The Private Equity Review: China

I Overview

With the severe covid-19 impact in the beginning of 2020, private equity activity in China experienced a sharp lockdown dip in the first quarter of 2020. Responding to covid-19, a series of strict but effective epidemic preparedness and management measures were implemented by the Chinese authority, which turned out to be a success in the new pandemic reality. Corresponding to the effective epidemic control policies, private equity activity in China bounced back strongly in the second half of the year. In 2020, private equity investments in China increased substantially in terms of value, while the overall volume of the private equity deals remains the same level as last year. According to AVCJ Research, the market research division of Asian Venture Capital Journal, there were 2,048 private equity investments (of which 1,067 were publicly disclosed) with an aggregate investment amount of US$96.865 billion in China in 2020.2 Compared with 2,106 investments with an aggregate amount invested of US$66.151 billion in 2019, the total volume of investments slightly decreased by 2.8 per cent and the total value substantially increased by 46.4 per cent in 2020. In 2020, private equity investments in China accounted for 48.2 per cent of the total value of private equity investments in the Asia-Pacific region, which brings China back to the most active private equity investment market in Asia-Pacific region.

The distribution among different investment types in 2020, compared with that in 2019, exhibited a substantial increase in the buyout investments (including management buyout, management buy-in, leverage buyout and turnaround or restructuring stages), a slight move up in the Private Investment in Public Equity (PIPE) financing, while a meaningful decline in expansion and growth-stage investments, a further decline in mezzanine and pre-initial public offering (IPO) stage investments, along with a slight drop in start-up and early stage investments. According to AVCJ Research, investments in buyout transactions increased from US$3.587 billion or 5.4 per cent of total investment value in 2019 to US$16.064 billion or 16.6 per cent of total investment value in 2020; investments in PIPE financing increased from US$9.880 billion or 14.9 per cent of total investment value in 2019 to US$18.918 billion or 19.5 per cent of total investment value in 2020; investments at expansion and growth stages still stayed ahead of other investment stages in terms of the value, at US$47.439 billion in 2020, while representing a meaningful drop in terms of the proportion, from 59.1 per cent of total investment value in 2019 to or 49.0 per cent of total investment value in 2020; investments at mezzanine and pre-IPO stages increased from US$8.626 billion in 2019 to US$8.821 billion in 2020; and investments at the start-up and early stages represented a smaller proportion of total investment value in 2020 than in 2019, dropping from 7.4 per cent of total investment value in 2019 to 5.7 per cent of total investment value in 2020.

The bumping up in private equity buyouts in 2020 was particularly noteworthy given the historical trend in that space since 2010. In general, buyout investments in China have remained relatively less frequent in comparison with many other jurisdictions. Buyout activities experienced an increase in 2010 and 2011, further strengthened in 2012 to 2014 amid the growing popularity of going-private transactions involving China-based companies, particularly companies listed in the United States, and boomed to be the bandwagon in 2015 as many US-listed Chinese companies received going-private proposals at the prospect of seeking a future listing on China's A-share market or the Hong Kong Stock Exchange. After experiencing a decline in 2016 and a short recovery in 2017, buyout activities in China hit a record low in 2018 and further dropped to the lowest point in history in 2019, and going-private activities were almost suspended. On 2 April 2020, along with a stunned attack by the short sellers, Luckin Coffee Inc (OTC: LKNCY), one of the hottest Chinese coffee brands, announced that it has initiated an internal investigation into certain information raised to the company's board's attention, which indicates that, beginning in the second quarter of 2019, Mr Jian Liu, the chief operating officer and a director of the company, and several employees reporting to him, had engaged in certain misconduct, including fabricating certain transactions. After a three-month internal investigation, the special committee has found that the fabrication of transactions began in April 2019 and that, as a result, the company's net revenue in 2019 was inflated by approximately 2.12 billion yuan (consisting of 0.25 billion yuan in the second quarter, 0.70 billion yuan in the third quarter, and 1.17 billion yuan in the fourth quarter). Following the internal investigation, the company is forced to contemplate the de-listing per the US Securities and Exchange Commission (SEC)'s request (the 'Luckin Event'). Given the materially adverse impact arising from the Luckin Event on the general reputation of the other China-oriented public companies as well as political factors between China and the rest of the world, buyout activities experienced a boom in 2020, which significantly surpassed the prior years. Based on statistics obtained through searches on the Thomson Reuters database Thomson ONE, of the 239 going-private transactions announced since 2010, 38 did not proceed and 161 have closed (12 closed in 2010, 16 closed in 2011, 24 closed in 2012, 26 closed in 2013, six closed in 2014, 28 closed in 2015, 17 closed in 2016, eight closed in 2017, two closed in 2018, 10 closed in 2019 and 12 closed in 2020). As at 31 December 2020, 28 going-private transactions were pending, including two announced in 2012, two announced in 2014, two announced in 2015, three announced in 2016, one announced in 2017, three announced in 2018, two announced in 2019 and 13 announced in 2020.

In respect of exits via IPOs, China undertook a moratorium on A-share IPOs from November 2012 to December 2013 and imposed another four-month moratorium on A-share IPOs in 2015. Following a strong recovery with a record number of successful IPOs in the Chinese domestic IPO market in 2016 and early 2017, the number of Chinese domestic IPOs dropped significantly at the end of 2017 until the second half of 2018 on account of tightened review standards, and a large number of IPO applications were queued. In part as a result of this large backlog, private equity-backed IPOs, an exit route heavily relied upon by China-focused private equity funds, experienced a dramatic decline in 2018, from 282 in 2017 to 93 in 2018, according to AVCJ Research. In 2019, China inaugurated its science and technology innovation board (Sci-tech Innovation Board), trying to kick off the country's much-anticipated capital market reform. To address private equity investors' concern on the potential backlog to list on the Sci-tech Innovation Board, China tried to implement a registration-based IPO regime on this new Board. With the newly launched Board, 202 Chinese enterprises accomplished A-share IPOs successfully in 2019 (including 70 companies that were successfully listed on the Sci-tech Innovation Board), which hits the highest watermark over the past five years. With that said, the number of private equity-backed IPOs decreased to 87 in 2019.3 The reform of the listing system in China gradually delivered the optimistic confidence to the private equity investors in the domestic market in China. Following the trend, the number of private equity-backed IPOs hits 199 in 2020, which effectively doubled the number in 2019. On the other hand, exits via trade sales and secondary sales, accounting for 90.1 and 7.3 per cent, respectively, of private equity-backed exits in 2019, and 91.1 and 7.5 per cent, respectively, in 2019,4 remained the dominant exit route for private equity funds in 2020 and are likely to maintain this position in the foreseeable future. The effects of the Sci-tech Innovation Board and the relevant reform policies thereof for private equity investors and their investments strategies in China are yet to be tested in the coming years.

In 2020, Chinese outbound M&A deal activity was hit by the covid-19 pandemic situation as well as political factors that together made cross-border deals very difficult, especially into developed markets such as the United States and European countries. As a result, the volume of Chinese outbound M&A deal activity declined to its lowest point from the record-hitting level seen in 2015. The covid-19 situation, the political and economic uncertainties within China and the rest of the world in 2020, heightened scrutiny over these transactions by the United States and certain European countries all leads to the decrease in the trend of Chinese outbound M&A deal activity. In addition, Chinese regulators have continually promulgated guidelines and policies on foreign exchange outflow control, and on the outbound target industries and channels for onshore financing affecting outbound investment activities, and have encouraged a more strategic and prudent approach in Chinese outbound investments. According to Thomson Reuters and PricewaterhouseCoopers analysis, in 2020, financial investor-backed Chinese outbound investments significantly decreased both in terms of volume and value, with 667 deals announced representing US$58 billion in 2019 and 403 deals announced representing US$42 billion in 2020. In addition, state-owned enterprise-backed Chinese outbound investments (which were historically the mainstream of the outbound investments in 2016) had steered their attention back to the domestic market, resulting in a very low value of investments overseas at only a tenth of the 2016 peak.

II Legal framework

i Investments through acquisition of control and minority interests

China's current Companies Law, which became effective on 1 January 2006 and was amended in 2013 and 2018 with effect from 26 October 2018, sets out the governance framework for the two types of Chinese companies: companies limited by shares and limited liability companies. A Chinese entity in which a non-Chinese investor owns an equity interest is called a foreign-invested enterprise (FIE), of which there are several types, including a wholly foreign-owned enterprise (WFOE), an equity or cooperative joint venture (EJV and CJV, respectively) and a foreign-invested company limited by shares.

To grant FIEs the same treatment in terms of corporate registration and other administrative procedures as Chinese domestic companies (to the extent possible and except where the principal business of the FIE falls within the scope of the Foreign Investment Negative List), China abolished a series of laws and regulations that had governed FIEs in the past and further adopted a completely new regime in favour of non-Chinese investors in 2019. Since 1 January 2020, FIEs have been subject to the Companies Law, the Foreign Investment Law (FIL), which was promulgated on 15 March 2019 and became effective on 1 January 2020, and the Regulation on the Implementation of the Foreign Investment Law (the FIL Implementation Regulation), which was promulgated on 26 December 2019 and became effective on 1 January 2020. The Regulations on Mergers and Acquisitions of Domestic Enterprises by Foreign Investors (the M&A Rules), jointly issued by six governmental agencies in 2006 and amended in 2009, establish a general legal framework under which non-Chinese investors can acquire the equity or assets of Chinese companies subject to regulatory approvals. However, through a series of amendments to various regulations between 2016 and 2019, the regulatory approvals established by the M&A Rules are, in practice, no longer required; instead, there is a notification regime in place for FIEs. This notification regime took effect on the same date as the FIL and the FIL Implementation Regulation became effective (i.e., 1 January 2020) and shall be applied with respect to the incorporation, dissolution and change of corporate registration information of FIEs, as well as the general mergers and acquisitions made by foreign investors in a Chinese entity, provided that the transaction does not trigger 'special management measures for foreign investment access' under the Special Administrative Measures (Negative List) for the Access of Foreign Investment (the Foreign Investment Negative List) (as discussed below). In practice, the notification regime is integrated as part of the regular online registration procedure with the State Administration of Market Regulation (SAMR, the company registry agency that records all corporate registration information of legal entities incorporated under Chinese laws, whether domestic companies or FIEs). See Section IV for a detailed introduction of the FIL and the FIL Implementation Regulation.

Regulatory regimes applicable to foreign investments

An acquisition of or investment in a Chinese entity by a non-Chinese investor is subject to a multilayered government approval, information-reporting filing and registration process. Subject to the recent developments in respect of the information-reporting regime applicable to FIEs (see Section IV.i), the highest level of scrutiny is applicable to onshore investments (that is, direct acquisitions of equity in Chinese companies by a non-Chinese investor), which require the applicable project-based approval of the National Development and Reform Commission (NDRC) or its local counterpart, and the approval by, or information reporting to, central Ministry of Commerce (MOFCOM) if the size of a greenfield investment or the total investment amount of a target company whose business is in the industries specified in the Foreign Investment Negative List (as discussed below) exceeds US$1 billion, or MOFCOM's local counterpart if the size of the investment falls below US$1 billion but the target's business still falls within the industries specified in the Foreign Investment Negative List. Approval at the local level can typically be obtained within one month, but approval from central MOFCOM and NDRC often takes several months or longer. If a transaction is subject to an antitrust or national security review, as discussed below, MOFCOM or its local counterpart will typically defer review until the antitrust or national security reviews are completed.

Whether MOFCOM and NDRC will grant approval for a restricted transaction depends in part on whether the type of the underlying acquisition target falls within the scope of the Foreign Investment Negative List, jointly published annually by MOFCOM and NDRC (with the latest edition published on 23 June 2020 and effective from 23 July 2020), which lists the industries where special management measures for foreign investment access are applicable. The Foreign Investment Negative List partially replaces the former Catalogue for the Guidance of Foreign Investment Industries (the Foreign Investment Catalogue), and instead of grouping industries for foreign investment into 'encouraged', 'prohibited' and 'restricted' categories as the Foreign Investment Catalogue did, the Foreign Investment Negative List specifies only two categories of industries: industries in which foreign investment is prohibited and industries in which foreign investment is allowed with certain investment restrictions. Industries not mentioned by the Foreign Investment Negative List are deemed 'permitted' (i.e., not subject to the special management measures for foreign investment access). On 27 December 2020, NDRC and MOFCOM promulgated the Catalogue of Encouraged Industries for Foreign Investment (2020) (the Catalogue of Encouraged Industries), which became effective on 27 January 2021. The Catalogue of Encouraged Industries consists of two sub-catalogues (the list applicable to the entire country and the list applicable to China's central, western and north-eastern regions and Hainan province only). With the effectiveness of the Catalogue of Encouraged Industries and the latest Foreign Investment Negative List, the Foreign Investment Catalogue is now officially and entirely repealed. While a non-Chinese investor can acquire full ownership of a company in most encouraged and permitted sectors (and is often entitled to special advantages compared to domestic investors when acquiring a company in an encouraged sector), to invest in most sectors subject to the special management measures for foreign investment access (i.e., restricted industries), a non-Chinese investor is required to team up with a Chinese partner (and, in some cases, the Chinese partner must maintain a controlling stake). Investments by a non-Chinese party in a prohibited sector are typically prohibited.

In addition to these general approval requirements, foreign investments in several industries, such as construction and telecommunications, are subject to approval from the relevant Chinese regulatory authorities governing the applicable industries.

An indirect investment in China by way of an offshore investment in an offshore holding company that owns equity of an FIE is not subject to MOFCOM and NDRC approvals applicable to an onshore investment; however, both an onshore and an offshore investment may be subject to China's antitrust and national security review schemes.

The antitrust regime in China is established and governed by the Anti-Monopoly Law of the People's Republic of China (AML), which became effective on 1 August 2008. Under the AML, an antitrust filing with the SAMR anti-monopoly authority is required for any transaction involving a change of control if the sales in China in the prior accounting year of each of at least two of the parties involved exceeded 400 million yuan, and all of the parties' aggregate worldwide sales in the prior accounting year exceeded 10 billion yuan or the parties' aggregate sales in China in the prior accounting year exceeded 2 billion yuan. These monetary thresholds will remain unchanged until new ones are promulgated in an amendment to the AML; to date, there has been no amendment to these thresholds since 2008.

On 26 July 2019, SAMR published three new anti-monopoly regulations (the Interim Provisions on the Prohibition of Monopoly Agreements, the Interim Provisions on the Prohibition of the Abuse of Market Dominant Status and the Interim Provisions on Prevention of the Abuse of Administrative Power to Exclude or Restrict Competition as the guideline on enforcement of the AML). These three regulations became effective on 1 September 2019. On 2 January 2020, SAMR further released a draft of the amendment to the Anti-Monopoly Law (the Draft AML) for public comment. The Draft AML imposes harsher penalties on monopolistic conduct and proposes to increase the maximum fine for monopolistic agreements from 500,000 yuan to 50 million yuan. The Draft AML also introduces criminal liabilities for individuals engaged in monopolistic conduct for the first time. The definition and scope of monopolistic agreements have been expanded to include 'hub-and-spoke' arrangements. In addition, SAMR will have greater flexibility in merger reviews by tolling the statutory timeline, reaching a wider range of deals and revoking previous decisions on the basis of false or inaccurate information under the Draft AML. The Draft AML will be subject to various rounds of review and comments before it can be officially adopted and may be further revised during the review process; it is, therefore, unclear whether and when the above changes will become binding law.

In February 2011, China's State Council issued Circular 6, which established a national security review scheme for the acquisition of a Chinese business by one or more non-Chinese investors. Two broad transaction types are subject to Circular 6 review:

  1. the 'acquisition' of any stake (regardless of the size) in a military enterprise, a supplier to a military enterprise, a company located near sensitive military facilities or any other company relating to national defence; and
  2. the acquisition involving 'control' of a Chinese company whose business involves 'key' agricultural products, energy and resources, infrastructure, transportation services or technologies or manufacturing of equipment and machinery 'affecting national security'.

In April 2015, the General Office of the State Council issued the Tentative Measures for the National Security Review of Foreign Investment in Pilot Free Trade Zones, which took effect in May 2015 (the Tentative Measures). Under the Tentative Measures, the national security review extends to foreign investment in important culture and information technology products sectors that are vital to national security and in which foreign investors have de facto control over the invested entities. The types of foreign investments regulated by these Tentative Measures include sole proprietorship, joint venture, equity or asset acquisition, control by contractual arrangements, nominal holding of interests, trust, re-investment, offshore transactions, leasehold and subscription of convertible bonds.

Both China's antitrust and national security review schemes provide Chinese authorities with wide discretion to determine whether a transaction is subject to review and, if subject to review, whether it should be blocked. Under Circular 6, the meanings of 'key' and 'affecting national security' are undefined. Provisions issued by MOFCOM in 2011 to implement Circular 6 prohibit an investor from circumventing the national security review by structuring a transaction by way of nominee arrangement, trust, multilayered re-investment, lease, loan, contractual control, offshore transaction or other such structuring. Under both the AML and Circular 6 and other regulations regarding antitrust or national security review, control is defined broadly and includes having voting rights sufficient to exercise a major impact on board or shareholder resolutions, particularly with respect to key business or operational decisions. As such, private equity investments involving certain customary protections (e.g., veto rights, supermajority voting requirements and negative covenants) could arguably be interpreted to involve control under both statutes. If there is ambiguity as to whether a filing is required, it is usually prudent for an investor to make a filing to avoid adverse consequences later. After SAMR was established and assumed responsibility for antitrust filing matters, the State Council issued revised guidelines on antitrust filings in September 2018, which are not substantially different from the original guidelines and have simply changed the relevant regulatory authority's name and where the relevant party should submit the filing. Prior to this 2018 version, the 2014 revised guidelines attempted to clarify the moderately controversial concept of control in the context of antitrust filings and provided for a formal pre-filing consultation with the Anti-Monopoly Bureau of MOFCOM (changed to the Anti-Monopoly Bureau of the State Administration of Market Regulation in the 2018 guidelines) for investors, to assist them in determining whether a filing would be triggered. If a transaction is subject to national security or antitrust review, the anti-monopoly authority will conduct a policy-driven review to determine whether the transaction can proceed unimpededly: it considers not only the effect of a transaction on national security or competition, as applicable, but also takes into account its effect on public interest and the stability of the national economy and social order, as well as the views of industry associations and other market participants.

In addition, the FIL has set out the principle that the Chinese government shall establish a national security review of foreign investment without specifying the details.

On 19 December 2020, NDRC and MOFCOM jointly issued the Measures on Security Review of Foreign Investment, which took effect on 18 January 2021 (the Security Review Measures). The Security Review Measures amend the previous review framework stipulated by the Tentative Measures and provide detailed rules to tackle the rising national security concerns and to address the global trend of strengthening national security review on foreign investment.

Further, the M&A Rules contain, in effect, a restriction on 'round-trip' investments by requiring MOFCOM approval for any acquisition of a Chinese company by an offshore company formed or controlled by any Chinese entity or individual affiliated with the Chinese target company. Typically, this approval is not granted. Where the offshore structure was in place prior to the adoption of the M&A Rules in 2006, however, the acquisition of a Chinese target by the offshore entity may still be permitted.

Governance of and exit from onshore joint ventures

Since the FIL became effective, all FIEs are regulated pursuant to the Companies Law, the FIL and the FIL Implementation Regulation, which enables foreign shareholders in an FIE to more easily obtain or enforce certain contractual rights that are considered fundamental for private equity investors in other jurisdictions, including rights pertaining to governance and exit, compared with the old regulatory framework that applied to FIEs before the adoption of the FIL, as some previous onerous requirements on corporate governance of FIEs have been abolished (e.g., for Chinese–foreign EJVs, certain key corporate actions required unanimous approval by the board; a Chinese partner typically had the right to appoint at least one director, which basically gave the Chinese partner certain veto rights regardless of its shareholding percentage).

If the Chinese shareholder is a state-owned enterprise (SOE), enforcement may be a bit difficult, as a transfer of an SOE's interest in a joint venture is subject to a statutory appraisal and an open bidding procedure, unless waived by the appropriate authorities. Regardless of what rights may be contained in a joint venture contract, a local Chinese court injunction granting specific performance against a Chinese shareholder and in favour of a foreign investor is far from certain.

Implications of the regulatory framework on a transaction structure

To avoid the requirements of obtaining NDRC and MOFCOM approval and to enhance structuring flexibility, foreign private equity investors typically prefer to invest in China through an offshore investment. The ideal transaction structure, when feasible, is that the foreign investor invests alongside a Chinese partner in an offshore Cayman Islands or British Virgin Islands company, with the company owning 100 per cent of a Chinese WFOE (often indirectly through a Hong Kong entity, to obtain preferential treatment on dividends). This structure also allows the foreign investor to benefit from transaction agreements governed by foreign laws and to avoid the need to enforce its rights in China. Because of foreign ownership limitations and the prohibition on round-trip investments, however, this offshore structure is seldom available for foreign investments in Chinese targets that have not formed an offshore holding structure prior to the effectiveness of the M&A Rules.

Many non-Chinese investors use a 'variable interest entity' (VIE) structure to invest (indirectly) in China to avoid seeking certain Chinese regulatory approvals (approvals that will not or will not be expected to be granted to FIEs). Under a VIE structure, Chinese individuals, often the founders, key management members or their relatives, are the registered shareholders of a domestic operating company, which holds the required licences and permits needed for the business to operate. An investor (often in conjunction with the founders) then forms a WFOE through an offshore entity it owns, and the WFOE enters into a series of contractual arrangements with the operating company and its registered shareholders pursuant to which the WFOE obtains control and an economic interest in the operating company. These contractual arrangements can take many forms, but often include an exclusive service or licence agreement, a voting proxy agreement, a share pledge agreement and a loan agreement, and an exclusive option agreement (together with a form of equity transfer agreement) allowing the WFOE (when permitted by Chinese law) or its appropriate affiliates or designees to acquire the equity interests or assets of the operating company. Commentators frequently note that the VIE structure is legally risky given that it arguably violates the spirit (if not the explicit text) of Chinese regulations; however, Chinese companies, including some of the large public companies, such as Alibaba, Baidu and Tencent, continue to use this structure.

The FIL and the FIL Implementation Regulation chose to remain silent on the topic of VIE. It is understandable that, given the large number of enterprises currently adopting the VIE structure, the potential impact of changing the status quo may be significant and unpredictable. Notably, the FIL provides that foreign investment includes the circumstance where a foreign investor acquires shares, equities, property shares or any other 'similar rights and interests' of an enterprise within the territory of China. 'Similar rights' is a term broad enough to include interests derived from a VIE structure. It not only affords companies enough room to manoeuvre but also gives the government ground to assert jurisdiction over the VIE structure when the time is right. Given the continuous reform in and opening up of China and the decrease in foreign investment restrictions, it will come as no surprise if the Chinese government decides to deal with VIE structures in the future when this issue is ripe for resolution.

ii Fiduciary duties and liability

Fiduciary duties and potential liabilities of directors, officers and supervisors under Chinese law

The Companies Law is the primary statute regulating the actions and duties of directors, officers and supervisors of a Chinese company. Pursuant to the Companies Law, a director, officer or supervisor must abide by the laws, administrative regulations and articles of association of the company, and has duties of loyalty and care to the company. Similar to many other countries, a breach of duty by a director, officer or supervisor of a Chinese company may give rise to civil, administrative or criminal liability. A particular concern to a private equity investor in China, however, is that a director, officer or supervisor may be liable for criminal liability not only for his or her own wrongdoing, but also for crimes committed by the company if he or she is the 'manager directly in charge' or 'person directly responsible' for the management of the matter with respect to which a specific criminal act was committed by the company. This risk of personal liability for company wrongdoing is more acute for a director or officer who is also the chairperson of the board, executive director or legal representative of the company or who otherwise serves in a senior management capacity, such as a general manager or chief financial officer. Often by way of seeking to ensure that their representatives are not assigned responsibility for any specific matters, most non-Chinese private equity funds are comfortable appointing their representatives to the boards of Chinese companies, despite the risk of liability. While directors' and officers' insurance and indemnification agreements may protect against civil liability, many types of administrative or criminal liability cannot be mitigated by insurance and indemnification.

Chinese tax exposure

Since January 2008, China's Enterprise Income Tax Law (the EIT Law) has imposed a 10 per cent capital gains tax on the sale of a domestic Chinese company by a foreign investor. On 3 February 2015, the State Administration of Taxation of the People's Republic of China (PRC) issued Circular (2015) No. 7 (Circular 7) on Chinese corporate income tax treatments of indirect transfers of Chinese assets (including equity interest in a Chinese company) by non-resident enterprises. Under Circular 7, an indirect equity transfer of a Chinese entity by an offshore seller (such as selling the equity of an offshore holding company) that does not have a reasonable commercial purpose and that is structured to avoid applicable Chinese taxes will be re-characterised by the Chinese tax authorities as a direct equity transfer of the Chinese entity for Chinese tax purposes, and the offshore seller will be required to pay capital gains tax for the transaction. Although it is within the discretion of the parties to such offshore transactions to determine whether to make a Circular 7 filing to report the offshore transaction for the Chinese tax authorities' assessment for Chinese tax purposes, Circular 7 employs a penalty structure designed to motivate parties to offshore transactions involving indirect sales of Chinese companies to report potentially taxable transactions to the Chinese tax authorities. Because of the uncertainty under the Circular 7 regime regarding what will satisfy the Chinese tax authorities as a non-tax-avoidance justification with reasonable commercial purpose for the offshore sale of Chinese entities, and regarding the evolving market practice with respect to these matters, many practitioners interpret the application of Circular 7 in a broad way and recommend making Circular 7 filings to reduce the risks and potential penalties for evading Chinese tax obligations.

An offshore vehicle established by a non-Chinese private equity investor to make an investment in a Chinese company will be treated as a 'PRC-resident enterprise' under the EIT Law, and will be subject to a flat 25 per cent enterprise income tax on its worldwide income if the offshore vehicle's de facto management body is in China. Although the language of law is unclear, factors that the State Administration of Taxation may take into account in determining tax residency include whether:

  1. the offshore vehicle locates its senior management and core management departments in charge of daily operations in China;
  2. financial and human resources decisions of the offshore vehicle are subject to determination or approval by individuals or bodies in China;
  3. the offshore vehicle's major assets, accounting books, company seals, and minutes and files of board and shareholders' meetings, are kept or located in China; and
  4. at least half of the offshore vehicle's directors or senior management reside in China.

To mitigate the risk that any dividends, sale proceeds or other income received by an offshore vehicle might be subject to this tax, an offshore vehicle should take steps to establish that it is not effectively managed and controlled in China.

SEC enforcement actions

Several notable developments in the SEC's enforcement of the Foreign Corrupt Practices Act (FCPA) occurred in 2020. In particular, on 3 July 2020, the US Department of Justice (DOJ) and SEC issued the second edition of the official FCPA Resource Guide (the 'Second Edition Guide'), affirming that FCPA enforcement remains a government priority. The Second Edition Guide incorporates key policies promulgated by the DOJ in recent years, including the FCPA corporate enforcement policy, the policy on coordination of corporate resolution penalties, the selection of monitors in Criminal Division matters, and the evaluation of corporate compliance programmes. Additionally, the DOJ issued an updated guidance regarding corporate compliance programmes on 1 June 2020 that underscored the US government's continued focus on the importance of implementing a compliance programme that goes beyond paper policies and can be adapted to suit a company's emerging risks.

The year 2020 marked another busy year in FCPA enforcement actions. In 2020, US authorities (including the SEC and DOJ) brought FCPA enforcement actions against 12 companies and imposed financial penalties totalling a record US$6.4 billion, over two times the total penalties recovered in 2019. FCPA-related penalties in 2020 ranged from Goldman Sachs's US$3.3 billion settlement (largest) to Cardinal Health's US$8.8 million (smallest).

While China has been a focal point of FCPA enforcement activities for the past decade, FCPA enforcement cases involving China decreased slightly in 2020. Of the FCPA enforcement cases brought by the SEC in 2020, only three involved activities by multinational companies and their subsidiaries in China. In comparison, in 2019, there were seven cases brought by the SEC that had links to China. That said, this slight drop in cases touching China is unlikely to signal that the US regulators have shifted their attention away from China.

The three FCPA enforcement cases involving China are as follows.

  1. In August 2020, Herbalife Nutrition, Ltd, a Los Angeles-based direct selling company, agreed to pay a total of US$123 million in fines and disgorgement to the SEC and DOJ to settle charges that it violated the books and records and internal controls provisions of the FCPA. The government's charges arose from an alleged bribery scheme orchestrated by Herbalife's Chinese subsidiaries. Specifically, the company allegedly conspired with its subsidiaries in China and others to falsify its books and records, and allegedly provided extensive and systematic corrupt payments to Chinese government officials over a 10-year period to promote its business in China.
  2. In June 2020, Novartis AG, a global pharmaceutical and healthcare company, and its former subsidiary Alcon, agreed to pay over US$340 million in fines and disgorgement to resolve SEC and DOJ charges arising out of alleged misconduct in multiple jurisdictions. Specifically, the company allegedly made improper payments to public and private healthcare professionals in exchange for prescriptions and lacked sufficient internal accounting controls in one of its China subsidiaries, which used forged contracts as part of local financing arrangements.
  3. In February 2020, Cardinal Health, an Ohio-based pharmaceutical company, agreed to pay US$8.8 million to settle SEC charges that it violated the books and records and internal controls provisions of the FCPA in connection with its operations in China. Cardinal entered the China market by acquiring the Chinese subsidiaries of an established pharmaceutical company and rebranded the acquired entities as 'Cardinal China' after the acquisition. According to the SEC, Cardinal Health's Chinese subsidiary retained thousands of employees and managed two large marketing accounts on behalf of a European supplier between 2010 and 2016 without putting in place proper anti-corruption controls. Certain China-based employees allegedly directed marketing funds to government-employed healthcare professionals and employees of state-owned enterprises. The SEC claimed that Cardinal Health did not apply sufficient accounting controls to detect these improper payments and failed to maintain complete and accurate books and records with regard to the aforementioned marketing accounts.

In 2020, the US government continued to pursue enforcement actions under the FCPA against individuals, including Chinese nationals. In November 2019, as part of the enforcement action against Herbalife, the US government disclosed civil and criminal charges against Jerry Li (a Chinese national and the former managing director of Herbalife) for alleged FCPA violations. The SEC alleged that Li orchestrated a scheme to bribe Chinese government officials to obtain direct selling licences and curtailed a government investigation of his company's business practices in China. The DOJ filed criminal charges against Li and Mary Yang, who formerly ran the external affairs department of Herbalife's China subsidiary, for reimbursing more than US$25 million in entertainment and gifts provided to Chinese government officials between 2007 and 2016. Significantly, the DOJ alleged that Li intentionally lied to government enforcement officials in the United States and attempted to destroy documents relevant to their investigation.

Chinese authorities' enforcement actions

In addition to scrutiny from US regulators, multinational companies and private equity firms also face potential enforcement risks by the Chinese anti-corruption and antitrust authorities.

Chinese anti-corruption enforcement update

The number of anti-corruption enforcement actions by Chinese regulators targeting unfair competitive conduct has declined in 2020. This decline may be attributed in part to the impact of the covid-19 pandemic in China. However, anti-corruption enforcement remains a top priority for Chinese authorities. For example, in December 2020, the National People's Congress promulgated amendments to the Criminal Law of the People's Republic of China, which increased the maximum criminal penalties to life imprisonment for private individuals convicted of commercial bribery, embezzlement and graft of corporate assets and funds. This amendment imposes penalties on private individuals on a par with penalties imposed on government officials found guilty of similar misconduct. In October 2020, the Shanghai government issued a revised version of its Regulations of Anti-Unfair Competition (the 'Shanghai Regulations'), which became effective on 1 January 2021. The Shanghai Regulations require a company to enhance its internal controls and compliance programme. This is the first regulation in China that specifically references 'compliance programme'. Under the Shanghai Regulations, companies are encouraged to establish and refine their anti-unfair competition (e.g., anti-commercial bribery) compliance system, the implementation of which will be evaluated by government authorities during bribery probes.

Chinese antitrust enforcement update

China's antitrust enforcement framework took a major leap in 2020, including a proposal to amend the Anti-Monopoly Law and the draft rules on the platform economy. Specifically, in January 2020, the State Administration for Market Regulation (SAMR), the government authority responsible for regulating a wide range of market activities from competition to food safety, published a draft amended Anti-Monopoly Law (the Draft AML) for public comment. The Draft AML proposes several key changes, including to drastically increase fines, especially for (1) failures to notify regarding mergers, acquisitions and joint ventures, (2) gun-jumping, and (3) breaches of merger conditions. The Draft AML law also introduces mechanisms to stop the review clock during merger control assessments by the SAMR. This is the first time China has proposed major changes to its centerpiece antitrust legislation since the Anti-Monopoly Law came into force in 2008. In November 2020, the SAMR also issued a draft of the Guidelines for Anti-monopoly in the Platform Economy for the purpose of regulating monopolistic behaviour in the platform economy.

In 2020, there is a notable trend towards heightened antitrust scrutiny of major technology companies in China. For example, In December 2020, the SAMR imposed a fine of 500,000 yuan on Alibaba Investment (for its investment in Intime Retail), China Literature (for its acquisition of New Classics Media) and Shenzhen Hive Box Network Technology (for its acquisition of China Post Logistics Technology), for failing to notify the SAMR of the respective transactions. This is the first time that the SAMR has fined transactions involving a VIE structure.

Separately, on 24 December 2020, the SAMR announced that it had opened an investigation into Alibaba Group Holding for suspected monopolistic conduct. The SAMR indicated that it launched the investigation following complaints received against Alibaba, and that it will target the practice described as 'choose one from two' that forces vendors to enter into exclusive sales contracts with Alibaba, as well as other unspecified issues. The investigation is ongoing.

Further, on 30 December 2020, the SAMR imposed a fine of 500,000 yuan on each of Beijing Jingdong Century Information Technology Co, Ltd (JD), Hangzhou Haochao E-commerce Co, Ltd (Tmall) and Guangzhou Vipshop E-commerce Co, Ltd (Vipshop) for price irregularities during the Singles' Day shopping festival. In particular, the SAMR found that these companies raised prices on certain goods to higher-than-normal levels prior to the shopping festival in order to mislead consumers. Although the size of the penalties are not large, they nevertheless signal that China's antitrust regulators are set to play a more active role in the technology and e-commerce sectors.

Antitrust enforcement in other traditional sectors shows no sign of slowing down in 2020. For instance, in April 2020, the SAMR imposed a significant fine of 325.50 million yuan on three distributors of Calcium Gluconate API for abuse of dominance. Specifically, the SAMR noted that the three distributors were collectively dominant as a group in the relevant market. Even though they were independent legal entities, the SAMR found that one of the distributors had control over the other two by way of personnel and financial connections, and its ability to make business decisions for all three. It is not entirely clear if the decision relied on the theory of collective dominance or whether the three distributors were treated as one undertaking. The three distributors allegedly sold products at unfairly high prices to downstream drug manufacturers, as determined by a price-cost comparison. They also allegedly imposed unfair transaction terms on downstream drug manufacturers by requiring them to exclusively sell final drug products back to the three distributors. The high penalty sets multiple records for antitrust enforcement in China, including the highest penalty for an antitrust violation and for obstructing antitrust enforcement. The record-high penalty underscores the importance of antitrust compliance in China.

iii Chinese outbound M&A

Chinese outbound investment approval and filing regimes

A proposed outbound investment in overseas target assets by a Chinese investor is subject to a series of outbound investment approval, filing and reporting requirements with competent Chinese authorities depending, inter alia, on the location and industry of the target assets, the investment amount, and the identity and ownership structure of the Chinese investor. An outbound investment made by Chinese individual investors through onshore or controlled offshore vehicles will be subject to relevant NDRC and MOFCOM filing or reporting mechanisms.

NDRC regulates Chinese companies' outbound investment activities on a project-by-project basis through a multilayered approval and filing regime. Under the Administrative Measures for Enterprise Outbound Investment (Regulation No. 11), which entered into force on 1 March 2018, a Chinese investor is required to make a filing with NDRC or its local counterpart (depending on whether the Chinese investor is a centrally managed SOE and whether the investment size (including equity and debt investments made by not only the Chinese investor but also the offshore entities controlled by the Chinese investor) reaches US$300 million) and obtain an NDRC filing notice for an outbound investment transaction that does not involve a 'sensitive country or region' (countries and regions that are subject to investment restrictions under international treaties, war or civil commotion, or that have no diplomatic relations with China) or a 'sensitive industry' (which was further clarified by NDRC in 2018 (see below for more details)), and, in cases where the transaction involves a sensitive country or region or a sensitive industry, the Chinese investor is required to apply for and obtain an outbound investment approval from the central NDRC. In addition, there has been a requirement that if the size of a Chinese outbound investment reaches or exceeds US$300 million, the Chinese investor is required to submit a project information report to NDRC and obtain an NDRC project confirmation letter before signing a definitive purchase agreement, submitting a binding offer or bid, or submitting applications with foreign governmental authorities; however, this requirement of an NDRC project confirmation letter was abolished from 1 March 2018 following the entry into effect of the new NDRC outbound rules. In addition to Regulation No. 11, NDRC promulgated a Catalogue of Sensitive Industries for Outbound Investment 2018 (the Sensitive Industries Catalogue) in January 2018, with effect from 1 March 2018. In June 2018, NDRC released the Answers to Frequently Asked Questions Concerning Outbound Investment by Enterprises (the Answers to FAQs) on its official website, providing clarification for 61 frequently asked questions regarding the application of Regulation No. 11. NDRC made rather restrictive interpretations on the scope of sensitive projects. These industries or projects include real estate, hotels, offshore equity investment funds or investment platforms without specific underlying industrial projects, sports clubs, cinemas and the entertainment industry. The designation of real estate, hotels and offshore equity investment funds or investment platforms without specific underlying industrial projects as sensitive industries has drawn substantial attention, as there were significant amounts of investment in these industries both in numbers and deal values in the few years before 2018. Regulation No. 11 adopts a control-based approach that includes in the verification scope all sensitive projects made by offshore entities under the control of Chinese investors, regardless of whether or not the Chinese investors provide financing or guarantees for these projects. It is also notable that the restrictive interpretations of sensitive projects apply only to these three industries, namely real estate, hotels and offshore equity investment funds or investment platforms without specific underlying industrial projects, and do not include cinemas, entertainment, sports clubs or other sensitive industries. In addition to the aforementioned restrictive interpretations, the Answers to FAQs also include detailed explanations and instructions for each of the sensitive industries to clarify the scope of application of sensitive projects.

In addition to the multilayered approval and filing regime implemented by NDRC, outbound investment transactions are also subject to the reporting and filing requirements implemented by MOFCOM. Under the Interim Measures for the Recordation (or Confirmation) and Reporting of Outbound Investment (Circular No. 24), which was promulgated by MOFCOM on 8 January 2018, each Chinese investor that conducts an outbound investment transaction shall file the details of the outbound transaction made by it with MOFCOM or its local counterpart. Circular No. 24 applies the same criteria under Regulation No. 11 for the initial filing or reporting of an outbound investment transaction. In addition, Circular No. 24 further requests the Chinese investor to update its registration with respect to the approved outbound investment transaction with competent MOFCOM on a periodic basis. On 1 July 2019, MOFCOM promulgated the Implementation Regulation of Interim Measures for the Recordation (or Confirmation) and Reporting of Outbound Investment (Circular No. 24 Implementation Rules), which provides the filing requirements in detail. Under Circular No. 24 Implementation Rules, each Chinese investor shall file a semi-annual report with respect to the approved outbound investment every six months, which shall include, without limitation, the financial performance of the invested foreign business. If the Chinese investor encounters any problem with respect to the approved outbound investment (e.g., war, governmental default, major health emergency), it shall promptly report the event to competent MOFCOM.

NDRC approvals and filings and MOFCOM initial approvals and filings are typically the pre-closing procedures on the part of Chinese investors in outbound investment transactions, particularly if the Chinese investor needs to establish an offshore subsidiary or to use onshore financing (whether equity or debt financing), or both, to complete the transaction. If a Chinese buyer uses an existing offshore entity as the acquisition vehicle and has sufficient funds offshore to complete the transaction, NDRC approvals and filings and MOFCOM initial approvals and filings, and even registration with the State Administration of Foreign Exchange (SAFE) as described below, may not be required by the parties as closing conditions (although the Chinese buyer may nevertheless go through the process of obtaining and completing NDRC approvals and filings and MOFCOM initial approvals and filings to be able to repatriate funds from the relevant investment back to China in the future). However, the aforementioned practice is restricted by the new NDRC outbound rules, which require that an investment of US$300 million or more made by an offshore entity controlled by a Chinese investor be 'reported' to the central NDRC, which will be a new post-closing government filing for an outbound transaction consummated by a Chinese investor's offshore subsidiary by utilising offshore financing.

After obtaining NDRC approvals and filings and MOFCOM initial approvals and filings, a foreign exchange registration with SAFE through a local Chinese bank is required for the currency conversion and remittance of the purchase price out of China. However, this will not be applicable if a Chinese investor uses offshore capital to fund the transaction. In addition, a foreign exchange registration would be required in the case of an earnest deposit to be paid from China to overseas immediately upon or within a short period of the signing of a definitive purchase agreement. Upon registration, a Chinese investor may remit the registered amount of the deposit to offshore. However, if a Chinese investor uses its offshore funds to pay the deposit, this registration may not be applicable. The registration can be handled by a local Chinese bank concurrently with NDRC project confirmation process if the amount of the deposit does not exceed US$3 million or 15 per cent of the purchase price. Payment of deposits of higher amounts must be approved by SAFE on a case-by-case basis after completing NDRC project confirmation process.

A Chinese SOE as a buyer may also need approvals from the state-owned Assets Supervision and Administration Commission of the State Council or its local counterpart, or sometimes, alternatively, approvals from its group parent company. Depending on the transaction value and structure, a Chinese-listed company may need to obtain stockholders' approval before closing and make the necessary disclosures required by the Chinese securities exchange rules. The State Council requires the establishment of share capital systems for SOEs and improved auditing systems to monitor SOEs' outbound equity investments. This principle, accompanied by current rules applicable to SOEs' investments (e.g., appraisal), are regarded as intended to preserve and increase the value of state-owned overseas assets.

Since late 2016, it has been reported that the increasing flow of Chinese outbound investment activities has become a source of concern to Chinese authorities, which have adopted more stringent control and supervision on outbound investment activities and capital flow. In an official press release dated 6 December 2016, the central governmental authorities, including NDRC, MOFCOM and SAFE, in their response to a media inquiry on tightened scrutiny over outbound investment transactions, mentioned that they had been alerted to some irrational outbound investment activities in real estate, hotels, film studios, the entertainment industry and sports clubs, and potential risks associated with overseas investment projects involving:

  1. large investments in businesses that are not related to the core businesses of the Chinese investors;
  2. outbound investments made by limited partnerships;
  3. investments in offshore targets that have assets of a value greater than the Chinese acquirers;
  4. projects that have very short investment periods; and
  5. Chinese onshore funds participating in the going-private of offshore-listed China-based companies.

Further, on 4 August 2017, the State Council issued the Guidance Opinions on Further Promoting and Regulating Overseas Investment Direction (the Guidance Opinions), which highlighted certain industry-specific guidance affecting Chinese outbound investments, including:

  1. encouraging investments in overseas high-tech and manufacturing companies and in setting up overseas research and development (R&D) centres;
  2. promoting investments in agricultural sectors;
  3. regulating investments in oil, mining and energy sectors based on an evaluation of the economic benefits;
  4. restricting investments in real estate, hotels, cinemas, the entertainment industry and football clubs; and
  5. prohibiting investments in the gambling and pornography sectors.

In addition, the Guidance Opinions classify investments in offshore private equity funds or investment vehicles that do not have investment projects as restricted investments, which would be subject to pre-completion approvals by NDRC.

The tightened control on outbound investment activities and capital flow not only affects Chinese investors but is also relevant to international private equity participants from at least two perspectives: when a private equity participant intends to partner with a Chinese investor in M&A activities outside China or when a private equity participant is considering a Chinese buyer for a trade sale as its exit route. NDRC promulgated the Sensitive Industries Catalogue in 2018, formally adopting the aforementioned measures. In these scenarios, the private equity investor must take into account the potential risk that the Chinese party may not be able to come up with sufficient funds offshore in time to complete the transaction offshore or ultimately complete the transaction. Further, when private equity investors consider a Chinese buyer as a potential exit route, in addition to the completion risk, a private equity seller would be well-advised to also consider the risk profile of the transaction and the target business in the context of Chinese regulations (including the relevant industry, the financing structure and the identity of the Chinese buyer) to evaluate the related risks and impacts, including reputational risks and social impacts, if the Chinese buyer was required to divest the business shortly after completing the transaction or was unable to provide the required funding offshore for the business, which might put stress on various aspects of the operation of the business and might also force a premature sale.

Non-Chinese investment approvals

The United States, the European Union (EU) and other countries scrutinise or regulate international business activities, including relevant Chinese outbound investment activities, to achieve objectives related to, inter alia, national security, foreign investment control and anti-monopoly. In connection with Chinese investments in the United States or EU countries, the relevant parties should be aware of potential non-Chinese approvals that may be mandatory or necessary in the jurisdiction where the target is located depending on the nature and size of the transaction, which may include US and EU merger control review, and a Committee on Foreign Investment in the United States (CFIUS) review. A CFIUS review is often perceived among parties to Chinese outbound investments in the United States as one of the major foreign regulatory hurdles. The scrutiny of acquisitions by Chinese companies has been further intensified in the United States (following the reform of CFIUS legislation in late 2018) and in some other western countries.

CFIUS is an inter-agency committee of the US government that is empowered to monitor foreign direct investment in the United States by a non-US person, to evaluate whether the transaction may create national security risks. CFIUS establishes the process for reviewing the national security impact of foreign investments, joint ventures and other investments into the United States, and analyses a broad range of national security factors to evaluate whether a transaction may create a national security risk to the United States.

On 13 August 2018, US President Trump signed into law the Foreign Investment Risk Review Modernization Act (FIRRMA), which substantially reformed and expanded the jurisdiction and powers of CFIUS, including (1) expanding the jurisdiction of CFIUS, which expressly included not only controlling direct investments, but also certain non-controlling investments for the first time; (2) adopting a mandatory declaration process for certain covered transactions together with mandatory waiting periods for the closing of those transactions; (3) extending the statute timeline in respect of the review process; and (4) granting enforcement authority for CFIUS to suspend transactions. On 11 October 2018, CFIUS further promulgated a pilot programme, which took effect on 11 November 2018, strengthening and detailing regulations affecting 27 identified industry sectors (e.g., R&D in biotechnology, petrochemical manufacturing and semiconductor and related device manufacturing). To further enhance the pilot programme promulgated in October 2018, on 17 September 2019, the US Department of the Treasury promulgated the Draft Implementation Regulation of FIRRMA (the Draft FIRRMA Implementation Regulation). The Draft FIRRMA Implementation Regulation introduces the concept of a 'technology, infrastructure and data (TID) US business' for the first time to further emphasise the gravity and sensitivity of foreign investment in business sectors relating to intellectual property, critical infrastructure and personal data. According to the Draft FIRRMA Implementation Regulation, CFIUS further expanded its jurisdiction to all 'covered investments', which includes any investment made by a non-US investor in a TID US business. On 13 January 2020, the US Department of the Treasury published the finalised Draft FIRRMA Implementation Regulation, which became effective on 13 February 2020. Given that the relationship between the United States and China has deteriorated since the Trump administration took office and has dropped to a record low point as a result of the US–China trade war that began in 2019, FIRRMA, the pilot programmes implemented by CFIUS and the Draft FIRRMA Implementation Regulation are likely to have a dramatic and disproportionate impact on Chinese outbound investments into the United States, especially investments in highly sensitive areas (particularly, any TID US business) in the near future.

Recent major Chinese outbound investment transactions abandoned or terminated on account of CFIUS issues are listed as follows:

  1. the abandonment in May 2018 of the US$200 million acquisition of a controlling stake in US hedge fund Skybridge Capital by HNA Group;
  2. the abandonment in February 2018 of the US$100 million acquisition of 63 per cent shares in Cogint Inc (listed on NASDAQ) by Bluefocus because of the parties' failure to obtain CFIUS approval;
  3. the termination in February 2018 of the US$580 million acquisition of US semiconductor testing company Xcerra Corp by Hubei Xinyan Equity Investment Partnership because of the parties' failure to obtain CFIUS approval;
  4. the termination in January 2018 of an attempted US$1.2 billion strategic acquisition of US money transfer company MoneyGram International Inc by Chinese financial service provider and affiliate of Alibaba, Ant Financial Services Group, because of CFIUS refusal of approval over national security concerns;
  5. the termination in November 2017 of a US$100 million investment in US financial services firm Cowen Inc by CEFC China Energy Company Limited;
  6. the executive order issued by President Trump in September 2017 blocking a proposed US$1.3 billion sale of Lattice Semiconductor Corporation, a publicly traded US manufacturer of programmable logic chips, to a Chinese state-backed private equity firm;
  7. the abandonment in September 2017 of the US$285 million proposed 10 per cent equity investment in HERE Technologies by a part-Chinese consortium;
  8. the termination in July 2017 of the US$103 million acquisition of US in-flight entertainment company Global Eagle by the Chinese conglomerate HNA because of the parties' inability to obtain CFIUS approval;
  9. the executive order issued by President Obama in December 2016 blocking the proposed acquisition of German semiconductor manufacturer Aixtron SE's US business by a group of Chinese investors led by Fujian Grand Chip Investment Fund LP;
  10. the termination in January 2016 of the attempted acquisition of Philips NV's Lumileds LED business by a consortium of Chinese investors led by GO Scale Capital because of the parties' failure to address national security concerns raised by CFIUS;
  11. the termination in February 2016 of the proposed investment in Western Digital by Unis Union and Unisplendour after CFIUS determined to investigate the transaction; and
  12. the rejection by US chipmaker Fairchild Semiconductor International in February 2016 of a bid from China Resources Microelectronics citing an 'unacceptable level' of CFIUS risk.

Due to the aggressive CFIUS policies, large cross-border investment attempts by Chinese investors in the US market have almost dried up since 2019. As a result, there is no relevant data to report for 2019 and 2020. In addition to the United States, other western countries have tightened control over investment by Chinese companies in certain sensitive industries, which has resulted in the termination of certain acquisition attempts by Chinese companies. Germany enacted an amendment to the German Foreign Trade and Payments Ordinance (AWV) in July 2017, pursuant to which any acquisition of at least 25 per cent voting rights of German companies by a non-European Economic Area investor is subject to a foreign investment control approval by the German government. On 20 December 2018, Germany promulgated a new amendment to the AWV, lowering this threshold to 10 per cent for certain investments in 'critical infrastructure' or 'military-related products' industries. Notable examples of failed attempts by Chinese companies in Germany include an attempted takeover of the Westphalian mechanical engineering company Leifeld Metal Spinning on 1 August 2018 by Yantai Taihai, a leading participant in the Chinese nuclear sector.

III Year in review

i Recent deal activity

Going-private transactions

The trend of US-listed Chinese companies going private heated up to record levels in 2015 and 2016, retreated from these peak levels in 2017, cooled down further in 2018 and 2019, and revived in 2020. Based on statistics obtained through searches on Thomson ONE:

  1. during 2014, four US-listed going-private transactions were announced (with four withdrawn) and three were closed;
  2. during 2015, eight US-listed going-private transactions were announced (with seven withdrawn) and 18 were closed;
  3. during 2016, eight US-listed going-private transactions were announced (with five withdrawn) and six were closed;
  4. during 2017, three US-listed going-private transactions were announced and one was closed;
  5. during 2018, five US-listed going-private transactions were announced (with one withdrawn);
  6. during 2019, four US-listed going-private transactions were announced and none was closed; and
  7. during 2020, 13 US-listed going-private transactions were announced and six were closed.

The struggle by some Chinese companies against market research firms and short sellers such as Muddy Waters Research, Citron Research and Blue Orca Capital has often provided interesting perspectives on the environment faced by Chinese companies listed in the United States. These market research firms and short sellers have gained name recognition by issuing critical research reports targeting Chinese companies listed in the United States. The business model of such firms appears to involve issuing negative research reports on a public company while simultaneously taking a short position in the company's stock, which often enables these firms to make substantial profits even if their research and accusations are not ultimately proven correct. Notably, these firms have not limited their coverage to companies listed through reverse takeovers (RTOs),5 which are commonly considered to have lower profiles and to be more prone to disclosure issues than companies listed through a traditional IPO process.

Following the consequential coverage by Muddy Waters of Orient Paper Inc in 2010 and Sino-Forest Corp in 2011, the most notable case in 2012 arose when, on 18 July 2012, Muddy Waters published a scathing report on New Oriental Education & Technology Group Inc on its website, sinking the company's share price to US$9.50 by 35 per cent in one day. New Oriental is widely considered one of the more reputable and well-run Chinese companies listed in the United States, and it went public in a traditional IPO. The company's stock price subsequently recovered to US$13.90 one and a half months after the Muddy Waters report came out, suggesting the market's belief that the accusations were not justified. New Oriental's stock, at the time of writing, trades at US$188.00. On 14 November 2018, Blue Orca Capital issued a short-selling report, accusing Pinduoduo Inc, a social commerce company in China, of inflating revenues and falsely trimming losses. Blue Orca Capital predicted a 59 per cent drop in the company's stock price in its negative report, whereas Pinduoduo's stock price experienced a surge after the announcement of its quarterly result following Blue Orca Capital's report, suggesting that investors in the US market as a whole can act quite independently of such negative research reports and short-selling attempts. On the other hand, on 24 October 2013, Muddy Waters published an 81-page report labelling Beijing-based mobile provider NQ Mobile Inc a 'massive fraud', sending the company's share price tumbling more than 60 per cent in three days. NQ Mobile's share price experienced substantial recovery during the fourth quarter of 2013 and the first quarter of 2014 but lost more than 80 per cent in value amid continued attacks from Muddy Waters and traded below US$4 (or less than one-fifth of its 2013 high) for most of 2017. NQ Mobile Inc was eventually delisted from the New York Stock Exchange (NYSE) on 9 January 2019.

Regardless of the ultimate outcome, the fact that a single research report could inflict sudden and substantial damage of this nature on a company's reputation and stock price strongly suggests a widespread underlying lack of confidence in listed Chinese companies. The success of these research and short-selling firms could also be partially attributed to a lack of access to and understanding of the Chinese business environment and markets, which have afforded a few firms that have conducted on-the-ground research outsize influence in the market. Further, their critical coverage, which often involves allegations of disclosure issues or even fraud, has attracted regulatory attention and shareholder lawsuits and may have encouraged less-than-generous media coverage of Chinese companies in general. For instance, in 2013, the SEC publicised its investigations and charges against US-listed China MediaExpress and its chair and CEO for fraudulently misrepresenting the company's financial condition to investors in SEC filings dating back to November 2009, and against RINO International Corporation, a China-based manufacturer and servicer of equipment for China's steel industry, and its chair and CEO for a series of disclosure violations based on accounting improprieties, after (or shortly before) Muddy Waters initiated coverage and issued negative reports regarding these companies. The above factors, in turn, are believed to have contributed to suppressed valuations of US-listed Chinese companies in general.

Amid continued pressure from regulators, unfavourable media coverage, short-selling activities and shareholder lawsuits, the stock prices of many US-listed Chinese companies are perceived to be consistently depressed. Further, even Chinese companies relatively free of negative coverage have often felt that their business model and potential are not fully appreciated by the US market, and that they would be more favourably received by a market closer to China – for example, the Hong Kong Stock Exchange or the Chinese A-share market – where market research and media coverage are seen as being more positive and reflecting a proper appreciation of the business culture and environment in China, resulting in a better understanding of the specific business models and potential of the companies covered. At the same time, the booming domestic Chinese stock market (with an average price-to-earnings (P/E) ratio of 16.39 at the end 2020, 14.55 at the end 2019, 12.49 at the end of 2018, 18.08 at the end of 2017, 15.91 at the end of 2016 and 17.61 at the end of 2015 for A-share listed companies listed on the Shenzhen Stock Exchange, and an average P/E ratio of 34.51 at the end of 2020, 26.15 at the end of 2019, 20 at the end of 2018, 36.21 at the end of 2017, 41.62 at the end of 2016 and 53.34 at the end of 2015 for A-share listed companies listed on the Shenzhen Stock Exchange) often offered valuations several times over those offered in the United States.

The disparity in valuation levels and perceived receptiveness naturally presented a commercial case for management and other investors to privatise US-listed Chinese companies, with the hope of relisting them in other markets. One of the most significant going-private transactions to date was the proposed acquisition of Qihoo 360 Technology Co Ltd by a consortium consisting of its co-founder and chair, Mr Hongyi Zhou, its co-founder and president, Mr Xiangdong Qi, and certain other investors, in a transaction valuing the NYSE-listed company at approximately US$9.3 billion (not taking into account rollover shares to be cancelled for no consideration). This deal was closed in July 2016 and was the largest privatisation of a US-listed Chinese company (the second-largest being the take-private of Qunar Cayman Islands Ltd by Ocean Imagination LP, which was signed in 2016, valuing Qunar at US$4.59 billion).

While earlier going-private transactions involving US-listed Chinese companies tended to run more smoothly, some more recent transactions of this type went through more eventful processes, suggesting the challenges in completing such transactions have been increased by a more competitive dealmaking environment with a shrinking pool of desirable targets and a more seasoned shareholder base. For example, in the going-private transaction of NASDAQ-listed Yongye International Limited, the initial bid of the buyer consortium led by Morgan Stanley Private Equity Asia and the company's CEO failed to receive the requisite shareholders' approval, and the transaction was approved in a subsequent shareholder meeting only after the buyer consortium raised its bid by 6 per cent. In the going-private transaction of hospital operator Chindex International Inc, the initial offer of US$19.50 per share from the buyer consortium comprising Shanghai Fosun Pharmaceutical, TPG and the company's CEO was countered by a rival offer of US$23 per share received by the company in the 'go-shop' period, and the buyer consortium eventually had to raise its offer to US$24 a share to secure the transaction, raising the total price tag to US$461 million. A more recent case that has been drawing market attention is iKang Healthcare. While the iKang special committee was considering a going-private proposal submitted in August 2015 by a consortium led by Ligang Zhang, its founder, chair and CEO, and FountainVest, in November 2015 the iKang board received a competing proposal from a consortium led by one of iKang's main competitors, Meinian Onehealth Healthcare (Group) Co, Ltd, a Shenzhen-listed company. The founder-led consortium and the Meinian-led consortium then engaged in an intense publicity war, iKang's board adopted a poison pill and Meinian increased its offer price for the second time. In June 2016, after the board of directors of iKang received a competing go-private proposal from Yunfeng Capital (a private equity firm co-founded by Alibaba Group Holdings Ltd's Jack Ma and Focus Media Holdings' David Yu) to acquire the entire share capital in iKang, both the founder-led consortium and the Meinian-led consortium withdrew their going-private proposals. After 21 months' negotiation, a reorganised consortium led by Yunfeng Capital, Alibaba Group Holdings and BOYU Capital, Ligang Zhang and Boquan He, the vice president of iKang, managed to enter into a merger agreement on 26 March 2018, pursuant to which the reorganised consortium proposed an offer at US$41.20 per share (or US$20.60 per American depositary share of the company (ADS)), with a total value of approximately US$1.097 billion. This offer was approved by iKang's general shareholders' meeting on 20 August 2018, and the merger was closed and officially announced on 18 January 2019. In addition, recently, another going-private deal of China Biologic Products Holdings, Inc (Biologic), a leading blood plasma-based biopharmaceutical company, caused public attention. In September 2019, Biologic announced that it had received a take-private proposal for US$4.59 billion in cash from a consortium of buyers (including Beachhead Holdings Limited, CITIC Capital China Partners IV, LP, PW Medtech Group Limited, Parfield International Ltd, HH Sum-XXII Holdings Limited and V-Sciences Investments Pte Ltd). On 19 November 2020, Biologic announced that it has entered into a merger agreement, pursuant to which the buyer consortium proposed an offer at US$120.00 per share, with a total value of approximately US$4.76 billion. The merger is currently expected to close during the first half of 2021. The merger will result in Biologic becoming a privately held company and its shares will no longer be listed on the NASDAQ Global Selected Market.

The going-private trend was not limited to entities resulting from an RTO. While companies listed through RTOs may be easier targets of short sellers, companies that listed in the United States through a conventional offering may be more appealing targets for private equity investors given that these companies are often perceived to be of higher quality and less likely to have accounting or securities law compliance issues, and thus are more likely to grab a higher valuation later on, whether in an IPO in a market closer to China or a trade sale. Indeed, all of the examples discussed above involved companies listed through a traditional IPO.

A majority of US-listed China-based companies involved in going-private transactions in recent years are incorporated in the Cayman Islands. Five out of seven US-listed China-based companies that announced receipt of a going-private proposal in 2020 were Cayman Island companies that accessed the public markets through a conventional IPO, compared with two Cayman Islands company out of four US-listed China-based companies in deals announced in 2019, one Cayman Islands company out of five US-listed China-based companies in deals announced in 2018, one Cayman Islands company out of three US-listed China-based companies in deals announced in 2017, six Cayman Islands companies out of eight US-listed China-based companies in deals announced in 2016, seven Cayman Islands or British Virgin Islands companies out of eight US-listed China-based companies in deals announced in 2015, and four Cayman Islands or British Virgin Islands companies out of four China-based companies in deals announced in 2014. This was driven in part by the introduction of new merger legislation in the Cayman Islands in April 2011, which made statutory merger under the Cayman Islands Companies Law an attractive route to effect a going-private transaction. The merger process typically requires the buyer group to form a new Cayman Islands company that will merge with, and be subsumed by, the listed Cayman target. Under the 2011 amendments to the Cayman Islands Companies Law, the shareholder approval threshold for a statutory merger was reduced from 75 per cent to a two-thirds majority of the votes cast on the resolution by the shareholders present and entitled to vote at a quorate meeting, in the absence of any higher threshold in the articles of association of the target company. In addition, a merger under the Cayman Islands Companies Law is not subject to the 'headcount' test required in a scheme of arrangement, the primary route for business combination under the Cayman Islands Companies Law before merger legislation was introduced in the Cayman Islands. The headcount test requires the affirmative vote of 'a majority in number' of members voting on the scheme, regardless of the amount or voting power of the shares held by the majority, which means that a group of shareholders holding a small fraction of the target's shares could block a transaction. The lower approval threshold makes mergers an attractive option when compared with either a 'squeeze-out' following a takeover offer, which would require the buyer to obtain support from 90 per cent of the shares, or a scheme of arrangement, which would involve substantial closing uncertainty on account of the headcount test, as well as added time and costs arising from the court-driven process.

Most of the going-private transactions that closed in 2018 and 2017 took between two and five months from the signing of definitive agreements to closing (the rest took five months or longer) and were structured as a one-step, negotiated merger (as opposed to a two-step transaction consisting of a first-step tender offer followed by a second-step squeeze-out merger, which is another common approach to acquire a US public company). In a one-step merger, a company incorporated in a US state will be subject to the US proxy rules, which require the company to file a proxy statement with the SEC and, once the proxy statement is cleared by the SEC, to mail the definitive proxy statement to the shareholders and set a date for its shareholders' meeting. Transactions involving affiliates (e.g., management) are further subject to Rule 13e-3 of the Securities and Exchange Act and are commonly referred to as '13e-3 transactions'. A 13e-3 transaction requires the parties to the transaction to make additional disclosures to the public shareholders, including as to the buyer's position on the fairness of the transaction. An important related impact is that, whereas the SEC reviews only a fraction of all proxy statements, it routinely reviews disclosure in 13e-3 transactions, which can lengthen the transaction process by several months. Further, companies incorporated outside the United States and listed on US stock exchanges (including recent going-private targets that often are incorporated in the Cayman Islands or the British Virgin Islands) are known as foreign private issuers (FPIs). While FPIs are not subject to the proxy rules, they are subject to 13e-3 disclosure obligations, and if they are engaged in a 13e-3 transaction, they would be required to include as an exhibit to their 13e-3 filings information that is typically very similar to a proxy statement prepared by a US domestic issuer. Accordingly, both a transaction involving a US domestic company and a 13e-3 transaction involving an FPI follow a comparable timetable for purposes of SEC review.

The recent tightening of control on capital flows out of China, including regulations restricting Chinese onshore funds from participating in the going-private of offshore-listed China-based companies may also create hurdles for going-private transactions of offshore-listed China based companies as these transactions typically involve buyer parties or financing, or both, from China. It remains to be seen how long the tightened control on outbound capital flow will last and its exact impact on going-private transactions involving Chinese companies.

Another key recent trend in going-private transactions of US-listed Chinese companies that are incorporated in Cayman is the rise of dissenting shareholders in such deals. Many of the US-listed and Cayman-incorporated Chinese companies that have recently gone private are facing dissenting shareholder litigations under Section 238 of the Companies Law of the Cayman Islands by investors who claim that their shares are worth more than the offer price. Often, the buyer groups are accused of forcing through low-ball offers by virtue of their significant voting rights. Low-ball offers are possible partially because Cayman Islands law allows buyer groups to vote their shares, including super voting shares, together with the other shareholders, towards the two-thirds in voting power represented by shares present and voting at the shareholders' meeting required for approval of the merger. For example, the buyer groups in the take-private of Mindray and Shanda Games held 63.1 and 90.7 per cent, respectively, in voting rights in the relevant target companies. Some private equity shareholders in going-private transactions have publicly complained or made Schedule 13D filings with the SEC about low-ball offers from Chinese buyout groups.

In January 2017, the Cayman Islands Grand Court delivered its interlocutory judgment regarding the Blackwell Partners LLC v. Qihoo case, in which it decided that interim payments could be requested by dissenting shareholders and granted by the court during the judicial proceedings for the merger transactions initiated under Section 238 of the Companies Law of the Cayman Islands. In April 2017, the Cayman Islands Grand Court delivered its ruling in the Shanda Games case, in which it found that the fair value of the shares owned by the dissenting shareholders (which were all funds managed by Hong Kong-based fund manager Maso Capital) was more than double the consideration offered in the take-private scheme. These decisions, in hindsight, are perceived to be instrumental in shaping the dissenting shareholder landscape in the Cayman Islands. The Shanda Games case was the second Cayman court decision on fair value in a merger, and the first one that required the Cayman court to determine the value of a company with assets and business operations in China. While the Shanda Games decision further propped up expectations of dissenting shareholders of a court-determined fair value that is substantially higher than the price offered by the buyer group, the Qihoo decision (together with a few other similar decisions) perhaps dealt the more decisive blow by enabling the dissenting shareholders to recover interim payments (which are often equal to the price offering in the take-private) relatively soon after initiation of litigation, significantly reducing the cost of funds for dissenting shareholders.

Currently, several similar additional cases are pending in the Cayman Islands courts, and it remains to be seen whether future Cayman court decisions will balance market expectations and discourage speculative dissenters. One of the cases demonstrating these balancing efforts is the decision of the Cayman Islands Grand Court in the going-private transaction of eHi Car Services Ltd (eHi), the provider of passenger car rental services in China. In June 2018, the Cayman Islands Grand Court decided that the dissenting minority shareholder of eHi could not pursue a winding-up petition intended to delay, or to gain leverage for, a competing merger bid for the privatisation of eHi. To compete against a proposal at US$13.35 per ADS offered by a consortium led by Baring Private Equity Asia Limited and Ruiping Zhang, the chairman of eHi group, Ctrip Investment Holding Ltd, a dissenting minority shareholder of eHi, submitted a counter proposal at US$14.50 per ADS. This proposal, although at a higher offer price, was not recommended by the special committee to the board of directors of eHi because it was considered to be a last-minute increase from the price offered in the proposal submitted by Baring and the chairman. Ctrip Investment Holding Ltd then presented a winding-up petition together with an immediate injunction to the Cayman Islands Grand Court. The court struck out the winding-up petition in its entirety on the ground of abusive use of the winding-up jurisdiction by the dissenting shareholder. Although a reorganised consortium led by Ctrip Investment Holding Ltd and Ocean Imagination LP eventually won the competing bid with a revised proposal at US$15.50 per ADS in May 2018, the Cayman Islands Grand Court's decision in this case now stands as an exemplary case for the principle that a winding-up petition may not be abusively used by dissenting shareholders to avoid a going-private transaction.

Other notable transactions

Consolidations in the vying internet and technology industries in China have been soaring and hitting headlines for several consecutive years. In February 2015, Didi Dache and Kuaidi Dache, two of China's leading ride-hailing apps, announced their US$6 billion stock-for-stock merger, which was closed weeks thereafter, creating Didi Kuaidi (later rebranded as Didi Chuxing), one of the world's largest smartphone-based transport service providers. In August 2016, Didi Chuxing announced its acquisition of Uber China (Uber's China business), which was valued at around US$8 billion, and after the transaction, Didi Chuxing was estimated to be worth around US$35 billion. Uber obtained a 17.7 per cent stake in Didi Chuxing and became the largest shareholder of Didi Chuxing, with other existing investors in Uber China, including Chinese search giant Baidu Inc, taking another 2.3 per cent stake in Didi Chuxing. In April 2015, NYSE-listed purchased a 43.2 per cent fully diluted equity stake in for US$1.56 billion, initiating the long-term strategic combination of these two major online classified providers in China. In October 2015, two major online-to-offline (O2O) service providers in China, the group-buying service and restaurant review platform Dianping Holdings, announced a merger to create a US$15 billion giant player in China's O2O market covering restaurant review, film booking and group buying businesses. In late October 2015, China's largest online tourism platform, Ctrip, announced the completion of a share exchange with Baidu, Inc through which it gained control of its rival Qunar. The transaction formed a dominant player in the online trip booking market in China valued at US$15.6 billion. In January 2016,, a Chinese fashion retailer backed by Tencent Holdings Ltd announced its merger with its chief rival,, to form the biggest fashion-focused e-commerce service provider in China with a valuation of nearly US$3 billion. In September 2017, the merger of two major online film-ticketing platforms was announced between Maoyan (majority-owned by Chinese television and film company Enlight Media) and Weying (backed by Tencent). Following the merger, the combined Maoyan-Weying entity will control 43 per cent of China's online ticketing market, according to Enlight Media's announcement. In April 2018,, a leading online food order and local delivery services platform in China, announced the completion of its merger into Alibaba Group Holdings Limited (Alibaba), with a valuation of US$9.5 billion. Following the merger, has become a part of the Alibaba ecosystem by complementing Alibaba's current local services platform, Koubei, and providing extended synergies to Alibaba's new retail business sector in the long run. In September 2019,, a leading cross-border e-commerce platform in China, announced the completion of its merger into Alibaba, with a valuation of US$2 billion. was one of the biggest competitors of (the core cross-border e-commerce platform of Alibaba) in the field of cross-border e-commerce business in China. Upon the merger, retains its trade name and independent operations, while the management team of took charge of the corporate governance of On 14 April 2020, Jumei International Holding Ltd (Jumei), a leading fashion and lifestyle solutions provider in China, announced the completion of its merger with Jumei Investment Holding Ltd, a unit of Super ROI Global Holding Ltd, with a valuation of US$126.51 million. Following the merger, Jumei will have greater flexibility to focus on long-term business goals, including pursuing strategic truncations and acquisitions, without the constraint of the public markets emphasis on quarterly earnings. On 28 September 2020, SINA Corporation (SINA), a leading online media company serving China and the global Chinese communities, announced that it has entered into a merger agreement, pursuant to which New Wave MMXV Ltd agreed to acquire the remaining 87.878 per cent interest in SINA for a total US$2.59 billion in a leveraged buyout transaction, via an unsolicited management buyout offer. The merger is currently expected to close during the first quarter of 2021. On 17 August 2020, Yintech Investment Holdings Limited (Yintech), a leading provider of investment and trading services for individual investors in China, announced that it has entered into a merger agreement, implying an equity value of Yintech of approximately US$540.2 million. On 19 November 2020, Yintech announced the completion of its merger with Yinke Merger Co Ltd.

In addition to the iconic mergers described above, the headline private equity investments in 2018 primarily focused on China's technology industries. In April 2018, Pinduoduo Inc, the leading 'new-ecommerce' platform, which features a team purchase model, announced the completion of its pre-IPO financing at a valuation of US$15 billion with Sequoia Capital and Tencent Holdings. In June 2018, Ant Financial Services Group, the leading online payment service provider and the financial arm of the Alibaba Group, announced the completion of its US$14 billion Series C financing (with a valuation of US$150 billion) from a series of private equity and sovereign funds, including Baillie Gifford & Co, BlackRock Private Equity Partners, Canada Pension Plan Investment Board, The Carlyle Group, General Atlantic LLC, GIC Special Investments, Janchor Partners, Khazanah Nasional Bhd, Sequoia Capital, Silver Lake Partners, T Rowe Price, Temasek Holdings and Warburg Pincus. In October 2018, ByteDance/Toutiao, the leading internet content platform in China, announced the completion of its pre-IPO financing at a valuation of US$75 billion from leading global private equity funds, including General Atlantic, KKR, Primavera and SoftBank. In 2019, the highlights of private equity investments still targeted China's information technology industries. In February 2019, Chehaoduo Group (, the leading e-commerce platform for used vehicles in China, announced the completion of its pre-IPO financing at a valuation of US$1.5 billion with SoftBank Investment Advisers. In November 2019, Cainiao Network Technology, one of the leading internet-based logistic service providers in China, announced the completion of its US$3.3 billion Series B financing pursuant to which Alibaba became the largest and controlling shareholder of the company. In December 2019,, the leading short video content provider and social platform in China, announced the completion of its pre-IPO financing at a valuation of US$3 billion from a series of private equity investors, including Boyu Capital, Sequoia Capital, Yunfeng Capital, Tencent and Temasek Holdings. On 18 September 2020, Inc., China's largest online classifieds marketplace, announced the completion of its merger (representing a deal size of US$8.39 billion) with Quantum Bloom Group Ltd. where; General Atlantic; Ocean Link; Warburg Pincus will collectively hold 85 per cent of the company upon the completion.

Another noteworthy trend in recent years has been private equity investors' participation in the mixed ownership reform of China's SOEs, where Chinese SOEs introduce private investors as minority shareholders. The highlight of this trend was the US$2.4 billion acquisition in 2014 of a 21 per cent equity interest in China Huarong Asset Management Co, Ltd, one of the largest asset management companies in China that was listed on the Hong Kong Stock Exchange in 2015 by a consortium of investors including China Life Insurance (Group) Company, Warburg Pincus, CITIC Securities International Company Limited, Khazanah Nasional Berhad, China International Capital Corporation Limited, China National Cereals, Oils and Foodstuffs Corporation, Fosun International Ltd and Goldman Sachs. Warburg Pincus was reported to have bought the largest portion of a 21 per cent stake for close to US$700 million. In August 2017, Wealth Capital, a Beijing-based private equity firm, set up a 5 billion yuan investment fund in Beijing targeting SOEs undergoing mixed ownership reform, in which the state-backed China Structural Reform Fund (a 350 billion yuan SOE restructuring fund backed by investors including China Chengtong Holdings Group, China Merchants Group and China Mobile) has invested and Wealth Capital acts as the fund manager, which is just one of many similar SOE reform-targeted funds that are being set up by state-owned capital and private equity funds across China.

ii Financing

Third-party debt financing continues to be available for acquisitions of Chinese companies by private equity investors. One key challenge, however, is that a Chinese target does not generally have the ability to give credit support (by way of guarantee or security over its assets) to a lender of offshore acquisition debt financing. Further, with a view to deleveraging and strengthening the economy, the Chinese authorities imposed various new foreign debt controls in 2018, which will impact the availability of security and financing to be provided by Chinese entities and financial institutions. For instance, insurance companies have been restricted from providing outbound guarantees for offshore debt; domestic Chinese companies raising foreign debt have been subject to higher governance standards; local government entities have been prohibited from providing outbound guarantees for offshore borrowing and real estate companies have been restricted from using foreign debt in relation to real estate projects. The covid-19 pandemic made the fundraising even worse. In the first quarter of 2020, the amount and number of funds raised showed a year-on-year percentage (YoY) decrease; Large-scale fundraising was impeded, the raising period was lengthened, and previous funds were postponed to the current period to complete raising. The fundraising amount decreased by 19.8 per cent YoY in the first quarter, and increased by 8.5 per cent in the second quarter, but it still showed a drop of 36.5 per cent YoY. The fundraising difficulty has not alleviated.

Many of the going-private transactions of US-listed Chinese companies involved debt financing, with the terms of the financings reflecting various commercial and structural challenges. The acquisition debt is typically borrowed by an offshore acquisition vehicle with the borrower giving security over its assets (including shares in its offshore subsidiaries, including the target) to secure repayment of the debt. As was the case in 2011 and 2012, the typical lender in these transactions spanned a wide range of financial institutions, from international investment banks to Chinese policy banks and offshore arms of other Chinese banks.

The Focus Media financing remains the standout transaction among debt-financed going-private transactions, due mainly to the size (US$1.52 billion) and complexity of the debt-financing facility, and the large consortium of both major international banks (Bank of America Merrill Lynch, Citibank, Credit Suisse, DBS Bank, Deutsche Bank and UBS) and offshore arms of Chinese banks (China Development Bank, China Minsheng and ICBC) that provided the financing. The 7 Days Inn financing was another notable debt-financed going-private transaction that was largely financed by a syndicate of Asian banks (Cathay United Bank, China Development Industrial Bank, CTBC Bank, Entie Commercial Bank, Nomura, Ta Chong, Taipei Fubon Commercial Bank, the Bank of East Asia and Yuanta Commercial Bank). The debt financing for the Giant Interactive take-private was also underwritten and arranged by a large syndicate of banks, including China Minsheng Banking Corp, BNP Paribas, Credit Suisse, Deutsche Bank, Goldman Sachs, ICBC International and JP Morgan, in an aggregate amount of US$850 million. It can perhaps be considered a positive signal for any future going-private transactions that such a large number of financiers were comfortable to commit to funding this type of event-driven financing.

One notable development since 2015 is reflected in the going-private of Qihoo. Rather than obtaining the debt financing in US dollars offshore, the entire financing of a yuan equivalent of approximately US$3.4 billion was provided by one Chinese bank (China Merchants Bank (CMB)) onshore in yuan, with the buyer group having obtained the required Chinese regulatory approvals to convert the yuan funded by CMB into US dollars for payment of consideration to Qihoo's shareholders offshore. It remains to be seen whether this relatively novel deal structure will gain popularity, as both Chinese regulatory authorities and financial institutions gain more familiarity with this type of take-private transaction involving US-listed and China-based companies. The tightened control over outbound capital flow since late 2016 discussed above may deter the wide usage of this type of financing structure.

Another emerging trend in these offshore financing structures is that borrowers are seeking to access liquidity from the offshore debt markets in respect of what are essentially acquisitions of Chinese-based businesses – including as a means to take out bridge financing originating outside Asia.

iii Key terms of recent control transactions

Deal terms in going-private transactions

Most Chinese going-private transactions have involved all-cash consideration. Among the US-listed going-private transactions that closed during 2017, the per-share acquisition price represented an average premium of 17.5 per cent over the trading price on the day before announcement of receipt of the going-private proposal, according to statistics obtained through searches on Thomson ONE.

In a 13e-3 transaction (the going-private of a US-listed company involving company affiliates), the board of directors of the target typically appoints a special committee of independent directors to evaluate and negotiate the transaction and make a recommendation to the board. If the target is incorporated in the United States, the transaction almost inevitably will be subject to shareholders' lawsuits, including for claims of breaches of fiduciary duties, naming the target's directors as defendants. Because the target's independent directors often include US residents, a key driver of a transaction's terms is the concern for mitigating shareholders' litigation risk. Although no litigation claims for breach of fiduciary duties in a Chinese going-private transaction involving Cayman Islands or British Virgin Islands companies were reported to the public in 2017, it remains possible that, as the going-private trend persists, plaintiffs' firms will begin to articulate creative arguments in Cayman mergers and the Cayman courts may look to the body of Delaware law as persuasive precedent for adjudicating claims of breach of fiduciary duties. As a result, whether a going-private transaction involves a US or Cayman-incorporated target, targets typically insist that certain key merger agreement terms (in addition to the deal process) be within the realm of what constitutes the 'market' for similar transactions in the United States.

An important negotiated term in many going-private transactions is the required threshold for shareholder approval. Delaware law requires that a merger be approved by shareholders owning a majority of the shares outstanding. However, special committees often insist on a higher approval threshold, because under Delaware law the burden of proving that a going-private transaction is 'entirely fair' to the unaffiliated shareholders often shifts from the target directors to the complaining shareholders if the transaction is approved by a majority of the shareholders unaffiliated with the buyer group (i.e., a 'majority of the minority'). In US shareholder litigations, this burden shift is often seen as outcome-determinative. Under Cayman law, there is no well-defined benefit for the company to insist on a higher approval threshold than the statutory requirement of two-thirds of the voting power of the target present at the shareholders' meeting.

Another key negotiation point is whether the target would benefit from a go-shop period, which is a period following the signing of a transaction agreement during which the target can actively solicit competing bids from third parties. When defending against a claim of breach of fiduciary duty in Delaware, a company and its directors may point to a go-shop period in a merger agreement as a potentially helpful fact. Under Cayman law, however, there is not as much well-defined benefit for the company to insist on a go-shop period if the buyer consortium already has sufficient voting power to veto any other competing merger proposal.

Deal terms in growth equity investments

Deal terms are more difficult to evaluate and synthesise in private transactions, where terms are not publicly disclosed. Generally, in the context of a growth equity investment (which, as we have seen, remains the dominant type of deal both by number of deals and by aggregate amount invested), private equity investors often continue to expect aggressively pro-buyer terms. This expectation applies whether a transaction involves an onshore Sino-foreign joint venture or an investment offshore alongside a Chinese partner. In a subscription agreement for a growth equity deal, an investor typically benefits from extensive representations and warranties against which the company makes only limited disclosures; in some cases, an investor has knowledge that some representations may not be accurate, but still insists on a representation to facilitate a potential indemnification claim later. It is not uncommon for an investor to also enjoy an indemnity provision with a cap on the amount of losses subject to indemnification as high as the purchase price (or no cap at all), but with no deductible or threshold and with an unlimited survival period. Shareholders' agreements often contain similarly pro-investor terms, such as extensive veto rights (even in the case of a relatively small minority stake) and various types of affirmative covenants binding the company and its Chinese shareholders. If an investment is structured offshore (e.g., through a Cayman company that owns a Chinese subsidiary), a private equity investor may enjoy 'double-dip' economics pursuant to which, in the event of a liquidation or sale of the company, the investor is entitled to, first, a liquidation preference before any of the Chinese shareholders receive any proceeds and, second, the investor's pro rata share of the remaining proceeds based on the number of shares it owns on an as-converted basis. However, because there is no well-defined market when it comes to transaction terms in Chinese growth equity deals (unlike in going-private transactions), issuers also have opportunities to request, and sometimes obtain, terms that are very favourable to them. In growth equity deals in China, investors typically seek valuation adjustments or performance ratchet mechanisms, which can be structured as the adjustment to conversion prices of preferred shares that may be exchanged into a larger number of common shares at offshore level, or by compensation or redemption of equity interest in cash or transfer of equity interest to investors by the founders or original shareholders at onshore level without consideration or with nominal consideration, so as to achieve adjusted valuation of the target company following the failure to meet specified performance targets. In Chinese growth equity investments, the parties' leverage and degree of sophistication are more likely to dictate the terms that will apply to a transaction than any market practice or standard. In recent years, growth equity investments into high-growth technology companies have begun to contain less investor-friendly deal terms (e.g., new investors receiving pari passu liquidation preference with previous investors) as competition among private equity firms to make investments into this sector continues to heat up.

For a private equity investor with sufficient commercial leverage, the key challenge often lies not in convincing the investee company or its Chinese shareholders to agree to adequate contractual terms, but rather in getting comfort that an enforceable remedy will be available in the event that the Chinese counterparty reneges on its contractual obligations. One potential antidote to the difficult enforcement environment onshore is to seek a means of enforcement offshore. An investor can get comfort if it obtains, for example, a personal guarantee of the Chinese founder backed by assets outside China, governed by New York or Hong Kong law and providing for arbitration in Hong Kong as a dispute resolution venue. Such a guarantee, however, is rarely available (because the Chinese founder may not have assets outside China), and even when potentially available, is often unacceptable to the founder. A more realistic alternative is for a private equity investor to seek the right to appoint a trusted nominee in a chief financial officer or similar position (who could monitor an investee company's financial dealings and compliance with its covenants to its shareholders). An investor may also seek co-signatory rights over the target company's bank account, in which case an independent third party (the bank) will ensure that funds are not released other than for purposes agreed to by the investor.

iv Timetable

Among the US-listed going-private transactions that closed during 2017 and 2018, the parties took an average of five months from the announcement of the going-private proposal to reach definitive agreement, and a further three months on average from signing the definitive agreement to close the transaction. In 2020, we observed that the overall timetable for the going-private transaction has been shortened to three-to-five months. Typically, the pre-signing timetable is less predictable and to a large extent driven by negotiation dynamics, the finalisation of the members of the buyer consortium, arrangement of financing and the parties' willingness to consummate the deal, which in turn is affected by market conditions, availability of equity and debt financing, and various other factors. On the other hand, the post-signing timetable is typically largely driven by the SEC review process and shareholders' meeting schedule, and as a result is relatively more predictable. That being said, the going-private of Shanda Games took more than seven months from the signing of the definitive agreement to closing, substantially longer than what is typically required of the SEC review and shareholder approval processes, because of, inter alia, changes in the composition of the buyer consortium after signing. The going-private of Qihoo and Xueda Education each also took more than seven months from the signing of the definitive agreement to closing, reportedly because of the procedures required to obtain outbound investment regulatory approvals, to complete the conversion of renminbi financing into US dollars offshore and to complete other governmental formalities relating to relevant Chinese onshore buyers. While these are more exceptions than the norm, these transactions do flag for market participants the significant time and resource commitments required of participants in a going-private transaction, and the ever-changing dynamics of market demand and within the buyer consortium (including the time to have all the necessary funds in place), all of which are factors that could affect the timetable to completion.

v Exits

At the forefront of the privatisation wave in the US and Chinese markets, Focus Media achieved a 45.7 billion yuan backdoor listing on the Shenzhen Stock Exchange in December 2015 through Hedy Holding Co Ltd after a reverse merger, which followed Focus Media's 2013 going-private and de-listing from the United States led by a consortium of private equity investors. This deal represented the first re-listing of a once-NASDAQ listed company on the A-share market, and has blazed a trail for US-listed Chinese companies seeking to go private and thereafter relist in Chinese domestic market. Giant Interactive achieved an 13.1 billion yuan backdoor listing on the Shenzhen Stock Exchange in April 2016 through Chongqing New Century Cruise Co Ltd after a reverse merger, which followed Giant Interactive's 2014 going-private and de-listing from the US led by a consortium consisting of Giant Interactive's chair Shi Yuzhu and private equity investors, including Baring Private Equity Asia, Hony Capital and CDH Investments, making Giant Interactive the first once-US listed Chinese online game company getting relisted on the A-share market. Qihoo, after its largest going-private of a US-listed Chinese company to date, has received the Chinese securities regulatory authority's approval for a relisting in China under the new name of Technology 360 through back-door listing via Shanghai-listed Jiang Nan Jia Jie.

As US listings of Chinese companies picked up in 2016, the Shanghai-based logistics company ZTO Express, backed by Sequoia Capital as an early stage investor and Warburg Pincus, Hillhouse Capital Group, Gopher Asset and Standard Chartered Private Equity, who invested in the Series A financing of the company in 2015, raised US$1.4 billion in its listing on the NYSE in October 2016, making it the largest IPO by a Chinese company in the United States in 2016, and, after Alibaba, the second-largest in history for US IPOs of Chinese companies.

Another noteworthy IPO was the IPO of Beijing Baofeng Technology Co, Ltd on the Shenzhen Stock Exchange in 2015, which became the first-ever listing of a Chinese internet company on China's A-share market after phasing out its VIE structure, trailblazing a trend of Chinese technology companies tearing down VIE structures and seeking to be listed on Chinese or Hong Kong stock exchanges.

In the first quarter of 2020, because of the delay in the transaction progress as a result of the outbreak of the covid-19 pandemic, the number of exists failed to continue the growth in 2019, down 6.9 per cent YoY. Shanghai Stock Exchange STAR Market has been running well for one year, driving the number of IPOs of invested enterprises in the first quarter. IPO exits accounted for more than 70 per cent of the total exits. The number of M&A/backdoor transactions has decreased by more than 30 per cent compared with the same period of last year. Rare investment firms were adopting short-term arbitrage strategies. The return and internal rate of return (IRR) of value investors with longer investment horizon are generally higher.

IV Regulatory developments

i Promulgation of the FIL and its implementation rules

The FIL, as the new fundamental piece of legislation for the foreign investment legal system, became effective on 1 January 2020. In the past, the laws relating to foreign investment in China, including the Law on Wholly Foreign-Owned Enterprises (which applies to WFOEs), the Law on Sino-Foreign Equity Joint Ventures (which applies to EJVs), the Law on Sino-Foreign Cooperative Joint Ventures (which applies to CJVs) (collectively, the Old FIE Laws), various regulations and foreign investment administrative systems under the Old FIE Laws had been constantly updated and adjusted to adapt to the new challenges of the times. With the new FIL becoming effective, the Old FIE Laws and the old administrative systems thereunder were officially repealed simultaneously. It is also conceivable that the implementation of the FIL, the FIL Implementation Regulation and other new rules and regulations will lead to large-scale adjustments and clean-up improvements of various regulations based on decades-old regulatory approaches.

The FIL provides the fundamental rules for the promotion, protection and administration of foreign investment. It clearly stipulates the principle that domestic and foreign investment will receive equal treatment (e.g., at the investment access stage, the treatment of foreign investors and their investments are not to be less favourable than those of domestic investors and their investments). The foreign investment is subject to pre-access national treatment and a negative list managment system. The negative list approach is not new to the public as it was first introduced in China (Shanghai) Pilot Free Trade Zone (FTZ) in 2013; however, the FIL, which pre-empts local regulations, has established the negative list approach as a nationwide regime for all foreign investments in China.

In fact, the FIL has emphasised the promotion and protection of investment in special chapters, and among these chapters, the protection of intellectual property rights, the prohibition of compulsory technology transfers and the equal participation of foreign-invested enterprises in government procurement and in a standard setting are deemed as positive responses to recent public demands.

Another drastic change is that, under the FIL, FIEs in China are no longer categorised as WFOEs, EJVs and CJVs, and are instead equally subject to the provisions of the Companies Law, the Partnership Enterprise Law of PRC and other laws that are mainly applicable to domestic entities. Domestic enterprises and FIEs are established and operated in accordance with the unified rules. FIEs' corporate governance structures, shareholder or board meeting and voting procedures, equity transfers and profit distribution will be fully compatible with those of domestic enterprises. As such, the parties involved with or related to the foreign-invested enterprises may design and implement various arrangements and practices more flexibly. In the past, some Old FIE Laws contained certain corporate governance rules applicable to FIEs that were different to those set out under the Companies Law. FIEs that have corporate governance structures designed pursuant to Old FIE Laws need to convert their governance structures and amend their articles of association accordingly. The FIL allows such FIEs to keep their existing governance structure for a five-year transitional period, but they are required to complete the change to comply with the FIL by 1 January 2025. If FIEs fail to make the change within the transitional period, SAMR will not process other registration matters for these companies.

On 12 December 2019, China's State Council adopted the FIL Implementation Regulation, which took effect on 1 January 2020 together with the FIL. The FIL Implementation Regulation provides additional details and clarity on several general provisions and principles set out in the FIL. The FIL Implementation Regulation re-emphasises the national treatment principle for FIEs in several important areas, sets out FIEs' rights to participate in rule-making, standards formulation and government procurement, and also provides further details regarding expropriation of foreign investors' investments, protection of intellectual property, the new nationwide negative list system for administration of the establishment of and changes to FIEs, information reporting, and the transitioning of existing FIEs.

On 26 December 2019, the Supreme People's Court of PRC issued the Interpretation on Certain Issues Regarding the Application of the Foreign Investment Law (Interpretation), which also took effect on 1 January 2020. The Interpretation provides guidance on questions relating to the effectiveness and enforceability of foreign investment-related agreements, such as shareholder agreements, share transfer agreements and project contracts that may arise under the new negative list system. According to the Interpretation, with respect to agreements for investments in sectors that are not restricted under the negative list, Chinese courts should reject claims that an agreement is void or invalid if the parties have not completed relevant registration and approval procedures. However, with respect to agreements for investments in sectors that are prohibited by the negative list and agreements that violate the restrictions set out in the negative list, Chinese courts should uphold claims that the agreement is invalid.

On 1 January 2020, two separate notices issued by MOFCOM took effect and repealed various regulations, notices and other ministerial documents that had governed FIEs and their administration. However, with the abolition of the Old FIE Laws, a large number of regulations and rules have also been abolished or amended. The FIL Implementation Regulation stipulates that the FIL and the FIL Implementation Regulation shall prevail in the case of any discrepancy between them and any other regulations or rules (related to foreign investment regulation) that were effective prior to 1 January 2020. While this establishes the principle for resolving potential discrepancies, there may still be problems in practice without proper housekeeping of existing foreign investment regulations and rules. For the time being, relevant authorities such as MOFCOM, NDRC and the Ministry of Justice are all in the process of cleaning up existing regulations and rules. We expect the housekeeping of the implementation rules of the Old FIE Laws and other relevant regulations and rules to be completed and disclosed to the public relatively soon.

Some questions left unanswered by the FIL and the new FIL Implementation Regulation still exist and further clarification and improvement by the legislators and regulators are required.

ii Amendment to the Foreign Investment Catalogue

On 23 June 2020, NDRC and MOFCOM jointly issued the Foreign Investment Negative List (2020) (the 2020 Negative List), which took effect on 23 July 2020, and repealed, on the same date, the Foreign Investment Negative List (2019) (the 2019 Negative List). Prior to the issuance of the 2018 Negative List, foreign investment in China was subject to the Foreign Investment Catalogue (the latest edition was announced in 2017), which categorised industries as encouraged, permitted, restricted or prohibited for foreign investment. Similar to the 2019 Negative List, the 2020 Negative List only lists those industries subject to special management measures for foreign investment access, including 33 restricted and prohibited industries. Foreign investors in industries not listed in the Foreign Investment Negative List will be treated equally with Chinese investors in terms of market access. The 2020 Negative List reduces the number of industries restricted and prohibited for foreign investments from 40 (in the 2019 Negative List) to 33, further loosening restrictions on market access. The following are the key changes in some of the sectors that were the subject of particular focus:

  1. in the agriculture sector, the restriction that the breeding of new wheat varieties and seed production must be controlled by Chinese parties has been loosened up to that Chinese share shall not be less than 34 per cent;
  2. in the manufacturing sector, the prohibition against foreign investors investing in radioactive mineral smelting, processing and nuclear fuel production has been eliminated; the restriction that Chinese share in the manufacture of commercial vehicle shall not be less than 50 per cent has been eliminated;
  3. in the infrastructural facilities sector, the restriction that the construction and operation of urban water supply and drainage pipe networks for a city with a population of more than 500,000 must be controlled by Chinese parties has been eliminated;
  4. in the transportation logistics sector, the probation against foreign investors investing in air traffic control has been eliminated; and
  5. in the financial sector, the restriction that foreign share in the securities company, securities investment fund management company, futures company and life insurance company shall not exceed 51 per cent has been eliminated.

Similar to the 2019 Negative List, the 2020 Negative List also sets out a road map and timetable for the further opening up of the automobile sector in the next few years. According to these provisions, foreign shareholding restrictions on the manufacturing of passenger vehicles will be lifted by 2022; and the current restriction on foreign investors establishing more than two joint ventures manufacturing the same category of whole-vehicle products will also be removed by 2022.

On 27 December 2020, NDRC and MOFCOM promulgated the Catalogue of Encouraged Industries, which came into effect on 27 January 2021, and consists of a list applicable to the entire country, and another list only applicable to China's central, western and north-eastern regions and Hainan province. Compared with the list of the encouraged industries in the Foreign Investment Catalogue (2017 Edition) and the Foreign Investment Catalogue of the Priority Industries in Central and Western China (2017 Edition), the number of industries in which foreign investment is encouraged has been expanded. More than 80 per cent of the new additions and revisions of the nationwide list fall within the manufacturing sector, which supports and encourages foreign investment into high-end manufacturing, intelligent manufacturing, green manufacturing and relevant areas. The list applicable to central, western and north-eastern regions and Hainan province is more focused on labour-intensive industries and advanced and applied science industries, as well as the construction of supplementary facilities, encouraging foreign-invested businesses to move to those regions.

iii FIE information reporting system

Prior to 1 January 2020, FIEs needed to submit information through two channels: (1) the MOFCOM foreign investment record-filing system; and (2) the SAMR company registration system and enterprise credit information disclosure database. With the implementation of the FIL, these two channels have been unified. The scope and content of information required to be submitted by FIEs are limited to those deemed necessary by law and regulations.

To lay the groundwork for the administration of FIE establishment and changes, MOFCOM and SAMR issued the Foreign Investor Information Reporting Measures (the Reporting Measures) on 30 December 2019, and MOFCOM issued the Notice Regarding Foreign Investor Information Reporting Related Matters (the Reporting Notice) on 31 December 2019, both of which took effect on 1 January 2020. Under the Reporting Measures and the Reporting Notice, MOFCOM's record-filing system has been replaced by an information reporting system that applies to FIEs, foreign invested partnerships, foreign enterprises engaging in operation and production in China, and representative offices of foreign enterprises covering information reporting with respect to the establishment of FIEs and their subsidiaries, changes to FIEs and their subsidiaries, and annual reporting. Further details regarding the new annual reporting system for FIEs are set out in the Notice on Completing Annual Reporting 'Multiple Reports in One' Reform Related Work issued by MOFCOM, SAMR and SAFE on 16 December 2019. Information already submitted to SAMR by FIEs will be shared with MOFCOM and does not need to be separately submitted again by FIEs or foreign investors in information reports.

iv Pilot FTZs and the negative list market entry system

On 30 August 2020, the State Council released overall plans for launching three new FTZs in the provinces of Beijing, Hunan and Anhui, bringing the total to 21. These are located in Shanghai (2013), Guangdong, Tianjin and Fujian (2014), Henan, Hubei, Liaoning, Shaanxi, Sichuan, Chongqing and Zhejiang (2017), Hainan (2018), Shandong, Jiangsu, Guangxi, Hebei, Yunnan and Heilongjiang (2019) and Beijing, Hunan and Anhui (2020).

On 19 October 2015, the State Council issued the Opinion on the Implementation of the Negative List Market Entry System for the first time. The Opinion reflects the negative list approach that was first applied in China (Shanghai) Pilot FTZ, and that was later introduced to other pilot FTZs. With the enforcement of the FIL, the negative list approach has been adopted as a nationwide policy. However, the negative list that applies to the FTZs contains fewer restrictions than the nationwide list (which only applies to areas other than the FTZs).

On 23 June 2020, NDRC and MOFCOM jointly issued Special Administrative Measures (Negative List) on Foreign Investment Access to the Pilot Free Trade Zone (2019) (the 2019 FTZ Negative List), which is the seventh version of the FTZ Negative List and which took effect from 23 July 2020. The 2019 FTZ Negative List, which applies to the 21 pilot FTZs, from Shanghai to Yunnan, contains 30 restricted and prohibited sectors, and further opens up certain sectors that are still restricted or prohibited under the Foreign Investment Negative List applying to the territories outside the FTZs. The 2020 FTZ Negative List is a foreign investment list that sets out the foreign investment entry requirements for listed sectors not subject to national treatment with domestic investment in FTZs. Compared with its 2019 counterpart, the 2020 FTZ Negative List further deleted seven restrictive measures in several industries. The 2020 FTZ Negative List is slightly shorter than the Foreign Investment Negative List, and it is expected that the FTZ Negative List will continue to be the benchmark for future amendments of the nationwide Foreign Investment Negative List. In addition to the relaxation of foreign investment restrictions in the Foreign Investment Negative List as outlined above, the 2020 FTZ Negative List further relaxes the foreign investment restrictions in the following sectors as follows: the prohibition against foreign investors from investing in the application of processing techniques of traditional medicine decoction pieces, such as steaming, frying, cauterising and calcining and the manufacturing of Chinese patent medicine products with a secret formula has been eliminated.

v Outbound direct investment regulatory regime

The Chinese government promotes what it considers to be a healthy and sustainable development of outbound investments. Genuine and lawful outbound direct investment (ODI) deals continue to be supported, but the authorities on various levels have tightened the scrutiny of their authenticity and compliance in recent years. While genuine and lawful ODI transactions continue to be generally viable, delays in the outbound remittance of funds have increased. In addition, the regulators are closely monitoring certain types of restricted ODI deals, as set out above, and have reminded Chinese companies to make 'prudent' decisions. Under both ODI approval and filing procedures (see above in relation to NDRC approval and filing with MOFCOM), investors are required to provide a substantial amount of documentation and information to various authorities, and in both procedures the authorities have a certain degree of discretion in deciding whether to grant an approval or accept a filing. Chinese companies and their business partners should also keep in mind that material changes in an existing outbound investment shall be reported and may trigger another round of review by Chinese authorities.

V Outlook

In light of increased scrutiny by regulators in both the United States and China, foreign private equity investors in China continue to increase their focus on rigorous pre-transaction anti-corruption due diligence, taking steps to ensure that any improper conduct has ceased prior to closing and implementing robust compliance policies after closing. In high-risk scenarios, such as transactions involving companies in which significant government interactions are necessary for their operations, the process can be complex and expensive.

Looking forward into 2021, we expect several key factors to impact the level of dealmaking activities for the year as compared to 2020. One key theme of the region going into 2021 is the extent to which the unpredictable trend of the political and economic uncertainties between the United States and China, combined with an increasingly tightened EU foreign investment-screening framework, will affect China's economic growth in the upcoming year. The continue magnitude of the impact that the covid-19 pandemic has had on China and globally is hard to predict, but the covid-19 situation will continue to create significant challenges to China's overall economic performance in 2021.

The regulatory landscape is also a key factor that may impact investment patterns. In terms of the foreign investment regulatory regime, the newly promulgated FIL and the corresponding foreign investor-friendly regulatory regime may attract more active foreign investments in the local market. On the other hand, foreign exchange control policy and availability will continue to play a significant role in leveraging the competitiveness of Chinese investors' participation in bidding for overseas assets, and will impact capital inflow and outflow. Separately, as China continues to broaden access to its market by foreign investors and improve the foreign investment environment, certain investors may find new opportunities in the reorganisation, consolidation and restructuring of SOEs, listed companies, financial institutions and top-notch start-up firms. However, other investors may shy away from dealmaking because of increased uncertainty in some traditional industries or over-leveraged sectors where the country's regulators may look to curb excessive capital inflow. Key industries such as information technology, healthcare, education and financial services are likely to become the driving forces from which significant transactions can be generated. Major technology companies such as Baidu, Alibaba, Tencent and Bytedance will continue to lead the way in industry, upgrading and consolidating given their active M&A appetite and the inherent need for sustainable growth. For certain industries or sectors in which national security, data protection or individual privacy is involved, the regulatory authorities may roll out new measures to ensure that appropriate protection mechanisms will be put into place. In other traditional sectors in which foreign investors' majority ownership is permitted for the first time, such as securities firms, life insurance companies and financial asset management companies, private equity investors could find new investment targets or collaborative opportunities for major transactions.

Following the buyout investment and going-private deals boom in 2020, 2021 is expected to be another strong year for IPO exits in China's domestic stock markets. In addition, there have been quite a number of going-private transactions involving Chinese companies listed in the Hong Kong Stock Exchange and the Singapore Exchange, and there could be increased market attention in 2021 on going-privates or takeovers of Chinese companies listed on these capital markets. Two remarkable transactions heading the trend of Hong Kong-listed companies going private were Blackstone's US$322.6 million takeover of property and construction group Tysan Holdings, which was launched in August 2013 and closed in January 2014, and Carlyle's take-private of Asia Satellite Telecommunications Holdings Ltd, in which Carlyle agreed to buy out General Electric's 74 per cent stake in the company for up to US$483 million, which was launched in December 2014 and closed in May 2015. In May 2016, Hong Kong-listed Wanda Commercial Properties' controlling shareholder, Dalian Wanda Group, on behalf of the joint offerors, including Pohua JT Private Equity Fund LP, Ping An of China Securities and Shanghai Sailing Boda Kegang Business Consulting LLP, made an offer valued at US$4.4 billion for the going-private of Wanda Commercial Properties, as the largest going-private offer in the history of the Hong Kong Stock Exchange. The deal was completed and Wanda Commercial Properties was delisted from the Hong Kong Stock Exchange in September 2016. A highlight of Chinese investors' take-private of a Singapore-listed company was the purchase of the Singapore-listed Global Logistic Properties (GLP), the largest warehouse operator in Asia, at US$11.6 billion, by a Chinese private equity consortium led by Chinese private equity firm Hopu Investment Management, Hillhouse Capital Group, Chinese property developer Vanke Group and the Bank of China Group Investment, supported by GLP chief executive Ming Mei: the deal was completed in early 2018. Market participants also continue to monitor court decisions in the Cayman Islands regarding dissenting shareholders, and how such decisions may further shape both the merger regime in that jurisdiction, where many Chinese companies listed overseas are incorporated, and the broader going-private market.


1 Julia Yu is a partner at Kirkland & Ellis International LLP. Xiaoxi Lin was a partner at the firm and is now at Linklaters LLP. The authors wish to give special thanks to Jiayi Wang and Chuqing Ren for their significant contributions to this chapter, and to other Kirkland & Ellis Asia colleagues: Pierre Arsenault, Daniel Dusek, David Patrick Eich, Chuan Li, Gary Li, Jesse Sheley, Rongjing Zhao, David Zhang, Tiana Zhang, Jodi Wu and Yue Qiu, for contributing to this chapter.

2 As at 22 January 2021.

3 AVCJ Research.

4 ibid.

5 In a typical RTO, a private company merges with a publicly traded company (often a shell having limited assets and operations at the time of the RTO), whereby the private company injects its assets into the public company and the shareholders of the private company become controlling shareholders of the public company. As a result of the merger, the (formerly) private company's business essentially becomes listed without that company having paid the cost or gone through the vigorous vetting process or fulfilled the burdensome disclosure requirements of an IPO.

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