A new paper by Fang Ma

Chinese company law is going through significant reforms. The current law, first passed by the National People’s Congress in 2005 and last amended in 2018, has played an important role in establishing a modern enterprise system and promoting the development of a socialist market economy in China. As stated in the explanatory notes for the first draft amendment to the Company Law, the current law provides the fundamental and theoretical legal framework for companies; however, it lacks detailed rules, in particular, in the areas of directors’ liabilities and the protection of shareholders and creditors. This article maps the proposed amendments and draws parallels to Company Law in the United Kingdom.

To mend these shortcomings, two amendments have been proposed: The first draft amendment was published on 24 December 2021 by the Standing Committee of the 13th National People’s Congress for soliciting comments from the public. Based on the feedback and rounds of consultation, the amendment was revised and the resulting second draft amendment was issued on 27 December 2022. The probably final round of deliberation is expected in August 2023. This is the third major reform of the 2005 Chinese Company Law following the amendments in 2013 and 2018. As laid out in the explanatory notes that accompany the draft amendment, the main purposes of this Company Law reform are to “deepen state-owned enterprise reform, improve business operation environment, improve the protection of property rights and optimize fundamental systems for the capital market”.

The stated aim manifests in the following concrete changes:

• The Chinese party-state is given stronger controls over its state-owned enterprises, as decisions made in previous years by the Central Committee of the CPC are woven into the Company Law.
• Some clarity on the duty of diligence (勤勉义务) and the duty of loyalty (忠实义务): While the 2005 Company Law stipulates that directors, supervisors and senior managers all owe a duty of diligence and a duty of loyalty to their companies, and lists some activities they must not engage in, specific rules for the application of these requirements are lacking. The proposed amendment (draft article 180) defines the duty of diligence similarly to the duty to exercise reasonable care, skill and diligence as stipulated in the United Kingdom’s 2006 Company Act.
• Detailed rules on self-dealing: The draft amendment suggests detailed notification and approval procedures for when supervisors, directors and senior managers enter into a contract or transaction with the company (draft article 183).
• Expansion of the corporate opportunity doctrine: Under the current Company Law, the duty to refrain from taking advantage of one’s position to acquire a business opportunity that belongs to the company applies to directors and senior managers only. The draft amendments not only extend this duty to supervisors, but also lay out exceptions such as when the business opportunity was rejected by the board of directors or the shareholder meeting (draft article 184).
• Clarification of the joint liability of directors, senior managers and controlling shareholders with the company (draft articles 190 and 191): Directors and senior managers will be jointly liable with the company if they have, either deliberately or due to gross negligence, caused losses to other people when they are performing their duties.
• Giving teeth to corporate social responsibility duties: The Company Law requires businesses to not only abide by laws and regulations, but also “observe social morals and business ethics, act in integrity and good faith, accept the supervision of the government and the public, and bear social responsibility” (Article 5). Critiques have pointed out that this provision is a paper tiger as it is broad and comes without remedies. While the draft amendment does specify who the stakeholders are (employees, consumers, and the environment), concrete measures for the enforcement of this rule are not proposed (draft article 20).
• Finally, the proposed amendment introduces the double derivative action (draft article 188). Derivative actions are suits brough by shareholders in the name of the company against a third party, normally a director of the company. The institution of the double derivative action, as laid down in the draft Article 188, allows a shareholder in a parent company to sue the directors, supervisors and senior managers of its wholly-owned subsidiary.

This paper explores the rationale for the current law reform and analyses the proposed changes in relation to directors’ duties and the protection of shareholders’ interests. It also assesses the relevant law in the 2006 Companies Act of the United Kingdom in order to draw comparative lessons for future company law reforms in China. The proposed amendments have not solved all of the problems in relation to the current law on directors’ duties and shareholders’ derivative actions; nevertheless, they undoubtedly reflect Chinese legislators’ effort to improve the corporate legal framework and enhance corporate governance in China. If these proposals are adopted in the final legislation, they will bring significant improvement to company law and corporate governance in China; ultimately, they will make Chinese companies more competitive and attractive to both home and foreign investors.

The paper Chinese Company Law Draft Amendments: Strengthening Directors’ Duties and Improving Shareholders’ Protection was published in the International Company and Commercial Law Review.

Dr Fang Ma is a Senior Lecturer in Law at the University of Portsmouth in the UK. Her research interests include Company law and Corporate Governance in China and in the UK. She can be contacted at fang.ma[at]port.ac.uk.