Advisory Board

  • Cai Hongbin
  • Peking University Guanghua School of Management
  • Peter Clarke
  • Barry Diller
  • IAC/InterActiveCorp
  • Fu Chengyu
  • China National Petrochemical Corporation (Sinopec Group)
  • Richard J. Gnodde
  • Goldman Sachs International
  • Lodewijk Hijmans van den Bergh
  • De Brauw Blackstone Westbroek N.V.
  • Jiang Jianqing
  • Industrial and Commercial Bank of China, Ltd. (ICBC)
  • Handel Lee
  • King & Wood Mallesons
  • Richard Li
  • PCCW Limited
  • Pacific Century Group
  • Liew Mun Leong
  • Changi Airport Group
  • Martin Lipton
  • New York University
  • Wachtell, Lipton, Rosen & Katz
  • Liu Mingkang
  • China Banking Regulatory Commission (CBRC)
  • Dinesh C. Paliwal
  • Harman International Industries
  • Leon Pasternak
  • BCC Partners
  • Tim Payne
  • Brunswick Group
  • Joseph R. Perella
  • Perella Weinberg Partners
  • Baron David de Rothschild
  • N M Rothschild & Sons Limited
  • Dilhan Pillay Sandrasegara
  • Temasek International Pte. Ltd.
  • Shao Ning
  • State-owned Assets Supervision and Administration Commission of the State Council of China (SASAC)
  • John W. Snow
  • Cerberus Capital Management, L.P.
  • Former U.S. Secretary of Treasury
  • Bharat Vasani
  • Tata Group
  • Wang Junfeng
  • King & Wood Mallesons
  • Wang Kejin
  • China Banking Regulatory Commission (CBRC)
  • Wei Jiafu
  • Kazakhstan Potash Corporation Limited
  • Yang Chao
  • China Life Insurance Co. Ltd.
  • Zhu Min
  • International Monetary Fund

Legal Roundtable

  • Dimitry Afanasiev
  • Egorov Puginsky Afanasiev and Partners (Moscow)
  • William T. Allen
  • NYU Stern School of Business
  • Wachtell, Lipton, Rosen & Katz (New York)
  • Johan Aalto
  • Hannes Snellman Attorneys Ltd (Finland)
  • Nigel P. G. Boardman
  • Slaughter and May (London)
  • Willem J.L. Calkoen
  • NautaDutilh N.V. (Rotterdam)
  • Peter Callens
  • Loyens & Loeff (Brussels)
  • Bertrand Cardi
  • Darrois Villey Maillot & Brochier (Paris)
  • Santiago Carregal
  • Marval, O’Farrell & Mairal (Buenos Aires)
  • Martín Carrizosa
  • Philippi Prietocarrizosa & Uría (Bogotá)
  • Carlos G. Cordero G.
  • Aleman, Cordero, Galindo & Lee (Panama)
  • Ewen Crouch
  • Allens (Sydney)
  • Adam O. Emmerich
  • Wachtell, Lipton, Rosen & Katz (New York)
  • Rachel Eng
  • WongPartnership (Singapore)
  • Sergio Erede
  • BonelliErede (Milan)
  • Kenichi Fujinawa
  • Nagashima Ohno & Tsunematsu (Tokyo)
  • Manuel Galicia Romero
  • Galicia Abogados (Mexico City)
  • Danny Gilbert
  • Gilbert + Tobin (Sydney)
  • Vladimíra Glatzová
  • Glatzová & Co. (Prague)
  • Juan Miguel Goenechea
  • Uría Menéndez (Madrid)
  • Andrey A. Goltsblat
  • Goltsblat BLP (Moscow)
  • Juan Francisco Gutiérrez I.
  • Philippi Prietocarrizosa & Uría (Santiago)
  • Fang He
  • Jun He Law Offices (Beijing)
  • Christian Herbst
  • Schönherr (Vienna)
  • Lodewijk Hijmans van den Bergh
  • De Brauw Blackstone Westbroek N.V. (Amsterdam)
  • Hein Hooghoudt
  • NautaDutilh N.V. (Amsterdam)
  • Sameer Huda
  • Hadef & Partners (Dubai)
  • Masakazu Iwakura
  • TMI Associates (Tokyo)
  • Christof Jäckle
  • Hengeler Mueller (Frankfurt)
  • Michael Mervyn Katz
  • Edward Nathan Sonnenbergs (Johannesburg)
  • Handel Lee
  • King & Wood Mallesons (Beijing)
  • Martin Lipton
  • Wachtell, Lipton, Rosen & Katz (New York)
  • Alain Maillot
  • Darrois Villey Maillot Brochier (Paris)
  • Antônio Corrêa Meyer
  • Machado, Meyer, Sendacz e Opice (São Paulo)
  • Sergio Michelsen Jaramillo
  • Brigard & Urrutia (Bogotá)
  • Zia Mody
  • AZB & Partners (Mumbai)
  • Christopher Murray
  • Osler (Toronto)
  • Francisco Antunes Maciel Müssnich
  • Barbosa, Müssnich & Aragão (Rio de Janeiro)
  • I. Berl Nadler
  • Davies Ward Phillips & Vineberg LLP (Toronto)
  • Umberto Nicodano
  • BonelliErede (Milan)
  • Brian O'Gorman
  • Arthur Cox (Dublin)
  • Robin Panovka
  • Wachtell, Lipton, Rosen & Katz (New York)
  • Sang-Yeol Park
  • Park & Partners (Seoul)
  • José Antonio Payet Puccio
  • Payet Rey Cauvi (Lima)
  • Kees Peijster
  • COFRA Holding AG (Zug)
  • Juan Martín Perrotto
  • Uría & Menéndez (Madrid/Beijing)
  • Philip Podzebenko
  • Herbert Smith Freehills (Sydney)
  • Geert Potjewijd
  • De Brauw Blackstone Westbroek (Amsterdam/Beijing)
  • Qi Adam Li
  • Jun He Law Offices (Shanghai)
  • Biörn Riese
  • Jurie Advokat AB (Sweden)
  • Mark Rigotti
  • Herbert Smith Freehills (Sydney)
  • Rafael Robles Miaja
  • Robles Miaja (Mexico City)
  • Alberto Saravalle
  • BonelliErede (Milan)
  • Maximilian Schiessl
  • Hengeler Mueller (Düsseldorf)
  • Cyril S. Shroff
  • Cyril Amarchand Mangaldas (Mumbai)
  • Shardul S. Shroff
  • Shardul Amarchand Mangaldas & Co.(New Delhi)
  • Klaus Søgaard
  • Gorrissen Federspiel (Denmark)
  • Ezekiel Solomon
  • Allens (Sydney)
  • Emanuel P. Strehle
  • Hengeler Mueller (Munich)
  • David E. Tadmor
  • Tadmor & Co. (Tel Aviv)
  • Kevin J. Thomson
  • Barrick Gold Corporation (Toronto)
  • Yu Wakae
  • Nagashima Ohno & Tsunematsu (Tokyo)
  • Wang Junfeng
  • King & Wood Mallesons (Beijing)
  • Tomasz Wardynski
  • Wardynski & Partners (Warsaw)
  • Xiao Wei
  • Jun He Law Offices (Beijing)
  • Xu Ping
  • King & Wood Mallesons (Beijing)
  • Shuji Yanase
  • OK Corporation (Tokyo)
  • Alvin Yeo
  • WongPartnership LLP (Singapore)

Founding Directors

  • William T. Allen
  • NYU Stern School of Business
  • Wachtell, Lipton, Rosen & Katz
  • Nigel P.G. Boardman
  • Slaughter and May
  • Cai Hongbin
  • Peking University Guanghua School of Management
  • Adam O. Emmerich
  • Wachtell, Lipton, Rosen & Katz
  • Robin Panovka
  • Wachtell, Lipton, Rosen & Katz
  • Peter Williamson
  • Cambridge Judge Business School
  • Franny Yao
  • Ernst & Young

China

GLOBAL STATISTICAL UPDATE – XBMA Quarterly Review for Third Quarter 2018

Editors’ Note: The XBMA Review is published on a quarterly basis in order to facilitate a deeper understanding of trends and developments. In order to facilitate meaningful comparisons, the XBMA Review has utilized generally consistent metrics and sources of data since inception. We welcome feedback and suggestions for improving the XBMA Review or for interpreting the data.
Executive Summary/Highlights:
  • Global M&A in 2018 is at record levels, and at the current pace could approach 2007’s all-time high of almost US$5 trillion.
  • Cross-border dealmaking has surged, with the volume of cross-border M&A over the first three quarters of 2018 already far surpassing that of all of 2017.
  • Likewise, the market for mega-deals remains strong, and each of the three largest deals announced in 2018 is larger than any deal announced in 2017.
  • European M&A volume has already exceeded US$940 billion through the first three quarters of 2018, well in excess of any full year since the beginning of 2009, including 2015 when European M&A reached a recent peak of US$914 billion.
  • Dealmaking has been helped by the strong global economy, robust corporate earnings, the continued availability of relatively inexpensive debt capital, the search for growth through acquisition of new products or markets and the need to adapt to technological disruption. A significant wild card that may dampen or disrupt the trend is the risk of a serious trade war or other geo-political instability.

Click here to see the Review.

The views expressed herein are solely those of the author and have not been endorsed, confirmed, or approved by XBMA, nor by XBMA’s founders, members, contributors, academic partners, advisory board members, or others. No inference to the contrary should be drawn.

GLOBAL STATISTICAL UPDATE – XBMA Quarterly Review for Second Quarter 2018

Editors’ Note: The XBMA Review is published on a quarterly basis in order to facilitate a deeper understanding of trends and developments. In order to facilitate meaningful comparisons, the XBMA Review has utilized generally consistent metrics and sources of data since inception. We welcome feedback and suggestions for improving the XBMA Review or for interpreting the data.

Executive Summary/Highlights:

  • The global M&A environment continued to show historic strength in 2018, as global deal volume reached nearly US$1.3 trillion for the second quarter and US$2.5 trillion for the first half of the year.
  • Global M&A activity has enjoyed a steady climb over the last several quarters and has increased sharply since Q3 2017, with global deal volume exceeding US$1.0 trillion in each of the ensuing three quarters. Q1 and Q2 2018 were two of the most active quarters for global M&A ever.
  • Cross-border transactions have continued to comprise a significant portion of global deal volume, accounting for 41% of overall M&A in Q2 2018. Cross-border M&A activity has already exceeded US$1.0 trillion for the first half of 2018.
  • In emerging markets, inbound M&A volume into the BRIC countries reached US$63 billion in aggregate in Q2 2018. Most notably, the volume of inbound M&A activity increased significantly in China and India during Q2 2018 as compared to prior quarters.
  • Q2 was highlighted by a number of headline-grabbing mega-deals across sectors, including T‑Mobile’s combination with Sprint. The volume of transactions with values of more than US$500 million is on pace to increase approximately 65% in 2018 compared to 2017.
  • The blistering pace of global M&A activity in 2018 continues to be driven by the impact and the anticipation of disruptive technologies across industries, and in the media and entertainment, telecommunications and healthcare sectors, in particular.

Click here to see the Review.

The views expressed herein are solely those of the author and have not been endorsed, confirmed, or approved by XBMA, nor by XBMA’s founders, members, contributors, academic partners, advisory board members, or others. No inference to the contrary should be drawn.

CHINESE UPDATE – The Future of Automotive JVs under the New Policy of Opening Up the Automotive Industry in China

Contributed by: Adam Li (Li Qi), Jun He Law Offices (Shanghai)

Editors’ Note: Contributed by Adam Li, a partner at JunHe and a member of XBMA’s Legal Roundtable. Mr. Li is a leading expert in international mergers & acquisitions, capital markets and international financial transactions involving Chinese companies. This article was authored by Mr. Michael Weng, and Mr. Daniel He, both partners at JunHe. Mr. Weng has broad experience dealing with complicated foreign direct investment and cross-border M&A transactions, and Mr. He is specialized in merger and acquisition projects, joint venture transactions, and strategic investment projects in various industries.

Summary

There are numerous examples of Automotive JVs that have been operating successfully and profitably in China for more than a decade. With the imminent removal of the shareholding cap on foreign investment in automotive manufacturing, there will be opportunities for Chinese and foreign parties to alter their equity holdings, including being able to buy out the JV partner or exit in part or completely. It is our assessment that Chinese and foreign parties are unlikely to immediately implement any major changes. Rather, we expect them to maintain the status quo for a considerable period of time, until larger commercial incentives trigger a withdrawal of one of the joint venture partners.

 

Main Article

At the recent Boao Forum for Asia Annual Conference 2018, the Chinese President Mr. Xi Jinping announced that “China will remain unchanged in its adherence to reforming and opening up, and will continue to launch new major measures to pursue further opening up.”  Since then, both the National Development and Reform Commission (“NDRC”) and the Ministry of Industry and Information Technology in their respective Answers to Reporters’ Questions have committed to gradually opening up automotive manufacturing to foreign investment before 2022 by removing the shareholding limit for foreign investors and also the restriction on foreign investors being allowed to invest in no more than two automotive joint ventures. The reforms and their implications for the future are of great relevance to the many long-standing, active Sino-foreign automotive joint ventures (“Automotive JVs”). In this article, we will discuss several possible development paths for Automotive JVs, and some of the issues arising from the reforms.

 

I.       Possible Development Paths for Automotive JVs

 

1.   Chinese Partner Acquires All or Part of the Equity Held by Foreign Investor

Thanks to the massive growth in demand in the Chinese automotive market, many of the Automotive JVs have been highly profitable. The Chinese partners of those Automotive JVs have primarily been very large central or local state-owned enterprises (“SOEs”) with solid foundations and extensive connections, enabling them to make a vital contribution to Automotive JVs’ swift localization and expansion within the Chinese market. It may be that these Chinese partners will hope to acquire the equity interest held by their Automotive JV foreign partners in order to further strengthen their control within the Automotive JV and to improve their profit earnings. However, Automotive JVs are still largely reliant upon their foreign partners for business resources including branding, new ideas, technology and equipment, and the auto groups to which the foreign partners belong are unlikely to willingly give up the substantial revenue and profits generated by the Automotive JVs. Hence, it will likely prove difficult, at least in the short run, for the Chinese partners of any successful Automotive JV to disrupt the structural balance by acquiring all or part of their foreign partner’s equity.

However, for an Automotive JV that is struggling and not profitable, it is possible that the Chinese partner may be able to acquire their foreign partner’s equity. Indeed, it may well be that a foreign partner in such unsuccessful Automotive JV has already been contemplating an exit. The gradual removal of restrictions on foreign investment in automotive manufacturing presents the opportunity for foreign partners to leave an unsuccessful Automotive JV and set up their own entity. However, before making such a decision, a foreign partner should first make a full assessment of its ability to operate the business independently.  Success in the Chinese market requires not only branding, technology and management expertise, but also access to and control of sales channels and an in-depth understanding of local consumers and markets.

 

2.  Foreign Partner Acquires All or Part of the Equity Held by Chinese Partner

Removing the shareholding cap of foreign investments in automotive manufacturing has eliminated the legal barrier preventing foreign partners from acquiring the equity held by their Chinese partners, but is of course dependent upon the willingness of both sides to pursue this option. It seems highly unlikely that a Chinese partner would be inclined to relinquish its equity interest in a profitable Automotive JV. Moreover, from a strategic perspective, a Chinese partner aiming to build up its own brands may use the leverage of its involvement in an Automotive JV, which brings with it indirect support in the expansion and influence of the Chinese partner’s own independent brands, by having access to the Automotive JV’s upgraded products and technologies, and skills development. In addition, with only very limited licenses to manufacture traditional fuel vehicles, it is highly unlikely that any newly established automotive manufacturer would be able to attain the necessary regulatory approval. Ultimately, the Chinese partner is highly unlikely to hand over control of the Automotive JV with the required manufacturing license. For an under-performing Automotive JV, while the acquisition of a Chinese partner’s equity may not bring immediate financial benefits, the foreign partner could use the existing manufacturing approval, production lines and personnel to start production right away. Provided the acquisition price of the Chinese partner’s equity is reasonable, this could be an effective shortcut for a foreign brand seeking to obtain production capacity and operate independently.

 

3.  Maintain the Status Quo

After the NDRC released its information on easing restrictions on foreign investment in automotive manufacturing, some of the foreign partners of existing Automotive JVs were quick to confirm their intention to continue to support the development of their respective current joint ventures in China. It is our assessment that both the Chinese and foreign parties should take a pragmatic approach to the new policy and, at least in the short-term, focus on maintaining the current structure. It seems unlikely — at least until the expiry of the operation term of the existing joint venture contract — that the Chinese and foreign parties of most of Automotive JVs automakers will initiate a change in the balance of ownership by seeking to acquire all or part of the equity held by their partner.

 

II.      Key Factors Influencing the Possible Development Path

Once the shareholding limits for foreign investors in automotive manufacturing have been phased out, a variety of factors will determine whether foreign automakers choose to remain with their Chinese partners or to make their own way. Some of the key factors for consideration are listed below.

 

1.  Continuing Product Upgrade

At present, many of the Automotive JVs’ products are based upon foreign brands’ original overseas car models. The production of core components, such as vehicle engines and gearboxes, is primarily based upon foreign partner’s technology. Therefore, the prosperity of the Chinese automobile market driven by the Automotive JVs is essentially attributable to foreign automakers’ products. The continuing survival and success of Automotive JVs is at least in part dependent upon foreign partners providing access to upgraded products and technologies. The growing sophistication of Chinese consumers and the emergence of local automotive brands builders means that Automotive JVs are facing an ever more demanding and competitive market. Only those Automotive JVs that continuously innovate will survive. The removal of the shareholder cap means that a foreign automaker with strong product R&D and upgrade capabilities and whose Chinese partners lack product input capabilities may be able to use their relative strength to persuade their Chinese partner to transfer some of their equity. If a foreign automaker is able to obtain continuing regulatory approval to manufacture on their own (as mentioned above, the possibility of obtaining new licenses is very slim), it may be possible for the foreign automaker to set aside the existing Automotive JV in order to establish a separate company, manufacturing and selling their own automobiles in a wholly-owned company.

 

2.  The Trend toward New Energy Vehicles

The growth in purchases of traditional fuel vehicles has slowed down in recent years. In the meantime, sales of new energy vehicles are increasing, attributable at least to some extent to Chinese government efforts to promote these upgraded, clean energy automobiles. Nowadays the vast majority of Automotive JVs’ production is traditional fuel vehicles. However, this is likely to change, with declined growth in demand for fuel vehicles, the implementation of government policy incentives for new energy vehicles, and preemptive dominance of the new energy car market by the Chinese traditional and new automakers. Given that the first shareholding cap to be eliminated will be on new energy car manufacturers, in 2018, foreign automakers will need to decide how they intend to manufacture new energy vehicles in China, whether by taking advantage of a current Automotive JV to apply for cross-category production of new energy vehicles, or by establishing a new wholly-owned subsidiary to undertake this task. The Measures for the Parallel Administration of the Average Fuel Consumption and New Energy Vehicle Points of Passenger Vehicle Enterprises (“Points Administration Policy”) that have been implemented since April 1, 2018, require foreign automakers to take into account the impact on the production of fuel vehicles by the existing JV automaker in their overall production plans. Starting from 2019, according to the Points Administration Policy, there will be a points system under which Automotive JVs will be subject to production limits for fuel vehicles. When this limit is reached, they will be required to produce a certain proportion of new energy vehicles in order to be permitted to continue the production of fuel vehicles. Points will be accrued for the manufacture of new energy vehicles by Automotive JVs and additionally will be available for purchase, through an official platform, from third parties with surplus points. As it stands, the simplest way for foreign automakers to satisfy the new energy vehicle points requirements and to continue production of fuel vehicles is to maintain their current Automotive JV, while introducing new energy vehicle models.

 

Influences of the Tariff Cut

On May 22, 2018, the Customs Tariff Commission of the State Council issued an announcement stating that, effective from July 1, 2018, there will be a reduction of tariffs on imported vehicles and car parts. Tariff rates on vehicles will be reduced from their current levels of 20% and 25%, down to 15%. Even after the adjustment, tariffs will remain higher than in developed countries such as Europe, the United States and Japan. Moreover, the final price of imported cars will also be subject to VAT, consumption tax, dealer profits, and other factors. While the tariff cuts may initially have a short-term stimulating effect on sales of imported vehicles, their impact is not forecasted to be significant in the long run. In an environment where foreign investment restrictions are gradually being lifted, foreign automakers seeking to become more competitive will need to take into consideration the relative costs and factors – economic and non-economic – of establishing or acquiring a wholly-owned local automaker compared with the option of exporting vehicles to China under a lower tariff regime.

 

3.  Difficulties in Going Solo

One of the Chinese government’s original intentions in formulating the automotive joint venture policy was a “market-for-technology” strategy. In return for providing their technology, foreign automakers have gained Chinese market share through their partnerships with China’s central and local SOEs and large-scale private enterprises. In addition, the foreign automakers have obtained special support and benefits in aspects such as regulatory approvals, land acquisition and factory construction, fiscal subsidy and tax preferential treatment, and so on, without which their foreign automotive products might not even have been brought into China. If, after removal of the foreign shareholding cap, a foreign automaker chooses to operate completely independently and without the support of Chinese partners, there is no certainty that they will continue to enjoy such special benefits. Specifically, approvals for new energy vehicle manufacturing are currently on hold and there are unlikely to be many more licenses issued to manufacture traditional fuel vehicles. While it is anticipated that the approval process for new energy vehicles will recommence soon, it seems likely that entry thresholds will rise substantially. Against this background, it may be unwise for foreign automakers to abandon their current joint ventures and start over on their own. Building an automobile sales and after-sales network is a costly and time-consuming process, further complicated by the range of differing local business environments around China. Without Chinese partners to help navigate local markets, foreign automakers will likely face barriers to a quick set-up and roll out of sales and after-sales networks, particularly on dealing with the existing dealers of the JV Automakers and balancing their relationships and interests.

 

*     *     *     *     *

 

In the decades since Automotive JVs were first established, there have been numerous reforms to the legal environment as well as changes in the range of products offered, fluctuating market conditions, the introduction of new domestic brands, increases in labor and other production costs, a shifting international business environment, and the emergence of new energy cars. As is so often the case in China, the only constant is change itself.

 

The views expressed herein are solely those of the author and have not been endorsed, confirmed, or approved by XBMA or any of the editors of XBMA Forum, nor by XBMA’s founders, members, contributors, academic partners, advisory board members, or others. No inference to the contrary should be drawn.

 

CHINA UPDATE – Stricter enforcement of environmental regulations in China

Editors’ Note: Lodewijk Hijmans van den Bergh and Geert Potjewijd are partners at De Brauw Blackstone Westbroek, resident in Amsterdam, and Adam Li is a partner at JunHe LLP, resident in Shanghai and Silicon Valley. They are members of XBMA’s Legal Roundtable.  As leading M&A lawyers, they have broad expertise handling significant cross-border transactions.

Last year’s Party Congress made clear China’s commitment to environmental protection: in his opening speech, President Xi Jinping mentioned “environment” 89 times, while “economy” stopped at 70. The new environmental zeal has led to a surge in relocations and shutdowns, impacting companies active in China or heavily reliant on Chinese suppliers. This was illustrated by a recent Bloomberg article reporting that environmental action had resulted in a sudden shortage of raw material in the solar panel industry, driving up costs and crushing margins for scrambling manufacturers.

Companies active in China should comply with China’s new environmental regulations and assertively engage with authorities to prevent potential problems. In addition, companies heavily reliant on China-based suppliers, especially in highly-regulated areas or industries, should actively monitor risks and put precautionary measures in place to mitigate potential disruptions in their production and supply chains.

Changes in environmental policy enforcement 

Where previously China’s environmental enforcement authorities have been accused of lacking teeth due to the government’s unwillingness to interfere with economic growth, this notion has shifted since China’s new environmental protection law entered into force on 1 January 2015. In the past, environmental authorities reported to local government heads, who (for various reasons) might use their power to block environmental penalties interfering with their economic goals. Under the new law, however, these local environmental authorities can report directly to superior environmental authorities, removing this potential conflict of interest. Additionally, the new law enables environmental NGOs to pursue legal action – which could cause legal and reputational damage – against companies violating national environmental regulations.

The 2015 developments led to much stricter environmental enforcement in the following years. Since July 2016, four rounds of dawn raids and on-site inspections have penalised some 18,000 polluting companies. Moreover, shutdowns and relocations resulting from enforcement of environmental regulations have drastically increased since May 2017, affecting industries such as textiles, chemicals, plastics, coating, paper, rubber, metals, dyeing, painting and printing.

This trend is set to continue in the coming years as numerous new regulations and guidelines come into force. On 20 September 2017, China’s State Council released its ”Opinion Concerning Establishment of a Long-Term Mechanism for Early-Warning and Monitoring of Environmental and Natural Resources Carrying Capacity”. This opinion gives government authorities the power to suspend major projects in heavily-polluted areas. The opinion also states that companies responsible for damage to the environment, and local officials that fail to uphold the ban, may face criminal liability. Another development is China’s new environmental tax law, which came into force on 1 January 2018. This law increases the tax burden on entities that emit air, water, solid waste, or noise pollution, while granting preferential tax treatments to polluters which drastically reduce their emissions. Finally, the State Council issued ”Instruction 77 for Relocation of Hazardous Chemical Enterprises in Heavily Populated Areas” in August 2017, which addresses the relocation of hazardous chemical entities at a local level. Entities that create significant potential risks to the population must relocate by 2020, while larger entities need to move by 2025.

Assessment and outlook

Given the wide discretion of the enforcement actions, assertive engagement is crucial in dealing with China’s local government and environmental authorities. The increased importance of environmental protection will not only result in more inspections and enforcement, but is likely to have an impact on all regulatory approval. A satisfactory environmental narrative might very well become a key driver in establishing any form of government cooperation. For this reason, it is essential for companies to be proactive when addressing environmental protection. Proactive communication will not only help drive the conversation, but will also make the authorities more willing to collaborate.

From an operational perspective, China’s environmental crackdown has hit companies at every level, resulting in serious disruptions to supply chains, including for foreign multinationals. In addition to the example provided above, the SCMP recently reported that as a result of a forced shutdown of a Chinese supplier of a global car parts manufacturer, the production of more than 200 car models of 49 brands were affected. As this new enforcement trend is set to become the new norm, it is essential for companies to ensure that they not only comply with relevant regulations and guidelines themselves, but also audit their business partners’ compliance. In doing so, companies should be aware that even if they (or their business partners) comply with all existing legal requirements, they may still be subject to relocation; especially if a company operates in a highly-regulated area or industry, as relocation can sometimes be driven by unrelated (and thus more unpredictable) policy considerations. In this respect, supply chain management is key. As a sudden shutdown of a business partner can disrupt an entire production chain, it is crucial to carefully screen the complete supply chain for environmental compliance at both national and local levels and to ensure that any business partners have all the required licences. Depending on the standing of a company’s suppliers, contingency planning might be necessary.

The views expressed herein are solely those of the author and have not been endorsed, confirmed, or approved by XBMA or any of the editors of XBMA Forum, nor by XBMA’s founders, members, contributors, academic partners, advisory board members, or others. No inference to the contrary should be drawn.

CHINESE UPDATE – China’s NDRC Issued New Outbound Investment Rules

Editors’ Note: This article was written and contributed by Wang Kaiding, corporate partner at King & Wood Mallesons. Mr. Wang focuses on cross-border mergers and acquisitions, foreign investment in China, corporate governance and general corporate law matters. He has worked on a range of transactions, including domestic and cross-border merger and acquisition transactions, private equity transactions, reorganizations, joint ventures and divestitures. He was joined by Huang Mengting and Tang Xinran in writing this article.

On 26 December 2017, the National Development and Reform Commission (“NDRC”) issued the Administrative Measures for Enterprise Outbound Investment[1] (“Regulation No. 11”) which will come into force on 1 March 2018.

Regulation No. 11 contains six chapters and 66 articles. Compared to the 2014 Administrative Measures for the Verification and Record-filing on Outbound Investment Projects[2] (“Regulation No. 9”), there are several significant changes. The change of the regulation’s title indicates that monitoring of outbound investments will no longer be limited to pre-transaction “verification” and “record-filing”, but will also cover the periods during and after transactions.

For a summary of pre-transaction administrative measures required under Regulation No. 11, please refer to the end of this article.

Key points to note about Regulation No. 11 are:

“Road-pass” regime eliminated, time costs reduced, and more deal certainty

Article 10 of Regulation No. 9 states that:

When undertaking outbound acquisitions or bidding projects with total investment exceeding USD300 million (inclusive), Chinese investors shall submit a project information report to NDRC before carrying out any substantive work.”

This article drew great market attention. Dubbed the “road-pass”, it meant Chinese investors involved in outbound bidding transactions exceeding USD300 million (inclusive), had to obtain confirmation letter from the NDRC before making a binding offer.

Regulation No. 11 eliminates the “road-pass” regime, which evidences NDRC’s intention to “further streamline administration and delegate power”.

Covered transactions expanded

1. Outbound investments are categorized into two types: those conducted directly by domestic investors; or through overseas enterprises controlled by domestic investors.

Regulation No. 9 applies to outbound investments conducted by domestic investors (i.e. domestic legal persons) or through their overseas enterprises or institutions if a domestic investor provided financing or guarantees.

According to Article 2 of Regulation No. 11, the scope of application of Regulation No. 11 covers outbound investments conducted directly by domestic investors (i.e. domestic enterprises) or through controlled overseas enterprises.

(1) Outbound investments conducted directly by domestic investors

Article 2 of Regulation No. 11 does not elaborate on outbound investments conducted “directly by domestic investors” or “through controlled overseas enterprises”.

Based on Article 14 of Regulation No. 11, outbound investments conducted “directly by domestic investors” refers to outbound investments relating to which domestic investors directly invest assets, interests or provide financing or a guarantee. The definition covers outbound investments conducted by domestic investors as the investing entity, or through their overseas enterprises (regardless of whether or not the domestic investor controls the overseas enterprise) with financing or a guarantee provided by a domestic investor.

(2) Outbound investments conducted through overseas enterprises controlled by domestic investors

Under Regulation No. 11, outbound investments conducted “through controlled overseas enterprises” refers to outbound investments conducted by overseas enterprises controlled by domestic investors in which the domestic investors do not directly invest assets, interests or provide financing or a guarantee.

Domestic investors conducting outbound investments through their overseas enterprises are not governed by Regulation No. 9 unless they have provided cross-border financing or guarantees. In practice, many investors used this loophole to avoid the verification and record-filing procedures required by Regulation No. 9. Outbound investments conducted by domestic natural persons are not governed by Regulation No. 9 either.

All outbound investments conducted by domestic investors through their controlled overseas enterprises (regardless of whether the domestic enterprise provides cross-border financing or guarantees or not) will now fall within the scope of Regulation No. 11. In addition, under Article 63 of Regulation No. 11, outbound investments conducted by domestic natural persons through their controlled overseas enterprises are also covered by Regulation No. 11, although Regulation No. 11 still does not apply to outbound investments conducted directly by domestic natural persons.

The wider coverage of Regulation No. 11 will not substantially increase compliance costs for domestic investors. With respect to domestic enterprises and domestic natural persons who conduct outbound investments through their controlled overseas enterprises (domestic investors do not directly invest assets, interests or provide financing or a guarantee):

  • Sensitive projects will be subject to a verification procedure.
  • For non-sensitive projects:
    • if the total investment amount from Chinese parties exceeds USD 300 million (inclusive), investors shall submit a “situation report for a non-sensitive project with a large amount” to NDRC before the project is implemented through an online system. Verification and record-filing procedures are not required;
    • if the total investment amount from Chinese parties is less than USD300 million, then no pre-transaction verification, record-filing or reporting is required.

2. Outbound investments made by financial enterprises are also regulated by NDRC

Regulation No. 9 did not explicitly exclude financial enterprises, but, in practice, some market players were unclear about whether it applied to outbound investments made by domestic financial enterprises.

Under Regulation No. 11, NDRC has specified that Regulation No. 11 applies to outbound investments made by domestic financial enterprises.

Sensitive projects clarified, focusing on national interests and security

“Sensitive projects” under Regulation No. 11 include projects involving sensitive countries, regions or industries.

1.  Sensitive countries and regions

Regulation No. 11 defines “sensitive countries and regions” as including countries and regions:

  • without diplomatic relations with China;
  • experiencing war or internal strife;
  • where investment by enterprise is restricted by international treaties, or agreements China concluded or acceded to.
  • other sensitive countries and regions.

With respect to the newly-added category “other sensitive countries and regions”, investors may consult with NDRC through the procedure stated in Article 15 of Regulation No. 11.

2.  Sensitive Industries

Regulation No. 11 defines “sensitive industries” as including:

  • research on, manufacture and repair of weaponry;
  • cross-border water resources development and utilization;
  • news media;
  • industries to be restricted from outbound investments according to laws, regulations and relevant macro-control policies.

A Sensitive Industry Directory will be released by NDRC separately.

3.  Outbound Investment Guidelines

On 4 August 2017, the State Council promulgated the Guidelines on Further Guiding and Regulating the Directions of outbound Investments[3] (“Guidelines”), formulated by NDRC, Ministry of Commerce, People’s Bank of China and the Ministry of Foreign Affairs. The Guidelines divides outbound investments into “encouraged,” “restricted” and “prohibited” categories.

           (1) Prohibited category

Outbound investments that jeopardize (or may jeopardize) national interests and security are prohibited under the Guidelines. These include (a) outbound investments in relation to unauthorized export of Chinese military core technology and products; (b) outbound investments utilizing technologies, crafts, and products which are banned for export; (c) outbound investments in the gambling and pornography industries; (d) outbound investments prohibited by the international treaties China concluded or acceded to, and (e) other outbound investments that jeopardize or may jeopardize national interest or national security.

Under Article 5 of Regulation No. 11, outbound investments may not violate Chinese law and regulations or jeopardize national security or interests. Therefore, we understand that the category of prohibited outbound investments specified by the Guidelines should be regarded as outbound investments that violate Chinese laws and regulations.

           (2) Restricted category

Outbound investments which are inconsistent with foreign policies regarding peaceful development, mutually beneficial strategies and macro-control are restricted under the Guidelines. These include (a) outbound investments in any sensitive country and region without diplomatic relations with China, experiencing war or strife, or where investment by enterprise is restricted by international treaties, or agreements China concluded or acceded to; (b) outbound investments in the real estate, hotel, cinema, entertainment and sport club industries; (c) formation of equity investment funds or investment platforms without specific industrial projects; (d) outbound investments that utilize obsolete manufacturing equipment which cannot satisfy the technology standard of the destination country; or (e) outbound investments in violation of the destination country’s environment, energy efficiency and security standards.

The Guidelines specify that verification of relevant authorities is required for outbound investments falling under categories (a) to (c).

We understand that outbound investments under category (a) above are to sensitive countries and regions, while outbound investments under categories (b) and (c) are to sensitive industries, all of which are subject to verification under Regulation No. 11. Outbound investments under categories (d) and (e) are not subject to verification but will be closely supervised by authorities.

Verification and record-filing as an implementation condition– to comply with international practices and market conditions

Under Regulation No. 9, verification approval documents or record-filing notices issued by NDRC were a condition for transaction agreements to become effective.

In the international market, government approval is usually a condition for closing but does not affect a contract’s validity. In reality, many cross-border M&A’s conducted by domestic enterprises also regard government approvals as closing conditions. Therefore, there is a gap between Regulation No. 9 and market practice.

Under Regulation No. 11, domestic investors are required to obtain verification approval documents or record-filing notice prior to the “implementation” of a project. Prior to “implementation” means prior to when a domestic investor or its controlled overseas enterprise invests assets or interests into[4], or provides financing or guarantees for a project.

Explicitly stating circumstances and procedures where ‘change’ applications are required

Under Regulation No. 11, circumstances that require a ‘change’ application include:

  • Any change to the number of investors;
  • Any material change to the investment destination;
  • Any material change to main content and scale;
  • Any change to the amount of a Chinese party’s investment, equal to or greater than 20% (compared to the verified and filed amount) or of more than USD 100 million (inclusive);
  • Other circumstances where substantial changes are needed with respect to verification approval documents or record-filing notices.

Strengthening interim and ex post supervision

Articles 43, 44 and 45 of Regulation No. 11 provide mechanisms for reporting material adverse conditions, project completion, and inquiry and reports about material matters.

Under Article 44 (for projects subject to verification and record-filling requirement), the investor shall file a completion status report through the online system within 20 working days after the completion of a project (for example, after construction project completed, target shares or assets transaction closed, or investment amount paid).

Regulation by NDRC is no longer limited to pre-transaction regulation, with reporting and regulation mechanisms added for during the deal and after its closing. It is worth stressing that under Regulation No. 11, investors are only required to provide information to the authorities – not to perform verification and record-filing procedures.

The above changes to administrative measures demonstrate the clear direction of the reform — to streamline administration and delegate power, combine liberation with regulation, and improve services. The outcome will be a more transparent and predictable outbound investment administrative system.

In conclusion, we have summarized the pre-transaction administrative measures required under Regulation No. 11 for different types of outbound investment.

*****

[1] (企业境外投资管理办法)

[2] Issued by NDRC in April 2014 and as amended in December 2014 (境外投资项目核准和备案管理办法)

[3] 《关于进一步引导和规范境外投资方向的指导意见》(国办发〔2017〕74号)

[4] Excluding preliminary expenses for verification and record-filing in accordance with Article 17 of the Measures

The views expressed herein are solely those of the author and have not been endorsed, confirmed, or approved by XBMA or any of the editors of XBMA Forum, nor by XBMA’s founders, members, contributors, academic partners, advisory board members, or others. No inference to the contrary should be drawn.

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