Mergers and acquisitions, whether done through a merger, a tender offer, or another transaction, are heavily regulated, generally to protect the shareholders of the target firm. If a foreign company is the target, foreign law and regulation will govern the transaction. However, if U.S. investors hold securities of the foreign company, whether directly or in the form of depositary receipts, the transaction may trigger application of U.S. federal securities laws and regulations. Thus, faced with conflicting regulation, the acquirer (who is also usually foreign) may simply exclude U.S. investors from the deal so as to avoid the legal headaches of U.S. jurisdiction. This results in the U.S. investors being unable to take advantage of any premium offered in the transaction.
Professor Fanto writes: For some time now, the Securities and Exchange Commission (“SEC”) has acknowledged the reality that U.S. investors have gone global, that is, they hold securities of foreign companies to diversify their portfolios. This acknowledgement requires SEC accommodation to its merger-related rules. If, for example, a U.S. investor holds securities of a foreign company, he or she may occasionally have to consider a third party tender offer for the securities, or some comparable transaction, where the third party wishes toacquire the company. This kind of event may be particularly lucrative for the investor and thus is one in which he or she would like to participate. The problem, however, is regulatory conflict. Mergers and acquisitions, whether done through a merger, a tender offer, or another transaction, are heavily regulated, generally to protect the shareholders of the target firm. If a foreign company is the target, foreign law and regulation will govern the transaction. However, if U.S. investors hold securities of the foreign company, whether directly or in the form of depositary receipts, the transaction may trigger application of U.S. federal securities laws and regulations. Thus, faced with conflicting regulation, the acquirer (who is also usually foreign) may simply exclude U.S. investors from the deal so as to avoid the legal headaches of U.S. jurisdiction. This results in the U.S investors being unable to take advantage of any premium offered in the transaction.
Since 2000, the SEC has exempted certain foreign acquisition-related transactions, such as cash and securities tender offers and securities exchanges, from its regulation, to encourage acquirors of foreign companies to include U.S. investors in these deals. In the first broad exemption (referred to as Tier I), any such transaction is exempt if no more than 10% of the foreign target’s securities are held in the United States. In this case, an acquiror of a foreign company need file with the SEC only a cover page form and an English translation of the foreign transaction document. The second exemption (Tier II) applies if U.S. investors hold more than 10%, but no more than 40%, of the foreign target’s securities. In this case, the foreign acquisition is exempted from some technical SEC rules, particularly as to tender offers, but otherwise must comply with SEC regulation governing the transaction in question. The SEC believes that these accommodations have not done enough to encourage acquirors of foreign companies to include U.S. investors in these essentially overseas transactions. It is thus proposing to liberalize cross-border mergers and acquisitions even more.
A major problem for an acquiror deciding whether to include U.S. investors in a transaction is to determine the exemption it is eligible for, which depends upon U.S. ownership of the foreign target’s securities. In other words, it is critical for the acquiror to know whether the transaction will be in the Tier I or Tier II category, or will not be eligible for either of them. As the rules now stand, a party engaged in a “friendly” or negotiated transaction has to make this determination generally 30 days before commencement of the transaction. However, this determination is difficult to make with confidence on this specified date for, among other things in a friendly transaction, the acquiror must make a reasonable inquiry as to the residency of the beneficial owners of the target securities; it cannot simply stop at the nominee level.4 If an acquiror is doubtful about the accuracy of its determination as to U.S. ownership, it may take the safe road of excluding U.S. investors from the transaction. To deal with the difficulties posed by this rule, the SEC proposes that friendly acquirors of foreign companies can make the determination about U.S. ownership at any time during the 60-day period before the public announcement of the transaction. Thus, by the announcement date the acquiror should be confident in the U.S. exemption available to it (any change in U.S. share ownership after announcement would generally not affect the exemption). [footnotes omitted]