Debt-for-equity swap registration required

On November 23, the State Administration of Industry and Commerce (SAIC) released the Measures for the Administration of the Registration of the Debt-for-equity Swaps of Companies (公司债权转股权登记管理办法) (the Measures) which will go into effect on January 1 2012.

Though local branches of the SAIC had previously released their own tentative rules to govern debt-for-equity swaps, the Measures are the first ever national-level rules to regulate the administration of registration of debt-for-equity swaps. The government issued the new rules in response to reports that domestic companies were having funding and debt reduction problems.

David Yu, a founding partner of Llinks Law Offices says that though the Measures apply to both domestic and foreign-invested companies, it is still unclear how much in practice they will actually be applied to the latter. “The major governing authority of foreign-invested companies is the Ministry of Commerce, which is not a joint issuer of the Measures,” he said.

According to the Measures, debt-for-equity swaps may occur only under three circumstances:

1) When contractual debt arises between a creditor and a company, and the creditor has performed all the contractual obligations corresponding to the debt;

2) When the debt has been confirmed by an effective judgment of the people's court; and

3) When the debt listed is in a company's court-approved reorganisation plan or court-accepted reconciliation agreement.

If a creditor makes capital contributions in the form of creditor's rights of third parties, the Measures will not apply.

To register debt-for-equity swaps, the company should apply to the competent SAIC for the alteration of registered capital and paid-in capital after the evaluation and verification of the debt. “If there are other alterations of a company's registration items involved, the company should apply these alterations together with the debt-for-equity swap registration,” said Yu.

Companies should also take note that according to Article 6 of the Measures, there is a limitation on the ratio of non-monetary investments. The sum of the evaluated amount of the invested debt-for-equity swap and the evaluated amount of other non-monetary properties should not be higher than 70% of the registered capital of a company.

Articles 7 and 8 of the Measures address the evaluation and verification of the debt. Before it can be swapped for equity, the debt must be evaluated by a lawfully-established assets evaluation institution and verified by a lawfully-established capital verification institution, which will issue a certificate of capital verification.

“This will avoid the risk of a creditor and the company secretly colluding to swap false debt, which would violate the interests of shareholders and other creditors and also result in a false capital contribution of the company,” said Yu. CM