As a special administrative region of the People’s Republic of China (“China”), Hong Kong (“HK”) has a close and unique relationship with the mainland. Before Deng Xiaoping’s “reform & opening-up” policy, China used to rely on HK to facilitate its economic interaction with the world markets. After China resumed control of HK’s sovereignty in 1997, the adoption of the “One Country, Two Systems” regime has enabled HK to continually enjoy a high degree of autonomy, retain the capitalist system, and keep its distinct identity as an international business and financial centre. Meanwhile, China has gradually opened its borders and connected itself directly to the global economy. The economic reform has helped China in gaining extraordinary success and growth in recent years. Nevertheless, even under the context of China’s rapid development, HK still plays a pivotal role in bridging international relationships between China and the rest of the world. HK maintains as the predominant source of foreign capital in China and the largest fundraising platform for Chinese companies. Although HK and China adopt different political and legal systems, economically they are increasingly resembling each other.
HK derives its success largely from the British common law legacy which is regarded as more principal-based, flexible and independent than the statutory legal system. As a financial services-oriented city, HK has to implement and keep up a stringent regulatory system to attract foreign investment and maintain market order. The company law regime of HK has undoubtedly played, and continues to play, an important role in safeguarding HK’s economic development and wellbeing.
Since 1865 and up to the handover in 1997, HK has been following the reforms on corporate law made by the British. Now, HK’s corporate law reform compares and takes examples from other economies. This is to ensure that HK is in line with international standards and maintains its competitiveness and status as a city with a well-developed legal system. On 12 July 2012, HK introduced substantial revision to its company law regime by enacting a new Companies Ordinance (Cap 622) (the “New CO”). The New CO came into effect on 3 March 2014 and largely rewrote and replaced the Companies Ordinance promulgated in 1984 (together with the subsequent piecemeal amendments, as the “Old CO”). By coincidence, roughly around the same time, the mainland also brought important changes to its company law regime (the “New CL”). The revision was built up on the Company Law promulgated in 2005 (the “Old CL”) and was officially put into effect on 1 March 2014. Although compared with HK, the mainland's company law regime still looks relatively young and rigid, its strong commitment to create a more friendly business environment has formed an urgent need for mainland China to catch up with the international trend and modernise its regulatory system.
This article seeks to provide an overview of the key initiatives in the New CO and the New CL which are intended for the purposes of modernising the law and facilitating business as well as their underlying legal and practical significance. This article will discuss:
- the background of the amendments;
- a comparative review of the key amendments in the New CO;
- a comparative review of the key amendments in the New CL; and
- the implications of the amendments.
2. Background of the amendments
2.1 Background of the New CO
The Companies Ordinance in HK was first enacted in 1865, and the last substantial review and amendment was in 1984. Since then, the HK Standing Committee on Company Law Reform has conducted several reviews on the Companies Ordinance and the HK government has adopted various piecemeal amendments. However, along with the economic development in the past decade, some rules established in the Old CO have become less desirable due to changes in the economic demands. For example, before the 1997 review, a HK company may only enter into transactions to the extent that is permitted by its objects as specified in this company’s memorandum of association (the “Memorandum”). Any action conducted not in accordance with these objects will be regarded as ultra vires (i.e., beyond the powers of the company) and any contracts that areultra vires are void and cannot be ratified by the company. The idea of the ultra vires rule was to protect shareholders against changing the company’s business nature without consent. However, in practice, the rule is easily circumvented by providing a very long and wide-encompassing objects clause. Further, when ultra vires rule did apply, the result is often regarded to be too harsh on third party. Thus based on these considerations, the ultra vires rule was abolished in the 1997 revision. However, the requirement for having Memorandum remained although a company had no longer been limited by its objects clause in the Memorandum.
Similarly, other rules in the Old CO were considered outdated and hindered the development of HK’s business and financial market. It was further acknowledged that the piecemeal approach adopted for the past 30 years was not enough to modernise HK’s company law regime and thus a comprehensive rewrite was launched in mid-2006 and completed in 2012.
There are several major initiatives in the revision of the Old CO, with the overall aim to facilitate business and enhance HK’s status as a major international business and financial centre. First, emphasis was made to facilitate a business friendly environment for small and medium size companies by streamlining the reporting process. Second, focus was made to modernise the law and to keep HK’s company law regime in line with international standards. The third major focus is to enhance corporate governance, by strengthening the accountability of directors and shareholder engagement in decision-making process. Lastly, the fourth aim is to ensure better regulation of HK companies, by improving the accuracy of recording information, registration, enforcement and so on.
At the commencement date of the New CO on 3 March 2014, the Old CO had most of its provisions repealed. The shortened Old CO was then renamed as “Companies (Winding Up and Miscellaneous Provisions) Ordinance (Cap 32)” and it contains the remaining provisions on winding up, insolvency, disqualification of directors, registration of prospectus, etc.
2.2 Background of the New CL
Until the Company Law came into effect on 1 July 1994 (the “1994 CL”), regulation of Chinese companies were mainly based on piecemeal rules issued by different governmental entities. The 1994 CL was China’s first comprehensive legal provision on company regulation and it experienced two slight modifications (in 1999 and 2004) and two major revisions (in 2005 and 2013) after its adoption. Compared with the 1994 CL, the Old CL has relaxed a number of legal restrictions on business incorporation and operation. However, companies incorporated in China, especially private enterprises, are still subject to strict scrutiny and redundant procedures on various aspects and those obstacles have made Chinese company law regime less competitive.
The mainland's economy used to be governed by way of heavy state supervision and control. For example, before the 2013 amendment an applicant looking to incorporate a company would have to fulfil at least eight administrative requirements before registration can be processed. The requirements include application for approval of company name, production of company stamp, conducting capital verification, submitting the relevant application to the appropriate Administration of Industry and Commerce (AIC), obtaining enterprise code certificate and tax registration certificate, opening company account and conducting tax assessment. It would take an applicant at least 20 to 25 working days to complete the registration because different departments and separate scrutinises were involved in the procedure.
By now, both socialist countries and capitalist countries recognise that state intervention of economic development should be a combination of market adjustment and planned adjustment, as excessive macro-control will restrain the role of market mechanism and prevent economy from making progress. At the 18th National Congress of the Communist Party of China (CPC) and the 2nd Plenary Session of the 18th Central Committee of the CPC, the importance of balance between the roles of the government and the market has been recognised and highlighted by the Chinese government. It was further acknowledged that in order to accelerate the advancement of the Chinese economy and optimise its growth, the Chinese government should alter its mind set and follow the rules of the market more closely so that the long-term competitiveness of Chinese companies can be achieved.
In light of the above-mentioned background and in accordance with the spirit of the CPC meetings, China’s central government – the State Council started to institute reform on administrative procedures. The initiatives include relaxation of administrative approvals for investment and business operations, elimination of overlapping responsibilities, and so on. At the departmental level, the State Administration of Industry and Commerce (SAIC) initiated a reform on the administrative measures concerning company registration system. Given that the hierarchy of department regulation being lower than law in mainland China, if Company Law remained unchanged, it would be very difficult for SAIC to implement the necessary reform. Therefore, the Old CL had to be amended concurrently.
3. Key amendments in the New CO
3.1 Amendments on formality of corporate incorporation
(i) Abolition of Memorandum
The articles of associations (Articles) are regarded as the constitutional document of a company, as they define the regulations for the management of and the internal arrangement of a company. Under the Old CO, in addition to Articles, a company must also have a Memorandum which contains its company name, liability, share capital and objects. However, with the abolition of the ultra vires rule (please refer to section 2.1 of this article), the Memorandum becomes no longer important and is therefore abolished in the New CO. Under the New CO, a company incorporated in HK is only required to have the Articles. For existing companies, the conditions in the Memorandum are deemed to be contained in the Articles.
In mainland China, there is no concept of the “Memorandum” under the Company Law. The Articles are the sole constitutional document of a company.
(ii) Objects clause is now optional
Unlike the Old CO, the New CO does not require a company to have an objects clause. If a company chooses to keep its objects clause in its Articles, the restrictions in it will act as a constraint on the directors’ powers and they may be liable to the company if they enter into a transaction outside the powers of the objects clause. According to Section 89 of the New CO, companies with an object clause can by special resolution of the shareholders (refers to a resolution passed by a majority of at least 75% under HK laws) remove the objects clause from its Articles.
Although there is no direct counterpart of “company’s objects” in the New CL, a Chinese company must define its scope of business in its Articles and conduct relevant registration. The business scope can be altered by way of amending the Articles by shareholders’ special resolution (different from HK, the threshold for passing a special resolution in mainland China is a majority of 2/3) and making the relevant changes in the registration.
3.2 Amendments on share capital
(i) Abolition of the concept of par value and authorised capital
Par value (also commonly known as “nominal value”) is the minimum price at which a share can be issued. The concept of “par value” is often related to the concept of “authorised share capital” which refers to the maximum amount of share capital that a company may issue. Under the Old CO, companies incorporated in HK with a share capital were required to have a par value fixed to their shares. The idea was to protect the shareholders from dilution of their rights in the shares and enable creditors to learn about the amount of issued and authorised capital of a company. However, the reasons for having par value is no longer applicable as the authorised share capital can now be altered by company resolution and the creditors seldom rely solely on authorised share capital when extending credit to the company since par value may have been misleading as to the true value of the shares. Therefore, the New CO abolished the concept of par value and the requirement for authorised capital, so that a company could alter its share capital with greater flexibility. For example, a company is able to capitalise its profits without issuing new shares and to allot and issue bonus shares without increasing its share capital.
By contrast, the notion of “par value” still exists in the Chinese regime. A company limited by shares is required to state par value of each share together with its total number of shares and amount of registered capital in its Articles. Par value is also mandatory information in the case of initial public offering and issuance of corporate bonds. It should be noted that the New CL further provides that the stocks can be issued at price equal to or in excess of par value, but not below par value. The premium obtained from issuance of shares in excess of par value shall be listed as the company’s capital reserve. However, because par value only reflects the theoretical value instead of the true value of a company’s share and the true value of a company must be separately assessed; it seems that there are now fewer merits for the Chinese regulators to keep the par value regime in place.
(ii) Removing the power to issue share warrants
Under the Old CO, a non-private company limited by shares is allowed to issue share warrants to bearer (i.e., a warrant stating that the bearer of the warrant is entitled to shares specified in it). It is possible for legal title to shares to be transferred by physical delivery of the warrant. However, share warrants are rarely issued nowadays and are undesirable for the regulators due to lack of transparency from the prospective of anti-money laundering, therefore under the New CO, the power of companies to issue share warrants is repealed.
The concept of share warrant does not exist in Chinese company law regime.
3.3 Amendments on company administration
(i) Scope and qualification of simplified financial reporting extended
Under the Old CO, a private company (other than a company which is a member of a corporate group) may, with the written consent of all shareholders, prepare simplified accounts and directors’ reports. This regime did not apply to group companies or guarantee companies at all. The New CO substantially widened the realm of reporting exemption and extended simplified financial reporting to more types of companies, which include –
1. A small private company or holding company of a group of small private companies which meets two of the following conditions in a financial year:
- total revenue or aggregate total revenue not exceeding HK$100 million;
- total assets or aggregate total assets not exceeding HK$100 million; or
- number of employees or aggregate number of employees not exceeding 100.
2. An eligible private company or holding company of a group of eligible private companies which meets a higher size criteria, namely, two of the following conditions in a financial year:
- total revenue or aggregate total revenue not exceeding HK$200 million;
- total assets or aggregate total assets not exceeding HK$200 million; or
- number of employees or aggregate number of employees not exceeding 100.
3. A small guarantee company or holding company of a group of small guarantee companies:
- with total revenue or aggregate total revenue not exceeding HK$25 million in a financial year.
With the view of facilitating small-medium enterprises and simplifying reporting obligations, companies falling in the above exemptions will be exempted from the following requirements:
- the requirement to disclose auditor’s remuneration in financial statements;
- the requirement for financial statements to give a “true and fair view”;
- the requirement to include business review in directors’ report;
- the requirement for an auditor to express a “true and fair view” opinion on the financial statements; and
- the requirement to include subsidiary undertakings in the consolidated financial statements.
There is no simplified financial reporting regime in mainland China. All companies have to prepare an audited account in accordance with the relevant accounting standard at the end of a fiscal year. In the case of a limited liability company, the account needs to be delivered to each shareholder within a prescribed time. In the case of company limited by shares, the account must be ready for shareholders’ inspection 20 days before the annual general meeting (AGM).
(ii) More user-friendly general meeting procedure
Under the Old CO, meeting procedures are sometimes complicated and unclear. To better facilitate the decision-making process, the New CO improved a number of procedural requirements and made meetings more accommodating to the needs and conditions of the companies. For example, the New CO now permits general meeting to be held at dispersed locations as long as there are technological devices in place which enable the shareholders apart to listen, speak and vote at the meeting. Further, the New CO relaxed the burdensome obligation for every company to hold an AGM. A company may choose to adopt written resolution to resolve matters which under the Old CO should have been resolved at the AGM, but there has to be unanimous consent by all shareholders. In addition, the New CO refined a number of provisions that concerns proxies which fail to provide clear instructions to the companies. The updated version now provides a clarified view on the rights and obligations of a proxy.
In mainland China, general meeting is categorised into two types: general meeting of a limited liability company, and general meeting of a company limited by shares. General meeting of a company limited by shares must be held on an annual basis whereas general meeting of a limited liability company is only required upon resolution of major issues of the company and the general meeting of limited liability company can be replaced by written resolution upon unanimous consent of shareholders in writing. Unlike HK where meeting procedures have generally been outlined in details, some of the provisions regarding the meeting procedures in the New CL are relatively broad-brushed. For example, the New CL only have one article on shareholders’ right to appoint proxy where it provides that a shareholder may appoint a proxy to vote on his behalf within the authorised scope; by contrast, Sections 588, 591, 596, and 602 to 605 of the New CO set out rules for rights and obligations of a proxy.
(iii) Improved inspection and recording system
Under the Old CO, provisions concerning rights to inspect and obtain copies of records are scattered in different Sections. The New CO relocated those provisions to subsidiary regulation and consolidated the arrangements for different types of company records, which effectively facilitate simpler and speedier company compliance. Further, under the Old CO, a company must obtain a license for keeping an overseas branch register of members and pay an annual license fee. This license system and fee for keeping the register was considered out dated and undesirable for companies that seek for offshore listing and has therefore been abolished and replaced by a notification system under the New CO. For a company that keeps a branch register, notification about the address of its register and any change or discontinuation of the register will be sufficient for legal compliance purpose. In addition, the New CO reduced the 30-year time limit prescribed by the Old CO for keeping register of members to 10 years and clarified the time limit for keeping records of resolutions and general meetings which were originally unstipulated under the Old CO.
Similar to HK, shareholders in mainland China are also entitled to inspect and obtain a defined scope of records of the company. The documents available for inspection include the company’s Articles, minutes of general meetings, board resolutions (including board of directors and board of supervisors) as well as financial and accounting reports. However, if a shareholder intends to inspect the accounting book of the company, he must file a written request to the company to explain the relevant motives. The request for inspection may be rejected, provided that the company has good reasons to believe that the shareholder’s motives are improper and may damage the legitimate interests of the company. This rule sometimes makes it difficult for shareholders to exercise their right to inspect and obtain company information in practice.
(iv) Regulations concerning company seal enjoy a higher degree of flexibility
Before the New CO, it is a legal requirement for every HK company to have a common seal with the company name engraved in legible characters. To simplify the mode of document execution, the New CO has made common seal optional. The New CO now allows a company to execute a document by signatories. Further, under the Old CO, if the company needed to use the official seal outside HK, it must be authorised by the Articles and the company’s objects clause must contain business transactions outside HK. The New CO removes the requirements for having the official seal.
In mainland China, although there is no express provision on the necessity for a company to have a common seal, the law has entailed that signature itself is insufficient in demonstrating the legitimacy of the authority. Under the New CL, company stamp is considered as a mandatory element for a company’s incorporation and operation as stamping is required on Articles, capital contribution certificates, written resolutions on matters which should have been resolved by general meeting, share subscription forms for public offer of shares, stocks issued by public company and bonds.
4 Key amendments in the New CL
4.1 Amendments on share capital
(i) Cancellation of minimum registered capital
Under the Old CL, shareholder’s payment of the minimum amount of registered capital was a prerequisite condition for establishment and valid existence of the three types of companies: namely RMB 30,000 yuan for limited liability company, RMB 100,000 yuan for single shareholder limited liability company, and RMB 5,000,000 yuan for company limited by shares. This requirement is removed in the New CL. Unless provided otherwise by other laws, administrative regulations, or decisions of the State Council, no minimum amount of registered capital will be required for the formation of a company.
In HK, there is no equivalent requirement on the minimum amount of a company’s issued or subscribed capital.
(ii) Paid-in capital to subscribed capital
Under the Old CL, the shareholders of a company had to make a timely payment of the initial proportion of registered capital at the company’s formation, and the remaining registered capital had to be paid up within a statutory time limit. Under the New CL, there is no longer a legally prescribed timeframe for the shareholders to make full payment, unless provided by other laws, administrative regulations, or decisions of the State Council. Instead, the shareholders are only required to state a definite amount of capital subscription in the Articles of the company. In other words, shareholders may choose pay nothing or only a part of their subscribed registered capital at the company’s formation and the remaining capital can be paid up in accordance with the time limit agreed in the company’s Articles.
In HK, there is no requirement on the minimum amount of paid-up capital and time requirement for pay-up. However, under the New CO, in order to help ascertain a company’s share capital position, a statement of capital must be filed with the Company Registry whenever there is a change to company’s share capital. The statement of capital needs to set out the number of issued shares, the amounts paid up, the total amount of its issued share capital and the details of any rights attached to each class of shares.
(iii) Relaxed restriction on forms of capital contribution
Under the Old CL, a shareholder may choose to contribute to a company’s registered capital by way of injecting assets, intellectual property rights, land-use rights, or other non-monetary properties, provided that cash payment had to be no less than 30% of the registered capital. This requirement is abolished by the New CL, which technically allows a greater degree of flexibility for shareholders to decide the ratio between cash and other assets in their initial capital contribution.
In HK, there is no restriction on forms or ratio of capital contribution.
4.2 Amendments on company incorporation
(i) Simplified registration formality
To establish a company in the mailand, the applicant must apply for business license with the relevant AIC. Under the Old CL, the applicant needs to state the company’s name, domicile, registered capital, paid-up capital, business scope, legal representative, etc. Under the New CL, it is no longer a requirement to stipulate the paid-up capital on the business license. The required documents for incorporation, now including an incorporation form, a copy of the Articles of the company, the notification for permission of company name, ID or business license of shareholders, a power of attorney signed by all shareholders, residential proof and approval documentation (if the business scope of the relevant company involves special industry), are much simpler than before.
HK’s reform also emphasised on simplifying formality requirements for company registration (for details, please refer to section 3.1 of this article). Currently, registration of a HK company only requires submission of incorporation form, the Articles of the company and a notice to Business Registration Office. A company must state on the incorporation form its company name, address of registered office, email address, share capital information as well as the details of the founder members and the first directors. These information would become publicly available on the website of Company Registry after the company’s formation.
(ii) No compulsory capital verification
Under the Old CL, the registered capital of a company must be verified and reported by a certified accounting firm or auditing firm in China where the verification report would be used as evidence for application of registered capital. This requirement was abolished by the New CL, which substantially lowered the costs of setting up a company and made the process more speedy.
In HK, there is no requirement for filing capital verification report. However, it should be noted that such information would be required to report upon any change of capital to the Company Registry. If the relevant person knowingly or recklessly makes a misleading, false or deceptive statement, he would be liable on conviction on indictment to a fine of $300,000 and an imprisonment term of 2 years. Furthermore, in order to avoid misleading statements, any official document of a company that states the company’s issued capital must also state no less prominently the company’s paid up capital. If a company issues, circulates or distributes an official document that does not comply with this requirement, the company and every responsible person of the company would commit an offence and be liable to a fine at HK$10,000.
5 Implications of the amendments
It can be observed that both HK and the mainland are moving towards a more relaxed, efficient and user-friendly corporate environment. These transformations are not only to satisfy the needs of domestic economic development, but also to keep up with the latest international trend. As for now, HK and mainland China are at different evolution stages of company law regulation. The long-established HK company regime is still considered as more advanced and advantageous than the mainland’s regime, which can be partially evidenced by HK’s ability to attract a large number of Chinese and international companies to list on its stock exchange. Rome was not built in a day and the establishment of a competitive corporate governance and company law regime would need to be driven by more opened government ideology and backed by competent judiciary, stable investment environment and transparent information disclosure system. HK has reached internationally recognised standard in these aspects, whilst mainland China is preparing for further changes to its company law regime with a view to enhance its competitiveness in the global arena. It can be foreseen that more similarity and alignment will be found in both HK’s and mainland China’s company law regimes.