Select Proposed Amendments to the Company Law of the People’s Republic of China

The current version of the Company Law of the People’s Republic of China was adopted by the Standing Committee of the National People’s Congress (“NPCSC”) and entered into force on October 26, 2018 ( , hereinafter the “version current”) with 13 sections and 218 articles in total. On December 24, 2021, the PRC Companies (Draft Revision) Law (hereinafter the “Draft Revisions”) was released by the NPCSC for public comment. The final version will be subject to review and approval by the NPCSC and the timeline for its final adoption is currently unclear.

This draft revision is considered to implement the principles set forth at the 18th CPC Congress to “take major decisions and deployments to deepen the reform of state-owned enterprises, optimize the business environment, strengthen the protection of property rights , promote the sound development of capital markets, and promote the further improvement and development of the enterprise system and practices. Given the length of the changes in the Draft Revisions, this memo aims to briefly summarize the proposed changes to the Companies Act that would be relevant to Multinational Companies (“MNCs”) doing business in China.

I. Corporate governance

1. Change in Board of Directors (“BoD”) requirements

(1) For “small” limited liability companies, a CA will not be required.

In the current version, a board of directors is a necessary management authority of a company and must be established. In the draft revision, Article 70 and Article 130 suggest that a relatively small company can appoint a sole director instead of a CA and if such a company is incorporated with limited liability, it can simply appoint a director general and may not need a CA. For some small Wholly Foreign Owned Enterprises (“WFOEs”), the management arrangement could be streamlined accordingly, which could reduce the complexity of registration documents. Please note that the definition of what is considered “small” is unclear in the draft revision.

(2) The employee representative on the Board is compulsory for a company with more than 300 employees.

Previously, an employee representative on a board of directors was only required for a fully public company in the current version. The draft revision introduces the requirement for one or more employee representatives on the board of directors for companies with more than 300 employees, which could pose a challenge for labour-intensive multinationals.

(3) The powers and functions of the CA are no longer specified by law.

The current version specifically spelled out the powers and functions of the BoD. The Draft Revision replaces this with a general statement in the Draft Revision that the Board has all powers and duties other than those reserved to shareholders by the Draft Revision and the Articles of Association (“AoA”). This will give the company the flexibility to decide the specific extent of BoD powers when considering it in the AoA. Foreign-invested companies incorporated before 2020 that are required to amend their AoA by the end of 2024 due to

the PRC Foreign Investment Law () effective January 1, 2020, should take this change into account when revising its AoA.1

2. Effectiveness of Written Resolutions

Article 74 of the draft revision states that “if no meeting of shareholders or meeting of the board of directors is held to pass a resolution, the resolution of the meeting of shareholders or of the board of directors is void and not ave”. In practice, many leaders of multinational companies travel or are based in different regions. Therefore, adopting resolutions in writing rather than by meeting is quite common and usually specified in a multinational’s AoA. This stipulation requiring technical meetings for shareholder action and Board action in the proposed revision is worth watching.

3. Supervisory/supervisory board is not required (subject to conditions)

Previously, multinationals were required to appoint a supervisor or supervisory board for their Chinese subsidiaries. The supervisor or the supervisory board has the power to control the finances of the company and to supervise the actions of the board of directors and the officers, and he can also call a temporary general meeting in the event that the board of directors does not fulfill no such obligation. The Supervisor may also make proposals to the Board and take legal action against the Board or the directors of the company, although in practice these powers and functions are rarely exercised. According to the draft revision, a supervisory or supervisory board is not necessary if: (1) a limited liability company has established an audit committee within the board of directors, which consists of more an administrator; or (2) a corporation has established an audit committee to the board and more than half of the committee members are non-executive directors. In other words, the supervisory board function could be replaced by an audit committee.

4. Personal Responsibilities of Officers and Directors

The draft revision significantly expands the liability of directors and officers where a director or officer causes damage to others intentionally or through gross negligence in the performance of his or her duties as a director or officer of the company , such director or officer shall bear joint and several liability with the company. The standards for this liability are currently not clearly defined, but the possibility of directors or officers taking on personal liability will have an effect on the D&D insurance of directors/officers of multinationals.

II. Shareholder rights

1. Expanded Classes of Shares Allowed for Corporations

“Same shares, same rights” was the principle of the current version, with the State Council only allowing high-tech innovative enterprises and enterprises listed on the science and technology board of the Shanghai Stock Exchange to issue shares with different voting rights. The draft revision, for the first time, clarifies that a corporation may issue other classes of shares in addition to ordinary shares. Other types of shares permitted under the draft revision include (i) preferred shares (but only related to preference in distribution of dividends or liquidation of assets); (ii) inferior actions; (iii) shares having more or less voting rights than ordinary shares; (iv) shares whose transfer is subject to the agreement of the company; and (v) other classes of shares prescribed by the Council of State. Note that unlike in the United States, other pre-emptive rights for shares are not permitted.

2. Extended shareholder information rights

Under the current version, shareholders have the right to audit and examine the company’s financial accounting report and books of account. The draft revision extends this right to information, providing that the shareholder has the right to access original accounting records and that the shareholder can appoint a third party auditor, such as a law firm or an accounting firm. to check related documents. For multinationals in joint ventures, keeping detailed records and maintaining good investor relations become more important.

III. Obligations and responsibilities of shareholders

1. Capital contribution

(1) Participations and Debts authorized as capital contribution.

Article 43 of the draft revision provides that, in addition to cash, participations in other companies and creditors’ rights to a debt are assets which can be used as security to satisfy the capital contribution obligation of a shareholder. If the draft revision is adopted with this provision, it will facilitate share exchange transactions and simplify the process of converting debt into equity. Currently, capital contributions can be made “in cash or in kind, intellectual property, land use rights or any other non-monetary asset which may be valued and transferred according to law”. However, in practice, cash and land use rights are the most common forms of capital contribution, given the difficulty of establishing the value of the contributed asset.

(2) In the event of the sale of Company shares, who bears the responsibility for unpaid capital contributions?

If the shares of a Chinese company have been sold, but still have an unpaid share capital contribution, under the current version, the buyer and seller are jointly and severally liable to pay the pledged share capital. The draft revision specifies that the buyer will be, after the sale, solely responsible for the payment of the promised share capital. Therefore, any buyer of Chinese companies should carefully confirm that the required share capital contribution has been fully paid or adjust the purchase price accordingly.

(3) Reduction of shareholders’ equity and acceleration of the capital contribution.

The current version stipulates that the shareholder has the obligation to contribute capital. However, failure to comply with this obligation will not directly result in the loss of equity of interest. The draft revision defines a procedure, if the shareholder fails to make the capital contribution within a grace period granted by the company (not less than 60 days), to transfer the part of the equity missing in the capital contribution or reduce the capital contribution obligation.

In addition, the draft revision also clarifies that if the company is unable to pay its debts as they fall due and becomes insolvent, the company or its creditors are entitled to require shareholders to make contributions in capital pledged, even if the deadline for payment of the capital contribution has not yet expired.

2. Simplified unsubscribe procedure

In the current version, a company is required to go through formal liquidation and delisting procedures to exit. The draft revision introduces a simplified deregistration procedure. If a company is debt-free, it can complete the delisting process with the consent of all shareholders and an announcement through the official system after a period of at least 20 days. Shareholders are jointly and severally liable for debts (if any) incurred before the company was struck off. The draft review process therefore shortens the liquidation process as it allows debt-free companies to skip the liquidation process.

Conclusion

The Companies Act Revision has been listed in the NPCSC’s 13th Legislative Plan since 2018. The draft revision was then released for public comment in December 2021 (the public comment period expired on January 22, 2022). Although its adoption was not on the agenda of the last 33rd session of the 13th NPCSC held in Beijing in February 2022, the draft revision is still a positive step towards the final revision of the company law. As Chinese subsidiaries of multinationals are in the process of revising their constitutional documents and internal corporate governance procedures to comply with the PRC Foreign Investment Law, the above changes in the draft revision must also be taken into account when considering these revisions.

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