The previous article (part 1) provided a detailed analysis of the legal pathways and processes for mergers of state-owned enterprises (SOEs) under the new Company Law. This article delves into further key legal issues in the merger process.
Is it necessary for SOEs to hold a workers’ congress for mergers? Yes, SOEs must seek the opinions and suggestions of the workers’ congress on merger matters. Major issues affecting employees, from scheme design to employee placement, must be reviewed and approved by the workers’ congress.
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The legal basis for this includes: (1) article 18(3) of the new Company Law – “When a company decides on major issues such as restructuring and significant operational matters, it shall seek the opinions of the company’s trade union and listen to the opinions and suggestions of employees through the workers’ congress or other forms”; and (2) article 37 of the State-Owned Assets Law of the People’s Republic of China – “For major matters such as mergers, divisions, restructurings, dissolutions, and bankruptcy applications of state-funded enterprises, the opinions of the enterprise’s trade union shall be sought, and the opinions and suggestions of employees shall be heard through the workers’ congress or other forms.”
Does the absorbed party need to bear debt repayment responsibilities if it has not deregistered its business? In SOE mergers, the surviving company typically inherits the debts and claims of the merged entities, according to article 221 of the new Company Law. However, if the absorbed party fails to complete deregistration, determining whether it must bear debt repayment responsibilities requires further analysis.
According to article 33 of the Supreme People’s Court’s Provisions on Several Issues Concerning the Trial of Civil Dispute Cases Related to Enterprise Restructuring: “If the absorbed enterprise should have but has not completed deregistration, and creditors sue the absorbed enterprise, the court shall inform the creditors to add the responsible entity (the surviving or newly established company) and order the responsible entity to bear civil liability.”
This indicates that even if the absorbed party’s legal status is considered extinguished, if deregistration is not completed, the court may require creditors to target the absorbing company as the liable party, which will then assume the relevant debt responsibilities.
In judicial practice, the determination of whether the absorbing party bears joint liability for the debts of the absorbed company, due to the latter’s failure to deregister, often varies. However, recent case law trends and the Provisions on Several Issues Concerning the Handling of Civil Disputes Related to Corporate Restructuring show that courts tend to support the concept of substantive absorption.
This trend moves away from using mere business deregistration as the sole criterion and instead focuses on the transfer of substantive control over assets, business operations and personnel.
This approach is used to confirm the completion of the absorption merger and the associated joint debt repayment responsibilities, thereby reducing the risk to creditors’ rights and preventing both parties in the merger from maliciously delaying deregistration to evade debts.
Therefore, for parties involved in a corporate absorption merger, especially the surviving entities, it is crucial to develop a scientifically sound merger plan based on a thorough assessment of the absorbed company’s debt situation.
This approach aims to mitigate the debt repayment pressures on the surviving company due to the merger, ensure its operations continue smoothly, and guarantee a seamless merger process. Additionally, negotiating a reasonable plan to address the absorbed company’s debts before the merger is essential to prevent excessive financial burdens on the surviving entity that could impact its normal operations.
Even if the absorbed company is in the process of, but has not yet completed, business deregistration, if its main assets, qualifications, personnel and business have substantively transferred to the surviving company, creditors of the absorbed company may demand that the surviving entity assume joint liability for the debts.
Does the merger of a parent company with its wholly owned subsidiary qualify for special tax treatment for corporate restructuring? According to article 6 of the Notice of the Ministry of Finance and the State Administration of Taxation on Several Issues Concerning the Enterprise Income Tax Treatment of Corporate Restructurings: “In corporate mergers, shareholders must pay at least 85% of the total transaction amount for the equity acquired at the time of the merger. Mergers under the same control that do not involve a consideration can be processed according to the following stipulations: (1) The tax basis of the assets and liabilities received by the merging enterprise is determined by the original tax basis of the merged enterprise; (2) The relevant income tax matters of the merged enterprise before the merger are inherited by the merging enterprise; (3) The limit of losses of the merged enterprise that can be offset by the merging enterprise = the fair value of the net assets of the merged enterprise × the longest-term national bond interest rate issued by the state by the end of the year when the merger occurs; and (4) The tax basis of the equity obtained by the shareholders of the merged enterprise from merging enterprise is determined by the original tax basis of the equity held in the merged enterprise.”
Although the parent company no longer holds shares in the subsidiary following the merger, which formally contradicts the provision in article 5 of the notice prohibiting the transfer of acquired shares within 12 months, it still factually reaps the benefits from the assets of the former wholly owned subsidiary. This essentially meets the notice’s requirement for continuity of interest in corporate mergers.
This means that, even though the legal shareholding relationship no longer exists, the parent company’s control over and entitlement to the profits from the assets have not been interrupted. The merger is essentially a transfer of all assets of the subsidiary and objectively falls under mergers within the same control without payment of consideration, and should thus be subject to special tax provisions.
Zhang Dandan is a partner at DOCVIT Law Firm
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E-mail: zhangdandan@dtlawyers.com.cn
Merging SOEs under the new Company Law (part 1)
Under article 218 of the new Company Law, a merger by absorption is a legal form of company merger where two or more companies merge into one, with the remaining relevant companies dissolved.
