Cross-border M&A: Capital regulation and planning

As Chinese companies went on a buying spree for overseas assets in recent years, the central government introduced regulations to strengthen authenticity and compliance review related to capital outflow, given the immediate impact that the substantial capital outflow behind aggressive cross-border M&A campaigns may have on its foreign reserves. To prevent capital risks and succeed in making deals, Chinese companies must study relevant regulatory policies and develop a rational funding plan before proceeding with cross-border M&A.

Domestic guarantee and foreign loan (DGFL). DGFL is an arrangement whereby: (1) a foreign bank grants, to an entity incorporated in a foreign jurisdiction with controlling or non-controlling equity held by a domestic company, any financial facilities secured by a letter of guarantee, or standby letter of credit issued by a domestic guarantor (usually a bank); and (2) as counter-guarantee, the domestic company creates mortgage, charge, pledge or any other encumbrance over its assets or deposits in favour of the domestic guarantor.

According to the Provisions on Foreign Exchange Controls over Cross-border Guarantees and the Operating Guidelines for Foreign Exchange Controls over Cross-border Guarantees issued by the State Administration of Foreign Exchange (SAFE) in 2014, a registration system is implemented for guarantees, pursuant to which guarantees are not subject to prior SAFE approval, but registration must be completed after a guarantee agreement is concluded, or after the obligation of guarantee is fulfilled. Compared with a financing guarantee, DGFL involves a more streamlined process and lowers financing costs. Besides, since loan disbursement takes place outside China, no complicated exchange procedure or direct writing-down of foreign exchange reserves need to be completed under a DGFL arrangement.

Lin Zhong is a partner at EY Chen & Co. Law Firm