Analysis Of Legal Issues Of China Listed Companies Equity Carve-Out

As a means of asset recapitalization, equity carve-out is the inverse operation of mergers and acquisitions. In the narrow sense of equity carve-out, the main body includes only the listed companies. The article is studying China listed companies equity carve-out in the narrow sense. Equity carve-out is not only a legal concept, but also a model for company to be listed in the stock exchange. As a terminology from capital market, equity carve-out is topic analyzed in the field of economics, corporate and securities law. Equity carve-out is an operational pattern by company in contraction recapitalization. Currently in China, there are many academic researches in company asset expansion recapitalization. However, studies on contraction recapitalization are very limited. In fact, aiming to maximize profit and achieve capital increment, company capital operation can use expansion or contraction, as long as it helps to optimize resources allocation and to improve industrial structure. Listed company equity carve-out is a two-edge sword in marketing economy; therefore it requires proper guidance and supervisor by legislators. The article studies the typical problems of equity carve-out from the perspective of corporate law, and put forward several suggestions on China legislation by referencing cases from relatively mature capital markets overseas.As China's current legislations have not a clear definition to equity carve-out, some scholars classify it to spin-off, with which the writer does not agree. These two modes are distinct with each other in legal nature. Equity carve-out is a pattern of reinvestment, while spin off is a pattern of corporate division; therefore they should not be confused with each other. The article would like to define equity carve-out as the following: listed company separate part of its asset, business or subsidiaries through a series of capital operation to constitute a new company as one of founders, then complete the IPO behavior in the capital market. The result is forming two companies of parent-subsidiary relationship. To understand equity carve-out further, the article compared it with the other three capital operation patterns including holistic listing, asset divestiture and spin off. Though equity carve-out has many advantages, it is not the perfect solution and has limitations. Therefore, it requires regulators to supervision and guidance, using its advantages while avoiding disadvantages. The legal system of equity carve-out in the overseas capital market is very mature, but in China it's a new concept. Tong Ren Tang is the first one in China successfully completed equity carve-out, which is operated on the GEM of the Stock Exchange of Hong Kong. The success of Tong Ren Tang model starts a new practice in China.Equity carve-out is a complex combination and a sequence of legal conduct, and also a process of adjusting the interests of various stakeholders. This paper selects three typical legal issues covered the whole course of Equity carve-out operation, including capital risk control problems, protection of the interests of minority shareholders of the subsidiary, and protection of the interests of creditors of the subsidiary.In the newly revised"China Company Law"and"China Securities Law", there is no articles related to equity carve-out, only the"Notice of Commanding the Overseas Listing Operation of the Company Controlled by the Domestic Listed Companies"(hereinafter called"Notice") and"Regulations On Strengthening Protection of Public Shareholders"(hereinafter take"Regulations") issued by the Commission in August 2004 can be referred. However, these two reference documents are only applicable to companies listed abroad. The"Notice"clearly note that assets separation of parent company cannot exceed 30% of its net assets, in order to prevent excessive separation. To ensure continuous profitability and independently listing of parent company,"Notice"also limits the net profit of the separated-assets not to exceed 50% of the net profit of the listed company. To certain extent,"Notice"reduces the risk of excessive equity carve-out. However, these provisions cannot be effectively implemented in certain occasions; therefore other means are necessary to strengthen the protection of minority shareholders and creditors. The capital formation of the subsidiaries results to parent company creditor right, therefore inevitably involved debt shift problem. The Supreme Court issued an interpretation in January 2003, which established the principle of sharing the assets and liabilities by parent and subsidiary companies. The author believes that the above provision violated the principle of the relativity of debt relationship, also violated the principle of legal person's independent personality, therefore the Interpretation need to be further reviewed.From a company's decision to completion of equity carve-out, there are many parties with conflicting benefits searching for balance among each other. New"Company Law"improves relevant provisions in many ways, such as independent director, independent director, independent director, and so on. But the new"Company Law"still has disadvantages, especially in related transactions that are difficult to avoid and which existence has also pros and cons. Proper affiliated transactions can optimize the allocation of resources, which is beneficial to business strategic alliances and long-term interests. While unfair related transactions can seriously damage the interests of the company minority shareholders and creditors. It diverts from the basic principles of market economy and impedes the healthy development of capital markets. Therefore, improper transactions in equity carve-out must be strictly controlled. The regulation to related party transactions is a systematic measure, which need an overall planning and attention to the relationship among many legal sectors.With the development of domestic stock market, GEM Represent has been set up in October 2009 to provide a market background for domestic equity carve-out. But as previously mentioned, related law articles relevant has limitations. By reviewing the rules in the United States and in Hong Kong, the paper gives some recommendations on how to improve the function of corporate governance. First is to improve control measure of company capital operation, including controlling shareholders disclosure obligations and related liability system, strengthening the obligations of intermediary organizations and their employees. Second is to the controlling shareholders fiduciary duty, and improve the system of class voting. Third is to better the protection system to creditors, including enhancing corporate disclosure obligations to creditors, requiring fiduciary duties of the company's directors, supervisors and senior managements to creditors, improving detail regulation of piercing the corporate veil system, and introducing the equitable subordination theory.In conclusion, there are all kinds of hidden risks in the capital market. The real world practice has told us that law cannot only be based on experience, but also expectation of situation, which can become reality in the future. Therefore, no matter how mature the legal system is, it still needs to be further renewed and improved, which is the road everyone takes.