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HCMP 1700/2007
IN THE HIGH COURT OF THE
HONG KONG SPECIAL ADMINISTRATIVE REGION
COURT OF FIRST INSTANCE
MISCELLANEOUS PROCEEDINGS NO. 1700 OF 2007
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IN THE MATTER of FALCON INSURANCE COMPANY (HONG KONG) LIMITED |
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and |
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IN THE MATTER of the Companies Ordinance, Cap. 32 of the Laws of Hong Kong |
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Before : Hon Kwan J in Court
Date of Hearing : 27 November 2007
Date of Judgment : 27 November 2007
Date of Handing Down of Reasons for Judgment : 30 November 2007
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REASONS FOR JUDGMENT
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1. This is a petition presented by Falcon Insurance Company (Hong Kong) Limited (“the Company”) for confirmation of the reduction of its share premium account, pursuant to sections 48B and 58 of the Companies Ordinance, Cap. 32, to the extent of HK$82,619,343.00 and HK$199,999,999.00.
2. The Company was incorporated on 7 October 1977 under its former name and its name had undergone several changes over the years. By a special resolution passed on 28 December 2001, its name was changed to its present name. It is currently a wholly owned subsidiary of FAL Corporation, a company incorporated in Mauritius, which is ultimately owned by Fairfax Financial Holdings Limited of Canada (“Fairfax Financial”), a listed company in Canada and the United States within the Fairfax group of companies (“the Group”).
3. Following its registration as an insurance company under the Insurance Companies Ordinance, Cap. 41 in 1980, the Company has since been principally engaged in general insurance business.
4. The present capital of the Company is HK$200 million, divided into 200 million shares of HK$1.00 each, all of one class, of which 175,000,001 shares have been issued and are fully paid up. All except one share are held by FAL Corporation, the remaining share is held by CRC (Bermuda) Reinsurance Limited.
5. As at the date of the presentation of this petition on 7 September 2007, the amount standing to the credit of the Company’s share premium account was HK$374,509,752.00, in addition to the paid-up share capital of HK$175,000,001.00. This has arisen as a result of several transfers of issued shares of the Company at a premium upon change of ownership between 1993 and 2002. There has been no withdrawal from the share premium account since its inception.
6. The credit balance of the share premium account includes a sum of HK$199,999,999.00 which arose from a promissory note (“the Promissory Note”) dated 21 April 1998 issued by Fairfax Financial in favour of Falcon Insurance Company Limited, which changed its name to Falcon (1998) Company Limited (“Falcon 1998”) on 23 July 2002. On 23 December 2002, the Company acquired 100% of Falcon 1998 from its immediate holding company at that time, Wentworth Insurance Company Ltd. (“Wentworth”). One ordinary share in the Company was issued to Wentworth at HK$1.00 as consideration in exchange for the beneficial ownership of the 14 million shares being the entire issued capital of Falcon 1998.
7. For the purpose of the allotment of one ordinary share in the Company to Wentworth, the Company filled in and lodged the relevant forms for filing at the Companies Registry stating that the nominal amount paid and payable for the allotment of one share was HK$1.00 and the premium amount paid and payable was nil. The Companies Registry however disputed the amount of premium on the share allotted as stated, so the Company by way of a directors’ meeting on 18 December 2003 resolved that the allotment of one share of HK$1.00 in the capital credited as fully paid up otherwise than in cash to Wentworth in exchange for the beneficial ownership of Falcon 1998 be taken as allotted at a premium of HK$199,999,999.00 (being HK$200 million less the paid up capital of HK$1.00) and that a share premium account in the amount of HK$199,999,999.00 be set up accordingly.
8. There is provision in the articles of association that the Company may by special resolution reduce its share capital and any capital redemption reserve fund or any share premium account in any manner allowed by law.
9. By a special resolution by way of a written resolution duly signed by the two shareholders on 14 May 2007, the Company resolved that any paid up capital which is lost be cancelled and the share premium account be reduced correspondingly by HK$82,619,343.00 and that such reduction be effected without cancelling any paid-up share capital but only by cancelling the share premium account by HK$82,619,343.00. And further that by mutual agreement between Falcon 1998 and the Company, the sum of HK$199,999,999.00 booked into the share premium account be reduced without cancelling any paid-up share capital.
10. The Company has suffered accumulated losses to the extent of HK$82,619,343.00 as at 31 December 2006. Such losses have been incurred over the period from 1 January 1998 to 31 December 2006. They arose from claims incurred (comprising, inter alia, claims paid, claims expenses, claims reserved and “incurred but not reported reserves”), commission paid, and administrative expense. They were attributable mainly to the loss in business in relation to the employees’ compensation insurance business and have been incurred as a result of the combined effect of poor underwriting performances and claim control, particularly in the years of 1998, 2000 and 2001. This was consistent with the general insurance market situation in Hong Kong for the period of 1998 to 2001. Losses were brought about when the payments of claims under the policies issued by the Company exceeded the premium income received and the investment returns on the Company’s assets. The amount of accumulated losses started to decrease from 2002.
11. As a result of the accumulated loss, the paid-up capital to the extent of HK$82,619,343.00 has been lost and is no longer represented by available assets. The loss ought to be eliminated by reducing an equivalent sum standing to the credit of the share premium account.
12. The directors are of the view that the losses attributable to poor underwriting performances should be regarded as permanent losses, in the sense that poor underwriting performances result mainly from claims experience deterioration. Once claims were lodged by the insured, approved and paid out by the Company, there was virtually no chance of recovery against the claimant unless the claimant is found to be fraudulent or otherwise in breach of the policy. As it is the practice of the Company to investigate any possible fraudulent claim thoroughly before making payment, the possibility of discovering fraud afterwards is extremely rare.
13. Recovery of claims against third party tortfeasors is rare and generally very low. In any event, recovery against third party had been reflected in the claims paid which are net of the recovered amount and already taken into account in the calculation of the accumulated losses. Between 1998 and 2006, the total amount recovered from third party tortfeasors was only HK$2,564,966.00, out of gross claim incurred in the sum of HK$1,262,188,620.00. The recoverable rate was about 0.2%.
14. As far as the Promissory Note is concerned, it was initially intended to be a capital contribution by Fairfax Financial to Falcon 1998. During the past five years, the shareholders’ equity of the Company had increased from HK$100 million to HK$602 million in 2006. It would appear remote for the Company to draw on the Promissory Note and it was no longer required. By a deed of release dated 3 September 2007 executed by the Company and Falcon 1998 in favour of Fairfax Financial, the Promissory Note was cancelled by mutual agreement and Fairfax Financial was released from all of its obligations thereunder. As a result of the cancellation of the Promissory Note, the Company’s investment in Falcon 1998 should be reduced to nil, with the share premium reduced by an equivalent sum standing to the credit of the share premium account. The cancellation of the Promissory Note should be reflected by a reduction of HK$199,999,999.00 from the share premium account on a permanent basis.
15. Thus, the purposes of the proposed reduction of the share premium account are to achieve the following:
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to bring the Company’s capital in line with the available assets by writing off the accumulated losses, thereby bringing forward the time when the Company may be in a position to consider paying dividends to its shareholders; and |
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to reflect its true financial position as a result of the cancellation of the Promissory Note arising from the deed of release. |
16. The proposed reduction of capital does not involve either the diminution of any liability in respect of unpaid capital or the payment to any shareholder of any paid-up capital.
17. The Company has no outstanding creditors except insurance claimants in the ordinary course of business. It is solvent and, in any event, the liabilities to pay claims are covered by the reserves of the Company. Whenever a claim is made under a policy issued by the Company, it is required to set aside certain reserve funds to cover the liability of that claim by virtue of the Guidance Note issued by the Insurance Authority and the Hong Kong Generally Accepted Accounting Principles and recently the Hong Kong Financial Reporting Standard 4 on Insurance Contracts. As at 31 December 2006, the Company had set aside a reserve fund in the sum of HK$409,469,079.00 for claims already made and claims potentially “incurred but not reported”. It does not appear that the interest of any creditor should be prejudiced by the proposed reduction of capital.
18. Further, the Company would appear to be of a sound financial position. The write-off of accumulated losses of HK$82,619,343.00 and the rescission of the Promissory Note of HK$199,999,999.00 would not affect the net asset value of the Company in the sum of HK$335,765,206.00 as at 31 December 2006. The solvency ratio assessed in accordance with the relevant provision in Cap. 41 was 550% as at 31 December 2006.
19. For the protection of creditors, the Company has offered an undertaking in the terms as per the schedule annexed hereto, in the event of its making any future recoveries in respect of the accumulated losses. The undertaking was accepted by the court at the hearing of the summons for directions on 6 November 2007. It was directed that the settlement of a list of creditors of the Company be dispensed with. The directions for advertisement of a notice of the presentation of the petition have been complied with.
20. Since mid August 2007, the Company has been liaising with the Insurance Authority with a view to obtaining the latter’s consent to the proposed reduction of the share premium account and for that purpose has provided information regarding its financial position. The Insurance Authority indicated by letter dated 31 October 2007 that it has no objection to the proposed reduction.
21. The principles on which the court will sanction a reduction of the share premium account are similar to those on which the court will sanction a reduction of the share capital. The reduction is for a discernible purpose, both the shareholders are treated equitably and the proposals for reduction have been properly explained. The interests of creditors would be sufficiently safeguarded. I have therefore sanctioned the proposed reduction and made an order in terms of the draft order. As the petition only involves reduction of the share premium account, no minute of reduction under section 61 is required to be registered.
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(S Kwan)
Judge of the Court of First Instance
High Court |
Mr Richard Khaw, instructed by Messrs Christine M Koo & Ip, for the Petitioner
SCHEDULE
UNDERTAKING
AND UPON the Company by its Counsel undertaking that:-
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In the event of its making any future recoveries in respect of the accumulated losses which were recorded in the Company’s audited accounts for the year ended 31 December 2006, all such recoveries (if any) from claimant and / or 3rd party tortfeasor will be credited to a special capital reserve (“the Special Reserve”) in the accounting records of the Company and that so long as there shall remain outstanding any debt or claim against the Company which, if the date on which the proposed reduction of capital becomes effective (“the effective date”) was the date of the commencement of the winding up of the Company, would be admissible to proof in such winding up and the persons entitled to the benefit of such debts or claims shall not have agreed otherwise and such reserve shall not be treated as realized profits for the purposes of section 79B of the Companies Ordinance (Cap. 32). |
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PROVIDED that:- |
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(1) |
the Company shall be at liberty to apply the Special Reserve for the same purposes as a share premium account may be applied; |
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(2) |
the limit in respect of the Special Reserve may be reduced by an amount equal to any increase after the effective date in the paid up share capital or the amount standing to the credit of the share premium account of the Company as a result of any issue of shares (other than an issue made for the purposes of purchase by the Company of its own shares) for cash or other consideration or from a capitalization of any distributable profits (not including the Special Reserve); |
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(3) |
in the event that the amount of the Special Reserve is so reduced pursuant to (2) above, the Company shall be at liberty to transfer the amount of any such reduction to the general reserves of the Company and the same shall become available for distribution. |
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AND UPON the Company by its Counsel further undertaking that, for so long as the undertaking set out above remains effective, it will cause or procure its statutory auditors to report by way of a note or otherwise a summary of the undertakings in the audited financial statements or in the accounts of the Company published in any other form. |
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