While the Ministry of Commerce of the Peoples
Republic of Chinas (Mofcom) recent mention of the
variable interest equity (VIE) structure is important, its
implications have been exaggerated.
VIEs are popular with foreign investors looking
to circumvent Chinese restrictions on foreign investment in
value-added telecommunications businesses (VATB), which
comprise a wide range of services such as e-mail and data
storage. But investors fear that the structure violates the spirit of Chinese law and is
increasingly scrutinised by Chinese regulators.
Mofcoms mention of VIEs in its review of
American retailer Wal-Marts acquisition of a further
33.6% stake in Niuhai Holdings is a first for a PRC
authority. Since the review was released on August 13,
investors have been puzzled by what the VIE mention could
mean for the structures future.
Foreign investment restrictions for
But counsel told IFLR that
Mofcoms VIE mention means that the structure is not
immune from merger control.
Mofcom reviewed Wal-Marts latest
acquisition because it increased its shareholding in the
target to 51.3%. Niuhai, through its wholly-owned
subsidiaries Newheight HK and Niuhai Shanghai, owns
Yishiduos popular online shopping platform,
Yihaodian. With the purchase, Wal-Mart would control the
online direct shopping business of Yihaodian, but must not
participate in its consumer-to-consumer platform, similar
to that of eBay, Amazon or Tmall.
The review specifies three conditions. Firstly,
the acquisition must be limited to the direct retail
business. Second, Niuhai Shanghai must not utilise its
self-owned network platform to provide network services to
other transaction parties.
A Hong Kong-based lawyer at an international
firm said that condition two specifies that once Niuhai has
been acquired, Wal-Mart will not be able to participate in
its VATB. For example, Wal-Mart would be unable to run a
data storage platform that allows sellers to store and
display photographs of their wares.
The third provision: closing a
But the third condition is the most
questionable. It has been translated as: After the
completion of this transaction, Wal-Mart shall not carry
out through VIE structure the VATBs currently operated by
The Hong Kong-based lawyer said that condition
three is Mofcoms confirmation that Wal-Mart will not
come through and bypass conditions one and two by using a
VIE structure to invest in Niuhais VATB services.
Herbert Smith partner Michelle Chan and
associate Peggy Chow agreed. They noted that Mofcoms
main focus was still on Wal-Marts potential dominance
in the VATB market and any anti-competitive effects if its
acquisition was allowed to proceed. In the absence of
Wal-Mart having obtained the requisite foreign investment
approval, the potential dominance in the VATB could still
be achieved if Wal-Mart adopted the VIE structure to
indirectly control the VATB operated by Yishiduo,
Further, the VIE mention has little bearing on
Mofcoms review condition that Wal-Mart cannot operate
a VATB service.
A Shanghai-based partner at a US law firm
stressed that it does not matter whether Wal-Mart uses a
VIE structure or some other framework: if Wal-Mart controls
Yishiduos VATB services, together with its current
business and competitive advantages, Wal-Mart may
ultimately be able to restrict competition in Chinas
Implications on VIE
Counsel are skeptical that Mofcoms review
has any bearing on the legality of VIE structures. The Hong
Kong-based lawyer said: If I were a corporate partner
advising on VIE structures, I would ignore this decision
because theres nothing that helps me understand
Mofcoms position better.
Sources agreed, and generally doubted that
Mofcom tried to signal what can and cannot be done through
a VIE. Though it consulted with relevant government
agencies, industry associations and companies, this review
focuses on competition rather than structuring.
If anything, Mofcom may have specifically
mentioned VIE structures to emphasise that it is not immune
to merger control. The anti-monopoly law specifically
says that if there is a change of control through contract
or equity agreements and the turnover thresholds are
reached, Mofcom must be notified, and VIEs are not
exempt, said the partner.
However others are more optimistic about the
reviews implications. Some said that the ruling seems
to suggest although it cant be verified
that PRC authorities will tolerate VIEs in respect to
existing investments. However, it is unlikely that Mofcom
will grant unconditional clearance to proposed transactions