Over the years, liquidators in Hong Kong have frequently been faced with situations where they have established claims by a company in liquidation against third parties, but they have been unable to pursue them because they don’t have sufficient money to fund the costs of litigation.
Understandably creditors are reluctant to “throw good money after bad” and as a result, liquidators have had little choice, in the absence of funding, but to drop these claims and close the liquidation resulting in creditors being left out of pocket. Even if a liquidator decides to pursue a claim using his own resources, he is often effectively prevented from doing so by a security for costs application.
These difficulties are made all the more pressing by the fact that if there are no assets and a liquidator commences action in his own name, say for example an unfair preference action (s.266 of the Companies (Winding-up and Miscellaneous Provisions) Ordinance) or a void disposition (s.182), and he loses, then he is on the hook personally not only for his costs but for the costs of the other side. Even if there are assets then any adverse costs awarded agains the liquidators have a first claim on the assets ahead of any of the costs and fees of the liquidator. Accordingly, there is little incentive for a liquidator to risk his own personal funds pursuing claims, particularly if the creditors, for perfectly understandable reasons, are unwilling to do so.
That is changing as a result of a recent High Court decision in the liquidation of Cyberworks Audio Video Technology Ltd. Stephen Briscoe was the liquidator and was advised by Gall, solicitors.
The liquidator had no funds to pursue a number of what they considered to be substantial claims. However, a third party was prepared to fund the potential claims going forward in return for a share of the proceeds if the actions were successful. The Court gave the liquidator permission to enter into an agreement with the third party, who had no financial interest in the liquidation and which would be pursuing the claims for its own commercial gain.
The consideration for the sale of the litigation rights to the funder is a share of the proceeds of a successful action which will enhance the recovery for creditors of the insolvent company if the action(s) are successful.
This is the first time that the Hong Kong Court has considered this matter and handed down a written judgment. Previous decisions on the subject have not been in the public domain.
In the past, this type of funding has been frowned upon and indeed has been effectively prohibited by the laws of maintenance and champerty, ancient English legal concepts designed to prevent “trafficking in litigation”. However the Court has recognised that these concepts are less relevant to the 21st century and in particular to liquidators who are seeking to recover assets for the benefit of creditors. The Court’s view is that liquidators are a special case and should be able to sell rights of action to third party funders in return for allowing the company’s creditors to share in the proceeds of a successful action.
However, this exception does not extend to claims that a liquidator may have arising solely as a result of being appointed as a liquidator. These would include unfair preference claims under s.266 and void dispositions claimed back under s.182 – both these claims can only be brought by a liquidator. Nonetheless, claims for the recovery of amounts due, misfeasance actions for breach of fiduciary duty, actions to recover assets, etc, etc, would come under the heading of those that could be funded by third parties in situations where the company in liquidation is bereft of funds.
Subsequently, in 2011, in the Berman case, the Court approved the funding by a third party of an action originally in the name of the trustee of a foreign company, subject to insolvency proceedings in a foreign jurisdiction. This link to Tanner De Witt’s website contains an excellent summary of the case and the issues involved.
A possible “fly in the ointment” is a recent Australian decision which said that offering funding to liquidators constituted a “fnancial product” and that the party offering the product must therefore be licensed to deal in financial products. Not being so registered means that the funding agreement may be rescinded. Whilst this particular point is likely to have limited application to Hong Kong, at least in the forseeable future, it is almost certain that the Court in Hong Kong has not seen the last of the litigation funding issue.
December 2015 Re Company A-E
The latest case on litigation funding for liquidators to come before the Court, Re Company A-E [2015] HCMP 2019/2015, has explored the issue of the extent to which the commercial character of the funder should be taken into account when trying to decide whether or not a proposed funding arrangement infringes the rules of maintenance and champerty.
In this case the liquidator of several companies applied to the Court for sanction to enter into a funding agreement. The funder was a Cayman Islands company whose role in life was to fund the litigation in anticipation of generating a profit for its own investors.
One of the concerns of such litigation funding is whether or not the funder is in a position to influence either the liquidator and/or his solicitors in pursuing the litigation. In this case, the Court was satisfied that the commerciality of the funding arrangement made sense, given that individual creditors would be unlikely to fund the claim, and that there seemed little danger that the funder would influence the liquidator and or his solicitors in pursuing the action.
In the circumstances the Court approved the funding arrangement.
However, the Court has still left open the question of whether or not a solvent plaintiff, (in this case it was the liquidator of an insolvent company), could enter into such an agreement without infringing the rules of maintenance and champerty. It seems that it’s only a matter of time before that issue comes before the Court.