China: CSRC Notice On Offshore Listings For Chinese Companies Leaves Questions Unanswered

Last month, the China Securities Regulatory Commission (CSRC) issued a notice listing the documents that must be submitted when CSRC approval is required in connection with an offshore listing or going-public transaction involving a Chinese operating company.

This notice follows the new M&A Rules promulgated by six PRC government agencies that went into effect on September 8, 2006. Those Rules have generated a good deal of confusion as to what transactions are covered and when CSRC approvals will be required. Two key questions are:

1. Is CSRC approval required for a subsequent going-public transaction wherein the Chinese company accomplished its offshore restructuring by way of a cash-for-equity transaction, or only where the restructuring was accomplished by an equity swap? Articles 39 and 40 of the new Rules on their face say that CSRC approval is required in cases of equity swap restructurings, but they do not say approval is required in cases of cash-for-equity restructurings. Is this a carve-out or an oversight?
2. Is CSRC approval required when the Chinese-controlled offshore SPV goes public via an OTCBB shell, a Form 10 reporting company, or any other method short of listing on NASDAQ or another recognized exchange?

Unfortunately, the September 2006 release from CSRC does not answer either question. Frustratingly, inquiries to CSRC in China produce an equal number of answers. For example, the September 2006 release requires only two years of audited financials for the Chinese company in the case of "listings on the second board," but CSRC officials have given different and contradictory guidance on whether an OTCBB company, or a reporting but not listed company, is captured by this language. PRC law firms do not agree among themselves on these questions, leading to a certain amount of "opinion shopping" by foreign investors as well as Chinese companies looking to go public.

The first half of the release merely excerpts relevant language from the Securities Law, the new M&A Rules, and another Notification relating to offshore listings. The second half lists the documents that must be submitted when CSRC approval is required.

Observers are still waiting for CSRC to clarify precisely when and in what circumstances its approval will be required. For now, we are reduced to "reading the tea leaves" by making guesses based on a list of documents.

The following is a translation of the September 2006 CSRC release:

China Securities Regulatory Commission, September 2006

Article 238 of the Securities Law: Direct or indirect issuance or offshore public transaction of the securities of domestic companies shall be approved by the securities supervision and administration authority of the State Council according to the relevant rules of the State Council.

Article 1 of the Notification concerning Further Strengthening the Administration of the Offshore Issuance and Public Transaction of Securities: Offshore registered, Chinese-controlled (including where the Chinese party is the major shareholder) offshore public companies, when conduct, inter alia, carve-out, increasing issuance of securities, shall be supervised by the local securities supervision authorities where the activities are conducted. Nevertheless, the domestic entities who hold the equity interest of the Chinese controlling shareholder shall, thereafter, file relevant information with the China Securities Regulatory Commission and strengthen the supervision over its equity ownership.

Article 2 of the Notification concerning Further Strengthening the Administration of the Offshore Issuance and Public Transaction of Securities: Offshore registered Chinese-invested non public company and Chinese controlled public companies, when applying for issuance and public transaction of the securities based on the offshore assets they owned and the domestic assets created by investment of offshore assets and owned by them for more than 3 years, shall be subject to the local regulations. Nevertheless, the entities holding domestic equity shall apply for approval in advance with the provincial government and competent department of the State Council. If the domestic assets have not been held for no less than 3 years, no offshore issuance and public transaction shall be approved. If there is special need, it shall be examined by the China Securities Regulatory Commission and approved by the securities commission of the State Council. After the completion of going public, the entities holding domestic equity shall file relevant information with the China Securities Regulatory Commission.

Article 3 of the Notification concerning Further Strengthening the Administration of the Offshore Issuance and Public Transaction of Securities: In the case of transferring assets of domestic companies to offshore Chinese-Funded non public company or the offshore Chinese-controlled public company by way of acquisition, share swap, transfer and otherwise in order to going public offshore, and the transferring to offshore Chinese-Funded non public company of domestic assets which will then be contributed into offshore Chinese-controlled public company in order to going public offshore, the domestic companies or the domestic equity holder of the controlling shareholder of the offshore entity shall apply for approval in advance with the provincial government or the competent department of the State Council, and apply for examination with the China Securities Regulatory Commission in accordance with the industry policy and the annual amount control policy.

Article 39 of Regulations concerning Acquisition of Domestic Companies for Foreign Investors: A special purpose company means an overseas company directly or indirectly controlled by a Chinese domestic company or natural person for the purpose of realizing the overseas listing of the interests it actually owns in a Domestic Company.

The provisions of this Section shall apply where the shareholders of a special purpose company use the equity they hold in the company or a special purpose company uses its newly issued shares as a means of payment to acquire the shareholder’s equity in a Domestic Company or the newly issued shares of a Domestic Company for the purpose of realizing overseas listing.

If the relevant party uses the overseas company that holds an interest in the special purpose company as the entity for overseas listing, such overseas company shall comply with the relevant requirements on special purpose companies in this Section.

Article 40 of Regulations concerning Acquisition of Domestic Companies for Foreign Investors: Overseas listing of a special purpose company shall be subject to approval by the State Council’s securities regulatory authority.

The country or region in which the overseas listing of a special purpose company takes place shall have a sound legal and regulatory system, and its securities regulatory authority shall have signed a memorandum of understanding on regulatory cooperation and is maintaining effective regulatory cooperation with the State Council’s securities regulatory authority.

Article 41 of Regulations concerning Acquisition of Domestic Companies for Foreign Investors: For the purposes of this Section, the interests in a Domestic Company that are listed overseas shall meet the following conditions:

1. Application letter, the content of which shall include: history development of the domestic company, business scope, equity ownership structure, major shareholders, changes to the equity ownership and material assets changes during the latest one year, outside investment, operation risks analyses, business development objective, management structure, internal control system, operation status and financial status, information concerning the establishment and registration of the special purpose company, information concerning the shareholders and de facto controllers.
2. Approval letter issued by the Ministry of Commerce concerning the acquisition of domestic company by special purpose company.
3. Board resolution of the acquired domestic limited liability company or the shareholders meeting resolution of the acquired domestic company limited by shares or other similar corporate documents, approving the acquisition by special purpose company.
4. Documents issued by the provincial government where the domestic company is registered, approving the domestic company to be listed via the offshore special purpose company.
5. Opinion letter issued by the industry supervision department (if needed).
6. Analyses and recommendation report issued by the offshore investment bank.
7. Business license(s) of the domestic company and the companies it invested.
8. Where the domestic company belongs to a industry where a special license is needed, a special license shall be submitted.
9. Domestic company engaging into an industry which has material impact to the environmental shall provide certificate issued by the environmental protection department.
10. If the funds financed through offshore listing of the special purpose company will be re-invested into domestic fixed assets projects or other projects that need special permit, the special permit shall be submitted.
11. If the funds financed through offshore listing of the special purpose company will be re-invested into projects that have potential material impact to the environment, an approval letter issued by the environmental protection department shall be submitted.
12. Use right certificate of the land occupied by the domestic company.
13. Certificate approving that the domestic company has duly paid the taxes.
14. Legal opinion concerning domestic laws and regulations.
15. Approval letter and certificate issued by the Ministry of Commerce or its local counterparts concerning the approval of establishment of special purpose company and offshore investment.
16. Offshore investment foreign exchange registration form of the special purpose company.
17. Registration certificate of the special purpose company and the identification certificate of the ultimate controller or certificate of incorporation and articles of association.
18. Agreements concerning the acquisition of the domestic company by the special purpose company.
19. Business plan of the special purpose company concerning its offshore listing schedule.
20. Domestic auditing report issued by a qualified accounting firm concerning the latest three financial years of the domestic company (where the special purpose company is to be listed on the second board, then two years of the auditing reports will be needed). If the application is submitted after June 30 of the current year, an additional issue of domestic financial auditing report shall be submitted.
21. Assets valuation report of the domestic company.
22. Acquisition consulting report (including the valuation and projection of the stock price of the special purpose company).
23. Certificate of incorporation and articles of association of the offshore company.
24. Detailed introduction to the transaction and pricing arrangement between the special purpose company and the offshore company concerning the equity interest of the acquired domestic company.
25. Qualification certificates of the relevant agents and staffs.
26. Contact information of the domestic company and relevant agents.

The above is an informal translation by Julian Zou and Thomas Shoesmith of Thelen Reid & Priest’s Shanghai Office. This document is for informational purposes only and is not legal advice. You should consult counsel in the case of any specific transactions or questions. This firm is licensed as a foreign law firm permitted to advise clients in the People’s Republic of China on certain aspects of their international transactions. Like all foreign law firms, we are not authorized to practice Chinese law. This memo is based on our experience in advising clients on international business transactions with China and on research and inquiries we deemed appropriate, and is not intended as an opinion on the law of China.