A repurchase commitment is a transaction arrangement to ensure an investor’s safe exit, whereby a fund raiser transfers a specific asset or right to the investor and undertakes to buy back the asset or right from the investor when a pre-agreed event arises. In commercial deals, repurchase commitments are widely used as a type of atypical credit enhancement measure. Based on their different forms, repurchase commitments may be divided into unilateral commitments and repurchase agreements. Two main viewpoints have been expressed in judicial decisions as to the legal nature of repurchase commitments, i.e., repurchase commitments are independent transactions, or they are guarantees.
Judicial precedents have shown that the mainstream judicial view is that a repurchase commitment is independent. Whether it is a unilateral repurchase commitment or a repurchase agreement executed bilaterally, repurchase itself is an independent and transactional action that is different from guarantee. A repurchase commitment is independent because a repurchase transaction is independent of the underlying legal relationship and is not affected by the establishment, elimination and modification of the underlying creditor-debtor relationship. A repurchase commitment is also transactional in the sense that the commitment represents the transaction arrangements made between the parties on their rights and obligations, whereby the committed party takes over the investment risks of an investor, rather than paying off debts for the debtor.
In the case of contractual disputes between the Shenyang branch of Bank of Dalian Co Ltd and the Taiyuan branch of China Minsheng Bank Co Ltd, the High People’s Court of Liaoning province held that the repurchase commitment in the case reflected the transaction arrangements made by commercial transaction parties with regard to their own rights and obligations, and that the parties did not intend to use the repurchase commitment to pay off debts on behalf of the debtor. Therefore, the nature of the repurchase commitment in this case is not a guarantee contract, but a conditional asset transfer contract.
Under certain circumstances, it is possible that a repurchase commitment may be identified as a guarantee considering the background, conditions and purposes for the making of the commitment, and the details of the commitment. Where a repurchase commitment is, in essence, subordinate to the underlying creditor-debtor relationship, and the committed party has also clearly indicated that the commitment is to ensure the realization of secured claims, the repurchase commitment may be determined by the court as a guarantee.
In the case of contractual disputes between the Hunan Provincial Expressway Administration and the Shenzhen branch of China Merchants Bank, the Supreme People’s Court held that the substantive purpose of the letter of undertaking issued by the Hunan Provincial Expressway Administration to the Shenzhen branch of China Merchants Bank was to ensure that Yilian Company secured the loan, and that the letter clearly indicated that when Yilian failed to perform its obligations as agreed, the Hunan Provincial Expressway Administration would ensure the realization of bank claims by repurchasing the right to operate the expressway. As such, the Supreme People’s Court found that the repurchase commitment made by the Hunan Provincial Expressway Administration was a guarantee.
It can be seen from this case that when judging whether a repurchase commitment is an independent transaction or a guarantee, a court will consider, among other factors, whether the repurchase commitment in essence expresses the intention of providing guarantee, and the independent and transactional nature of the repurchase commitment.
First, a clear expression of intention is the most important factor for determining whether a repurchase commitment constitutes a guarantee. For a repurchase commitment to be determined as a guarantee, the commitment itself should express the intention to ensure the realization of secured claims. In the case between the Hunan Provincial Expressway Administration and the China Merchants Bank, the letter of undertaking issued by the former clearly expressed the intention to ensure the realization of secured claims. On the other hand, in the case of contractual disputes between Changchun Rural Commercial Bank, and Bank of Hengshui and its Zhanqian branch, the Supreme People’s Court dismissed that the repurchase arrangement was a guarantee because Zhanqian branch made no expression to guarantee a certain debt.
Second, one needs to determine whether a repurchase arrangement is independent and transactional. The purpose of having guarantee measures in place is to guarantee the realization of claims, which dictates that a guarantee is subordinate to the underlying legal relationship. In determining whether a repurchase commitment is independent in nature, it needs to be made clear whether the repurchase arrangement is subordinate to, and will be affected by, the validity of the underlying legal relationship. At the same time, based on the principle of “substance over form”, the transactional nature of a repurchase arrangement should be determined against its background to explore the intention of the parties in making the arrangement, i.e., whether the parties intend to transfer assets or rights, or pay off debts.
In summary, the authors are of the opinion that when judging the legal nature of a repurchase commitment, the court will usually comprehensively consider the background, substance and contents of the commitment, and the independent and transactional nature of the commitment.
If a repurchase arrangement is identified as a guarantee, the validity of the repurchase will not only hinge on the effectiveness of the main contract, but will also be subject to comprehensive review under the General Principles of the Civil Law, the Contract Law, the Guarantee Law and relevant judicial interpretations. In other words, once a repurchase arrangement is identified as a guarantee, it will be subject to more tests and uncertainty, and may even be found invalid for violation of mandatory provisions.
Therefore, it is advised that, for committed parties under specific circumstances, to preempt their repurchase arrangements from being identified as guarantees, expressions associated with the realization of secured claims should be avoided in designing repurchase agreements or clauses, and that the independent and transactional nature of such arrangements themselves should be clearly stated in the clauses, so as to lower the possibility of disputes arising.
Nevertheless, given the diversity of financing options, the complexity of transaction arrangements and the inconsistency in the benchmarks adopted in judicial decisions, the tussle is bound to continue for some time for the characterization of the nature of repurchase commitments.
Yao Xiaomi is a partner and Li Yupeng is an associate at Lantai Partners
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