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11 May, 2018
On April 27, 2018, the People’s Bank of China (“PBOC”), China Banking and Insurance Regulatory Commission (“CBIRC”) and China Securities Regulatory Commission (“CSRC”, PBOC, CBIRC and CSRC are hereinafter collectively referred to as “Yi Hang Liang Hui”) jointly issued the Guiding Opinions on Strengthening the Regulation on Investment in Financial Institutions by Non-Financial Enterprises (Yin Fa [2018] No.107, “Opinions”). The Opinions are a normative document that specifically regulates the non-financial enterprise shareholders of financial institutions. The Opinions create a unified regulatory framework from which the financial regulatory departments can subsequently implement their regulations on the shareholders and the equity management of financial institutions, and thus will have a significant impact on the financial industry.
The main purposes of the Opinions are to solve the issues that occurred in recent years, namely that some non-financial enterprises aimlessly expand their businesses into the financial industry, causing an effect that separates the fictitious economy from the real economy, resulting in more highly leveraged investments, false capital contributions, repeated injections of capital with the same source of funding and improper interventions in the normal operation of the financial institutions invested. In order to address these issues, these Opinions attempt to reinforce the risk isolation between the non-financial industry and the financial industry, and prevent inter-institution and cross-industry risk from spreading. For any non-financial enterprise becoming a major shareholder (especially the controlling shareholder) of a financial institution, the Opinions propose strict requirements in terms of the shareholder’s qualification, the source of its funding, its corporate governance structure, and any related-party transactions. The key points of these requirements are summarized as follows:
I. Intensifying the Shareholder Qualifications for Major Shareholders and Controlling Shareholders
The Opinions aim to regulate the major shareholders and controlling shareholders of financial institutions, and do not place too many restrictions on general financial investors. It should be noted that the “major shareholders” defined in the Opinions refer to any investor holding 5% or more shares in a financial institution, while the “controlling shareholder” refers to any investor holding 50% or more shares in a financial institution or holding less than 50% shares but having a substantial right of control on the financial institution, unless the laws, regulations or department rules provide otherwise.
The must-have requirements for the shareholder qualification include, (i) any major shareholder or controlling shareholder of a financial institution shall have: a clearly defined core business, well-capitalized, good corporate governance standards, clear ownership structure, management capability that meets the relevant requirements, good financial status, a sensible debt leverage ratio, and shall have reasonable and clear business plans for the investment in the financial industry in place, (ii) the controlling shareholder is generally required as having made profits in the past three consecutive fiscal years, its net assets after distribution at the end of year shall be not less than 40% of the total assets, and the balance of equity investment shall not exceed 40% of its net assets, its ownership structure (including information of each shareholder, de facto controller and beneficiary owner and relevant changes thereof) is clear-cut, and it shall have professionals with a financial background.
The prohibited scenarios for the shareholder qualification include, (i) a non-financial enterprise shareholder shall be prohibited from being the controlling shareholder of a financial institution if it: is divorced from its main business and aimlessly expands to financial industry, has weak risk control capability, uses high leverage to invest, has a complicated and opaque ownership structure, has a large number of affiliated enterprises, conducts frequent and abnormal transactions, or conducts unfair competition to disrupt the market by abusing its dominant position or technical advantages, (ii) a non-financial enterprise that is found primarily responsible for the operation failure or major violation of a financial institution it invests shall be prohibited from being the controlling shareholder of a financial institution for five years thereafter.
In addition, for behaviors of pledging, transferring or auctioning the shares of a financial institution by its major shareholder or controlling shareholder, the Opinions strengthen the duty to both inform and report of the transferor and the financial institution, and specify that the transferee or bidder who intends to become a major shareholder or controlling shareholder of a financial institution shall satisfy the shareholder qualification for becoming a major shareholder or controlling shareholder.
II. Requiring Investment with Genuine and Legitimate Proprietary Funds
The Opinions explicitly require that a non-financial enterprise shall use its proprietary funds to invest in a financial institution, the source of funding shall be genuine and legitimate, and it shall not use any non-proprietary funds, such as entrusted funds, debt funds or “providing a loan disguised as an equity investment.” Additionally, the enterprise may not make any false capital contributions, repeated injections of capital with the same source of funding or illegally withdraw capitals. Finally, it may not become a major shareholder or controlling shareholder of a financial institution through buying wealth management funds, investment funds or other financial products.
In the meantime, the regulatory departments will look through the identities of the de facto controller and find the ultimate beneficiary owner of the financial institution, and will forbid any shares to be held by a party on behalf of another or with an affiliated relationship. It should be noted that recently, in a case concerning a dispute over the entrustment of an insurance company’s shares, the Supreme People’s Court ruled that holding shares in an insurance company on behalf of others violates the relevant regulatory rules, disrupts the financial administrative order and damages the public interest. In its holding, it invalidated the related share entrustment agreement, which reflects the current negative attitude of the judicial departments with respect to the activities of holding shares in financial institutions on behalf of others.
III. Perfecting Requirements for the Corporate Governance of the Financial Institutions
For the corporate governance of a financial institution invested by non-financial institution enterprise(s), the Opinions require that,
(i)no cross-shareholding is allowed between such enterprise and the financial institution controlled by it,
(ii)the decision making mechanism of the board of directors of the financial institution shall be intensified, so as to avoid the abuse of controlling power by the major shareholder or the de facto controller,
(iii)senior management personnel shall not concurrently hold positions in such enterprise and the financial institution invested or controlled by such enterprise,
(iv)any such enterprise becoming the controlling shareholder of a financial institution shall establish firewalls for the non-financial and financial businesses in respect of legal personhood, funding, finance, trading, information and staff, and shall effectively regulate the relevant activities, including business transactions, joint marketing, information sharing and business facilities jointly used between the staff responsible for the two lines of business,
(v)in case any risks are exposed, any such enterprise becoming the controlling shareholder of a financial institution shall undertake the relevant duties and responsibilities, and proactively cooperate to deal with the risks.
IV. Strengthening Regulations for Related-Party Transactions
To prevent risk any transfer or illegal interest transfer via related party transactions between a non-financial institution enterprise and the financial institution in which it invests, the Opinions provide strict regulatory requirements thereon.
For a non-financial enterprise shareholder, prior to becoming a major shareholder or controlling shareholder of a financial institution, it shall submit to the financial regulatory department a letter of undertaking, representing that there is no related party relation between it and any other shareholder (except for a disclosed related party) and undertaking not to conduct any related party transaction that could be deemed improper.
For the financial institution, it shall establish effective management policies for related party transactions, accurately identify the affiliated parties, and shall, in accordance with the principles of regulation by look-through, list its major shareholders (and their controlling shareholders), de facto controller, affiliated parties, parties acting in concert and ultimate beneficiary owner under the management regime for affiliation.
Additionally, the Opinions also specify that, in light of the principle of “new-old cut”, any new investment in a financial institution by a non-financial enterprise shall be proceeded in strict compliance with the Opinions, while no retrospective effect will be placed on any investment that occurred before the Opinions were issued, with the exception that those non-financial enterprises using non-proprietary funds to contribute capitals or making investments through improper related party transactions shall be strictly regulated. In the meantime, for any unqualified non-financial enterprises that should be forced to exit from their investments in financial institutions, they should proactively and properly exit through a “method determined by the market” (which means an exit not through a takeover ordered by the regulator but by an agreement concluded through commercial negotiations). We anticipate that CBIRC and CSRC will, according to the Opinions, further elaborate upon the requirements for non-financial enterprises to invest in financial institutions, and it is advised to keep close attention to the subsequent amendments to regulations and their implementation.
For further information, please contact:
Natasha (Qing) Xie, Partner, Jun He
xieq@junhe.com
