Pathway to Minority Shareholder Protection: Derivative Actions in the People's Republic of China

Abstract

Using a dataset of Chinese judicial opinions arising in over fifty cases, this paper analyses the development and current implementation of shareholder derivative actions in the courts of the People’s Republic of China (“PRC”), both before and after the derivative lawsuit was explicitly authorized in the PRC’s 2006 Company Law effective January 1, 2006. In addition, we describe the very unique ecology of enterprise organization and corporate governance in modern China, and critique the formal design of the derivative action and offer reform suggestions. We find the design of the Chinese derivative lawsuit to be, in some respects, innovative and appropriate for Chinese circumstances. For instance, the statutory scheme permits “horizontal” claims against controlling or oppressive shareholders in addition to “vertical” claims against orthodox insiders and fiduciaries. At the same time, we find certain design flaws, including standing-based obstacles for plaintiffs, a lack of clarity regarding demand, demand excuse and refusal, and an unnecessary distinction regarding the required wrong underlying derivative actions directed at corporate fiduciaries, on one hand, and others (such as controlling shareholders), on the other. In implementation, we find extremely robust – even overly-aggressive -- use of the mechanism by both plaintiffs and deciding judges before and after its formal recognition in law. As in other applications of the corporate law before the courts in China, this use of the derivative action seems to be entirely limited to the closely-held form of corporation. The absence of application with respect to the widely-held, joint stock, form of company is striking because the derivative lawsuit itself was included in the 2006 PRC Company Law revision precisely so as to give minority shareholders in such widely-held companies a way to hold insiders and controlling shareholders accountable at law for rampant malfeasance. In addition, we note the way in which some PRC courts are wary or uncomprehending of the underlying corporate law doctrines for which the derivative action is a necessary vehicle, particularly the duty of care. An updated and edited version of this paper was published as a chapter entitled “Pathway to Minority Shareholder Protection: Derivative Actions in the People’s Republic of China” in D. Puchniak et al. (eds.), The Derivative Action in Asia: A Comparative and Functional Approach (Cambridge University Press, August 2012).