Cross Border Insolvency

By its very nature much of the insolvency and corporate recovery work undertaken in Hong Kong is cross border in nature. However, in recent years this topic has come more and more to the fore, because of the increasingly international nature of business, as a result of the number of legal decisions that it has generated in Hong Kong and other jurisdictions and because of the practical issues which it raises when dealing with the affairs of companies that operate in a number of jurisdictions.

The page seeks to provide a brief overview of some of the legal and practical issues associated with cross border insolvency assignments in Hong Kong with particular reference to some if the key cases in recent years.

• Yung Kee (2012 and 2014)
• Re Gottinghen Trading Limited (2012)
• China Medical Technologies (2014)
• The Joint Official Liquidators of A Company v B and Another
• Singularis Holdings Ltd v PricewaterhouseCoopers &
• Yung Kee – Again – Court of Final Appeal 2015
• The Madison Pacific case
• Centaur
• L -v- G

The starting point is trying to define what constitutes “cross border”. The chances are that if you asked a dozen insolvency practitioners in Hong Kong for their definition, you would be likely to get a dozen (slightly) different definitions. Many would have the same or similar constituents, but each would be a variation on a common theme. We’re not going to try to define what constitutes “cross-border”, rather we’re going to look at some of the key concepts and recent Hong Kong legal decisions surrounding the subject.

The two key concepts are Universalism and Territorialism. What do these mean. Well, the best definitions we have come across are as follows:

Universalism

The administration of a debtor’s winding-up or bankruptcy should be conducted by or subject to the supervision of one court on a worldwide basis, with the assistance from the courts of other jurisdictions

Territorialism

Administration of a debtor’s winding up or bankruptcy should be subject to the supervision of each national court that has control over the debtor’s assets, applying local law to the administration and their distribution.

Universalism -v- Territorialism

Given the increasingly international nature of business there has, in recent years in particular, been a groundswell towards adopting a Universalism approach. This has been encouraged by the increasing adoption of the UNCITRAL Model Law, although it’s fair to say that there are a number of significant geographical gaps, Hong Kong included, in its implementation. Indeed, it’s unfortunate that Hong Kong, one of the world centres for cross-border insolvency cases is unlikely to adopt the Model Law at any time in the forseeable future. In my opinion, forseeable future is a very, very, long way into the future.

Why is it such an issue in Hong Kong
 

It’s really quite simple! The PRC has been called “the maufacturing workshop of the world” and as a consequence is and for a long time will remain the place where enterepreneurs and investors want to ply their trade. However, the uncertainty of the “rule of law” in the PRC means that for the moment at least, investors want to have their investments in a jurisdiction which respects the rule of law. For this reason, low tax jurisdictions such as the Caymand Islands and the BVI have developed as the conduit for investments into the PRC. However, Hong Kong as the gateway to China and as the place from which many of these businesses are controlled and operated has and will continue to assume a pivotal role between the Caribbean jurisdictions and the PRC.

Jurisdiction

The most common factor in cross border issues, logically, is that of the involvement of jurisdictions other than Hong Kong. This tends to play out in different ways.

First, it’s not uncommon for a Hong Kong company to have operations and assets in PRC or other jurisdictions in Asia. These operations are often factories or other assets, wholly owned subsidiaries or joint ventures with partners in the other jurisdiction. This scenario raises a number of practical issues which are briefly addressed later.

The second scenario is where a company registered in another jurisdiction, i.e. the Cayman Islands, BVI, Bermuda etc, owns subsidiaries or assets in Hong Kong or another jurisdiction in Asia. The corporate structures which house such relationships can often be quite complex, not necessarily because they have been set up for any nefarious reason, rather that the ultimate investors may have differing financial needs, particularly tax related, in their countries of domicile.

The problems associated with dealing with the affairs of companies with the above characteristics can be divided into two different categories – practical and legal. Practical problems involve getting control of and safeguarding the assets in a jurisdiction other than Hong Kong. Legal problems tend to revolve around actually being appointed as an office holder in the first place in order that it is possible to start the work of finding, safeguarding and realising the assets.

A further complicating factor is that there is an increasing tendency for the appointment of an office holder to take place in cross border situations where there are allegations of fraud, or at the very least the misuse or disappearance of assets or possible malfeasance. In this type of case, there is every likelihood that there will be difficulties in obtaining cooperation from some or all of the parties involved.

The Legislation

Section 327 of the Companies (Winding-up and Miscellaneous Provisions) Ordinance gives the court in Hong Kong the power to wind up a foreign company, i.e. one that is not registered in Hong Kong, but which can be shown to have a connection with the territory. However the court will not exercise this power lightly and to achieve this it will be necessary to establish to the satisfaction of the court that:

• the company has to have a sufficient connection with Hong Kong;
• there is a reasonable possibility that the winding-up will benefit those applying for it; and
• the Court must be able to exercise jurisdiction over one or more persons interested in the distirbution of the Company’s assets.

These tests, which have become known as the “core requirements” were first formulated in this way in Real Estate Development Company in 1991.

They have been the subject of much discussion in the court in recent years and it’s reasonable to say that the situation remains fluid, with the court, as it should do, looking very closely at each case on its merits. In summary, it is clear that the court is not willing to exercise the “exorbitant” power of winding-up a foreign company in Hong Kong without there being good reason to do so and without there being a strong connection between the company and Hong Kong. The following cases are some of the key cases tthat have looked at the subject in the past couple of years.

Yung Kee (2012 and 2014)

This case was somewhat unusual insofar as it was a solvent company where, because of a dispute between the shareholders (yet another family dispute in Hong Kong!), one of the shareholders petitioned for the company to be wound up in Hong Kong as opposed to BVI where it was registered.

In the Court of First Instance the request to wind-up the company was denied because, in the opinion of the Court, the Company had insufficient connection with the Territory. The eminently sensible reasoning was that the ultimate holding company, which the petitioner was trying to wind-up, had no business operations in Hong Kong – the only business, that of the famous Yung Kee restaurant on Wellington Street in Central, was carried on by a subsidiary several rungs down the corporate ladder.

Moreover, when the matter came before the Court of Appeal, which again rejected the efforts to wind-up the company, the Court opined the following:

“The complex corporate structure of the group was as a result of professional advice to distance the ultimate ownership of Kam Senior from HK with a view to avoiding stamp duty. For this reason, Long Yau was interposed between the Company and the sub-subsidiaries operating or holding properties in HK. Having consciously distanced the ultimate holding company from HK, it would be difficult to adopt a contrary position that for the exercise of the winding-up jurisdiction, the Company should be regarded as having sufficient connection with HK.”

However, see below for the outcome of the CFA hearing.

Re Gottinghen Trading Limited (2012)

In this case, (similar to Yung Kee in that it was an attempt to wind-up on a just and equitable basis), the court also declined to make a winding-up order on the grounds that there was insufficient connection with Hong Kong, regardless of the fact that there was a substantial amount of money in the bank account of one of the two companies involved. The mere presence of money in a bank account did not satisfy the requirement to show a sufficient connection with Hong Kong. This case appears to have been the first time that the Court made reference to the “exorbitant power” to wind-up a company registered in another jurisdiction, that should only be used in exceptional circumstances.

China Medical Technologies (2014)

The key issue in this recent case appears to have been that the court was unwilling to wind-up the company in Hong Kong, (it was already in liquidation in Cayman Islands), because it seemed that the main reason for seeking the winding-up was to use the powerful examination powers under s.221 available to a Hong Kong liquidator, against certain people associated with the Company. The court was not persuaded that there was sufficient connection between the company and Hong Kong to justify winding it up here regardless of the benefit that might accrue to the creditors through the use of Hong Kong’s s.221 examination powers.

However, the Cayman liquidators came back for a second bite of the cherry and sought to establish the connection with Hong Kong by showing that a substantial fraud had been perpetrated agains the company and that persons and bank accounts in Hong Kong had been a central part of that fraud. In the changed circumstances, the court decided that the evidence of the fraud, (which had not been available at the previous hearing), was sufficient to establish the connection with Hong Kong and appointed liquidators here to pursue their investigations.

The Joint Official Liquidators of A Company v B and Another [2014] HKEC 1244

This case concerned a Cayman company where liquidators had been appointed. They wanted to avail themselves of Hong Kong’s s.221 powers to enable them to properly investigate the affairs of the company. In this case, the Cayman liquidators came armed with a “letter of request” from the Cayman court.

The Hong Kong court said that it would grant the order provided that:

1. the liquidator is properly appointed in the place of the company’s incorporation;
2. the letter of request is from a common law jurisdiction with a similar insolvency law regime;
3. the order sought is available under Hong Kong law; and
4. the order sought is in relation to seeking information and documents, rather than assets.

In this case, the application ticked all the boxes and so the order was made.

Using this decision as a guide, one would expect that if a foreign liquidator wanted to gain control of a Company’s assets located in Hong Kong, he would make an application to the Hong Kong court for an order vesting title to the Company’s assets in the liquidator. We’re not aware of such an application having been made but would expect it to be only a matter of time before it happens. The alternative, which would avoid vesting title to the Company’s assets in the liquidator would be an order recognising the liquidators’ appointment in Hong Kong – in that way there is no real need to go down the vesting-order route, but by virtue of the recognition it should give the liquidators the power to deal with the Company’s assets.

Singularis Holdings Ltd v PricewaterhouseCoopers & PricewaterhouseCoopers v Saad Investments Company Ltd
 

These are two connected cases from the Cayman Islands where orders made in the Bermudan Court were eventually successfuly challenged in the Privy Council with consequences that could possibly extend to Hong Kong in terms of the ability of liquidators to obtain information.

The two companies were wound-up in Cayman and the liquidators tried to get access to the auditors’ working papers. The relevant section of Companies Law in Cayman, s.103, isn’t wide enough to construe audit working papers as belonging to the companies and so the liquidators could not get access to them. This it would seem was hindering their investigations and so they applied to the Bermudan Court for recognition of their appointment to Singularis in Cayman, and obtained a winding-up order against Saad in the same court.

Armed with these two orders the liquidators then sought the production of the auditors’ working papers pursuant to s.195 of the Bermudan Companies Act which is broader in terms than s.103 in Cayman. These orders were granted but the auditors appealed, eventually to the Privy Council.

The Privy Council decided firstly that there was no jurisdiction to wind-up Saad in Bermuda. Accordingly, the Bermudan order for the production of documents was of no value. The court ordered the Bermudan liquidation to be stayed.

The Singularis decision is perhaps potentially the more significant of the two. The key issue arising from the Privy Council decision was that the power to obtain documents does not extend to allowing foreign liquidators to do something that they could not do pursuant to the law under which they were appointed. In other words the liquidator’s tactic of seeking an order in Bermuda, where there were better disclosure provisions, to obtain documents that could not have been obtained in Cayman where the liquidator was appointed, did not succeed. An excellent summary of the case can be [found here](http://www.maplesandcalder.com/news/article/hanging-by-a-thread-the-re-modelling-of-modified-universalism-994/).

Whilst this might not immediately appear to impact on Hong Kong, it must be considered possible that the Hong Kong court will take on board the principles set out by the Privy Council in its judgement. Say, for example, a Cayman registered company has operations in Hong Kong and it is placed into liquidation in Cayman. If the liquidator needs to get information about the company from people in Hong Kong it might want to use the powers conferred by s.221 of the Companies (Winding-up and Miscellaneous Provisions) Ordinance. Historically, to achieve that it was necessary to wind-up the company in Hong Kong. However, as shown above, winding up a foreign registered company in Hong Kong is not a “slam-dunk”; it is necessary to comply with the three core tests, otherwise it doesn’t get put into liquidation in Hong Kong.

The potential problem is what happens if it’s not possible to comply with the three core tests. The latest approach was that taken in The Joint Official Liquidators of A Company v B and Another where a successful application to the Hong Kong court for the production of documents was made by the liquidators through the Cayman court by way of what is known as a letter of request. However, that was before Singularis.

In future it is possible to see the Hong Kong court limiting the scope of such a letter of request depending on the nature of the assistance being requested. If a Cayman liquidator is requesting information that would not be available to him pursuant to the Companies Law in Cayman, then it may well be, if the Hong Kong court follows Singularis, that only limited cooperation will be offered – i.e. to the extent only of what a liquidator could expect to get in Cayman itself.

Only time will tell, although given the extent of the interaction between Hong Kong and many other offshore jurisdictions, it is likely to be only a matter of time before this particular issue comes before the Hong Kong court and we find out whether Singularis is going to impact on Hong Kong’s approach to cross-border insolvency.

Recent Developments – Schemes and Legal Reps

The Hong Kong court recently decided that it had jurisdiction to sanction a scheme of arrangement in respect of an insovent foreign unregistered company. In the case of LDK Solar Co., Ltd, a Cayman registered company the court decided that debts governed by Hong Kong law can only be discharged if there is a scheme sanctioned by the Hong Kong court itself. On the contrary, a scheme sanctioned by a court outside Hong Kong does not discharge Hong Kong debts. In the LDK case it appears that most of the claims were governed by Hong Kong law and accordingly were discharged by the scheme thus achieving the desired result. The court was also satisfied that the company had a sufficient connection with Hong Kong in what may turn out to be a landmark case and which might lead to greater use of the scheme of arrangement procedure, even where company is not incorporated in Hong Kong.

In another interesting and potentially far-reachng development the Supreme People’s Court of the PRC found in favour of the liquidators of a Singaporean company who was trying to take control of its wholly owned subsidiary in the PRC by changing its Legal Representative.

It is not uncommon for those controlling a WFOE to be reluctant or unwilling to cooperate with the liquidator of the parent company in an offshore jusrisdiction. In the past this has often led to serious difficulties in protecting and realising assets in the PRC. In this case, the PRC court not only recognised the authority of the liquidator to act on behalf of the company, but more importantly agreed that the liquidator, through the shareholder, had the power to remove the Legal Rep of the WFOE. It also said that the new appointment took effect from the passing of the resolution, even if the change had not been registered with the local AIC.

In theory the implications of this decision could be very far-reaching in terms of improving the prosepect for liquidators of foreign parent companies being able to exert control over its PRC subsidiaries. However, in practice the situation is likely to be somewhat different, at least in the short term. The reality is likely to be that it will take some time for other courts within the PRC to act in accordance with this ruling. In the absence of a precedent based legal system it is likely that not all courts will immediately follow the Supreme People’s Court’s decision, although the decision will be very persuasive. Time will tell, but it is certainly a move in the right direction.

Here is a link to an article giving more details of the background to the case where the liquidators were represented by Lovells.

Yung Kee – Again – Court of Final Appeal 2015

At last the saga has come to an end. A case that started a long time ago in a galaxy far far away – sorry that’s another saga!

Since it started, two of the protagonists have died and now the Court of Final Appeal has overturned the decisions of both the Court of First Instance and the Court of Appeal, by ordering that the BVI registered company be wound up in Hong Kong.

The CFA agreed with the lower courts that the Company had not established a place of business in Hong Kong; (remember it was its indirectly held operating subsidiaries that ran the business in Hong Kong). Accordingly, the Court had no power to order a share sale.

However, on the question of whether the Company had a sufficient connection with Hong Kong it differed from the lower courts taking that view that even though it was a shareholder’s petition, there was no more stringent a connection with Hong Kong required than if it were a petition presented by a creditor.

It accepted that the factors to take into account when looking at whether there was a sufficient connection were different in a shareholder’s petition when compared with a creditor’s petition, but said:

“shareholders, no less than creditors, are entitled to bring winding-up proceedings in Hong Kong in respect of a foreign company”.

It went on to conclude that there were compelling factors connecting the Company with Hong Kong and thus it had jurisdiction to wind-up the Company on just and equitable grounds.

However, in a final twist, the Court effectively suspended the winding up before it started giving the warring parties 28 days from the date of the judgement (11 November 2015) within which to reach an agreement for one party to buy out the other.

The Madison Pacific Case

Or the Joint Administrators of African Minerals Ltd (in administration) v Madison Pacific Trust Ltd and Shandong Steel Hong Kong Zengli Limited [2015] HKEC 608

In the Madison Pacific case an Administrator, appointed pursuant to an Administration Order in the UK made over a company incorporated in Canada and continued in Bermuda, sought the assistance of the court in Hong Kong for an order that Madison Pacific, be prevented from disposing of certain assets of the company. The assets in question were the shares in a PRC company which Madison Pacific held in its capacity as a security agent. The Administrator sought an order restraining the enforcement of the security over the shares. The moratorium created by the making of the administration order in the UK acted to prevent any disposal of the company’s assets in that jurisdiction, but in Hong Kong there is no analagous insolvency process similar to Administration in the UK. Harris J., mentioning the Privy Council’s decision in Singularis, (see below), concluded that the administrators were seeking to implement a power in Hong Kong which a Hong Kong office holder would not have due to the fact that there is no insolvency process analagous to Administration in this jurisdiction. In other words a liquidator in Hong Kong (where there is no Administration-like process could not obtain the type of order sought – i.e. an order preventing the enforecemnt of security, so how could it grant such an order to a foreign office holder. Harris J said that to grant the order sought:-

“would be an impermissible extension of the common law principle that requires the court to recognise foreign liquidators and assist them”.

Accordingly the court refused to make the order preventing Madison Pacific disposing of the shares in its capacity as security agent.

In Singularis the Privy Council held that whilst the common law empowered courts to recognise and grant assistance to foreign office-holders in insolvencies with an international element, that recognition required the active assistance of the court.  However, the principle is subject to local law, and to local public policy: a court can only act within the limits of its own statutory and common-law powers. In Hong Kong, at the time of writing there is no corporate rescue process similar to the UK Administration process.

 Yet More Issues Regarding Recognition

The Centaur case concerned an ex-parte application for recognition and assistance by the Joint Official Liquidators of three Cayman incorporated companies in liquidation. The applications were made pursuant to a letter of request issued by the Grand Court of the Cayman Islands.

Applications of this sort have become increasingly common as a way of assisting foreign liquidators in carrying out their functions in Hong Kong. However, In this case the Liquidators were seeking a more extensive order than had previously been granted in Hong Kong.

In simple terms, the unusual aspect of the order sought by the Cayman liquidators was to prevent any creditors commencing proceedings without the consent of the Court. In Hong Kong this issue is governed by s.181 of C(WUMP)O, which is substantially the same as s.97 of the Companies Law in the Cayman Islands.

The court considered whether this might be unfair on creditors who might incur the costs of commencing proceedings in Hong Kong not knowing that the stay existed. On balance it decided that any prudent creditor would investigate the current position of the companies before commencing proceedings, would discover that liquidators had been appointed and could then make a decision in fully knowledge of the facts.

L -v- G

Foreign Liquidators Should Be Cautious 

In L-v-G Limited (a Hong Kong listed Co) there was an application, by L, before the Hong Kong court for the appointment of a provisional liquidator (PL) to G. G had already filed its own petition for the appointment of a PL in the Cayman Islands where it was incorporated.

The Hong Kong petition was adjourned pending the outcome of the Cayman Islands hearing and when PLs were appointed in the Cayman Islands the Hong Kong petition was dismissed. The Cayman Islands PLs saw no immediate reason to seek recognition in Hong Kong but could do so, or if they thought fit consider whether parallel proceedings should be commenced.

In its judgement, the Hong Kong court made, among others, the following comments:

“… in the conventional case one would expect an insolvent company to be wound up in its place of incorporation and for its liquidators to consider whether or not it is necessary to seek recognition and potentially assistance from the court in Hong Kong. If they do the most straightforward way for them to proceed is to obtain a letter of request from the local court and then apply exparte on paper for a recognition order. If a matter is straightforward an order recognising a foreign appointment will be granted very swiftly. If the liquidators think that it is desirable that the foreign company is put into liquidation in Hong Kong and they are satisfied that they will be able to demonstrate to this court that the criteria by which such petitions are assessed are satisfied, they can apply for a winding‑up order and if the circumstances require it apply for themselves to be appointed provisional liquidators in Hong Kong pending the determination of the petition.”

It seems that foreign office holders will need to carefully consider whether it is sufficient to seek recognition and/or assistance from the Hong Kong court or do the circumstances require that parallel proceedings be started.

In what is a fast developing area of the law, the wrong “decision” could well result in an unpleasant costs order against a foreign office holder.

Conclusion

It’s likely that cases will continue to come before the Court in Hong Kong in the next few years on this subject. However, if as seems likely, the Court continues its close adherence to the three core tests, it is going to be necessary for petitioners to put forward a very compelling case to achieve a result in their favour.

This was the case in the Insigma Technology matter (2014) where the connection with Hong Kong was considererd tenuous at best and where the court declined to wind-up the PRC State Owned Enterprise which had failed to pay an arbitration award and where the local PRC Court had declined to recognise the same award when the creditor tried to enforce it against assets in the PRC.