China Releases a Further Draft Amendment of the Regulations for Foreign Investors’ Strategic Investments in Listed Companies

On 18 June 2020, a draft amendment of the Administrative Measures for Strategic Investment by Foreign Investors in Listed Companies (“New Draft Measures”) was jointly released by six major PRC government departments.[1] This is not the first draft amendment of the measures, originally issued in 2005 (“Current Measures”):[2] the most significant revamp was proposed in a draft amendment of 2018 (“Old Draft Measures”).[3] The New Draft Measures resemble the Old Draft Measures in almost all key respects and appear mainly to reflect updates that have otherwise been made to China’s foreign investment regulatory framework since 2018, particularly by the Foreign Investment Law. This newsletter will highlight the most significant updates of the New Draft Measures, as compared to the Old Draft Measures, while recapping the amendments that would be made to the Current Measures if the revamp first proposed in 2018 and carried forward in this month’s release were to come into effect. 

The New Draft Measures: Eliminating Prior Approval and Filing Requirements

The Foreign Investment Law put forth above all a largely level playing field for foreign and domestic investors, which gainsays the Current Measures (and even the Old Draft Measures) subjecting foreign investments to prior approvals from, or prior filings with, the Ministry of Commerce (“MOFCOM”) or its branches. Thus the New Draft Measures have no requirement that foreign “strategic investments”[4] in PRC listed companies go through any approvals or filings, provided the investments do not fall within the so-called “Negative Lists”;[5] instead, MOFCOM branches would only supervise information-reporting by foreign investors and listed companies.[6] This and some further procedural simplifications proposed by the New Draft Measures should render foreign “strategic investments” in PRC listed companies easier and faster to make if not also rendering possible some that are now impossible or in practice not made.[7]

The Old and New Draft Measures: A Major Revamp

The Old Draft Measures proposed numerous ground-breaking changes to the framework for foreign strategic investments (beginning with what qualifies as such), which the New Draft Measures carry forward with very few and minor adjustments. The following are the key changes, with the relevant adjustments of the New Draft Measures noted:

• Strategic Investments Can Be Made by Tender Offer. The Current Measures provide for foreign strategic investments in PRC listed companies to be carried out via either share transfer agreements or new share issuances.[8] While these could in theory encompass investments via tender offers, such approaches were rarely seen in practice – at least until recently. The proposed amendments would expressly provide for foreign strategic investments in PRC listed companies carried out via tender offers. 
• Lower Monetary Threshold to Obtain a Non-Controlling Interest. Under the Current Measures, to make a strategic investment in a PRC listed company, a foreign investor (or its parent) must have total overseas assets of not less than USD 100 million or manage at least USD 500 million. The proposed amendments would distinguish between foreign investors who are (or will be) controlling investors and non-controlling ones: the former would be subject to the same old thresholds but the latter’s thresholds would be reduced to USD 50 million and USD 300 million, respectively. Moreover, the Old and New Draft Measures drop the qualifier “overseas” and thus would appear to broaden the scope of assets to be counted (i.e., to including assets already in China) for either type of investor, though this would be subject to interpretation by competent authorities. Finally, under the New Draft Measures, if a foreign investor (such as an SPV without sufficient assets) cannot meet the relevant monetary threshold above, the targeted investment may still be made if the holder of 100% of the foreign investor’s equity (“Wholly-Owning Parent”) meets the relevant threshold and irrevocably assumes joint and several liability for the targeted investment.[9]
• Lock-Up Period Only 12 Months. The Current Measures call for foreign investors to hold shares of the listed companies for a lock-up period of 36 months. Under the proposed amendments, the lock-up period would be only 12 months.[10] However, the New Draft Measures add an express provision that a Wholly-Owning Parent making strategic investments via its subsidiary (as mentioned above) may not circumvent the lock-up period by transferring equity of its subsidiary (i.e., the foreign investor).
• No Minimum 10% Shareholding Threshold. The Current Measures require that a foreign investor hold a minimum 10% of the total issued shares of the listed company after completion of the initial investment.[11] This threshold is eliminated in the Old and New Draft Measures, although the New Draft Measures include a minimum 5% shareholding threshold for strategic investments in listed companies via transfers by agreement or tender offers.[12]
• Foreign Individuals Can Invest. While only foreign legal persons (i.e., corporations) and legally-cognizable organizations are allowed to make strategic investments in PRC listed companies under the Current Measures, the proposed amendments would extend the framework to foreign natural persons,[13] subject to certain further conditions.[14]
• Cross-Border Swaps. Although the Current Measures’ lack of provision for cross-border share swaps was addressed in 2006 by the Provisions on the Merger and Acquisition of Domestic Enterprises by Foreign Investors (“M&A Provisions”), the Old and New Draft Measures further open up possibilities for such share swaps. Briefly, while the M&A Provisions permitted a foreign investor to purchase shares of PRC domestic companies (including listed companies) by transferring or issuing equity of a foreign listed company or issuing equity of a special purpose vehicle owned by a domestic company or a Chinese individual, the proposed amendments to the Current Measures would allow equity of any foreign company to be used as consideration.[15]

Takeaways

The Old and New Draft Measures reflect significant steps in the general trend of China opening up to foreign investment, with the draft being released this month hopefully not only as a “pro forma” update for alignment with the latest related laws but also a signal that the proposed amendments will be officially issued in the near term. In fact, however, many of the proposed amendments have for some time been signaled and even already applied in practice. For example, the acquisition by Shanghai RAAS (Shenzhen Stock Exchange: 002252) of equity of GDS held by Grifols involved a cross-border share swap not specifically provided for by existing law (i.e., the M&A Provisions alongside the Current Measures).[16] While it is a positive development, both for foreign investors eyeing China and Chinese listed companies seeking foreign opportunities, that regulators are already manifesting flexibility in applying the requirements of the Current Measures, officially issuing the New Draft Measures would instill further confidence in the market. 

[1] Administrative Measures for Strategic Investment by Foreign Investors in Listed Companies (Draft Revisions for Public Opinion) (《外国投资者对上市公司战略投资管理办法》（修订草案公开征求意见稿）), issued by the Ministry of Commerce, China Securities Regulatory Commission, State-Owned Asset Supervision and Administration Commission of the State Council, State Administration of Taxation, State Administration for Market Regulation, and State Administration of Foreign Exchange.

[2] Administrative Measures for Strategic Investment by Foreign Investors in Listed Companies (《外国投资者对上市公司战略投资管理办法》), first issued on 31 December 2005, revised on 28 October 2015 by the deletion of one clause.

[3] Administrative Measures for Strategic Investment by Foreign Investors in Listed Companies (Draft Revisions for Public Opinion) (《外国投资者对上市公司战略投资管理办法》（修订草案公开征求意见稿）), issued by the Ministry of Commerce, China Securities Regulatory Commission, State-Owned Asset Supervision and Administration Commission of the State Council, State Administration of Taxation, State Administration for Market Regulation, and State Administration of Foreign Exchange on 30 July 2018.

[4] The Current Measures, primarily Article 5, apply a rubric by which an investment is identified as “strategic”; this rubric would be significantly altered by the proposed amendments, as touched on further below in this newsletter.

[5]  The “Negative List” system currently in force is composed of 2 lists jointly issued by MOFCOM and the National Development and Reform Commission, namely: (a) the Special Administrative Measures for Access of Foreign Investment (Negative List), which applies to the PRC except for pilot free trade zones (“FTZs”), and (b) the Special Administrative Measures for Access of Foreign Investment in Pilot Free Trade Zones (Negative List), which applies to FTZs. They each for their territorial scope set out a few dozen PRC industry sectors in which foreign investment is restricted or entirely prohibited. The latest, 2020 editions of the Negative Lists were published on 23 June 2020 and will enter into force on 23 July 2020.

[6] For more on information-reporting requirements, see the Foreign Investment Law and the Measures for Reporting of Information on Foreign Investment, the latter jointly issued by the MOFCOM and the State Administration for Market Regulation on 30 December 2019.

[7] However, the New Draft Measures include a minimum shareholding threshold for certain strategic investments; although the threshold is lower and more narrowly applicable than that applicable under the Current Measures, the Old Draft Measures did not include any such threshold at all. See the next section of this newsletter for details.

[8] See, e.g., Article 5 of the Current Measures, which (per standard PRC practice) also includes a catch-all means for making the investment, i.e., “or otherwise prescribed by national laws and rules”. Note that, under the New Draft Measures (with marginal updating of the Old Draft Measures), many means of acquiring shares in a PRC listed company are expressly excluded from the “strategic investment” framework, including:

1. Qualified Foreign Institutional Investors and RMB Qualified Foreign Institutional Investors investing in listed companies;
2. Foreign investors investing in listed companies via stock exchange link mechanisms such as the Shanghai–Hong Kong Link, the Shenzhen–Hong Kong Link, and the Shanghai–London Link.
3. Foreign investors investing in foreign invested companies limited by shares, which then become listed companies via initial public offerings (potentially including initial listings on NEEQ based on the context).
4. Foreign individuals acquiring shares of listed companies in secondary markets or via stock options in compliance with the relevant rules of the China Securities Regulatory Commission.

[9] The Old Draft Measures provided essentially the same alternative means of meeting the threshold but allowed any parent company, not only a 100% owner, to meet the threshold and assume liability: the New Draft Measures are thus more exacting.

[10] Unless the Securities Law, regulations of the China Securities Regulatory Commission (“CSRC”), or rules of the stock exchanges require a longer lock-up period. For example, the CSRC regulations provide that if the foreign investor acquires shares of a listed company in a private placement without a bidding process, the lock-up period is 18 months.

[11] Unless specific rules applicable to certain industries provide otherwise or the investment is otherwise approved by the competent regulatory authorities.

[12] For a strategic investment in the form of a transfer by agreement, the foreign investor should acquire a minimum 5% of the total issued shares of the listed company; for a strategic investment taking the form of a tender offer, the foreign investor should offer to acquire a minimum 5% of the total issued shares of the listed company. In practice, the 10% minimum shareholding threshold has often been de facto disregarded by MOFCOM in its  approvals. Since 2015, many foreign investors made strategic investments in PRC listed companies with shareholdings of less than 10%. However, these investments were approved on a case-by-case basis, which leaves uncertainties for future cases. The Old and New Draft Measures increased certainties for similar transactions by deleting the 10% shareholding threshold.

[13] Note that outside the existing framework for strategic investments, foreign natural persons have succeeded in obtaining shares of listed companies via alternative means, e.g., as QFII/RQFII or pre-IPO investments.

[14] The proposed amendments set forth that foreign individuals will need to have the capacity for risk recognition and liability assumption corresponding to their investments in addition to meeting the monetary threshold applicable to foreign legal persons. 

[15] The following generic conditions, however, apply to cross-border share swaps:

1. The foreign company whose shares are to be acquired by the PRC listed company as consideration must be legally incorporated in a jurisdiction with sound corporate laws in place, it and its senior management must have not been given any major punishment by any PRC or foreign regulatory authority in the last three years, and if the strategic investment in the PRC listed company will be carried out via a share transfer agreement, the foreign company must be a public company.
2. The foreign investor must lawfully hold the shares of the foreign company and they must be transferable in accordance with the law, or the foreign investor must lawfully issue new shares in accordance with the law.
3. The PRC listed company must still obtain the filings/approvals for its investment in the foreign company or investor in compliance with the Measures for the Administration of Foreign Investment.
4. The cross-border share swap must also comply with the Securities Law, the Company Law, and the relevant provisions of the State Council and the CSRC.

[16] See also footnote 11.