Owing to China’s unique legal system, the legal framework applicable to Mergers &Acquisitions (M&A) in China is the most complex and challenging legal issue facing practitioners of M&A transactions in China. Thorough knowledge of this framework is a prerequisite to successfully structuring M&A transactions. Roughly speaking, there are four pillars for the legal framework applicable to M&A transactions in China, viz.:

I. The first pillar is a group of provisions scattered in laws promulgated by China’s National People’s Congress such as General Principles of Civil Law, Contract Law, Company Law, and Securities Law, which controls M&A transactions and could be invoked by foreign investors’ M&A of China’s domestic enterprises.

For instance, the “General Principles of Civil Law” stipulates that if an enterprise as a legal person is divided or merged or undergoes any other important change, it shall publicly announce the change, and register it with the relevant authority. When an enterprise is divided or merged as a legal person, its rights and obligations shall be enjoyed and assumed by the new legal person that results from the change.

Furthermore, the “Contract Law” provides that if one party to a contract is merged after the contract has been concluded, the legal person or other organization established after the merger shall exercise the contract rights and perform the contract obligations. If one party is divided after the contract has been concluded, the legal person or other organizations thus established after the division shall exercise the contract rights or assume the contract obligations jointly and severally.

In addition, the “Company Law” specifically sets out that the merger of a company may take the form of either merger by absorption or merger by the establishment of a new company. Where one company merges with another by absorption, the absorbed company is dissolved. Where two or more companies establish a new company in a merger by re-establishment, all merged parties are dissolved. At the time of merger, the creditors' rights and liabilities of each of the merged parties shall be assumed by the company which survives the merger, or the newly established company. The company law for the first time in Chinese legislation clearly sets out the two types of M&A transactions, namely, merger by absorption or merger by the establishment of a new company. It further lays down the M&A rules in respect of limited liability companies and shareholding companies. It should be noted that as a general rule, Company law as a generic law, will in many cases fill in the gap in the laws and regulations concerning the foreign invested enterprises (FIEs).

II. The second pillar is provisions that reach across the specific laws and regulations promulgated by the National People’s Congress and the State Council concerning FIEs, namely, the Law on Chinese Foreign Equity Joint Ventures, the Law on Chinese Foreign Contractual Joint Ventures, the Law on Wholly Foreign Invested Enterprises and the implementation rules of the aforesaid laws, which prescribe the basic rules regarding assignment, increase and decrease of registered capital etc., to the effect that favorable conditions for M&A are thus created.

For instance, the “Law on Chinese Foreign Equity Joint Ventures” stipulates that if any of the parties wish to assign its registered capital, it must obtain the consent of the other parties to the venture. Its implementation rule further states that if one party to the joint venture intends to assign all or part of its investment subscribed to a third party, consent shall be obtained from the other party to the joint venture, and the assignment shall be registered with the registration administration agency after being approved by the examination and approval authorities.

In the “ Law on Chinese Foreign Contractual Joint Venture” and its implementation rules, there are similar provisions such as, if a Chinese or Foreign party wishes to make an assignment of all or part of its rights and obligations prescribed in the contractual joint venture contract to each other or to a party other than the party to the contract, it shall be subject to consent of the other party or parties and report to the examination and approval authority for approval.

With respect to the “Law on Wholly Foreign Funded Enterprises” and its implementation, there are basic provisions that the increase or assignment of the registered capital or assignment of assets of a foreign funded enterprise shall be subject to the approval by the examination and approval organ, and the procedures for change of registration shall be handled with the administrative department for industry and commerce.

III. The third pillar is provisions of numerous measures including but not limited to decrees, orders, directives, administrative guidance and provisional measures promulgated by various central and local governmental agencies inclusive of M&A concepts or clauses. Because measures promulgated by local governmental entities are huge and vary from province to province and city to city, it is unrealistic to include them in this paper. Therefore, only measures promulgated by Central governmental agencies are picked out and arranged in chronological order as follows:

(a) “Provisional Measures of Enterprises Merger”, jointly promulgated by the State Economic System Restructuring Commission (SESRC), State Planning Commission, Ministry of Finance and State Bureau of State-owned Assets (SBSA) on February 19, 1989. It defines merger as an act by which one enterprise purchases another enterprise’s property to the effect that the other enterprise loses the qualification of being a legal entity or its legal entity status is changed.

(b) “Provisional Measures of Selling Small Scale State-owned Enterprises’ (SOEs) Property”, jointly promulgated by SESRC, Ministry of Finance and SBSA on February 19, 1989. It specifies clearly that FIEs are allowed to purchase small-scale SOEs’ property.

(c) “Several Procedures of Equity Changes of FIEs”, jointly promulgated by the MOFTEC and the SAIC on May 28, 1997. It defines the equity change, and sets out the general principles and detailed procedures regarding the equity change of foreign investors.

(d) “Provisional Measures of Assets Reorganization of the SOEs Using Foreign Investment”, promulgated by the State Economic and Trade Commission (SETC) on September 14, 1998. It defines the assets reorganization as merging with other domestic enterprises, supplementing flow capital, and repaying enterprises’ debts. It further lays down general principles and procedures regarding the reorganization of assets.

(e) “Provisional Rules of FIEs Domestic Investment”, jointly promulgated by MOFTEC and SAIC on July 25, 2000. It defines FIEs domestic investment as setting up enterprises or purchasing investor’s equity of other enterprises. It further sets out the principles and procedures applicable to domestic investment by FIEs.

(f) “Provisions of Merger and Division of FIEs”, promulgated by the MOFTEC on September 23, 1999, amended jointly by the MOFTEC and the SAIC on November 22, 2001. It specifically defines the merger and division and their categories. It further sets out in detail the general principles and procedures applicable to merger and division of FIEs.

(g) “Opinion on Some Issues in Relation to Listing Company Involving Foreign Investment”, promulgated by the MOFTEC and the China Securities Regulatory Commission (CSRC) on October 8, 2001. It lays down some principles and requirements regarding foreign funded shareholding companies and listing issues.

(h) “Provisional Measures of Financial Assets Administration Corporations Assimilating Foreign Investment to Participate In Assets Reorganization and Disposition”, promulgated by the MOFTEC, Ministry of Finance and People’s Bank of China on October 26, 2001. It provides that financial assets administration corporations may reorganize and dispose their assets by means of assimilation of foreign investment. It further sets out some procedures in reorganization and disposition of assets.

(i) “Provisions on Guiding Foreign Investment Direction” approved and promulgated by the State Council on February 11, 2002; and the “Catalogue for the Guidance of Foreign Investment Industries”, jointly promulgated by the State Development and Planning Commission (SDPC), SETC and the MOFTEC on March 1, 2002. The Guide and Catalogue are the basis for the guidance of examination and approval of foreign investment projects and for the policy application of foreign investment enterprises.

(j) “The Relevant Issues Concerning B-share Circulation of Non-Listed Foreign-Funded Shares of Foreign-Funded Joint Stock Limited Companies”. Promulgated on August 16, 2002 by the MOFTEC. It defines the conditions the B-Share circulation of non-listed foreign funded shares shall meet.

(k) “Measures on the Takeover of Listed Companies” promulgated by CSRC on September 28, 2002. It defines the takeover of listed companies as an act which entitles a purchaser to the practical control right of, or the potential practical control right of a listed company, if through activities of the transfer of shares in the stock exchange, or through lawful means other than the activities of transfer of shares in the stock exchange, the purchaser holds a certain proportion of the shares issued by the said listed company. It further specifies the principles applicable to three categories of takeover, namely purchase by agreement, by offer, and in the manner of public centralized trading at the competing price.

(l) “Circular on Issues Related to Transferring State-owned Shares and Institutional Shares of Listed Corporations to Foreign Investors”, jointly promulgated by CSRC, the Ministry of Finance and the SETC on November 1, 2002. It lays down the general principles relevant to transferring of state-owned shares and institutional shares of listed corporations.

(m) “Provisional Reles on Introducing Foreign Investment to Restructure SOEs” (the SOEs Restructuring Rules), promulgated by the SETC, the Ministry of Finance, the SAIC and SAFE on November 8, 2002. The Regulations set forth the requirements and procedures for the approval of the restructuring of SOEs into FIEs. Pursuant to these regulations, foreign investors may participate in the restructuring of SOEs, other than financial institutions or listed companies, provided that such SOEs do not fall within the prohibited category of the Catalogue for Guiding Foreign Investment in Industries. In addition, if the state-owned target is one in which the Chinese Party must have a controlling interest, the Chinese party must maintain a controlling interest after the acquisition in the FIEs.

(n) “Circular on Issues Related to Improving the Administration of Enterprises with Foreign Investment in Terms of Examination & Approval, Registration, Foreign Exchange and Taxation”, promulgated by the MOFTEC, SAT, SAIC and SAFE on December 30, 2002. The Circular for the first time establishes the legality of a proportion of foreign investment being less than 25% and Chinese individual person being the Chinese investor of the enterprise with foreign investment. It further sets out principles involving examination and approval, registration, foreign exchange and taxation of FIEs.

(o) “Rules on Mergers and Acquisitions of Domestic Enterprises by Foreign Investors”, promulgated by the MOFTEC, SAT, the SAIC, the SAFE on March 7, 2003, and revised by the Ministry of Commerce (MOFCOM), State-owned Assets Supervision and Administration Commission of the State Council (SASAC), SAT, SAIC, CSRC, SAFE in Aug, 2006.This is the most comprehensive regulation of M&A control in China to date. The Rules categorize the mergers and acquisitions of domestic enterprises by foreign investors as equity merger and acquisition and asset merger and acquisition. It further clarifies issues involving the contribution made by foreign investors being less than 25% registered capital. It details the requirements and procedures regarding two categories of mergers and acquisition.

(p) “Provisions on the Establishment of Investment Companies by Foreign Investors”, promulgated by MOFCOM on June 10, 2003. The Provisions define an investment company as a company established by a foreign investor in the form of either wholly owned enterprise or Sino-foreign joint venture to engage in direct investments. It further sets out the requirements and procedures in setting up the investment companies. According to the M&A Rules, if an investment company intends to merge with and acquire domestic enterprises, the M&A Rules shall also apply.

IV. The fourth pillar is the Provisions Regarding Several Issues on Adjudication of Cases Involving Enterprise Reform, promulgated by the Supreme Court of the People’s Republic of China, on January 3, 2003. It deals with any disputes arising from merger, selling, division etc. of enterprises. This is the first time the Supreme Court has intervened in enterprise reform disputes. It provides to a certain degree some legal remedies in relation to M&A transaction etc.