A company’s receipt of a statutory demand and the threat of a winding-up petition can be a pivotal existential moment for the company if the company fails to respond appropriately. In this article, we examine what options a debtor company may have when it receives a statutory demand and seeks to resist the winding-up petition. If you’d like more information about Hong Kong insolvency law or seek representation in winding-up proceedings, please contact one of our dispute resolution lawyers
Table of Contents
Under the Companies (Winding Up and Miscellaneous Provisions) Ordinance (“CWUMPO”), a company may be wound-up if it is unable to pay its debts. This power to wind-up extends not only to companies incorporated in Hong Kong under the Companies Ordinance but also to companies incorporated outside Hong Kong with a place of business in Hong Kong and substantial assets and creditors in Hong Kong.
Statutory Demand
The typical means of beginning the winding-up process is for a creditor to issue a special type of demand referred to as a “statutory demand”. Where a debtor company fails to pay the debt demanded or to otherwise secure or compound it within 3 weeks, CWUMPO deems the debtor company to be unable to pay its debts. By reason of this deeming provision, the creditor can now petition to wind-up the debtor company.
A statutory demand is sometimes deployed by creditors where debtors have failed to make payments and sometimes by contractual counterparties who allege a failure by another counterparty to perform their obligations under the contract. A statutory demand places significant pressure on a debtor company to pay as the failure to pay may, without an appropriate tactic to resist the winding-up, result in the liquidation of the debtor company. This is so even if the debtor company is in fact solvent.
Bona Fide Substantial Dispute
A common tactic to resist a winding-up order is to assert a bona fide substantial dispute as to the debt. In this regard, the burden is on the debtor company to establish that there is a genuine dispute as to liability on grounds that have substance and that are not frivolous. The company must put forward sufficiently precise factual evidence to substantiate its claim as to the dispute. The companies court then typically approaches the available evidence with a critical eye not for the purpose of trying and resolving the dispute but with a view to determining whether in fact a genuine substantial dispute exists.
By way of illustration, in a recent 2023 case, a contractual counterparty served a statutory demand on the other party to the contract demanding refund of a payment made under the contract. The contractual counterparty alleged that the other party to the contract had repudiated the contract by failing to deliver the NFT marketplace platform for which it had been paid. When the other party to the contract did not issue the refund following the statutory demand, the contractual party petitioned for the winding-up of the other party.
The court granted a summons to strike out the winding-up petition, finding there was a genuine dispute because the other party presented credible evidence showing they had performed substantial work, including multiple design versions of the NFT Marketplace. The court found the winding-up petition to be an inappropriate method to resolve the contractual dispute. As a result, the court concluded that the company had a bona fide defense, making the winding-up petition an abuse of process.
Debt Fully Secured
Where a creditor seeks to wind-up a debtor company and the creditor holds security, a debtor company may be able to resist a winding up by arguing that the value of the security exceeds the value of the debt, so that the winding up petition should be rejected. This is a common scenario when a debtor company uses real properties to secure a loan but later on the company becomes unable to repay the loan.
While a secured creditor may petition for the winding up of a debtor company and can decide whether to rely upon security or to take part in the liquidation after a winding-up order is made, the court has the discretion to refuse a winding-up order where security has been furnished for the whole amount of the debt demanded. In determining whether security has in fact been furnished for the whole amount of the debt demanded, the test is what amount would the security command “if put into the market” for sale.
A recent case demonstrates the court’s approach towards the question of whether it would grant a winding-up order in light of an argument that the debt was fully secured. In that case, the petitioner finance company issued a statutory demand for repayment of $506 million under a loan and, when the demand went unsatisfied, petitioned to wind up the debtor company. As the loan was secured by a first charge over a property in Hong Kong, the debtor company argued that the value of the secured property exceeded the debt. However, the property valuations to support the debtor company’s claim conflicted, with one report valuing the property at $528 million and another at $495 million. In these circumstances, the court dismissed the debtor company’s arguments, noting that the evidence did not conclusively show the property’s value was sufficient to cover the debt and holding it was inappropriate to hold a trial on the value of the property. In this regard, the court noted that the debtor company could have (but did not) put the property to market to meet the debt if it believed the value of the property was sufficient and emphasized the statutory wording that once a statutory demand is presented by the creditor, if the company wishes to secure the debt, it is necessary to secure it to the reasonable satisfaction of the creditor.
On-going Restructuring
A debtor company may seek to oppose or defer a winding-up order on the basis that there is a reasonable prospect of being able to restructure and compromise its debts, thereby restoring its solvency. In this regard, it may seek an adjournment from the Court on the hearing of the petition either based on the consent of the creditors who have filed a notice of intention to appear at the hearing of the winding-up petition or on the basis that there is some useful purpose in adjourning the petition to pursue a restructuring or scheme of arrangement. In this latter regard, to meet this test, the Court will often require the debtor company to demonstrate to the Court that a concrete and financially viable restructuring proposal or a scheme of arrangement has been prepared and put forward to the creditors for their consideration and such proposal or scheme has at least in-principle support of the requisite majorities of creditors. It is not enough for the debtor company to point to certain commercial discussions with some creditors or to make a general assertion that it has been actively pursuing a restructuring proposal.
In the recent high-profile China Evergrande case, the debtor, a property developer listed on the Stock Exchange of Hong Kong, admitted that it was grossly insolvent and unable to pay its debts. However, it sought to oppose a winding-up petition on the basis that it would put forward a comprehensive restructuring which, if implemented, would restore its solvency.
Despite the objection of the debtor which had petitioned for the winding-up, the Court adjourned hearings of the petition on September 5, 2022, November 28, 2022 and March 20, 2023 on the basis of affidavit evidence tendered by the debtor at each hearing in respect of the substantial progress made towards a proposed restructuring over the course of this time period.
As part of the proposed restructuring, the debtor had (i) entered into term sheets for schemes of arrangement which sought to arrange and compromise the debts owed by the debtor with effect from September 29, 2023, (ii) entered into restructuring support agreements to facilitate the implementation of the schemes, and (iii) obtained court directions for meetings of creditors to approve the schemes.
However, by the hearing on October 30, 2023, given a further deterioration in business, questions from creditors in respect of the schemes and regulatory hurdles in implementing the schemes, it became clear the schemes could not be implemented. The Court nevertheless granted a further adjournment on the basis a majority of creditors supported a further opportunity to achieve a restructuring and on the understanding that if the debtor could not come up with a restructuring proposal that would satisfy regulatory requirements and had the requisite support of majorities of creditors, the Court would make a winding-up order.
At the hearing on January 29, 2024, the Court concluded there was no “useful purpose or utility in granting a further adjournment”:
- There was no evidence of any substantial in-principle approval from creditors in favour of another adjournment
- There was no restructuring plan in place. There was no detail or analysis on returns to creditors under the plan then under discussion
- There was no clarity as to the funding available for the restructuring
- There was no timetable for the restructuring
In the circumstances, the Court made a winding-up order.