July 2024
Serials Research Part Two on the New Systems Under the New Company Law: How to Transit from "Registered and Subscribed Capital System" Under the New Company Law? (Mainland China)
July 2024
Jolene Chen and Teresa Huang
In today's business environment, many companies initially set high subscribed capital and long subscription periods during their establishment. However, in practice, shareholders often fail to fully pay their subscribed capital before the deadline. The new Company Law, which aims to regulate the business environment, has imposed restrictions on the subscription periods through Article 47. This has caused many enterprises to encounter challenges related to high subscribed capital that needs to be completed within a relatively short timeframe. The conflict between the outward appearance of strength and the internal financial pressure leaves entrepreneurs feeling perplexed.
In response to this issue, where registered capital is subscribed but not paid, capital reduction has become the preferred solution for most enterprises. This article aims to explore how to effectively address the problems of excessively high subscribed capital and overly long subscribed periods through company capital reduction. It also analyzes the objective conditions and changes in the judicial environment that need to be considered during the capital reduction process.
I. Analysis of the prerequisites for capital reduction:
Both Article 224 of the new Company Law and Article 177 of the original Company Law explicitly require companies to promptly notify creditors of relevant resolutions when implementing a capital reduction plan. These provisions imply that the company's current debt situation has a crucial impact on whether the capital reduction process can proceed smoothly.
A. For companies with no liabilities:
If a company has no liabilities, capital reduction is relatively straightforward and has minimal impact on daily operations. The company can proceed with the capital reduction process directly as stipulated by law. According to Article 224 of the new Company Law, the company should prepare a balance sheet and an inventory of assets, notify creditors within ten days after the shareholders' meeting makes a resolution to reduce the registered capital (if there are no creditors, no notification is required), and announce it in a newspaper or on the National Enterprise Credit Information Publicity System within 30 days.
B. For companies with liabilities:
If a company has liabilities, it must carefully assess the debt size, nature, and the number of creditors. Especially in cases of large debts or numerous creditors, when notifying creditors, it is essential to be aware that creditors have the right to make requests, including repayment of debts or requiring the company to provide corresponding guarantees. In such cases, the capital reduction process may trigger risks of creditors collectively demanding debt repayment, and even accelerate the maturity of debts according to Articles 408, 527, and 578 of the Civil Code or Article 17 of the Guiding Opinions of the Supreme People's Court on Several Issues Concerning the Trial of Civil and Commercial Contract Dispute Cases under the Current Situation. This situation is similar to a bank run and can quickly deplete a company's liquidity, threatening its financial stability and potentially leading to bankruptcy.
II. Response to various situations in capital reduction strategies:
A. Paid-in Registered Capital Reduction:
If shareholders have fully paid their registered capital, and the company chooses to proceed with capital reduction, it usually indicates that the company is financially healthy with sufficient funds. In this situation, the company can refund funds to shareholders proportionally or as agreed. However, the capital reduction process must strictly follow legal procedures, especially ensuring timely notification to all creditors. If the company fails to fulfill its notification obligations and this is discovered by creditors, the capital reduction may be deemed invalid, meaning it is treated as if it did not actually occur. In this case, shareholders must return the funds they received and bear supplementary compensation liability for the unpaid portion of the company's debts.
B. Subscribed Capital Reduction:
In the context of reducing capital without actual paid-in registered capital under the registered and subscribed capital system, shareholders may not have actually paid the registered capital yet. Instead, the original subscribed capital amount can be reduced through shareholder resolutions and amendments to the company's articles of association. If the company fails to promptly notify all creditors during the capital reduction process, creditors may sue the company once they become aware of the reduction. The court's rulings on such cases will vary depending on the legal provisions.
Before the implementation of the new Company Law (before July 1, 2024), creditors can only request the shareholder who fails to pay the registered capital to bear supplementary liability for the reduced registered capital after the capital contribution deadline. This is guided by the principle of protecting shareholders' interests in terms of capital contribution.
Prior to the implementation of the new Company Law, the position held by the "Notice of the Supreme People's Court on Issuing the Summary of the National Court's Civil and Commercial Trial Work Conference" (Fa [2019] No. 254) (hereinafter referred to as "the Ninth Civil Minutes") is that, in principle, shareholders should enjoy the term interest of their capital contributions, and the capital contributions should not be accelerated to maturity. However, there are two exceptions, including: (1) In cases where the company is the executed party, and the people's court has exhausted all enforcement measures but has no property available for execution, the company has already met the criteria for bankruptcy but does not apply for bankruptcy; (2) After the company's debts arise, the shareholders' (general) meeting resolves or otherwise extends the term of shareholders' capital contributions. This position is also followed in judicial practice. For example, in the second instance civil judgment of execution objections between Shanghai Huixiang Office Supplies Co., Ltd. and Shanghai Chuangqi Intelligent Technology Co., Ltd., Fu Min, etc., the Shanghai Higher People's Court held that during the process of capital reduction, Chuangqi failed to notify the creditor Huixiang of the capital reduction, which was therefore ineffective against Huixiang. The registered capital of Chuangqi remained at RMB 1 million, with a contribution deadline of July 23, 2024. Generally, the company's failure to settle its due debts does not lead to the acceleration of shareholders' capital contribution obligations, unless there are statutory circumstances stipulated in Article 22 of the Provisions of the Supreme People's Court on Several Issues concerning the Application of the Company Law of the People's Republic of China (II) (Company Dissolution) or Article 35 of the Enterprise Bankruptcy Law of the People's Republic of China (Company Bankruptcy). Article 17 of the "Regulations on Changes and Additions" concerning the executed party being an enterprise legal person, and the court's provision to "add shareholders who have not paid or fully paid their capital contributions as the executed party" refers to shareholders who "have not fully paid their capital contributions within the period stipulated in the articles of association." In this case, the capital contribution deadline for Chuangqi's RMB 1 million capital is July 23, 2024, and the three shareholders have not failed to fulfill their capital contribution obligations as stipulated in the articles of association, leaving no room for the application of this provision to add executed parties.
After the implementation of the new Company Law (after July 1, 2024), during the process of capital reduction, if creditors request the company to repay debts or provide guarantees, and the company fails to do so, creditors have the right to request the acceleration of shareholders' capital contribution term to maturity and even the acceleration of creditors’ debts. This is in accordance with Article 54 of the new Company Law, which means that shareholders need to bear the supplementary liability for the reduced registered capital in advance.
III. Conclusion and Suggestions
Faced with the dilemma of non-payment of subscribed capital, enterprises must fully consider their operating conditions, debt situation, and changes in the legal environment when conducting capital reduction operations. Especially when the company has liabilities, it should carefully assess the risks of capital reduction to avoid triggering a chain reaction of creditors demanding the acceleration of the capital contribution term and debt maturity. At the same time, it is essential to strengthen communication with creditors to ensure the legality and compliance of the capital reduction process, thereby maintaining corporate stability and protecting creditors' rights and interests.
Furthermore, entrepreneurs should pay attention to policy developments and adjust their business strategies and capital structures in a timely manner to cope with changes in the external environment. Through prudent financial planning and risk management, enterprises can ensure steady progress in the intricate and constantly evolving business environment.
Related Articles
The contents of all newsletters of Shanghai Lee, Tsai & Partners (Content) available on the webpage belong to and remain with Shanghai Lee, Tsai & Partners. All rights are reserved by Shanghai Lee, Tsai & Partners, and the Content may not be reproduced, downloaded, disseminated, published, or transferred in any form or by any means, except with the prior permission of Shanghai Lee, Tsai & Partners.
The Content is for informational purposes only and is not offered as legal or professional advice on any particular issue or case. The Content may not reflect the most current legal and regulatory developments. Shanghai Lee, Tsai & Partners and the editors do not guarantee the accuracy of the Content and expressly disclaim any and all liability to any person in respect of the consequences of anything done or permitted to be done or omitted to be done wholly or partly in reliance upon the whole or any part of the Content. The contributing authors' opinions do not represent the position of Shanghai Lee, Tsai & Partners. If the reader has any suggestions or questions, please do not hesitate to contact Shanghai Lee, Tsai & Partners.
Jolene Chen and Teresa Huang
In today's business environment, many companies initially set high subscribed capital and long subscription periods during their establishment. However, in practice, shareholders often fail to fully pay their subscribed capital before the deadline. The new Company Law, which aims to regulate the business environment, has imposed restrictions on the subscription periods through Article 47. This has caused many enterprises to encounter challenges related to high subscribed capital that needs to be completed within a relatively short timeframe. The conflict between the outward appearance of strength and the internal financial pressure leaves entrepreneurs feeling perplexed.
In response to this issue, where registered capital is subscribed but not paid, capital reduction has become the preferred solution for most enterprises. This article aims to explore how to effectively address the problems of excessively high subscribed capital and overly long subscribed periods through company capital reduction. It also analyzes the objective conditions and changes in the judicial environment that need to be considered during the capital reduction process.
I. Analysis of the prerequisites for capital reduction:
Both Article 224 of the new Company Law and Article 177 of the original Company Law explicitly require companies to promptly notify creditors of relevant resolutions when implementing a capital reduction plan. These provisions imply that the company's current debt situation has a crucial impact on whether the capital reduction process can proceed smoothly.
A. For companies with no liabilities:
If a company has no liabilities, capital reduction is relatively straightforward and has minimal impact on daily operations. The company can proceed with the capital reduction process directly as stipulated by law. According to Article 224 of the new Company Law, the company should prepare a balance sheet and an inventory of assets, notify creditors within ten days after the shareholders' meeting makes a resolution to reduce the registered capital (if there are no creditors, no notification is required), and announce it in a newspaper or on the National Enterprise Credit Information Publicity System within 30 days.
B. For companies with liabilities:
If a company has liabilities, it must carefully assess the debt size, nature, and the number of creditors. Especially in cases of large debts or numerous creditors, when notifying creditors, it is essential to be aware that creditors have the right to make requests, including repayment of debts or requiring the company to provide corresponding guarantees. In such cases, the capital reduction process may trigger risks of creditors collectively demanding debt repayment, and even accelerate the maturity of debts according to Articles 408, 527, and 578 of the Civil Code or Article 17 of the Guiding Opinions of the Supreme People's Court on Several Issues Concerning the Trial of Civil and Commercial Contract Dispute Cases under the Current Situation. This situation is similar to a bank run and can quickly deplete a company's liquidity, threatening its financial stability and potentially leading to bankruptcy.
II. Response to various situations in capital reduction strategies:
A. Paid-in Registered Capital Reduction:
If shareholders have fully paid their registered capital, and the company chooses to proceed with capital reduction, it usually indicates that the company is financially healthy with sufficient funds. In this situation, the company can refund funds to shareholders proportionally or as agreed. However, the capital reduction process must strictly follow legal procedures, especially ensuring timely notification to all creditors. If the company fails to fulfill its notification obligations and this is discovered by creditors, the capital reduction may be deemed invalid, meaning it is treated as if it did not actually occur. In this case, shareholders must return the funds they received and bear supplementary compensation liability for the unpaid portion of the company's debts.
B. Subscribed Capital Reduction:
In the context of reducing capital without actual paid-in registered capital under the registered and subscribed capital system, shareholders may not have actually paid the registered capital yet. Instead, the original subscribed capital amount can be reduced through shareholder resolutions and amendments to the company's articles of association. If the company fails to promptly notify all creditors during the capital reduction process, creditors may sue the company once they become aware of the reduction. The court's rulings on such cases will vary depending on the legal provisions.
Before the implementation of the new Company Law (before July 1, 2024), creditors can only request the shareholder who fails to pay the registered capital to bear supplementary liability for the reduced registered capital after the capital contribution deadline. This is guided by the principle of protecting shareholders' interests in terms of capital contribution.
Prior to the implementation of the new Company Law, the position held by the "Notice of the Supreme People's Court on Issuing the Summary of the National Court's Civil and Commercial Trial Work Conference" (Fa [2019] No. 254) (hereinafter referred to as "the Ninth Civil Minutes") is that, in principle, shareholders should enjoy the term interest of their capital contributions, and the capital contributions should not be accelerated to maturity. However, there are two exceptions, including: (1) In cases where the company is the executed party, and the people's court has exhausted all enforcement measures but has no property available for execution, the company has already met the criteria for bankruptcy but does not apply for bankruptcy; (2) After the company's debts arise, the shareholders' (general) meeting resolves or otherwise extends the term of shareholders' capital contributions. This position is also followed in judicial practice. For example, in the second instance civil judgment of execution objections between Shanghai Huixiang Office Supplies Co., Ltd. and Shanghai Chuangqi Intelligent Technology Co., Ltd., Fu Min, etc., the Shanghai Higher People's Court held that during the process of capital reduction, Chuangqi failed to notify the creditor Huixiang of the capital reduction, which was therefore ineffective against Huixiang. The registered capital of Chuangqi remained at RMB 1 million, with a contribution deadline of July 23, 2024. Generally, the company's failure to settle its due debts does not lead to the acceleration of shareholders' capital contribution obligations, unless there are statutory circumstances stipulated in Article 22 of the Provisions of the Supreme People's Court on Several Issues concerning the Application of the Company Law of the People's Republic of China (II) (Company Dissolution) or Article 35 of the Enterprise Bankruptcy Law of the People's Republic of China (Company Bankruptcy). Article 17 of the "Regulations on Changes and Additions" concerning the executed party being an enterprise legal person, and the court's provision to "add shareholders who have not paid or fully paid their capital contributions as the executed party" refers to shareholders who "have not fully paid their capital contributions within the period stipulated in the articles of association." In this case, the capital contribution deadline for Chuangqi's RMB 1 million capital is July 23, 2024, and the three shareholders have not failed to fulfill their capital contribution obligations as stipulated in the articles of association, leaving no room for the application of this provision to add executed parties.
After the implementation of the new Company Law (after July 1, 2024), during the process of capital reduction, if creditors request the company to repay debts or provide guarantees, and the company fails to do so, creditors have the right to request the acceleration of shareholders' capital contribution term to maturity and even the acceleration of creditors’ debts. This is in accordance with Article 54 of the new Company Law, which means that shareholders need to bear the supplementary liability for the reduced registered capital in advance.
III. Conclusion and Suggestions
Faced with the dilemma of non-payment of subscribed capital, enterprises must fully consider their operating conditions, debt situation, and changes in the legal environment when conducting capital reduction operations. Especially when the company has liabilities, it should carefully assess the risks of capital reduction to avoid triggering a chain reaction of creditors demanding the acceleration of the capital contribution term and debt maturity. At the same time, it is essential to strengthen communication with creditors to ensure the legality and compliance of the capital reduction process, thereby maintaining corporate stability and protecting creditors' rights and interests.
Furthermore, entrepreneurs should pay attention to policy developments and adjust their business strategies and capital structures in a timely manner to cope with changes in the external environment. Through prudent financial planning and risk management, enterprises can ensure steady progress in the intricate and constantly evolving business environment.
Related Articles
- Serials Research Part One on the New Systems Under the New Company Law: The Protection System of Creditor's Rights and Interests Under the New Company Law (Mainland China)
- Serials Research Part Three on the New Systems Under the New Company Law: Exploring the Direct Compensation Liability of Directors and Senior Executives to Third Parties Under Article 191 of the New Company Law (Mainland China)
- Serials Research Part Four on the New Systems Under the New Company Law: Discussion on Shareholder Liability and Corporate Veil Piercing in One-Person Companies (Mainland China)
The contents of all newsletters of Shanghai Lee, Tsai & Partners (Content) available on the webpage belong to and remain with Shanghai Lee, Tsai & Partners. All rights are reserved by Shanghai Lee, Tsai & Partners, and the Content may not be reproduced, downloaded, disseminated, published, or transferred in any form or by any means, except with the prior permission of Shanghai Lee, Tsai & Partners.
The Content is for informational purposes only and is not offered as legal or professional advice on any particular issue or case. The Content may not reflect the most current legal and regulatory developments. Shanghai Lee, Tsai & Partners and the editors do not guarantee the accuracy of the Content and expressly disclaim any and all liability to any person in respect of the consequences of anything done or permitted to be done or omitted to be done wholly or partly in reliance upon the whole or any part of the Content. The contributing authors' opinions do not represent the position of Shanghai Lee, Tsai & Partners. If the reader has any suggestions or questions, please do not hesitate to contact Shanghai Lee, Tsai & Partners.
