Directors’ Duties and Liabilities in the PRC

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The legal concept of directors’ duties and liabilities is relatively new in the Chinese civil law jurisdiction, as compared with its common law counterparts. For example, the concept of the fiduciary duty of directors, that is putting the company’s interest before the director/management’s personal interest, was only formally introduced into the PRC Company Law during its 2005 revision.

This article aims to provide the reader with a general overview of the statutory duties and liabilities of directors of a PRC company and also the rights of the shareholders to seek recourse against the directors for wrongdoings.

Before discussing the particular statutory duties and liabilities of directors, one must first understand the general management structure of a PRC company.

Management structure of a PRC company

PRC companies, depending on their nature, are subject to different sets of legal requirements regarding the company’s management structure, and this can get very complicated. Just to name a few examples, on top of the basic requirements set out in the PRC Company Law, listed companies in the PRC are further subject to rules set out in the PRC Securities Law, the Governance Rules on Listed Companies and other pertinent regulations that may change from time to time. The management requirements for wholly foreign owned enterprise, Sino-Foreign joint ventures, and state owned enterprises are all slightly different from one another depending on the applicable governing regime. In general, however, every Chinese company, including foreign-owned subsidiaries established in China, are required to have a board of directors and a board of supervisors.

Roles of the board of directors and board of supervisors

In contrast to the position in most common law jurisdictions, the management of a PRC company is headed by two separate boards. The board of directors is responsible for the company’s general management and is tasked with the following responsibilities [1]:

•  To convene the general meeting and to report on its work to the shareholders;

•  To implement the resolutions of the general meeting;

•  To decide on the business plans and investment plans of the company;

•  To formulate the company’s proposed annual financial budgets and final accounts;

•  To formulate the company’s profit distribution plans and plans for making up losses;

•  To formulate plans for the company’s increase or reduction of the registered capital or for the issuance of corporate bonds;

•  To formulate plans for the merger, division, dissolution or change of corporate form of the company;

•  To decide on the establishment of the company’s internal management organisation;

•  To decide on the employment or dismissal of the manager of the company and his remuneration, and to decide on the employment or dismissal of the deputy manager(s) and person(s) in charge of financial affairs of the company according to the recommendations of the manager and on their remuneration;

•  To formulate the basic management system of the company; and

•  Other functions and powers specified in the article of association of the company

On the other hand, the board of supervisors, as the name suggests, is responsible for overseeing the conduct of the board of directors. By law, it is given the following functions and power [2]:

•  To examine the company’s financial affairs;

•  To supervise the execution of company duties by the directors and the senior officers and to recommend the removal of directors and senior officers that violate laws, administrative regulations, the articles of association of the company or the resolutions of the general meeting;

•  when an act of a director or senior officers is harmful to the company’s interests, to require the director or senior officers to rectify such act;

•  to propose the convening of any extraordinary general meeting and to convene and preside over the general meeting when the board of directors fails to perform the duties of convening and presiding over the general meeting as stipulated herein;

•  to give proposals to the general meeting;

•  to institute proceedings against the directors and senior officers; and

•  other functions and powers specified in the articles of association of the company.

Fiduciary duty of the directors and supervisors

As mentioned earlier in this article, although fiduciary duty is now recognised under PRC law, the concept is still in its infancy and continues to develop. The exact scope of this duty remains unclear particularly when the civil jurisdiction does not recognise and adopt case precedent to allow potential claimants and legal spectators to understand the law better by referring to previously decided cases. The legislation, however, does provide some guidance on prohibited activities of the directors [3]. The directors are prohibited from

•  taking advantage of their positions and powers to collect or accept bribes or other illegal income;

•  appropriating the company’s property;

•  misappropriating the funds of the company;

•  depositing the funds of the company in an account opened in his personal name or in the name of another individual;

•  in violation of the articles of association of the company, lending the funds of the company to other persons or using the property of the company to provide security for other persons without the consent of the board of shareholders, general meeting or the board of directors;

•  entering into a contract or transaction with the company in violation of the articles of association of the company or without the consent of the board of shareholders or general meeting;

•  taking advantage of the convenience of his position to seek for himself or other persons commercial opportunities that belong to the company or operating by himself or for another person the same type of business as that of his company without the consent of the board of shareholders or general meeting;

•  accepting as his own the commissions of a transaction between another person and the company;

•  disclosing the secrets of the company without authorization; or

•  other acts that violate his fiduciary obligation to the company.

Under the relevant provisions of the PRC Company Law, the prohibited activities of the supervisors are not identical to those of the directors. In fact, only the first two prohibited activities in the above list overlaps between the two management roles. The likely reason is that generally the directors are given comparatively more power by law and by the company’s articles of association and thus warrant the additional safeguard.

If the director breaches any of the fiduciary duties or acts in contravention of any laws, administrative regulations or the company’s articles of association, the law provides that the director will be held personally liable to any losses of the company arising from the director’s misconduct [4]. However, the PRC Company Law does not set out specific sanctions/legal consequences should the directors breach their duties. Directors of listed companies are subject to further prohibitions and liabilities under other applicable laws. The law also does not specifically spell out the liabilities if the same is committed by the supervisors.

Shareholder’s right to seek recourse against mismanagement of the company

If a shareholder suspects any mismanagement of the company by the board of directors or wrongdoings committed by the board of directors, they may make a written request to the board of supervisors to institute legal proceedings with the PRC court. If the board of supervisors refuses to institute legal proceedings or fail to do within 30 days after receipt of the written request, the aggrieved shareholder may institute legal proceedings directly in their own name [5]. In the event that the senior officers of the company violate the relevant laws, administrative regulations or acting in breach of the company’s articles of association, the shareholder may also institute legal proceedings in their own name [6]. Again, the PRC Company Law only provides a general guideline on how legal proceedings may be commenced by the aggrieved shareholder, however, the exact procedure and consequences of exercising this right by the shareholder remains less than clear.

Conclusion

There is no doubt that the concept of directors’ duties and liabilities in the PRC is still in its infancy and requires to be developed in the near future. Until then, it is imperative for business owners, shareholders, and third party stakeholders to understand their respective rights and liabilities under the existing legal regime in order to protect their commercial interests.

1. Article 46 of the PRC Company Law
2. Article 53 of the PRC Company Law
3. Articles 147 and 148 of the PRC Company Law
4. Article 149 of the PRC Company Law
5. Article 151 of the PRC Company Law
6. Article 152 of the PRC Company Law

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