In practice, actual contributors have chosen nominee shareholding for purposes such as the isolation of assets, circumvention of legal and regulatory restrictions or prohibitions, etc., and disputes arising from these are increasing. Although the law does not prohibit such an act, the various legal risks facing the dormant shareholders, the nominee shareholders and even the company in nominee shareholding cannot be underestimated.
RISKS OF DORMANT SHAREHOLDERS
Abuse of shareholders’ rights by nominee shareholders without the consent of the dormant shareholder occurs frequently, for example, equity transfer or pledge to a third party without the consent of the actual contributor. Article 25 of the Company Law Interpretation (III) clearly stipulates that in the event of a dispute between a nominee shareholder and a bona fide third party over the disposal of the company’s equity, the bona fide third party may acquire the equity pursuant to the bona fide acquisition rule under article 311 of the Civil Code.
In addition, nominee shareholders’ abuse of shareholders’ rights such as voting rights, dividend rights and priority rights will often damage the interests of actual contributors in practice.
Although article 310 of the Interpretation of the Supreme People’s Court on the Application of the Civil Procedure Law of the People’s Republic of China (2022) stipulates that if a third party raises a request for confirmation of rights during the execution objection, the People’s Court may rule on it together with the judgment.
However, the court has not fully supported such a request due to the circumstances, evidential material and other factors of cases, and enforced the equity held by the nominee shareholder in many cases.
Furthermore, there is a general risk of difficulties in the subsequent conversion of an actual contributor to a nominee shareholder. Article 24 of the Company Law Interpretation (III) provides that the conversion requires the consent of “more than half of the other shareholders of a company”, and the process involves the interests of the dormant shareholder, the nominee shareholder, the other shareholders and the company, which may lead to conflicts of interest and result in the failure of the conversion.
If the shareholder status of a dormant shareholder cannot be recognised, the only option for him or her is to continue the nominee shareholding, transfer the shareholding to the nominee shareholder, or negotiate with the nominee shareholder to transfer the shareholding to a third party, which would leave the actual contributor in a very passive position in controlling the equity.
RISKS FOR NOMINEE SHAREHOLDERS
A nominee shareholder, as a shareholder registered with the industry and commerce authority, is at risk of being required to meet the obligation of capital contributions. Article 26 of the Company Law Interpretation (III) provides that a nominee shareholder, being registered in the shareholders’ roll, has a formal element and cannot use its status of nominee shareholder as a defence not to discharge the capital contribution obligation, but the capital contributed can be later recovered from the nominee shareholder, i.e., the actual contributor.
In Ningyang Hongrun Real Estate v Xiao Chuanyun and Li Baoguo (2022), the court ruled that: “Registered shareholders cannot use the internal agreement with the actual contributors against the external creditors of the company. Even if the defendant Li Baoguo argued with the existence of nominee shareholding, he, as a shareholder registered in the company registration authority, shall still fulfil the corresponding obligation of capital contribution to the creditors after the company enters bankruptcy proceedings.”
In addition, nominee shareholders risk being unable to exit the company and change their business registration. A nominee shareholder cannot exit the company without more than 50% of shareholders’ consent, and will be required to bear the legal liability of a registered shareholder.
In Huang and Luo v S Paper & Plastic Company (2022), the Shanghai Second Intermediate People’s Court held that “the legal relationship between Luo and Huang constituted an anonymous investment, but without the consent of more than 50% of shareholders of S Paper & Plastic Company, Huang’s request to recognise Luo as a shareholder of S Paper & Plastic Company shall not be supported”.
RISKS TO COMPANY LISTING
Nominee shareholding carries the risk of the company failing to list its shares for financing. Article 13 of the Measures for the Administration of IPO and Share Listing requires that “the issuer’s equity structure must be clear, and there must be no major dispute over the ownership of shares held by the controlling, controlled and nominee shareholders”.
Therefore, companies are not allowed to have nominee shareholdings, an unclear amount of contribution, and an unclear value of non-monetary property contributed, etc. In the review of listed companies, the competent authority, the Securities Regulatory Commission, may directly disqualify a company from an IPO once the nominee shareholding is discovered, and the signed stock holding agreement may be invalid due to violation of the securities law and other regulatory provisions on the listing of companies.
In Yang Jinguo and Lim Jinkun v Changzhou Almaden (2017), the court ruled that the China Securities Regulatory Commission has the right to supervise and administer the securities industry according to the Securities Law in order to protect the legal rights and interests of the majority of non-specific investors.
It is a basic requirement for the supervision of listed companies to require that the equity of the proposed listed companies be clear, and that the listed companies are not allowed to hold shares anonymously. The issuer of a listed company must be genuine and is not allowed to conceal the real shareholders during the issuance process, otherwise, the company’s shares cannot be listed and issued.
In summary, the nominee shareholding relationship exposes both the dormant shareholder and the nominee shareholder to many risks. For dormant shareholders, as actual contributors, their rights and interests may be damaged by the nominee shareholders’ abuse of their equities, the unrecognisable nominee shareholding relationship, and the enforcement of their equities held by the nominee shareholder. Nominee shareholders may be required to meet the obligations of capital contributions and be unable to exit the company.
For companies, equity disputes may arise during their listing and financing, affecting the long-term development of their business. Therefore, both dormant and nominee shareholders should fully consider the risks involved before entering into a nominee shareholding agreement and make rational judgments and prudent decisions.
Ding Tianmiao is an associate at Blossom & Credit
Blossom & Credit Law Firm
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