China’s Amended Company Law Becomes Effective on July 1
China’s amended Company Law takes effect on July 1, 2024. Many companies have not considered the significant revisions that have been made and how they can and will affect companies that are doing business in China. Companies with legacy entities in China that have not reviewed or revised their corporate documents or structure should do so to ensure that they are taking the easy steps to remain in compliance moving forward.
How to Prepare for China’s Amended Company Law
As a corporate lawyer, I spend a large portion of my time reading laws and regulations governing business entities in various jurisdictions, which are the equivalents of LLC and corporation codes in the US. I also draft operating agreements for these entities. They can take many different flavors, depending on the purpose of the entity and the temperaments and experiences of the founding or executive team.
China’s revised Company Law has some significant amendments, a few of which I discuss here, and all of which should be important to any company doing business in China. These issues will be important for every company doing business in China, including those investment funds with holdings in China. Many of these issues will arise in due diligence in future transactions, either acquisitions or divestments. (See China Due Diligence: NOT Optional and What Do US Investment Bankers and Private Equity Groups Think About China and the Global Economy?)
More Stringent Capital Commitments
In days past, companies and founders in China had a virtually indefinite timeline within which to fulfill the entity’s registered capital requirements and remit their capital commitments. We have seen some formation documentation with registered capital contribution horizons 10-20 years in the future. After July 1, the deadline is five years for new companies formed after that date.
Established companies will have a currently unspecified period of time to comply with their registered capital requirements. Those long timeframes will almost certainly be cut short nearer to five years or less. We will not know until updated regulations are issued to implement these Company Law amendments.
And some companies’ contribution deadlines passed years ago. There are both company and individual penalties for noncompliance, ranging from $1,400 to $28,000 USD.
Flexibility in Additional Types of Shares
Companies limited by shares (corporations) can finally issue additional types of shares, including preferred shares, shares with special or no voting rights, and shares limited by transfer restrictions. These options were always available to LLCs but not to Chinese corporations.
This will provide significant flexibility to companies in China, particularly around compensating employees and taking on Chinese investment in a way that will not run afoul of CFIUS (see CFIUS Reporting Requirements for Non-US Investors).
Audit Committee Improves the Board of Supervisors
An audit committee comprised of members of the board of directors (including employee representatives) can now take the place of the board of supervisors in an LLC and corporations. This provides much more flexibility and is more practical than a separate board of supervisors.
Expanded Number and Type of Legal Representatives
Currently, a company’s legal representative is the ultimate authority with the company. For foreign-owned Chinese companies, this meant that the legal representative was a director or C-suite level individual with the Chinese company’s parent entity and often lived outside China. After July 1, the company will have multiple legal representatives, comprised of all board-level and officer-level individuals.
This may be a welcome change for companies with trusted China staff, but other companies will want to do a comprehensive review of their organizational chart relating to their China operations to ensure that this authority is not spread more widely than intended and necessary.
Expanded Minority Owner Rights
The amended Company Law provides enhanced minority owner rights, including their right to inspect and copy information, the ability to call meetings, and to require ownership interest buybacks. For corporations, this minority interest threshold is as low as 3% ownership. Some of these rights involve access to information for a Chinese company’s subsidiaries or the right to claim damages against the directors or managers of a subsidiary.
These amendments will certainly be welcome to companies with minority interests in Chinese JVs or other entities. However, foreign-owned Chinese companies with minority investors or employee owners will want to review these changes closely.
The share buyback requirement is nuanced and applies in two important scenarios: (1) the controlling owner seriously damages the interest of the company or owners and (2) the company has been profitable for 5 consecutive years but has not distributed profits to shareholders during that period.
Conclusion
The amendments to China’s Company Law set to take effect on July 1, 2024, signify a significant shift in the regulatory landscape for businesses operating in China. The revisions touch upon critical aspects such as capital commitments, the issuance of additional types of shares, the structure of audit committees, changes to the role of legal representatives, and expanded minority owner rights. These changes are poised to impact both existing entities and those looking to establish a presence in China.
For companies with legacy entities in China, it is imperative to conduct a thorough review of their corporate documents and structures to ensure compliance with the new regulations. The deadline for fulfilling registered capital requirements has been significantly shortened, and penalties for noncompliance are substantial. Additionally, the ability to issue various types of shares provides newfound flexibility, particularly concerning employee compensation and investment strategies.
Moreover, the enhanced minority owner rights signal a move towards greater transparency and protection for minority stakeholders. While welcomed by some, these changes require careful consideration, especially for foreign-owned Chinese companies with minority investors or employee owners.
In preparation for the amended Company Law, businesses must proactively assess their current operations and strategize accordingly to navigate the evolving regulatory landscape in China effectively. Compliance with these revisions is not only a legal obligation but also a strategic imperative for sustainable business success in the ever-changing and sometimes harrowing Chinese market.
