Effect of related-party M&A provision on red-chip listing

Red-chip listing is one of the important routes for Chinese enterprises to access offshore funds. Since the Provisions on Merger and Acquisition of Domestic Enterprises by Foreign Investors (Circular 10) from the Ministry of Commerce of the People’s Republic of China (MOFCOM) and other five ministries and committees took effect in 2006, red-chip listing of private enterprises has been in a new regulatory era. According to Circular 10, examination and approvals are required from MOFCOM and the China Securities Regulatory Commission for domestic companies or individuals to establish offshore special-purpose vehicles (SPV) as offshore listing entities. Given that the approval procedure is tedious and the standards are ambiguous, no market precedent has been found to be fully compliant with the approval process under Circular 10.

As for the red-chip companies that have successfully listed overseas, foreign IPO attorneys need to rely on the legal opinions of domestic attorneys stating that “Circular 10 does not apply to red-chip restructuring of the company”. In other words, the domestic attorneys must reason out that the acquisition of a company holding domestic assets of a SPV is not tantamount to buying a “domestic company” as defined in Article 2 of Circular 10. In practice, the company holding such domestic assets will first be restructured into a Sino-foreign joint venture, which the SPV will acquire later. It is worth noting that this practice in whole may be subject to the provisions of Article 11 of Circular 10 on related-party M&A, which provides that a domestic company or individual is required to obtain approval from MOFCOM to establish an offshore SPV to acquire its affiliated domestic company. In practice, many cases skip the separate legal analysis on related-party M&A provision, to which the regulator tacitly consents.

However, in cases lately, we note that the regulator is beginning to inquire into whether the SPV’s acquisition of the Sino-foreign joint venture under the said structure falls within the scope of related-party M&A. It remains unclear if the regulator intends to tighten the policies for private enterprises seeking overseas IPOs through the related-party M&A provision.

Jason Cheng is a senior partner, and Wang Yuhui is an associate at Dentons