Nail in the coffin for truant foreign debtors with Hong Kong link – highest court’s pragmatic approach welcome

The Hong Kong Court of Final Appeal has taken a practical approach in interpreting the second core requirement, out of three needed, for a Hong Kong Court to exercise its discretion to wind up a foreign company. Bringing much relief to creditors, it has decided that commercial pressure to achieve repayment of a debt is sufficient benefit satisfying the requirement that there must be a reasonable possibility that the winding-up order would benefit those applying for it.  The benefit need not be monetary or tangible.  This is a welcome development for creditors seeking redress for unpaid debts from a foreign company with a substantial connection to Hong Kong.

Background

The long-running dispute between Shandong Chenming Paper Holdings (Shandong Chenming) and Arjowiggins HKK2 Ltd (Arjowiggins) has finally drawn to an end. The dispute has led to a series of decisions examining how the Hong Kong Court should exercise its discretionary jurisdiction in winding up a foreign company. Last month, the Court of Final Appeal gave the final word on this matter in Shandong Chenming Paper Holdings Limited v. Arjowiggins HKK2 Limited [2022] HKCFA 11.

Our commentaries on the previous decisions of the Court of First Instance and the Court of Appeal can be found here and here respectively.

The original dispute arose over a joint venture agreement between Shandong Chenming (a company incorporated in the People’s Republic of China) and Arjowiggins. Arjowiggins commenced arbitration proceedings against Shandong Chenming for breach of contract, in 2012. In 2015, Arjowiggins obtained an award in its favour and subsequently obtained leave to enforce the award in Hong Kong. Shandong Chenming did not appeal the ruling but refused to pay the award.

In 2016, Arjowiggins served a statutory demand for contractual damages, legal and tribunal fees and interest. In response, Shandong Chenming sought a declaration that Arjowiggins could not wind up Shandong Chenming, as Arjowiggins would not satisfy the three core requirements for a Hong Kong Court to exercise its discretion under section 327(3) of the Companies (Winding Up and Miscellaneous Provisions) Ordinance (Cap 32) (CWUMPO) to wind up a foreign company, namely:

1. there must be a “sufficient connection” with Hong Kong, but this does not necessarily have to consist of the presence of assets within the jurisdiction;
2. there must be a reasonable possibility that the winding-up order would benefit those applying for it; and
3. the court must be able to exercise jurisdiction over one or more persons in the distribution of the company’s assets.

The three core requirements test was established by the Court of Final Appeal in Kam Leung Sui Kwan v. Kam Kwan Lai (2015) 18 HKCFAR 501 (Yung Kee).

This case was concerned only with the second core requirement (or the benefit requirement), as Shandong Chenming accepted that the first and third requirements were met. The key question was therefore whether, and how, Arjowiggins could be said to benefit from the Hong Kong Court making a winding up order over Shandong Chenming.

The Court of First Instance’s decision

The Court of First Instance found the benefit requirement satisfied. The prospect of a winding-up order had immense severity which would pressurise Shandong Chenming to pay the debt, constituting sufficient benefit for Arjowiggins.

The Court of First Instance further provided that, even if a reasonable prospect of benefit was not found, the benefit requirement could be moderated on the basis that Shandong Chenming’s failure to pay the award amounted to contempt for the integrity of Hong Kong’s legal system. This was because Shandong Chenming was listed in Hong Kong. The Court found that there was a strong public interest to disabuse foreign companies of the idea that they can take the benefit of access to Hong Kong’s financial system without the burden of complying with the law.

The Court of Appeal’s judgment

The Court of Appeal upheld the Court of First Instance’s decision, confirming that there was a real possibility of benefit in making a winding-up order. The leverage created by the prospect of a winding-up petition was sufficient to satisfy the benefit requirement.

However, the Court of Appeal notably decided that the benefit requirement was not capable of being moderated or dispensed with. The Court of Appeal’s decision confirmed that the benefit requirement is particularly essential among the three core requirements.

The Court of Final Appeal’s judgment

The issue in the appeal was whether the “leverage” created by the prospect of a winding-up was a legitimate form of benefit under the benefit requirement set out in the second limb of the Yung Kee test.

Shandong Chenming argued in the Court of Final Appeal that, for the purposes of the benefit requirement, the benefit must flow from the making of a winding-up order, and not from any leverage arising from the prospect of such an order being made.

The Court of Final Appeal emphasised the need to apply the three core requirements contextually in light of the facts and pragmatically. It was not correct to focus on one single criterion (e.g. carrying on business in the jurisdiction, the establishment of a place of business, or the presence of assets).

Similarly, a pragmatic approach should be taken in assessing benefit of a winding-up petition. The essential consideration was whether there was a reasonable possibility of a sufficient benefit to the petitioner. The rationale of the benefit requirement was to ensure that the winding-up process would serve some useful purpose to the petitioner, and the threshold is low.

The Court of Final Appeal confirmed that commercial pressure to achieve the repayment of a debt would constitute sufficient benefit. This was influenced by the consideration that it has long been considered legitimate to enforce payment of an undisputed debt by invoking the statutory demand mechanism to threaten the making of a winding-up petition. Accordingly, in the context of disputed debts, benefit under the benefit requirement should not be restricted to that arising from making of a winding-up order, and need not be monetary or tangible in nature.

Notably, the Court of Final Appeal distinguished a creditor’s petition (e.g. this case) from a shareholder’s petition to wind up a company on just and equitable basis (e.g. in Yung Kee). How the three core requirements should be applied in the two cases should therefore be different, and certain circumstances may weigh more heavily in one case than the other.

In deciding that the leverage created by the prospect of winding-up was sufficient benefit, the Court rejected certain arguments raised by Shandong Chenming:

• Shandong Chenming argued that the success of leverage was predicated on the winding-up being avoided by debt repayment before the making of the winding-up order, and should fall outside the scope of benefit. This was rejected for being based on a false premise. Leverage is in the background of any civil litigation, and would not disappear upon the making of a winding-up order. In this case, the leverage stemmed from the adverse consequences on Shandong Chenming’s listing status on the Stock Exchange of Hong Kong. Leverage benefit arising from the presentation of a winding-up petition should not be excluded from the benefit requirement, even if it may also have had a useful impact before the making of the winding-up order.
• Shandong Chenming argued that the interpretation of the core requirements must be informed by their limitations and the principle of non-interference under the rationale of comity. This was rejected because, while comity was relevant to the first requirement, it had less relevance under the second requirement. Given that the first and third requirements were accepted as satisfied, it would be inappropriate to permit a backdoor challenge to whether the first requirement was met.

In addition, the Court of Final Appeal upheld the Court of Appeal’s judgment that the benefit requirement was not subject to moderation. Since the inquiry under the benefit requirement already provided flexibility as to the nature or extent of the benefit that should be shown, the possibility of further moderation would be inappropriate.

Conclusion

The Court of Final Appeal reaffirmed that the three core requirements remain essential to the exercise of the Court’s discretion in relation to section 327 of CWUMPO. It has also reiterated the importance of the “benefit” requirement, while confirming its inherent flexibility.

On the nature of the requisite benefit, there were first instance decisions which suggested that the benefit should be a tangible one, and should be proven by evidence (see, for example, our previous blog post here). However, the Court of Final Appeal has now held that the benefit need not be tangible, and the threshold for showing such benefit is a low one. In the context of creditors seeking redress for unpaid debts from a company with substantial connection to Hong Kong this is a welcome development.