A Comparative Study on Typical Cases of Corporate Governance between China and the United States

Author | Zhang Junyi, Mu Qing, ***

Introduction

When the interests of shareholders are damaged, directly sue the board of directors, directly sue the major shareholders when the interests of small shareholders are damaged, shareholders use the company to evade debts, and the interests of creditors are difficult to remedy and other disputes. This kind of contradiction between controlling shareholders, large shareholders, small shareholders, directors, and creditors is a dispute that has occurred in the intermediate frequency of the company's operation and management in recent years.

As the company gradually becomes an important commercial transaction subject in the market, various types of litigation occur frequently. This paper focuses on four common disputes in corporate governance: shareholders and directors, major shareholders and minor shareholders, corporate personality denial, and the validity of company resolutions. By comparing the similarities and differences between Chinese company law cases and American company law cases, we want to explore feasible solutions for common disputes in corporate governance.

First, conflicts and disputes between shareholders' interests and directors' management

The first type of conflict in company law mainly focuses on the conflict between directors and shareholders. In modern companies, although shareholders are investors and owners, the directors are responsible for the operation and management of the company's daily business. In the process, directors' actions are often inconsistent with shareholders' interests, and shareholders will file a lawsuit and require directors to bear responsibility.

As far as this issue is concerned, there are similarities between the treatment of Chinese company law and American company law.

First of all, as far as the procedural issues of shareholders suing directors are concerned, both the Chinese company law and the US company law have stricter requirements for shareholders to sue directors. There are two situations in which shareholders can sue directors under the Chinese company law. The first situation is that the first situation is that the damage suffered by shareholders directly comes from the directors.

The second scenario is when shareholders file a lawsuit against directors in the name of the company's damage, but the law has strict restrictions on this.

According to Article 151 of the Company Law of the People's Republic of China, shareholders of a limited liability company or shareholders of a joint stock company who hold more than 1% of the company's shares individually or collectively for more than 180 consecutive days may request in writing the board of supervisors or the supervisors of a limited liability company without a board of supervisors to file a lawsuit with the people's court; the board of supervisors, the supervisors of a limited liability company without a board of supervisors, or the board of directors and executive directors refuse to file a lawsuit after receiving the written request from the shareholders specified in the preceding paragraph, or fail to file a lawsuit within 30 days from the date of receipt of the request, or the situation is urgent and failure to file a lawsuit immediately will cause irreparable damage to the interests of the company Yes, the shareholders stipulated in the preceding paragraph have the right to file a lawsuit directly with the people's court in their own name for the benefit of the company.

In the case of an investment center v. Liu, Ma, Gao, Zhou and the third person, a cultural development company, for damages to the interests of shareholders, the court pointed out that if shareholders file a lawsuit on the grounds of damage to their interests, they should pay attention to distinguishing between damage to the interests of shareholders and damage to the interests of the company. If the interests of shareholders suffer indirect losses due to the damage to the interests of the company, in principle, the company should be the plaintiff to file a lawsuit for damages to the interests of the company.

Only in the case of direct damage to shareholders' own interests can shareholders bring a lawsuit against shareholders' interests in their own name. For the damage to the interests of the company, if shareholders directly equate the damage to the company's property with the loss of the company's shareholders' interests according to their own share ratio, it is usually not supported by the court.

Similarly, there are strict procedural requirements in the US corporate law for shareholders to bring lawsuits against directors on behalf of a company.

First, such derivative actions require that the plaintiff was a shareholder of the company at the time the company's interests were harmed and the lawsuit was filed. Second, as to whether the plaintiff should first file a claim with the board of directors, the Delaware rule is that if the shareholder files a claim with the board of directors before the lawsuit, then the court will assume that the shareholder acknowledges the independence and impartiality of the board (the special committee on litigation issues), and then the decision of the board (to sue or not to sue) can only be opposed by appealing to the board with bad faith or gross negligence.

Therefore, in general, shareholders who have a need for derivative litigation will not file a lawsuit with the board of directors, but will directly sue the court, and the court will determine whether they meet the conditions of "immunity from litigation claims", namely (1) whether the board is independent and impartial; (2) whether the board has bad faith and gross negligence, as long as any of these are met, the shareholder's lawsuit can proceed.

In LEVINE v. SMITH, shareholders of General Motors (GM) filed several derivative lawsuits related to a transaction in which Ross Perot, a GM director, and several associates sold their holdings of GM Class E stock back to GM for $743 million.

The buyback comes in response to a disagreement between Mr. Perot, GM's largest shareholder with a 0.8 percent stake, and senior GM management over the management and automotive operations of its EDS subsidiary. The buyback comes as GM is in the awkward position of facing accusations from its director and shareholder, Ross Perot, that it is selling "second-rate cars."

The GM buyback deal was negotiated by a committee of outside directors and subsequently approved by the full board at a meeting that Mr. Perot did not attend, in part on the condition that he not compete with GM and pledged not to publicly criticise the carmaker.

The lawsuit names all the directors and Perot as defendants, and claims the deal paid a premium for Perot's stock only to thwart his criticism. The court held that the board could deny shareholders a derivative lawsuit because the plaintiff shareholders' lawsuit, based on newly discovered evidence, involves at most two of GM's

14outside directors.

As a result, at least 12 of the 21 directors (excluding Ross Perot) are independent and "able to consider the claims impartially".

Secondly, as far as the legal substance of shareholders suing directors is concerned, the most commonly applicable rule in US corporate law is the business judgment rule, which states that if the director's conduct does not involve illegal, fraudulent, and self-dealing, then the general business decision made by the director will be protected by law, and the court will generally not interfere with the normal decision of the director.

In Shlensky v. Wrigley, W, the president of a team's club, refused to install lights on the field to allow the team to play at night. Shareholder S sued that this decision harmed the company's profitability, that W's decision was based solely on his personal belief that baseball was a day sport and that playing at night was bad for his neighbors, and that this arbitrary decision constituted mismanagement.

Applying the business judgment rule, the court noted that in a purely commercial company, the director's right to operate is treated as absolute. In this case, W's motives were not necessarily arbitrary or irrelevant to the business of the company. The directors were justified in considering the cost of the light fixtures and the impact on the community of the night games, and shareholders had no conclusive evidence that failure to conduct the night games would harm profitability.

Although there is no concept of "business judgment rules" in Chinese company law, in practice courts tend to respect the judgment of directors, who used their position to sign a loan agreement with a company with a registered capital of 3 billion yuan to lend another company 300 million yuan, causing the company to lose money.

The shareholders of the company sued the directors, demanding their responsibility. The court's decision was based on procedural provisions, holding that individual shareholders could not directly sue the directors. In this case, although the court started from a procedural point of view, it was actually supporting the directors' decision. The directors could not be held responsible simply because their actions caused damage to the interests of the company.

The conflicts and disputes between major shareholders and minor shareholders

The second type of conflict involves conflicts between large and small shareholders in a company. Large shareholders and controlling shareholders in a company often have stronger control over the directors and will use this to pass some decisions in their favor, while the small shareholders of the company may be dissatisfied and sue. Compared with the business judgment rules of directors, US corporate law adopts a higher standard for such cases, that is, the "inherent fairness" of the transaction, requiring large and small shareholders to benefit equally in the transaction (according to the shareholding ratio).

In Sinclair Oil Corp. v. Levien, Sinclair Oil Corp. (the defendant), a company that markets, produces, and explores for oil, owns 97% of Sinclair Venezuelan Oil Company (Sinven), which is engaged in the oil business in South America.

Levien (the plaintiff) held approximately 2.5% of Svinen's shares. The defendant controlled the directors of Sinven. From 1960 to 1966, the defendant made Sinven pay $108 million in excess dividends, which exceeded its earnings by $38 million.

In 1961, the defendant established Sinclair International (International) to coordinate the defendant's overseas operations, and then contracted Sinven to sell crude oil to International in minimum quantities and at specified rates.

When International failed to perform the contract, the plaintiffs and other minority shareholders of Sinven filed this derivative action, holding the defendants responsible for the excessive distribution of dividends and International's failure to perform the contract. The court held that the inherent fairness test would apply to all transactions in which the parent controlled the subsidiary, gaining benefits at the expense of the subsidiary's minority shareholders, which would place the burden on the parent to prove that the transaction was based on reasonable business objectives, with the criterion being whether the minority shareholders received the same benefit from the relevant transaction as the majority shareholders.

The judge held that, as far as the issue of dividend distribution was concerned, while the defendants received most of the dividends as controlling shareholders, Sinven's minority shareholders also received a portion of the money according to the shareholding ratio, so the dividend distribution was legal. However, in the case of the parent company's transactions with other subsidiaries, the minority shareholders were not given the relevant opportunity and were therefore unfair.

On this issue, China's company law has been more lenient towards directors. In Haigang Group v. Zhongzhi Company for a dispute over damage to the company's interests, Zhongzhi Company, as a major shareholder of the holiday company (and its legal representative, Zou, also served as the chairperson of the company's board of directors), although the company suffered losses due to its cooperation with Haiyun Company, the court held that this was within the scope of the normal exercise of management rights by the major shareholder. Even if the plaintiff suffered investment losses as a minority shareholder, the major shareholder could not be held responsible.

That is, China's company law mainly focuses on whether the shareholders' meeting and the board of directors pass the resolution process legally, rather than focusing on whether major shareholders have gained benefits in transactions that minority shareholders cannot share because of their status.

III. Rules for the identification of corporate personality denial

The third type of conflict involves piercing the corporate veil or denying the personality of the legal person, that is, the personality of the company's shareholders is confused with the personality of the company as a legal person. At this time, in order to protect creditors, it is necessary to pierce the barrier of limited liability and let the shareholders bear the company's debts.

There are two main requirements for piercing the corporate veil in the US corporate law. One is procedural, that is, the personality of the company is not independent but confused with the shareholders, such as the company's property and the shareholders' property are not separated, the company does not hold the board of directors and shareholders' meeting in accordance with normal procedures and keep relevant documents.

The second is in essence, requiring that if the corporate veil is not pierced in a specific case, it will lead to unfair results. The so-called unfair results do not mean that the creditor's claims cannot be discharged, because this is the premise for every similar case to be filed. If the second condition is met, it will make this condition useless.

In Sea-Land Services, Inc. v. Pepper Source, SL shipped pepper for PS, which did not pay its bills and disbanded shortly after. SL sued to pierce the corporate veil, holding PS's shareholders and several other companies in its name accountable for the bills, claiming they were each other's alter ego, created and manipulated by the directors for their own use.

The court held that the veil of the PS company would be lifted when the plaintiff proved that there was a unity of interests between the individual and the company and that allowing limited liability would promote injustice or promote fraud. In this case, the court stated that the first condition was met because none of the companies owned by the defendant had ever held a board of directors, and the directors used the same office to manage all the companies, with the same phone numbers, expense accounts, etc. The directors and several companies borrowed money from each other, and used the company bank account to pay personal expenses.

But the "unjust outcome" condition requires more evidence. On remand, the judge found evidence of fraud. The defendant had promised the plaintiff that it would pay back the money it owed, and the company was already insolvent, so it would have been unfair if the corporate veil had not been pierced to hold the defendant accountable.

There is no "unfair result" in China's company law when dealing with similar denial of legal personality. According to the provisions of the Civil Code of the People's Republic of China and the Company Law of the People's Republic of China, the denial of legal personality only needs to meet the requirements of the shareholder's purpose of evading debts and the confusion of personality between the company and the shareholder.

IV. Rules for determining the validity of company resolutions

The last category of disputes involves compliance with basic corporate procedures. Such cases involve minor problems in the day-to-day management of a company that may not seem particularly serious, but may also have adverse consequences. US corporate law treats this issue not only by focusing on the provisions of the law, but also on the substantive impact of such defects.

In SCHNELL v. CHRIS-CRAFT INDUSTRIES, INC., in order to prevent opponents from seizing power, the current board of directors of the company amended the bylaws to advance the date of the shareholders' meeting. Although this approach was actually consistent with Delaware corporate law, the court held that management's purpose was to use corporate mechanisms and Delaware law to maintain its position and prevent dissenting shareholders from exercising their legitimate efforts to compete with management for proxy power.

These unfair purposes violate the established principles of corporate democracy, and such unfair practices will not be allowed simply because they are legally legitimate.

China's company law also focuses on both procedural flaws and substantive effects when dealing with such issues. In the case of Shareholder A v. A listed company's resolution to revoke the dispute, the company's five-day notice to remove the old directors and elect new directors was held only one day earlier. The court found that this was a tolerable tolerance for minor flaws, and pointed out that the "light disease" was unnecessary.

That is, the court allowed the minor flaw on the basis that it did not have a serious material impact on the formation of the shareholders' fair participation in the resolution and the access to the information required for it.

conclusion

China and the United States have formed different company laws and regulations due to their different national conditions. However, companies, as a standard modern economic organization and an important subject of international trade, face many problems in the operation of companies in various countries under the background of close economic cooperation, such as the contradiction between directors and shareholders, the contradiction between major shareholders and minor shareholders, and the contradiction between creditors and company shareholders. Even in different countries and regions, they are homogeneous.

This means that on the basis of handling similar issues, China and the United States have developed similar rules for the convenience of international trade, commercial transactions, and corporate governance. By studying the current regulations and cases of the company laws of China and the United States, we can further deepen our understanding of the legal issues of corporate governance in the two countries, which will help prevent legal risks arising from Chinese investors' investment and management of companies in the United States, better resolve conflicts and disputes arising in the process of corporate governance in China, and provide high-quality legal services for Chinese companies in the fields of commercial transactions and international trade.

Team Profile

Mu Qing lawyer team

Professional, Diligent, Efficient, Win-win · Service Shenzhen

Mu Qing, Lawyer

Zhiheng Law Firm

Guangdong

is a practicing lawyer, deputy secretary-general of the Labor and Social Security Law Professional Committee of Guangdong Bar Association, member of the Financial Crime Defense Legal Professional Committee of Shenzhen Bar Association, enterprise human resource planning division (national second level), enterprise labor relations coordinator (national second level), enterprise legal risk manager, enterprise legal consultant Qualification, engaged in corporate compliance governance, company articles of association sorting, company control disputes, labor and employment compliance review, company mergers and acquisitions, due diligence, contract formulation and modification, commercial negotiation, debt disputes, criminal defense and other legal services.

***

Zhiheng Law Firm

Guangdong

intern lawyer, engaged in corporate compliance, equity disputes, debt disputes, marriage and family disputes, criminal defense and other legal services.

This article and its content are shared by Zhiheng lawyers, for communication purposes only, and do not represent the legal opinions, suggestions or decision-making basis issued by the law firm or lawyers. If you need legal advice or legal professional analysis, please contact the professional lawyers of

, or leave your contact information in a private message WeChat official account. If you need to reprint this article, please contact the official account editor in the background.