Issuing Body: Ministry of Commerce
Issuing Date: August 25, 2011
Effective Date: September 1, 2011
Seeking to improve and make permanent tentative rules that were issued last March, the Ministry of Commerce (MOFCOM) has released the Provisions on Implementation of a Security Review System for Mergers and Acquisitions of Domestic Enterprises by Foreign Investors (Security Review Implementation Provisions). Issued on August 25, 2011, and effective September 1, 2011, the Security Review Implementation Provisions replace the Tentative Provisions on Relevant Issues Concerning Implementation of the Security Review System of Foreign Mergers and Acquisitions of Domestic Enterprises (Tentative Security Review Implementation Provisions), which had been scheduled to expire on August 31, 2011. In both cases, MOFCOM is following the direction of the State Council, which issued the Notice on the Establishment of a Security Review System for Foreign Mergers and Acquisitions of Domestic Enterprises (M&A Security Review Notice) on February 3, 2011. MOFCOM's rules clarify key questions about who must file a security review application, when such applications must be filed, and how.
In accordance with Article 31 of China's Anti-Monopoly Law, foreign mergers and acquisitions of domestic enterprises that involve national security are subject to national security reviews, in addition to merger control reviews for possibly anti-competitive effects. The M&A Security Review Notice established a formal security review system to oversee foreign mergers and acquisitions that involve national security, with a joint ministerial panel led by MOFCOM and the National Development and Reform Commission (NDRC) responsible for oversight. China Law Update summarized the M&A Security Review Notice in our March 2011 issue.
MOFCOM released the Tentative Security Review Implementation Provisions a month later. (See a summary in China Law Update, April 2011.) The basic framework of the tentative provisions remains intact in the final rules:
- A foreign investor contemplating a merger or acquisition of a domestic enterprise that is subject to a security review in accordance with the M&A Security Review Notice must file an application for security review with MOFCOM.
- Two or more foreign investors participating in the same transaction may jointly file a security review application, or they may designate one investor to file the application.
- If a proposed transaction is subject to a security review but the foreign investor fails to file a security review application, MOFCOM offices are directed to suspend the approval review process and require the foreign investor to submit a security review application to MOFCOM. Provincial and local MOFCOM offices are also required to report the proposed transaction to MOFCOM.
- The Tentative Security Review Implementation Provisions further stipulate what documents are required for review, how MOFCOM should evaluate prospective takeovers, and when the agency is supposed to respond.
In light of the speed with which MOFCOM issued the tentative provisions, the agency took the unusual step of soliciting public comments after the rules had taken effect, and as China Law Update reported in April, MOFCOM was expected to revise the rules before they became permanent. The Security Review Implementation Provisions are the result of that process.
Key changes made in the permanent rules are summarized below.
Timetable for MOFCOM's Initial Decision
Under the Tentative Security Review Implementation Provisions, if a proposed transaction is subject to security review but the foreign investor fails to file a security review application, MOFCOM offices are directed to suspend the approval review process and require the foreign investor to submit a written application to MOFCOM. The Security Review Implementation Provisions further clarify that MOFCOM offices should notify the foreign investor of this requirement within five working days.
The Security Review Implementation Provisions make it clear that foreign investors may have unofficial consultations with MOFCOM about procedural issues before applying for a security review. The consultation is not mandatory and has no binding legal effect.
Substance of a Transaction
The Security Review Implementation Provisions provide that when assessing whether a security review is necessary, MOFCOM should consider the substance of a transaction as well as its practical impact. Foreign investors may not avoid a security review through such legal maneuvers as commissioned shareholding, trusts, multi-layer reinvestment, leases, loans, variable interest entities, and offshore deals.
Although the Security Review Implementation Provisions make several improvements on procedural issues related to security review, the main framework of the tentative version remains unchanged, and as a result certain basic issues are still unclear—for example, the department of MOFCOM to which a security review application should be submitted. How MOFCOM will implement these permanent rules and the broader security review process remains to be seen.
As China Law Update noted in our March issue summarizing the State Council's M&A Security Review Notice, other sectors besides the obvious (defense and military), such as agriculture, energy, resources, basic infrastructure, transportation services, technology manufacturing, and equipment manufacturing, also fall within the scope of national security review. This broad coverage has raised concern and uncertainty among foreign investors. But it is not clear how MOFCOM will interpret "national security" in practice.