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16 July 2020
Operating in one of the world's leading arbitration centres, the Hong Kong courts' pro-arbitration attitude is evident from the continuous refinement of their dispute resolution mechanism. Such efforts are distinctly remarkable in commercial contexts, as demonstrated by the dynamics between the statutory company regime and the arbitration regime. Observing such intriguing interplay between the two regimes, this article examines recent decisions in two types of dispute concerning arbitration clauses – namely:
In Dickson Holdings Enterprise Co Ltd v Moravia CV ( HKCFI 1424), the petitioner, Dickson Holdings Enterprise Co Ltd (DHE), and the respondent, Moravia CV, established a Hong Kong company for a property development project in China. The parties entered into a shareholders' agreement, which set out various provisions relating to the raising of funds for the project and the management and organisation of the company.
The relationship between the parties subsequently deteriorated. Moravia found a new partner and a dispute arose as to whether DHE's remaining shares in the company should be treated as already paid up. At the board meeting, a written resolution was passed to forfeit all of the unpaid shares without valid notice to DHE.
DHE later sought relief from unfairly prejudicial conduct under Sections 724 and 725 of the Companies Ordinance (Cap 622) (the strike-out application). DHE also presented a petition against Moravia for alleged wrongful and arbitrary resolution which had resulted in the forfeiture of its shares. Moravia applied to stay the court litigation in favour of arbitration pursuant to an arbitration agreement in the shareholders' agreement, which was the main issue in this case (the stay application).
The court dismissed both applications.
As regards the strike-out application, the court held that the question of locus should be determined in the context of the petition as it would be undesirable to deny DHE's standing to complain about the conduct which had deprived it of membership in the company.
Court's jurisdiction outside ambit of arbitration agreement
As regards the stay application, the court gave two major reasons for its dismissal. First, the dispute did not fall within the ambit of the arbitration agreement since the substance of the dispute was the breach of articles and the directors' fiduciary duties, which involved the lack of notice of a board meeting, payment and the forfeiture of shares. In approaching a stay application under Section 20(1) of the Arbitration Ordinance (Cap 609), the court must identify the subject matter of the arbitration agreement.(1) The dispute concerned the legal validity of the share forfeiture, not the commercial reasons leading thereto. In other words, a member's proprietary rights to its shares in the company was not the subject matter of the arbitration clause found in the shareholders' agreement. Instead, it was governed by ordinary company law.(2)
Second, the court held that the general words "disputes... arising out of or relating to the [shareholders' agreement]… shall be settled by arbitration" in the arbitration clause were insufficient to encompass all disputes concerning shareholders' rights – in particular, the affairs of the company in this case. The court also commented that had the parties intended otherwise, they could easily have devised an arbitration clause that expressly applied to any dispute between them relating to any affair of the company.(3) The court therefore signalled when a well-drafted arbitration clause may be able to include the intended disputes.
This decision suggests that when a company law-related claim is met by a stay application in favour of arbitration, the case will turn on the courts' understanding of the matters that gave rise to the dispute and their interpretation of the scope of the arbitration clause.
The court acknowledged that there was nothing to prevent a substantive dispute in unfairly prejudicial conduct petition proceedings being stayed in favour of arbitration,(4) and that an arbitration clause can, if drafted appropriately, cover disputes that exist independently of any shareholders' agreement or differences relating to any of the affairs of the company. In other words, the decision will turn on the particular factual matrix.
Contrary to general commercial matters which are governed by ordinary company law, Hong Kong has long faced a dilemma relating to the courts' specific approach to winding-up petitions that arise out of a contract which contains an arbitration clause. The recent decision in Dayang (HK) Marine Shipping Co Ltd v Asia Master Logistics Ltd ( HKCFI 311) has added to this longstanding debate. In short, Hong Kong emphasises judicial discretion under the statutory insolvency regime.
In Dayang, a winding-up petition was met with the defence that the parties had agreed to resolve the dispute through arbitration.
In Hong Kong, the traditional approach (established in Hollmet AG v Meridian Success Metal Supplies Ltd ( HKLRD 828)) advocates that to stay or dismiss a winding-up petition, the debtor must show that there is a bona fide dispute on substantial grounds, notwithstanding the existence of an arbitration clause.(5) This approach allows the courts to retain their discretion and protect a creditor's statutory rights under the insolvency regime.
In stark contrast, the Salford-Lasmos approach (Salford Estates (No 2) Ltd v Altomart Ltd (No 2) ( Ch 589) and Re Southwest Pacific Bauxite (HK) Ltd ( 2 HKLRD 449) contends that a winding-up petition should generally be dismissed, save in wholly exceptional circumstances, if the following requirements are satisfied:
If these wholly exceptional circumstances are satisfied, the petition may be stayed by the court instead of dismissed.
Dayang – lean towards traditional approach
In Dayang, Deputy Judge William Wong SC observed as follows:
The petitioner-shipowner, Dayang (HK) Marine Shipping Co, Ltd, and the debtor-charterer, Asia Master Logistics Limited, entered into a charterparty under which Dayang chartered its vessel MV Aoli 5 to Asia Master.
According to the fixture note, Asia Master, among other obligations, agreed to hire the vessel for $6,000 a day. The fixture note also obliged Dayang to guarantee that the vessel be watertight and that all fitted gear be workable and in good condition throughout the charter period. Notably, it provided that any disputes be resolved through arbitration in Hong Kong and governed by English law.
Dayang later hired out MV Aoli 5. As numerous hire instalments under the charterparty remained unpaid by Asia Master, Dayang petitioned to have it wound up.
Asia Master did not dispute that the debt was due and owing. Instead, it raised a counterclaim against Dayang regarding the physical state of MV Aoli 5 and the conduct of the master and crew.
Asia Master sought to rely on the arbitration clause in the fixture note to resolve the dispute. In a letter to Dayang, Asia Master advised that it was prepared to settle the dispute by arbitration.
After reviewing the evidence, the court held that Asia Master's claims were not substantiated by precise factual evidence but rather were pure allegations.(9) Further, as Asia Master could not quantify its counterclaim, it could not prove that its counterclaim would exceed and thereafter extinguish the debt.(10)
Despite its previous reluctance to do so, the court applied the Salford-Lasmos approach and held that the letter from Asia Master communicating its preparedness to resolve the dispute through arbitration was a "mere gauge of an interest"(11) to resolve the dispute through arbitration, rather than the commencement of the arbitration proceedings required. In other words, some action by the recipient had been required.(12)
For these reasons, the court made a winding-up order against Asia Master.
Fettering of judicial discretion
The Court of Appeal's obiter in But Ka Chon v Interactive Brokers LLC ( HKCA 873) cast doubt on the Salford-Lasmos approach based on its substantial curtailment of the creditor's statutory right to petition for bankruptcy or winding up.(13) However, in Dayang, the Court of First Instance was reluctant to adopt this reasoning.(14) Instead, its criticism of the Salford-Lasmos approach was based on the unprecedented fetter that it placed on the court's flexible discretion in making a winding-up order.(15) The court emphasised the judicial discretion conferred by Section 180(1) of the Companies (Winding Up and Miscellaneous Provisions) Ordinance. The Salford-Lasmos approach, by requiring the courts to dismiss or stay a winding-up petition if the above three requirements are satisfied, is so rigid that is antithetical to the nature of discretion,(16) with the difficult-to-envisage wholly exceptional circumstance requirement doing nothing to soften the rule.
Contractual justification and party autonomy
In Dayang, the court acknowledged that protecting contractual bargains and freedom to contract is a justification for adopting the Salford-Lasmos approach.(17) In principle, the court supported the broad proposition but maintained that the extent to which a party's contractual rights or obligations, including the right to resolve disputes by arbitration, are (or should be) protected by the court must depend on the interpretation of the arbitration agreement. In the court's view, an arbitration agreement imposes two obligations:
The crux of the issue concerns the terms 'determined' and 'resolved'. Essentially, the court questioned whether the presentation of a winding-up petition entails the submission of a dispute for determination or resolution by the Companies Court.(19) Since the Companies Court makes no determination on a dispute but merely considers whether a genuine dispute exists, the presentation of a winding-up petition does not come within the scope of the arbitration agreement and, accordingly, there is no breach of the arbitration agreement.
Uniqueness of winding-up petitions
In Dayang, the court acknowledged the apparent anomaly between insolvency proceedings and a normal writ action.(20) However, the court did not examine this issue, despite the fact that in But Ka Chon(21) the Court of Appeal referred to the following past authorities to justify insolvency proceedings being treated in a different way:
In But Ka Chon,(22) the Court of Appeal highlighted the conflict between the insolvency and arbitration regimes with regard to creditors' rights to the extent that the Salford-Lasmos approach, in dismissing or staying a winding-up petition in favour of arbitration, is contrary to public policy as it "preclude(s) or fetter(s) the exercise of this statutory right (creditors' right to petition)". This view was not shared by the lower court in Dayang. In Dayang, the court concluded that it is not against public policy for a creditor to voluntarily agree, by contract, to fetter its statutory rights to petition for a winding-up order against a debtor company.(23) This is because a creditor is a creature of contract; its relationship with the debtor should be defined by contract, not statute. In past cases, the courts have accepted creditors' undertakings not to petition for a winding up. In a similar vein, the statute does not confer a non-derogable right to petition for a winding up. For these reasons, the court departed from the Court of Appeal's observations.(24)
Flexibility of recent approach
Dayang illustrates the difficulty in upholding two seemingly conflicting principles enshrined in arbitration:
In exploring a middle-ground approach to strike a balance between the two regimes, the court appears to have formulated a contextualised standard of review specifically for winding-up petitions in case of a contract which contains an arbitration clause. That said, this matter has not been settled, and the debate around the correct position in this regard is ongoing.
The above comparison of disputes arising from corporate affairs and disputes relating to insolvency – where an arbitration clause exists – reveals two crucial findings:
The unobtrusive support of the judiciary and the abovementioned balancing exercise regarding the statutory and arbitration regimes will continue to cement Hong Kong's position as an appealing forum for commercial dispute resolution.
For further information on this topic please contact William Leung at William KW Leung & Co by telephone (+852 2810 6199) or email (firstname.lastname@example.org). The William KW Leung & Co website can be accessed at www.jwlw.com.
Stephanie Hui Long Ching, intern, and Chan Ka Hou, intern, assisted with the preparation of this article.
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