Restructuring Provisional Liquidators May Not Be Dead After All

Introduction

The restructuring officer (RO) regime came into force nearly two years ago.^[1]  It was intended to create a fit for purpose framework under which distressed entities (typically companies) could restructure.  It was also introduced against the backdrop of growing criticism in other jurisdictions, principally Hong Kong, of the prior approach of appointing joint provisional liquidators (JPLs) to allow a company to stave off enforcement action and pursue a restructuring.^[2]

At the same time as the RO regime was introduced, the grounds for appointing JPLs upon the application of the company were amended.  Gone was the fact that “the company intend[ed] to present a compromise or arrangement to its creditors” – with a slightly amended version of that ground being moved to become part of the test for the appointment of ROs.^[3]  In its place was a general catch-all test that “the Court may appoint a provisional liquidator if it considers it appropriate to do so.”^[4]

It was fair to assume, therefore, that the legislature had intended that applications to appoint insolvency practitioners to assist with a restructuring would generally be made under the RO regime rather than following the previous JPL approach.  However, in Re Kingkey Financial International (Holdings) Ltd (Kingkey) [link to judgment], the Grand Court accepted that there may be circumstances where, notwithstanding the legislative amendments, JPLs may be the preferred option.^[5]

The Facts

Kingkey Financial International (Holdings) Ltd (the Company) is a Cayman company, listed on the Hong Kong stock exchange.^[6]  It is the holding company for several operating subsidiaries.^[7]  Its board comprised executive and non-executive directors, including a Mr Chen who held approximately 37 per cent of the shares.^[8]

The Company was in a difficult financial position.  It had substantial current liabilities and had already been served with a statutory demand.^[9]  The Company had made attempts to raise capital.  Management concluded that the cheapest and most efficient option was a share issuance.  A share subscription deal was reached with an investor and was approved by a majority of the board.^[10]  Mr Chen dissented and responded by bringing proceedings in Hong Kong seeking to restrain the board from completing the share subscription.  He successfully obtained an interim injunction in Hong Kong.^[11]

Around the same time, the board received various allegations that Mr Chen had engaged in market manipulation, which he “strenuously denied”.^[12]  Mr Chen proceeded to requisition an EGM to replace the board.  Shortly thereafter, another shareholder sent a rival requisition to replace Mr Chen.^[13]

Given the conflicts involved, a special committee of the board was formed comprising the non-executive directors.^[14]  The special committee concluded that given the need to develop a restructuring plan as soon as possible, the Hong Kong proceedings, and the ongoing management disagreements, it was desirable to involve neutral and independent third parties in the Company’s management until the issues were resolved.^[15]  They therefore caused a winding up petition to be filed in the Cayman Islands, together with a summons seeking the appointment of JPLs.^[16]

The Decision

Asif J began by accepting that it was “likely to be of more utility in this case to appoint provisional liquidators than a restructuring officer.”^[17]  That was for two reasons:

• Firstly, the Judge found that it was implicit in the statutory language that boards of directors would retain some powers notwithstanding the appointment of ROs.  In particular, the Judge referred to s 91B(5)(b) which requires that the Court spell out in the order appointing ROs “the manner and extent to which the powers and functions of the restructuring officer shall affect and modify the powers and functions of the board of directors”.  The Court is also empowered under s 91B(5)(c) to impose any other conditions on the board that it considers appropriate.  Based on that language, the Judge concluded that there is a “built-in presumption” that the board will retain “at least some powers and functions”.^[18]  And in this case, given the disagreements within the board, the appointment of ROs alone was likely “to be inadequate to address the current issues within Kingkey.”^[19]
• Secondly, the Judge accepted a submission that “there may be difficulties in obtaining recognition in other jurisdictions of the appointment of a restructuring officer and in obtaining any assistance from a foreign court for such an office holder.”^[20]

The Judge then addressed the fact that, as noted above, the test for the appointment of JPLs upon the application of the company is now broader and less prescriptive.  The Court may appoint JPLs where it considers such an appointment would be “appropriate”.^[21]  The Judge concluded that in this case JPLs would have been appointed “even if the more restrictive language of the former version of s 104(3) applied” (referring to the statutory test for the appointment of JPLs).  The Judge accordingly declined to address the interaction between the test for the appointment of JPLs and the RO regime, and “whether the new wording of s 104(3) expands the circumstances in which the court will be willing to appoint provisional liquidators.”^[22]

The Judge proceeded to find that the appointment of JPLs was appropriate on the facts.  The Company’s financial position was “perilous” and it was “easy to infer” that a restructuring would provide a better outcome for stakeholders.^[23]  While there was not a detailed restructuring plan before the Court, prior cases illustrated that this did not preclude the appointment of JPLs.^[24]  Moreover, in this case, the feasibility of a restructuring was demonstrated by the prior plans that were thwarted only by Mr Chen obtaining injunctive relief in Hong Kong.^[25]  The Judge also took into account the ongoing disagreements between the parties, and the need for independent parties to come in and provide stability while the issues were resolved.^[26]

For those reasons, the Court granted the application to appoint JPLs.^[27]

Analysis

The Kingkey decision must be seen in the context in which it came to Court.  It was ultimately not opposed.^[28] That means the Court did not have the benefit of full argument – including in relation to the points raised below.  Moreover, the fact that the restructuring attempts occurred in the context of an apparent breakdown in the company’s corporate governance arguably distinguishes this case from the usual run of restructuring cases.^[29]  Still, there are three aspects of the decision that will likely arise in future cases and merit further consideration.

The first is the relationship between the RO regime and the Court’s power to appoint JPLs.  While the Judge declined to express a view on this issue,^[30] by appointing JPLs in circumstances where, on its face, the RO regime seemed to be the applicable path for the Company, it is implicit that the Court considered the RO regime is not the exclusive option for distressed companies.  There may therefore be a residual role for JPL applications even in cases where facilitating a restructuring is the primary motivation for the application.

That conclusion finds some support in the broad language of s 104(3).  From a practical perspective, it also makes sense to give practitioners and ultimately the Court more options when it comes to responding to a particular set of circumstances.  For example there may well be cases where the need to restructure sits side by side with the need to have independent persons appointed to respond to fraud or other serious circumstances.

However, counselling against a general residual discretion to appoint restructuring focused JPLs is the structure of the Act and the legislative history.  The Court in a future case might perhaps conclude that, absent special circumstances, it is not “appropriate” to appoint JPLs to pursue a restructuring in circumstances where the legislature has recently introduced a specific regime for that very purpose.

That leads to the second and third points, which concern the reasons the Company cited as explaining the decision to apply to appoint JPLs rather than ROs.^[31]

The second point is the suggestion that, in apparent contrast to a JPL appointment, the RO regime requires that a board of directors retain some powers and functions.  Two points arise:

• First, there is a good argument that this is an inappropriate gloss on the statutory text, which by its terms allows the Court to define in any given case the respective powers and functions of the ROs and the board.  That is particularly in circumstances where the early RO cases have emphasised the broad discretion available to the Court under the RO regime.^[32]  If appropriate, the board’s powers and functions could be suspended entirely.  Using the language in s 91B(5)(b), the powers and functions of the ROs would modify the powers and functions of the board in a complete “manner” and to the full “extent”.  But that would need to be justified on the facts.
• Second and relatedly, the suggestion that JPLs have greater scope to displace the board than ROs, which the Court appears to have accepted, may not be sustainable.  It has always been the case that the Court would fashion the powers of JPLs to meet the facts and circumstances of the particular case, and that the appointment of JPLs would not in and of itself displace the board.  The Court would decide the appropriate balance of powers and functions when making its order appointing the JPLs.^[33]  That same determination is envisaged under the broad discretion afforded to the Court under s 91B(5)(b).  There is therefore a good argument that the position with respect to JPL appointments and RO appointments is closer than Kingkey would suggest.

The third point is the submission,^[34] accepted by the Court,^[35] that ROs may be less likely to obtain recognition and assistance from foreign courts.  The likelihood of recognition and the provision of assistance is ultimately a matter of foreign law.  Accordingly, if it is likely to be an issue, this may be addressed in expert evidence by a practitioner in the relevant foreign jurisdiction.^[36]  It does not appear from the judgment that the Court had the benefit of such evidence in the Kingkey case.

However, as a general point – and putting to one side issues of COMI which arise equally in relation to JPL appointments – there is no reason to think that a RO proceeding would not be recognised in a Model Law jurisdiction.^[37]  Under the Model Law, “foreign proceeding” – being one eligible for recognition and assistance – is defined as a “collective judicial… proceeding in a foreign State… pursuant to a law relating to insolvency in which proceeding the assets and affairs of the debtor are subject to control or supervision by a foreign court, for the purpose of reorganization or liquidation”.^[38]  That would seem to squarely apply to RO proceedings, and it is hoped that foreign courts would accordingly grant recognition of them.

That is not to say the Cayman Court does not need to be mindful of recognition issues in RO cases.  In Re Aubit International, Doyle J emphasised the importance of ensuring the RO regime was applied in a manner that would most likely be seen as legitimate and worthy of recognition in foreign courts, particularly Hong Kong:^[39]

“It is especially important to the Cayman Islands that the Hong Kong judiciary recognise and provide assistance to ROs appointed by the Grand Court of the Cayman Islands.  To enhance confidence in such appointments it is equally important that the Grand Court guard against any potential abuse of the restructuring officer regime.”

Conclusion

Kingkey reflects the breadth of the Court’s jurisdiction to appoint JPLs and suggests that there may be a greater continued role for restructuring JPLs than was previously assumed.  However, for the reasons addressed in this article, we expect that many of the issues raised in Kingkey will be addressed again in future cases.

^[1] It came into force on 31 August 2022.  To date, there have only been four RO petitions that have been heard: Re Oriente Group Ltd (unrep., 8 December 2022, Kawaley J); Re Rockley Photonics Holdings Ltd (no judgment is available but an order was made by Ramsey-Hale CJ on 14 February 2023); Re Aubit International (unrep., 4 October 2023, Doyle J); and Re Holt Fund SPC (unrep., 26 January 2024, Kawaley J).
^[2] See for example Re China Bozza Development Holdings Ltd [2021] HKCFI 1235 at [4], [17]-[18] and [22]-[24]; Re Victory City International Holdings Ltd [2021] HKCFI 1370 at [22]-[23]; and Re GTI Holdings Ltd [2022] HKCFI 2598 at [1].
^[3] Companies Act (2023 Revision) (Companies Act), s 91B(1).  This was previously found at s 104(3) as it stood prior to 31 August 2022.
^[4] Companies Act, s 104(3).
^[5] re Kingkey Financial International Holdings Ltd (unrep., 12 April 2024, Asif J).
^[6] At [5].
^[7] At [6].
^[8] At [7].
^[9] At [9]-[13] and [17]-[19].
^[10] At [11]-[12].
^[11] At [13].
^[12] At [14].
^[13] At [15].
^[14] At [8].
^[15] At [20]-[21].
^[16] At [22].  The directors were authorised under the Company’s articles to present a petition, see [32].
^[17] At [33].
^[18] At [35].
^[19] At [37].
^[20] At [36].
^[21] Companies Act, s 104(3).
^[22] At [40].
^[23] At [41]-[42].
^[24] At [43]-[44].
^[25] At [45].
^[26] At [49].
^[27] At [52].
^[28] At [3] and [51].
^[29] See [49].
^[30] At [40].
^[31] See [23].
^[32] See for example Re Oriente Group Ltd (unrep., 8 December 2022, Kawaley J) at [9], citing Re Sun Cheong Holdings [2020 (2) CILR 942] at [35]; and Re Aubit International (unrep., 4 October 2023, Doyle J) at [126](3).
^[33] As is still required by O.4, r.7(3) of the Companies Winding Up Rules (2023 Revision).  See also FSD Guide at [C8.2(c)].
^[34] At [23].
^[35] At [36].
^[36] For a recent case that touches on this in passing, see Re MTBL Global Fund (unrep., 28 March 2024, Segal J) at [60].
^[37] While Hong Kong has not adopted the Model Law, foreign insolvency proceedings may still be recognised, and foreign representatives given assistance, under the common law.
^[38] UNCITRAL Model Law on Cross-Border Insolvency at Art 2(a).