2025.01.20
JunHe represented a client in a performance compensation dispute in which the target company made false statements and committed performance fraud. The JunHe team secured a complete victory in the final-instance proceedings heard in the Beijing High People's Court and the client's claim for performance compensation of over RMB 100 million was fully upheld by the court.
The client was a well-known private equity fund, and the investee was a subsidiary within the consolidated financial statements of a company listed on the Shenzhen Stock Exchange. The client, as the investor, signed an Equity Transfer Agreement with the original shareholder and actual controller of the investee. The agreement provided that the original shareholder shall transfer the target company's equity interest to the client and continue to operate the target company as its actual controller. If the target company's audited net profit for the years 2017-2019 did not meet the performance target, the actual controller would be obliged to make performance compensation to the client.
The net profit target related to the target company, i.e. a subsidiary of the listed company, and its financial data was included in the consolidated financial statements of the listed company. This was a difficult case because the actual controller provided financial statements of the listed company showing that the target company had met the performance targets, while the client had no direct evidence to prove that the target company had not met the targets. To prove the target company's underperformance, the client requested the target company conduct a re-audit, which was refused. JunHe submitted an audit report with a qualified opinion issued by an accounting firm, as a result of which the case was successfully put on the docket.
JunHe meticulously reviewed the audit reports of the target company and the listed company over many years and then explained to the court the significant errors in the target company's audited performance. JunHe’s team assisted the client in reporting potential performance fraud by the parent company of the target company to the regulatory authorities and applied to the court for a judicial audit of the target company's financial position from 2017-2019. This prompted the regulatory authorities to conduct a special inspection of the listed company's financial fraud, leading to an investigation at the end of 2022. Eventually, the accounting firm issued a new audit report, and the court verified the regulatory authorities' investigation results, leading to the listed company issuing a correction announcement acknowledging the target company's failure to meet performance targets and its previous financial fraud.
Another major challenge in this case was that the client had transferred the target company's equity during the performance compensation period and was no longer a registered shareholder. The opposing party's lawyer argued that the client had benefited from the equity transfer and should not receive double benefits through performance compensation.
JunHe made defenses by referencing a similar case that they had previously won in the Beijing High People's Court. They argued that the court had ruled that the transaction between a client and the equity transferee was essentially a private lending rather than an equity transfer and it had no characteristics of an equity investment, i.e. shared benefits and risks. The equity transfer registration and the agreed return of the equity following the repayment of the loan principal were to create a transferring guarantee through a contractual arrangement. JunHe argued that the client was a suitable plaintiff in this case and had the right to claim performance compensation based on the Equity Transfer Agreement, given that the agreement did not prohibit the equity transfer as well as the court decision on the transferring guarantee.
The Beijing Third Intermediate People's Court, after three hearings, and the Beijing High People's Court, after four hearings, fully adopted JunHe’s views and upheld all of the client's claims.
In practice, there is some controversy over whether investors who have transferred their equity before claiming performance compensation have the right to demand the fulfillment of performance compensation obligations. In this case, JunHe won performance compensation of more than RMB 100 million for the client, providing a valuable reference for similar performance dispute cases.
Partner ZHAO, Zhen led the JunHe team.
