KENWORTH ENGINEERING LTD v. DICKSON CONSTRUCTION CO LTD

HCCW47/2006

 IN THE HIGH COURT OF THE

HONG KONG SPECIAL ADMINISTRATIVE REGION

COURT OF FIRST INSTANCE

COMPANIES WINDING-UP PROCEEDINGS

NO. 47 OF 2006

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D E C I S I O N

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1.  I have come to the following decision in relation to this matter.  I am satisfied on the basis of the material currently before me that the scheme that has been put forward by the Company is not one that can be described as being so obviously doomed to failure as to be not viable at this stage. 

2.  In relation to the two principal points as to classification that have been raised, it seems to me that, in relation to the question of the threshold payment for small creditors, it is at least arguable that it is in the interests of all unsecured creditors to agree to a scheme that provides for a threshold payment which will cover the claims of small creditors and a distribution, by way of dividend, in relation to the balance of each unsecured creditor’s claims, in that this may provide, as the Company has suggested, savings in relation to the administration costs of the scheme such as would result in an enhanced recovery by all creditors over that which they would receive in a liquidation scenario. 

3.  In those circumstances, it seems to me that it is at least arguable that while the treatment of the unsecured creditors under the scheme will be the same in terms of the principle for payment that will be applied to them, namely, a uniform payment plus a dividend.  The impact on each creditor, of course, may well differ depending on the amount of the claim that each creditor has.  However, it seems to me that the difference that arises out of the fact that each unsecured creditor may have a claim in a different amount from the other unsecured creditors may not, in the circumstances, mean that the rights that they have under the scheme are different or, to the extent that they are different, are so different that it is impossible for them to consult together as to what is in their common interest.  Although I do not express any concluded view on that aspect of the matter, it seems to me that it is at least arguable that that is correct.  In those circumstances, I do not think I can say, at this stage, that the scheme is not viable on that ground alone.

4.  So far as the question of the doubtful security is concerned, this relates to security that had been given to four of the Company’s bankers in the period of six months prior to the presentation of the petition against it, over certain contract receivables or other claims that the Company has against either employers or other contractors.  In relation to this, I think it is relevant to bear in mind that, in the event that the scheme succeeds, there would appear to be no basis in any event for the Company to actually challenge those claims, since the power to challenge security given within six months of the liquidation of a company only arises in the event of a liquidation and would appear only to be vested in the liquidator of the company, who would then be in a position to take steps to challenge such preferences or such security.

5.  In the event that the scheme goes through, therefore, there would be no basis, as far as I can see, on which the Company would be able to challenge the doubtful security.  It is fair to say that, in the event that the Company were to be wound up, it is accepted by the Company that it is likely that a liquidator would wish to challenge, or at least to consider challenging, the validity of the security that has been granted to the banks.  That said, however, I think it also fair to note that to do so will involve the liquidator in expense and in litigation and that the outcome of those proceedings cannot be said to be certain. 

6.  That said, it seems to me that as far as the banks are concerned, at the end of the day, in a liquidation, they would either be admitted to proof for the full amount of their claim in the event that their security was declared invalid, or for the net amount of their claim after deduction of the value of their security, which they would have to value if they were to seek to prove in the Company liquidation. 

7.  Under the scheme, what is proposed is that they should be permitted to participate as unsecured creditors, along with other unsecured creditors, for the net amount of their claim after giving credit for the value of the security that they hold.  Any dispute as to the valuation of the security and thus the extent to which they would be able to vote in the meeting, if one is held, of scheme creditors, will have to be determined by the chairman of the meeting and, in my view, it is not something that would be susceptible to challenge unless it could be shown that the chairman either acted in bad faith in valuing the amount of the debt, or, perhaps, was manifestly wrong in the valuation which he accorded to the net unsecured debt.

8.  Again, I regard the question of whether or not the unsecured creditors who also hold doubtful security and are, therefore, to some extent, secured, should be classified together with other unsecured creditors as far as the unsecured portion of their debt is concerned, to be one which is at least arguable.  Again, this is not a matter that I decide one way or another today.  However, even if the position is that their interests are different because of the existence of the securities, so that they would have an interest in voting for the scheme so as to avoid the possibility of a challenge to their security, this is something that can be taken into account, if necessary, in considering whether or not the scheme should be sanctioned.

9.  I would also add that, looking at the figures that have been put forward in relation to support – and I will come in a moment to deal with the basis on which those figures should be looked at – if one proceeds on the basis that the Company has, which is to take the total of the value of the debt of creditors who have actually responded, either positively or negatively, to the proposed scheme, if one were to exclude the bank creditors who hold doubtful security from the equation in respect of the unsecured portion of their claim - the figures for which appear in the table that was annexed to Mr Dawes’s skeleton for today’s hearing - it would appear that there would still be a majority in favour of the scheme of some slightly over 76 per cent of the creditors.  That is a figure that is arrived at by adding together the various unsecured creditors, other than the banks with doubtful security on the one side, as being for the scheme, and on the other side, all of the unsecured creditors who have indicated that they are against the scheme, including the banking creditor which is not the beneficiary of a doubtful security. 

10.  In those circumstances, it may be that if the position were that the creditors holding doubtful security do not form a separate class, so as not to be a factor going to the jurisdiction of the court to sanction a scheme where no separate class meeting has been held in respect of them, the court, in exercising its discretion, may well take into account both the motivations that might be at play in relation to those creditors but, at the same time, also take into account the outcome if those creditors were excluded from voting, and come to a view that if, nonetheless, there was an adequate majority in favour of the scheme, the scheme should nonetheless be sanctioned, even though those creditors were allowed to vote and their votes were counted.

11.  That brings me to the third and perhaps final matter in relation to this application, and that is the question of the approach that the court should take when faced with an application to wind up a company under a petition brought against a company where the company has indicated that it wishes to explore or pursue the possibility of a scheme of arrangement whereby it can enter into a compromise with all of its creditors in respect of the debts that it owes them. 

12.  This has been the subject of consideration in a number of cases in this jurisdiction and the approach of the court has most recently be summarised by Kwan J in Re APP (Hong Kong) Limited [2005] 1 HKLRD 272.  In that case, Kwan J reviewed the authorities on this matter and summarised them in the following terms.  She said (at p.281, para 26 of the judgment):

“What the Company is required to demonstrate on the evidence for the present, that is, at the stage at which we are today, has been expressed in various terms.  First, reasonable prospects of the scheme obtaining the approval of the majority (that formulation had been taken from Re UDL Holdings Limited).  Alternatively, the making of a viable scheme with evidence of adequate support both in number and value (the formulation taken from Re Golden Dragon Land Development Limited); and the framework of a viable restructuring which has the in-principle support of a significant majority of the creditors who wish to see the restructuring proposal proceed further (Re Hong Kong Brewing and Restaurants Limited).”

Kwan J concluded by saying that she did not think that the onus on the company to establish the viability of a proposed scheme at the present stage of the proceedings was unduly high. 

13.  It seems to me that that must be right.  In the present context, while it is undoubtedly right that a company will have to succeed in obtaining the support of 75 per cent by value and 50 per cent in number of creditors present and voting at a scheme meeting in order to obtain the successful passing of a resolution in favour of this scheme, it is rarely going to be possible for the company to have a complete picture, at a time prior to the meeting being held, as to how the voting is going to turn out.  What the company is required to do is to obtain indications from its creditors as to their attitude to the scheme that is proposed.  In doing so, it will generally be desirable for the company to indicate, in general terms at least, the nature of the proposals being put forward and to provide the creditors with some information to enable them to come to a view as to whether they consider, at that preliminary stage, that it would be in their interests to support or oppose the scheme. 

14.  In this case, it seems to me that the Company has, to a large extent, done this by writing to the creditors to ask them whether or not they are minded to support the scheme.  At this stage, the Company has received responses from a substantial portion of its creditors, although by no means all of them.  If one takes into account only the creditors who have responded, the evidence shows that there is somewhere slightly in excess of 75 per cent in favour of a scheme of arrangement along the lines proposed.  If one factors in those creditors who have not responded and assumes that they will oppose the scheme, one has a figure of somewhere in excess of 64 or 65 per cent. 

15.  On either basis, it seems to me that it is fair to describe that as substantial support for the scheme and it seems to me that when one factors in the possibility that not all creditors will attend or vote at the meeting, that the court can say, in terms of the formulation in UDL Argos Engineering Heavy Industries Co. Ltd v Li Oi Lin [2001] 3 HKLRD 634, that there are reasonable prospects of the scheme succeeding.

16.  One factor that has been raised and pressed by the Petitioning Creditor and the Supporting Creditors relates to the quality of the information that was provided to creditors in order to enable them, when they were asked, to express their views on whether or not they would support the scheme.  It is fair to say that the information that was provided was limited.  However, I think it is also relevant to bear in mind that, at this stage, one is usually at a relatively early stage in the proceedings and while the Company must, of course, not provide a false picture to the creditors, if it has provided, in good faith, a picture that it believes to be a reasonable one, it seems to me that the court will not necessarily be quick to come to a contrary view at this early stage. 

17.  Of course, when the matter comes to be dealt with in the context of the proceedings for the convening of the scheme meeting and, ultimately, the sanction of a scheme if this meeting of creditors votes in sufficient numbers and value in favour of the scheme, the court will look closely at the disclosure and the information that has been supplied by the Company to the creditors to consider whether or not the Company has given a fair presentation to the creditors to enable them to form a reasoned view as to where their interests lie. 

18.  At this stage, the principal criticism that was made was in relation to the omission from the potential recovery in a liquidation of the claim that the Company believes it has against the Hong Kong Housing Authority.  As to that, it seems to me that although that claim was left out of account in the liquidation scenario altogether, and was left out of account in the restructuring scenario in relation to the portion of those claims that related to contract moneys withheld by the Housing Authority which would, under the scheme, accrue to the benefit of scheme creditors, the omission could well have been a reasonable decision on the part of those drafting the liquidation analysis, or the comparison between liquidation and restructuring, having regard to uncertainties as to the recoverability of those amounts. 

19.  It is also, I think, worth noting that it has also been submitted by Mr Li, for the Supporting Creditors, that in fact there is a real possibility that the Company will not only fail to recover anything in respect of withheld contract moneys and damages, but may face, on the other side of the scale, a substantial claim by the Housing Authority against it in respect of its failure to complete various projects in relation to which it was a contractor.  In those circumstances, it is perhaps understandable that those figures were left out of account and that no specific mention of them was made when the matter was first put to the creditors.  But as I say, at this stage, it seems to me that the Company has put forward to the creditors what it appears to believe is the likely outcome on both the liquidation and restructuring scenarios and, in the circumstances, I am not persuaded that the information that the Company has provided to the creditors can be characterised as being so seriously deficient that the responses that it has received should be discounted or ignored altogether.

20.  In those circumstances, given the responses that have been received, it seems to me that, at this stage, the Company has demonstrated that it has reasonable prospects of success in pursuing the scheme that it proposes to pursue.  No doubt, in the context of its application for leave to convene scheme meetings, and in the context of the explanatory statement that it will have to prepare and send to all the creditors, it will have to give careful consideration to the way in which matters such as the merits of the claim and potential counterclaims, I suppose, by the Housing Authority, are to be dealt with in those documents. 

21.  The Company is well aware of these matters, as they have been raised at this hearing, and also earlier hearings, by the creditors who are opposed to the scheme, and the Company will have to take a decision as to how to deal with these matters and run the risk that if it does not deal with them adequately or fairly so as to give the creditors a full and clear picture of the relative merits of a winding-up as opposed to a restructuring, it may find that, as the company did in Re Cheer City Contractors Ltd [2004] 3 HKC 165, that it will fail to obtain the sanction of the court for a scheme, even if one is supported by an adequate majority of creditors, as a result of the inadequacy of the information that it has provided to the creditors.

22.  However, for the reasons which I have just given, it seems to me that, at this stage, the Company has demonstrated the makings of a viable scheme, or at least one that is reasonably arguably viable, and that it has also demonstrated, at this stage, an adequate level of support to justify the Court in further adjourning the winding-up petition against it to enable it to proceed with its application to convene a scheme meeting.  That application is to be heard on 25 July 2006, before Kwan J.  Given that that is the date of the hearing, I propose, at this stage, to adjourn the further consideration of the winding-up petition to 31 July 2006 at 9.30 before the Companies Judge.  In the event that the hearing on 25 July does not result in a conclusion one way or another, it will of course be open to the parties to vacate the hearing date on 31 July, if they wish to do so, and have the matter adjourned to a later date.

(Submissions and decision on costs)