Insolvency and Restructuring Legislation -A Chapter 11-Style Corporate Rescue Regime in Hong Kong?
In light of the challenges facing Hong Kong, including the fall-out from the recent social unrest, the US/China trade war and the impact of the COVID-19 virus, it seems an appropriate time to review Hong Kong’s existing insolvency and restructuring regime with a mind to putting in place a comparable corporate rescue procedure, such has been adopted in other jurisdictions worldwide, such as the US, the UK, Australia, Singapore, Canada and New Zealand.
At this difficult time, the Government is planning to hold a new round of consultations to resurrect the introduction of a US Chapter 11-style corporate rescue regime. This has yet to be passed into law despite the talk of this for the past 30 years and the tabling of a Companies (Corporate Rescue) Bill ("Bill") in 2001.
Pending the release of further details of this new round of consultation, we take this opportunity to explore (I) the limitation of the existing insolvency and restructuring regime in Hong Kong, (II) the objective and advantages of the proposed corporate rescue procedure and (III) the main features of the proposed procedure.
(I) Limitation of the Existing Insolvency and Restructuring Regime in Hong Kong
Under the existing insolvency and restructuring regime in Hong Kong, when an insolvent company is unable to meet its debts, the company may be exposed to immediate winding-up or insolvency proceedings initiated by (i) any single creditor for compulsory winding-up of the company or (ii) its members or directors through creditors’ voluntary liquidation.
This often leads to a fire sale of the company’s assets at an undervalued price so as to repay the creditors according to their order of priority and loss of control of the company to the liquidator(s) appointed.
The company can try to reach an arrangement or compromise with the creditors, which may be formalised under sections 668 to 670 of the Companies Ordinance (Cap. 622) but this arrangement and compromise is non-statutory and entirely voluntary in nature. Alternatively, the company may effect a corporate restructuring through a provisional liquidator appointed under section 193 of the Companies (Winding up and Miscellaneous Provisions) Ordinance (Cap.32) but the option is only available when the company is already in the course of winding-up.
As such, even when a company is merely facing a short-term shortage of funds, there is no statutory regime to help preserve the company’s existence. This also makes reorganisation of a company through restructuring or seeking investment difficult when the company in financial crisis is constantly facing the risk of being wound up unless each and every creditor can be convinced not to take further steps.
(II) Objective and Advantages of the Proposed Corporate Rescue Procedure
In view of the limitation of the existing insolvency and restructuring regime, a US Chapter 11-style legal framework, i.e. a set of corporate rescue procedure (“CRP”), could be a helpful tool.
The objective of CRP is generally (i) to maximise the chance of the company’s continued existence or as much as possible of its business, and if this is not attainable, (ii) to achieve a better return for the creditors of the company than in case of an immediate insolvent winding-up.
The CRP can therefore provide an option for a company in financial difficulty to seek to turn around and revive its business as much as possible, instead of proceeding with winding up immediately.
(III) Main Features of the CRP Previously Proposed
As an overview, the main features of the proposed CRP based on the last rounds of consultations in 2014 and 2018 in Hong Kong are set out below.
(1) Parties Allowed to Initiate the CRP
It was proposed, and generally accepted that, both Hong Kong companies and non-Hong Kong companies formed/registered under the Companies Ordinance may initiate the CRP, except for certain categories of financial institutions regulated under the Banking Ordinance, the Insurance Companies Ordinance and the Securities and Futures Ordinance amongst others.
The process may be initiated by a company or its directors, provisional liquidators or liquidators, but not the company’s creditors.
(2) Pre-requisite Requirements
Insolvency or likely insolvency should be a pre-requisite for initiating the CRP. In addition, having regard to prevailing international practices, it has been proposed that a company seeking to commence the CRP should be required to obtain the prior written consent of its major secured creditor.
(3) Provisional Supervision, And the Duties and Powers of the Provisional Supervisor
The CRP will take the form of “provisional supervision” by the appointment of a provisional supervisor (or two of more joint and several provisional liquidators). The provisional supervisor can either be solicitors with practising certificates or certified public accountants, unless there is any conflict of interest which would result in the disqualification of the provisional supervisor.
During the provisional supervision, the provisional supervisor would become an agent of the company and would assume control of the company’s business, affairs and property. The functions and powers of the officers of the company would be suspended, except to the extent as approved by the provisional supervisor.
The provisional supervisor would be required to call the first creditor’s meeting, proposed to be held within 10 business days from the commencement of provisional supervision, to determine whether to maintain or replace the provisional supervisor appointed and whether to appoint a committee of creditors.
The provisional supervisor would also be required to call the final creditors’ meeting, proposed to be held within 45 business days from the commencement of provisional supervision, to make a decision on the future of the company.
The provisional supervisor would be responsible for:
providing his opinion on each of the three alternative specified outcomes (“Specified Outcomes”) for the creditors to vote on at the final creditors’ meeting, namely; (a) Outcome 1 - proposals for a voluntary arrangement; (b) Outcome 2 - winding-up of the company; or (c) Outcome 3 – end of the provisional supervision, for the company to revert to its pre-CRP status.
submitting investigation reports covering the company’s business, property affairs and financial circumstances to creditors to facilitate their decision at the final creditors’ meeting.
One paramount feature of the CRP which could help increase the company’s continued existence is that the process would offer a moratorium (“Moratorium”) along the following lines:
the company cannot be wound up voluntarily during the provisional supervision;
no civil proceedings can be commenced against the company or any of its property except with the provisional supervisor’s written consent or the leave of Court during the provision supervision;
all existing proceedings against the company would be stayed for a period commencing from the date the provisional supervisor is appointed, except with the provisional supervisor’s written consent or the leave of Court;
no enforcement process on the company’s property could be commenced except with the leave of Court during the provision supervision.
The company will therefore have more time to work out a restructuring plan or find a buyer/investor, instead of facing immediate fire sales, likely at below market value, to repay creditors.
The only proposed exemptions to the Moratorium would be proceedings protecting the interests of employees and unfairly prejudiced minority shareholders, for example:
winding up petition by employees whose payments are not fulfilled;
winding up petition by employees whose entitlements arising after the commencement of the CRP are in arrears; and/or
petitions made under sections 723 to 727 of the Companies Ordinance (Cap. 622) for company’s affairs conducted in a manner unfairly prejudicial to the interests of minority shareholders.
The Moratorium does not however prohibit set-off of claims against the company. It also allows enforcement of contractual terms which provide for the termination of contract upon specific events such as insolvency of the company or the commencement of its provisional supervision.
(5) Extension of the Provisional Supervision (and the Moratorium)
The proposed 45-day time limit for holding the final creditors’ meeting and determining the future of the company may be extended but not indefinitely. Time limit may be extended by:
approval of the creditors at a creditors’ meeting, provided that the extended period is within 6 months from the commencement of the provisional supervision.
order of the Court on the application by the provisional supervisor at any time for such period as the Court thinks fit.
Despite the extension allowed, the provisional supervision would end in the following circumstances:
upon passage of any one of the three Specified Outcomes; or
in other specified circumstances, such as (a) in accordance with an order by the Court, (b) where the final creditors’ meeting is not held within 45 business days or such extended periods as determined above, or (c) where the final creditors’ meeting does not approve any of the Specified Outcomes.
(6) Employees’ Outstanding Entitlements
The CRP necessarily needs to address the issue of employees’ outstanding entitlements. The protection of workers’ rights may have been one of the principal reasons for law-makers to turn down the proposed reform in the past.
At first, the proposed law required that employees receive all unpaid salary before the CRP could commence. This was rejected by the liquidation professionals as being impractical. When it was further proposed that payment of the employees’ entitlements should be capped, the employees and unions opposed.
In the last round of consultation in 2013/2014, a phased payment schedule was proposed to ensure that employees would be no worse off than in the situation when the company goes into immediate insolvent winding-up. The payment timeframe depends on the nature of the outstanding entitlements. It was proposed that arrears of wages would need to be paid up to the cap of the Protection of Wages on Insolvency Fund by the 30th calendar day after the commencement of provisional supervision, whereas outstanding termination payment and outstanding Mandatory Provident Fund/Occupational Retirement Scheme contributions would be settled at the second and third phases with a longer time-line.
The phased payment schedule may continue to be adopted in the upcoming consultation to strike a balance between meaningful proposals to assist the company in crisis and the interests of the company employees.
The idea of introducing the CRP was first mooted more than 3 decades ago in 1996. The Government tabled the Bill with a view of passing such a law in 2001 but did not succeed in making new law. Various rounds of further consultations were held in 2003, through the SARS outbreak, 2009, after the global financial crisis, in 2014 and then in 2018 to revise the draft Bill but the status remains unchanged to date.
Will COVID-19 now bring a turning point for the legislative history of the CRP so that Hong Kong can move into line with other competing jurisdictions? We wait for the new round of consultations. Hopefully a draft bill will be tabled into the LegCo by the end of 2020 or early next year.
Stay in touch for further updates, and feel free to contact our Partner, Nigel Binnersley at email@example.com or our Senior Associate, Yolanda Kok at firstname.lastname@example.org for further information.