) and a U.S. private company (Johnson Controls).  Share swaps between a Chinese private company and its offshore affiliate for restructuring purposes are allowed upon approval but not focus on our discussion here.


[11] Art.16, Art. 20 of the Draft Amendment.