Efficiency of equity transfers bolsters growth of restructured enterprises

The speed with which centrally governed enterprises have grown in recent years has been incredible, due to their active internal asset restructuring, improved mechanism for the flow of state-owned capital, etc. This column analyses the methods of transfers of equity by agreement in connection with the internal asset restructuring of centrally governed enterprises.

Scope of transfers by agreement

The Interim Measures for the Administration of the Transfer of the State-Owned Property Rights of Enterprises specify that an enterprise may transfer its state-owned property rights by auction, invitation and submission of bids, transfer by agreement, etc. The Notice of the State-Owned Assets Supervision and Administration Commission of the State Council and the Ministry of Finance on Matters Relevant to the Transfer of the State-Owned Property Rights of Enterprises (document 306) specifies that transfers by agreement are permitted: (1) when there are special requirements in respect of the transferee in the structural adjustment of a key industry or sector of the national economy; and (2) when there is a genuine need to adopt a direct transfer by agreement in an internal asset restructuring of an investee enterprise. The latter requires that both the transferor and the transferee be the investee enterprise, or a wholly owned subsidiary of it, or an enterprise absolutely controlled by it.

Pursuant to document 306, if in the course of an internal equity transfer of a centrally governed enterprise the transferee is a foreign enterprise, other economic organisation or individual, this method may be adopted if the transferee satisfies the above conditions for a transfer by agreement. However, such a transfer should also comply with the Catalogue for Guiding Foreign Investment in Industry on categories in which foreign investment is restricted or prohibited.

Pursuant to the Notice of the State-Owned Assets Supervision and Administration Commission of the State Council on Matters Relevant to the Transfer by Agreement of the State-Owned Property Rights of Centrally Governed Enterprises (document 11), when a centrally governed enterprise carries out an asset restructuring internally, a transfer by agreement to a domestic enterprise that complies with document 306 is subject to the approval of, or a decision in accordance with the law by, such enterprise, with a copy sent to the State-Owned Assets Supervision and Administration Commission of the State Council (except in the case where a transfer of shares of a joint stock limited company is involved).

The statutes mentioned provide the legal basis for a transfer of equity by agreement by a centrally governed enterprise, or its subsidiary.

Appraisal and recordal

Pursuant to document 11, if a centrally governed enterprise undergoes an internal asset restructuring and both the transferor and the transferee are centrally governed enterprises, or domestic enterprises directly or indirectly wholly owned by them, the transfer price may be determined with and may not be less than the net asset value confirmed in an asset appraisal or audit report as the benchmark (or determined with such value in an asset appraisal report if the transferor or transferee does not belong to the above two categories).

However, if a centrally governed enterprise, or its subsidiary, at any level intends to transfer its domestic state-owned property rights to an offshore enterprise, or transfer its offshore state-owned property rights to a domestic enterprise, it must engage a qualified domestic appraisal firm to appraise the subject matter and seek recordal or approval of the appraisal, hence the audited net asset value may not serve as the basis for setting the price.

Where a centrally governed enterprise approves a transfer of state-owned property rights by agreement, it should carry out the recordal. Where the transfer price is determined with the net asset value confirmed in an audit report as the benchmark, the annual audit report for the preceding fiscal year, or the most recent audit report issued by a professional firm, is needed.

Registration of changes

Pursuant to the Law on the State-Owned Assets of Enterprises, a transfer of state-owned assets is required to be publicly carried out on a legally established property rights exchange, except where the same may be directly carried out by a transfer by agreement. There is no mandatory requirement that it be carried out on a property rights exchange where an equity transfer is carried out by a centrally governed enterprise. However, the actual procedures vary from place to place. We recommend that even if a party satisfies the conditions for a transfer by agreement, it nevertheless needs to present itself to the relevant authority to make inquiry to avoid procedural problems. Furthermore, the Company Law specifies that when there is a change in the shareholders of a company, registration of the change is to be carried out with the company registrar.

Closing time

Delivery of equity involves the issues of when the transferee actually secures shareholder qualifications and commences to enjoy the equity interest, and when the deficits and profits of the subject company are assumed by the transferor or transferee. Pursuant to the Company Law, a change in equity only becomes legally valid once the company inscribes the transferee’s name and capital contribution amount in its internal register of shareholders, and only then the transferee actually secures shareholder qualifications and has the right to exercise shareholder rights.

In practice, besides paying attention to the Company Law, lawyers will set the closing date as a condition precedent for the entry into effect of the equity transfer agreement, and for closing.

With respect to internal equity transfers by agreement of centrally governed enterprises that are confirmed through a property rights exchange, we recommend that the property rights delivery note issued by the property rights exchange be set as a condition for the entry into effect of the equity transfer contract, and not directly setting it as the time point for equity delivery.

The transferee may assert its equity rights against the company based on its confirmed shareholder qualifications only once such qualifications have been confirmed through the company’s internal registration act.

Sarah Zhang is a senior associate at Concord & Partners in Shanghai