Mediation Abstract
In a securities class action, the presiding court can employ mediation under the dual principles of “punishing the principal offenders” and “substantive dispute resolution”. It should apportion primary and secondary liability among the listed company, the actual controller, and the intermediaries. Furthermore, the court needs to encourage the investor protection agency to fulfill its responsibilities effectively and guide all liable parties to assume their respective liability. This approach facilitates an efficient and final resolution of the dispute, maximally protecting the interests of small and medium investors while effectively controlling the securities market risks.
Basic Facts
On April 28, 2023, the Shanghai Financial Court accepted a case that 12 investors including Hu X Wei filed against a technology company, Lin X, Ying X, Wang XX, Jiang XX, a securities company, Hu X Li, Tao XX, an accounting firm, and a law firm concerning dispute over liability for securities misrepresentation. On June 30, 2023, the Court, after a review in accordance with the law, decided to proceed with the procedure of an ordinary representative action, established the scope of the claimants, and issued a claim registration notice for ordinary representative action. On July 21, 2023, the China Securities Investor Services Center Co., Ltd. (CSISC), with the special authorization from 58 claimants including Zheng XX, applied to the Court to serve as the representative of the action. The Court then switched to the procedure of a special representative action and added Liu XX and Lei XX as defendants pursuant to the CSISC application. On July 28, 2023, the Court issued a claim registration notice for special representative action. Following the procedure’s “implied inclusion and expressed exclusion” rule, 26 investors opted out by the opt-out deadline, culminating in a final plaintiff roster comprising 7,196 investors (hereafter referred to as the “plaintiffs”).
The plaintiffs stated that one defendant, a technology company, was listed on the STAR market of the Shanghai Stock Exchange. On April 21, 2023, the company announced that it had received the Administrative Penalty Decision (No. [2023]29) from the China Securities Regulatory Commission (CSRC). The CSRC determined that the company had concealed important facts and fabricated significant falsehoods in its securities offering documents. The company’s disclosed 2020 and 2021 Annual Reports were also determined to contain false records and material omissions. The plaintiffs contended that these acts constituted securities misrepresentation by the company, for which it should bear civil liability for damages. They also sought joint and several liability from the company’s actual controller Lin X, the directly responsible supervisor Ying X, other senior executives, the sponsoring and lead underwriting securities company, the sponsor representatives, the auditing accounting firm, and the law firm involved.
During the trial, in response to a joint application by the plaintiffs and defendants, the Court appointed a third-party loss assessment institution to calculate the total losses suffered by the plaintiffs. Each plaintiff’s investment difference loss was calculated based on the average purchase price using the moving weighted average method, adjusted for specific risk factors of the securities market. Losses related to commissions and stamp duty were also included. The total calculated losses for the plaintiffs amounted to RMB 284,590,301.96.
Mediation Results
On December 5, 2023, under the mediation of the Court, the CSISC, representing the plaintiffs, and the twelve defendants, including the technology company and its actual controller, executives, and the intermediaries, signed a draft mediation agreement and submitted an application to the Court for the issuance of a civil mediation paper. After a public hearing, the Court decided to produce a civil mediation paper, taking into consideration the investors’ supportive and opposing views, the legal and factual circumstances of the case, and the lawfulness, appropriateness, and feasibility of the draft mediation agreement. Following notification to the dissenting investors, one investor opted out of the mediation by the opt-out deadline, leaving a total of 7,195 investors participating in the mediation.
On December 26, 2023, the Court issued the Civil Mediation Paper ((2023) Hu 74 Min Chu No. 669), wherein the defendants confirmed their civil liability to the plaintiffs due to misrepresentation. In particular, the issuer (i.e., the technology company), its actual controller Lin X, and the directly responsible supervisor Ying X should bear primary liability, while other directly responsible personnel of the technology company (i.e., Liu XX, Wang XX, Lei XX, and Jiang XX), the intermediaries (i.e., a securities company, an accounting firm, and a law firm), and their directly responsible personnel Hu X Li and Tao XX, should bear liability corresponding to the degrees of their faults. To protect the legitimate rights and interests of the investors promptly, ensure substantive resolution of the dispute through a single action, and minimize negative impacts on the capital market, the parties agreed on a payment plan for the total amount of compensation as assessed by the third-party institution. Through this mediation, the plaintiffs and all liable parties conclusively resolved their civil compensation dispute due to securities misrepresentation.
After the mediation, the compensation owed to the investors was disbursed to their respective securities funds accounts through an automatic distribution mechanism established between the Court and the China Securities Depository and Clearing Corporation (CSDC) Shanghai Branch, demonstrating efficient and convenient judicial protection.
Mediation Guidelines
Securities class actions are characterized by a wide array of litigants and multiple, complex disputes. The advantages of mediating class actions include reducing litigation costs for investors seeking to protect their rights, significantly shortening the compensation period, enabling the company involved to quickly shed the litigation burden, and reducing the secondary impacts of the relevant violations on the capital market.
Throughout the mediation process in this case, the Court adhered to the following principles: First, apportionment of liability in accordance with the law. The Court resolutely implemented the “zero tolerance” policy of the CPC Central Committee and the State Council towards illegal activities in the capital market, assigning primary liability to the listed company and its actual controller. Additionally, the Court urged the issuer, its directors, supervisors, and executives, the intermediaries, as well as other involved parties to proactively assume their corresponding compensation liability based on the nature of their actions and the degrees of their faults. Second, substantive resolution of the dispute. The Court exercised judicial activism throughout the mediation, thoroughly considering the interests, claims, mediation willingness, and concerns of both plaintiffs and defendants. It also factored in each party’s liability, payment ability, industry reputation, and potential for subsequent recovery. The Court crafted a solution that coordinates the sharing of liability and the timing of payment, resolving the dispute efficiently and conclusively through settlement. Third, protection of investors’ rights and interests. The Court aimed to enable every eligible investor to receive compensation as soon as possible in a fair and efficient manner. It also improved the litigation mechanisms to maximally safeguard the plaintiffs’ rights to information, participation, and objection in the class action. Fourth, win-win cooperation. The Court actively encouraged the investor protection agency to fulfill its responsibilities effectively and guided the actual controller and executives of the issuer and the intermediaries involved to secure understanding through compensation, and to carry out administrative settlement concurrently. Moreover, efforts were made to coordinate the preservation of funds and the distribution of compensation, and to reduce costs and fees. The goal was to seek the optimal balance between protecting the interests of small and medium investors, controlling securities market risks, and maintaining market order.
To ensure the mediation proceeds smoothly, the Court took several measures: First, through the general prior preservation mechanism for class actions, the Court, ex officio, preserved the property of the technology company, which faced delisting, thus creating a solid foundation and financial guarantee for the mediation process. Second, the Court expanded and upgraded the comprehensive judicial protection platform for investors and enhanced the section dedicated to representative actions, ensuring that over 7,000 investors could simultaneously log in to exercise their rights of opting out, lodging objections, etc. Third, leveraging the advantages as a specialized court, the Court obtained accurate investor transaction records through a dedicated securities enforcement inquiry line set up with financial infrastructures like the CSDC, enabling rapid and precise determination of the infringers’ liabilities. Fourth, the Court proactively opened up directed access to the live broadcasts of court sessions to increase the plaintiffs’ participation in the hearings of the representative action, thereby safeguarding their rights to information. Fifth, the Court maintained close communication with the securities clearing organizations, pre-confirming the investors’ account information through the automatic funds distribution mechanism for representative actions, to ensure swift compensation payments directly to the investors.
Mediation Significance
This case marks China’s first special representative action on the STAR Market and first settlement of a securities class action. It is also the Court’s first attempt at mediating a class action under the dual principles of “punishing the principal offenders” and “substantive dispute resolution.” In the civil mediation paper, the Court established that the listed company and its actual controller should bear primary liability, reflecting the “zero tolerance” policy of the CPC Central Committee and the State Council towards illegal activities in the capital market. The Court also actively encouraged the investor protection agency to fulfill its responsibilities effectively and guided all liable parties to assume their respective liability. Furthermore, the Court factored in each party’s liability, payment ability, industry reputation, and potential for subsequent recovery. This approach facilitated an efficient and final resolution of the dispute, achieving the balance of protecting the interests of small and medium investors and effectively controlling the securities market risks. The satisfactory resolution of this case helps maintain the health and order of the securities trading market, fosters a favorable financing ecosystem for technology start-ups, enhances the rule of law in the capital market, and boosts confidence among listed companies and investors.
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