The Company Law of the People’s Republic of China (effective July 1, 2024) (hereinafter referred to as the “New Company Law” or “Company Law”) has incorporated mature experience to make significant revisions to the rules concerning directors, supervisors, and senior executives (collectively referred to as “DSOs”). This series of articles will systematically review the legal application issues of DSOs in light of the relevant provisions of the New Company Law and judicial practice, for practical reference. This article focuses on the name and reality, powers and responsibilities of supervisors.

I. The Name and Reality of Supervisors

(I) Origin of Supervisors

In China’s corporate governance structure, the shareholders’ meeting, board of directors, and board of supervisors constitute the three major organs of corporate governance. In the legal framework, the shareholders’ meeting is responsible for making decisions on major company matters, the board of directors is responsible for business management, and the board of supervisors serves as the company’s supervisory organ. This structure originates from the fact that a company, as a legal fiction, cannot freely express its intentions or perform acts like a natural person, requiring the use of corporate organs to achieve this. When a company is created by a single shareholder, that shareholder typically manages and takes responsibility for the company themselves. To avoid confusion between the shareholder and the company, appointing a director is the minimum requirement. When a shareholder participates in management, they do so as a director of the company rather than in their shareholder capacity and are subject to the Company Law’s rules on directors. In such cases, it is impossible for the shareholder to hire someone to supervise themselves, making such an arrangement unnecessary. If a company consists of two shareholders, there may be scenarios where both participate in management or only one participates. Even if both participate, one will eventually dominate, leading to the separation of ownership and management, where shareholders’ control over the enterprise diminishes or is lost. At this point, shareholders must implement management through a “principal-agent” mechanism. In other words, shareholders who have diminished or lost control over management act as “principals,” entrusting management to “agents” or “trustees,” making it necessary to appoint supervisors for oversight. Furthermore, in companies with more shareholders and larger scale, the role of supervisors becomes increasingly important, and the supervisor system emerges. Therefore, formally speaking, the supervisor system is an imported concept—a governance model widely adopted in corporate governance practices worldwide, reflecting the political idea of separation of powers and checks and balances in corporate governance. However, the supervisor system also has its own endogenous impetus for creation.

(II) Updates to Supervisor Rules and Operational Reality

1. Updates to Supervisor Rules

The New Company Law responds to the endogenous needs of the supervisor system by adding that limited companies of smaller scale or with fewer shareholders may dispense with supervisors upon unanimous consent of all shareholders. This means that companies meeting these conditions, where no separation of ownership and management has occurred, no longer need to accept supervisor rules involuntarily. For shareholders who have experienced separation of management power, dispensing with supervisors requires their consent—whether to consent and how to supervise the management after consenting requires careful consideration.

The audit committee, as an alternative to the supervisor system, is established for the first time in the New Company Law. The New Company Law provides that both limited companies and joint-stock companies may establish an audit committee. The issue is that audit committee members must first be directors, with at least three members, and a majority must not hold any position other than director in the company. This objectively requires the board of directors to be sufficiently large—companies that have not reached a certain scale genuinely cannot establish an audit committee.

Article 137 of the New Company Law stipulates: “If a listed company sets up an audit committee within the board of directors, the board of directors must obtain approval from a majority of all audit committee members before making resolutions on the following matters.” Combined with Article 12 of the State Council’s Regulations on the Implementation of the Registered Capital Registration Management System for the Company Law of the People’s Republic of China and the CSRC’s Notice on Transitional Arrangements for the Implementation of Supporting System Rules for the New Company Law issued on December 27, 2024: “Listed companies shall, before January 1, 2026, stipulate in their articles of association, in accordance with the Company Law, the Implementation Regulations, and the CSRC’s supporting system rules, that an audit committee shall be established within the board of directors to exercise the functions of the board of supervisors as provided in the Company Law, and no board of supervisors or supervisors shall be established. Before listed companies adjust their internal supervisory structure, the board of supervisors or supervisors shall continue to comply with the CSRC’s original system rules regarding the board of supervisors or supervisors.” It has become an inevitable institutional choice for listed companies to establish audit committees to replace the board of supervisors.

Article 176 of the New Company Law stipulates: If a wholly state-owned company establishes an audit committee composed of directors within the board of directors to exercise the functions of the board of supervisors as provided in this Law, no board of supervisors or supervisors shall be established. Combined with Article 44 of the Articles of Association Guidelines for Central Enterprises (State-Owned Capital Holding Companies), it has become a trend for wholly state-owned companies and state-owned capital holding companies to choose audit committees to replace the board of supervisors.

2. The Practical Logic of Supervisor Rule Operation

In summary, the New Company Law provides more institutional options for corporate supervision. In reality, many companies beyond listed companies and state-owned companies still have genuine needs for the supervisor system. But returning to the essential question: for whom do supervisors supervise whom? The answer to this question directly relates to the application of supervisor rules and the direction and basis for improving the supervisor system. Traditionally, in the corporate governance structure, the allocation of powers and responsibilities among the shareholders’ meeting, board of directors, managers, and board of supervisors—where separation of powers is a means and checks and balances are the goal—is intended to curb conflicts of interest among relevant corporate stakeholders and address the economic “principal-agent” problem. This includes agency problems between controlling shareholders and minority shareholders, between shareholders and managers, and between owners and creditors, aiming to maximize the economic interests of all shareholders and the company itself. When equity structure is concentrated under controlling shareholder control, the main contradiction in corporate governance exists between major and minority shareholders. When equity structure is dispersed, the main contradiction exists between shareholders and management. The core problem the supervisor system aims to solve is the agency problem between owners and managers. Based on this, supervisors serve the interests of all shareholders and the company, overseeing directors and senior executives who execute company business.

II. Powers and Responsibilities of Supervisors

(I) Supervisors’ Powers and Current Exercise Status

Article 78 of the New Company Law stipulates that the functions of the board of supervisors include: inspecting company finances; supervising the performance of duties by directors and senior executives; proposing the removal of directors and senior executives (who violate laws, administrative regulations, the company’s articles of association, or shareholders’ meeting resolutions); demanding correction of actions by directors and senior executives (when actions harm company interests); proposing to convene interim shareholders’ meeting and convening and presiding over such meetings under qualifying conditions; submitting proposals to the shareholders’ meeting; and responding to qualifying shareholders’ requests to initiate litigation against directors and senior executives.

Inspecting company finances requires the cooperation of directors and senior executives; supervising and demanding correction of directors’ and senior executives’ actions presupposes knowledge of their specific actions; proposing interim shareholders’ meetings, submitting proposals, and suggesting removal of directors and senior executives are only effective with the support of major shareholders. If these prerequisites for exercising powers are absent, the “process supervision” that corporate autonomy expects from supervisors becomes difficult to achieve, and the supervisor system’s complete reliance on post-event litigation remedies signals a failure of the supervision system.

Returning to the essential question of whom supervisors supervise, the endogenous impetus for creating supervisors is the separation of ownership and management. However, in practice, not all owners are separated from management. When some shareholders obtain management rights by becoming directors or senior executives, what needs to be addressed is how shareholders who have not obtained management rights can supervise those shareholders who have become directors or senior executives. The answer is obvious: if the supervisor is not appointed by or recommended by shareholders who have lost management rights, but rather by shareholders who have become directors or senior executives or their designees, then the supervisor contradicts its endogenous purpose and loses its value basis. This is because shareholders who have become directors or senior executives have not experienced the separation of ownership and management, while those who have experienced separation cannot achieve supervision. This mismatch would render the supervisor in name only. Therefore, drawing from South Korean legislative experience, restricting major shareholders’ right to appoint supervisors, or even directly prohibiting shareholders who have entered the management layer from selecting supervisors, is the first step toward making the supervisor system function substantively and a significant move to address insufficient motivation, reluctance, and unwillingness to supervise.

As for enabling supervisors to exercise their powers and achieve “ability to supervise,” the priority is ensuring supervisors’ right to access company information, identifying areas where directors and senior executives are prone to harming company interests—such as business-level issues like horizontal competition, self-dealing, related-party transactions, and misappropriation of corporate opportunities; financial issues like fund misappropriation, unauthorized borrowing, and illegal guarantees; and asset issues like property embezzlement and misappropriation of accounts and certificates—for focused supervision. Comprehensive supervision of company finances should be implemented: on one hand, transforming directors’ and senior executives’ obligation to cooperate into an obligation to proactively act, with corresponding responsibilities, such as regularly submitting annual financial reports, interim reports, and ad hoc reports to supervisors; on the other hand, categorizing the content of supervision, specifying mandatory and optional actions, making the exercise of supervisory powers operational, and thereby clarifying and specifying supervisory responsibilities.

(II) Supervisors’ Responsibilities

The supervisory powers stipulated in Article 78 of the New Company Law correspond to the duties supervisors should perform. Because the provisions on supervisors’ powers are relatively general, and in practice, supervisors’ supervisory capacity varies across different companies, the duties of supervisors are also correspondingly general. Additionally, the law does not further clarify whether supervisors should bear responsibility for failing to exercise their powers through inaction, and what kind of responsibility; or whether supervisors should bear responsibility for causing damage through illegal or improper exercise of powers, and what kind of responsibility. The rules concerning supervisors’ responsibilities in the New Company Law typically appear together with those for directors and senior executives. However, in reality, the responsibilities of supervisors differ significantly from those of directors and senior executives. The general expression “responsibilities of directors, supervisors, and senior executives” makes it difficult to specifically extract and examine supervisors’ responsibilities in their entirety. This makes supervisors’ responsibilities elusive, requiring further assessment based on the specific company’s operations, in addition to the rules on supervisors’ responsibilities in the Company Law.

Under the existing rules of the New Company Law, supervisors’ responsibilities include asset custody responsibility, loyalty responsibility, and legal and regulatory compliance responsibility. Specifically, Articles 53, 163, 211, and 226 of the New Company Law provide that if shareholders withdraw capital contributions, illegally reduce capital, the company illegally distributes profits, or illegal financial assistance causes losses to the company, responsible supervisors shall bear compensation liability. Articles 22, 180 to 184, and 186 of the New Company Law provide that if a supervisor violates the duty of loyalty, engages in illegal related-party transactions, self-dealing, misappropriation of corporate opportunities, or horizontal competition, the income obtained shall belong to the company. Articles 179, 188, and 189 of the New Company Law provide that if a supervisor violates laws, administrative regulations, or the company’s articles of association in performing duties and causes losses to the company, they shall bear compensation liability, and specify the procedures for pursuing such responsibility. When assessing their own supervisory responsibilities, company supervisors should consider the actual situation of the company they serve and check against the aforementioned rules of the New Company Law to avoid bearing supervisory responsibility.

III. Outlook

The effective functioning of supervisors depends not only on further improvement of the supervisor system in the Company Law but also on enhancing corporate autonomy capabilities. Particularly for minority shareholders, understanding how to gain a favorable position in corporate governance and how to leverage the positive role of appointed supervisors requires sufficient understanding, exchange, and learning. Due to space limitations, this article will not elaborate further and looks forward to continued private交流和 discussion.