Do Auctions Matter? Assessing the Chinese Auction Promotion Institution of Takeover Law

• Author: Charlie Xiaochuan Weng
• Pages: 50-83

49

DO AUCTIONS MATTER?

ASSESSING THE CHINESE AUCTION PROMOTION

INSTITUTION OF TAKEOVER LAW

Charlie Xiaochuan Weng*

Table of Contents

I. INTRODUCTION................................................................................50

II. THE THEORIES OFTAKEOVER AND TAKEOVER LAW...................54

A. Why do we launch takeovers?............................................ 55

B. Why Auctions?....................................................................57

III. REALITIES OFTAKEOVER MARKETS AND LAW: AN

EMPIRICAL PERSPECTIVE..........................................................59

A. The market: An absolute controlling shareholder and

actual controller dominant market.....................................59

B. Features of the block holders: less influential state

owners and various controlling shareholders’

idiosyncratic utilities......................................................... 63

C. Takeover auction institution and stiffened takeover

market................................................................................66

IV. AUCTION PROMOTION INSTITUTION: EXCESSIVE OR

INSUFFICIENT?..........................................................................70

A. Paralyzed Open Market Takeovers and the Excessive

Nature of the Auction Rule............................................... 70

B. Towards a Better Institution................................................73

V. CONCLUSION................................................................................. 77

* Associate Professor, University of New South Wales Faculty of Law; former Oriental Scholar Chair

Professor of Law at Shanghai Jiao Tong University.

50

TSINGHUA CHINA LAW REVIEW [Vol.10:49

DO AUCTIONS MATTER?

ASSESSING THE CHINESE AUCTION PROMOTION

INSTITUTION OF TAKEOVER LAW

Charlie Xiaochuan Weng

Abstract

This research examines the traditional wisdom of takeovers and

relevant regulations. Generally, takeovers have a value adding

effect, but need to be regulated in order to curb excesses. Auction

promotion rules are efficient in maximizing social wealth and

reducing non-value maximizing takeover deals when shareholders

are confronted with a coercive offer. China has adopted such a rule.

However, the application of the rule is far from satisfaction. The

rule is not only ineffective in terms of its application ratio, but also

reinforces controlling shareholders’ powers, which makes minority

shareholders more vulnerable to controlling shareholders’

expropriation.

This research first conducts an empirical study on Chinese

shareholder distribution in listed firms. Based on these up-to-date

results, this article then analyzes, from an agency problem

perspective, the utilities of different types of controlling

shareholders in the market. This paper concludes that the current

auction promotion rule, namely the “5% rule,” is not efficient in

light of the common Chinese ownership structure. An ex ante

announcement institution is suggested in order to compensate for the

defaulting functions due to the deactivation of the rule. Finally, this

paper introduces an opt-in legislation mode for the minority

companies with dispersed shareholder distributions.

I. INTRODUCTION

Takeovers is a quintessential corporate law topic that attracts

attention from both academics and professionals in industry.

Voluminous legal and economic literature focus on finding an

optimal takeover law model.1

The discussion on the best takeover

institution became heated when the takeover market was booming.2

Market dynamics significantly influence the design of takeover

1

See, e.g., Roberta Romano, Competition for Corporate Charters and the Lesson of Takeover Statutes,

61 FORDHAM L. REV. 843 (1993) (talking about the dynamics of takeover of law and political economy

in the United States).

2

Take US academia as an example. In 1980s and 1990s, takeover law research was the major

discussion field for the most important corporate scholars. See, e.g., Frank Easterbrook & Daniel

Fischel, Auctions and Sunk Costs in Tender Offers, 35 STAN. L. REV. 1 (1982); Ronald J. Gilson,

Seeking Competitive Bids Versus Pure Passivity in Tender Offer Defense. 35 STAN. L. REV. 51 (1982);

Lucian Bebchuk, The Case for Facilitating Tender Offers, 95 HARV. L. REV. 1028 (1982); Roberta

Romano, A Guide to Takeovers: Theory, Evidence and Regulation, 9 YALE J. ON REG. 119 (1992).

2017] DO AUCTIONS MATTER?

51

institution. Although Professors Hansmann and Kraakman did

conclude that corporate laws in different jurisdictions share many

similarities,3takeover law is probably an inevitable exception.4

Understanding the differences across jurisdictions entails extensive

and detailed research on political interests, ownership structures and

law enforcement, all of which may explain the diversity.5

The general purpose of takeover law is almost amorphous. Even

if shareholder protection serves as a broad explanation, there exist

fierce debates as to which group of shareholders should be protected:

those of the bidders or those of the targets?6

The starting point of the debate is how to maximize social

wealth.7To be sure, the institutional avenues for maximizing social

wealth through takeover vary, given the fact that corporate law in

most cases maximizes social wealth through minimizing the costs

incurred by agency problems, which differs from country to country

because of diverse ownership structures.8Despite this institutional

diversity, it seems that maximizing social wealth should be one of

the main legislative purposes of takeover law.9National interests (or

political interests under the cover of public interests), being protected

through administrative takeover review, tax law, or antitrust law, also

cannot be neglected. In order to achieve the aforesaid purposes,

legislatures in different jurisdictions need to stipulate takeover

regulations in light of specific national conditions.

It has been two decades since the first national stock exchange

was established in China10 and the landscape of the Chinese capital

market has changed significantly since.11 In the first decade after the

establishment, state owners were almost omnipresent among listed

3

Henry Hansmann & Reinier Kraakman, The End of History for Corporate Law, 89 GEO. L.J. 441

(2001).

4

See David Skeel & John Armour, Who Writes the Rules for Hostile Takeovers, and Why? The Peculiar

Divergence of US and UK Takeover Regulation, 95 GEO L.J. 1727 (2007).

5

For some considerations of precaution in unifying takeover laws are mentioned by Roberta Romano,

supra note 2, at 121–22.

6

See, e.g.,Lucian Bebchuk, The Case for Facilitating Tender Offers, 95 HARV. L. REV. 1028, 1034

(1982).

7

Gilson, supra note 2.

8

See, e.g.,REINIER KRAAKMAN ET AL., THE ANATOMY OF CORPORATE LAW: A COMPARATIVE AND

FUNCTIONAL APPROACH (2009).

9

Except for the channel effect takeover invites (channel tax benefits to corporate gains), takeover

generally promotes social wealth. See, e.g.,Bebchuk,su pran ote2 , at 26.

10

For details on the establishment of both exchanges, see,e.g.,PENG BING (彭 冰 ), ZHONGGUO

ZHENGQUAN FAXUE (中国证券法学) [CHINESE SECURITIES LAW] (2d ed. 2007); see also YUAN JIAN

(袁剑 ), ZHONGGUO ZHENGQUAN SHICHANG PIPAN (中国证券市场批判) [CRITICISM ON CHINA’S

CAPITAL MARKET] (2004).

11

Id.; See also Charlie Xiaochuan Weng, Chinese Shareholder Protection and the Influence of the US

Law: the Idiosyncratic Economic Realities and Mismatched Agency Problem Solutions, 40 SEC. REG.

L.J. 401 (2013) (mentioned the ownership structurea ndits history).