CHINA Law and Practice Contributed by: Lingyun Dai, Tao Liu, Xueyong Liao and Yuzhou Shang, Lifeng Partners
funds prefer to restructure the management team rather than retain the existing one. 8.2 Management Participation The granting of “sweet equity” is a common practice, typically implemented through the issuance of equity incentives to the management team, often in the form of an Employee Stock Ownership Plan. 8.3 Vesting/Leaver Provisions For instance, if a member of the management team departs from the company for cause (eg, due to a material breach), their unvested equity interests are typically subject to forfeiture. Conversely, if the depar - ture is not for cause, the vested portion of their equity interests may be retained, while the unvested portion is repurchased at a market-determined fair value. 8.4 Restrictions on Manager Shareholders Such restrictive covenants are generally present, including confidentiality agreements, non-compete clauses, non-solicitation of clients, non-disparage - ment commitments and intellectual property own - ership provisions. These are typically required to be agreed upon and adhered to, and are commonly included as essential terms in the employment con - tracts of the management team. 8.5 Minority Protection for Manager Shareholders From the perspective of a buyout fund, veto rights and significant control over the business are typically not granted to the management team in M&A trans - actions. 9. Portfolio Company Oversight 9.1 Shareholder Control and Information Rights In the context of a control acquisition, private equi - ty funds typically demand a high degree of control over the target company, encompassing the appoint - ment of board seats, the scope of matters requiring approval by the board of directors and the sharehold - ers’ meeting, as well as the hiring and dismissal of senior executives.
In contrast, for minority equity acquisitions or invest - ments, private equity funds generally require only basic investor preferential rights with respect to the target company, such as priority in dividends, priority in liquidation, and repurchase rights. 9.2 Shareholder Liability Generally, private equity funds will not be implicated merely by virtue of being shareholders of a company, unless core personnel of the private equity fund have indeed personally participated in the wrongful con - duct of the company. In addition to equity sales and initial public offerings (IPOs), exit strategies typically encompass two meth - ods: first, exit via M&A; and second, dividend distri - bution (that is, obtaining cash flow from dividends through well-performing enterprises in terms of oper - ating results). The dual-track approach is relatively common. On one hand, both investors and the company are actively exploring the feasibility of an IPO. On the other hand, investors also consider selling their stakes when the valuation is favourable. 10. Exits 10.1 Types of Exit The triple-track scenario is uncommon. From the company’s perspective, there may be instances where investors sell their existing shares, the company is simultaneously preparing for an IPO, and the com - pany is also accepting investments from other inves - tors. However, it is not common for the same private equity fund to initiate both a sale and a reinvestment concurrently. 10.2 Drag and Tag Rights Drag rights and tag rights are both common in con - tractual provisions. In practice, the threshold for exercising drag rights typically requires the consent of more than 75% to 80% of the shareholders. As for tag rights, there is a scenario after corporate financing where, if the founder exits, the investors are required to tag along and sell their shares.
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