European Commission may take into account revenues of Chinese SOEs not otherwise involved in a transaction, as it questions the independence of some Chinese SOEs.
Chinese State-Owned Enterprises (“Chinese SOEs”) planning to acquire interests in other businesses, particularly foreign businesses, need to prepare for the possibility that certain transactions that might appear on a preliminary view not to trigger a mandatory merger review in the European Union (“EU”)may indeed need to be notified (with potentially serious sanctions for non-notification). For those transactions that are notified, Chinese SOEs also need to prepare for the possibility of increased scrutiny by the European Commission during its merger review not only of the activities of the Chinese SOE involved in the transaction, but also of the business activities of all other Chinese SOEs operating in the same sector.
This follows a recent decision of the European Commission’s mergers unit involving China General Nuclear Power Corporation (“CGN”). The implications of this decision are potentially very significant for all Chinese SOEs involved in large scale M&A activity in terms of additional filing requirements. The decision also reiterates increased regulator focus on potential competition concerns taking all Chinese SOEs active in the relevant sector into account and the need to prepare for filings in advance more thoroughly in order to minimise the risk of delays during the European merger review process.
Details of the Decision
The European Commission recently published its decision of 10 March 2015 on the joint acquisition by Electricité de France S.A. (“EDF”) and CGN over a group of companies active in the nuclear energy sector (Case COMP/M.7850 – EDF/CGN/NNB Group of Companies).
The decision is the latest in a series of decisions that consider whether Chinese SOEs are independent of the Chinese State and by implication, whether they are independent of other Chinese SOEs.
For the first time in a published decision, the European Commission has concluded that CGN and all other Chinese SOEs active in the energy sector and supervised by China’s State-owned Assets Supervision and Administration Commission under the State Council (“Central SASAC”) should be treated as a single economic entity for merger control purposes because they do not have independent power of decision. The consequence of this is that the European Commission aggregated all of these Chinese SOEs’ activities in its merger assessment as if they formed a single economic group notwithstanding only CGN among them was a party to the transaction.
This allowed the European Commission to establish jurisdiction over a transaction which it could have otherwise not reviewed. This is because the European Commission can only review transactions if the parties concerned generate sufficient turnover in the EU. CGN did not meet this threshold alone, but by aggregating the turnover of other Chinese SOEs they together had sufficient turnover to satisfy the EU merger review thresholds.
The European Commission's Legal Framework Applied to Chinese SOEs
According to EU merger rules, public sector companies such as Chinese SOEs are considered an independent economic entity only if they have “independent power of decision” irrespective of how their capital is held or the rules of administrative supervision that apply to them. The question of independence is relevant for the purposes of both turnover calculation (i.e., to determine whether the EU turnover thresholds are met); and assessing whether a transaction gives rise to competition issues (i.e. to determine whether the transaction involves material overlaps between the parties – in this case, including other Chinese SOEs who were not parties to the transaction).
In applying these rules, the European Commission has considered two key criteria in assessing the question of independence, namely:
- does the Chinese SOE concerned determine its owns strategy, business plan and budget independently of the State? and
- does the State coordinate the commercial conduct of Chinese SOEs in the sector by facilitating coordination?
The European Commission's Assessment of Chinese SOE's Independence in EDF/CGN/NNB
The European Commission considered both whether CGN is independent from the Chinese State and the Chinese State’s ability to coordinate the commercial conduct of Chinese SOEs active in the energy sector.
Autonomy over Decisions on Strategy, Business Plan and Budget
CGN sought to rely on the Law of the People’s Republic of China on the State-Owned Assets of Enterprises (the “PRC SOE Law”) to assert its independence from Central SASAC and the Chinese State. The PRC SOE Law acknowledges the principle of separation of government bodies and enterprises and government bodies’ non-intervention in the business operations of Chinese SOEs. The European Commission dismissed this, finding that this was “very broad” and pointed to other provisions under the PRC SOE Law and the Interim Measures for the Supervision and Administration of the Investments by Central Enterprises to conclude that Central SASAC does indeed have influence over CGN’s major decisions.
In reaching this conclusion, the European Commission considered amongst others Central SASAC’s rights with respect to the appointment of senior management, annual performance reviews of management, annual investment plan reporting, entitlement to returns from assets and participation rights in strategic matters and supervisory rights. The European Commission also dismissed CGN’s evidence on the lack of interlocking directorships between Chinese SOEs in the energy sector and the existence of firewalls that preclude the exchange of sensitive information between Chinese SOEs in the same sector. The European Commission found that these factors “do not preclude Central SASAC from influencing CGN’s commercial strategy” in light of Central SASAC’s influence over CGN’s major decisions related to its business and senior management appointments and Central SASAC’s involvement in CGN’s strategic commercial behaviour.
Furthermore, the European Commission concluded that, within the energy sector, particularly the nuclear industry, the Chinese State via Central SASAC is able to require or facilitate coordination between Chinese SOEs. It pointed, among other factors, to the establishment of China Nuclear Industry Alliance by CGN and other Chinese companies, which a third party described as “directed by the Chinese government” as well as CGN internal documents on its procurement and investment strategies as evidence of Central SASAC’s ability to require or facilitate coordination in the energy sector.
Implications for Chinese SOEs in merger reviews
The approach adopted by the European Commission in the EDF/CGN/NNB decision has significant implications for Chinese SOE merger filing obligations as it means that, at least in the energy sector but potentially also in other sectors, even Chinese SOEs that have limited or no turnover in the EU need to consider potential merger filing requirements in the EU, if other Chinese SOEs in the same sector have material EU turnover.
In terms of its competition analysis, the European Commission also considered not only the overlaps between NNB and EDF/CGN, but also overlaps between NNB and the energy-related activities of other Chinese SOEs. While it concluded that it could leave open whether other Chinese SOEs supervised by local SASACs in the energy sector should be taken into account (since the turnovers of Chinese SOEs supervised by Central SASAC already met the EU turnover thresholds and the transaction raised no competition issues on either basis), it is clear that it could have taken them into account had competition concerns been raised in this case.
In previous cases involving Chinese SOEs, the European Commission has requested information on other Chinese SOEs active in the relevant sector but has never reached a conclusive view on whether it should take them into account (e.g., China National Bluestar/Elkem; DSM/Sinochem; PetroChina/Ineos/JV; CNRC/Pirelli; and CNCE/KM Group). In light of the EDF/CGN/NNB decision, it is expected that the European Commission will continue to raise this line of questions during its review, and request detailed information on other Chinese SOEs active in sectors related to the transaction. This will likely pose increased practical challenges for Chinese SOEs in future merger filings in the EU, since to the extent that these Chinese SOEs do compete with each other in reality, they will not have access to each other’s commercially sensitive information.
Notably, the European Commission also does not purport in the EDF/CGN/NNB decision to reach a definitive view on the independence of all Chinese SOEs from the Chinese State. Indeed, the European Commission notes that its decision is only “for the case at hand”. The European Commission’s legal framework requires case-by-case assessment of all relevant facts, including evidence provided by a Chinese SOE active in a sector outside the energy sector on its independence from the Chinese State.
Implications Outside of Merger Control
There are other important implications that arise from the assessment of whether or not Chinese SOEs are independent from the Chinese State under European law:
- Behavioural investigations involving the conduct of companies – To the extent that individual SOEs are not independent of the State and instead form a single economic entity with other Chinese SOEs, EU law prohibiting cartels and other agreements between independent undertakings does not apply to agreements between those Chinese SOEs, however harmful the agreement may be.
- Implications beyond antitrust – It remains to be seen whether other European regulators, including security regulators, may take a similar approach to the European Commission. If they do, it could prove difficult to persuade securities regulators that Chinese SOEs supervised at the central level are not concert parties and therefore their interests in listed companies should not be aggregated for disclosure purposes or triggering mandatory take-over bids.
- Commercial impact – Whether or not to consider additional Chinese SOEs when thinking about deal certainty can also impact contractual negotiations. By way of example, where additional Chinese SOEs operating in the same sector need to be taken into account, this may increase the risk of remedies. This in turn may lead to requests for more material break fees or “hell or high water” clauses to quantify and allocate these additional antitrust risks.
The EDF/CGN/NNB decision does not reach a conclusive view on the overall treatment of Chinese SOEs. A case-by-case analysis is required. Chinese SOEs should therefore be prepared to present robust and concrete evidence to support their independent status from the Chinese State and other Chinese SOEs to mitigate the risk of the European Commission taking an expansive approach in its jurisdictional and substantive assessment of the merger in question.
The question of the independence of Chinese SOEs can be expected to remain firmly on the European Commission’s agenda as Chinese SOEs continue to acquire assets abroad. Chinese SOEs, and as a result of this decision, in particular those active in the energy sector, need to be aware of this and be alert to the fact that the European Commission may assert jurisdiction on a transaction by aggregating the turnover of relevant Chinese SOEs in the same sector, and that it may request additional information on these Chinese SOEs to assess the competition effects of a transaction. Advance preparation can significantly limit the impact of such requests on the deal timetable as well as contractual negotiations.
The EDF/CGN/NNB decision also reiterates the importance of the evidential value of internal documents in merger investigation, as shown by the European Commissions’ reference to CGN’s internal documents as evidence to support its finding on the possibility of State coordination in the sector. This once again illustrates the importance of prudent document creation. Companies, including Chinese SOEs, need to make sure that all employees are fully aware that internal documents created may be disclosable to antitrust authorities in future M&A activities.