A Discussion of the Mandatory Tender System and Decriminalization

According to reports, the Financial Supervisory Commission ("FSC") acted on its own initiative in launching special investigations of China Development Industrial Bank & Partners Investment Holding Corp (CDIB & Partners) and two affiliates in connection with China Development’s acquisition of Global Securities Finance Corp. In those companies’ accounting records,the FSC discovered evidence regarding the subscription price advanced to purchase GSF shares and determined that it violated the "Mandatory Tender Offer" regulations. Suspicions were also raised that Article 175 of the Securities and Exchange Law had been violated, and the case was transferred for criminal investigation. In view of the above, this article will discuss the "mandatory" tender system and provide an analysis.

Under the current law, a tender offer refers to a situation where a person makes an open offer for shares offered for sale by a company's shareholders. It is different from an ordinary purchase, and it is only one of the ways to obtain shares. However, decisions on whether to buy shares through the open tender method, which were originally at the discretion of potential buyers, should be left to the buyer side to make. On the other hand, the "mandatory" tender offer refers to where, under certain conditions, the law forces purchasers to adopt the tender method to buy shares. Under Article 43-1 of the current Securities and Exchange Law (paragraph 3) and Article 11 of theRegulations Governing Tender Offers for Purchasing the Securities of a Public Company, [for] "any individual who, acting alone or in concert with others, intends to acquire more than 20% of a public issuing company's outstanding shares within 50 days," adoption of the open tender method is mandatory.

Those who meet the criteria for the mandatory tender requirement need to make a declaration and public announcement in connection with the open tender, and if they do not use the open tender method, then under Article 175 of the Securities and Exchange Law, they may face prison sentences of up to two years, detention, and/or a fine of up to NT$1.8 million. In other words, corporate officers who plan large purchases of a given company's outstanding shares in the near term need to pay particular attention to whether they meet the criteria for mandatory tenders. Otherwise, they would risk being held criminally liable and punished accordingly.

If we examine the United Kingdom and other countries that have adopted a mandatory tender system, it has been done mainly out of a belief that this system could ensure the rights of small investors to a fair opportunity to sell their stock; it lets them share in the "control premium"; and it allows them an opportunity to get out of the company when changes in control occur. However, at the same time that it emphasizes the protection of small investors' interests, the system also increases costs for buyers and limits a corporation's flexibility in the conduct of M&A transactions. On the other hand, in countries like the U.S. that have not adopted the mandatory tender system, it is not that small shareholders' interests are not protected, it is just that they employ a different set of measures to do so – for example, establishing a system for strengthening board members' duty of loyalty and allowing anti-takeover actions.

Taiwan is still dominated by family-owned enterprises, and even though they may be publicly listed companies, ownership is still usually fairly concentrated. If a buyer has not yet effectively acquired 51% of a company's equity, it is hard to say whether or not control of the company has been obtained. Hence, it is naturally not necessarily the case that acquiring 20% of the equity generates any kind of control premium. And hence, it does not really make sense if the legal system is designed to force buyers of shares into public tenders in order for minority shareholders to share in a premium that does not exist. Moreover, we must question whether the 20% threshold for mandatory tenders is too low for an economy like Taiwan's, which consists mainly of small- and medium-scale enterprises.

Since the mandatory tender system has both pros and cons in terms of legislative theory, and since it is doubtful that the 20% threshold for mandatory tender is high enough, there is room for argument as to whether it is necessary to resort to criminal liability as the means to punish buyers who violate mandatory tender rules. In these times, in which shareholding relationships among companies are becoming ever more complex, it would seem that the competent authorities need to seriously consider decriminalizing violations of mandatory tender rules. In this writer's opinion, in terms of legislative theory, it may be worth considering whether it would be better to simply impose civil penalties under Article 178 of the Securities and Exchange Law, so as to avoid misapplying criminal liability to senior executives. As for smaller shareholders who have not had the opportunity to sell their shares, buyers could be required to make a belated open tender offer. Considering the pros and cons, this is one direction which could be taken in amending the law.

Looking at this issue from another perspective, the current law includes criminal liability for buyers who violate mandatory tender rules, hence buyers' past purchase activity with shareholders is more likely to be determined to be in violation of Article 71 of the Civil Code, and thus interpreted as being invalid. This has adverse consequences for the protection of shareholders who have already sold stock in the past, as well as for the safety of market transactions. In terms of legislative scope, distinguishing between the actor(s) on the other end of a purchase and the method used could be considered, and could be used in assessing whether the sales contract is valid. If shares were procured on the open market, then it should still be certain that the sales contract is effective; if they were obtained through negotiation with particular individuals, then one may then consider whether the sales contract is ineffective.