RE CA CULTURAL TECHNOLOGY GROUP LTD

HCMP 38/2023

[2024] HKCFI 1721

IN THE HIGH COURT OF THE

HONG KONG SPECIAL ADMINISTRATIVE REGION

COURT OF FIRST INSTANCE

MISCELLANEOUS PROCEEDINGS NO 38 OF 2023

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REASONS FOR DECISION

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Application for Scheme sanction

1.  The Company seeks the Court’s sanction under section 673 of the Companies Ordinance (Cap 622) (“Ordinance”) of a scheme of arrangement between the Company and the Creditors. The resolution of the Scheme Meeting was carried by an overwhelming majority of the Creditors present and voting, either in person or by proxy. Specifically, 73 Creditors voted in favour of the Scheme, while five Creditors voted against it. Those voting in favour held approximately 92.50% of the total value represented by all Creditors present and voting at the Scheme Meeting.

2.  The Scheme’s objective is to restructure the Company’s indebtedness, thus averting a potential liquidation that would jeopardise the entire group. If the Company were to be liquidated, it is estimated that the Scheme Creditors would recover no more than 5.8% of their Claims. However, under the Scheme, the estimated recovery rate for the Scheme Creditors increases significantly to approximately 35.6%.

Background to the Scheme

3.  On 25 September 2013, the Company was incorporated in the Cayman Islands. The Company is registered as a non-Hong Kong company under Part 16 of the Companies Ordinance (Cap 622) (“Ordinance”). The Company is listed on The Main Board of The Stock Exchange of Hong Kong Limited (“SEHK”) with Stock Code 1566. The Company is an investment holding company whose operating subsidiaries are in Hong Kong, the Mainland and Japan (together, “Group”). The Group is principally engaged in three main business segments, namely:

(1)  through an asset-light licensing model to expand the world’s leading indoor theme park JOYPOLIS (JOYPOLIS is designed by and originates from SEGA Japan, and it was acquired by the Group from SEGA Holding in 2017);

(2)  animation-derived products trading business; and

(3)  multimedia animation entertainment business focusing on animation IP and VR (including eSports).

4.  Largely due to the onset of the pandemic in 2020, the Group and the Company have endured a few years of financial difficulties. As at 30 September 2023, based on the Group’s unaudited management accounts:

(1)  the Group’s net current liabilities amounted to approximately HK$1,085,047,000; and

(2)  the Group recorded net liabilities of approximately HK$960,611,000.

5.  As at 30 September 2023, based on the Company’s unaudited management accounts:

(1)  the Company’s net current liabilities amounted to approximately HK$568,367,000;

(2)  the Company recorded net liabilities of approximately HK$567,959,000.

6.  The Company’s indebtedness arises from principally the following:

(1)  unsecured interest-bearing bonds issued by the Company since June 2017 (“Bonds”);

(2)  loans granted to the Company by entities unconnected with the Group; and

(3)  loans granted to the Company by entities within the Group.

7.  The holders of the Bonds (“Bondholders”) are mainly individuals.

8.  As the Company has defaulted on its payment obligations under the Bonds, a number of Bondholders issued proceedings against the Company, including a pending winding-up petition against the Company. The proceedings are currently partially resolved pending the Company’s restructuring efforts.

9.  In order to avoid a liquidation and to return the Company to a solvent going concern, the Company has been pursuing a debt restructuring leading to the Scheme. The Scheme will be funded by a cash injection of HK$255,000,000 (“Subscription Proceeds”) by an investor (“Subscriber”) through subscription agreements whereby the Subscriber would subscribe for the Company’s shares and convertible bonds.

10.  The Scheme Creditors’ recovery under the Scheme is estimated to be about 35.6%, whereas in a liquidation the Scheme Creditors’ recovery is estimated no more than about 5.8%.

Principal features of the Scheme

11.  The Scheme seeks to discharge the Company’s liabilities to all known general unsecured creditors. In return, the Creditors will be entitled to a pro rata distribution of the Scheme Assets (Clauses 2.10 2.25, and 5.1 of the Scheme).

12.  The Scheme Assets consist of:

(1)  part of the Subscription Proceeds in the sum of HK$160 million (“Cash Consideration”);

(2)  59,000,000 new shares in the Company to be issued at the price of HK$0.1772 per share (“Scheme Shares”), representing approximately 4% of the Company’s enlarged issued share capital; and

(3)  the Company’s recovery of certain receivables (“Scheme Receivables”) (Clause 2.13 of the Scheme).

13.  In respect of the Scheme Shares, the Scheme Creditors with Admitted Claims may opt for receiving either the Equity Option or the Cash Option:

(1)  Under the Equity Option, the Scheme Creditors with Admitted Claims will receive physical share certificates; and

(2)  After taking account of the Scheme Shares reserved or allotted for the Scheme Creditors who have opted for the Equity Option, the Scheme Administrators will realise the remaining Scheme Shares and distribute the net proceeds to the Scheme Creditors who have opted for the Cash Option (Clauses 2.14–2.21 of the Scheme).

14.  In addition to discharging the Company’s general unsecured liabilities to the Creditors, the Scheme also effects an ancillary discharge of the Creditors’ claims against four Co-Obligors and security provided by the Co-Obligors (Clause 2.7 of the Scheme).

Principles governing the sanction of a scheme

15.  In considering whether to sanction a scheme, the Court will apply some well-established principles which were recently restated in Re China Singyes Solar Technologies Holdings Ltd[1] such that the Court would consider in particular the following:

(1)  whether the scheme is for a permissible purpose;

(2)  whether creditors who were called on to vote as a single class had sufficiently similar legal rights such that they could consult together with a view to their common interest at a single meeting;

(3)  whether the meeting was duly convened in accordance with the Court’s directions;

(4)  whether creditors have been given sufficient information about the scheme to enable them to make an informed decision on whether or not to support it;

(5)  whether the necessary statutory majorities have been obtained;

(6)  whether the Court is satisfied in the exercise of its discretion that an intelligent and honest man acting in accordance with his interests as a member of the class within which he voted might reasonably approve the scheme; and

(7)  in an international case, whether there is sufficient connection between the scheme and Hong Kong, and whether the scheme is effective in other relevant jurisdictions.

I will address each principle in turn.

Permissible purpose

16.  As in Singyes, the Scheme represents a legitimate effort at debt restructuring for a company facing financial distress.

17.  Additionally, the Scheme provides for an ancillary discharge of claims against the Co-Obligors. This is uncontroversial and permissible: Re Sunac China Holdings Ltd[2]; Re Cimolai SpA[3] (“[W]here the alteration of creditors’ rights against third parties is both ancillary to the arrangement between the company and creditors and necessary to ensure the effectiveness of that arrangement, then they will be permitted.”)

Class composition

18.  In considering whether creditors are properly classified, the test is whether creditors who are called on to vote as a single class have sufficiently similar legal rights that they could consult together with a view to their common interest at a single meeting. The relevant principles may be summarised thus:

(1)  The overarching question is whether the pre and post-scheme rights of those proposed to be included in a single class are so dissimilar as to make it impossible for them to consult with a view to their common interest. If that is the case, separate meetings must be summoned.

(2)  The second principle is that it is the rights of creditors, not their separate commercial or other interests, which determine whether they form a single class or separate classes. Conflicting interests will normally only ever arise at the sanction stage as a question for consideration.

(3)  The third principle is that the court should take a broad approach to the composition of classes, so as to avoid giving unjustified veto rights to a minority group of creditors, such that the test for classes becomes an instrument of oppression by a minority. The court should be careful to avoid unnecessary proliferation of classes because by ordering separate meetings the court might give a veto to a minority group.

(4)  The fourth principle is that the court has to consider, on the one hand, the rights of the creditors in the absence of the scheme and, on the other hand, any new rights to which the creditors become entitled under the scheme. If, having carried out that exercise, there is a material difference between the rights of the different groups of creditors, they may, but not necessarily will, constitute different classes. Whether they do so depends on a judgment as to whether such a difference makes it impossible for the different groups to consult together with a view to their common interest.

(5)  In applying the above test, the starting point is to identify the appropriate comparator: that is, what would be the alternative if the scheme does not proceed.

See Re Sunac China Holdings Ltd[4].

19.  As regards the identification of the appropriate comparator, the established practice is thus: The directors of the scheme company, being advised by their professional advisers, are normally in the best position to identify what will happen if a scheme fails: Re Sunac China Holdings Ltd[5].

20.  In brief, in assessing the scheme creditors’ rights, the Court considers what are often referred to as “rights in” (i.e. the scheme creditors’ rights as against the scheme company absent the scheme) and “rights out” (i.e. any new rights conferred on the scheme creditors by the scheme):

“A consideration of the rights of the members of the proposed class involves an analysis of the rights as against the scheme company which are to be released or varied under the scheme, and of the new rights which the scheme gives by way of compromise or arrangement to those whose rights are to be released or varied… The focus is upon ‘rights’ not ‘commercial interests’. The consideration requires those rights to be analysed not as a matter of theory but in context, an exercise which generally requires an analysis of what those rights would be if the scheme did not proceed” (Re Praesidiad Ltd [2023] EWHC 2745 (Ch) at [14] (Sir Alastair Norris)).

See also Re Sunac China Holdings Ltd[6].

21.  In essence, the classification principles involve a two-stage test (Re EFW 21 Renewable Energy Ltd[7]):

(1)  At the first stage, the Court considers the rights in and rights out.

(2)  If there is no material difference between the legal rights of the relevant creditors (namely, in respect of both rights in and rights out), they will form a single class, and there is no need to proceed to the second stage of the test.

(3)  If there are material differences between the legal rights of the relevant creditors, at the second stage the Court needs to assess the relevance of those differences. In brief, a difference is only sufficient to mandate the creation of a separate class if it is sufficiently great to make consultation with a view to the class members’ common interest impossible. That is a value judgment involving, among other things, the materiality of the difference in rights. Differences can be material without leading to separate classes, and a robust approach must be taken: Re Syncreon Group BV[8].

22.  Applying the above principles, the Scheme justifiably categorises the Creditors into a single class for the following reasons:

(1)  The appropriate comparator is the Company’s liquidation because should the Scheme fail, the Company is likely to go into liquidation.

(2)  In the event of the Company’s liquidation, the Creditors would have identical “rights in” because the Claims are the Company’s general unsecured debts.

(3)  The Creditors have the identical “rights out” because the Scheme treats them equally (i.e. the right to receive Dividend that is proportionate to their respective Scheme Claim) (Clauses 2.10 and 2.25 of the Scheme).

(4)  The fact that the Scheme additionally effects an ancillary discharge of the Co-Obligors would not fracture the class (e.g. Re Sunac China Holdings Ltd[9]).

Compliance with Convening Order

23.  I am satisfied that the convening order has been complied with. The English and Chinese advertisement of the Notice of the Scheme Meeting was duly placed in The Standard and Sing Tao Daily on 5 June 2023.

Statutory majorities

24.  During the Scheme Meeting convened on 27 June 2023, the Scheme Creditors voted in favour of the Scheme. As summarised above at paragraph 1, the Scheme satisfies the requirements under section 674(1)(b) of the Ordinance, having been approved by a majority in number representing at least 75% in value of the Creditors present and voting, either in person or by proxy.

Information provided to Creditors

25.  To satisfy the requirements of section 671(3) of the Ordinance, an explanatory statement must be sufficiently informative:

“A company is under a duty to include in the explanatory statement all the information necessary to enable the creditors to form a reasonable judgement on whether the scheme is in their best interests or not, and hence how to vote. The extent of the information required to be provided will, of course, depend on the facts of the particular case. Necessarily, the duty extends to the company providing up to date information, or an adequate explanation of why it has not done so, that will allow a creditor to contrast what is to be anticipated if the scheme is approved, and the outcome if it is not. A company is required to provide specific financial information to support its predicted outcomes, and I would normally expect it to have its views independently verified by an insolvency practitioner or other suitable professionals” (Re Century Sun International Ltd [2021] HKCFI 2928; [2021] HKCLC 1477 at [23] (footnotes omitted)).

See also Re Sunac China Holdings Ltd[10].

26.  I am satisfied that the Explanatory Statement satisfies the requirements of section 671(3) because:

(1)  It unequivocally presents the Scheme as an alternative to the liquidation of the Company, outlining the strategic considerations behind this choice.

(2)  It furnishes detailed projections of the potential outcomes for Scheme Creditors in the event of a liquidation compared to the anticipated returns under the Scheme, thereby providing a basis for informed decision-making.

(3)  It articulates the Company’s strategic reasoning for seeking to avoid liquidation, including the underlying business logic, which underpins the Board’s endorsement of the Scheme as the preferred course of action.

Discretionary element: the “intelligent and honest man” test

27.  The Court should be slow to differ from the majority’s views, as it normally acts on the principle that businessmen are much better judges of what is to their commercial advantage than the Court could be: Re Allied Properties (HK) Ltd[11]. It is not within the Court’s purview to assess whether the scheme is the only fair scheme or even the “best” scheme: Re AGPS Bondco Plc[12]. And “it is not for the Court to strain to find reasons why a Scheme of Arrangement should not be sanctioned” (Representation of Wentworth Resources[13]).

28.  The primary object of the Scheme is that, upon the Scheme becoming effective, the Claims will be discharged and in exchange the Scheme Creditors will be entitled to the Dividend. The Dividend affords the Scheme Creditors a substantially more favourable outcome than they would receive in the event of the Company’s liquidation. The substantial majority vote in favour of the Scheme attests to the Scheme’s value. This level of support provides evidence that a reasonable creditor would have approved the Scheme.

29.  Hence, in respect of the Creditors, the Scheme is one that an intelligent and honest person acting in accordance with his interests as a member of the class within which he voted might reasonably approve.

International dimension

30.  The international aspect of this case involves two inter-related considerations. The first concerns the Court’s jurisdiction over a scheme promoted by a foreign company. The requirement is to show a sufficient connection between the scheme and Hong Kong, without needing to fulfil the criteria applicable to the winding-up of foreign companies (Re China Oil Gangran Energy Group Holdings Ltd[14]; Re Petropavlovsk Plc[15]; Re Tele Columbus AG[16]).

31.  There is sufficient connection between the Scheme and Hong Kong, mirroring the scenario in Re China Oil Gangran Energy Group Holdings Ltd[17]:

“The Scheme clearly has strong and sufficient connection with Hong Kong, in particular, because the Company is listed in Hong Kong and a principal purpose of the Scheme is to protect that listing, it is a registered non-Hong Kong company, and managed from Hong Kong. Further, essentially all of the Scheme Claims are governed by Hong Kong law.”

32.  Secondly, in an international case, the Court would consider whether the scheme is effective in other foreign jurisdictions of practical importance because it would not be a proper exercise of discretion to sanction a scheme that serves no purpose. In practice whether or not a jurisdiction is of practical importance to the efficacy of a scheme sanctioned in Hong Kong will commonly be determined by the following considerations:

(1)  Is a material amount of debt to be compromised by the scheme governed by the law of a jurisdiction other than Hong Kong?

(2)  Even if there is some doubt as to whether or not a scheme will compromise a proportion of the debt, is there any reason to think that the creditors will take action in a jurisdiction which will not recognise a scheme as compromising the debt?

(3)  The amount of the debt involved. If, for example, the amount of debt that is not governed by Hong Kong law is less than the cost of introducing a parallel scheme it makes more sense to exclude that debt from the scheme and settle it separately if it is ever pursued.

See China Oil at [21]–[23].

33.  The concept of sufficient connection and international efficacy are inter-related, as recently explained by Richards J in Re Project Lietzenburger Strabe Holdco SARL[18]at [217]–[218]:

“The reason it is appropriate for the court to enquire as to the ‘sufficiency’ of the Plan Company’s connection with England is explained at [21] to [23] of the judgment of David Richards J (as he then was) in Re Magyar Telecom BV [2013] EWHC 3800 (Ch). The issue is closely related to the question whether the Plan, if approved, will have a substantial effect. So, for example, if a foreign company proposing a plan under Part 26A had assets within the jurisdiction, the court might conclude that an order to sanction the Plan would have effect by preventing execution by creditors against those assets save in connection with the plan. Similarly, if the foreign company concerned had a number of creditors in England subject to the personal jurisdiction of the court, the court would attach significance to the fact that those creditors would be bound to act in accordance with the Plan if sanctioned.

Once the reasons for looking at the ‘sufficiency’ of the Plan Company’s connections with England are appreciated, it becomes clear that the court is not looking for a ‘bright line’ between a connection that can, at a high level of generality described as ‘sufficient’, and an ‘insufficient’ connection. Rather, the enquiry is closely related to the question whether the Plan will, if sanctioned, have a substantial effect.”

34.  Here the Scheme’s international efficacy is readily achievable because all the Creditors’ Claims to be discharged under the Scheme are governed by Hong Kong law. Thus any dissent from any Creditors should not impede the Scheme’s effectiveness (e.g. Re Sunac China Holdings Ltd[19]).

35.  In these circumstances, the Company also sees no need for a parallel scheme in the Cayman Islands.

No “blot” or roadblocks

36.  As a final cross-check, the Court will evaluate whether there is any blot or defect in the scheme which may hinder its operational effectiveness (Re China Bozza Development Holdings Ltd[20]).

37.  Two particular matters merit further clarification.

38.  First, it is a recognised practice in complex restructurings that schemes sanctioned by the Court typically take effect following a series of post-sanction steps. The present Scheme is similar because the Effective Date is conditional on a series of post-sanction steps to implement the Scheme, such as the Capital Reorganisation (Clause 2.3 of the Scheme). The Company believes it is poised to satisfy the Conditions Precedent promptly upon receiving the Stock Exchange’s approval concerning the shareholders’ circular for the Capital Reorganisation. The present case is thus similar to Re Sunac China Holdings Ltd[21], and the Court would not be acting in vain in sanctioning the Scheme.

39.  Secondly, the nearly 11-month interval between the Convening Order and the present application would not affect the Court’s jurisdiction to sanction the Scheme. For example, in Representation of Wentworth Resources[22], the Jersey court sanctioned a scheme of arrangement where there was a 10-month interval between the convening hearing and the sanction hearing, with the delay caused by the regulatory approval process (see [32]–[34]).

40.  The 11-month delay in the present case has a rational justification:

(1)  The original provisional dates for the sanction hearing were 8 and 9 November 2023 because, at the Convening Hearing, Maxx Capital stated its intention to oppose the Scheme.

(2)  In the meantime, the Company had been persuading Maxx Capital to drop its planned opposition. On 1 November 2023, the Company applied to the Court to vacate the provisional sanction hearing dates in view of the regulatory process to obtain SEHK’s approval of a circular for the Capital Reorganisation.

(3)  On 9 February 2024, the Company secured Maxx Capital’s agreement to cease its objection to the Scheme.

(4)  Given the progress made with the Stock Exchange, on 28 February 2024, the Company sought to re-fix the sanction hearing date.

(5)  Consequently, the interval has allowed the Company sufficient opportunity to ensure that the Court’s resources would not be squandered on superfluous opposition to the Scheme, while bringing more clarity to the Scheme’s effectiveness.

41.  Further, despite the 11-month interlude, the Scheme features remain unchanged, with the recovery analysis under the Scheme also unchanged.

42.  Accordingly, there is no blot on the Scheme. The Scheme is thus a scheme that the Court can and should sanction in the exercise of its discretion.

Conclusion

43.  The Scheme is a legitimate debt restructuring scheme which has complied with all the statutory requirements and has received the requisite Creditors’ support after exercising their independent business judgment. I made an order in the terms of the draft order submitted to the court.