6.2.2 Appraisal triggers and recommendations

The appraisal remedy, a mechanism which originated in the Unites States in the nineteenth century, is provided in detail in the RMBCA, in the corporate statute of every state, and is also supplemented by a wealth of comments and advice from the Principles drafted by the ALI. In contrast, the British Company Act does not recognize this kind of remedy. A remedy with automatie buyout rights is only provided in sections 110-111 of the Insolvency Act 1986 which allows dissenting shareholders to leave the company when liquidators arrange schemes in case of a voluntary winding-up. In the UK, therefore, shareholder resolutions on mergers, sales of substantially all assets of the corporation, and material charter amendments do not automatically grant minority shareholders exit rights.

With respect to merger plans, the interests of minority shareholders are protected by the legal requirement of court sanction. The possibility of relief is at the discretion of the court. If the court approves the merger plan, dissenting members are bound to accept its terms. In view of other situations listed above, such as mergers or charter amendments, the possibility to obtain relief is to challenge that by arriving at such a decision, the majority has either acted against law, the constitution of the company, or standards established in case law.

Suggestions to introduce American style `appraisal rights' in the UK have not been followed so far.1 This is partially due to the conservative approach adopted by the CLR, which prefers continuity to changes,2 and partially due to the unfair prejudice remedy, which is too deeply rooted and overpopular in challenging the majority's behaviour and decisions. If an unfair prejudice petition is successful, minority shareholders can nonetheless obtain exit relief. Because appraisal rights are not preferred in the UK, the study of appraisal rights is conducted mainly between the US and China.

In the research in the US part, I focused on the Delaware corporate statute, the RMBCA, and the ALI Principles. The Delaware corporate statute only provides two triggers, namely, mergers and consolidation, while the RMBCA and the ALI provide a more comprehensive list of situations. Those responsible for drafting the remedy in the Chinese Company Law did not articulate how they chose the triggering events, but it is not difficult to find out that they are similar to those in the RMBCA. The triggers in the Chinese Company Law are also transactions which would fundamentally change the nature of the business. The comparative study of the triggers has thus been made between Article 75 and the rules in the RMBCA, but with reference to the Principles as well.

The appraisal triggers in Chapter 13 of the RMBCA include, but are not limited to:

Appraisal triggers in the Chinese company law are listed as:

Both Chapter 13 of the RMBCA and Article 75 of the CL 2006 recognize mergers, disposition of major assets and certain form of amendment to the articles of incorporation/association as triggers of appraisal rights. The difference is that Article 75 does not include share exchanges, reverse stock splits and private ordering, but takes situations of no dividend distribution and corporate divisions into consideration. I will therefore divide my discussion of the triggers into three groups, group of similar triggers, group of triggers specifically in the RMBCA, and group of triggers specifically in Article 75. In the following discussion, I will first address problems in the group of similar triggers from a comparative point of view.

(1) Mergers

Mergers in Article 75 refer to legal mergers, a full integration of companies involved. Article 75 embraces the same types of mergers as in the RMBCA. They are: Company X + Company Y = Company X, and Company X + Company Y = Company Z. But, as experienced in relation to the RMBCA, the scope of mergers for appraisal rights can be further defined onder Article 75 to achieve a more efficient and sophisticated level.

Specifically, in the type Company X + Company Y = Company X, not every merger qualifies as a fundamental change to the acquiring company, for example, simple mergers. By simple mergers, I mean mergers which have lilde impact on the acquiring company, for instance mergers which do not change the rights of shareholders in the acquiring company, the issue of new shares for acquisition does not exceed a certain percentage, or the acquiring company is a parent company holding 90 per cent of the shares in its subsidiary. Regarding simple mergers, company law should exclude the availability of appraisal rights to shareholders in the acquiring company because the acquiring company and the interests of its shareholders have only been slightly changed. This position is reflected in the RMBCA.3 Article 75 does not clarify the issue of which company's shareholders can invoke the appraisal remedy, and it is assumed that dissenting shareholders from both companies can. In this sense, shareholders of the acquiring company are, in principle, allowed appraisal rights without any limitations to the type of mergers. I suggest that the scope of mergers should be narrowed down to exclude simple mergers in Article 75.

(2) Disposition of major assets

When dispositions of assets are included as a trigger, the first issue to be clarified is the division of power between the shareholders' meeting and the board of directors in voting on such transactions. If the transaction is subject to a shareholders' vote, the dissenting shareholders are allowed to exercise appraisal rights when the resolution is passed. Otherwise, only the board of directors has decision-making power and no appraisal remedy applies.

In the RMBCA, if the assets to be disposed of are considered major assets, a shareholder vote is required. The assessment of major assets is assisted by a criterion, which reads: disposition which leaves the company with no significant business. To reduce the difficulty of the assessment, the RMBCA also explicitly states which kinds of dispositions are exclusively the power of the board and contains a safe harbour rule to exclude certain transactions from application of the remedy.

In China, powers of the shareholders' meeting are codified under Article 38 of the Company Law, but there is no provision specifying who has decisionmaking power as to dispositions of major assets. At the same time, the decisionmaking power of the board of directors on dispositions of assets is not specified either.4 As a result, what 'major assets' means and who can vote on such transactions is an area completed unregulated by law. Taking into account the above situation, if the term 'major assets' is not defined by Article 75 either, the application of such an appraisal trigger will be problematic. Unfortunately, this is the current situation. Although under other corporate regulations, a criterion of 50 per cent of the total assets or the assets accounting for at least 50 per cent of the revenues is indicated as the standard to conclude major assets,5 there are two problems. On the one hand, such regulations rank lower than law in terms of legal hierarchy. On the other, this 50 per cent criterion is a quantitative test which is nowadays considered as rigid and obsolete. In fact, for the same reason, the RMBCA abandoned the quantitative test for appraisal rights. I consider that a qualitative standard provided in the Company Law carries more weight and should not be ignored.

In the RMBCA, the standard of "disposition which leaves the company with no significant business" is a qualitative test. Besides, the court can arrive at a reasonable judgment with the assistance of guidelines extracted from case law and commentary in the ALI.6 Such guidance is summarized below, which I think will be helpful to the courts in exercising their judicial discretion:

After the comparative research, recommendations to Article 75 about this appraisal trigger are: write down a standard to assess major assets, clarify the division of powers between the general meeting and the board of directors, and offer other measures like the safe harbour rule in the RMBCA in order to enhance the efficiency and certainty of application.

(1) Share exchange

A merger by acquisition concerns a full integration, followed by the dissolution of the acquired company. But structural preferences may lead to the desire to sell ownership of partial shares to another corporation whereby no corporations involved need to dissolve. Without the form of share exchange, the same result has to be achieved by a reverse triangular merger which is indirect and more complicated.13 Although share exchanges differ from mergers in terms of the amount of shares purchased and the legai existence of the corporations thereafter, they have the same consequences for minority shareholders as mergers: the shareholders are forced to depart with their original investment. The recommendation for Article 75 is that share exchanges should be included as appraisal triggers.

(2) Reverse stock splits

Reverse stock splits by which the minority shareholders can be cashed out have the same effect as cash-out mergers on minority shareholders because they eliminate their interests in the corporation. This is why the RMBCA grants dissenting shareholders appraisal rights in such a situation. As stated above, however, close companies in China are not allowed to initiate any schemes to repurchase shares. Article 75 therefore does not take this situation into consideration.

(3) Private ordering

The change in the RMBCA 2005 regarding article amendments is reflected in the limitation of the broader statutory scope i.e., all amendments which can directly and adversely affected the shareholders, to reverse stock splits only. Such a scale-down does not mean a narrower scope of appraisal triggers because it is supplemented by private ordering through which shareholders can decide on their actual needs for appraisal. Instead of risking being accused of making arbitrary business judgements for the corporation, the legislators decided to give more freedom and respect to the true need of the business and the free will of the shareholders.14 This new policy judgement is in line with the international trend of relaxation of mandatory rules and endorsement of more freedom to shareholders.

It is a sincerely felt pity that Article 75 does not consider private ordering, which is gaining more and more importance in the legislation for close companies. Accordingly, I recommend that Article 75 should adopt an enabling provision that permits expansion of appraisal rights as provided in the corporate articles of association.

(1) Withholding of dividend distribution

Article 75 includes withholding of dividends as an appraisal trigger, but I do not think this trigger is justified in that it is not a fundamental change for the shareholders or to the company and thus does not achieve the purpose of the remedy.

Such inappropriate categorization can cause two problems: on the one hand, because the legislators apply the technique of automatie exit to such a nonfundamental event, to prevent an easy exit as well as to stress the seriousness of this trigger, the legislators have laid down very demanding requirements for the exercise of the rights.15 The individual condition is already not easy to meet, and it is even more difficult to meet all the three conditions at the same time. It is hard for minority shareholders to avail themselves of the remedy owing to the strict conditions; on the other hand, there is enough room in every condition for the majority to manipulate if they are careful enough.16

In a word, the remedy is not readily available, and the real function of this trigger is questionable. But the withholding of dividends in close company is such a serious and universal problem that the Chinese legislators have feit the urgency to regulate it and offer remedies to minority shareholders. But I think it is reasonable to regulate this issue by means of the oppression remedy, as one item on the rebuttable list, and the threshold can be lowered to no material distribution for three years in a row.

(2) Divisions

Laying down divisions as a trigger of appraisal rights is specific to the Chinese Company Law. The RMBCA, the Principles, and the Delaware Corporate Statute do not contain the situation of divisions. There are two forms of divisions onder Article 75:

A substantial change to the company as wel) as to the interests and investment expectations of shareholders justities the availability of the appraisal remedy. But, as is the problem with mergers trigger as a trigger, the forms of divisions eligible for appraisals needs to be narrowed down and restricted to divisions by the formation of new companies. The reason to exclude divisions by acquisition is that through such a transaction, a parent company and one or more 100 percent owned subsidiaries are formed. The interests of shareholders in the parent company are hardly affected and the embrace of this type of divisions impedes business development.

(3) Prolongation

It is another special feature of the Chinese appraisal triggers that prolongation of the operating terras is included. For historica) reasons, it is common practice in China to set an operating term in the articles of association and if necessary, extend the term by a resolution of a shareholders' meeting.17 This situation is deemed a fundamental change to the company and affects shareholders' fundamental expectations of their investments, while underlining the notion that list of triggers can vary with different legai backgrounds and practical needs even though the purposes of the appraisal remedy are the same. It therefore reflects thorough deliberation by the lawmakers in taking account of this situation. In short, after comparison and consideration, I think legislative efforts for the improvement of the substantive scope of Article 75 should be made as follows: