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FM AMEMBASSY BEIJING
TO RUEHC/SECSTATE WASHDC IMMEDIATE 6756
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RUEATRS/DEPT OF TREASURY WASHDC IMMEDIATE
INFO RUEHCN/AMCONSUL CHENGDU 7113
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RUEHGH/AMCONSUL SHANGHAI 5789
RUEHSH/AMCONSUL SHENYANG 6851
RUEHHK/AMCONSUL HONG KONG 8133
RUEHIN/AIT TAIPEI 5938
RUEHBS/USEU BRUSSELS
RUEHGV/USMISSION GENEVA 1330
RUEHKO/AMEMBASSY TOKYO 0861
RUEHUL/AMEMBASSY SEOUL 9521
RUEHGP/AMEMBASSY SINGAPORE 8744

UNCLAS SECTION 01 OF 03 BEIJING 019278 
 
SIPDIS 
 
SENSITIVE 
SIPDIS 
 
SHANGHAI PASS AMBASSADOR 
 
STATE PASS USTR FOR 
STRATFORD/ALTBACH/WINTER/MCARTIN/READE 
 
USDOC FOR U/S LAVIN AND ITA/MAC/AP 
 
TREASURY FOR ISA - DOHNER AND CUSHMAN 
 
GENEVA FOR USTR 
 
E.O. 12958: N/A 
TAGS: ETRD WTRO ECON EINV PGOV CH
SUBJECT: CHINA: NEW MERGER RULES SPARK CONCERN 
 
(U) THIS REPORT IS SENSITIVE BUT UNCLASSIFIED, AND 
CONTAINS BUSINESS PROPRIETARY INFORMATION.  PLEASE 
PROTECT ACCORDINGLY.  DO NOT SHARE OUTSIDE THE 
U.S. GOVERNMENT. 
 
REF: BEIJING 2924 
 
¶1. (SBU) Summary.  On August 8, the Ministry of 
Commerce (MOFCOM) released new regulations governing 
foreign acquisitions of domestic enterprises.  Local 
observers were pleased that the regulations allow for 
equity swaps but are concerned with vague language that 
appears to give MOFCOM considerable discretion to block 
or delay deals.  Despite assertions from MOFCOM 
officials from the Minister on down that the new 
regulations do not signal a shift in China's openness 
to foreign direct investment (FDI), virtually all of 
our Beijing-based U.S. business contacts believe the 
regulations reflect a general rise in economic 
protectionism.  Furthermore, embassy contacts in 
industry, investment banking and legal services all 
report significant new difficulties in completing 
foreign acquisitions involving a controlling stake of a 
Chinese company.  END SUMMARY. 
 
Overview of New Regulations 
--------------------------- 
¶2. (U) The new M&A regulations were jointly drafted and 
issued by six different ministries:  MOFCOM, the State- 
owned Assets Supervision and Administration Commission 
(SASAC), the State Administration of Taxation (SAT), 
the State Administration of Industry and Commerce 
(SAIC), the China Securities Regulatory Commission 
(CSRC) and the State Administration of Foreign Exchange 
(SAFE).  These regulations serve to strengthen MOFCOM's 
supervisory role, in part by requiring its approval of 
deals it believes impact state economic security or 
involve famous Chinese brands.  They also thrust MOFCOM 
into the role of determining if the acquisition target 
has been appropriately valued.  They only positive 
aspect that U.S. industry sees in these regulations is 
the creation of a legal framework for cashless, stock 
swap-based mergers or acquisitions. 
 
¶3. (SBU) The regulations went into effect on September 
8 - thirty days after they were made public.  MOFCOM 
Department of Treaty and Law Director General Shang 
Ming told EB/CBA Special Representative Mermoud in late 
August that the regulations were circulated to 
government offices, law firms, and companies for 
comment.  However, the local American Chamber of 
Commerce reports that regulators did not seek comments 
from American firms in a broad or meaningful way.  We 
are unaware of any WTO member state governments having 
been afforded opportunity to comment prior to issuance 
of the regulations on August 8.  A major U.S. 
investment bank also relayed to us that CBRC officials 
had expressed concern with the way the regulations were 
drafted and would look to the implementing rules 
process to correct deficiencies. 
 
Problem Areas 
------------- 
¶4. (SBU) Multiple U.S. industry contacts have 
identified the following elements of the regulations as 
worrisome: 
 
   A) Article 12 calls for MOFCOM's approval of any 
 
BEIJING 00019278  002 OF 003 
 
 
deal involving a "major industry", having "impact on 
the state economic security" or concerning "famous 
trademarks or traditional Chinese brands."  This vague 
language is so inclusive that industry believes it will 
allow MOFCOM to prevent any deal at will. 
   B) Article 14 requires that MOFCOM approve the 
valuation of any merger or acquisition.  It is unclear 
who will be able to qualify as a mandatory "relevant 
asset appraisal organ."  This clause could be used to 
block deals by inflating asset valuation.  MOFCOM 
Department of Treaty and Law Director Wen Xiantao 
recently told EB/CBA Special Representative Frank 
Mermoud that this article was drafted because recently 
a number of Chinese firms had been sold off too cheaply 
and MOFCOM wanted to ensure that foreign firms paid 
"the right price."  Director Wen was unable to answer 
questions about what qualifications and experience will 
be required of the accountants who determine the 
appropriate valuation, nor was he able to clarify on 
what basis they would determine the value.  Wen said 
that these questions were too technical and suggested 
that such inquiries be directed to the Ministry of 
Finance. 
   C) Article 30 requires an "acquisition consultant" 
be hired to complete a stock swap-based deal.  Article 
31 lays out subjective guidelines as to who will be 
able to qualify as such a consultant.  The guidelines 
include the requirements that the acquisition 
consultant have a "good reputation", no "significant" 
criminal record and the "capability to conduct" the 
investigation.  These subjective regulations could be 
used to qualify or disqualify potential acquisition 
consultants at MOFCOM's whim. 
   D) Chapter 5 of the regulations requires MOFCOM 
approval for any deal that meets specific criteria or 
involves "very large market share" or "other important 
factors" that affect competition.  Again, this law is 
so subjective as to give MOFCOM a free hand to block or 
approve of any deal as it sees fit based on undefined 
antimonopoly rationale.  When asked about this 
provision, Director General Shang Ming explained that 
this provision will only be used until a broad anti- 
monopoly law is passed.  At that point, the anti- 
monopoly law will trump the anti-monopoly provisions in 
these regulations. 
 
Anecdotal Confirmation 
---------------------- 
 
¶5. (SBU) Although it is difficult to gather statistics 
on whether completing a merger or acquisition in China 
has become more challenging for foreign companies or 
not, all of the anecdotal evidence suggests that it 
has.  A representative from JPMorgan recently told 
econoff that all foreign acquisitions his firm is 
working on that involve acquisition of a controlling 
stake in a Chinese firm are "dead in the water," 
although deals involving minority stakes are still 
going through.  A representative from Caterpillar told 
econoff that Caterpillar is no longer able to secure 
approval to acquire Chinese companies, although 
greenfield investments are still proceeding.  At a 
recent AmCham Board of Governors meeting all members 
present agreed that they were finding it increasingly 
difficult to gain regulatory approval for investment in 
China.  There are also a number of high profile 
international deals - including Carlyle's proposed 
acquisition of Xugong machinery, Citibank's attempted 
 
BEIJING 00019278  003 OF 003 
 
 
investment in Guangdong Development Bank, and French 
firm SEB's proposed takeover of Zhejiang Supor cookware 
- that have stalled or failed and become frequently 
featured, usually negatively, in Chinese media.  Many 
contacts have reported that although it is increasingly 
difficult to gain control of a Chinese firm, it is 
still possible to secure a minority stake, especially 
if the foreign firm is willing to transfer technology 
as part of the deal. 
 
¶6. (SBU) Contacts are divided on what the source of the 
opposition to foreign investment is.  However, all 
agree that it is primarily directed at foreign firms 
seeking control of existing Chinese companies.  Some 
U.S. industry representatives believe that it is 
general economic protectionism, some that it is part of 
a desire to develop globally recognizable Chinese 
brands and some that it is a reaction to a perception 
that WTO requirements have given too much to foreign 
firms for too little.  Regardless of the reasons behind 
it, the volume of evidence suggesting that China is 
becoming less welcome to foreign investment, especially 
when it involves ceding control of a Chinese firm to a 
foreign one, is difficult to ignore. 
 
RANDT