The Derivative Action and Good Corporate Governance in China

Good corporate governance is crucial for the long- term success of Chinese economy. To achieve good corporate governance, legal liability is essential, because only legal liability can deter serious managerial misbehavior. Legal liability comes from both public and private enforcement of law, but public enforcement of law has various limitations. In private enforcement of law, the derivative action is preferable to the securities class action, not just because the later is unrealistic in China. For the derivative action to become a reality, appropriate legal rules should be in place. The traditional common law is problematic. The strategy adopted under the Chinese derivative action setting a minimum shareholding requirement as a condition for bringing a suit entails that derivative actions would not be vigorously pursued. The admission of derivative actions should be decided case by case according to the interests of the company and the responsibility of assessing the admissibility of cases should be assigned to the court rather than to the company. The assessment should be based on the probability of success and the potential net recoveries from the case.