Supreme Court: When the establishment of a pledge is ineffective and not solely due to the pledgor, can the pledgee claim compensation from the pledgor?

Jianling Chengda

Source: Legal Trainee

　　Judgment Summary

　　The interpretation of the clause in the "Pledge Contract" stating, "If the pledge is not effectively established due to the pledgor..." should be understood as referring to the sole cause of the pledgor. In this case, the creditor knew or should have known that the equity in the "Pledge Contract" had been pledged in advance, and did not demand performance within a reasonable period. The failure to effectively establish the pledge was not solely caused by the pledgor. Therefore, the creditor's claim for the pledgor to bear joint and several liability, guarantee, or damages lacks factual and legal basis.

　　Case Index

　　China Orient Asset Management Co., Ltd. Hunan Branch, Hunan Yahua Dairy Co., Ltd. Financial Loan Contract Dispute Second Instance Case [(2020) Highest People's Court Civil Final No. 579]

　　Point of Dispute

　　When the establishment of a pledge is ineffective and not solely due to the pledgor, can the pledgee claim compensation from the pledgor?

　　Judgment

　　The Supreme Court held that: In this case, the Changsha Huaxing Branch of Construction Bank and Yahua Dairy Company signed a "Pledge Contract" on June 15, 2017, agreeing that Yahua Dairy Company would pledge its 36.4% equity in Hunan New Hope Nanshan Liquid Dairy Co., Ltd. as collateral for Yahua Holding Company's loan on June 29, 2015. Now, Orient Asset Management Hunan Company, based on the provisions of Article 9, Paragraph 1, Item 3 of the "Pledge Contract," requires Yahua Dairy Company to bear joint and several liability for repayment, and its appeal request is difficult to establish. The main reasons are as follows:

　　First, the Changsha Huaxing Branch of Construction Bank knew or should have known about the prior pledge of the equity involved in the case. The "Pledge Contract" in this case was signed on June 15, 2017, while the equity involved in the case had already been pledged to the Chengbu Branch of Industrial Bank on June 26, 2015, and the equity pledge registration was completed. Yahua Dairy Company claims to have informed the Changsha Huaxing Branch of Construction Bank of the situation of the equity pledge, but Orient Asset Management Hunan Company does not agree and claims to be unaware of the prior pledge registration of the equity. This Court believes that, as a professional financial institution, the Changsha Huaxing Branch of Construction Bank should have reviewed the registration status of the equity to be pledged and its prior rights and burdens when signing the "Pledge Contract" involved in the case, or conducted careful inquiries and verifications with the Administration for Industry and Commerce. This is a reasonable examination obligation that a rational commercial entity should fulfill, and it also conforms to the usual standards of commercial transactions. Therefore, considering factors such as the prior pledge of equity being registered and publicly announced, the due diligence obligations of financial institutions when signing equity pledge contracts, and the due diligence investigation capabilities of the Changsha Huaxing Branch of Construction Bank as a professional bank, this case determines that the Changsha Huaxing Branch of Construction Bank knew or should have known about the prior pledge of Yahua Dairy Company's equity involved in the case when signing the "Pledge Contract" involved in the case. This finding is supported by evidence and is reasonable. The appellant's claim that the first-instance judgment's findings of fact are erroneous lacks sufficient reasoning, and this Court does not accept it.

　　Second, the Changsha Huaxing Branch of Construction Bank failed to fulfill its obligation to register the equity pledge within a reasonable period. Article 3, Paragraph 1 of the "Pledge Contract" stipulates that if the pledge registration needs to be handled according to law, both parties should complete the pledge registration procedures with the relevant registration department within five working days after the signing of this contract. This shows that the handling of the equity pledge registration procedures is a joint contractual obligation of the Changsha Huaxing Branch of Construction Bank and Yahua Dairy Company, not a unilateral obligation of Yahua Dairy Company. However, upon investigation, it has been found that after the signing of the "Pledge Contract" and before the lawsuit in this case, neither party went to the registration department to complete the equity pledge registration procedures. The Changsha Huaxing Branch of Construction Bank also did not provide any evidence to prove that it demanded the fulfillment of the equity pledge registration procedures within the aforementioned period or a reasonable period. Therefore, the Changsha Huaxing Branch of Construction Bank's argument that Yahua Dairy Company has the obligation to complete the pledge registration, and that the failure to complete the pledge registration constitutes a clear breach of contract by Yahua Dairy Company and should bear the responsibility, is inconsistent with the established facts and lacks contractual basis, and cannot be established.

　　Finally, Orient Asset Management Hunan Company's request for Yahua Dairy Company to bear joint and several liability for repayment is not in accordance with the agreement in the "Pledge Contract." Article 178, Paragraph 3 of the General Principles of the Civil Law of the People's Republic of China stipulates: "Joint and several liability shall be stipulated by law or agreed upon by the parties." Article 9, Paragraph 1, Item 3 of the "Pledge Contract" stipulates: "If the pledge is not effectively established, or the value of the pledged rights is reduced, or the Changsha Huaxing Branch of Construction Bank fails to realize the pledge in a timely and sufficient manner due to the reasons of Yahua Dairy Company, and Yahua Dairy Company and the debtor are not the same person, the Changsha Huaxing Branch of Construction Bank has the right to request Yahua Dairy Company to bear joint and several liability with the debtor for the guaranteed debt within the scope of the guarantee stipulated in this contract." During the second-instance trial, Orient Asset Management Hunan Company explicitly stated that it filed the appeal based on the provisions of Article 9, Paragraph 1, Item 3 of the "Pledge Contract." However, in terms of contract interpretation, the precondition for applying this clause is "due to the reasons of Yahua Dairy Company..." As mentioned earlier, the Changsha Huaxing Branch of Construction Bank knew or should have known that the equity in the "Pledge Contract" had already been pledged in advance, and did not demand performance within a reasonable period. The failure to effectively establish the pledge was not solely caused by Yahua Dairy Company. Therefore, the first-instance judgment's finding that the Changsha Huaxing Branch of Construction Bank failed to provide effective evidence to prove that the failure to effectively establish the pledge was due to the reasons of Yahua Dairy Company, and did not support Orient Asset Management Hunan Company's claim, is not obviously inappropriate. Although Orient Asset Management Hunan Company filed an appeal, it failed to provide effective evidence to support it. Therefore, this Court cannot support its argument that, based on Article 9, Paragraph 1, Item 3 of the "Pledge Contract," Yahua Dairy Company should bear joint and several liability for repayment.

　　In addition, in this case, the equity involved was pledged to another party in advance, and the "Pledge Contract" was signed later. The Changsha Huaxing Branch of Construction Bank knew or should have known that the equity involved could not be pledged in accordance with the contract, but still signed the "Pledge Contract" involved in the case. Yahua Dairy Company's defense that the Changsha Huaxing Branch of Construction Bank aimed to pursue the benefit of sequential pledge, and had anticipated the result that the pledge registration could not be completed in accordance with the contract and the "Pledge Contract" could not be normally performed, is reasonable to a certain extent. In this situation, Orient Asset Management Hunan Company has neither claimed the fulfillment of the equity pledge registration, nor negotiated a change with the pledgor regarding the current status of the equity pledge involved in the case, but directly filed this lawsuit. After its claim that Yahua Dairy Company should bear joint and several liability for repayment was not supported by the first-instance court, it requested in the second-instance stage that, in accordance with the provisions of Articles 7 and 86 of the Interpretation of the Supreme People's Court on the Application of the Guarantee Law of the People's Republic of China and Article 60 of the Minutes of the National Conference on Civil and Commercial Trial Work, Yahua Dairy Company bear joint and several liability for guarantee or damages, which lacks factual and legal basis and violates the principle of good faith. This Court does not support this claim.