Introduction

Where the debt on which the insolvency petition is based is subject to an arbitration clause, what is the correct approach for the Courts to exercise its discretion to make a winding-up or bankruptcy order? Recent court decisions confirm the distinction between the English law and the Hong Kong law in respect of the interplay between arbitration and insolvency law.

Hong Kong approach

The Hong Kong approach as established in the cases of Re Guy Lam Kwok Hung [2023] HKCFA 9 (“Guy Lam”) (See here for our summary of the Guy Lam decision) and Re Simplicity and Vogue Ltd [2024] HKCA 299 (“Simplicity”) is that if the contract under which the debt allegedly arises is subject to an arbitration clause, it is not sufficient for the petitioner to show that there is no bona fide dispute on substantial grounds regarding the debt. Instead, the petitioner has to prove the existence of countervailing factors which would militate against the public policy of holding the parties to the arbitration clauses, such as where the Company’s or the Debtor’s ground of opposition is founded on the frivolous or abuse of process; or otherwise the Court will generally respect the parties’ agreement and require the parties to litigate their dispute in the contractually agreed forum.

English approach

Sian Partnership Corp v Halimeda International Ltd [2024] UKPC 16 (“Sian”)

However, the recent UK Privy Council decision in the Sian case declined to follow the Hong Kong approach as established in Guy Lam and Simplicity. In particular, the Privy Council held that:

·           The correct test for the Courts to apply for deciding whether a winding-up or bankruptcy order should be granted is whether the debt is disputed on genuine and substantial grounds, regardless of whether the parties have agreed to an arbitration clause.

·           Policy considerations that would apply where the parties agree to submit a dispute to arbitration, including respecting party autonomy and the principle that contractual agreements should be enforced, should not limit the Court’s discretion to make an order in insolvency proceedings.

·           When there is no genuine or substantial dispute as to the debt, forcing the petitioner to arbitrate the dispute before pursuing a liquidation “just adds delay, trouble and expense for no good purpose”.

Would the Hong Kong Courts follow the Sian case,
or continue with the Hong Kong approach?

Re Mega Gold Ltd; Re Man Chun Sing Matthew [2024] HKCFI 2286 (“Mega Gold”)

This recent Hong Kong case involved a winding-up petition against Mega Gold Holdings Limited (the “Company”) and a bankruptcy petition against its founder and CEO (the “Debtor”). Both petitions related to a debt pursuant to specific agreements, under which the Debtor had agreed to guarantee the Company’s obligations. One of the grounds that the Company and the Debtor requested the stay of the petitions in favour of arbitration was that all relevant agreements included an arbitration clause covering the dispute on the debt.

Key findings of the Court of First Instance were as follows:

·           The Court acknowledged the Sian case, but would follow the Hong Kong approach as established in Guy Lam and Simplicity as a matter of stare decisis. 

·           To identify the Company’s or the Debtor’s claims being frivolous or an abuse of process is fact-sensitive and difficult, as the Court has to find that such claims would definitely fail and do not deserve further examination at trial. In assessing such assertions by the petitioners, the Court is more inclined to leave the dispute to be resolved by arbitration as agreed, in line with the public policy considerations.

·           By applying the Hong Kong approach as established in Guy Lam and Simplicity and examining the evidence provided by the parties, the case was not a plain and obvious case that the Company and the Debtor were bound to fail. Instead, there were factual disputes that necessitated a careful review of all relevant evidence.

Takeaway

The Mega Gold case clarifies that the Hong Kong Courts would follow the Hong Kong approach established in Guy Lam and Simplicity instead of the English approach established in Sian. It also confirms that the thresholds for recognizing a dispute to be frivolous or an abuse of process are stricter than those for proving a genuine dispute based on substantial grounds. Therefore, when there are unresolved factual issues and evidence supporting the debtor’s defence, the Hong Kong Court is unlikely to classify the debtor’s defence being frivolous or an abuse of process and would stay of the petitions in favour of arbitration.