Company Law interpretation improving minority shareholder rights issued for public comment (updated)

L0U[3WLR5~U}00CSV6VUSZL

soft consultation meeting on draft in 2015

You have less than one month to provide your views to the Supreme People’s Court (SPC) and influence the SPC’s thinking on Company Law issues. The SPC is looking expand the rights that (minority) shareholders, creditors, and employees have vis a vis the company and its majority shareholder or actual controller.

On 12 April, the Supreme People’s Court issued its draft Company Law interpretation for public comment, (linked here, with part of a bilingual version found here.  WestlawChina has a translation, available to subscribers).

Comments should be sent to the addresses specified in the notice: by email to: gsfjss_yang@163.com or by mail/courier to Judge Yang Ting, #2 Civil Division, at the SPC.

The deadline for public comments is 13 May.  Issuing the draft for public comment required the approval of the SPC leadership (the judicial committee), according to SPC regulations.

Many foreign investors take minority stakes in Chinese companies (or lend to Chinese companies) and find, to their sorrow, that the majority shareholder has abused his position and the minority shareholder or creditor.  The files of law firms, accounting firms, arbitration organizations, and Chinese courts are filled with these cases.

To the cognoscenti, this judicial interpretation reads as a guide to (combatting) the well-known strategies of unscrupulous majority shareholders, which include: fraudulent board or shareholder resolutions; board/shareholder resolutions adopted without the necessary quorum; board/shareholder resolutions approving related party transactions that harm creditors; blocking minority shareholder access to company books and records.

All entities with investments in China are affected by this provisions in this draft judicial interpretation.  The International Finance Corporation, Temasek, Kuwaiti Investment Authority and others should have their lawyers review and provide comments on its provisions.  The law committees of the foreign chambers of commerce in China and Hong Kong (Amcham, Eurocham, Auscham, SingCham, etc.) and the lawyers for the PE/VC communities (not to mention the banks) should consider submitting comments, as well as those interested in Chinese corporate governance.  Its provisions apply to both private (limited liability) and public companies (ones limited by shares), although some provisions only apply to private companies.

The issues in the draft interpretation, highlighted below, reflect the issues that have arisen in litigation in the lower courts on the rights of shareholders, particularly minority shareholders, particularly since the Company Law was amended at the end of 2013. Many of its provisions will be applicable to arbitration proceedings involving Chinese companies.

There has been an increase in litigation among shareholders and litigation between shareholders and companies and that is likely reflected in the statistics of arbitration organizations hearing disputes involving Chinese companies.

Thus far, I have seen one law firm analyze the draft, and I will update this blogpost with links to other analysis as I encounter them,  such as this one by the Han Kun law firm. A quick guide to some of the issues highlighted in the draft follows below.

Validity of decision of a resolution/decision of a board of directors/shareholders meeting/shareholders general meeting

These issues are addressed in the first 12 articles of the draft, putting some meat on the bare bones  of the Company Law, and giving minority shareholders, creditors, and employees greater rights.

Comments

Under this draft, shareholders, directors, supervisors, or senior management, creditors, and employees with a direct interest in the matter may file a challenge to the validity of a resolution under Article 22(1) of the Company Law, which provides that the contents of a resolution of one of those meetings are be invalid if they are in violation of laws or administrative regulations.

As to the grounds for invalidation, the draft specifically mentions: a shareholder abusing his power as a shareholder through a resolution that harms the interests of the company or other shareholders and decisions that excessively (过度) distributes profits or improper related party transactions that harm the interests of creditors. The draft also enables parties to apply for an order to stop the implementation of the invalid resolution.

Shareholder’s right to know

The second section of the draft interpretation  defines further and provides procedures for enforcing a shareholder’s right to know under Article 33 (for private companies) and 97 (for companies limited by shares). It is not unusual for a company to block minority shareholder access to company books and financial records, particularly when there has been a falling out between shareholders.

Under Article 33, a company shareholder can inspect and duplicate the company’s articles of association, the minutes of the shareholders’ meetings, the resolutions of the board of directors, the resolutions of the board of supervisors, and the financial and accounting reports of the company.  Under Article 97, the rights of shareholder in a listed company are more limited. Under the draft, a shareholder will be able to designate an agent to review the company records, particularly important for financial and accounting records.  The exercise of the right to know is often the precondition for being able to file suit under the first section.

Enforcing the right to have profits distributed

Section three of the draft sets out three articles setting out procedures by which a shareholder can enforce his right to have profits distributed.

Enforcing rights of first refusal

Section four of the draft addresses the right of first refusal–the priority right that existing shareholders have to purchase the shareholding of a party intending to transfer all or part of his shareholding to a third party.  Anyone involved in corporate practice in China will have encountered situations in which the selling shareholder engages in various types of strategies (generally misleading the other shareholders) to avoid selling to an existing one.

The draft defines “under the same conditions” as used in Article 71 of the Company Law as being holistic–the price, payment method, timeline for payment, and other factors. The draft also sets out the content of the notice to other shareholders, and most importantly, spells out situations in which a contract transferring shareholding to a third party can be invalidated, which include failing to inform the other shareholders (and other legal requirements) and changing (i.e. reducing) the conditions of sale to the third party after the existing shareholders have waived their right.  The author of the article mentioned above mentions that the draft does not deal with indirect structures, designed to prevent the existing shareholder from exercising his rights, as illustrated by the Fosun/Shanghai Soho dispute.

Derivative litigation

The last five articles of the draft address the mechanics of derivative litigation, including the type of company approval required for the litigation to be settled (mediated), as well as the important issue of the plaintiffs claiming reasonable lawyers, notaries, assessors, and other related fees. The draft permits what is known as “double derivative” litigation–the pursuit of a claim on behalf of a wholly owned subsidiary, a concept found in Delaware and English law. This recent article reviews recent Chinese cases on double derivative litigation, including one from the SPC, and quotes from the American Law Institute’s book Corporate Governance: Analysis and Recommendations.

Questions?

Those with further questions about providing comments on this draft may either use the comment function on this blog or email me at: supremepeoplescourtmonitor.com.

 

Advertisements

Leave a Reply

Fill in your details below or click an icon to log in:

WordPress.com Logo

You are commenting using your WordPress.com account. Log Out / Change )

Twitter picture

You are commenting using your Twitter account. Log Out / Change )

Facebook photo

You are commenting using your Facebook account. Log Out / Change )

Google+ photo

You are commenting using your Google+ account. Log Out / Change )

Connecting to %s