Key Points to Capital Reduction
The revised Company Law (2023) came into force on July 1, 2024. It imposes restrictions on the capital contribution period, triggering a wave of corporate capital reductions. Meanwhile, due to the backdrop of the economic environment in recent years, numerous enterprises have opted for capital reduction for various reasons. Although the Company Law prescribes relevant procedural requirements for capital reduction, specific rules vary across practical scenarios. We have compiled key matters concerning capital reduction for limited liability companies for reference.
Firstly, the procedures for capital reduction differ depending on the reasons for such action.
|
Reasons |
Legal Basis & Key Procedural Requirements |
|
The company is not operating at a loss. Shareholders initiate capital reduction out of considerations for future operations (e.g., business contraction, lack of succession arrangements, etc.). |
The capital reduction shall follow Article 224 of the Company Law, generally referred to as the “General Procedure”. Requirements are as follows: 1. Prepare a balance sheet and an inventory of assets; 2. Adopt a capital reduction resolution at the shareholders’ meeting; 3. Notify creditors within 10 days after the resolution is adopted, and publish a public announcement within 30 days; 4. Creditors may, within 30 days upon receipt of the notice or 45 days from the date of the public announcement, request the company to settle its debts or provide security; 5. Amend the company’s articles of association and complete formalities for change of registration after all objections raised by creditors are disposed of. |
|
The company sustains losses, and shareholders initiate capital reduction to offset losses. |
The capital reduction shall follow Article 225 of the Company Law, namely the “Simplified Procedure”. Requirements are as follows: The company is not required to notify creditors, but shall publish a public announcement within 30 days from the date the shareholders adopt the resolution. Distinction between the “Simplified Procedure” and the “General Procedure”: Funds from capital reduction under the simplified procedure remain within the company, meaning the company’s total assets did not decrease. By contrast, funds from capital reduction under the general procedure are distributed to shareholders, or shareholders’ obligation to pay up corresponding capital contributions is exempted, which results in a reduction of the company’s total assets. |
|
Shareholders fail to perform their capital contribution obligations or withdraw capital contributions illegally, and the company initiates capital reduction. |
The capital reduction shall follow Article 52 of the Company Law and Article 17 of the Judicial Interpretation (III) on the Company Law, known as the “Special Procedure”. Unlike the above two procedures, this procedure is initiated by the company rather than shareholders. On the basis of the general procedure, additional requirements apply, which are the company shall issue a capital contribution demand notice with a grace period of no less than 60 days; if the shareholder still fails to fulfill the contribution obligation thereafter, the company shall issue a notice of forfeiture of shareholder rights to such shareholder. |
Secondly, documentation requirements for capital reduction vary according to the reduction ratio.
Where a company has multiple shareholders, capital reduction falls into two categories: pro rata capital reduction and targeted capital reduction. Targeted capital reduction means the reduction applies only to specific shareholders, or the reduction ratio for certain shareholders differs from that of others. Article 66 of the Company Law stipulates that unless otherwise provided for in the articles of association, a capital reduction resolution shall be adopted by shareholders holding more than two-thirds of the voting rights. If this rule were applied to targeted capital reduction, majority shareholders could easily override minority shareholders. To address this issue, Article 224 of the Company Law makes special provisions, that is, targeted capital reduction is permissible only if otherwise stipulated by law or separately agreed upon by all shareholders. In other words, targeted capital reduction shall obtain unanimous consent of all shareholders.
Thirdly, procedural rules for capital reduction differ due to varying industrial regulatory requirements. For instance, capital reduction in the financial sector (including banking, insurance, securities, futures, etc.) is subject to prior approval. Relevant approval documents must be obtained before proceeding with subsequent procedures. State-owned enterprises are also governed by special rules. For example, an asset appraisal is mandatory prior to targeted capital reduction for state-owned enterprises.
Lastly, directors, supervisors and senior management personnel shall fully perform their fiduciary duties. The Company Law (2023) strengthens the liabilities of directors, supervisors and senior management for maintaining the company’s registered capital. Article 266 of the Company Law prescribes that where an unlawful capital reduction causes losses to the company, the liable directors, supervisors and senior management personnel shall be held liable for compensation.