Draft Regulations on Reporting of Concentration of Business Operators
 
June 12, 2008
 
Yingli Hao- Beijing
Richard H. "Dick" Lawrence- Beijing

On March 27, 2008, the Legislative Affairs Office of the State Council released for public comment in draft form the proposed Regulations on Reporting of Concentration of Business Operators (the “draft regulations”). The draft regulations are the first in an anticipated series of implementing regulations and guidelines that are expected to be issued over the coming months to implement China’s new Anti-Monopoly Law (AML) which goes into effect on August 1, 2008. The potential impact of the AML has been the subject of much analysis and speculation by academics, legal practitioners, business persons and regulators both in and outside of China since the law was promulgated in August 2007. Microsoft’s recent bid to acquire Yahoo has further focused attention on the AML’s impact on merger activity outside of China. In this respect, the release of the draft regulations is particularly timely. The draft regulations provide guidance and clarification of the thresholds which would trigger reporting obligations of parties to merger and acquisition transactions which could lead to possible anti-monopoly review by the PRC regulators. They also set forth the procedures to be followed by parties whose transactions meet the reporting thresholds. As the Microsoft-Yahoo situation indicates, Chinese regulators have the power to conduct an anti-monopoly review of a merger transaction taking place outside of China if the regulators conclude that such merger has or could have the effect of eliminating or restricting competition in the relevant market in China.

This article will address certain provisions proposed in the draft regulations.

Definition of Control

Article 21 of the AML requires that parties to a “concentration of business operators” must report to the State Council’s as yet unidentified Antimonopoly Law Enforcement Authority if the proposed concentration reaches certain thresholds specified by the Enforcement Authority. The draft regulations define both what constitutes “control” for purposes of determining whether a transaction involves a “concentration of business operators” and sets forth the specific thresholds which will trigger the merger participants’ reporting obligations.

Article 20 of the AML defines a “concentration of business operators” to include the following situations:

• a merger of business operators
• a business operator obtaining control over other business operators by acquiring their shares or assets
• a business operator obtaining control of, or being able to exercise decisive influence on, other business operators by contract or other means

However, the AML fails to specify what the terms “control” or the “exercise of decisive influence” means. Article 2 of the draft regulations provides some clarification of the meaning of these terms. In situations involving the acquisition of shares or assets, the acquirer will be deemed to have “control” over the target company if it meets any of the following criteria:

• acquires more than 50 percent of the voting shares or assets of the target
• holds the largest portion of the voting shares or assets of the target
• owns the majority voting rights of the target
• may decide the appointment of more than half of members of the board of directors of the target
• other situations determined by the Enforcement Authority

Article 2 of the draft regulations also provides that the ability to “exercise decisive influence over other operators” means the ability to exercise decisive influence over other operators’ decision making relating to production or operation. This definition would appear to leave some room for further clarification in the future.

Reporting Thresholds

As noted, the AML provides that if a concentration of business operators satisfies thresholds specified by the Enforcement Authority, the business operators must report the proposed concentration to the Enforcement Authority in advance and may not complete the concentration if they have not submitted a report. Article 3 of the draft regulations sets forth the proposed report triggering thresholds as follows:

• in the last accounting year, the global revenue of all the parties to the proposed concentration exceeds RMB 9 billion (or approximately $1.286 billion at current exchange rates) and the revenue within China of at least two of the parties each exceeds RMB 300 million (or approximately $43 million)
• in the last accounting year, the revenue within China of all the parties to the proposed concentration exceeds RMB 1.7 billion (or approximately $243 million) and the revenue within China of at least two of the parties each exceeds RMB 300 million (or approximately $43 million)
• as a result of the concentration, a party to the concentration will achieve greater than a 25 percent share of the relevant market within China

The draft regulations repeat the AML provision that in any of the following circumstances, a concentration shall be exempt from reporting either of the following:

• among all the parties involved in the concentration, one party possesses more than 50 percent of the voting shares or assets of each other party
• a party that is not involved in the concentration possesses more than 50 percent of the voting shares or assets of each party that is involved in the concentration

In addition, the draft regulations authorize the Enforcement Authority to require parties to a proposed concentration to submit a report even if none of the above criteria is met, as long as the Enforcement Authority deems that the concentration may have the effect of eliminating or restricting competition. Thus, the draft regulations do not provide a clear safe harbor as even concentrations which do not meet the triggering thresholds are potentially subject to regulatory review by the Enforcement Authority.

The draft regulations indicate that further guidelines will be promulgated by the Enforcement Agency and other relevant departments of the State Council concerning the method of calculating revenue for purposes of the reporting thresholds. Such calculation methods shall take into consideration the characteristics and actual situation of different industries and sectors.

The draft regulations also contemplate that the Enforcement Authority may propose adjustments to the reporting thresholds to the State Council for its approval.

It is interesting to note how the triggering thresholds established by the draft regulations differ from similar thresholds contained in the Provisions on Foreign-Funded Mergers and Acquisitions of Domestic Enterprises (the “M&A regulations”) which currently apply to mergers and acquisitions involving foreign investors but whose status after the AML goes into effect are unclear. Article 53 of the M&A regulations contains an asset test (a party to a merger transaction has RMB 3 billion in assets in China) that is not present in the draft regulations. The M&A regulations also provide for a different revenue test (the turnover of one party to the transaction in China exceeds RMB 1.5 billion and contain both a pre-merger China market share test (a party has a 20 percent share) and a test relating to the number of invested enterprises owned by the investor in China (15) that are not present in the draft regulations. The reasons behind the different triggering thresholds in the M&A regulations and the draft regulations have not been reported. On balance, the triggering thresholds in the draft regulations would appear to be more liberal.

Certain Issues Relating to the Concentration Transaction Reporting Process

• The draft regulations specify which party should be responsible for reporting the concentration.

In the case of a merger transaction, the merger parties are required jointly to report the proposed merger to the Enforcement Authority.

In situations involving a business concentration by way of acquisition of shares or assets, the acquirer is responsible for submitting the report.

In situations where the business operator acquires control over other business operators or obtains the ability to exercise decisive influence over other operators, the party who acquires control or obtains the ability to exercise decisive influence is responsible for reporting the same to the Enforcement Authority.

• The draft regulations set out a pre-reporting mechanism which allows operators to consult with the Enforcement Authority and receive guidance from the Enforcement Authority concerning issues relating to the required report.
• The draft regulations require that all reporting documents and materials should be true and complete and that they should be in Chinese.
• After filing a report, if there is a significant change of material facts relating to the concentration transaction, the operator should notify the Enforcement Authority in a timely fashion.
• Confidentiality
• Documents and materials submitted for anti-monopoly review will be treated as confidential information if the operator believes that the disclosure of such would have a material adverse impact on the operator and if the operator requests that the Enforcement Authority treat such as confidential information. The Enforcement Authority will do so if it deems the request to be justified. The Enforcement Authority and its employees are required to keep confidential trade secrets and other information an operator expressly requests to be treated as confidential which the Enforcement Authority and its employees are aware of through pre-reporting consultation or that are contained in documents and materials submitted by the operator. The draft regulations require that the Enforcement Authority should formulate and follow strict internal confidentiality rules.
  
  One will need to see how these confidentiality provisions will work in practice as the distinction that the draft regulations apparently tries to draw between information whose disclosure would have a material adverse impact on the operator and trade secrets and “other information” of the operator is not apparent. It would appear from a literal reading of the draft regulations that an operator has the right to request, and the Enforcement Authority must treat as confidential, not only all trade secrets but also “other information.” If this is the case, the intended scope of the Enforcement Authority’s discretion to not accord confidential treatment to documents and materials whose disclosure may have a material adverse impact on the operator mentioned above is unclear as an operator could simply require such “other information” to be treated as confidential as of right.
  • Expedited preliminary review

The draft regulations require that the Enforcement Authority will establish an expedited preliminary review process so that the Enforcement Agency may expeditiously decide not to conduct further review for concentrations that obviously will not eliminate or restrict competition. However, the draft regulations do not provide further guidance or details as to the how the expedited preliminary review process will work.

The deadline for submitting comments on the draft regulations was April 12, 2008, providing a relatively short period of time for interested parties to provide comments. We will report on further developments.

For more information, email Richard H. Lawrence III or Yingli Hao at richard.lawrence@hklaw.com or yingli.hao@hklaw.com, respectively, or call toll free, 1.888.688.8500.