In December 2019, the Supreme People's Court carried out collective review of the outstanding case studies recommended by the high people's courts across the country to the Supreme People's Court by 10 expert review teams composed of over 30 senior judges and law professors in the form of three reviews for one case, independent review, and peer review, and released the Notification of the Selection Results of Outstanding Case Studies of the National Court System in 2019 (FB  No. 359). The "Case of dispute over capital increase of certain equity investment fund" in which DeHeng acted as the plaintiff's attorney, and which was tried at Shanghai Pudong New District People's Court won the Outstanding Case Award.
One of the difficulties in the cases of equity repurchase is how to verify the conditions that trigger the repurchase. The repurchase conditions stipulated in this case were not typical compared to regular cases, posing many technical challenges. DeHeng lawyers adopted creative ideas such as sound argumentation of legal principle, and indirect evidence collection for better evidence chain, and was finally rewarded with the successful outcome.
In 2016, the plaintiff H Fund and the defendants being founding shareholders signed the Framework Agreement on Equity Investment and Supplemental Agreement to Framework Agreement on Equity Investment, stipulating that the plaintiff, as a leading investor in "A" round financing, invests in Y company established by the four defendants as founding shareholders, with the agreed repurchase conditions. After the plaintiff made the investment to Y Company, Y Company repeatedly refused to disclose the operation and finance information to the plaintiff. Finding that Y Company hit operating difficulties and substantially gave up the goal of company listing, the plaintiff filed a suit, requiring the founding shareholders to fulfill the repurchase obligation.
Engaged by the plaintiff H Fund, DeHeng immediately sorted out the bone of contention in this case – whether the repurchase terms agreed in the investment agreement were triggered. The DeHeng team noted that despite the operating difficulties of Y Company, the investment agreement was not specific about the standard of the repurchase conditions. Different from common investment agreements which stipulate specific net profit indicators and clear performance requirements, the repurchase conditions stipulated in the investment agreement in this case were the abstract standard of "gross violation of this agreement". Therefore, in formulating the strategy for this case, DeHeng team linked the abstract repurchase conditions of "gross violation of this agreement" to the core obligations of the founding shareholders in the investment agreement, and classified the principal obligations of the founding shareholders after closing in the investment agreement as obligations of disclosure of operating and financial information, transfer of intangible assets, promised fulfillment of performance, and the convening of shareholders' meetings and board meetings, etc. At the same time, in order to prove that the repurchase conditions were triggered, DeHeng team filed the right-to-know lawsuit at Shanghai Yangpu District People's Court on behalf of H Fund. That Y Company was unable to provide accounting books and financial statements as required by the judgment of the right-to-know lawsuit indirectly proves the fact that it grossly violated its information disclosure obligation to H Fund.
Based on the original intention of the contract, the performance defaults, and the relevant evidence chain, DeHeng demonstrated in detail in the attorney opinion that the repurchase conditions were actually triggered in this case. In the judgment of this award-winning case, the court conducted detailed citations and analysis of the content of the investment agreement between H Fund and the founding shareholders as well as the performance of the investment agreement in 11 pages. A comprehensive judgment of the fulfillment of each core obligation by the founding shareholders showed that the founding shareholders grossly violated the investment agreement and did not take remedial action in a timely manner, triggering the repurchase conditions. By connecting the chain of evidence and the core obligations of the founding shareholders, this case will surely become a model case for identifying non-specific repurchase conditions in future valuation adjustment mechanism dispute lawsuits.
The content of this article is intended to provide a general guide to the subject matter. Specialist advice should be sought about your specific circumstances.