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07 November 2019
In China, notification is mandatory for mergers that meet certain thresholds. This notification duty is coupled with a 'standstill' obligation (ie, an obligation not to effect a merger until it has been approved). A violation of the notification or standstill obligation is commonly called 'gun jumping' and can have significant legal consequences. That said, businesses sometimes have significant incentives to partly or fully implement a merger before approval, despite being fully aware of the penalties. As there is no detailed provision about what constitutes gun jumping, this creates incentives for businesses to test the limits of such prohibitions and circumvent standstill rules. This article examines Canon's acquisition of Toshiba Medical and the legal consequences of gun jumping in China, as well as the risks of implementing a transaction 'by steps' to circumvent the standstill rules. Recent strengthened enforcement measures are also briefly examined.
Gun jumpers face three types of punishment in China. First, fines of no more than Rmb500,000 (approximately $70,000) will be issued. However, it is debatable whether such a small fine acts as a deterrent. There has been much support for raising the statutory fine for gun jumping. However, although the Anti-Monopoly Law is being modified in that regard, whether the fine will be raised remains unclear.
The second type of punishment for gun jumping is behavioural, including divestitures or the dissolution of an unlawful concentration (eg, the transfer of shares or assets) or other measures to return the parties to their pre-concentration status. Although this punishment sounds extreme, it has not yet been used by the Chinese authorities, as it applies only to concentrations with serious competition concerns, which are rare.
The third type of punishment is reputational, as the State Administration for Market Regulation (SAMR) publishes all penalty decisions on its website. This practice started in May 2014 and has since affected a large number of merger filings.
Despite the fact that the statutory fine is relatively low, penalties for gun jumping have some negative spillover negative effects on companies, which may act as a further deterrent. For example, if merging parties file a notification, but partly or fully implement the merger during the waiting period, during which time the SAMR initiates an investigation, the merger review procedure would be slowed down because of the parallel time-consuming investigation procedure. Further, as details of any penalties will be made public, a company's reputation will be damaged. The stock price of a penalised listed company may be negatively affected, while such a penalty may affect an unlisted company's future financing.
There have been three cases in China where merging parties deliberately designed a transaction by steps (some of which were implemented before approval), but were still found guilty of gun jumping. These cases are:
An examination of Canon's acquisition of Toshiba Medical provides a better understanding of China's approach to gun-jumping enforcement.
In order to solve financial difficulties, Toshiba intended to sell its 100% equity shares in Toshiba Medical. On 9 March 2016 Canon obtained the exclusive right to negotiate this transaction. The relevant parties made the following pre-transaction preparations:
On 17 March 2016 Company M signed an agreement with Toshiba to purchase the 20 A-type shares in Toshiba Medical with voting rights. Canon signed an agreement with Toshiba to purchase the one B-type share without voting rights and the 100 warrants in Toshiba Medical. These agreements were implemented on the same day. This first step was implemented before Toshiba Medical had filed the notification with the Ministry of Commerce (MOFCOM), China's former merger review authority.
According to the agreement between Canon and Toshiba, after obtaining anti-monopoly approvals from various jurisdictions, including China, Canon would exercise the right to reserve new shares (the consideration was Y100, approximately Rmb5.76) and the warrants would be converted into ordinary shares with voting rights. Toshiba Medical would then repurchase the A-type and B-type shares from Company M and Canon respectively and cancel them. At this point, Canon would have completed the acquisition of 100% equity shares in Toshiba Medical. This second step had not been implemented before the investigation started.
The transaction in this case was Canon's acquisition of full equity in Toshiba Medical. MOFCOM considered that although the transaction was divided into two steps, they were closely related and both integral parts of Canon's acquisition of full equity in Toshiba Medical, which constituted a single concentration. When the first step was implemented (since the full equity and right to reserve new shares in Toshiba Medical had been transferred and all corresponding payments had been paid) the concentration had therefore already commenced, even though it had not been fully completed, in violation of the Anti-monopoly Law.
As such, MOFCOM imposed a fine of Rmb300,000 on Canon due to the following factors:
Canon's acquisition of Toshiba Medical indicates that a transaction by steps may not circumvent China's standstill rules, as MOFCOM had made clear in several precedents. Further, based on information published since 2014, 15 penalties were issued in 2018, which is nearly the same as the total sum from 2015 to 2017. To date in 2019, details of 13 penalties have been made public. As such, it is clear that gun-jumping measures in China have been strengthened following the SAMR's establishment. Businesses that operate in China or that have appreciable turnover from China are therefore advised to be more cautious in this regard when planning big deals.
For further information on this topic please contact Hao Zhan or Ying Song at AnJie Law Firm by telephone (+86 10 8567 5988) or email (email@example.com or firstname.lastname@example.org). The AnJie Law Firm website can be accessed at www.anjielaw.com.
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