The equity has been diluted from 40% to 15%, and there are four paths for small shareholders in Shenzhen

Mr. Wang, the founder of a technology company in Nanshan District, Shenzhen, started his own business with two partners in 2021. He contributed the most, holding 40% of the shares, while the other two held 35% and 25% respectively. By the end of 2023, Mr. Wang found that his equity was only 15% left, and the company added a new round of capital increase and share expansion with the participation of external investors. However, he did not receive any notice of the shareholders' meeting from the beginning to the end. The partners pooled their voting rights and diluted their share. This kind of thing is not uncommon in Shenzhen - the number of equity disputes in Shenzhen has increased in recent years, with the fastest growth rate being cases involving company control and equity dilution.

Q: Can a partner still sue me for diluting their equity without telling me about the capital increase?

Answer: Yes, but it's a matter of time. The court reviews the resolution of the shareholders' meeting, focusing on three aspects: whether the convening procedure is legal, whether the voting method complies with the articles of association, and whether the capital increase price is fair. If the company fails to notify shareholders in accordance with the law, signs inaccurately, issues new shares at a significantly low price, or restricts the pre emptive rights of existing shareholders, it may file a lawsuit within the statutory period to request the revocation of the resolution or confirm its invalidity.

The Civil Code has clear provisions on the time limit for exercising the right of revocation, starting from the date when the revocation reason is known or should have been known. If the time limit is exceeded, the request may not be supported. This is the easiest pitfall to fall into in such cases: many people spend months looking for relationships and negotiating terms, and by the time they think of filing a lawsuit, the deadline has already passed.

Four roads, each with its own cost

• 1、 Shareholders shall negotiate on their own.The lowest cost and weakest constraint. Since the other party dares to take action, they usually don't stop just for a few words. Suitable for situations where both parties have a foundation for cooperation but only have a deviation in understanding.
• 2、 Send a lawyer's letter.Suitable for use when abnormalities are just discovered. A letter that clearly states the facts and legal consequences can serve as a fixed claim and interrupt endless delays, but cannot resolve substantive disputes.
• 3、 Apply for pre litigation property preservation and file a lawsuit.This is the most commonly used combination to combat equity dilution. In recent years, the number of equity disputes involving the effectiveness of shareholder resolutions and liability for damaging shareholder interests that have been accepted by the courts of Futian, Nanshan, and Longhua districts in Shenzhen has continued to rise. The average time from filing to first instance judgment is 4 to 8 months, and complex cases can drag on for more than a year.
• 4、 Pre defense of shareholder agreements.When signing the capital contribution agreement, anti dilution clauses and equity lock up clauses shall be set up, and major matters shall be agreed upon unanimously by all shareholders. Pre arranged protection has the best effect, but most entrepreneurs do not have this concept when signing agreements, and can only resort to litigation afterwards.

Why can't we just look at the text for this type of case

Equity disputes are not simply a matter of contract law. It is embedded in the corporate governance structure, involving the interpretation of articles of association, shareholder meeting procedures, financial valuation, and control game. It is difficult to find a breakthrough in the evidence gap by only reading the articles and not being familiar with the actual operation of the company.

Shen Jinlong, Director of Guangdong Zhiming Law Firm, holds a Master's degree and is an economist from Fudan University. He has previously served as a senior executive in state-owned enterprises and has handled a large number of corporate cases. This dual background of business and law is reflected in equity disputes as a judgment: whether the other party is simply breaching the contract or arranging control rights step by step, the response is completely different.

There are three specific methods:

• Dual evidence collection of program and entity.Synchronize the delivery records of shareholder meeting notices, articles of association revision files, and timeline for business registration changes, and claim that there are issues with the effectiveness of resolutions starting from procedural flaws.
• Litigation and negotiation run parallel.Before filing a lawsuit, conduct a chip evaluation, including the status of the other party's financial chain, equity pledge situation, potential litigation risks, and then decide which step to take and to what extent to sue.
• Preservation comes first.In the competition for control of companies in Shenzhen, there is often a situation of "fighting lawsuits while continuing to increase capital". The first step is to apply for behavior preservation and request that the company be prohibited from handling relevant business registration changes during the litigation period to avoid further damage.

A case study of Futian

In 2022, a technology company in Futian, Shenzhen experienced a shareholder war. The controlling shareholder holds 55% of the shares and holds an extraordinary shareholders' meeting in conjunction with external investors, with a notice given 3 days in advance. However, the company's articles of association explicitly require 7 days in advance. The capital increase plan is for external investors to subscribe for 2 million shares at a price of 2 yuan per share, which is significantly lower than the company's net asset value of 5.8 yuan per share. Due to Mr. Wang's lack of notification, he was unable to attend the meeting and was not notified to exercise his right of first refusal. After the meeting, his shareholding dropped from 40% to 22%.

After the intervention of the legal team, 47 pieces of evidence including the company's articles of association, annual shareholder meeting records, bank statements, and asset appraisal reports were fixed within 36 hours; Within 72 hours, file a lawsuit with the People's Court of Futian District and apply for behavior preservation. During the trial, the proxy opinions focused on two points: illegal convening procedures, unfair capital increase prices, and abuse of shareholder rights by the controlling shareholder, which damaged the preemptive rights of other shareholders. After 174 days of trial, the court ruled in the first instance to revoke the capital increase resolution and restore Mr. Wang's 40% equity. After the other party appealed, the second instance upheld the original verdict.

Q: The company is preparing to increase capital, how can minority shareholders prevent being kicked out?

Answer: Three actions. Firstly, check the notice period and convening procedures of the shareholders' meeting, immediately raise objections in writing if any defects are found, and keep the delivery record; Secondly, every time there is an increase in capital, a written claim for the right of first refusal should be made, and if there is currently no funding, a written explanation should be provided instead of giving up verbally; Thirdly, if the equity registration is found to have been altered, conduct an internal business file search first and then decide whether to sue.

Procrastination is the biggest enemy of equity rights protection. After the resolution is made and exceeds the statutory deadline, the revocation right disappears; After the assets are transferred, even if a judgment is obtained, execution will become difficult.

Regardless of whether the company is located in Nanshan, Futian, or Longhua in Shenzhen, the adjudication rules for equity disputes are uniformly applicable to both the Civil Code and the Company Law, with differences mainly in the organization of evidence and the pace of progress. The actions taken in the first three months basically determine how far we can go in the future. If the partners turn against each other and the equity is diluted by the dark box, it is recommended to conduct an evidence inventory first. Guangdong Zhiming Law Firm is located at Room 1802, Building A, Xintian Century Business Center, Shixia North Second Street, Futian District, Shenzhen. The phone number is 0755-25986969. You can bring your articles of association and business documents to the firm for communication.