Abstract
If in a transaction for equity income rights transfer and repurchase, the transferee receives a fixed income on principal and interest payments from the transferor based on the lent funds during the transfer period without bearing the risk of changes in the income value of the subject equity, and expressly restricts the transferor from disposing of the dividends and bonuses at will and has them deposited to a special supervision account, then it shall be determined that the equity income rights have not been truly transferred, and that the dividends and bonuses accrued thereon are intended to secure the realization of transferee’s income under the transfer contract. Absent the transferor’s breach of contract, the court shall not support the transferee’s request for direct ownership of the dividends and bonuses, and the transferor shall, as agreed, refund the withdrawn dividends and bonuses to the account specified in the contract.
Basic Facts
In November 2017, a branch of a bank (the “bank branch”) and an investment company subscribed for Class A (senior) trust units of RMB1,400,000,000 and Class B (subordinated) of RMB 467,000,000 in a trust plan. Meanwhile, a trust company and the investment company signed an Equity Income Rights Transfer Contract, stipulating that: (1) the trust plan would acquire the income rights of the subject equity (in Company A) held by the investment company with the trust funds; (2) the investment company would regularly pay a maintenance fee for equity income rights to the trust company starting from the payment date of the transfer price, at an annualized rate of 6.8%; (3) two years after the establishment of the trust, the investment company would have the right to repurchase the income rights of the subject equity from the trust company; and (4) the investment company should pay excess income to the trust company if the subject equity is listed and tradeable during the validity period of the trust contract. In addition, the investment company signed a Shortfall Compensation Agreement with the trust company and the bank branch, specifying that the investment company was obligated to compensate shortfall to the trust company and the bank branch. Additionally, an industrial company signed a Transfer and Repurchase Agreement with the trust company and the bank branch, stating that the industrial company’s transfer and repurchase obligation is triggered on the same conditions as those set forth in the Shortfall Compensation Agreement; the transfer and repurchase amount is calculated as follows: the principal of the trust funds entrusted by the bank branch to the trust + the expected income of the trust + the unpaid trust fees due under the trust plan + the trust income attributable to Party A under the Equity Income Rights Transfer Contract－the trust income already distributed by the bank branch under the trust (including additional trust income).
On September 27, 2017, the investment company and the bank branch executed an Account Supervision Agreement, under which the investment company would deposit the dividends and bonuses from the subject equity and the shortfall compensation deposit for the trust plan into a supervision account ending in 2816 opened by the investment company at the bank branch. The account is not permitted for e-banking and cash withdrawal; any external payment made via the account requires the approval of the bank branch and affixation of a special audit seal. The trust company and the investment company also jointly signed a Notification of Dividend Payment Account intended for Company A, stating that all dividends and bonuses from the subject equity were the property of the trust company, and the dividends and bonuses (if any) distributed by Company A during the transfer period should be paid into the supervision account ending in 2816.
On November 21, 2017, the trust company paid RMB 1,867,000,000 to the investment company in consideration of the transfer of the equity income rights. In 2017 and 2020, the investment company received dividends and bonuses of RMB 79,833,600 and RMB 460,000,000, respectively, from Company A. All maintenance fees for equity income rights due before this lawsuit were paid by the investment company.
Alleging ownership of the dividends for the transfer period and after unsuccessful demand, the trust company filed this lawsuit, seeking dividends of RMB 539,833,600 distributed by Company A to the investment company, as well as liquidated damages for delayed payment of the dividends. During the trial, upon explanation by the court, the trust company made an alternative claim, requesting that the investment company should pay the RMB 539,833,600 worth of distributed dividends and bonuses from the subject equity to the supervision account ending in 2816 at the bank branch.
Holding
On October 10, 2022, the Shanghai Financial Court (the “Court”) issued a civil judgment ((2021) Hu 74 Min Chu No. 2921): ordering the defendant investment company to pay RMB 539,833,600 to the supervision account ending in 2816, and dismissing the remaining claims of the plaintiff trust company. Neither party appealed the first instance judgment, which has become effective.
Reasoning
Regarding the transfer of the equity income rights and the ownership of the disputed dividends and bonuses. The Court opined that: (1) Under the Equity Income Rights Transfer Contract, the consideration received by the trust company is a fixed maintenance fee for equity income rights and additional trust income including excess income. Clearly, the fixed maintenance fee for equity income rights is, by nature, different from the uncertain equity income derived from equity income rights. Moreover, the Contract stipulates that the investment company shall not exercise distribution or disposition right over the said equity income rights, to ensure the integrity of the subject equity, except as otherwise agreed by the parties through consultation. It is evident that the trust company is not the owner of the equity income; the company’s consideration for paying the transfer price was the income on principal and interest payments calculated on the basis of the funds lent to the investment company, rather than equity income. (2) The above income as consideration of the trust company is secured by a Shortfall Compensation Agreement without involving equity income-associated risks. The shortfall compensation obligation of the investment company is furthered secured by a series of credit enhancements including equity repurchase, equity pledge, and guarantees. Because of these contractual arrangements, all incomes receivable by the trust company under the Equity Income Rights Transfer Contract are secured without involving risks occurring during the transfer period of the equity income rights. (3) By signing the Equity Income Rights Transfer Contract, what the trust company and the investment company genuinely desired was capital financing in the name of transfer price. According to existing evidence, the income rights of the subject equity have not been evaluated in terms of their value. Furthermore, according to the Transfer and Repurchase Agreement, after the trust’s termination, if the bank branch do not receive all incomes under the trust contract, and the trust company do not receive all additional trust income and trust plan-related expenses under the Equity Income Rights Transfer Contract, the industrial company is unconditionally obligated to repurchase the disputed equity income rights at a fixed price, which equates to the difference between the agreed income receivable by the bank branch and the trust company and their actually received income. It followed that the investment company intends for capital financing, while the trust company for a fixed income on principal and interest payments. (4) The Contract specifies that any excess income from the listing and trading of the subject equity belongs to the trust property, which further demonstrates that the trust company has not truly acquired the equity income rights.
To conclude, although the trust company was transferred the equity income rights by the Equity Income Rights Transfer Contract, it received fixed maintenance fees for equity income rights and additional trust income including some excess income during the transfer period, without bearing the risk of changes in the value of the subject equity and availability of equity income (i.e., dividend and bonus). As a consequence, the trust company’s principal claim for the ownership of the dividends and bonuses lacks factual and legal basis and is thus rejected by the Court.
Regarding the function of the disputed dividends and bonuses and its implementation: (1) As agreed by the parties, the investment company is not allowed to freely dispose of the dividend and bonuses. Meanwhile, according to the Notification of Dividend Payment Account, both the trust company and the investment company agreed to request that Company A pay the dividends and bonuses into an agreed supervision account. Although this Notification was not actually sent to Company A, as it was officially stamped by both the trust company and the investment company, it should be considered as an expression of true intent and consensus of the parties. The trust company, though not a party to the Account Supervision Agreement, should arguably comply with the Agreement, as the Agreement stipulates how the investment company can ensure the integrity of the equity income rights, namely by transferring the dividends and bonuses to a specified account and restricting their use, and in essence, is integral for enforcing the Equity Income Rights Transfer Contract. Additionally, the trust company, not a shareholder of Company A, cannot directly claim rights. In order to realize the security function of the equity income rights, the parties agreed that the investment company should open a supervision account at the bank branch for the dividends and bonuses to limit its right to dispose of them. To sum up, the above expression of intent of the parities falls outside any legal grounds for invalidity and is thus lawful and valid. (2) Any disbursement out of the disputed dividends and bonuses held in the supervision account should be approved by the bank branch. Such arrangement is designed to urge the investment company to fulfill its obligation to pay the consideration under the Equity Income Rights Transfer Contract as agreed, including the maintenance fee for equity income rights, to ensure the trust company's invested principal and income are maintained at the agreed level, ultimately securing the realization of the bank branch’s expected income under the trust contract in question. As for the issue of how to set off outstanding debts against the disputed dividends and bonuses after they are paid to the supervision account, if the investment company believes that it is necessary for the trust company to timely set off the unpaid maintenance fee for equity income rights against the dividends and bonuses to prevent further losses, it can legally demand that the trust company timely exercise its rights under the Contract.
To conclude, the Equity Income Rights Transfer Contract is an innominate contract, expresses the true intention of the parties, and is lawful and valid without in violation of mandatory provisions of laws and administrative regulations. The investment company has committed a breach of contract by unauthorized disposition of the distributed dividends in violation of the above Contract. The trust company’s alternative claim for the investment company’s transferring the dividends and bonuses to the supervision account should be supported.
Significance
Previously, in a case concerning a transaction for asset income rights transfer and repurchase, the transferee would usually claim performance of repurchase obligation by the transferor. This case is distinct in the following sense: during the transfer period, dividends and bonuses were distributed on the subject equity, and the transferee sued to the Court requesting the transferor’s payment of the dividends and bonuses withdrawn by the transferor on the ground that it had been transferred the equity income rights and therefore owns the dividends and bonuses thereon. This case concerns how to determine the legal nature and function of equity income rights transfer and repurchase contract. After a full analysis of the nature of equity income rights, the consideration and income/risk allocation under the contract, and the parties’ true intention to sign the contract, the Court determined that the equity income rights had not been truly transferred and had instead served as a security. In addition, the plaintiff made an alternative claim after an explanation by the Court, which facilitated the final resolution of the dispute. This case marked the first of its kind where the defendant was ordered to transfer funds to a designated account.
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