Impact of China’s New Company Law on Foreign Investors

At a Glance

• The New Company Law reintroduces a maximum timeline of five years for the capital contribution following the establishment of a company.
• Foreign shareholders in joint ventures where the Chinese party failed to live up to its capital contribution may want to seek indemnification from the Chinese party or request a capital decrease by the Chinese party.
• The New Company Law allows small LLCs and LLCs with few shareholders to not have any supervisor, upon unanimous consent of all shareholders.
• The New Company Law requires at least one employee representative on the board of directors if the company has 300 employees or more, unless the company has a supervisory board with at least one employee representative.
• Foreign investors will have more flexibility in designating their legal representatives.
• Foreign investors may consider having individuals familiar with FIEs’ business situations and deeply involved in actual business operations serve as directors, supervisors and senior executives.

China’s legislative body, the Standing Committee of the National People’s Congress of the PRC, recently promulgated an amendment to the PRC Company Law, effective from July 1, 2024 (New Company Law). This amendment has been the most substantive one in the past 30 years, and it has a significant impact on all companies, including foreign-invested enterprises (FIEs).

The Capital Contribution Deadline Is Reintroduced

Since 2013, China has permitted a capital subscription mechanism for limited liability companies (LLCs), under which the shareholders could contribute the registered capital at their discretion during the business term of the companies (typically 20, 30 or 50 years). The New Company Law reintroduces a maximum timeline of five years for the capital contribution following the establishment of the company. FIEs established before the effectiveness of the New Company Law will have a transitional period to adjust to the five-year requirement. The transitional period is yet to be determined by the authority, and foreign investors are advised to revisit their unfulfilled capital contribution commitments and assess if a capital decrease is necessary.

Joint Venture Partners Have Joint and Several Liability to Capital Contributions

The New Company Law requires that if any shareholder fails to make its capital contribution pursuant to the articles of association, or the value of its contribution in-kind is significantly lower than its subscribed amount of registered capital, the other shareholders are jointly and severally liable to the company for the shortfall. Foreign shareholders in joint ventures where the Chinese party failed to live up to its capital contribution may want to seek indemnification from the Chinese party or request a capital decrease by the Chinese party.

No Supervisor Is Needed for Small FIEs

For a long time, the appointment of supervisors for FIEs was necessary only to meet the registration requirements of the company registration authority, without the supervisor assuming any substantive role. The New Company Law allows small LLCs and LLCs with few shareholders to not have any supervisor, upon unanimous consent of all shareholders. Small joint ventures with only two parties fall under this requirement, and could opt to have no supervisor after the effectiveness of the New Company Law.

FIEs With More Than 300 Employees Must Have an Employee Representative on the Board of Directors or the Supervisory Board

Normally, employee representatives are optional for the board of directors, and most FIEs do not have such an employee representative. The New Company Law requires at least one employee representative on the board of directors if the company has 300 employees or more, unless the company has a supervisory board with at least one employee representative. The New Company Law aims to protect employees’ interests by introducing this requirement. It is unknown whether the authorities will allow a management employee to serve such a representative role.

More Options Are Available for Legal Representative Candidates

Unlike the current Company Law that only allows the chairman of the board, the executive director or the general manager to serve as the legal representative, the New Company Law stipulates that a director (not limited to the chairman) who manages the affairs of the company, or the general manager, is eligible to be the legal representative. This gives foreign investors more flexibility in designating their legal representatives.

Fiduciary Duties for Officers and Directors Is Explained in the New Company Law

This duty is divided into two concepts under Chinese law: the “duty of loyalty” and the “duty of diligence.” The duty of loyalty refers to the measures taken by the board of directors, supervisors and senior executives to avoid conflicts between their own interests and the interests of the company, and not to use their power to seek undue personal benefits. In particular, approvals from the board or the shareholders meeting are required for dealings between directors, supervisors, senior executives, their immediate relatives, and enterprises directly or indirectly controlled by them, on the one hand, and the company, on the other hand.

The New Company Law, for the first time, expressly stipulates that the duty of diligence refers to the reasonable attention that directors, supervisors and senior executives should give to the best interests of the company in the execution of their duties, as is usually expected of managers. For FIEs whose board of directors, supervisors and senior executives are not in China and are not involved in the operation of the FIEs, the new law’s requirement would expose them to more risks due to failing to comply with the duty of diligence. Depending on future judicial practice, foreign investors may consider having individuals familiar with FIEs’ business situations and deeply involved in actual business operations serve as directors, supervisors and senior executives.

Other Topics

In addition to the above, the New Company Law also covers topics on e-business licenses, rights of first refusal, protection of minority shareholders’ rights, deregistration procedures and many other matters.

Foreign investors will want to closely track the latest legal requirements and subsequent implementing rules, while preparing to make the necessary changes.