Winding up is generally not available where there is an arbitration clause

The impact of an arbitration clause on the Court’s discretion to grant a winding up order was recently considered by the Court of First Instance in Hong Kong.

In Lasmos Limited v Southwest Pacific Bauxite (HK) Limited (HCCW 227/2017; [2018] HKCFI 426), the Court dismissed a winding up petition in view of an arbitration clause contained in the agreement between the parties and held that the dispute concerning the alleged debt should be dealt with in accordance with the arbitration clause.

Facts

On 27 October 2017, Lasmos Limited (the Petitioner) issued a petition to wind up Southwest Pacific Bauxite (HK) Limited (the Company) on the grounds of insolvency by relying on a statutory demand. The statutory demand sought payment of a debt of US$259,700.48 for outstanding fees allegedly due under a management services agreement between the parties.   

Three days later, the Company issued a summons to dismiss the winding up petition. The Company argued that the amount of fees allegedly due under the management services agreement had not been agreed by the parties and that there was a bona fide dispute on substantial grounds as to what sums were payable.  Further, the management services agreement contained an arbitration clause. 

Decision

The Court dismissed the petition and held that the dispute should be resolved in accordance with the arbitration clause. In arriving at this conclusion, the Court considered the development of the law in the UK and Singapore to see whether Hong Kong law should be developed in a similar manner.   

Previously, the position in Hong Kong was that in order to strike out a petition, the company would be required to establish that there is a bona fide dispute on substantial grounds, regardless of whether there is an arbitration clause.  The reason being that winding up proceedings are not subject to the arbitration agreement between individual creditors and the company and that a winding up order is viewed as a class remedy for all creditors.  

On the other hand, the current position taken by the UK and Singapore Courts is that where there is a dispute covered by the arbitration clause, the petition should be dismissed and the dispute should first be resolved by way of arbitration. There is therefore no need for a company to demonstrate that there is a bona fide dispute on substantial grounds in opposing the petition. 

The Court considered that it should exercise its discretion consistently with the intended policy of the arbitration legislation by giving due recognition to the arbitration agreements and the parties’ agreed method of dispute resolution. To do otherwise would be condoning the breach of the arbitration agreement and may incite creditors to abuse the process by applying pressure on the alleged debtor through the draconian threat of liquidation.

In light of this, the Court in this case considered the legislative intention of the Arbitration Ordinance in Hong Kong, which is to ensure that the parties to a dispute should be free to agree on how their disputes should be resolved. By dismissing the petition in favour of arbitration, the Court would be giving effect to the parties’ intention and would simply be holding the Petitioner to what it has contractually bargained for.

As such, the Court held that a winding up petition should generally be dismissed where:

  1. The company disputes the debt relied on by the petitioner;
  2. The agreement under which the debt is alleged to arise contains an arbitration clause that covers the dispute relating to the debt; and
  3. The company takes steps to commence the agreed dispute resolution process (which might include preliminary stages such as mediation) and files an affirmation1 demonstrating this. 

Further, the Court clarified that there would still be exceptional circumstances in which a creditor can invoke the winding up procedures prior to arbitration, for example, where assets have gone missing and there is an urgent need to appoint provisional liquidators to investigate the matter. 

Comment

This case marks a significant development in Hong Kong law regarding the effect of an arbitration clause on the exercise of the Court’s discretion to grant a winding up order.  It shows the Court’s reluctance to interfere where the parties have chosen to resolve their disputes by way of arbitration.

The practical effect is that in a case where there is an arbitration clause, it would be much easier to resist a winding up petition. A company would only have to dispute the debt and show that such dispute is covered by the arbitration clause. Parties should take the implication of this case into consideration when deciding whether to include an arbitration clause in their contract.

 

1          An affirmation in accordance with Rule 32 of the Companies (Winding Up) Rules (Cap. 32H)