From Wall Street to Home – The shift in Chinese Take-Private Deals

Introduction

Geopolitical tensions between the US and China have had a profound and multifaceted impact on investor sentiment on the long-term prospects of US listed Chinese companies. As a result, a number of Chinese-operated Cayman Islands public companies listed on major securities exchanges such as the New York Stock Exchange (“NYSE”) and NASDAQ have experienced volatility in the prices of their public traded securities. The introduction of legislation such as the Holding Foreign Companies Accountable Act in the US, which threatens to delist companies that do not comply with US audit requirements, has created significant uncertainty. Simultaneously, Chinese authorities have imposed their own restrictions on overseas listings and data security, further complicating the regulatory landscape.

This dual layer of uncertainty has led to a reassessment by many Chinese companies of the benefits and risks associated with maintaining a US listing. Since 2020, several US listed Chinese companies such as Alibaba and JD.com have completed a dual primary or secondary listing closer to home on the Hong Kong Stock Exchange, and more companies may consider this approach. However, in certain instances and for companies which are not able to complete a dual primary or second listing, the founders and management of public companies may consider a privatisation or “take-private” deal, whereby the company is taken private by becoming a private Cayman Islands company and, as a result, delists from these US securities exchanges. Since 2020, over 30 Chinese public companies have been privatised and delisted from US securities exchanges.

Privatisation process

Typically, on these deals, the founders and management may partner with private equity firms and institutional investors, usually with the support of financing institutions such as the investment arms of major Chinese and Western banks, to provide a proposal to the relevant company’s shareholders and holders of publicly traded securities such as American Depositary Receipts (“ADRs”), whereby such shares/ADRs will be cancelled in exchange for cash, with the bidders becoming the owners of the delisted private company. Given the interests of the founders and management, a special committee comprising disinterested members of the company’s board is formed to negotiate the deal with the bidder group on an arm’s length basis.

Cayman Mergers

These transactions are generally structured through a Cayman Islands merger under the statutory merger regime of the Cayman Islands Companies Act, which provides a mechanism whereby the publicly listed Cayman Islands company merges with another Cayman Islands company specially incorporated for this purpose (often referred to as a “merger sub”), to act as a subsidiary of a holding company that is wholly owned by the bidders. Once the merger is completed, the Cayman Islands company and the merger sub become the same legal entity with the former deemed to survive and the latter killed off. The effect is that the bidders’ holding company ends up as the sole shareholder of the surviving Cayman Islands company, which continues to hold all the assets and liabilities of the once listed public company business. Once the company is taken private, the founders and management can seek to position the business to generate further value and to implement strategies to potentially monetise their investment with a material uplift at a later date, perhaps via a future listing in China, where the value of the business (and the potential returns) may be significantly greater, or through a potential future M&A buyout or trade sale.

Dissenting shareholders

If the deal is approved by a special resolution (usually not less than two-thirds) of the company’s shareholders voting at a shareholder meeting, then the transaction will go ahead and shareholders who disagree with the terms of the deal cannot block the deal from proceeding. However, the Cayman Islands merger regime permits shareholders who dissent from a merger and who wish to challenge the price being offered for their shares to undergo a compulsory negotiation process with the company to agree a fair value for their shares. If the company and the dissenting shareholders are unable to agree on the fair value within a prescribed timeframe, the dissenting shareholders can apply to the Cayman Islands Court seeking a determination of the fair value of their shares. This is a significant area of litigation in the Cayman Islands with the Cayman Islands Court hearing a number of cases relating to fair value with varying valuation methodologies being adopted to determine fair value. These cases include Re Integra Group [2016] 1 CILR 192, in the Matter of Shanda Games Limited [2017] CIGC J0425-1, in the Matter of Qunar Cayman Islands Ltd, 2019 (1) CILR 611, in the Matter of Nord Anglia Education, 2018 (1) CILR 164 in the matter of Trina Solar Limited [2020] CIGC J0923-1 and in the matter of iKang Healthcare Group, Inc. KY 2023 GC 73. In each of these cases, the Cayman Islands Court determined that the fair value payable to the dissenting shareholders was higher than the price offered in the privatisation deal, although the amount of “premium” awarded by the court has varied considerably from case to case.

Schemes of arrangement

An alternative method under the Cayman Islands Companies Act that does not include the dissenting shareholder regime is a scheme of arrangement, which effectively is a court supervised M&A process. The advantage of a scheme over a merger transaction is that the former does not allow dissenting shareholders to litigate about the consideration offered for their shares. This method can provide certainty in that respect, however, the downside is that interested parties, such as the bidder and its affiliates, are not able to vote in favour of the scheme (unlike Cayman Islands mergers), which requires a majority in number and 75% of the shareholders present and voting in favour of the deal to get it over the line, which can potentially be quite difficult to obtain (depending on the shareholder spread of the company involved).

Certainly, at present, it appears that most Chinese-operated Cayman Islands companies listed on the US securities exchanges are still willing to proceed with the merger route for take-private deals and we expect to see a trend of more take-private transactions in the short to medium term as more US-listed Chinese companies face potential regulatory crackdowns and the possibility of forced delisting.

For more details, please contact your usual Maples Group contact or one of the contacts listed in this update.