I’ve covered GigaMedia previously, pointing out, among other things, that the VIE structure seemed pretty safe as it wasn’t being contested in courts. Well that’s changed now, so a lot of people should start re-examining their risk exposure in this area.
But first, let’s get up to speed with the general progress of the overall situation.
The lawsuit has taken some very interesting turns lately and looks likely to get pretty nasty. Further, the fact that the lawsuits are currently being pursued not only in the PRC, but also in Singapore, Hong Kong, BVI, and California certainly doesn’t make this any easier to follow.
GigaMedia presents the situation in their latest 20-F, although they don’t add much new information, here’s the basics of the case developments in the PRC:
T2 Entertainment, as represented by the newly appointed legal representative Yan Guoming, filed lawsuit against Wang Ji and related persons in the courts of the PRC in August 2010, seeking to recover, among other things, the tangible property of T2 Entertainment, including the company seal, financial chops and business certificate. In August 2010, Wang Ji also filed two lawsuits against T2 Entertainment and Lu Ning, one of shareholders of T2 Entertainment, to invalidate two shareholder resolutions of T2 Entertainment: (i) the shareholders’ resolution dated in February 2010 approving a transfer of the shares of T2 Entertainment held by Wang Ji to a third party (“Wang Ji’s 1st Suit”); and (ii) the August 7 Resolution (“Wang Ji’s 2nd Suit”). Wang Ji’s 1st Suit is temporarily suspended due to the absence of the defendant Lu Ning in the first formal court hearing and pending the court’s decision as to T2 Entertainment’s standing, as represented by Yan Guoming, to join the suit. Wang Ji’s 2nd Suit was withdrawn by Wang Ji in April 2011.
They also give us some insight into how Wangji is proceeding:
Wang Ji (who owned 20 percent of the equity interests of T2 Entertainment) and Lu Ning (who owned 80 percent of the equity interests of T2 Entertainment) appointed their respective representatives to attend such shareholders’ meeting and the August 7 Resolution was duly passed in accordance with the articles of association of T2 Entertainment. In late March, 2011, we were informed by the court that Wang Ji had submitted supplementary documents to the court. The documents included a purported shareholders’ resolution of T2 Entertainment dated February 14, 2011 (“February 14 Resolution”) which stated that the August 7 Resolution was invalid, that Yan Guoming has no authority or right to represent T2 Entertainment, and that Wang Ji is the executive director, legal representative and manager of T2 Entertainment and his acts representing T2 Entertainment are valid. The February 14 Resolution claimed that Lu Ning and Wang Ji attended the shareholder’s meeting in person and passed the February 14 Resolution by mutual agreement.
However, if you’re looking to follow just one of these suits you should make it the california, it might not sound too exciting from what GigaMedia tell us:
On November 10, 2010, the Company filed a lawsuit in the United States District Court for the Central District of California (the “California Action”) asserting a number of claims against the other shareholder of T2 Entertainment and our former head of operations in the PRC, including, among others, tortious interference with contract, tortious interference with prospective economic advantage, fraud, aiding and abetting conversion and breach of oral contract. In these matters, the Company is seeking to recover, among other things, monetary damages. Subsequently, Wang Ji filed a motion to intervene in the California Action on April 26, 2011. The court set Wang Ji’s motion to intervene for hearing on August 22, 2011. On May 24, 2011, Wang Ji filed an ex parte application to shorten the time with respect to the August 22, 2011 hearing date for his motion to intervene. We opposed the ex parte application on May 26, 2011. On May 27, 2011, the court issued a ruling denying Wang Ji’s ex parte application to shorten time. Hearing on the intervenors’ motion will be held on August 22, 2011. On April 18, 2011, Wang Ji also filed a complaint against the Company and T2CN in the United States District Court for the Central District of California. Wang Ji’s complaint was subsequently stricken by the court for failure to follow court rules, though, according to court records, that complaint has now been properly refiled.
But according to Dacheng Law Offices they’ll be coming up against claims that their VIE structure breaks Chinese law, and further, that they knew that it was in violation of the law but presented it to their shareholders as something else.
The complaint seeks $40 million in damages and a court declaration affirming that Gigamedia’s business structure, operating in China as a Variable Interest Entity (VIE), and its attempted direct and indirect involvement in T2-E’s online game activities, is invalid and illegal under the laws of People’s Republic of China (PRC).
In this regard, the complaint also points out that, in its Annual Report to the SEC for the year ending Dec. 31, 2009, GigaMedia reported that the promulgation by Chinese government authorities of Notice 13 on Sept. 28, 2008, if enforced, would render ownership the [VIE] structure in the PRC invalid and illegal.
The complaint alleges the VIE structure was known to be unenforceable when GigaMedia made these representations and that they were misleading.
Just for reference the part where they admit that the structure is illegal is the following statement relating to GAPP:
On September 28, 2009, the PRC General Administration of Press and Publication (“GAPP”), National Copyright Administration, and National Office of Combating Pornography and Illegal Publications jointly published a notice, which, among others, (i) provides that GAPP is responsible for pre-examination and approval of Internet games as authorized by the central government and State Council, and that the provision of Internet games either online or on a downloaded basis constitutes Internet game publishing, which is subject to pre-examination and approval by GAPP; and (ii) prohibits foreign investors from participating in Internet game operating businesses via wholly owned, equity joint venture or cooperative joint venture investments in the PRC, and from controlling and participating in such businesses directly or indirectly through contractual or technical support arrangements. If applied literally and uniformly, such notice would render our ownership structure in the PRC invalid and illegal. To date, however, there are substantial uncertainties regarding the interpretation and application of such notice.
All in all this looks like THE case to follow if you’re working with VIEs in China, especially those affected by the GAPP guidelines. Presumably if this case determines that GigaMedia were misleading shareholders then so are all the other companies whose VIE structures fall under GAPP scrutiny.
Maybe GigaMedia should call some of the other Chinese game companies listed overseas to draft in some help, because I doubt many of them would like to see this one go the wrong way!