China Releases Draft Amendment to Company Law | Wilmer Hale

China releases draft amendment to company law

The Standing Committee of the 13th National People’s Congress released the Draft Amendment to the Companies Law (“Amended Companies Law”) on December 24, 2021 for comments until January 22, 2022.1 Since its promulgation in 1993, the Companies Act has already been amended five times. The Amended Companies Bill consists of 15 chapters and 260 articles and has made about 70 substantive changes based on the 13 chapters and 218 articles of the current Companies Law (Rev. 2018).

The amended Companies Bill (i) would refine the special provisions on state-funded companies; (ii) improve the business creation and exit system; (iii) optimize the corporate structure and corporate governance; (iv) optimize the capital structure; (v) strengthen the responsibilities of controlling shareholders and management personnel; and (vi) strengthen corporate social responsibility.

This bulletin will focus on the implications of the proposed amended Company Law for foreign-invested enterprises (“FIEs”) in China, as opposed to domestic-invested companies. FIEs here refer to companies that are invested and established by foreign investors in China. They are incorporated as limited liability companies or limited liability companies by shares in China with foreign capital. Companies in partnership with foreign investments, such as venture capital and private equity investment funds and fund managers, are subject to the law on partnerships and will not be the subject of this bulletin.

On January 1, 2020, the Foreign Investment Law (“LIF”) and its implementing regulations came into force and replaced the Law on Sino-Foreign Capital Joint Ventures, Law on Sino-Foreign Cooperative Joint Ventures and the Wholly Foreign-Owned Enterprises Law (collectively, the “Three FIE Laws”). The FIL constitutes the new foreign investment legal regime in which FIEs can invest in sectors outside of the negative lists and are entitled to national treatment equivalent to their domestically invested counterparts. The negative lists include the negative list for market access, special administrative measures for foreign investment access, and special administrative measures for foreign investment access in pilot free trade zones.2

After the repeal and replacement of the three FIE laws by the FIL, FIEs became subject to the Companies Law which applies to all companies registered in China, with or without foreign investment, with respect to company formation, corporate governance, fiduciary duties of directors and officers. , protection of minority shareholders, transfer of shares, distribution of profits, liquidation and other elements. Existing FIEs have five years (until December 31, 2024) to convert to the appropriate corporate form and update their articles of association and shareholders’ agreements to comply with company law. Newly established FIEs will be incorporated under the Companies Act.

The amended Companies Bill would make the following major changes with respect to FIEs:

  • Improved company creation and exit system
    • Optimize the registration process and improve the efficiency of business registration. For example, the amended Companies Bill would require company registrars to make a single request (instead of repeated, piecemeal requests) during the registration process in case the application documents received are incomplete or contain errors. ;
    • Use computerization through electronic business licensing, a unified system for publishing business data and electronic communications. E-commerce licenses have already been implemented in major cities like Shanghai;
    • Expand the scope of capital contributions to include equity and creditor rights. In the past, shareholders of a company could only make capital contributions to the share capital of that company in the form of cash, equipment, intellectual property rights, land use rights and other tangible or intangible assets. The amended Companies Bill would allow shareholders to make capital contributions by exchanging shares and converting debt into shares;
    • Improve the settlement system; provide for a simplified dissolution mechanism upon the commitment to honor all debts by all shareholders. Liquidating businesses in China has been a challenge for many business owners in the past due to the complicated liquidation procedures and lengthy process. In practice, a liquidation process can take 6 to 12 months or more and involve multiple government procedures (including tax clearance, public announcement, filings with industry regulators, courts as well as authorities). Registrar of Companies (i.e. the State Administration for Market Regulation or its local offices) The Amended Companies Bill would now establish a “simplified liquidation” procedure allowing companies to liquidate and dissolve much more efficiently as long as their shareholders are prepared to take joint and several liability for outstanding debts after a company is dissolved and liquidated.
  • Optimization of the company’s organizational structure and corporate governance
    • Specify that the board of directors is the executive body of the company;
    • Relax organizational structure requirements for small businesses, eliminating the requirement to establish a board of directors and a supervisory board. Small and medium-sized businesses might choose to have an executive director or director instead of a board of directors.
  • Improvement of the capital structure of the company
    • Authorized capital system: a company limited by shares could only issue a part of its authorized shares at the time of its incorporation; the board of directors can decide to issue the balance according to the real needs of the company;
    • Different classes of shares: To meet different investment requirements, allow issuance of classes of shares with rights different from ordinary shares, such as preferred shares and lower shares, special voting shares and restricted transfer shares; allow companies to choose between shares with par value and shares without par value. This new development suggests that China is moving closer to international standards when it comes to more sophisticated capital structures and shareholder rights. Under the amended Companies Bill, a company limited by shares may issue ordinary shares and different classes of preferred shares (including convertible preferred shares), with different preferential rights (such as preference of liquidation) and the attached voting rights, in accordance with the company’s articles of association. associations. This revision would provide companies with greater flexibility on equity financing at every stage of development, including start-up, early stage, growth and pre-IPO;
    • Simplify the capital reduction system: if the company still has losses after offsetting the losses in accordance with the regulations, it may carry out a simple capital reduction without the right to any distribution to shareholders. Under company law, the shareholders of a company have an obligation to respect their respective commitments in terms of capital contributions to the share capital of the company. “Registered capital” in China is analogous to “paid-up capital” in major Western jurisdictions. The difference is that shareholders in China who have made commitments on capital contributions cannot reduce or cancel these commitments in the absence of governmental review. The amended Companies Bill would provide shareholders with greater freedom to exit a company if it is underperforming and ease the burden on customers and creditors to assess the company’s underlying creditworthiness;
    • Loss of the right to contribute: if a shareholder does not contribute his capital in full and on time, and within the prescribed period after being called by the company, the shareholder would be deprived of the right to contribute;
    • Accelerated Capital Contributions Maturity Regime: If a limited liability company cannot pay its debts when due, the company or creditors have the right to demand that subscribed but unpaid capital contributions be prepaid.
  • Strengthening the responsibilities of controlling shareholders and management personnel
    • Improve the provisions relating to the duties of loyalty and diligence of directors, supervisors and senior managers, and strengthen their responsibilities in terms of maintaining the company’s capital;
    • Strengthen the regulation of related party transactions by expanding the scope of related parties and increasing reporting requirements for related party transactions. The amended Companies Act Bill would impose a related party transaction reporting and approval requirement, with directors, officers or supervisors required to report a related party transaction to the board of directors or shareholders’ meeting for review and approval. The scope of related party transactions would be expanded to also cover family members of directors, officers and supervisors as well as entities or individuals associated with them. Directors who have a conflict must abstain from voting at the board meeting;
    • Clarify the joint and several liability of controlling shareholders and management staff in the event of fault attributed to them. Directors and officers who commit willful misconduct or gross negligence in the performance of their duties within the company causing damage to third parties will be jointly and severally liable for such damage. Directors and officers who aid or encourage a majority shareholder to abuse its power causing damage to the legitimate interests of the company or its minority shareholders will also be jointly and severally liable.
  • Strengthening corporate social responsibility
    • Companies must consider the interests of stakeholders such as employees and consumers;
    • Encourage companies to participate in social protection activities and publish social responsibility reports.

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