Draft CVL Bill Open to Abuse

By Stephen Briscoe

The draft bill was put into the public domain on 10 July with an 18 day period for parties to make representations.  The draft bill runs to 77 pages, whilst the draft notes run to another 20 pages.  To suggest that a draft bill that, (it must be assumed), has been several months in the writing can be properly scrutinised in 18 days in the middle of summer when many of the interested parties are away from Hong Kong is, in polite language, unrealistic.

In itself the draft bill has also thrown up two significant issues, addressed in earlier posts, but now looked at again in more detail in light of the detailed provisions set out in the draft bill.

Meetings of Creditors – CVL

As part of the initial review process, it was clear that amendments needed to be made to s.241 which covers the convening of creditor’s meetings in a creditors’ voluntary liquidation. The problem with the current legislation is that in certain circumstances a meeting of creditors can be held without giving notice to creditors. Clearly an issue that needs to be resolved, the logical solution would seem to be to bring in language to ensure that creditors receive at least seven days notice of a meeting of creditors being held. Such an amendment to the legislation would have two principal benefits. One would be that it would be simple. The second is that by keeping largely intact a system that has worked perfectly well for many years, and which works perfectly well in many other jurisdictions – as they say “if it isn’t broken, don’t fix it”!

However, the proposed changes go far, far beyond this and risk introducing a system that would be open abuse, particularly by unscrupulous directors.  In short, the new rules would allow shareholders to pass a resolution to wind up the company, but the meeting of creditors to appoint a liquidator need not be held for up to 14 days, thus potentially leaving the company in a state of limbo. To be fair, the proposed new s.250A places significant limits on the powers of the directors once the resolution has been passed to wind-up, but in reality who is likely to police what the directors do during that period. If unscrupulous directors are minded to abuse the process it seems that the new proposals are potentially creating that opportunity. If creditors come knocking at the door, the directors can say that the company is being put into liquidation, thus giving them a breathing space during which they can be doing things with the assets that they shouldn’t be doing.

At any time during the proposed 14 day period, the shareholders can appoint a liquidator, but similarly the powers of that liquidator before his appointment has been confirmed by creditors, are, quite rightly, very limited by the proposed new s.243B. In effect, the liquidator, until he has had his appointment confirmed by the meeting of creditors, cannot dispose of any of the Company’s assets unless they are likely to deteriorate in value. However, the liquidator is also given the responsibility of applying to the court for directions if the directors fail to comply with the requirement to convene a meeting of creditors. This is all well and good in theory, but it raises at least two practical problems. The first is what funds the liquidator can use of to make such an application? On the face of it, in view of his limited powers, it’s likely that he cannot use the Company’s funds. Secondly, does he have the power to employ solicitors to make the proposed application without first making an application to the Court to employ the solicitors?

On top of these practical problems the administration then proposes to impose penalties, including fines, on liquidators who fail to comply with some of the rather nebulous requirements of section s.243B which deal with the powers of directors and liquidators between the date on which the directors decide to place the company into liquidation and the meeting of creditors.

S.221 Private Examinations

The proposed changes to this section of the legislation are perhaps the most extensive and potentially of the most concern to professionals working in the field of corporate recovery and insolvency.

By way of a reminder, s.221 gives quite extensive power to a liquidator to apply to the court for someone who has information about a company’s affairs, but who will not cooperate, to be examined on oath, in open court.  One of the strengths of the section lies in the fact that a person who is being examined cannot refuse to answer questions on the grounds of self-incrimination.

In the last 15 years, s.221 has been considered by the courts on numerous occasions, up to and including the Court of Final Appeal. Although there are occasional applications which results in minor additional points of law being considered (i.e. the recent China Medical case which is still subject to appeal), the general view amongst professionals in the legal community is that the provisions of s.221 and the Court’s interpretation thereof are clear.

It therefore causes some considerable consternation to see the significant changes that are proposed to s.221 which would become ss.286A, B and D. There is a genuine concern that these potentially significant changes to the legislation will simply result in a return to the previous uncertainty regarding the circumstances in which orders might be made under this section.

In recent years, the ability to invoke this section, and the information that has been obtained as a result of private examinations has undoubtedly benefited the creditors of many companies in liquidation. It would be a matter of grave concern if these extensive and probably unnecessary amendments to the legislation result in a watering down of these very important provisions.

Summary

All in all, it’s unfortunate that the Administration has chosen to propose making such substantial changes to what are two fundamental parts of corporate insolvency legislation. We can only hope that there will be a real opportunity to amend the draft legislation when it comes before LegCo later this year.