Earth Research | Can a guarantor of an equity assignment guarantee sue to request the People's Court to confirm its shareholder status

Authors: Chen Xia Pan Hongjing

Xiong and Company A acquired Company C, subsequently investing 60 million yuan in Company C's projects. Due to financial difficulties, Xiong and Yu signed an equity transfer agreement, transferring Xiong's equity to Yu for 4.9 million yuan. Company A and Xu signed an equity transfer agreement, agreeing to transfer their equity to Xu for 5.1 million yuan. On December 23, 2014, the change of shareholders of Company C was registered, and the original equity holders transferred the company's seal to Xu and Yu. No other changes occurred. From November 3, 2011, to August 14, 2015, Li, Xu, Yu, Feng, Li, Min, Zhang, etc., remitted funds to Changjiang Comprehensive Agricultural and Trade Wholesale Market, Liu, Yao, Company C, Fuzhou Company B, etc., totaling 73.294 million yuan. Xiong and Company A claimed that the above funds were loans used for project development and construction, and that their equity transfer was an assignment for security, requesting confirmation of their equity and related business registration changes. Xu and Yu argued that there was never an agreement on loans and security, that the 10 million yuan transferred was the equity transfer price, and the remaining funds were compensation for previous investments, remuneration, and project investment funds.

The first-instance court, based on the facts and evidence, did not support the claims of Xiong and Company A. The second-instance court partially supported the claims of Xiong and Company A, acknowledging the legal nature of the equity transfer agreements between Xiong and Yu, and Company A and Xu as assignments for security, and the identity of the true rights holders of the equity. However, it did not support the related business registration changes. The appellant was dissatisfied with the second-instance judgment and filed a retrial application, which was rejected by the Supreme Court after review.

There are two points of dispute in this case: First, how should the nature of the equity transfer agreement be determined? Second, is the request of Xiong and Company A to confirm their shareholder status and handle business registration changes valid?

Equity assignment as security is a form of security where the debtor or a third party, to secure the debtor's debt, assigns the company's equity to the creditor. After the debt is repaid, the equity should be returned to the assignor. If the debtor fails to properly perform, the assignee can be preferentially compensated for the equity. Although Yu and Xu acquired the shares and completed the business registration change in this case, giving the appearance of enjoying equity rights, the legal nature of the equity transfer agreement should be considered in conjunction with the creditor-debtor relationship between the parties and their true intentions. The equity transfer agreement is relatively simple, only involving the equity transfer share and price. Combining the evidence submitted by the parties and the ascertained facts, the assignor did not have the true intention of transferring the equity, and the assignee did not have the true intention of acquiring the equity. After the assignee completed the business registration change, they did not actually take over the management of the company. These contradict the actual transfer of equity. Therefore, the agreement has the legal nature of equity assignment as security.

Regarding the request for confirmation of equity, the true rights holder should be protected, and the court supports this. As analyzed above, the equity transfer agreement signed by Xiong and Company A is an equity assignment as security. Although the registered shareholders with the business administration department are Xu and Yu, business registration is a formal act, and for the purpose of proving rights, whether the equity is transferred should be based on the true intentions and facts of the parties. Therefore, Xu and Yu are nominal shareholders, not actual shareholders, and their rights should not exceed the purpose of using equity as security. In addition, confirming Xiong and Company A as the true shareholders does not harm the security rights enjoyed by the appellant. Compared with traditional security methods, equity assignment as security has the advantages of flexibility and security, preventing improper handling of equity, and can maximize the value of the equity used as security by agreeing on rights such as the right to know and the right to supervision, without infringing on the actual shareholders' management rights.

Regarding the issue of business registration, equity assignment as security is established based on the agreement of the parties, and as long as there are no invalid circumstances, it naturally binds both parties. In this case, although Yu and Xu are nominal shareholders, they naturally enjoy the rights of the secured creditor, and equity registration is also to ensure the realization of the secured creditor's claims. According to the facts and evidence, both parties have agreed that the equity will be changed back to the assignor's name only after the debt is repaid. The assignor has not yet repaid the debt, and the conditions for equity registration change have not been met. If the equity is changed back to their name at this time, the secured creditor's claims secured by the equity assignment as security will be lost. Therefore, the court does not support this.

Although in this case, the court supported the claim of the guarantor to confirm its shareholder status, in the case of Deng Zhenhua, Zhou Xiaoping, et al. v. Confirmation of Shareholder Status Dispute Case [(2022) Supreme People's Court Min Shen 1021], the Supreme Court held that the assignor of equity as security did not sue to confirm the invalidity of the security clause, nor did it actively repay the debt, and did not claim that the debt should be repaid with the value of the equity involved in the case or the proceeds from auction or sale, but only sued to request the people's court to confirm its shareholder status, aiming to confirm its rights to the already transferred and mortgaged property without fulfilling its repayment obligations. This request should not be supported.

Equity assignment as security and equity transfer both appear as equity transfer and registration changes, making them difficult to distinguish. As in this case, although both parties signed an equity transfer agreement and completed the registration change, the purpose of the action was not fixed in the contract, which easily leads to disputes, and the parties often make claims that are beneficial to themselves. How to determine the legal nature of equity transfer is particularly important.

Based on the judgments of various courts in judicial practice, the determination of equity assignment guarantee mainly includes: (1) There is a creditor-debtor relationship between the parties; (2) There is an appearance of equity transfer: including the existence of an equity transfer agreement or a capital increase agreement and the completion of change registration; (3) There is an expression of intent for equity assignment guarantee, either the parties directly stipulate in the contract that the equity transfer is to guarantee the realization of the creditor's rights, or the parties' expression of intent is comprehensively judged based on the facts, including whether the parties have agreed to repay the debt and return the equity, whether the assignee actually controls the company, and participates in the company's operation and management, and exercises the actual shareholder rights.

In practice, there are cases where the intention of guarantee is not clearly stated in the transfer agreement. In such cases, it can only be judged through objective facts. If the assignee does not participate in the company's operation and management activities, does not participate in shareholder dividends, shareholder voting, and does not exercise the function of operation and management, then the equity transfer has the nature of guarantee. As in this case, although Yu and Xu acquired the equity, they are not actual shareholders and do not enjoy the relevant rights of shareholders. If the assignee claims to enjoy substantive shareholder rights on the grounds that it has sent personnel to the company for supervision, the court will not support it. For example, in the case of Wuhan Binggou City Real Estate Co., Ltd. and Guotong Trust Co., Ltd. loan contract dispute, the Supreme Court held that "Although the Capital Increase Agreement also stipulates that Guotong Company will send personnel to participate in the board of directors and supervisory board of Binggou City Company, from the content and implementation of the agreement, Guotong Company does not participate in the daily operation and management of Binggou City Company, and the purpose of sending directors is mainly to supervise major company matters. Guotong Company does not actually bear the operating risks of Binggou City Company, but only obtains fixed returns, rather than participating in or controlling the operation and management of the target company. Although Guotong Company obtained 93.07% of the equity of Binggou City Company through industrial and commercial change registration, its shareholder rights and obligations are different from those of ordinary shareholders, and Guotong Company is not the shareholder who actually controls the operation of Binggou City Company." Therefore, for the situation of equity assignment guarantee, it is not enough to determine whether the shareholder has sent personnel to the company to hold positions. It is necessary to combine the position and responsibilities of the personnel sent to determine whether the shareholder actually enjoys the core rights of shareholders such as voting rights, dividend rights, and election of managers. If so, it is very likely to be regarded as equity investment rather than equity assignment guarantee.

Article 69 of the Judicial Interpretation of the Civil Code Guarantee System stipulates that if a shareholder provides a guarantee for debt performance by transferring its equity to the creditor, and the company or the company's creditor requests the creditor as a nominal shareholder to bear joint and several liability with the shareholder on the grounds that the shareholder has not fulfilled or fully fulfilled its capital contribution obligations, or has withdrawn capital, the people's court will not support it. For example, in the contract dispute case between Xinjiang Investment and Development (Group) Co., Ltd. and Jinshi Wealth Investment Co., Ltd., the court found that the purpose of the agreement between the two parties for Haixia Company to acquire equity was essentially to provide equity guarantee for the Processing Agreement, and no other purpose. The transfer has been passed by the shareholders' meeting resolution and complies with the relevant provisions of the Company Law. Haixia Company is only a nominal shareholder, does not enjoy shareholder rights, and does not need to bear joint and several liability for the capital contribution obligations of the actual shareholder.

Equity assignment guarantee is a non-typical guarantee. Its advantages lie in its flexible setting and security guarantee. It can maximize the protection of the value of the equity for which the guarantee is set without infringing on the actual shareholder's operating rights and management rights by agreeing on matters. When the debtor fails to repay the debt, the creditor can be preferentially repaid from the value of the guaranteed property auctioned and sold. However, in practice, it is sometimes difficult to distinguish between equity transfer and equity assignment guarantee. Therefore, in order to avoid future disputes, all parties should clearly state the true intention of the assignment guarantee and fix the true intention through various methods. Generally, it can be directly agreed in the agreement.