Caution: Be mindful of Hong Kong’s focus on COMI in recognising and assisting foreign liquidators

Introduction

The COVID-19 pandemic is undoubtedly one of the biggest crises in recent times and has resulted in devastating impacts on every aspect of life across the globe. The situation has caused many businesses to become distressed, insolvent and ultimately either restructured, wound up or liquidated. Against this background, in October 2021, the Cayman Islands introduced a bill to amend its Companies Act so that a company can, by way of filing a petition for the appointment of a restructuring officer as opposed to a winding-up order, be entitled to an automatic global stay on claims against it. The bill came into force on 31 August 2022.

Prior to the reform in the Cayman Islands, as in some other offshore jurisdictions, companies had to first file a winding-up petition followed by seeking the appointment of "light-touch" provisional liquidators¹ in their place of incorporation in order to implement a restructuring that may be taking place in another jurisdiction. Whilst the reform symbolises an alternative route, for companies with assets outside their place of incorporation, it would be essential to consider whether, and to what extent those jurisdictions would offer recognition and assistance.

Recently, the Hong Kong Court has pushed back on rubber stamping recognition and assistance where the primary insolvency proceeding has been filed in the jurisdiction where the company is incorporated but in which the company has little to no business activity – the proverbial mail drop or letter box in some cases. Whilst the Hong Kong Court has caused angst in certain jurisdictions, a close look at the decisions show that the Court's reasoning and holdings are nuanced, provide some pathways to recognition and assistance and do not shut the door completely. Moreover, in some ways, it mirrors how the US courts have addressed recognition of offshore proceedings under Chapter 15 of the US Bankruptcy Code, which incorporates the Model Law on Cross-Border Insolvency. In the US, there are a series of decisions denying recognition to foreign proceedings pending in an offshore jurisdiction where the debtor is incorporated but did not historically conduct significant business. Other decisions, however, have clarified that the door to recognition remains open in the US provided there is a level of liquidation or reorganization activity in the foreign jurisdiction at the time the recognition request is made in the US.

Rationale for seeking a recognition and assistance order in Hong Kong

Before we delve into the details of Hong Kong's latest position on recognising and assistance to foreign insolvency processes, it may be helpful to understand why foreign insolvency practitioners have to make such application in Hong Kong in the first place. 

In Re Legend International Resorts Ltd [2006] 2 HKLRD 192, the Hong Kong Court held that there is no power to appoint a provisional liquidator solely for the purposes of effecting a corporate rescue. Further, in Re China Solar Energy Holdings Ltd (No 2) [2018] 2 HKLRD 338,held that it is not permissible to appoint provisional liquidators in Hong Kong in order to restructure the debt of the company in the absence of any matter associated with a winding-up. That said, in Re Joint Provisional Liquidators of Hsin Chong Group Holdings Ltd [2019] HKCFI 805, the Hong Kong Court clarified it is permissible to appoint provisional liquidators for orthodox reasons and, after the provisional liquidators have familiarised themselves with the affairs of the company, for an interested party (commonly the provisional liquidators) to apply to court if it is thought desirable for restructuring powers to be granted to the provisional liquidators. The Hong Kong Court also noted in Re CW Advanced Technologies [2018] HKCFI 1705 that where the circumstances warrant the appointment of provisional liquidators, the provisional liquidators may be granted powers to explore and facilitate a debt restructuring.

Under section 186 of the Companies (Winding-Up and Miscellaneous Provisions) Ordinance (Cap. 32 of the Laws of Hong Kong), no action or proceeding can be proceeded with or commenced against the company when a provisional liquidator has been appointed except with leave of the court. Therefore, whilst the appointment of a provisional liquidator would provide benefits to parties trying to restructure a distressed company during the stay, this only provides limited breathing space between the presentation of a petition and the eventual winding-up hearing. Further the presentation of a winding-up petition is deemed to be the commencement of liquidation and has significant adverse consequences for the distressed company as a going concern.

Given the limitation of the provisional liquidation regime in Hong Kong as noted above, it has been considered preferable for distressed foreign companies with assets in Hong Kong to be placed into provisional liquidation in a foreign jurisdiction in order to obtain an immediate moratorium, followed by the application by the provisional liquidators for a recognition and assistance order in Hong Kong.

Conventional practice in Hong Kong

As noted in Joint Official Liquidators of A Co v B [2014] 4 HKLRD 374, Hong Kong is not a party to the UNCITRAL Model Law on Cross-Border Insolvency, and Hong Kong's insolvency legislation contains no provisions dealing with cross-border insolvency. However, at common law the court has power to recognise and grant assistance to foreign insolvency proceedings. The Hong Kong Court may, pursuant to a letter of request from a common law jurisdiction with a similar substantive insolvency law, make an order of a type that is available to a provisional liquidator or liquidator under Hong Kong's insolvency regime.

While systems with similar common law insolvency regimes are the source of most applications for recognition and assistance in Hong Kong, this is not a prerequisite. The law is well-settled that the Hong Kong court will recognise foreign insolvency proceedings that comply with the following criteria:

1. the foreign insolvency proceedings are collective insolvency proceedings;
2. the foreign insolvency proceedings are opened in the company's country of incorporation.

So for example, in Re Mr Kaoru Takamatsu [2019] HKCFI 802, the court has recognised and provided assistance to a trustee in bankruptcy appointed in Japan. With an increasing number of applications for recognition and assistance, the Hong Kong Court has developed a standard practice on applications for recognition orders. 

Relevant Hong Kong cases: Focus on COMI

Despite the standard practice, a number of recent Hong Kong decisions involving offshore-incorporated companies listed on the Hong Kong Stock Exchange appear to suggest that in considering whether or not to recognise and assist a foreign liquidator under common law, the Hong Kong Court is more hesitant in recognising and/or assisting foreign liquidation, especially when it is commenced in the distressed company's place of incorporation (as opposed to where its centre of main interest (COMI) lies). 

In Re FDG Electric Vehicles Ltd [2020] HKCFI 2931, whilst the Hong Kong Court acknowledged that it has a common law power to assist a foreign liquidation (in this case in Bermuda) by ordering a stay of proceedings within its jurisdiction so as to assist collective insolvency processes in view of the principle of universalism², it emphasised that this does not mean a foreign light-touch provisional liquidation is for all purposes to be treated as a collective insolvency process. Besides, under the Gibbs rule³, a foreign incorporated company that is subject to a foreign collective insolvency process should not prevent a Hong Kong creditor from attempting to establish a right to payment under a Hong Kong-law governed contract in Hong Kong. For these reasons, the Hong Kong Court granted an order of recognition and assistance to the provisional liquidators to permit them to take control of FDG's assets in Hong Kong, but directed them to separately apply for stay of proceedings in Hong Kong should they wish to.

In Re Lamtex Holdings Ltd [2021] HKCFI 622, against the backdrop of an increasing number of companies having no connection with their places of incorporation (typically offshore jurisdictions) other than registration seeking recognition and assistance, the Hong Kong Court considered that the approach ought to be revised to give weight to the COMI of the company as follows:

1. Generally, the place of incorporation should be the jurisdiction in which a company should be liquidated; in practice this means it will be the system for distributions to creditors.
2. However, if the COMI is elsewhere, regard is to be had to other factors:
   1. Is the company a holding company, and, if so, does the group structure require the place of incorporation to be the primary jurisdiction in order to effectively liquidate or restructure the group.
   2. The extent to which giving primacy to the place of incorporation is artificial having regard to the strength of the COMI's connection with its location.
   3. The views of creditors.

On the facts, it was undisputed that the COMI of Lamtex was in Hong Kong and not in Bermuda where Lamtex was incorporated. However, there was scant information about the proposed restructuring. The Hong Kong Court was of the view that Lamtex had no credible plan to restructure its debt whether at the time of the appointment of the light-touch provisional liquidators in Bermuda or at the hearing before the Hong Kong Court. Instead, the Bermuda light-touch provisional liquidation appeared to be an attempt to engineer a de facto moratorium in Hong Kong with a view to searching for a solution to Lamtex's financial problems, which would not be permissible under Hong Kong law. As such, the Hong Kong Court granted a winding-up order against Lamtex.

In contrast, in Re Ping An Securities Group (Holdings) Ltd [2021] HKCFI 651, the Hong Kong Court applied the principles set out in Re Lamtex but adjourned the Hong Kong winding-up petition for two months and granted an order of recognition and assistance to the Bermuda provisional liquidators, as the Hong Kong Court was satisfied that the restructuring proposal of Ping An was feasible.

In Re China Bozza Development Holdings Ltd [2021] HKCFI 1235, the Hong Kong Court drew a distinction between recognising and assisting foreign liquidators. Whilst a foreign liquidator appointed in the place of incorporation of the company ought to be recognised as having the powers to act on behalf of the company bestowed on them, this does not mean that the Hong Kong Court would give active assistance to such foreign liquidator, and the liquidator should be prepared to provide details on the following issues in order to obtain an order of assistance:

1. the restructuring plan;
2. any creditor's input in formulating the restructuring plan;
3. the business of the company;
4. the reasons for the board of directors to consider that the business of the company might be rehabilitated through the restructuring plan; and
5. legal or other professional advice on the company's financial position and restructuring plan.

As this information was largely unavailable, owing to concerns over an abusive use of light-touch provisional liquidation in the Cayman Islands, and with a view to protecting creditors from exploitation, the Hong Kong Court granted a recognition, but not an assistance order to China Bozza's provisional liquidators at that stage. 

Finally, in Provisional Liquidator of Global Brands Group Holding Limited (in liquidation) v Computershare Hong Kong Trustees Limited [2022] 3 HKLRD 316, the Hong Kong Court once again noted that the orthodox common law position in recognising foreign insolvency proceedings has led to issues in transnational restructuring and insolvency (which are commonplace due to the extensive use of holding companies incorporated in offshore jurisdictions but consisting of operating and asset owning subsidiaries in Hong Kong and mainland China), one of which is whether a jurisdiction in which the distressed company's business is conducted should recognise an insolvency process conducted in a place with which the company has no material economic connection. As such, the Hong Kong Court considered that it should move towards a COMI approach in assessing whether or not a foreign liquidation should be recognised. If, at the time the application for recognition and assistance is made, the foreign liquidation is not taking place in the jurisdiction of the company's COMI, recognition and assistance should be declined, unless the application falls within one of the following two categories:

1. Managerial assistance: recognition limited to the authority of the liquidator (if appointed in the place of incorporation) to represent the company and orders that are an incident of that authority; or
2. Assistance on practical grounds: recognition and limited, carefully prescribed assistance (which does not fall within the first category above) required by a liquidator appointed in the place of incorporation as a matter of practicality.

For the purpose of determining a company's COMI, factors to be looked at include where the company (i) conducts its management and operations, (ii) has its office, (iii) holds its board meetings, (iv) has its officers residing, (v) has its bank accounts, (vi) maintains its books and records, (vii) conducts restructuring activities, and (viii) files statutory records etc.

Applying the COMI approach, the Hong Kong Court granted an order for recognition and limited assistance to the provisional liquidator that was appointed in Global Brands' Bermuda liquidation so that he could demonstrate himself as the lawful agent of Global Brands to direct transfer of certain assets of Global Brands in Hong Kong. 

Impact and practical realities

The signaling of a move towards the COMI approach in the recognition of, and assistance to, foreign liquidators under common law in Hong Kong has led to controversies. In particular, some foreign liquidators perceive the recent cases to be a departure from previous decisions, that such shift is overly protective, overlooks the commercial reality that the prospect of restructuring may gradually improve after restructuring is commenced, and that a restructuring does not necessarily benefit the shareholders at the expense of the company's creditors. 

Nevertheless, having considered the overall scheme of things, we take the view that the recent line of cases remains consistent with the past cases. In the absence of corporate rescue legislation in Hong Kong, the Hong Kong Court has indeed been making great efforts in developing the common law mechanism of recognition and assistance to best assist distressed companies so as to fill the lacuna. Whilst such goal is of paramount importance, one must not lose sight of the Hong Kong Court's responsibility to safeguard against any abusive use of foreign light-touch provisional liquidation (typically commenced in the company's place of incorporation where the company only has a letter-box presence) when there is no credible restructuring plan and the only purpose would be to stifle any Hong Kong winding up petition against the distressed company. What can be gleaned from the recent cases is a positive development that the Hong Kong Court is now taking further steps to ensure that the grant of recognition and assistance is carefully scrutinised rather than a rubber-stamp exercise. Such spirit of rescuing companies (where there is a genuine proposal to such effect) is also evident from the Hong Kong Court's approach in cases involving schemes of arrangements. For instance, in respect of the winding-up petition against Hong Kong Airlines Limited (in which we represented one of the dissenting creditors), the Hong Kong Court allowed the petition to be adjourned on several occasions so that the proposed scheme of arrangement could be considered first before resorting to a winding-up order. No doubt the position in Hong Kong remains evolving, but we are confident that the Hong Kong Court will remain active in granting recognition and assistance to foreign liquidators under the modern approach.