The New Company Law has adopted changes made under the third draft amendment which were discussed in our previous newsletter “Piercing through the draft amendments to the PRC Company Law from perspective of foreign investor – an update” (Issue: 10-2023). In this article, we will provide an overview of the major changes brought about by the New Company Law to limited liability companies (“LLC”), which foreign investors should pay particular attention:-
1. Capital Contribution Timeline
The New Company Law has adopted the capital contribution requirement described under the third draft amendment namely, shareholders of a LLC must fully pay up their registered capital contribution within 5 years from the company’s date of incorporation.
Further, investors should note that the new capital contribution requirement extends its application to companies established prior to the Effective Date. Companies established before the Effective Date must gradually align their capital contributions to comply with the new requirement. These companies will be given a transition period from 1st July 2024 to 30th June 2027 to make such adjustments.
This change is set to have a substantial impact on FIEs. At present, contribution to the registered share capital can be spread over a long period of time as stipulated in the Articles of Association, which can be as long as 30 years. With the removal of such flexibility on timing for contribution, it is imperative for investors to proactively undertake measures to ensure due compliance with the revised capital contribution requirements.
2. Default in Fulfilling Capital Contribution Obligation
Where a shareholder has failed to fulfil its capital contribution obligations within the stipulated timeframe, the board of directors may issue a notice demanding payment. The shareholder will then be given a grace period of at least 60 days to settle the outstanding amount. If the shareholder still fails to make the payment, all of their rights associated with the unpaid registered capital will be forfeited. Further, investors should bear in mind that the New Company Law imposes joint and several liability on the other shareholders at the time of incorporation to the extent the capital contributions are insufficient.
3. Accelerated capital contribution
A new provision has been introduced in the New Company Law whereby if a company is unable to pay off its debts when they become due, the company itself or creditors may request shareholders to accelerate their unpaid capital contributions. At the moment, the details of how this works are still unclear. However, shareholders with unpaid capital contribution will have to be aware of the actual implementation of this provision.
4. Capital Contribution Liabilities in Equity Transfer
Equity transfer to a third party no longer requires consent from other shareholders save as required under the Articles although pre-emptive rights still apply. A written notice of the intended transfer will have to be issued to the other shareholders and if there is no reply within 30 days of receipt of the notice, the pre-emptive right will be deemed as waived.
The New Company Law provides for the contribution obligations of the transferor and transferee involved in an equity transfer in a LLC involving unpaid contribution. In short, the transferee shall be responsible for non-contributed equity of the transferor. Where the transferee fails to make its capital contribution, the transferor shall bear a secondary liability for such outstanding capital contribution.
Given the newly implemented provisions, it is of paramount importance to conduct thorough due diligence when engaging in equity transactions. Parties involved must exercise caution and diligence to ensure that equity contributions are diligently fulfilled and fully paid in.
5. Reduction of Capital Contribution
Under the provisions of the New Company Law, a company is mandated to reduce the amount of capital contribution in proportion to the respective holdings of the shareholders, unless otherwise stipulated by law or unanimously agreed upon by all shareholders. In other words, the New Company Law explicitly recognizes the possibility of disproportionate capital reductions among shareholders.
In the event that a company undergoes a registered capital reduction in contravention of the New Company Law, the shareholders are required to reimburse any funds received from the capital reduction process, and the capital contributions must be reinstated to their original state. Furthermore, shareholders, along with relevant directors, supervisors, and senior management, assume liability for any losses incurred by the company as a result of such actions.
6. Changes to Corporate Governance Rules
(a) Legal Representative
Under the existing Company Law, it is mandatory for the legal representative to hold the position of chairman of the board, executive director, or general manager.
However, the New Company Law broadens the scope of eligible individuals who can serve as legal representative. It now includes any director or general manager who possesses the necessary authority and responsibilities to handle the company's day-to-day operations.
The legal representative may bear personal liability for any company liabilities arising from his or her own negligence. This reflects the heightened level of accountability outlined in the New Company Law.
(b) General Manager
The New Company Law no longer sets out the statutory authorities of the general manager. Instead, the duties of the general manager will be entirely subject to the articles of association or authorization of the board of directors.
(c) Board of Directors
The New Company Law encourages directors to act more independently. Notable changes include:-
- The board of directors is no longer responsible to the shareholders;
- Directors are delegated with the powers to supervise the capital contribution of shareholder(s);
- The minimum number of directors remains three but there is no limit on the maximum number of directors, which was previously capped at 13;
- Shareholders’ power to remove directors has been restricted. The dismissed director may bring a claim for compensation against the company if there is no legitimate reason to justify the early termination of the appointment; and
- Directors may resign by written notice. However, where there are less than 3 directors remaining in the board of directors, the resigning director shall continue to perform his/her duties until the replacement assumes office.
(d) Board of Supervisors
Under the New Company Law, it is no longer obligatory for small-sized LLCs to have supervisors. Moreover, companies of any size now have the option to establish an audit committee within the board of directors, which assumes the responsibilities and functions traditionally assigned to the supervisory board. Consequently, there is no requirement to establish a separate supervisory board or appoint individual supervisors in such cases.
(e) Shareholders' Meeting
The New Company Law reduces the authority of the shareholders' meeting by excluding its authority over the following: (1) determining operational policies and investment plans, and (2) reviewing and approving the company's annual financial budgets and final accounts. This revision aims to alleviate shareholders from the responsibility of overseeing operational matters, which are more appropriately managed by the board of directors.
Conclusion
The New Company Law introduces significant changes in key areas such as the company capital system, governance framework, shareholders' obligations regarding capital contribution, and safeguards for their rights and interests. The implementation of the New Company Law will entail increased responsibilities for shareholders and directors of companies operating in China. It is expected to have a far-reaching impact on all businesses within the PRC, including FIEs.
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