14 July 2013

10 Things to Know about Private Equity Investments in Myanmar Edwin Vanderbruggen, Paul Nikitopoulos and Wint Wah Khin Mg Than Although some argue it is actually still a bit early for private equity investments, Yangon is these days awash with fund managers looking to build a pipeline. Or, in rare occasions, to make actual investments. Reason enough to present a hopefully useful round-up of the key legal issues every fund manager or private equity investor should know. We have tried to keep this list as Myanmar-specific as possible, so we have left out the items of information that are more or less valid for any emerging market jurisdiction. You can’t buy shares in a wholly Myanmar-owned company It’s by now a fairly well-known fact, we thought. Nevertheless, we continue to be amazed by the number of deals that are conceived on the faulty premise that the foreign investor will at some stage buy shares in a wholly Myanmar-owned company. Such transfers are, practically speaking, not implementable. Myanmar has different licensing systems for wholly-Myanmar owned companies and all others. As a result, when a Myanmar company is and has always been owned by Myanmar nationals, a foreigner cannot simply purchase those shares.

ABOUT THE AUTHORS Edwin Vanderbruggen is VDB Loi’s partner responsible for Myanmar. Formerly with Loyens & Loeff and a partner at DFDL, he has 21 years of legal and tax experience, five years of which have been in relation to Myanmar. Edwin lives full-time in Yangon, where he leads a team of approximately 20 lawyers and tax advisors. [email protected] Paul Nikitopoulos is a US attorney with 15 years of experience, and was formerly with Clifford Chance and O’Melveny & Myers. He holds an MBA from Cambridge University and a J.D. from Duke University. He has extensive experience in providing integrated solutions for M&A and private equity transactions. He lives full-time in Yangon. [email protected] Wint Wah holds a Bachelor’s of Law and a Master’s of Law from the University of East Yangon. She is a qualified member of the Myanmar bar. Prior to joining VDB Loi, Wint Wah researches and advises on commercial corporate law issues, mostly related to foreign investment. She is part of the legal team that advised on Yangon’s new international airport, and on the country’s first Western-owned power plant. ABOUT VDB LOI

Although the Myanmar Companies Act allows such transfers, a combined and strict reading of the Foreign Investment Law (FIL) and the Myanmar Citizens Investment Law (MCIL), plus the prevailing practice of the authorities basically make this unfeasible.

VDB Loi is a leading law and tax advisory firm with more than 60 transactional lawyers and tax advisors across our offices in Cambodia, Indonesia, Laos, Myanmar, Vietnam and our liaison office in Singapore. We provide the highest quality solutions for transactions and taxation. With approximately 20 lawyers and tax advisers on the ground in our offices in Yangon and Nay Pyi Taw, we are a leading advisory firm in Myanmar. www.vdb-loi.com

Foreigners that wish to acquire a shareholding of less than 100% in an existing Myanmar business need to establish a joint venture company (JV Co) under the FIL. The local partner will in the process of setting up that JV Co transfer the business to it, with approval of the investment regulator (Myanmar Investment Commission, or MIC). The end result is the same, of course. The foreign investor owns shares in a Myanmar-registered company (the JV Co) which also has Myanmar shareholders. Investors interested in taking shortcuts by using a Myanmar citizen to acquire the shares “on their behalf” end up on a slippery slope. Money flows in and out are in such a scenario unsupported by a clear regulatory framework. You might not have a right to repatriate funds or profit. The structure cannot or hardly be secured. To say nothing of the fact that, depending on how the structure is implemented, the whole arrangement might not be in accordance with Myanmar law and thus unenforceable in case of trouble. You can’t easily reflect the provisions of the JVA in the articles of a Myanmar JV Co The Myanmar Companies Act (MCA) entered into force in 1914 as the Indian Company Act and has only been amended slightly since. The MCA includes Table A, the name of a template of articles of a company. The MCA clearly states that Table A is not binding, except for a handful of provisions that are provided in a helpful list and relate to several issues such as dividend calculation, voting, directors and proxies. Shareholders are theoretically free to choose other articles, as long as these articles are in accordance with the MCA, and there should be no problem enforcing them. Well, in theory. In practice, it is an issue. The DICA has prepared, and normally uses, its own articles template, which is largely (not entirely) based on Table A. Standardizing the process is entirely understandable. Practically speaking, it is far more efficient for DICA to promote the use of one template. If every company used different articles, DICA would need to muster enormous resources to analyze each and every set of proposed articles for legality. It is difficult to imagine where those resources would come from. The MCA does not state explicitly which of its provisions you may deviate from in your particular

articles. There is no helpful list of articles as there is for Table A. Nevertheless if one takes a closer look, it becomes clear. A number of provisions of the MCA contain language such as “notwithstanding any other mention in the articles…”. Of course, this means what it means. Furthermore, we believe that the provisions of the MCA that connect to matters which are compulsory in Table A should, logically, also be seen as MCA provisions you cannot deviate from. Finally, we think it is reasonable to argue that any provision of the MCA with a criminal penalty or fine should be seen as public law and is thus not susceptible of being changed by two or more shareholders. There are a number of measures you can take to mitigate this problem, including passing special shareholder resolutions and patiently convince DICA, vetting whether all deviations are really necessary, and using an offshore JV Co. Non-compete clauses might not always be enforceable Section 27 of the Myanmar Contract Act renders “every agreement by which any one is restrained from exercising a lawful profession, trade or business of any kind” void. This statute throws a shadow on any non-compete clause of joint venture agreements (JVAs) meant to be enforced in Myanmar. There are a number of classic court decisions of what are now Myanmar courts interpreting the statute, authoritative scholarly writings on the Myanmar Contract Act and more recent Indian case law on the identical statute. According to the us, it is possible to interpret the statutory “Exception 1” to the statute in such a manner that it allows for non-compete clauses in JVAs, subject to a reasonableness test. Furthermore, the authors argue that, based on a number of arguments found in the Myanmar Contract Act and other Myanmar statutes, the rule has not been and should not be interpreted or applied in an unnecessarily literal manner by Myanmar courts. Nevertheless, investors are cautioned not to assume that all non-compete clauses will be upheld by Myanmar courts. The (well placed) local partners have many options Today, even with a very large section of the foreign community still believing it is too early, the ones that do proceed far outnumber those larger local

players who would make good prospective partners in any given industry sector. If you seek a local partner for a telecom consortium, for example, there are just a handful of experienced local companies. This was well demonstrated when the list of prequalified bidders was published on 11 April 2013. On top of that, as OFAC’s list of Specially Designated Nationals (SDN) still lingers (for the moment), the pool of potential JV partners becomes even smaller. Not every foreign company actually falls within the purview of the remaining US sanctions, of course, but in our experience, there are few large investors willing to ignore the potential or perceived reputational risk anyway. So, there is a funnel effect. The “prettiest girls at the prom” get more attention than they can handle. The completion time and the completion risk of a PE deal increases. For some local partners with small management teams and a single decision maker – which certainly does not apply to everyone – just finding the time to attend meetings and prepare documents is a challenge. More importantly, perhaps, local partners are more likely to keep playing the field, always keeping options open, reluctant to “go hard”. The more or less only clear legal path to international secured loans is through an MIC Permit There is very little experience in Myanmar with private international secured lending. A new regulatory framework has been created by means of the regulations implementing the FIL. These regulations provide that financing and security of a foreign invested project needs to be approved by the MIC, not the Ministry of Finance (MoF) or the Central Bank of Myanmar (CBM). There are a number of conditions for the approval, and the interpretation of these conditions is still in flux. Without the FIL, or rather without the MIC, the applicable laws and regulations for approving an international loan become much murkier. Though not impossible, the completion time and risk is difficult to estimate, making this a most likely unfeasible option at this time. Most cases of commercial lending to date have been done offshore, i.e. with the borrower having some type of offshore presence which actually borrows and sometimes provides security on offshore assets or shares. From the matters our firm is presently

working on, however, we think that this will change rapidly. You can’t be actually certain you will get an MIC Permit until you try In the present stage of Myanmar’s regulatory framework there will be issues that will have to be resolved as you go along. Needless to say, such uncertainty puts pressure on a deal, particularly for a PE investor that has not gone through it yet. Some of the legislation is a bit outdated and the Government may put a different spin on old rules. As far as new rules go, it is too soon to find an established interpretation or practice. On top of that, some transactions such as franchising, ecommerce or convertible loans, are new here. By the same token, there are a lot of matters where the policy of the MIC, which has changed chairman and composition several times in the past 18 months, is difficult to predict. There are often novel aspects to a proposed project. Except for the slam-dunks, we as legal advisers cannot be actually certain that the project will receive approval in its proposed form until we try. Nevertheless, a great deal of the uncertainty dissolves if you know the practices of the Ministries and the details of previous deals that have recently been approved. Deals at a break-neck pace? There are a number of factors that make Myanmar a fast place to do business, strangely. The Government wants to see investment projects implemented sooner rather than later. As a result, one constant that we see over a wide range of sectors is the emphasis the Government puts on speed of implementation. When applying for a license to generate power, the Government will set strict deadlines for the start of operations. Even the Foreign Investment Rules provide tough consequences if the development phase of a project falls behind schedule for more than 50% of the planned time. You may get the same push from local asset owners. “We need to sign the JVA within a few days or we lose the deal” is something we often hear as legal advisers. Sometimes the hurry stems from commitments that expire really fast, such as when a local partner has only a few months to come up with the hefty fee for acquiring Government land rights.

There are a few different ways to get land rights into the project company According to the FIL, a foreign owned company can only obtain land rights for a real estate development in two ways: either the company concludes a lease (or a BOT) direct with the land owner (often the Government) or a sublease is put in place. Both require approval from the MIC and from the landowner. Other means may be possible, but the lease/BOT and sublease are the legal instruments that are explicitly recognized by the FIL and the MIC. In any real estate development deal, the MIC will monitor whether the land rights are proper, if need be with the help of the Attorney General’s Office. The terms of the master lease and sublease, the details of the proposal, and the Environmental and Social Impact Assessments will play a key role in the MIC appraisal. For a holding company, Singapore is by far the most effective solution It’s by now quite well known that Singapore is the most attractive jurisdiction for structuring investments into Myanmar. The reason is almost entirely based on the mitigation of Myanmar’s capital gains tax. Foreign investors that sell their participation in a Myanmar company are taxed at a hefty 40%. Under the tax treaty with Singapore, that rate is reduced to 0% or maximum 10%, a very significant reduction. Even though Myanmar has more tax treaties, Singapore is the only country with such an advantageous arrangement. In the

case of investors that do not plan to divest their holdings, this option has less importance. But PE investors almost certainly need to plan for exits in the mid-term. Foreign exchange remittances have much improved, but there are still traps to avoid The combined effect of the 2012 Foreign Exchange Management Act, the Foreign Investment Law and the de-sanctioning of a number of Myanmar banks by the US Treasury has already resulted in significant improvement of the cross border movement of money. On the ground, we now have a somewhat clear and relatively straightforward pathway to bringing in and extracting most types of payment such as dividend, loan reimbursement, interest payment and payment of service fees. There remains, understandably, much room for improvement. There are still many situations where you can get tangled up. For example, advance inward remittances of capital. Say a local partner needs a cash advance from the foreign investor to secure an asset, but the money needs to be brought in well before the local company with an MIC Permit (and the therewith connected capital account) can be setup. This is difficult to organize properly and even harder to secure on the ground. *** For more information on this subject matter, contact: Edwin Vanderbruggen, Partner, VDB Loi [email protected]