The Time Is Ripe: Introducing a Corporate Rescue Procedure
On May 13 2009 Secretary for Financial Services and Treasury Professor KC Chan announced that the government is considering the introduction of a new corporate rescue procedure that would provide a statutory grace period for companies facing short-term financial difficulty, allowing them to restructure their business and ride out the financial crisis.
Chan stated that the government is reviewing the Companies (Corporate Rescue) Bill, which was presented to the Legislative Council in 2001, and is planning to conduct a public consultation on the principle and conceptual framework of the proposed statutory procedure in the fourth quarter of 2009. He expects the bill to be submitted for scrutiny in the second half of 2010.
The procedure proposed in 2001 was intended to assist companies that are in financial difficulty, but have a potentially viable business to restructure. It was also intended to benefit shareholders by giving them a better return from a rescued company than they would obtain from a winding-up procedure. The Second Legislative Council started scrutinizing the bill, but the government requested that it be held in abeyance.
Existing Statutory Regime
Hong Kong lacks a formal corporate rescue regime. The only mechanism available to a company seeking to restructure is the scheme of arrangement procedure under Section 166 of the Companies Ordinance (Cap 32). However, this does not provide a moratorium on creditors’ actions while an arrangement plan is being assembled; rather, a moratorium is imposed only once a winding-up order has been made or a provisional liquidator has been appointed.
The problem is that if a company is in provisional liquidation or is being wound up, the court must be satisfied that the company is insolvent and its assets are in jeopardy. This may be inappropriate, especially for companies in the ongoing economic downturn which are facing a short-term crisis due to the market crash, but which are not yet insolvent and whose assets are not in jeopardy.
Scope of application
Under Part 1 of the bill, the corporate rescue procedure may be initiated by a company or its directors or liquidators. The procedure applies to local and overseas companies formed or registered under the ordinance. However, it does not apply to various entities, including:
- authorized institutions regulated by the Banking Ordinance;
- authorized insurers regulated by the Insurance Companies Ordinance;
- registered entities under the Securities and Futures Commission Ordinance;
- exchange controllers regulated by the Exchanges and Clearing Houses (Merger) Ordinance; and
- licensed leveraged foreign exchange traders regulated by the Leveraged Foreign Exchange Trading Ordinance.1
Appointment of provisional supervisor
Part 2 of the bill provides for a provisional supervision regime whereby a company in financial difficulty can have a moratorium imposed during that period so that it is protected from creditors’ action while an independent third party prepares a restructuring plan.
The independent third party – a professional accountant or solicitor – will be appointed to control the company as the provisional supervisor.2 He or she will formulate a proposal for a voluntary arrangement to be considered by the creditors.3 If the proposal is accepted, the supervisor will put the voluntary arrangement into effect; otherwise, he or she will wind up the company as a creditors’ voluntary winding-up.4
Under Part 3, a moratorium starts when provisional supervision commences. During the moratorium, no application for winding up can be commenced or continued, receivers cannot be appointed and all proceedings are stayed. There are a few exceptions, including insider dealing proceedings and proceedings in relation to the Securities and Futures Commission. The moratorium period is 30 days, but the court may extend it to up to six months.5
Outstanding wages and entitlements owed to employees
Schedule 2 introduces a requirement that a company wishing to enter into provisional supervision must submit an affidavit declaring that the company (i) has paid all of the debts and liabilities that it owes under the Employment Ordinance, including arrears of wages, severance pay and other statutory entitlements, or (ii) has trust account arrangements whereby sufficient funds are set aside to make such payments.
Schedule 8 covers insolvent trading. Sections 295(A) to (E) will be added to Section 295 of the Companies Ordinance. Section 295(B) allows the liquidator to make an application to court to declare that directors and senior management are personally liable for company debts in liquidation that arose from trading while the company was insolvent. However, directors and senior managers will not be personally liable if they can prove that they gave proper warning or took appropriate action.
The point that attracted the most attention during the public consultation periods was the provision requiring a company to settle its outstanding wages and entitlements to employees before going into provisional supervision. The business and banking sectors, as well as legal commentators, have raised the obvious question of how a company in financial difficulties is supposed to find sufficient funds to pay all employees their full wages, let alone their entitlements. This will undoubtedly limit the availability of the corporate rescue procedure if a company has significant arrears to employees, whereas the point of provisional supervision is to provide companies with an alternative to winding-up.
A government consultation paper issued in September 2002 proposed a cap on such payments to bring the amounts payable by employers in provisional supervision into line with the amounts that employees would receive in a compulsory liquidation. However, this cap would still require companies to pay an average of HK$250,000. When the consultation ended in November 2003, most respondents supported the proposed cap.
The proposed corporate rescue procedure has a statutory framework with minimal court involvement, but with the advantage of a moratorium during the period in which the company is formulating its restructuring plan.
The government is reviewing the bill and it will be interesting to see the position it adopts on the most controversial issue: will it adopt the proposed cap on the payments of employees’ wages and entitlements, maintain that they should be paid up in full or even drop the requirement?
If a new corporate rescue procedure were enacted, it would undoubtedly result in a greater number of successful corporate rescues in Hong Kong, especially as the worst of the economic downturn may be yet to come.
More importantly, it would bring Hong Kong’s corporate rescue statutory regime into line with those of other jurisdictions, including the United States, the United Kingdom and Australia, which have had effective corporate rescue procedures for some time.