Going private in the US

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After a few golden years when it was popular for Chinese companies to list their stocks in the US, often via reverse mergers, there is a recent trend for Chinese companies to exit the US capital markets and consider relisting in other jurisdictions. Undervaluation of stock prices and attacks by short-sellers, well founded or not, are major catalysts for the current privatisation wave. Examples include Tongjitang Chinese Medicines Company, the first US-listed Chinese stock to go private from the US market in mid-2011, Harbin Electric, which completed its privatisation in November 2011, and Fushi Copperweld and China TransInfo Technology, which both recently announced their privatisation plans.

Simon Luk
Simon Luk

‘Going private’ means all or most of the stock of a publicly listed company is bought out and will end up in private hands. The stock may be bought out by private equity firms, or internally by the major shareholders or management of the company, or by affiliates of the company. Such a company, when held by less than 300 shareholders of record (or 500 shareholders of record if the company does not have significant assets), can then deregister the equity securities it registered with the US Securities and Exchange Commission (SEC) and will not be subject to the periodic reporting requirements of US securities laws thereafter.

There are different ways for a US public company to go private, including:

Mergers – where a US public company merges with, or sells all or substantially all of its assets to, a newly formed private company owned by the buyout group;

Tender offer – where a group or an individual makes a tender offer to buy all or most of the company’s publicly held common stock; or

Reverse stock split – where a US public company declares a reverse stock split that reduces the shares owned by certain small shareholders to less than one share, which will then be redeemed by the company and hence reduces the number of shareholders of record as a result.

One-step merger

A US public company may be privatised by a one-step merger, which generally involves:

A merger proposal – the buyout group makes a merger proposal to the board of directors of the US public company, which will include, among other things, an indication of the price it will pay to acquire the company’s common stock in public hands;

A merger agreement – the merger agreement will be negotiated between the buyout group, the company and a special committee of the board (which will be discussed later), to ensure that the terms of the merger and the entire process of merger will be fair;

Schedule 13E-3 filing – if an affiliate of the company or the company itself is involved in the merger proposal, a statement on Schedule 13E-3 is required pursuant to the Securities Exchange Act of 1934. The filing will contain discussions of, among other things, the purpose of the transaction, and views and reasons as to fairness to the unaffiliated shareholders; and

A proxy statement – the company has to file a proxy statement to seek shareholders’ approval of the transaction in a special meeting, and obtain their consent for deregistering and/or delisting the common stock.

Tender offer and a short-form merger

Depending on the circumstances, tender offer and merger are often used together to ensure that all common stock is purchased from the minority shareholders. In case there is a tender offer prior to a short-form merger, additional documents will include:

A tender offer statement – an offering document from the buyout group to the shareholders of the US public company; and

A letter of transmittal – a letter that invites the shareholders to tender their shares.

Fiona Tang
Fiona Tang

Special committee, fairness and independence

In all forms of going-private transactions (in particular, in one-step mergers), it is important to ensure that the transactions are fair, as conflicts of interest between the buyout group and the company will invariably arise. To ensure the fairness test is met, the board of directors of the US public company will often set up a special committee comprising disinterested and independent directors to negotiate the best deal to protect the minority shareholders. The special committee must operate independently. The use of the special committee will, in the event of challenges by plaintiffs’ lawyers, shift the burden of proof of unfairness to the challengers.

Class actions and dissenting shareholders

Given that privatisation transactions impact the rights and interests of minority shareholders, it is possible for plaintiffs’ lawyers representing minority shareholders to challenge the transactions in court with class-action lawsuits. These claims are usually based on grounds of breach of fiduciary duties by the board of the company, or that the information disclosed is insufficient to allow the shareholders to make an informed decision as to whether to approve the transactions. The risks of lawsuits could be minimised by the use of special committees and “go shop” provisions.

Depending on where the US public company is incorporated, some states in the US have their own statutes that provide shareholders with dissenters’ rights in privatisations. These laws provide shareholders with an opportunity to sell their shares on the terms offered, or to hold on to their shares. On the other hand, there are statutes which provide that following satisfaction of certain criteria, shareholders will not have any dissenters’ rights or other statutory rights of objection.

Benefits and conclusion

Under the stringent regulatory regime of the SEC and considering the current investment climate in the US, going private may be a viable option for US-listed Chinese companies to refocus their energy and resources in developing their business, as well as to avoid surprise attacks by short-sellers. A US delisting presents a good opportunity for companies to consider relisting on other stock markets, such as Hong Kong, Shanghai or Shenzhen, where they may obtain better financing terms, and communication with local investors may be facilitated.

Simon Luk is a partner and chairman of Asia practice at Winston & Strawn in Hong Kong. He can be contacted at +852 2292 2222 or by email at sluk@winston.com. Fiona Tang is an associate at Winston & Strawn in Hong Kong. She can be contacted at +852 2292 2218 or by email at ftang@winston.com