M&A in Germany

M&A in Germany A Practical Guideline for Chinese Companies

Squire, Sanders & Dempsey L.L.P. Frankfurt Office 13 and 14 November 2007 Table of Contents

1 Profile of Squire, Sanders & Dempsey L.L.P.

2 China Services of Squire, Sanders & Dempsey L.L.P.

3 M&A in Germany and Europe

4 Due Diligence Issues Key Statistics

One of the largest international law firms

• 850 lawyers

• 30 locations and 7 associated offices worldwide

– North America (since 1890) 15 offices – Asia (since 1955) 4 offices – Europe (since 1974) 12 offices – South / Latin America (since 2002) 5 offices – Middle East 1 office

• 4th most global US law firm Squire, Sanders & Dempsey Offices Worldwide

Asia Latin America

Beijing Buenos Aires* Hong Kong Caracas Shanghai Rio de Janeiro Tokyo Santiago* Santo Domingo

North America Europe Middle East and Africa

Cincinnati Phoenix Bratislava Milan* Riyadh* Cleveland San Francisco Brussels Moscow Columbus Tallahassee Bucharest* Prague Houston Tampa Budapest Warsaw Los Angeles Tysons Corner Dublin* Miami Washington Frankfurt

New York DC Kyiv* * = Associated Office Palo Alto West Palm London Beach One-Firm Philosophy

• Our firm is a single partnership providing seamless services across all offices and practices • No franchises, no profit centers – Same level of services - in all offices - for all offices • Roots and expertise with industrial clients serving – Standard Oil (BP) – Cleveland & Pittsburgh Railroad (Conrail) – American Steel & Wire (US Steel Corp.) – Cleveland Electric Illuminating Co. (FirstEnergy) – Graselli Chemical Company (DuPont)

... for 117 years - from 1890 until today Frankfurt office

• Full service corporate law firm – M&A, Transactions – Corporate, Commercial – Corporate Finance, Capital markets – Tax – Labor Law – Real Estate – China / Asia inbound / outbound business

• 6 Partners from the Haarmann Hemmelrath firm (2006) – 2 Frankfurt professionals have extensive working experience in Asia, one is also fluent in Mandarin

• In Germany, we have worked with – Dalian Machine Tool Group Co., Ltd – Feiyue Group Co., Ltd – Hangzhou Machine Tool Group Co., Ltd – Qingdao Jinzuan Needles Co., Ltd – Shenyang Machine Tool Co., Ltd Table of Contents

1 Profile of Squire, Sanders & Dempsey L.L.P.

2 China Services of Squire, Sanders & Dempsey L.L.P.

3 M&A in Germany and Europe

4 Due Diligence Chinese Investment Policy

• “Go West“ policy

• World‘s largest foreign currency reserves

• Outbound direct investments

– USD 7bn in 2005

– + 93% over 2004

• Asian Legal Business October 2006:

– Germany is EU favorite for Chinese investors

– Survey amongst 96 top Chinese companies Table of Contents

1 Profile of Squire, Sanders & Dempsey L.L.P.

2 China Services of Squire, Sanders & Dempsey L.L.P.

3 M&A in Germany and Europe

4 Due Diligence Issues Objectives of M&A transactions

• M&A is attractive for Chinese investors. They can:

– Acquire technology and intellectual property

– Acquire solution/problem solving competence

– Acquire brands

– Acquire sales networks

– Acquire management know how

– Enter the EU market and diversify globally

– Expand market share

– Access EURO currency

– Avoid trade barriers M&A Process

Preparation Transaction Integration

Letter of Intent Communication Strategy Due Diligence Integration Search Final Evaluation Change Screen Agreement Approach Closing Forms of M&A transactions

• Asset Deal: – Investor buys the business of a company, i.e. assets – Subject to full capital gains taxation for selling company – Transfer of name, business relations and contracts – Step-up of assets and higher basis for depreciation – Largely avoids assumption of hidden liabilities • Share Deal – Investor buys the shares in a company – Tax benefits for seller – No need to transfer the name, business and contracts – No step-up of tax base for depreciation – Risk of assuming hidden liabilities, therefore: Due diligence • Therefore, only share deal is covered in the following Preparation

• Strategy

– Define objectives and target companies

• Search

– Market and companies’ survey

• Screen

– Compliance of identified companies with strategy and objectives

– Obtain macro view of legal situation

– Decision to approach target company

• Approach Transaction

• Analyze the target enterprise (technical due diligence):

– Research and development, intellectual property

– Products, production, capacities

– Sourcing, procurement

– Sales and marketing

– Identify synergies

• Cooperate and negotiate with seller of the target

– Basis: confidentiality agreement

– Unavoidable: tentative price range or formula Transaction

• Sign Letter of Intent

– Protocol of the parties‘ current understanding of the negotiations

– Agreement on next steps

– Try to avoid stating a fixed price, range or formula is better

– Usually legally non-binding with exceptions, e.g.

• Confidentiality clause

• Exclusivity clause

• Non-solicitation clause Transaction

• Determine purchase price more precisely

– Empirical multiple method

• Multiple of sales, EBIT, EBITDA

• Multiple derived from market or listed companies

– Discounted cash flow valuation

• Cash flow x discount rate

– Asset based valuation

• Valuations methods consider past, not future

– They may not consider synergy effects, good will etc. Transaction

• Conduct due diligence

– Identify risks that are not recorded in the financial statements

– Legal due diligence

– Tax due diligence

– Financial due diligence

– Environmental due diligence

– Management, commercial, cultural due diligence

• Final evaluation of the target company

• Final negotiations of the essential terms of agreement Transaction

• Negotiate Share Purchase Agreement

• Most common negotiation problems:

– Purchase price

• Adjustable purchase price

– Representations and warranties

• Title or environmental insurances

– Other „deal breakers“ specific to the transaction Transaction

• Most common „unpleasant surprises“:

– Approvals for sale of shares, preemptive rights

• No approval required from trade unions or workers council

– Use of losses carried forward (change in 2008)

– Anti-trust procedures

– Real Estate Transfer tax: 3.5% (4.5%) of property value

• Assessed on share transfer of 95% or more

• Signing of Share Purchase Agreement: notarization required

– Power of attorney: notarization plus apostille Transaction

• Prepare conditions precedent for exchange of shares and purchase price

• Exchange of shares and purchase price („Closing“)

• Restructuring of the target company

– Management

– Articles of Association

• Integration Specific cases

• Listed companies (Take-over Code)

– Voluntary offers for non-control interest (below 30%)

– Voluntary offers for control (over 30% voting rights)

– Mandatory offers in case of control

– Acting in concert regime

– Notification procedures (Exchange authority etc.)

– Short deadlines

– Minimum price = weighted average over last 3 months

• Joint Venture situations

– Shareholders’ agreement Specific cases

• Insolvent targets (Insolvency Code)

– Acquisition prior to insolvency

• May be challenged if within 3 months of insolvency

• In case of discrimination of creditors

• Acquisition reversed but purchase price returned only proportional

– Acquisition after insolvency

• Asset deal executed by administrator with approval of creditors’ committee

• No liability for debts of the insolvent company

• Simplified termination of employments Specific cases

• Auction sale

– Initial Information letter („teaser“)

– Confidentiality agreement

– Detailed Information Memorandum

– Letter of Procedure

– Indicative offer

– Due diligence, management presentations

– “Binding offer” (legally non-binding)

– Share purchase agreement German taxation

• Total profit tax for corporations around 30% (2008)

– 15% Corporate Tax

– 15% Local Trade Tax (trade and business)

– Dividend income is 95% tax exempt

• Dividend withholding tax to China: 10%

• The tax treaty provides for the following tax credits:

– Dividend withholding tax of 10%

– German tax paid by the German subsidiary Table of Contents

1 Profile of Squire, Sanders & Dempsey L.L.P.

2 China Services of Squire, Sanders & Dempsey L.L.P.

3 M&A in Germany and Europe

4 Due Diligence Issues Legal Due Diligence Issues

• Corporate structure

– Shareholders

– Articles of Association

– Share capital

– Board of Directors

• Staff

– Complete list of employees

– Employment agreements

– Collective agreements

– Pension plans Legal Due Diligence Issues

• Corporate assets

– Immovable property

– Movable property

– Encumbrances

– Information technology

• Intellectual Property

– Patents

– Brands

– Know-how

– Licenses Legal Due Diligence Issues

• Main agreements

– Suppliers

– Customers

– Agents

– Co-operations, Joint Ventures

– Leases

– Utilities

– Consultants Legal Due Diligence Issues

• Corporate finance

– Cash accounts

– Loans

– Collaterals

• Corporate reorganizations

• Insurances

• Environmental issues

• Business licenses

• Litigation Financial Due Diligence Issues

• Business relations

• Products and markets

• Customers, distribution, marketing

• Organization of target company

– Internal controlling

– Reporting systems

• Audited financial statements

– Inventories, accounts receivable

– Provisions, accounts payable

– Profit and loss Financial Due Diligence Issues

• Cost accounting

• Business plans Tax Due Diligence Issues

• Tax compliance, tax assessments

• Tax audits

• Appeals

• Losses carried forward

• Tax accounts

• Transfer pricing

• Shareholder loans

• Withholding taxes Tax Due Diligence Issues

• Trade tax

• VAT

• Real Estate Transfer Tax

• Tax effects of corporate reorganizations and finally ...

Please raise any additional questions you may have Q & A Contact information

Squire, Sanders & Dempsey L.L.P.

Taunusanlage 17, 60325 Frankfurt, Germany

Tel: +49-69-17392-400

Fax: +49-69-17392-401

Thomas Busching Stefan Peters Senior partner Associate German lawyer, certified tax advisor German lawyer Direct +49-69-17392-445 Direct: +49-69-17392-425 [email protected] [email protected]