Large-scale cross-border corporate asset divestiture (Carve out) projects usually involve complex legal issues and may involve clients selling specific assets and operations worldwide. These assets and operations can span multiple jurisdictions, including mainland China. During the process, the client usually opts for a competitive bidding (Auction) model to sell the assets, inviting bids from potential buyers. Here, I outline the process and key insights from a legal perspective for such projects at different stages of the transaction.
Cross-border corporate asset divestitures often employ the Auction model. In contrast to bilateral negotiations between buyer and seller driving the M&A process forward, the Auction model gives the seller strong control over the process. The seller may hire intermediaries to provide professional services, assist in due diligence report preparation, open a virtual data room for potential buyers, and prepare the restructuring agreement drafted by the seller, and other transaction documents. After multiple rounds of bidding, the seller selects a buyer for bilateral negotiations and the transaction.
Different from the typical responsibilities of legal advisors representing buyers, as a legal advisor for the seller, the team usually assisted in managing the due diligence process, organizing disclosed documents, handling virtual databases, and assisting the seller in responding to questions during the Q&A phase. The legal team will also help prepare general and specific disclosure clauses in transaction documents.
2. Legal Due Diligence
In the Auction model, the seller provides a Vendor Due Diligence Report (VDD Report) to potential buyers. Depending on the assets and operations for sale, the VDD Report may include business, financial, environmental, legal, insurance, and tax due diligence reports.
Legal due diligence and report writing are core responsibilities for Chinese lawyers in such projects. The leading counsel in the project provides a template Vendor Due Diligence Report to lawyers in different jurisdictions involved in the project. This template generally includes an Introduction, Executive Summary, Main Body, and various annexes. Legal due diligence reports internationally are often risk-focused (Red Flag Report), differing in format, structure, and expression from comprehensive due diligence reports commonly prepared by Chinese lawyers.
Before starting due diligence, Chinese lawyers need to work with the leading counsel to define the scope of legal due diligence (Indicative Global Scope of Work). The scope may cover corporate information, transactions, financing, commercial arrangements, real estate, intellectual property, employment and pensions, litigation, information technology, data protection, regulatory matters, environmental health and safety, anti-bribery, and economic sanctions. Once the scope is defined, Chinese lawyers can prepare an Information Request List (IRL).
Prior to or after project initiation, Chinese lawyers should proactively communicate with the leading counsel to confirm the entities/businesses requiring due diligence. Although Chinese lawyers may receive preliminary project documents, such as the Separation Blueprint and Assets Summary, it is challenging to precisely identify specific Chinese assets and operations at the early stages. This process becomes a discovery phase for Chinese lawyers. They can provide recommendations based on their findings, and the leading counsel may notify them of additional entities and businesses for due diligence based on ongoing communication with the client.
In our experience, it's advisable to prepare the IRL in both English and Chinese because it will be sent to local employees of the companies providing information. Personnel not familiar with the required information in English may delay the review process. Additionally, as mentioned earlier, a crucial task for legal advisors for the seller is assisting in preparing disclosure documents for the virtual database. Due to communication and efficiency issues arising from multiple participants, several rounds of IRL collection and confirmation reflecting all necessary legal documents for Chinese assets and operations may be required. During this process, the seller's project team may face resistance due to the extensive list of documents, and lawyers need to communicate effectively, ensuring that the requests are reasonable and necessary.
Legal due diligence report for the seller differs from that for the buyer in the following aspects:
1. As the seller voluntarily discloses the Vendor Due Diligence Report to potential buyers, allowing them to make non-binding offers (first-round and subsequent offers) in a limited due diligence scenario, the report for the seller can provide more descriptive content about the company's basic information and related assets.
2. When writing the seller's due diligence report, legal advisors should be cautious in drafting legal advice sections. Unlike the buyer's due diligence report, where many suggestions revolve around setting representations and warranties in the transaction documents, the seller's due diligence report, at the initial stage, mainly suggests providing additional information and clarifications. Suggestions may include providing further documentation and explanations, advising on rectifying defects, such as expired licenses that need prompt renewal, and offering recommendations regarding the separation of assets or contracts.
3. The seller's due diligence report is divided into two versions: one for the seller's internal review and one for disclosure to potential buyers. The latter removes legal advisor suggestions provided to the seller and adjusts the wording from the perspective of potential buyers.
3. Maintenance of Virtual Database Materials
After project initiation, the seller grants access to the virtual data room (VDR) to several members of the Chinese legal team. Since the Chinese legal team needs to frequently login to review and download regularly updated company documents, it is recommended to grant VDR access to partners, lead lawyers, and supporting lawyers. International M&A project VDR operators provide increasingly advanced online services, facilitating Chinese lawyers in reviewing and downloading the required documents. For instance, if a document is updated in the VDR, lawyers with access receive email notifications, allowing them to promptly review the new documents.
Unlike the buyer's due diligence, in assisting the seller in a cross-border corporate asset divestiture project using the Auction model, Chinese counterparts also needs to assist in managing the files in the virtual database. Many documents related to Chinese assets are in Chinese, and in many foreign-operated virtual databases, Chinese-named files may return an error after uploading. Therefore, Chinese counterparts need to assist in renaming files in English (Renaming). Additionally, before opening the database to potential buyers, the seller requires sensitive information (such as personal information, prices, and counterparty details) in the documents to be redacted. While this work may be tedious, it is essential in competitive bidding mode M&A projects.
Chinese legal team must retain original scans of all legal documents related to Chinese assets before redaction. As the transaction progresses, the virtual database may only have redacted files available for download. However, Chinese lawyers may need to refer to the original scans periodically for further advisory suggestions or to assist the client in handling the divestiture of Chinese assets and operations.
4. General and Specific Disclosure Clauses in Transaction Documents
During the drafting stage of transaction documents, Chinese lawyers participate in drafting general disclosures and specific disclosures related to Chinese legal due diligence findings. At this point, Chinese lawyers need to accurately disclose legal risks and defects based on the discoveries made in the final legal due diligence report. Generally, once risks and defects are disclosed in the transaction documents, the buyer cannot later claim damages against the seller for the
5. Asset and Contract Divestiture in Delivery Work
For assets and operations intended for sale in numerous jurisdictions, the seller typically injects these assets and operations into a group company set up for the sale. Then, the seller achieves the sale of all specific assets and operations by transacting the equity of the top-level holding company of this group company in an overseas transaction.
In the delivery phase, dealing with locally applicable laws becomes crucial. At this stage, the Chinese legal team will assist the client in completing a significant amount of work related to the divestiture of assets and contracts. For instance, for items concerning leased properties, negotiations with landlords are necessary to change the lessee and resolve cost-sharing issues around the delivery date.
For business contracts, a review of termination, transfer, and change of control clauses is essential. Chinese counterparts need to notify the counterparty of their obligations or obtain their consent, sign relevant notices or consent letters, and re-sign business contracts or supplementary agreements in the name of the new counterparty.
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