Legal News & Analysis – Asia Pacific – Hong Kong – Insolvency & Restructuring

26 October, 2016

When a business in Hong Kong finds itself in financial distress, there are number of options it may take, including but not limited to corporate restructuring, selling off a part of the business, or finding alternate ways of raising new capital to pay off its existing debts. When all else fails, it may choose to wind-up the company. Moreover, when circumstances so require, a Hong Kong court may even order a foreign company doing business within its jurisdiction to wind up the company. The road to recovery, whether it be by raising new capital, filing for restructuring, or otherwise, is usually long and arduous. However, when a business suffers, the consequences are felt by more than just the business, but also by its clients and creditors. We had a chance to speak with Kelly Naphtali, Kirkland & Ellis Partner, about the winding–up of a foreign company in Hong Kong, alternatives to restructuring, parent company liability, and creditor recovery options, and here is what he had to say.

Conventus Law: Does the Hong Kong Court have discretion to issue a winding-up order for a foreign company? If so, under what circumstances?

Kirkland & Ellis: The Hong Kong court does have the discretion to wind up foreign companies in particular circumstances. The first and most important rule that the court applies is that the company should ordinarily be wound-up in its place of incorporation. But, provided that particular criteria are satisfied, there will be some cases where the court would wind up a foreign company in Hong Kong. 

The first lot of criteria that needs to be satisfied comes from the Companies Legislation. You’ll need to show that either the company has dissolved or ceased to carry on its business, that it is unable to pay its debts, or for other reasons that it is just inequitable to wind the company up. 

The most common criteria that creditors will satisfy is that the company is unable to pay its debts. You would normally invoke this procedure by an ordinary statutory demand which you would do for a domestic company. That means you serve a notice of payment on the company. If it is not repaid within 21 days, the company is deemed to be unable to pay its debts, in broad terms. That is the most common way you would proceed.

The second lot of criteria which you need to satisfy comes from the common law. The courts have held that there are three, what we call, “core requirements”, which dictate how the court will exercise its discretion and whether or not it will wind up a foreign company.

The first of those criteria you need to show is that there is a sufficient connection to Hong Kong. This is ordinarily shown by assets within Hong Kong, but it is not the only means to satisfy that criteria. The second is that there is a reasonable possibility that the winding up order would benefit those who apply for it. The third is that there must be a person within the jurisdiction with a sufficient connection to the company within the jurisdiction who will get a sufficient economic outcome from the winding up. Ordinarily, this is shown by creditors being present within the jurisdiction with material debts to either one creditor or multiple creditors. Again, these are just discretionary requirements which the court will consider but they are very important to establishing the ability to wind up a foreign company.

Finally, there is another option which the court has that does not go so far as to wind up a foreign company, which is what are called “recognition orders”. I mentioned that generally the Hong Kong court would require that the company is being wound up in its place of incorporation. If that has happened, and a liquidator has been appointed in the foreign country, then it can apply to the Hong Kong court for recognition of their appointment in Hong Kong. The advantage of this approach, provided that the insolvency regime between the foreign country and Hong Kong are broadly similar and meet particular criteria, means that the foreign liquidation can be recognized in Hong Kong, and the Hong Kong court has power to grant particular powers to liquidate it, to take steps that an ordinary domestic liquidation could take, such as to obtain the books of records of the company, or to conduct certain investigations and examinations.

CL: If a company is not successful with its restructuring, is winding up the only alternative?

KE: If a company has not been successful with its restructuring efforts, winding up is not the only option that is left available. The steps that it takes next really just depend on the nature of the business and what options might be available. What options it decides to exercise really depends on input from its financial and legal advisers. For example, the company might decide to sell a part of its business in order to pay the debts. It might also decide to raise new equity. In the worst case scenario, if there are no other options available, the next step would probably be the winding up of the company. 

The other option is that the provisional liquidator may be appointed to the company, and if this happens it would mean that the company is effectively placed into the hands of a third party insolvency practitioner. At that stage, that insolvency practitioner would probably have another go at restructuring the debts of the company.

CL: Can a domestic or foreign parent company be held liable for an insolvent Hong Kong company’s debts?

Generally under Hong Kong law, each individual company is recognized as a separate legal entity, so it is not possible to hold the parent company liable for the debts of its subsidiary just by virtue of the fact that it’s the parent company. 
But that is not really the end of the matter. There are particular circumstances where a parent company would be held liable for the debts of a subsidiary. It depends on the close analysis of the circumstances. The most likely examples that come to mind would be where the parent company issues a guarantee for its subsidiary to guarantee the payment of its debts. The second one might be in circumstances where there is an inter-company debt where the parent company owes the debt to the subsidiary, so the liquidator who is appointed to the subsidiary might take steps to recover that debt from the parent company. 

A third is where there are some sort of unusual circumstances, which mean that it is appropriate for the liquidator to have a closer look at the relationship between the subsidiary and the parent. In particular that would apply where there seems to be some sort of movement of assets or money between the subsidiary and the parent in unusual circumstances, such as in fraud or a breach of trust. In those circumstances the liquidator could take steps to try to recover the money or assets which have been transferred to the parent.

CL: In terms of a creditors recovery options, what options do business creditors have to secure unpaid debts?

KE: Creditors have a few different options to secure the repayment of unpaid debts. The first and the simplest thing that they can do is to attempt to negotiate the repayment with the company. This is always going to be the simplest and least expensive route to follow. 

If that is not successful, then they might consider taking steps to file a petition to wind up the company. The advantage of this approach is that you can use it if you have got a certain sum of money which is due and there is no dispute in relation to the debt, then you can petition to wind up. The downside of this approach is that once you do take those steps, you would effectively rank equally with all of the other unsecured creditors in the winding up. So that means you will be paid out pari passu out of the assets with the other creditors, so you will not necessarily secure as much of the repayment of your particular debt as you might if you took other options.

The alternative option is to file a commercial claim against the company for the recovery of the debt. At the end of that process, it should mean that you are successful, you would have a judgment debt which is payable. And the judgment debt allows you to take particular steps to enforce the repayment of the debt. In that scenario, you are not competing against any other creditors.

What type of enforcement step you should take really depends on the nature of the company and what assets it has. For example, you might take steps to enforce against the land which the company owns, or other property. In the worst case scenario, again, at the end of the process, if you still have not recovered the whole of your debt which is paid, you might consider issuing a winding-up petition.

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