In 2018, substantial amendments were made to the Company Act, thereby relaxing certain stringent rules for enterprises to raise funds with the aim to create a friendlier and innovative business environment. One of the main amendments permits private companies to make private placements of company bonds which are convertible into shares ("convertible company bonds") or associated with stock option rights ("stock option company bonds"). This amendment provides new types of financing tools for new ventures and small-and-medium-sized enterprises ("SMEs").
Before the 2018 amendment, Articles 246 and 248 of the Company Act stipulated that public companies are permitted to invite subscriptions or make private placements of ordinary company bonds, convertible company bonds and stock option company bonds. However, according to the past position of the Ministry of Economic Affairs, private companies were not permitted to issue convertible company bonds or stock option company bonds, thereby resulting in difficulties for financing SMEs.
In practice, special company bonds (i.e., convertible company bonds and stock option company bonds) have certain nature of equity securities. In other words, creditors may decide whether to exercise conversion rights or stock option rights, depending on the company's operation. If investors are optimistic about the prospects of the issuer, they may choose to convert the bonds into company shares, which may not only reduce the debt ratio of the company but also promote the future development of SMEs. For start-up companies, it is indeed necessary to lift restrictions on the private placements of company bonds because it is not easy for start-up companies to obtain a loan from financial institutions. If start-up companies are permitted to issue convertible company bonds and stock option company bonds with no interest or even no repayment of principal due to the creditor's exercise of the conversion right or stock option, it will be more beneficial to the fundraising for start-up companies at its infancy stage. During the previous amendment to the Company Act in 2015, a new chapter of the close-end companies was introduced, and close-end companies are permitted to issue convertible company bonds and stock option company bonds with a shareholders’ resolution.
The 2018 amendment to the Company Act further permits all private companies to make private placements of convertible company bonds or stock option company bonds and at the same time, lifted the restriction on the total amount of company bonds for private companies' private replacement, thereby increasing the flexibility in their financing.
Specifically, according to Article 246, Paragraphs 2 and 3 of Article 248, and Article 248-1 of the new Company Act, the private placements of ordinary corporate bonds, convertible bonds, or stock option company bonds require a special board resolution and a shareholders resolution. Moreover, the number of creditors in a private placement shall not exceed 35.
Comparing to other regulations that provide more stringent requirements, for example, Article 43-6 of Securities and Exchange Act restricts the qualifications of the creditors and Article 3 of the Directions for Public Companies Conducting Private Placements of Securities stipulates that private funds can only be used to invite strategic investors under certain circumstances, neither the Company Act nor the Ministry of Economic Affairs has specified any detailed regulations regarding private companies' private replacements of ordinary company bonds, convertible company bonds or stock option company bonds. Therefore, in practice, there are no detailed and comprehensive rules for private companies to comply with. This may be one of the reasons why private companies are still reluctant to choose private replacements of company bonds as a fundraising tool after the amendment of the Company Act in 2018.
Deregulation is indispensable to the development of start-up companies and SMEs. If the original intention of the legislators and competent authorities is to permit private companies to enjoy more flexibility in the private placements of company bonds without being restricted by relevant regulations on public companies, so as to facilitate their fundraising, the legislators and competent authorities may consider further clarifying this position in the regulations or interpretations in order to reduce the concerns and legal compliance costs of private companies and create a more friendly fundraising environment, thereby stimulating the growth of start-up companies and SMEs.