ZHU Fan, GAO Chang, MIAO Roujia
Introduction
On April 30 and March 12, 2021, the State Administration for Market Regulation (the “SAMR”) respectively published several administrative penalty decisions for gum-jumping. In some of the cases, e.g., Dianping’s acquisition of Linkedcare[1], Meigengmei’s acquisition of Wangjiahuan[2] and Suning’s acquisition of Pateo[3], where the acquirer in each case purchased shares merely around 10%, the SAMR found that the acquirer obtained control over the target and imposed the administrative penalty of CNY 500,000. This is the first time that such acquisition of relatively low shareholdings attracts the investigation and penalties by the SAMR under the merger regulation rules.
In this context, this article looks into the Chinese antitrust authority’s attitude towards minority acquisitions, covering some of the most concerned questions from the clients, i.e., whether minority acquisitions (or joint venture with relatively scattered shareholding structure deals) are notifiable under the Chinese legal framework, and if yes, what is its triggering event and how to reasonably assess the acquisition at hand on its merits.
Whether Minority Acquisitions Are Notifiable in China?
Unlike certain jurisdictions, where share acquisitions, once beyond a certain threshold, are subject to or are presumed to be subject to the merger notification system, China does not adopt a bright-line threshold of the kind to review the minority acquisitions.
The legal test for when the acquisition shall be subject to the SAMR’s review is laid down in Article 20 of the Anti-Monopoly Law of the People’s Republic of China (the “AML”), i.e., control over or decisive influence on the target.[4] The notion of “control” or “decisive influence” is further clarified in the Draft of Revised AML (Public for Comments) issued by the SAMR on 20 January 2020. It sets forth that control shall refer to rights or facts of undertaking(s) which have or possibly have the decisive influence, either solely or jointly, directly or indirectly, on the production and operation activities or other significant resolutions of another undertaking or other undertakings.[5]
In the absence of a clear-cut standard, the minority acquisition might not escape the SAMR’s review solely because the shares acquired are below a certain threshold.
What Is the Triggering Event of Minority Acquisitions for Notification[6]?
As stated in the Guiding Opinions on the Notification of Concentration of Undertakings, a control in the AML domain may arise either solely or jointly. The legislation does not give further explanation on the understanding of “sole control” or “joint control”, except for in the Measures for Review of Concentration of Undertakings (Revised Draft), it stated that “sole control arises when the minority shareholder has the ability to exercise a decisive influence on the target’s commercial decisions and management, while joint control exists when the minority shareholder and others have to reach a consensus when exerting such decisive influence on the target.” Though this provision was deleted from its final version, it demonstrated the SAMR’s thoughts on the understanding of sole control and joint control to some extent.
Acquiring minority shareholdings is thus directly assessed by the notion of sole or joint control the acquirer can confer on the target company, and thus is with relevance to some detailed factors that should be in place for such an influence to exist.
The Interim Provisions on Review of Concentration of Undertakings issued by the SAMR list numerous detailed factors in consideration to assess whether the controlling power is acquired in the transaction, i.e., (1) transaction purpose and the future plan; (2) equity structure of the undertaking and the change thereof before and after the transaction; (3) matters for voting and voting mechanism of the general meeting of the undertaking as well as the information on previous attendance and voting; (4) composition and voting mechanism of the board of directors or the board of supervisors of the undertaking; (5) appointment and removal of senior managers, etc. of the undertaking; (6) relationship between the shareholders or the directors of the undertaking and whether there exist the circumstances such as proxy for exercising voting right and persons acting in concert; (7) whether there exits any major commercial relationship or cooperation agreement, etc. between such undertaking and other undertakings; and (8) other factors to be taken into consideration[7].
It again indicates that the SAMR has the jurisdiction to comprehensively review the acquisitions of minority shareholdings in combination with numerous legal and factual elements before concluding whether the shareholder may solely or with others exercise control or decisive influence over the company’s commercial activities or decisions.
How to Reasonably Assess the Acquisition on Its Merits?
To clarify the above provisions on control not just from the text itself, below lists several practical red flags we distil from our past experiences.
When minority acquisitions confer sole control?
Sole control can probably happen when the target’s shareholding structure is dispersed.
The most common misunderstanding is that control in the merger filing regime is similar to such a concept in the finance or corporate law perspective, and thus acquiring shares no more than 50% (or no more than 30% in the listing company scenario) could be a safety zone.
It shall be noted that shares acquired are not always a reliable indicator in the antitrust regime. A flag should be made when the target’s ownership structure is widely dispersed.
The SAMR before has imposed penalties in the gun-jumping case of minority acquisitions to obtain sole control. For example, in the case of New Hope Investment/Xingyuan. the acquirer, New Hope Investment was found to solely control Xingyuan by acquiring 23.6% shares.[8] Xingyuan was a listed company. Many shareholders were not actively or truly involved in the company management by absence from the shareholders’ meeting, and if they were, their influence on the meeting would have been far less than New Hope Investment given the comparison of their shareholding[9]. New Hope Investment was likely to solely decide Xingyuan’s commercial activities or decisions.
Accordingly, the conclusion of sole control in this scenario shall be reached after carefully analyzing and evaluating not only the shareholding structure but also the presence and voting pattern of shareholders in shareholders’ meetings in combination with their foreseeable changes.
Sole control may result from special arrangements among shareholders.
Sole control might arise when the minority acquisition is further accompanied with voting rights or representation rights entrustment by other shareholders, or the acquirer reaches an act-in-concert agreement with other shareholders.
For example, in the gun-jumping case of Zhongshan Lexing/Shenzhen Soling[10], Zhongshan Lexing, the second-largest shareholder with merely 11.33% shares of Shenzhen Soling, was found to obtain sole control of Shenzhen Soling, as the largest shareholder and others acting in concert abandoned their voting rights at the level of shareholders’ meeting and agreed to reorganize the company’s governance structure, resulting in Shenzhen Soling enjoying 18.66% voting rights (while others no more than 5%), occupying a majority of board seats as well as participating in the board of supervisors and senior management.
When minority acquisitions confer joint control?
Joint control might be found when there are one or more acquirers, or with original shareholder(s), can jointly exercise decisive influence over the target in the acquisition scenario, or two or more founding shareholders may have such influence in the establishment of joint venture scenario.
Veto rights on certain matters concerning strategic decisions, for example, the budget, the senior management, the business plan and major investments, is a usual flag for the minority shareholders’ joint control right with the majority shareholders.
Except for this, China tends to embrace a more cautious mind on a finding of no joint control of minority shareholders. One quick example is in a shifting alliance, where three shareholders hold 33.33% shares each or four shareholders hold 25% shares each, assuming that no one holds veto right in the joint venture and decisions must be taken on the basis of a simple majority, joint control might still be found, and the joint venture deal might be notifiable in China.[11]
The following factors are also a flag for the possibility of joint control:
Significant or material presence on the board of directors can be a signal of seeking control.
The board of directors is the most important management group of the company. Rights to appoint directors at least represents a certain degree of shareholders’ intention to seek control.
Shareholder(s) with such a right, thus, have the possibility to be found to jointly control the target with others, upon evaluating the nomination/appointment mechanism and the voting mechanism of directors in conjunction with the transaction purpose (e.g., whether the transaction is merely for the financial interests), especially in the case where no single shareholder has the rights to appoint a majority of directors.
Supply relationship of important raw material between the target company and the minority shareholder also deserves attention.
This is especially the case where the minority shareholder contributes key technologies, know-how or assets to the target which are significant to its operation. The passenger vehicle supply agreement between the minority shareholder, one automobile manufacturer, and its target, one car rental company, may fall under this scenario since the vehicle supplied by the automobile manufacturer shareholder is the important raw material and the basis for the target company to operate car rental business.
Such supply arrangement is usually accompanied with some designated situations which require the unanimous consent of all shareholders or directors. For example, in the aforesaid case, the shareholders might further agree that if the car rental company purchases cars from third parties, prior consent of all shareholders should be obtained (i.e., consent by the automobile manufacturer shareholder is also needed). it is possible the minority shareholder’s involvement in such matters could be understand as key decision making, and therefore raise concerns on whether joint control right could be obtained by the minority shareholder.
Clue of control might be more easily found in the horizontal acquisitions.
Horizontal acquisition occurs between companies that operate in the same industry. This naturally links with the idea of the acquirer’s possible intention of expanding its current business, gaining more market shares, or creating economies of scale. Therefore, even though the acquirer might only obtain relatively low percentage of shares, whether the investment can be interpreted as a purely financial investment needs more careful analysis.
Other Things to Be Kept in Mind
In the acquisition of joint control scenario, the transaction is generally more likely to trigger the notification system. According to Article 3 of the Provisions of the State Council on the Thresholds for Notifying Concentration of Business Operators,[12] one threshold stipulated is that at least two undertakings concerned each achieve a turnover of more than CNY 400 million within Mainland China in the previous financial year. Generally, more undertakings are involved in the transaction and thus the transaction is more likely to meet the above threshold in the joint control scenario. Even in a transaction where Company A acquires the minority shareholding in a target company that was joint controlled by Company B and C before and now is joint controlled by Company A, B and C, the transaction may be still notifiable when Company A’s turnover is relatively negligible, but Company B and C’s turnover meets the notification threshold.
Conclusion
As an emerging trend, we tend to view that the SAMR is increasingly interested in the enforcement of minority acquisitions on merger control issues.
For the sake of caution, considering that the pre-notification burden is on the businesses while the power to investigation vests on the authority, it is suggested that the issue of control shall be fully analyzed and reviewed in a very prudent way and the antitrust risks shall be fully evaluated and assessed in the minority acquisition cases from the beginning of the acquisition project.
Especially during the transaction structuring and planning, if the potential minority shareholder does not intend to obtain control from concentration of undertaking perspective over the target company, based on its actual business needs and the position of financial investor, it is suggested to carefully assess the rights to be enjoyed at the level of shareholders’ meeting, board of director, senior management and other aspects that might affect the target company’s commercial activities or key operational management decisions. In complex cases, legal advice from professional merger filing lawyers is suggested so that relevant antitrust risks of failure to file for concentration could be minimized to the greatest extent.
[1] Administrative Penalty Decision of the SAMR, Guo Shi Jian Chu [2021] No. 33. See SAMR website, http://www.samr.gov.cn/fldj/tzgg/xzcf/202104/t20210430_328418.html. In this case, the acquirer’s stock acquisition of 6.67% shares in the target company has resulted in control over the target company by the acquirer.
[2] Administrative Penalty Decision of the SAMR, Guo Shi Jian Chu [2021] No.14. See SAMR website, http://www.samr.gov.cn/fldj/tzgg/xzcf/202103/t20210312_326752.html. In this case, the acquirer’s stock acquisition of 11.9% shares in the target company has resulted in control over the target company by the acquirer.
[3] Administrative Penalty Decision of the SAMR, Guo Shi Jian Chu [2021] No.17. See SAMR website, http://www.samr.gov.cn/fldj/tzgg/xzcf/202103/t20210312_326755.html. In this case, the acquirer’s stock acquisition of 14.08% shares in the target company has resulted in control over the target company by the acquirer.
[4] Article 20 of the AML stipulates that “[c]oncentration of undertakings shall refer to the following circumstances: (1) the merger of undertakings; (2) the acquisition, by undertaking(s), by purchase of shares or assets, of control over another undertaking or other undertakings; (3) the acquisition, by undertaking(s), by contract or otherwise, of control over or decisive influence on another undertaking or other undertakings.”
[5] Article 23(2) of the Draft of Revised AML (Public for Comments). The Draft of Revised AML (Public for Comments) has not been in force yet could be of reference.
[6] Certainly, the fundamental precondition for concentration triggering the merger notification under the AML is that the turnover of the parties shall exceed a certain threshold. This is the same for the rest of this article.
[7] Article 4 of the Interim Provisions on Review of Concentration of Undertakings.
[8] Administrative Penalty Decision of the SAMR, Guo Shi Jian Chu [2019] No.50. See SAMR website, http://www.samr.gov.cn/fldj/tzgg/xzcf/202001/t20200110_310405.html.
[9] After the transaction, New Hope Investment held 23.60% shares of Xingyuan, the second-largest shareholder held 13.57% (its concert party included), and others only held 2%.
[10] Administrative Penalty Decision of the SAMR, Guo Shi Jian Chu [2021] No.5. See SAMR website, http://www.samr.gov.cn/fldj/tzgg/xzcf/202103/t20210311_326716.html.
[11] By contrast, from the EU perspective, if there is no stable majority in the decision-making procedure and the majority can on each occasion be any of the various combinations possible amongst the minority shareholders, European Commission’s standing is that minority shareholders (or a certain group thereof) cannot be assumed to enjoy joint control over another undertaking. See Commission Consolidated Jurisdictional Notice under Council Regulation (EC) No 139/2004 on the control of concentrations between undertakings (2008/C 95/01).
[12] Article 3 stipulates that “[w]here the concentration of undertakings reaches any of the following thresholds, the undertakings shall file an application to the [State Administration for Market Regulation], otherwise, the concentration shall not be implemented: (i) the total amount of the global turnover of all the undertakings involved in the concentration during the previous financial year exceeds CNY 10 billion with at least two undertakings each achieving a turnover of exceeding CNY 400 million within China during the previous financial year; (ii) the total amount of the turnover within Mainland China of all the undertakings involved in the concentration during the previous financial year exceeds CNY 2 billion with at least two undertakings each achieving a turnover of exceeding CNY 400 million within Mainland China during the previous financial year.”
