All companies registered in China, including foreign invested enterprises (FIEs), are subject to the Company Law, with respect to company formation, corporate governance, fiduciary duties of directors and officers, protection of minority shareholders, share transfer, distribution of profits, liquidation and other elements.
Existing FIEs have until December 31, 2024, to convert to the appropriate corporate form and update their articles of association and shareholders agreements to comply with the latest version of the Company Law. Newly established FIEs will be formed under the Company Law.
There are two types of companies with limited liability in China:
Limited liability companies (LLC), which only include private companies;
Companies limited by shares (CLS), which include both private and public companies
In the case of LLCs, shareholders are entitled to appoint and remove directors in accordance with the method stipulated in the articles of association. However, an employee representative who serves as a director on the board of directors of an LLC established by two or more state-owned enterprises or some other LLCs, is elected by the employees.
As for CLSs, a shareholders’ general meeting is necessary to pass resolutions to appoint or remove directors by a simple majority of votes cast by shareholders present at the meeting.
Under the Company Law, the shareholders’ meeting is the highest decision-making body, and the board of directors must enforce resolutions approved at shareholders’ meetings.
In China, the Company Law reserves decisions to the shareholders in both LLCs and CLSs on:
the business direction and investment plans of the company;
the appointment and dismissal of directors and supervisors and their remuneration;
resolution on the increase or reduction of the registered capital of the company;
the issuance of corporate bonds;
the merger, division, dissolution, liquidation or change of company form;
the amendment of the articles of association of the company;
the review and approval of reports of the board of directors or supervisors, annual financial budget, accounting plan, profit distribution plan and loss recovery plan; and other matters in the articles of association.
There are additional rights granted to shareholders, such as:
the approval, by a resolution of the shareholders’ meeting, of security provisions by the company for a shareholder or the de facto controller of the company;
the approval of director or senior manager entering a contract or trading with the company;
the approval of director or senior manager seeking business opportunities that belong to the company for themselves or any other person, or operating similar business themselves or for any other person to that of the company they work for; and
the approval, in a listed company, of transactions by a two-thirds majority of the voting rights of the shareholders present in the meeting, if, within one year, the company purchases or sells major assets, or provides guarantees to third parties, and the transactional value exceeds 30 per cent of the company’s total assets.
An LLC does not issue shares that shall be substituted for equity interests measured in terms of percentages. In an LLC, the voting rights exercisable by a shareholder at a shareholders’ meeting are based on the ratio of its capital contribution, unless otherwise provided in the articles of association.
In a CLS, the fundamental principle of ‘one share, one vote’ is adopted: one share of a shareholder represents one voting right in the shareholders’ meeting.
The company has no voting right for the shares it holds. However, if a division of ordinary shares and preference shares is adopted in a CLS, preference shareholders are generally not entitled to attend a shareholders’ general meeting, unlike ordinary shareholders, and therefore have no right to vote on matters raised during these meetings.
Preference shareholders are entitled to vote during a separate class of meetings on a few limited matters (issuing new preference shares, the amendment of articles of association related to the preference shares, a single or accumulative reduction of the registered capital of the company exceeding 10 per cent, and the merger, division, liquidation or change of corporate form).
In addition to preference shares, the Chinese government introduced a special voting rights mechanism in the Shanghai Sci-Tech Innovation Board (STAR) called ‘Weighted Voting Rights’. This system allows a company’s shares to be split into two groups with different voting rights, usually ‘A shares’ and ‘B shares’.
‘A shares’ provide the holder with equally up to 10 votes per share; however, they cannot be transferred at will (therefore cannot be traded on open markets), and the shares’ voting privileges must be waived if they are converted to ordinary voting shares. These are usually held by the founding team of a company. ‘B shares’ offer a single vote per share and can be circulated as normal in the market.
Legally registered shareholders are allowed to participate in general meetings. However, for a general meeting to decide on the matter of providing securities to a shareholder or the actual controlling party of the company, these shareholders or the shareholders controlled by the actual controlling party shall not participate in the general meeting.
Besides, where there are preference shareholders in a CLS, only under limited circumstances can preference shareholders participate in the general shareholders’ meeting and vote.
In both LLCs and CLSs, shareholders are allowed to pass a resolution in writing without convening a physical shareholders’ meeting as long as this resolution is approved unanimously and is signed and sealed by all the shareholders. If the company’s articles of association permit it, the shareholders’ meeting can be held by telecommunication means.
In a CLS, if the board of directors and the board of supervisors fail to fulfil their obligations to convene a general meeting, shareholders who alone or jointly hold 10 per cent or more of the company’s shares for 90 consecutive days or more can do it and preside over it on their own initiative.
In an LLC, if the shareholders' meeting is not called by directors or supervisors, shareholders who represent 10 per cent or more of the voting rights can convene and preside over the meeting on their own initiative.
A shareholder may also petition a court to revoke or nullify a general meeting if the procedure or content of the meeting violates any law, administrative regulation, or the company’s articles of association.
Since the law does not provide specific rules on the nomination of directors, companies should state in their articles of association standard procedures for the nomination and election of directors, and ensure that the election is transparent, fair, and equitable.
According to the law, a controlling shareholder cannot abuse their position, rights, and pre-existing relationship with the company to the detriment of the interests of the company and other non-controlling shareholders.
Otherwise, this controlling shareholder shall be liable for the damage caused. As for the listed company, additional rules are specified in the Code of Corporate Governance for Listed Companies in China, which states that the controlling shareholders owe a duty of good faith towards the listed company and other shareholders.
The controlling shareholders should exercise their rights in strict compliance with the law and any act that could infringe the company’s interests or other shareholders’ legal rights should be prohibited. The controlling shareholders are also forbidden to acquire additional profits by virtue of their controlling positions.
If the controlling shareholder infringes the lawful rights and interests of the company, causing the company to incur a loss, any shareholder of an LLC or CLS who alone or jointly holds at least 1 per cent of the shares for at least 180 days in succession has the right to request the board (or the supervisors) to start legal proceedings in court regarding the infringement.
If the board or the supervisors reject this request, fail to start legal proceedings within 30 days upon receipt of this request or in urgent circumstances where failure to promptly start legal proceedings could cause irreparable harm to the company's interests, the shareholders have the right to directly start proceedings in a court in their own name against these controlling shareholders.
The Company Law states that shareholders shall not abuse their rights to cause damage to the company or the interest of other shareholders or abuse independent legal person status of the company and limited liability of the shareholders to cause damage to the interests of the creditors of the company.
Shareholders are liable for the debt of the company up to the portion of the registered capital not yet paid into the company. In other words, shareholders can be personally liable for the difference in the registered capital and the paid-in capital. Shareholders can also be held personally liable for intentional fraud designed to divert funds and put creditors in an unfavorable position.
Institutional investors in China mainly include securities investment funds, the National Social Security Fund, Qualified Foreign Institutional Investors (QFII), securities companies, and insurance companies.
Although most institutional investors are not active and prefer to "vote-by-foot" in the current Chinese capital market, an increasing number of institutional investors participate in corporate governance and are becoming more influential.
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