Updating the Companies Ordinance

A Missed Opportunity

Republished with permission. This article first appeared in INSOL World magazine Q4 2013

By: Stephen Briscoe and Nichole Chan, BWA

Hong Kong’s efforts to modernize the city’s corporate insolvency laws have resurfaced almost two decades after the city government first launched a comprehensive review of the legislation in the mid-90s, but then chose not to act on the recommendations made by the Law Reform Commission (“LRC”) in 1998.

In April 2013, the Hong Kong government published 46 legislative proposals for public consultation, aiming to introduce an amendment bill into the Hong Kong Legislative Council (“LegCo”) in 2014 to improve the winding-up regime in the city.

The existing winding-up provisions, which are part of the Companies Ordinance (“CO”), are based on the UK Companies Act 1948. Critics have long been calling for amendments, pressing in particular for the introduction of a corporate rescue regime and the adoption of the UNCITRAL Model Law (“Model Law”) to help deal more efficiently with cross border insolvencies.

It is disappointing to see Hong Kong, one of the leading financial centres in the world, lagging behind other jurisdiction in Asia in both aspects, with even China having already incorporated reorganization and conciliation in its new Enterprises Bankruptcy Law, which came into operation on 1 June 2007; while Japan, Korea, Australia and New Zealand in the Asia-Pacific region have all enacted their own versions of the Model Law.

Without a formal corporate rescue regime, Hong Kong practitioners have been relying on schemes of arrangement and the appointment of provisional liquidators to facilitate corporate rescue.

Proposals

The consultation document is silent on a proposed corporate rescue regime. However, we understanding that along with these proposals, the government will bring back to the table the long delayed Provisional Supervision and Insolvent Trading proposals – similar to Chapter 11 in the US and administration in the UK.

The proposals for Provisional Supervision and Insolvent Trading have been in the wings since 1997; were put before LegCo on two separate occasions when they failed to progress because of the flawed employee provisions; were dusted-off and further amended post-Lehman Bros; but subsequently were not pursued due to a lack of legislative time.

With regards to the adoption of the Model Law, the proposals completely fail to address the matter. This is by far the most obvious and disappointing omission and one that is difficult to understand given the cross-border nature of so many of the large insolvencies and restructurings that take place where Hong Kong is a significant factor. To date, there has not been a cohesive explanation from government explaining the reasons for this omission.

Nevertheless, the proposals do address a number of issues which have long been raised by practitioners under the existing legislation.

The proposed amendments seek to remedy long-standing deficiencies in the unfair preference provisions of the current legislation. They intend achieving this by removing cross-references to the Bankruptcy Ordinance and creating additional provisions in the CO defining associated parties. Hopefully, these amendments will deal with the current deficiencies in the CO provisions dealing with unfair preferences.

Meanwhile, the proposals will introduce the concept of the transaction at an undervalue to Hong Kong corporate insolvency law. Interestingly, this was recommended by the LRC some 15 years ago, was implemented in the context of personal insolvency in 1998, but is only now being introduced to the corporate insolvency world in Hong Kong.

Under the proposed legislation, a liquidator will be able to go back as far as 5 years prior to the commencement of the liquidation if the transaction is with an associated person and if insolvency can be established at the time, or as a consequence of the transaction. Insolvency will be assumed where the transaction is with a person connected with the company.

The proposals also envisage allowing liquidators to communicate with stakeholders by electronic means, although the detailed proposals in this respect will need to be carefully scrutinised.

Quite a few administrative changes are proposed for dealing with Committees of Inspection, most of which are likely to be welcomed by the profession.

In addition the proposals intend bringing greater clarity to the procedures for private examinations (s.221 of CO) and public examinations (s.222 of CO). In recent years the Court has brought a great deal of certainty to the issue of private examinations and the concern here must be to ensure that changes, whilst well-meaning, do not have the effect of rolling-back the progress that has been made in this area.

Public examinations are virtually non-existent in Hong Kong, probably as a result of the requirement that fraud must have been alleged prior to an application for a public examination. The intention is to remove the fraud allegation requirement, but as yet it is unclear why a liquidator would want to use this option rather than a private examination, held in chambers and away from the public gaze.

The proposals also contain a number of provisions aimed at making Insolvency Practitioners (IPs) more accountable to stakeholders. However, it appears that these proposals are to be included in the primary legislation, a course of action which is potentially fraught with difficulties. In particular, changes to primary legislation in Hong Kong have a history of taking an inordinate length of time, or in many cases just never being attempted.

Many in the profession would strongly support the introduction of a form of licensing for IPs, possibly based on the Specialist Designation in Insolvency qualification awarded by the Hong Kong Institute of Certified Public Accountants. Unfortunately, it appears that the government does not support this approach and so it remains to be seen how it will proceed with its efforts to regulate the profession.

Conclusion

To conclude, the potentially significant changes to the law relating to unfair preferences and transactions at an undervalue are to be welcomed, albeit in the case of the latter proposal, many would suggest that it is not before time.

In practice many of the other proposals appear to represent “tinkering around the edges” rather than comprehensive reforms. The failure to bring forward proposals to include the Model Law is, to put it mildly, extremely disappointing. It is to be hoped that Provisional Supervision will this time get the seal of approval from LegCo, but for it to be meaningful, it must be implemented in combination with a robust version of Insolvent Trading, something which many fear will not be the case.

However, the timing of the implementation gives further cause for concern.

The government has said that the proposals will be placed before LegCo in time to be passed before the current session ends in 2016. However, only then will government start work on amending the subsidiary winding-up rules. In practice it is likely to take a further two years, perhaps longer, to produce drafts of those rules, put them out for consultation and finalise them.

All in all, there is a general feeling that Hong Kong is likely to lose the opportunity for a comprehensive modernisation of the legislation relating to corporate insolvency and corporate rescue. In reality, changes to this type of legislation are not a particularly sexy subject and it is unlikely to be revisited for a long time.

However, on the bright side, Hong Kong being what it is, its practitioners will make the best of the hand they are dealt and will continue to develop innovative, practical and commercial solutions to the many problems they face, particularly in the cross border work space.