M&A is an effective channel for entering Vietnam’s markets

Overcoming Hurdles; Although there remain difficulties and restrictions, M&A is still an effective channel for entering Vietnam’s markets, according to Bui Ngoc Hong of Indochine Counsel.

Market overview and legal framework:

M&A activity in Vietnam has continued to grow this year as increasing numbers of foreign investors are attracted by the country’s sizeable, dynamic and youthful market. With a reported value of about US$1.75 billion from 345 deals in 2010, compared to US$1.1 billion and 295 deals in 2009, Vietnam has seen and is expecting to see more M&A deals this year, particularly in the areas of production, finance, banking and consumer goods.

To date, Vietnam has no single, comprehensive and unified M&A law. Instead, M&A rules are found scattered in different pieces of legislation, including the Law on Enterprises, Law on Investment, Law on Securities, Law on Competition, laws regulating specialised business sectors, and commitments made in international treaties. There are many issues which an investor, especially a foreign acquirer, should be aware of.

Viewing M&A as a form of investment:

Vietnam views M&A activities as investment forms, governed by the Investment Law. Unfortunately for a foreign acquirer, this means some M&A transactions, conducted by overseas investors, have to undergo very time-consuming procedures, and may even be subject to investment prohibition. In particular, Article 21 of the Investment Law stipulates that purchasing shares or contributing capital in order to participate in the management of investment activities of a company, and carrying out an M&A transaction are different forms of investment.

The consequences are that in an M&A transaction, when the acquirer is a foreign one, the acquisition is considered foreign investment. Under the law, investment procedures must undergo either registration or evaluation. While the registration procedure is quite simple and quick, evaluation is much more time-consuming and subject to the licensing authorities’ discretion on whether or not the investor meets the required investment criteria. Foreign investments in a number of sectors – particularly those restrictive to foreign investment – are, however, subject to the evaluation procedure.

Small foreign holdings:

In terms of foreign shareholding ratio, Vietnam restricts foreign investments in a number of business sectors. The restrictions are determined by a number of domestic laws and the country’s commitments to opening its market, made when acceding to the WTO. In retail, for example, the restriction on maximum foreign shareholding was removed in 2009. However, the retail market is still subject to, among others, conditions governing opening more than one outlet and the type of goods to be sold.

In a recent case, Mekophar Chemical Pharmaceutical Joint Stock Company (MKP), a large, listed pharmaceutical company was barred from selling pharmaceuticals after a portion of its shares were acquired by foreign investors. The reason behind the ruling is that, even with a foreign shareholding of just 4.7 percent, MKP is treated by the Ministry of Planning and Investment as a foreign invested company which is not permitted to conduct retailing of pharmaceuticals. Even a one percent foreign shareholding in a local company can make it a foreign invested one, and thus subject to all business restrictions applied to foreign invested companies. To save its pharmaceutical retail business line, MKP has to apply for de-listing to prevent foreign investors from acquiring further shares, so that MKP can then proceed to buy back its foreign owned shares. That way, MKP will make itself a non-foreign invested company, and thus will be allowed to return to the lucrative pharmaceutical retailing.

An ‘up-side-down’ M&A process:

The usual process for an M&A transaction involves the parties meeting to exchange their needs and intentions, signing MOUs or terms sheets; then the acquirer conducting the necessary due diligence on the target company. The parties would then negotiate and conclude the Share Purchase Agreement and other transactional documents; then would come the completion which includes business registration for the acquirer to become the new shareholder.
However, in Vietnam, because of cases being delayed or even rejected due to restrictions on foreign investment, a new M&A process has been developed specifically for foreign acquirers. Before anything else, confirmation has to be sought that the proposed foreign investment is feasible legally (i.e. the acquisition can eventually result in a successful business registration). Without such confirmation, all efforts and resources invested in other steps of the process could be rendered futile by the business registrar’s rejection.

Suspension in M&A by way of private placement:

Close to the end of year 2010, the licensing authorities in Hanoi and Ho Chi Minh City issued orders ‘temporarily’ suspending business registration with respect to M&A by way of private placement. The reason for such temporary suspension is the inconsistency in some pieces of legislation with respect to investment procedures to be applied for private placement. Although intended as a temporary suspension, foreign acquirers have been waiting for almost a year now for removal of the suspension.

In such a context, some circumvention has been developed in which the foreign acquirer will have to start not by subscribing for shares newly issued, but by acquiring shares from existing shareholders in the target company. The company will then issue shares to its shareholders, now also including the foreign shareholder. The foreign shareholder will thus acquire their desired amount of shares, including those shares whose subscription priority right has been waived by the local shareholders.

It had been expected that on 15 July 2011 when the Law on Securities came into effect, M&A by way of private placement would have found its way into the legal framework. However, the Law on Securities now has to wait for implementing legislation in the form of decrees, circulars, or even official letters.

Onshore bank account requirement:

Under the law, a foreign buyer is statutorily required to open an investment capital account before disbursement to the seller. Such payment in this transaction should be directed to an indirect investment capital Vietnamese Dong account opened by the buyer at a licensed bank in Vietnam, from which the purchase price will be paid to the seller’s designated account. Despite the account being opened at a commercial bank, it is still necessary for the State Bank of Vietnam to certify this account prior to remittance of the payment.

Such an onshore bank account is required even in M&A transactions where both the seller and the buyer are foreign. The licensing authority may not ask for evidence of the buyer’s onshore bank account, but if the purchase price is paid via an account offshore to Vietnam, the payment and its record may not be recognised by the Vietnam authorities. Eventually, regarding the calculation of dividends, capital gained amount (in case of subsequent share transfer) and the taxable amount of the shares acquired, the shareholder could face difficulty justifying in front of the State Bank of Vietnam the previously effected payment for the purchase price.

Seller-friendly payment requirement:

Foreign acquirers tend to see business registration, conducted by the licensing authority, as a sort of comforting Government recognition of the acquirer’s ownership with respect to the shares acquired. Under the law, in order to be registered as the owner of the shares acquired, an application dossier must be lodged with the licensing authority. The law requires, among other things, an application dossier which confirms that the transaction has been “completed”.

The term “completed” is interpreted by the licensing authority as meaning that the payment has been fully made. Accordingly, the Vietnamese licensing authority requires evidence of the payment having been made in full, before business registration is granted. Such evidence can be in the form of a letter of acknowledgement or a confirmation from the bank that the payment has been directed by the buyer and gone through the account of the seller, etc. However, given the risk of the application dossiers being delayed, or worse, rejected, it is too risky for a buyer to “complete” its payment obligation before the business registration for the acquired shares is completed.

There have been many calls for such a seller-friendly interpretation of the law to be changed – so far, to no avail. To counter the risks to the buyer, several methods have been developed, including the use of escrow arrangements, a letter of credit or a payment guarantee, or the buyer granting security over the equity in the target to the seller from the date of issuance of the approval until the payment of the purchase price. In addition, preliminary checks of the legal feasibility of the proposed acquisition (i.e. whether or not the acquisition will not be rejected by the licensing authority) is highly recommended.

The way ahead:

Although there remain quite a number of difficulties, restrictions and obstacles, M&A activities in Vietnam can still be expected to be one of the key, effective channels for market entry, especially for foreign investors. The context of Vietnamese laws on M&A has left lawyers with a force for creativity. A new route for private placement, and special instruments for ‘completing’ the payment requirements are among the recently developed tools to help overcome investment barriers.

Bui Ngoc Hong, Partner at Indochine Counsel, as published in Asian-Mena Counsel (Volume 9 Issue 5 – 2011).