Brief Introduction

    Mr Zhao, an investor, claimed that he signed a shareholding agreement with Mr Liu and Sunshine Company and agreed that after 5 years of investment, if the expected return on investment was not reached, Mr Liu would carry out an equity buyback. Now the agreed time limit has arrived, the sunshine company year after year losses, no income, so Mr Zhao sued to the haidian court, requesting Mr Liu to be transferred in the sunshine company's equity, and pay equity repurchase and interest. The defendant, Mr Liu, claimed that after Mr Zhao was transferred the equity, as the chairman of the board of directors actually carried out the management of the company, such as the company's business problems, Mr Zhao should bear the investment risk by himself, so he did not agree with his litigation request.

     Haidian court after hearing, found that Mr Liu should be strictly in accordance with the agreement to perform the repurchase obligation, the evidence submitted by Mr Zhao is not sufficient to prove that Mr Zhao's participation in the company's operation led to the company's operating losses, did not meet the expected return agreed in the share agreement, so the judgement supports Mr Zhao's litigation request.

Court Hearing

      After hearing, the court held that, according to the investor Mr. Zhao (Party A), the legal representative of the company with the shares of Mr. Liu (Party B), and the shares of the company Sunshine Company signed the ‘share agreement’ agreement, "Party A in the investment company for five years, if the return can not meet the expectations, then you can ask Party B to a minimum annualised investment return of 7% (including dividends issued, annual dividends once a year) to be assigned all of Party A's shares. Party B shall perform at that time." Based on the payment of the investment and the fact that Sunshine's registered capital was always RMB30 million, it is evident that Mr Zhao became a shareholder of the company through the assignment of the equity subscribed by Mr Liu, and that an equity transfer relationship was established between Mr Zhao and Mr Liu.

     Although the two sides in the agreement did not make a clear agreement on the ‘expected return’, but confirmed by the sunshine company, the company has a loss, Mr. Zhao did not get the sunshine company dividends, did not realise the investment income, combined with wechat chat records of Mr. Liu on the income of the expression ‘every year at least daily dividends of two thirds of a million’, the two sides signed the agreement, the two sides signed the agreement. Combined with the fact that Mr Liu's statement on income in the WeChat chat records was ‘at least two ten thousandths of a cent a day in dividends every year’, and the purpose of the agreement signed by both parties, it should be concluded that Mr Liu should fulfil his obligation to repurchase the shares in strict accordance with the agreement. Regarding Mr Liu's defence, Mr Liu was always the legal representative of YangGuang and actually participated in the operation and management of the company, and Mr Zhao's participation in the operation of the company only lasted from August 2018 to November 2020, and there was no valid evidence to prove that Mr Zhao engaged in acts detrimental to the interests of YangGuang and other shareholders during the period of his participation in the operation of the company and led to YangGuang's losses in consecutive years, and the company's earnings did not meet the expectations. Therefore, the court did not accept Mr. Liu's defence and ruled in favour of Sang's claim.

Judge's statement

    This case involves what is commonly known in practice as ‘betting agreement’, also known as valuation adjustment agreement, which refers to the agreement between the investor and the financier in reaching an equity financing agreement, in order to solve the uncertainty of the future development of the target company, information asymmetry, and the agency cost of the two parties to the transaction, and the agreement designed to contain the equity repurchase, monetary compensation, and other adjustments to the valuation of the target company in the future. An agreement to adjust the valuation of the target company in the future. When the People's Court hears the dispute cases of ‘betting agreement’, it shall not only adhere to the principle of encouraging investors to invest in real enterprises, especially scientific and technological innovation enterprises, so as to alleviate the problem of enterprise financing difficulties to a certain extent, but also implement the principle of capital maintenance and the principle of protecting the legitimate rights and interests of creditors, and balance the interests of investors, creditors of the company, and the company in accordance with the law. the interests of the investor, the company's creditors and the company.

    After an investor becomes a shareholder of a company, he enjoys the rights of a shareholder and may actually participate in the operation and management of the company by participating on his own or appointing a director, etc. So can the repurchase obligor use the investor's participation in the company's operation, which leads to the company's inability to complete the performance commitment as a defence for not fulfilling the repurchase obligation? Article 7 of the Civil Code of the People's Republic of China provides that civil subjects engaging in civil activities shall follow the principle of good faith, uphold honesty and honour their commitments. Article 131 stipulates the principle of consistency between the rights and obligations of civil subjects, i.e. when exercising their rights, civil subjects shall fulfil the obligations stipulated by law and agreed by the parties. Article 509 stipulates that the parties shall fully fulfil their obligations in accordance with the agreement. The parties shall follow the principle of good faith and fulfil their obligations of notification, assistance and confidentiality in accordance with the nature and purpose of the contract and trading practices. Articles 21 and 23 of the Company Law of the People's Republic of China provide that shareholders of a company shall abide by the laws, administrative regulations and the articles of association of the company, exercise the rights of shareholders in accordance with the law, and shall not abuse the rights of shareholders to the detriment of the company or the interests of the other shareholders; and shall not abuse the independent status of the company as a legal person and the limited liability of the shareholders to the detriment of the interests of creditors of the company. Article 180 stipulates that directors, supervisors and senior management shall have the duty of loyalty to the company, shall take measures to avoid conflict between their own interests and the interests of the company, and shall not make use of their powers to gain undue advantage; they shall have the duty of diligence, and shall perform their duties in the best interests of the company to the extent of the reasonable care usually due to the managers.

    According to the above legal provisions, in determining whether the investor can exercise the right of repurchase and whether the defence of the repurchase obligor is established, it needs to be determined according to the specific agreement on the circumstances of the repurchase in the investment agreement and the evidence of contract performance submitted by the parties. In this case, Mr Zhao, the investor, and Mr Liu, the repurchase obligor, explicitly agreed that after five years of investment, if the company's earnings did not meet expectations, Mr Liu should repurchase the equity interests that he had ceded. The parties did not agree that the investor should not participate in the operation of the company, or in what way the investor's participation in the company's operation would prevent the exercise of his right of repurchase. Nevertheless, according to the principle of consistency between rights and obligations, while enjoying the right of repurchase, the investor, if he participates in the operation of the company as a director, supervisor or senior management, should still fulfil the obligations of loyalty and diligence, and shall not harm the interests of the company in order to safeguard the realisation of his investment interests. Mr Liu, the repurchase obligor, did not submit sufficient evidence to prove that Mr Zhao, the investor, had abused his rights, violated his duty of loyalty and diligence, improperly performed his duties to the detriment of the Company's interests and ultimately caused the Company to incur losses. Under such circumstances, the defence that Mr. Liu, the repurchase obligor, refused to perform the repurchase obligation solely on the basis of the investor's participation in the operation of the Company lacked factual and legal basis, and Mr. Liu should perform the repurchase obligation in full in strict accordance with the agreement between the parties.

This article is reprinted from the WeChat public number ‘Beijing Haidian Court’, with thanks!