China encourages share repurchase by revising the Company Law

On 26 October 2018, the Standing Committee of the National People's Congress approved a decision to revise the Company Law of the People’s Republic of China (Revision), with the aim of supplementing and improving the existing share repurchase regime. We have set out a brief introduction to this Revision below.

Background

It has only been five years since the last revision to the Company Law of the People’s Republic of China (Company Law). Compared with the revisions made in 2013 and other previous revisions of the Company Law, it is worth noting that:

  • Only Article 142 of the Company Law, which regulates share repurchase, has been revised this time. In comparison, the amendments made in 2013 were more comprehensive, as more than 10 articles were revised at that time.
  • This Revision was led by the China Securities Regulation Commission (CSRC). The draft amendment was formulated by the CSRC in collaboration with the Ministry of Finance, the China’s Central Bank, the State-owned Assets Supervision and Administration Commission, together with the China Banking and Insurance Regulatory Commission, and presented by the Chairman of CSRC, Mr. Liu Shiyu, to the Standing Committee of the National People's Congress. In the past, such draft presentations were normally undertaken by the director of the Legislative Affairs Office of the State Council. Given the recent substantial fluctuations of the China stock market, many people have taken the view that the purpose of this Revision is to encourage companies to buy back their shares and to stabilise the market

Main changes

This Revision improves the current share repurchase regime of companies limited by shares[1] mainly by broadening the share repurchase scenarios, simplifying the decision-making procedures for share repurchase and extending the exercise period for buy-back:

 1.  Broadening the share repurchase scenarios

Before the Revision, the Company Law  prohibits share repurchases in principle, with the exception of only four scenarios, which are capital reduction; merger with other companies; awarding the shares to employees, and at the request of dissident shareholders. Following the Revision, the relevant provisions have been changed:

  • The wording on prohibiting share repurchase has been removed, which indicates the change in the attitude of the Company Law towards share buy-back.
  • The wording "awarding shares to company employees" in the existing law has been changed to "using the shares for employee share ownership plans or as equity incentives" (Employee Incentive Scheme).
  • Two additional share repurchase scenarios have been added: firstly, “to use the shares for convertible bonds issued by listed companies to convert them to stocks", and secondly to "include the necessary acts by listed companies to protect companies' value while safeguarding shareholder interests" (Newly Added Scenarios). Please note that these Newly Added Scenarios are only applicable to listed companies.

 2.  Simplifying the decision-making procedures for share repurchase

Under the original Company Law, shareholders’ approval is required in the case of share repurchases, which means a company may have to convene a shareholders’ meeting and involve  a complicated notification and announcement if it intends to buy back its own shares. After the Revision, in the case of Employee Incentive Scheme or Newly Added Scenarios, companies can simply buy back their shares by passing a board resolution, provided that the Articles of Association of the Company or the shareholders’ meeting has authorised the board to make such a resolution, and two-thirds of the directors are present at the board meeting.

Given the introduction of the simplified decision-making procedure for share repurchase under the above scenarios, in order to avoid the company being manipulated by certain management personnel which might prejudice the interest of shareholders, especially minority shareholders, the revised Company Law requires the listed company to buy back its share through the public centralised trading system, namely companies have to repurchase their shares through the public stock trading centre, and they are not allowed to buy back their shares privately by entering into agreement with certain shareholders.

3.          Extending the exercise period of buy-back shares

After the revision, we could see:

  • For share repurchase due to reason of capital reduction or merger, the exercise period of the shares buy-back remains unchanged.
  • For buy-back for the purpose of Employee Incentive Scheme, the exercise period has been extended from 1 year to 3 years and the maximum number of shares that could be bought back by the company itself has been increased from 5% to 10%.
  • The 10% maximum number of shares and the 3 years exercise period are also applicable to the Newly Added Scenarios.

It is said that the extension of the buy-back share exercise period by allowing companies to buy-back shares for a maximum period of 3 years has, for the first time introduced the so called “Treasury shares” system, although the Revision does not specify the meaning and nature of Treasury shares. It is expected that companies, especially those that wish to implement Employee Incentive Scheme, will benefit from the extension, as the new system has provided them with more flexibility when arranging the overall incentive plan.

Our observation

We expect that after the Revision, more companies, especially listed companies will actively use share buy-back as a tool to adjust the share structure and implement their employee incentive schemes.

Meanwhile, we would also like to remind readers that:

  • if your company intends to implement the simplified shares repurchase procedure, please be reminded to first amend the Articles of Association or hold a shareholders’ meeting to give the board authorisation to make such a share buy-back decision; and
  • the provision on share repurchase as prescribed under the current Company Law is still quite general. It is expected that a detailed implementation and explanation will be rolled out in due course. It is advisable to keep a close eye on the future developments of the share repurchase regime.

[1] Given that Article 142 is under Chapter 5 of the Company Law, which is in relation to issuance and transfer of shares of companies limited by shares, the new share repurchase regime shall be only applicable to companies limited by shares, which includes both listed companies and private companies.