Zombie companies are a longstanding issue in China’s market economy, consuming substantial market entity name resources and wasting limited regulatory resources. But the new Company Law, effective since mid-2024, introduces a significant reform by granting company registration authorities the power to forcibly deregister them.

The concept

Paragraph 1 of article 241 of the new Company Law stipulates that the company registration authority may issue a public notice via the National Enterprise Credit Information Publicity System if a company has had its business licence revoked, been ordered to close down, or been dissolved for more than three years without applying for deregistration.

The notice period must be no less than 60 days. If no objections are raised within the notice period, the authority may proceed with deregistration. In this context, “zombie companies” specifically refers to companies that meet these criteria, and the forced deregistration system allows registration authorities to proactively deregister such entities through statutory procedures.

Litigation parties

According to article 68 of the Civil Code and article 31 of the Market Entity Registration Regulation, a company ceases to exist as a legal entity on deregistration, losing its civil rights and capacity for civil conduct.

In civil litigation where the company is a party, forced deregistration results in the loss of its legal standing as a litigant. Article 64 of the Supreme People’s Court’s 2022 Amended Interpretation of the Civil Procedure Law stipulates that if a company is deregistered without proper liquidation, its shareholders, founders or contributors shall be the parties to the case. Consequently, the litigation parties change to the company’s shareholders or founders in such instances.

Issues arising

While the regulations suggest that litigation can proceed smoothly by changing the parties involved after a company is forcibly deregistered, the reality is far more complex. Many zombie companies are untraceable, and their corporate shareholders tend to be “zombies” as well.

To safeguard litigants’ rights, all shareholders and founders of the deregistered company should be held as parties. However, the difficulties of service of process become particularly acute at this point, complicating matters further.

If the corporate shareholders of the deregistered company are also forcibly deregistered, identifying the appropriate parties becomes even more intricate. In practice, the process of changing parties alone can result in prolonged suspension of litigation, leaving cases unresolved.

In one case handled by the author, a forcibly deregistered company had more than 100 founders, with nearly all its corporate shareholders classified as zombies and at risk of deregistration themselves. This created significant challenges in advancing the subsequent litigation process.

As an institutional innovation, article 241 of the new Company Law is a direct intervention of administrative authority in economic and social affairs. This provision, as an administrative regulation, aims to optimise market order and the business environment, focusing on maintaining public order.

In contrast, the Civil Procedure Law prioritises the protection of civil rights, emphasising private rights. However, zombie companies subject to forced deregistration for violating liquidation and deregistration procedures do not necessarily lose all civil rights and capacity for civil conduct.

Their legitimate claims remain protected, and they may still be able to bear civil liabilities. The exercise of forced deregistration powers by company registration authorities during civil litigation constitutes administrative intervention in judicial proceedings.

To some extent, this reduces the efficiency of litigation, exacerbates the current litigation conflict, and creates obstacles to the realisation and fulfilment of civil rights and obligations.

Suggestions

The new Company Law grants significant administrative powers to company registration authorities to address zombie companies. Paragraph 1 of article 241 authorises forced deregistration, while paragraph 2 of article 233 empowers authorities to apply to the court for compulsory liquidation. By combining these powers, authorities can systematically address the challenge of zombie companies involved in litigation.

To ensure efficiency and minimise interference with civil litigation, it is recommended that administrative regulations explicitly exclude companies involved in litigation from forced deregistration.

This approach would allow authorities to use forced deregistration to handle non-litigated zombie companies and apply for compulsory liquidation to address those involved in litigation, ensuring a parallel and orderly process.

At the same time, companies must remain aware of the current legal and regulatory environment. In litigation, it is crucial to assess the opposing party’s legal status. If the opposing party falls within the scope of an entity subject to forced deregistration, companies should prepare in advance by evaluating the feasibility of substituting the litigation party after deregistration.

If substitution is deemed unfeasible, companies are advised to proactively contact the registration authority overseeing the opposing party. They should identify the platform where deregistration notices are published, monitor it closely, and promptly inform the authority of ongoing litigation during the notice period, requesting suspension of the deregistration process.

In practice, registration authorities have yet to standardise publication of announcements on the National Enterprise Credit Information Publicity System, instead using various platforms. To ensure smooth legal proceedings, a practical approach is to monitor relevant platforms in advance to avoid oversight.