Teaching U.S. Mergers & Acquisitions Law at Renmin University
by Jie SHEN, a practicing attorney in New York

In late spring of this year, I took a trip to Beijing to teach a three-week course at Renmin University (Ren Da). This exciting teaching trip was sponsored by the Overseas Young Chinese Forum (OYCF) who has previously established a teaching program with the China Civil and Commercial Law Research Center at Ren Da Law School with fundings from the U.S.-China Legal Cooperation Fund and the East Asian Legal Studies Program at Harvard Law School. Under this joint program, practicing attorneys based in the U.S. were arranged to teach short courses on U.S. securities or corporations law to the students of Ren Da Law School. My teaching trip was the fourth and the last installment of the program. (For more information about the program, please visit http://www.oycf.org/Teach/RenDa.htm.)

The Subject

The course that I taught surveyed U.S. laws on mergers and acquisitions (M&A). The choice of such subject was a result of balancing several factors. M&A is relatively new to China. M&A of business enterprises in PRC did not emerge until mid-1980s. The M&A transactions of this period, although in large numbers, were mostly orchestrated by the government in response to the changing environment brought about by the economic reform. These M&A transactions were not market-based and the economic interests of the parties participating in the transactions very often took a second seat to the interests of the parochial government. The governmental intervention of the time was to a large extent aimed at protecting certain poorly performing state owned enterprises, but frequently at the expense of the ones that were well-run.

This situation started to change with the advent of the Chinese stock market. Development of the stock market created a new source of capital for many Chinese enterprises, and in the meantime, it also made it possible for certain listed companies to be taken over in hostile transactions. In 1993, the first hostile takeover occurred in the history of the People's Republic, whereby a Shenzhen listed company acquired the control of a Shanghai listed company and caused a sizable commotion. This transaction forestalled the dawn of a new era in Chinese M&A history. Gradually, it has become an accepted idea that M&A transactions based on principles of market economy are effective and efficient means for creating competitive enterprises and for optimizing industrial structures.

Much effort has been spent by the Chinese government to create an open but orderly, free but fair market environment for M&A transactions. Unfortunately, many roadblocks still exist, the most prominent one being the lack of a working legal framework. This deficiency has caused much uncertainty as it puts the legality of many M&A transactions in question. Moreover, the lack of effective governmental supervision under the law also gave rise to a large number of fraudulent M&A transactions.

The U.S., on the other hand, has experienced a century of M&A activities. It has a developed but also constantly evolving body of law that regulates many aspects of M&A transactions. A Chinese regulator may learn much from the successes and follies of the U.S. experience. As such, teaching U.S. M&A law at Ren Da Law School appears to be a good choice, as many students there have an interest in pursuing a career in public service. Of course, for students interested in academia or private practice, hopefully such a course can also serve as a good introduction to U.S. M&A law.

The Preparation

Most of the class materials were prepared in the first five months of this year.

The reading materials for the course were primarily composed of statutes and case laws. The statutes consist of pertinent provisions of the Securities Exchange Act of 1934 (the "Exchange Act") and the Delaware General Corporation Law. Given the common law tradition in the U.S., case laws are important components of the U.S. M&A. jurisprudence. As such, a number of cases both from the U.S. Federal Circuit Courts and Delaware Supreme Courts were included in the reading materials. In addition, several newspaper articles were provided as a backdrop to certain topics.

Lastly, I would like to share another point pertaining to the class materials. As we all know, class participation is extremely important for a course as complex as M&A laws. However, given the time constraint, everything must be taught at double speed. Students would have a hard time participating in the discussion if they were absorbed in taking notes. As such, I thought it would be useful to develop a very detailed syllabus, which could serve as an outline for the class and reduce the students' burden in taking notes. This idea was proven to be a good one as class participation went beyond my expectations.

The School

The law school at Ren Da is among the nation's elites. It is known for its offerings in administrative laws, civil laws and commercial laws. The professors at this fine institution, as well as its graduates, have historically had significant influence in developing China's legal system.

The coordinators of the class were Mr. Cheng Xiao and Mr. Zhou Youjun. Mr. Cheng is a doctorate candidate and Mr. Zhou is a master degree candidate at Ren Da, each being a mentee of Professor. Wang Liming, the prominent drafter of China's Contract Law. I would like to take this opportunity to thank Professor Wang, Mr. Cheng and Mr. Zhou for their help and hospitality without which the class would not have gone so smoothly.

With the help of Mr. Cheng and Mr. Zhou, the classes were scheduled on Wednesday, Thursday and Friday of each week. Wednesday's class was scheduled at night while the classes on Thursday and Friday were scheduled in the morning. My experience showed that the evening classes were usually better participated than the morning ones. I suspected, and later confirmed, that more students had conflicts in the morning than in the evening, as most of the University's classes were scheduled in the day time as opposed to in the evening.

The Course

The course covered seven main topics: (i) History and Theories of M&A, (ii) Corporate M&A: Players, Mechanics, and Sources of Law, (iii) Williams Act and Tender Offer, (iv) Proxy Rules and Proxy Fights, (v) Antitrust and Merger Control, (vi) Directors' Fiduciary Duties in M&A, and (vii) Anti-takeover Defenses.

In the first class, two hypothetical M&A cases were used to introduce some basic theories of corporate finance underlying M&A transactions. In the first hypothetical, the balance sheet of a U.S. listed Chinese company was analyzed to explain how value was created in a typical leveraged buyout transaction. This discussion was followed by a second hypothetical case based on an investigative report. This hypothetical explained how unscrupulous businessperson may exploit the immature Chinese stock market to make illegal profit by manipulating the effective control and stock prices of certain acquisition targets. The purpose of these two hypotheticals were to raise the students' interest in the subject while buttressing the view that a properly established legal framework is needed to promote economically efficient M&A transactions and deter the ones that are detrimental to the economy.

After the hypotheticals, the history of M&A in the U.S. was reviewed. This historical review went back as far as the end of the nineteenth century, when the robber barons started to merge their firms to exploit the power of monopoly, and it spanned the entire twentieth century to end at the explosive growth of M&A transactions in the second half of the last decade and the fallout therefrom that started in the new millennium. The characteristics of the merger waves that occurred at various periods were discussed with a focus on the dynamic interactions between the deals and the corresponding laws of the time.

The motives and theories behind each merger wave were presented next. A number of schools of thoughts and pragmatic justifications were presented as even-handedly as possible. I was careful not to make any value judgment as to the merits of these theories. This was due to the fact that empirical studies to date have not been able to satisfactorily validate any of these theories. For instance, many of the U.S. companies that had historically embraced the enshrined theory of "growth by acquisition" have recently failed or are in deep trouble. In addition, even a time-proven theory concerning the U.S. market may have only limited applicability in China. Therefore, the determination as to whether certain M&A motives or theories were valid was probably less important than a thoughtful introduction and discussion on the relative strengths and weaknesses of various theories. At the end of the class, the students were led to debate whether the Chinese economy at its current stage needs M&A and what school of M&A motives and theories should China encourage. The students were confronted with a series of questions and were challenged to come up with their own answers.

The introduction to M&A continued into the third class of the first week. The content of the class had by that time become focused on the legal aspects of M&A. The class covered the sources of law that govern M&A transactions at both the federal and state levels. In such context, various potential structures of an M&A transaction were introduced. The considerations going into the decision on choosing one structure over another were also discussed. It was emphasized that a decision maker must be mindful of the various players in an M&A transaction, including the board of directors, the senior management, the Wall Street, the employees and their unions, the government and lastly but most importantly, the shareholders. Also briefly covered in the third day of classes was the merchant banking transactions and their development in the U.S.

Given the nature of their contents, the first three classes were mostly conducted through my lecturing, with sporadic clarifying questions from the students. Thereafter, class participation markedly increased when the course moved on to discuss the Williams Act. Since the Williams Act was a familiar topic to the students, many have their own views on the subject. The students frequently interjected my presentation to offer their opinions. Additionally, they were also active in providing me with information on the Chinese counterpart of the Williams Act. From the students, I learned that the Chinese Securities Law also imposes disclosure requirements that are similar to the Section 13(d) duties required under the Williams Act. I also learned that while the U.S. Court has adopted the concepts of "beneficial ownership" and "group" to prevent activities aimed at circumventing the Section 13(d) duties by acquiring stocks through affiliated persons or through tacit contractual arrangements, the Chinese law had also employed a similar concept of "acting in concert" to combat the same type of actions.

As another part of the discussion, the class also debated whether it is a sound policy to transplant the Williams Act into the Chinese Securities Laws. Historically, the Williams Act has, in combination with certain Delaware court decisions, served its purpose well by effectively deterring corporate raiders from launching surprise attacks on public companies. The actual filings required by the Williams Act, however, are quite onerous. Because of the onerous disclosure requirements and the effective deterrence noted above, public market purchase has become a less favored means for acquisition of public companies. Today, acquisitions of public companies in the U.S. are mostly done through mergers or tender offers. China, in contrast, does not yet enjoy the luxury of these other options for acquisitions of public corporations. Open market purchase is still the predominant method for acquisition of a listed company's stock. The subsequent disclosure requirements under the Chinese version of the Williams Act thus appear to be quite draconian as it significantly hinders the stock purchase process by requiring the purchaser to make a public filing every time he acquires two percent more stocks in the target. The class discussion then reached the conclusion that the disclosure requirements under Section 13(d) of the Williams Act were outdated and importing such rules into the Chinese Securities Law may not have been a wise decision.

Another topic under the Williams Act, the tender offer rules, was also thoroughly discussed. The discussion of tender offer rules focused on how Section 14 of the Exchange Act and Regulation M-A solved the problem of "prisoners' dilemma," whereby a two-step-front-loaded offer would coerce the shareholders into tendering their stock. The discussion explained the various techniques employed by the U.S. Securities and Exchange Commission to allow an efficient tender offer to succeed while protecting the interests of the shareholders.

The next major topic was proxy solicitations and proxy contests, whereby potential acquirers actively solicit the votes of target companies' shareholders to replace the directors of the target and, in combination with a tender offer, acquires control of the target. The Exchange Act rules governing proxy solicitations and proxy contests were introduced to demonstrate the procedures implemented to ensure a fair process and to allow the shareholders to submit their votes on an informed basis in a proxy contest. During the class discussion, the students told me that proxy contest was not a common phenomenon in China. Control interests in most listed Chinese companies are usually represented by voting blocks composed of non-traded Legal Person Shares and State Owned Shares, both of which are usually concentrated in the hands of certain government or quasi-government agencies. Proxy solicitation is thus useless in these situations. The only possible application of proxy contest is in the rare situation where the target is a so-called "fully listed company," in which there is no Legal Person Shares or State Owned Shares. Even in this case, a proxy solicitation is not necessary because the shares of such company are usually widely dissipated in the hands of individual shareholders (Chinese Securities Law prohibit individuals from owning more than half a percent of a listed company's shares), and individual shareholders are not inclined to participate in shareholder meetings and vote their shares. In this case, an acquirer may obtain control of the target company with relatively low share holdings and such acquirer usually would not need the support of the other shareholders. As such, a proxy solicitation is not necessary.

While I was in China, I learned that merger controls based on anti-monopoly concerns was an item high on the agenda of Chinese regulators. The topic on antitrust and merger controls in the U.S. seemed to be quite timely in such a context. This topic was jointly taught by a guest speaker, Dr. Ma Dongjun, and myself. Dr. Ma is a seasoned economist with a Ph.D. degree in economics from Northwestern University. At the time of the class, he was employed by the Brattle Group, a firm specialized in antitrust consulting. Dr. Ma is now a senior banker with the Bank of China International. Dr. Ma did an excellent job covering the substantive issues of the antitrust regulation. His presentation explained the laws based on which the Antitrust Division of the U.S. Department of Justice and the U.S. Federal Trade Commission would determine whether an M&A transaction may result in monopoly or illegal concentration of market power. I, on the other hand, reviewed the procedural issues under the Hart-Scott-Rodino Antitrust Improvement Act of 1976 ("HSR"). Both of us examined the process of an HSR review and the impact of such process on the dynamics of M&A transactions.

As one of the last topics of the course, various structural anti-takeover defenses available to the existing board of directors of a target company were briefly introduced. Although it was anticipated that the takeover defenses with eye-catching terms such as "Shark Repellents" and "Poison Pills" were bound to draw a great deal of interests, I decided that it was better to use the class time for the more important topic of directors' fiduciary duties under the Delaware General Corporation Law. Under this broad topic, we examined the "business judgment rule," pursuant to which a Delaware court would defer to the decisions of the board when the Court is satisfied that the board's decision was made on an informed basis. Also covered was the more onerous "entire fairness rule," under which the Court would take a fresh look at the price and other items of a transaction when the directors in a self -dealing situation would receive certain benefits in the transaction that are not available to the other shareholders of the Company. Finally, it was introduced that in the context an M&A transaction, a Delaware court would apply the "rule of enhanced scrutiny" to ensure that the shareholders receive fair compensations for the control premiums that would forever lost after certain types of transactions. These doctrines relating to directors' fiduciary duties were embedded in a number of Delaware court cases. Instead of covering all of these cases in one class, they were taught in a piecemeal fashion throughout the second half of the course. I found spreading the cases out to a number of classes preferable as it gave the students time to comprehend the cases after class and thus enable them to follow the court's line of reasoning. It also enabled me to teach these cases using the Socratic Method. During each such class, one or two students would give presentations regarding their case assignments. Then, through questions and answers between me and the students, the facts, holdings and reasoning of the cases were demonstrated. At the end, I would summarize the doctrines for the students.

The Students

All of the students participating in my class were at the graduate level. Most of the students were master degree candidates, except for a few Ph.D. candidates. Most of the students were law students, while certain others majored in economics or business administration.

Throughout my three-week class, I was constantly impressed by the students' smarts and hard work. At the end of my course, I thought the students' comprehension of the subject was at least as good as mine when I was a law student in the U.S., if not better. This was evidenced by the lively class participation that started since the second week of the class. The fact that they were able to achieve such a level of understanding in a three-week course does tell me something about the quality of the students at Ren Da.

Epilogue

Based on my experience of this teaching trip, I found OYCF's teaching program to be a valuable project. My class did bring new ideas and new knowledge to students at Ren DA. At the same time, I myself also learned a great deal about China's M&A laws. The entire process amounted to a two-way exchange of ideas, which I believe is one primary purpose of OYCF.

(The author is a practicing attorney in New York)