[Abstract]
A company must obtain approval of its shareholders’ meeting or general meeting in the form of a resolution before providing guarantee for any of its shareholders or actual controllers. In judicial practice, the interpretation of “related-party guarantee” should be appropriately broadened according to the legislative spirit and purposes. Specifically, if a company provides guarantee for another company controlled by the same actual controller of the first company, approval of the first company’s general meeting must also be obtained. Listed companies, due to their public nature, are subject to higher transparency requirements and stricter supervision. Moreover, with the decentralization of equity, small and medium shareholders are more likely to be harmed by the controlling shareholders’ abuse of power. When accepting the “related-party guarantee” provided by a listed company, the creditor should assume a higher duty of care. If the creditor fails to examine the validity of the resolution of the general meeting, the guarantee should be held as invalid.
[Keywords]
Related-party guarantee; resolution of the general meeting; abuse of power by shareholders
Plaintiff: Hengwang Management Consulting (Shenzhen) Co., Ltd., domiciled in Qianhai Shenzhen-Hong Kong Cooperation Zone, Shenzhen, Guangdong Province.
Legal Representative: General Manager He X.
Defendant: Guangzhou Nanhua Shenke Information Technology Co., Ltd., domiciled in Haizhu District, Guangzhou, Guangdong Province.
Legal Representative: General Manager Mai X Biao.
Defendant: Hunan Tianrun Digital Entertainment & Culture Media Co., Ltd., domiciled in Yueyanglou District, Yueyang, Hunan Province.
Legal Representative: Chairman Mai X Jun.
Defendant: Lai X Feng.
The Plaintiff Hengwang Management Consulting (Shenzhen) Co., Ltd. (“Hengwang”) filed a lawsuit to the Shanghai Jiading District People’s Court against the Defendant Guangzhou Nanhua Shenke Information Technology Co., Ltd. (“Nanhua Shenke”), the Defendant Hunan Tianrun Digital Entertainment & Culture Media Co., Ltd. (“Tianrun”) and the Defendant Lai regarding certain other contract dispute.
The Plaintiff Hengwang alleged that:
On October 29, 2018, Hengwang entered into a Commercial Factoring Contract (No.: HWNH-BL201809-002) with Nanhua Shenke, Tianrun and Lai, according to which Hengwang shall provide Nanhua Shenke with a factoring line of RMB 55 Million, and Nanhua Shenke shall assign its accounts receivable from Guangzhou Bozi Trading Co., Ltd. (“Bozi”), who is not a party to the case, to Hengwang. The Contract also stipulates that the Defendant Nanhua Shenke shall pay the agreed expenses to Hengwang in full and on time. In the event of a default, Hengwang may demand Nanhua Shenke to repurchase or make a recourse against Nanhua Shenke with respect to the principal of the factoring, fund occupation fee, late payment penalty and other expenses. On the same day, the parties signed a Supplementary Agreement to the Commercial Factoring Contract, stipulating that the Defendant Nanhua Shenke shall create a mortgage over its real estate for the benefit of Hengwang. On November 5 & 6, 2018, Hengwang paid the factoring fund of RMB 55 Million to the Defendant Nanhua Shenke through bank account transfer. In order to secure the performance of the contractual obligations by the Defendant Nanhua Shenke, the Defendants Tianrun and Lai, signed the Factoring Contract as guarantors, and respectively issued a Guarantee Letter to Hengwang, promising to assume joint and several liabilities for the repurchase obligation, the payment obligations of fund occupation fee and late payment penalty and all other obligations of the Defendant Nanhua Shenke under the Factoring Contract. After execution of the Factoring Contract, the Defendant Nanhua Shenke failed to pay Hengwang the fund occupation fee as agreed, and also failed to create a mortgage over its real estate for the benefit of Hengwang. The guarantors also failed to perform their guarantee liabilities.
The Defendant Nanhua Shenke argued that:
1. It has no dispute about the financing principal of RMB 55 Million and the litigation preservation insurance cost claimed by Hengwang, but disagreed with the fund occupation fee. According to Article 3 of the Commercial Factoring Contract, the fund occupation fee for the 91 days from November 6, 2018 to February 5, 2019 is RMB 2,742,465.75, and after deducting RMB 1.2 Million that has been paid, the outstanding amount should be RMB 1,542,465.75.
2. The late payment penalty shall be calculated based on the financing principal of RMB 55 Million. For the purpose of calculation of the late payment penalty, Article 4(3) of the Commercial Factoring Contract does not stipulate that the base shall be the sum of the financing principal and interest. By reference to business practices and common borrowing disputes, the Defendant Nanhua Shenke argued that the “sum of prices” referred to in the said clause includes nothing more than the financing principal. Moreover, in the event of ambiguity in the meaning of “sum of prices”, this clause, being a standard clause, shall be interpreted against Hengwang as the drafter.
3. The attorney’s fee claimed by Hengwang is excessive and shall be adjusted by the court. Although Hengwang signed an engagement contract with a law firm for this case and the agreed attorney fee is RMB 300,000, the amount actually paid by Hengwang is only RMB 105,000. The excessive part of RMB 195,000 is unacceptable to the Defendant Nanhua Shenke. Moreover, the legal issue in this case is relatively simple, warranting no attorney fee as high as RMB 300,000.
The Defendant Tianrun argued that:
1. According to Article 111 of Tianrun’s Articles of Association that “the Company’s provision of external guarantee shall be approved by more than two-thirds of the directors presented at the board meeting” and Article 118 that “a resolution of the board of directors shall be adopted with the consent of the simple majority of directors”, the guarantee in question provided by the Defendant Tianrun for the obligations of Hengwang, which is as high as RMB 180 Million, must be reviewed and approved by the board of directors of Tianrun. However, the board of directors of Tianrun consisted of 9 members and the board resolution provided by Hengwang was signed by 5 directors only, short of the two-thirds requirement.
2. According to Articles 16 and 148 of the Company Law, Guo Fa (2005) No. 34, Zheng Jian Fa (2005) No. 120, and Shen Zheng Shang [2018] No. 556, external guarantee provided by a listed company must be approved by its board of directors. The provision of guarantee in this case by the Defendant Tianrun violated the aforesaid laws and regulations and shall be held as void and null.
3. It is apparent from Article 14 of the Commercial Factoring Contract that the Defendant Tianrun is the actual controller of the Defendant Nanhua Shenke. Therefore, in accordance with Article 41 of the Articles of Association of Tianrun, the provision of guarantee for the actual controller must be approved by the general meeting of shareholders, which approval is absent in the present case.
4. The Defendant Tianrun is a listed company, and the documents relating to the external guarantees provided by it are available through public sources. When examining the guarantee provided by the Defendant Tianrun, Hengwang shall at least exercise due diligence to check Tianrun’s Articles of Association, the resolutions of the board of directors announced online, and the disclosure of guarantee information. For a listed company, only the information publicly disclosed are binding. However, the Guarantee Letter and related information have never been disclosed to the public. Therefore, Hengwang failed to prove that it had fulfilled its duty of care, had gross negligence, and shall not be recognized as a bona fide person. Compared with the Guarantee Letter issued by the Defendant Lai, the Guarantee Letter issued by Tianrun specifically marked “Annex: Board Resolution”. Obviously, Hengwang has a clear knowledge that the guarantee in this case is subject to approval by the board in the form of resolution. Moreover, Hengwang, as a professional commercial factor, should have known that the common seal and legal representative of a listed company cannot bind the shareholders of the listed company; therefore, no apparent agency shall be presumed in this case. To sum up, the Guarantee Letter in this case shall be held as invalid and Tianrun shall not be held liable for any legal consequences thereof. That being said, even both the Plaintiff and the Defendant had gross negligence, according to Article 7 of the Judicial Interpretation of the Guaranty Law, the civil liability of the Defendant Tianrun is secondary liability and is limited to 50% of the debt that cannot be repaid by the debtor.
5. If, where the guarantee contract in question was not approved by the board of directors but the Defendant Tianrun is ordered to bear the joint and several liability, the interests of the vast shareholders of listed companies will be damaged and the order of the securities market will be disrupted. Therefore, in accordance with Article 52 of the Contract Law, the guarantee should be held invalid since it damaged the public interest and the Defendant Tianrun shall not be held liable for the joint and several liability guarantee.
The Defendant Lai did not respond.
Shanghai Jiading District People’s Court found in the trial of the first instance that:
On October 29, 2018, the Plaintiff Hengwang and the Defendant Nanhua Shenke (Party B, Assignor of Accounts Receivable), the Defendant Tianrun (Party C1, Guarantor 1), and the Defendant Lai (Party C2, Guarantor 2) entered into a Commercial Factoring Contract (No.: HWNH-BL201809-002). According to the key terms of the Contract, Party B will apply to Party A for a financing facility as per its business needs with the accounts receivable owed by the buyer under the relevant business contract, that is, Party B shall assign to Party A the outstanding accounts receivable owed by the buyer to Party B under the business contract, and Party A shall pay Party B the agreed price as the consideration for the assigned accounts receivable. Party A agrees to provide Party B with the “undisclosed domestic factoring with recourse and with revolving credit line”. Party C agrees to assume unlimited joint and several guarantee liabilities for Party B’s obligations under this Contract.
Article 2 (“Business Type”) of the Commercial Factoring Contract provides that: (1) The credit line of factoring financing is RMB 180 Million; (2) the type of factoring financing line is a revolving credit line; (3) the term of factoring credit is 6 months. The term of a single factoring financing transaction is 3 months, starting from the date when Party A pays Party B the assignment price of a single account receivable under this Contract. Prior to the expiration of the said 3-months period, Party A may decide to extend the term of a single factoring financing up to 3 months depending on Party B’s performance; (4) each use of the factoring financing line shall be subject to satisfaction of all the following preconditions: ... 3. the mortgage registration of the collateral has been completed before the first financing line is disbursed (see the Real Estate Mortgage Contract for details of mortgage). The collateral is provided to secure the entire factoring credit line.
Article 3 (“Fund Occupation Fee”) provides that: (1) the fund occupation fee for the assignment price paid by Party A under this Contract is 20%/year, which shall be calculated against the assignment price paid by Party A and actual days of use from the date when Party A pays the assignment price; (2) Party B shall pay the fund occupation fee for three months to Party A in a lump sum within two business days upon receiving the assignment price for each single account receivable. If the parties agree upon the extension of a single factoring financing transaction, the fund occupation fee for the extension period shall be paid in a lump sum within two business days following the extension date.
Article 4 (“Other Fees and Rate”) provides that: (1) Other expenses under this Contract include factoring fee, late payment penalty and other fees… (3) Calculation of Late payment penalty shall be based on the “sum of the price” defaulted by Party B, at 0.05% daily rate and according to the actual days overdue under this Contract; (4) Other fees refer to all fees and expenses incurred from handling the factoring business and performance of this Contract, including but not limited to attorney’s fees, insurance premiums, notary fees, litigation expenses.
Article 6 (“Disbursement of Assignment Price”) provides that: (1) Preconditions for disbursement of the assignment price are as follows... 3. Party B has provided Party A with the business contract, commercial tax invoices and other transaction vouchers; (2) Where Party B, within the factoring financing line available to it under this Contract, requests to Party A for assigning the accounts receivable, Party A will disburse the assignment price to Party B’s designated account; (3) The date of payment of the assignment price is the date of assignment of the accounts receivable.
Article 12 (“Event of Default”) provides that: Any of the following circumstances occurred during the term of this Contract constitutes an event of default: (1) Party B fails to pay any installment of the fund occupation fee or any other amount stipulated herein in full and on time;
Article 13 provides that: upon occurrence of any event of default described in the preceding Article 12, Party A may exercise one or more than one of the following remedies depending on the nature and extent of default: …(3) once the payment under any single factoring financing (including fund occupation fee and repurchase price) becomes overdue, it shall be deemed that the whole factoring financing facility has become overdue, and in this case, Party B shall immediately, in the form of monetary funds, repurchase all accounts receivable that have been assigned to but ye to been collected by Party A; (4) Party A may recourse to Party B and Party C according to law for all the accounts receivable that Party A has not collected under this Contract, the late payment penalty and all expenses actually incurred.
Article 14 provides that: Party C shall provide guarantee for Party B with unlimited joint and several guarantee liabilities: … (2) the amount of the guarantee is RMB 180 million of the credit line agreed in this Contract, plus the fund occupation fee and related expenses incurred therefrom (see the Guarantee Letter for details).
The Contract includes Annex 1 “Notice of Credit Line Approval” issued by the Plaintiff to the Defendant Nanhua Shenke, Annex 2 “Confirmation of the Assignee for the Accounts Receivable” and Annex 3 “Request for Assignment of Accounts Receivable” issued by the Defendant Nanhua Shenke to the Plaintiff, and Annex 4 “List of Accounts Receivable Assigned” issued by the Defendant Nanhua Shenke.
Among them, Annex 1 “Notice of Credit Line Approval” states that: in view of your company(Nanhua Shenke)’s factoring application and the Commercial Factoring Contract (No. HWNH-BL201809-002) signed with our company on October 29, 2018, we, Hengwang, hereby decide that... the financing credit line is RMB 55 Million, the annual rate of fund occupation fee is 20%, the factoring charge is 0%, and the rate of late payment penalty is 0.05% per day, and the overdue payment is the sum of overdue payable + fund occupation fee + factoring charge + late payment penalty; the principal and interest shall be paid in a lump sum on the due date; and the payment method of the fees and interest is set out in Articles 3 and 4 of the Commercial Factoring Contract.
Besides, Hengwang (Party A, Assignee of Accounts Receivable) and Nanhua Shenke (Party B, Assignor of Accounts Receivable), Tianrun (C1, Guarantor 1), Lai (C2, Guarantor 2) entered into a “Supplementary Agreement to the Commercial Factoring Contract”, which stipulates that: Whereas, Party A, Party B, and Party C signed a Commercial Factoring Contract (No.: HWNH-BL201809-002) in October 2018... 1. According to the Master Contract, Party B shall complete the mortgage registration of the collaterals (see the Real Estate Mortgage Contract for the details of the mortgage) before the first draw of financing fund is disbursed by Party A, but now Party A agrees to disburse the first draw of financing fund (up to the credit line specified in the Notice of Credit Line Approval, Annex 1 to the Master Contract) in advance after the effective date of this Agreement, and Party B shall complete the mortgage registration of the collaterals within 30 days upon disbursement of the first draw of financing fund, and when the encumbrance certificate of the collaterals is received by Party A, it shall be deemed as the completion of the mortgage registration... 3. If Party B violates any of the provisions of this Agreement, Party A may unilaterally terminate the Master Contract and this Agreement, and may require Party B to return to Party A the assignment price of all accounts receivable and the fund occupation fee under the Master Contract; if overdue, Party B shall pay the liquidated damages at 0.05% per day for the overdue amount.
On the same day, Hengwang (Party A, Mortgagee) and Nanhua Shenke (Party B, Mortgagor) entered into a Real Estate Mortgage Contract, which stipulates that: Whereas Party A and Party B signed a Commercial Factoring Contract (No. HWNH-BL201809-002) in 2018; Now therefore, Party B agrees to mortgages its own real estate in favor of Party A, so secure, on a joint and several basis, all debts under the Commercial Factoring Contract. The collateral is located at #701, No. 238 Beijing Road, Yuexiu District, the mortgaged area being 6,017.96 square meters; the appraised value is RMB 304,815,768.94, and the mortgage amount RMB 180 million; within 2 business days following the date of this Contract, Party B shall deliver relevant materials to Party A and cooperate with Party A to complete the mortgage registration.
On the same day, Tianrun and Lai respectively issued a Guarantee Letter to Hengwang, promising to assume unlimited joint and several guarantee liabilities for the performance of the obligations of the assignor of the accounts receivable under the Commercial Factoring Contract. The amount of the guarantee is RMB 180 million, i.e., the factoring credit line stipulated in the Commercial Factoring Contract, plus any and all fund occupation fees (whether due or undue), late payment penalty, and expenses incurred by Hengwang for the enforcement of its claims (including but not limited to attorney’s fees, litigation expenses, preservation fees, guarantee fees, announcement fees, notarization fees, travel expenses, etc.); the guarantee period is two years from the expiry date of the Commercial Factoring Contract. After execution of the said contract, Hengwang paid a total of RMB 55 Million of factoring funds to Nanhua Shenke on November 5 and November 6, 2018. Nanhua Shenke paid a total of RMB 1.2 million of the fund occupation fees to Hengwang on November 30 and December 7, 2018 and January 4, 2019.
However, as Nanhua Shenke failed to register the real estate mortgage, and pay the fund occupation fee to Hengwang as agreed, Hengwang, represented by a lawyer, applied to Guangzhou Yuexiu District People’s Court for pre-litigation property preservation in December 2018. On December 21, 2018, Guangzhou Yuexiu District People’s Court issued a Civil Ruling ([2018] Yue 0104 Cai Bao No. 422), ordering to attach, seize and freeze the assets in total value of RMB 56.3 million owned by Nanhua Shenke, Tianrun and Lai. Hengwang paid RMB 5,000 for the property preservation fee, RMB 45,040 for the property preservation insurance, and RMB 300,000 for attorney’s fees.
On January 3, 2019, Hengwang filed this action with the court of first instance. It was also found that Article 106 of Tianrun’s Articles of Association of January 31, 2018 provides that the board of directors was composed of nine directors, including three independent directors, one chairman and no vice chairman. Article 110 provides that the Company’s provision of any external guarantee shall be approved by more than two-thirds of the directors presented at the board meeting. Article 118 provides that the quorum of a meeting of the board of directors shall be the simple majority of the directors, and a resolution of the board of directors shall be adopted with the consent of the simple majority of directors.
According to Hengwang, Tianrun provided it with a resolution of the board of directors, which states that Tianrun agreed to assume the unlimited joint and several guarantee liabilities for the repurchase of all accounts receivable, fund occupation fees (whether due or undue), late payment penalty payable by Nanhua Shenke to Hengwang under the Commercial Factoring Contract (No. HWNH-BL201809-002), as well as all expenses incurred by Hengwang for realization of its rights and interests. Five members of the board of directors of Tianrun signed the resolution.
As to the fund occupation fee, Hengwang accepted Nanhua Shenke’s calculation method for such fee.
Shanghai Jiading District People’s Court held in the trial of the first instance that:
The issues in this case were identified as follows: (I) whether the calculation base of the late payment penalty claimed by Hengwang shall include the fund occupation fees; (II) whether Tianrun shall be held jointly and severally liable for the repayment obligation of Nanhua Shenke.
(I) Whether the calculation base of the late payment penalty claimed by Hengwang shall include the fund occupation fees. Nanhua Shenke argued that the “sum of prices” in Article 4(3) of the Commercial Factoring Contract shall only refer to the principal of the factoring financing. However, in view of the rights and obligations of Hengwang and Nanhua Shenke under the Commercial Factoring Contract, and in conjunction with Article 3 of the Supplementary Agreement to the Commercial Factoring Contract, which states that “Hengwang ... may require Nanhua Shenke to return to Party A the assignment price of all accounts receivable and the fund occupation fee under the Master Contract; if overdue, Nanhua Shenke shall pay the liquidated damages at 0.05% per day for the overdue amount,” the “sum of prices” shall be interpreted as the assignment price of all accounts receivable received by Nanhua Shenke under the Master Contract plus the corresponding fund occupation fee. Hengwang’s claim of using the financing principal and the fund occupation fee as the base to calculate the late payment penalty has its contractual ground and shall be upheld. In view of the fact that Hengwang recognized Nanhua Shenke’s calculation method of the fund occupation fee during the court hearing, Nanhua Shenke’s claim that the fund occupation fee is RMB 1,542,465.75 was affirmed by the court. Accordingly, the calculation base of the late payment penalty claimed by Hengwang was adjusted to RMB 56,542,465.75.
(II) Whether Tianrun shall be held jointly and severally liable for the repayment obligation of Nanhua Shenke. According to the available business registration information, Tianrun and Nanhua Shenke are not affiliated to each other. Therefore, in accordance with Article 16 of the Company Law and Article 110 of Tianrun’s Articles of Association, Tianrun’s provision of external guarantee is only subject to the consent of more than two-thirds of the directions presented at the board meeting. Now, among the 9 board members of Tianrun, 5 members presented at the meeting and all signed the resolution of the board of directors, satisfying the requirements of the Articles of Association of Tianrun. Therefore, Hengwang’s claim shall be upheld that the resolution shows that it has fulfilled its duty of care before entering into the Commercial Factoring Contract and the Supplementary Agreement to the Commercial Factoring Contract and that Tianrun shall assume its liabilities as the guarantor. The claim of Hengwang’s attorney’s fee is contractually grounded and complies with the provisions of the Shanghai Municipal Measures on Administration of Attorney’s Fee, and thus shall be upheld.
In summary, the Commercial Factoring Contract and the Supplementary Agreement to the Commercial Factoring Contract entered into by Hengwang, Nanhua Shenke, Tianrun and Lai, and the Real Estate Mortgage Contract entered into by Hengwang and Nanhua Shenke, the Guarantee Letter issued by Tianrun and Lai respectively are all legal and valid, being manifestation of true intention of the parties. Hengwang’s claim is plausible and legal and shall be upheld. During this action, Lai was legally summoned by Shanghai Jiading District People’s Court, but did not appear in court without proper reason, and thus he voluntarily gave up his rights in this action such as defense and cross-examination, and shall bear the legal consequences arising therefrom.
Therefore, in accordance with Articles 60(1), 107 and Article 114(1) of the Contract Law of the People’s Republic of China, Articles 18, 21 and 31 of the Guarantee Law of the People’s Republic of China, and Article 144 of the Civil Procedure Law of the People’s Republic of China, Shanghai Jiading District People’s Court rendered the following judgement on November 29, 2019:
1. The Defendant Nanhua Shenke shall, within ten days from the effective date of the judgment, repay Hengwang the financing principal of RMB 55 million and pay the fund occupation fee of RMB 1,542,465.75, totaling RMB 56,542,465.75;
2. The Defendant Nanhua Shenke shall, within ten days from the effective date of the judgment, pay the Plaintiff Hengwang the late payment penalty calculated based on RMB 56,542,465.75 at the daily rate of 0.05% from February 6, 2019 to the date of full payment;
3. The Defendant Nanhua Shenke shall pay the Plaintiff Hengwang the attorney’s fee of RMB 300,000 within ten days from the effective date of the judgment;
4. The Defendant Nanhua Shenke shall pay the Plaintiff Hengwang the litigation preservation insurance premium of RMB 45,040 within ten days from the effective date of the judgment;
5. The Defendant Tianrun and Lai shall be jointly and severally liable for the above-mentioned payment obligations of the Defendant Nanhua Shenke listed in Items 1 through 4 above. The Defendant Tianrun and the Defendant Lai, after having performed their guarantee liabilities, may recourse against the Defendant Nanhua Shenke.
Tianrun was dissatisfied with the judgment of the first instance and appealed to Shanghai Financial Court, claiming that Tianrun shall not be held liable for the guarantee liabilities for the following reasons:
First, Lai is the actual controller of Tianrun and Nanhua Shenke. Although the business registration information shows that there is no shareholding relationship between them, they have formed a control relationship through investment, agreement or other arrangement. Hengwang should have known this, because Article 14 of Chapter V “Guarantee” of the Commercial Factoring Contract provides that “Party C (Lai) is the actual controller of Party B (Nanhua Shenke). If there is any change in Party B or Party C which would affect Party A, Party C shall timely notify Party A.”
Second, Tianrun, as a listed company, has to follow stricter internal procedures to provide external guarantees. Article 16 of the Company Law of the People’s Republic of China provides that approval by shareholders’ meeting or general meeting in the form of resolution shall be obtained for a company to provide guarantee to its shareholder or actual controller. Article 41 of Tianrun’s Articles of Association (January 2018) provides that if the Company is to provide guarantee for its shareholder, actual controller or affiliate, approval by its general meeting in the form of resolution shall be obtained. The guarantee provided by Tianrun for another company controlled by the actual controller Lai Ganfeng was by its nature, a related-party guarantee, and without the consent of the general meeting, such guarantee is invalid. As a professional financial institution, Hengwang knew that Tianrun provided guarantee for the company controlled by Lai Ganfeng, the actual controller of the company, but it did not check the resolution of the general meeting, nor has it noticed that the listed company had not made an announcement regarding this guarantee. Therefore, Hengwang is not a bona fide party, and Tianrun shall not be held liable for the debts in this case.
Hengwang argued that the facts found in the first instance were clear and the application of law was correct, and the appeal shall be dismissed and the judgment of the first instance shall be affirmed for the following reasons:
First, there is no affiliation between Tianrun and Nanhua Shenke. Tianrun’s claim that Lai is the actual controller of Tianrun and Nanhua Shenke has no factual basis. As a listed company, Tianrun is obligated to disclose its actual controller and affiliates in its annual report. However, no disclosure of its affiliation with Nanhua Shenke can be found in Tianrun’s 2017 Annual Report.
Second, the guarantee in question has been reviewed and approved by the board of directors of Tianrun, and Hengwang has fulfilled its duty of care by examining the resolution of the board of directors before accepting the guarantee. Therefore, the guarantee in this case is legal and valid, and Tianrun shall be held liable for the joint and several guarantee liabilities. Therefore, Hengwang requested to dismiss the appeal and affirm the judgment of the first instance.
In the trial of second instance, Shanghai Financial Court affirmed the facts found by the court of first instance.
It was further found that Article 14 of Chapter V “Guarantee” of the Commercial Factoring Contract entered into by Hengwang (Party A) and Nanhua Shenke (Party B), Tianrun (Party C) and Lai (Party C) states that “Party C shall provide guarantee for Party B with unlimited joint and several liabilities: (1) Party C is the actual controller of Party B. If there is any change in Party B or Party C which would affect Party A, Party C shall timely notify Party A.” The 2017 Annual Report of the Appellant Tianrun shows that the controlling shareholder of Tianrun is Guangdong Hengrun Huachuang Industrial Development Co., Ltd., who was holding 18.86% shares of Tianrun, and the ultimate controller of Tianrun is Lai.
Shanghai Financial Court held in the trial of second instance that:
The issue of this case is whether the Guarantee Letter signed by Tianrun is valid and whether Tianrun shall be held liable thereunder.
The Appellant Tianrun claimed that both Tianrun and the Debtor Nanhua Shenke are controlled by Lai, and the guarantee provided by Tianrun for Nanhua Shenke is a related-party guarantee. According to the law and Tianrun’s Articles of Association, a related-party guarantee must be reviewed and approved by the general meeting of shareholders. The disputed guarantee, however, was not approved by Tianrun’s general meeting, and the act of its legal representative was an ultra vires act. The counterparty Hengwang knew the above facts and did not examine the effectiveness of the internal resolution of the listed company, and thus should not be recognized as a bona fide party. Therefore, the Guarantee Letter is invalid.
The Appellee Hengwang argued that Tianrun and Nanhua Shenke have not affiliation or control relationship. The guarantee is not a related-party guarantee and it is not required to be approved by the general meeting of shareholders. Before accepting the Guarantee Letter, Hengwang had examined the resolution of Tianrun’s board of directors in good faith, and the Guarantee Letter is valid.
In respect of the issue, Shanghai Financial Court reasoned as follows:
First, whether the guarantee in this case must be approved by the general meeting of shareholders of Tianrun. Article 16 of the Company Law of the People’s Republic of China provides that “Where a company intends to make any external investment or provide any external guarantee, it shall, according to the provisions of its articles of association, obtain approval in the form of resolution of its board of directors or shareholders’ meeting or general meeting; ... Where a company intends to provide guarantee for any of its shareholders or actual controllers, it shall obtain approval in the form of resolution of its shareholders’ meeting or general meeting.” The legislative purpose of the Company Law is to prevent the legal representative from providing external guarantees on behalf of a company without authorization to the damage of the company and small and medium shareholders. According to the said provision, provision of guarantee cannot be decided by the legal representative alone but must be authorized by a resolution of the Company’s shareholders’ meeting, general meeting or board of directors. Where a company provides guarantee for its shareholders or actual controller, stricter requirements are imposed by the law on the authorization and a resolution of the shareholders’ meeting or general meeting is required. This is mainly to prevent major shareholders or actual controller from manipulating the company’s board of directors for their own interests and infringing upon the interests of small and medium shareholders.
In this case, the Annual Report of Tianrun showed that the actual controller of Tianrun is Lai. According to the Commercial Factoring Contract, all parties acknowledged that Party C (Tianrun and Lai) is the actual controller of Nanhua Shenke. Therefore, Lai had de facto control over Tianrun and Nanhua Shenke. Therefore, the guarantee in this case was a guarantee provided by Tianrun for another company controlled by its actual controller Lai.
Shanghai Financial Court opined that since the actual controller of the company has considerable influence on the company’s board of directors, if a guarantee may be approved simply by a resolution of the board of directors, the company’s collective decision-making power would exist in name only, and the interests of small and medium shareholders would be susceptible to damage. Therefore, according to the purpose and spirit of the statute, the guarantee in this case shall be recognized as a related-party guarantee, and the provision of the statute that “where a company intends to provide guarantee for any of its shareholders or actual controllers, it shall obtain approval in the form of resolution of its shareholders’ meeting or general meeting” shall apply. The legal representative of Tianrun went beyond his authority by signing the Guarantee Letter without the approval of the company’s general meeting.
Second, whether Hengwang was a bona fide party when accepting the Guarantee Letter. Article 50 of Contract Law of the People’s Republic of China provides that “Where the legal representative of a legal entity or other organization enters into a contract acting beyond his/her authority, such act of representation is valid unless the other party knew or should have known that he/she was acting beyond his/her authority.” Therefore, the key to determining the validity of the ultra vires of the legal representative of a company is whether the counterparty knew or should have known the legal representative’s act was exceeding his/her authority and whether the counterparty is a bona fide party. In this case, Hengwang is a party to the Commercial Factoring Contract which expressly provides that Party C (Tianrun and Lai) is the actual controller of the Debtor Nanhua Shenke. Therefore, Hengwang should have known the shareholding or control relationship between the debtor and the guarantor, and should have known that Tianrun, when providing the guarantee, is probably under the control of its actual controller, Lai. For this reason, Hengwang should have carefully examined the effectiveness of the internal resolution of Tianrun, the listed company. Compared with the counterparty to a related-party guarantee, the small and medium shareholders of a listed company have a higher burden of overcoming information asymmetry and preventing high-channel ethic risks such as principal shareholders and legal representative of the listed company. Based on the principle of fairness, when a listed company provides a related-party guarantee for its shareholder or actual controller, the counterparty shall assume a higher duty of care. In addition, the articles of association and material business information of a listed company, or a public company, are disclosed according to law, and major business activities such as related-party guarantee are also subject to many regulations or regulatory documents of the securities regulatory authority. The counterparty can easily get a clear understanding of the authority of the legal representative of a listed company and the major resolutions of the company’s general meeting. As a professional financial institution, Hengwang is more able in verifying relevant information. Therefore, whether from the perspective of the balance of interests or the allocation of the duty of care, if the legal representative of a listed company provides a related-party guarantee in the name of the company, the counterparty shall be obligated to examine whether the guarantee has been approved by a resolution of the general meeting.
In summary, Hengwang failed to provide conclusive evidence to prove that it had examined whether the Guarantee Letter was approved by a resolution of Tianrun’s general meeting, and so it did not fulfill its duty of care and should not be recognized as a bona fide counterparty. The claim of Tianrun in the appeal concerning the invalidity of the Guarantee Letter has a plausible ground and shall be upheld.
Due to the invalidity of the Guarantee Letter in this case, Hengwang has no right to demand Tianrun to bear the joint and several liabilities under the Guarantee Letter. Article 7 of the Interpretation of the Supreme People’s Court on Several Issues Concerning the Application of the Guaranty Law of the People’s Republic of China provides that “If the master contract is valid but the guarantee contract is invalid, and the creditor is not at fault, the guarantor and the debtor shall be jointly and severally liable for the financial damages of the creditor under the master contract; if the creditor or guarantor is at fault, the civil liabilities of the guarantor shall be limited to one-half of the amount that is unable to be paid by the debtor.” The then legal representative of Tianrun, Chairman Mai, signed a Guarantee Letter in the name of Tianrun without the authorization of the general meeting. The document was affixed with the common seal of Tianrun and signed by Chairman Mai. Moreover, according to Tianrun’s public disclosures, during the same period, the company did get involved in a number of illegal guarantees provided for its actual controller Lai and was therefore imposed on administrative disciplinary action or punishment. The above facts indicate that Tianrun’s internal management was not well regulated and Tianrun had gross negligence which contributed to the invalidity of the Guarantee Letter of Guarantee. In addition, Hengwang failed to produce sufficient and conclusive evidence to prove that it had examined the resolution of Tianrun’s general meeting before accepting the Guarantee Letter, and so it did had fault for the invalidity of the Guarantee Letter. In accordance with Article 7 of the Interpretation of the Supreme People’s Court on Several Issues Concerning the Application of the Guaranty Law of the People’s Republic of China, taking into account the faults of both parties and the circumstances of the case, Tianrun shall be liable for one half of the debt that is unable to be repaid by Nanhua Shenke.
Accordingly, on August 6, 2020, Shanghai Financial Court rendered the following judgement in accordance with Article 16 of the Company Law of the People’s Republic of China, Article 50 of the Contract Law of the People’s Republic of China, Articles 7 and 42 of the Interpretation of the Supreme People’s Court on Several Issues Concerning the Application of the Guaranty Law of the People’s Republic of China, and Article 170(1)(2) of the Civil Procedure Law of the People’s Republic of China:
1. Item 1 through Item 4 of the Civil Judgment (2019) Hu 0114 Min Chu No. 764 rendered by Shanghai Jiading District People’s Court are affirmed;
2. Item 5 of the Civil Judgment (2019) Hu 0114 Min Chu No. 764 rendered by Shanghai Jiading District People’s Court is amended as follows: the original Defendant Lai shall be jointly and severally liable for the payment obligations of the original Defendant Guangzhou Nanhua Shenke Information Technology Co., Ltd. under the aforesaid Item 1 through Item 4; after having satisfied his liabilities, the original Defendant Lai may recourse against the original Defendant Guangzhou Nanhua Shenke Information Technology Co., Ltd.; the Appellant Hunan Tianrun Digital Entertainment & Culture Media Co., Ltd. shall be liable for half of the payment obligation under the aforesaid Item 1 through Item 4 that is unable to be repaid by the original Defendant Guangzhou Nanhua Shenke Information Technology Co., Ltd.; after having satisfied its liabilities, the Appellant Hunan Tianrun Digital Entertainment & Culture Media Co., Ltd. may recourse against the original Defendant Guangzhou Nanhua Shenke Information Technology Co., Ltd.;
3. All the other claims of the Appellant Hunan Tianrun Digital Entertainment & Culture Media Co., Ltd. are dismissed.
This judgment is final.
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