What’s Next for Hong Kong in the Boundary between Insolvency and Arbitration Following the Recent BVI Sian Participation Judgment?

In a landmark decision by the UK Judicial Committee of the Privy Council (“JCPC”) in Sian Participation Corp v Halimeda International Ltd,¹ when a company liquidation application is made before the British Virgin Islands Companies Court, if the debt is disputed and is subject to a generally worded arbitration agreement or exclusive jurisdiction clause, then the court’s discretion to grant an order for liquidation shall be based on “whether the debt is disputed on genuine and substantial grounds”.²

This case resolves a difficult and important issue on the boundary between two public policy objectives which has troubled common law jurisdictions around the world and led to conflicting outcomes. The first is that companies that cannot pay their debts should, by a simple legal process, be put into liquidation so that their remaining assets can be divided fairly among their creditors. The second public policy is that companies that agree to resolve their disputes by arbitration rather than court should be held to that bargain. 

The JCPC decided that the leading decision of the English Court of Appeal, in which this controversy ensued, in Salford Estates (No 2) Ltd v Altomart Ltd (No 2)³ was wrong.⁴ For the first time, the JCPC exercised a power given to it by the Supreme Court of the UK⁵ to resolve this issue in a way that is binding not only on the courts of the BVI but also on the English courts as well. Thus the test under Sian Participation now represents the English law position.⁶

In what could have profound implications for arbitrations in the common law world, including Hong Kong, the English courts will no longer follow the approach in Salford Estates to stay or dismiss a creditors’ winding-up petition based solely on the presence of a generally worded arbitration clause (or an exclusive jurisdiction clause pertaining to the debt in question). That is, prior to the JCPC ruling, if the company raised an insubstantial dispute about a creditor’s debt claim, a creditor would have to obtain an arbitration ruling before bringing an action or claim in court to enforce the debt. Now, in order for the arbitration agreement to apply, the respondent company must establish it can genuinely dispute the debt on substantial grounds, applying the test set forth in Sian Participation. Only then would the courts consider ordering a stay or dismissal of the petition; a mere non-admission of the debt would not be adequate.

The Hong Kong judicial treatment of Salford Estates

Before the JCPC's decision in Sian Participation, Salford Estates was generally followed as a binding decision of the English Court of Appeal. However, there have been divergent decisions in Hong Kong.

In Re Southwest Pacific Bauxite (HK) Ltd (Lasmos case),⁷ the Hong Kong Companies Court, while applying the Salford Estates analysis, added a condition for a stay of insolvency proceedings. This condition required the company to initiate the arbitration process to dispute the debt.

In Guy Kwok-Hung Lam v Tor Asia Credit Master Fund LP, the Hong Kong Court of Final Appeal (CFA) applied a similar approach. This involved an exclusive jurisdiction clause, with exceptions made if there was a risk of harming other creditors or if the debt dispute seemed frivolous or abusive.⁸ The Hong Kong Court of Appeal has recently applied the same approach in two cases, stating that it should also extend to debts governed by arbitration agreements.⁹

On the other hand, in earlier first instance decision in Re Asia Master Logistics Ltd,¹⁰ William Wong SC DHCJ held that the “Salford Lasmos” approach (taken in the Lasmos case and subsequently applied by the CFA) should not be adopted. Even though his view was in obiter (since the company seeking a stay had not taken steps to commence an arbitration – which is the added condition under the Lasmos case applying the Salford Estates analysis), the deputy judge’s reasoning was that:

1. presenting a winding-up petition does not constitute a claim to resolve a debt dispute covered by the arbitration clause, so it does not breach the arbitration agreement;
2. the way the Companies Court decides if the petitioner can file the winding-up petition is not similar to a summary judgment process in a debt enforcement claim;
3. if a winding-up petition is presented by the petitioner as an abuse of process (where the debt can be genuinely disputed), the situation can be remedied by granting indemnity costs;
4. the approach in Salford Estates, which is to dismiss or suspend a creditors’ winding-up petition solely because an arbitration clause applies to the petitioner’s debt, without demonstrating genuine and substantial grounds, would unduly restrict the Companies Court’s discretionary power to wind up a company.

It is worthy to note that the deputy judge’s reasoning and concerns, which were expressed in the case, are broadly similar to those of the JCPC in Sian Participation. In Sian Participation, the JCPC reached its conclusion and established the correct test for evaluating a liquidation application related to a debt subject to an arbitration agreement.¹¹

Another decision by the Hong Kong Court of Appeal (shortly after the Lasmos case) also expressed its own doubts about the “Salford Lasmos” approach. In But Ka Chon v Interactive Brokers LLC,¹² Kwan V-P stated (in obiter) that when a company, benefiting from an arbitration clause, did not initiate arbitration proceedings, it could not prevent a winding-up petition. She noted that:

1. the Hong Kong Arbitration Ordinance (and its preparatory works) did not contemplate a significant restriction on the court’s authority to wind up companies when no mandatory stay of insolvency proceedings was provided;
2. the Eastern Caribbean Court of Appeal in Jinpeng Group Ltd v Peak Hotels and Resorts Ltd¹³ (an appeal from the BVI) had declined to follow Salford Estates. Instead they adhered to the requirement of a genuine dispute on substantial grounds before a creditor’s application could be dismissed or stayed due to an arbitration agreement. This approach aligns with the insolvency laws and policies in Hong Kong.

The way forward in Hong Kong post Sian Participation

Sian Participation established that before granting a stay or dismissal of a winding-up petition, the petitioner’s debt — which is subject to an arbitration agreement — must be demonstrated to be genuinely contested on substantial grounds. It remains to be seen whether Hong Kong courts will adopt this strategy: doing so would involve the CFA departing from the “Salford Lasmos” approach¹⁴ as first established in the Lasmos case¹⁵ and adopting the position and reasoning in Asia Master Logistics¹⁶ as well as But Ka Chon¹⁷.

However, the JCPC’s decision in Sian Participation is not anti-arbitration. A party is more likely to agree to include an arbitration clause if it does not hinder a liquidation when there is no genuine or substantial dispute over the debt in question. In cases where the debt is genuinely and substantially disputed, arbitration will be used to resolve the dispute. Any winding-up petition in such instances would be stayed or dismissed per the Sian Participation formulation.¹⁸

Could there be concerns that the insolvency jurisdiction could be used to bypass an applicable arbitration agreement, as an improper threat to present a petition and apply pressure on a company to pay the debt, or as an inappropriate forum to establish a genuine and substantial dispute to the debt? In exercising its insolvency jurisdiction in relation to ordinary claims litigating in court, these concerns are already known to a Companies Court. Since such claims are treated as abuse of process – where the debt can be genuinely disputed – and will be met with orders for indemnity costs. Such conduct would amount to abuse of process, regardless of whether the disputed debt is subject to arbitration or litigation.¹⁹

What to do when served a statutory demand for debt enforcement

When served with a statutory demand by a putative creditor, the burden shifts to the company to prove that the debt in question, which may lead to a winding-up petition, can be disputed.²⁰ If the Hong Kong courts adopt the Sian Participation approach, the company must demonstrate that the debt, covered by an arbitration clause, is genuinely contested on substantial grounds. This proof is crucial for potentially staying or dismissing a winding-up petition in favour of arbitration.

As noted, a company’s simple refusal to admit the debt is insufficient if it is not demonstrated to be genuine and based upon substantial grounds. Thus, if the company does not respond to a statutory demand at all, let alone just refuses to accept the debt, it could mean that the courts, when presented with a winding-up petition by a putative creditor with an unsatisfied statutory demand, could decide that there is not a genuine dispute between the creditor and company over the debt subject to an arbitration agreement. This would mean that the courts would order the winding-up of the company.

To dispute a debt when served with a statutory demand, the company would need to obtain an injunction to prevent the creditor from filing a winding-up petition, unless an agreement has been made to not proceed with the petition. As mentioned earlier, if the debt can be genuinely disputed based on substantial grounds (following the Sian Participation test), the company should provide evidence on how the debt will be disputed (together with other matters showing the petition would be presented as an abuse of process) when applying for an injunction against the filing of a winding-up petition.²¹

In Hong Kong, there is no statutory procedure to challenge or set aside statutory demands before a creditor initiates winding-up proceedings.²² If the company does not respond to a statutory demand and prevent the filing of the petition either by reaching an agreement with or obtaining an injunction against the putative creditor, once the petition is filed, the company must challenge it during the winding-up process by contesting the claimed debt with valid reasons. However, this could lead to adverse effects such as trading challenges due to frozen bank accounts. Note, a creditor with an unpaid debt has the statutory right (ex debito justitiae) to petition for winding-up if the debt is not genuinely disputed on substantial grounds after a statutory demand is served and remains unsatisfied.²³ Thus, if a company fails to respond promptly to a statutory demand and only challenges the winding-up petition later, the petitioning creditor can resist any order for indemnity costs by showing that the petition was not presented improperly (as the creditor was unaware of the genuine dispute over the debt by the company on substantial grounds, and did not intend to pressure the company into payment of a disputed debt).²⁴

Wording of the arbitration agreement

Whether the approach in Sian Participation is to be followed by the Hong Kong courts, one issue highlighted by the JCPC is that different considerations would arise if the arbitration agreement (or an exclusive jurisdiction clause) is to be framed in terms which explicitly applies to a liquidation application.²⁵ Therefore, as a matter of party autonomy, which is fundamental to arbitration, parties can choose to include insolvency proceedings in the arbitration agreement. This ensures that no liquidation application can be submitted until all disputes, whether substantial or not, are resolved by arbitration, if that is what the parties intend.

Final Thoughts

Although the timing, and indeed whether, the Hong Kong courts would adopt the Sian Participation approach as Hong Kong law remain unclear, embracing this approach would be advantageous for maintaining Hong Kong’s position as a leading arbitration jurisdiction. It resolves the conflict between arbitration and insolvency. Aligning with English and BVI laws means that insolvency proceedings would only be halted in favour of arbitration if the debt is genuinely and substantially contested. The Hong Kong judicial treatment of Sian Participation will surely be closely watched. Companies should carefully consider the wording of an arbitration agreement when negotiating contracts, and should not overlook a statutory demand if the debt in question is disputed.

1. [2024] UKPC 16.

2. ibid [99], [122].

3. [2014] EWCA Civ 1575, [2015] Ch 589.

4. Sian Participation (n 1) [8], [100]: JCPC concluded that Salford Estates was wrongly decided by the English Court of Appeal, and that it was correct for the courts of the BVI not to follow it. 

5. Willers v Joyce (No 2) [2016] UKSC 44, [2018] AC 843: the Privy Council in an appropriate case has jurisdiction to direct that a decision it made as to English law was to be binding on the English courts and could overrule a previous decision to the contrary by the UK Supreme Court, House of Lords or Court of Appeal, such that the view of the Privy Council would prevail over an otherwise binding English decision.

6. Sian Participation (n 1) [124]-[127].

7. [2018] HKCFI 426, [2018] 2 HKLRD 449 (Lasmos case).

8. [2023] HKCFA 9, (2023) 26 HKCFAR 119.

9. Re Simplicity & Vogue Retailing (HK) Co Ltd [2024] HKCA 299, [2024] 2 HKLRD 1064; Re Shandong Chenming Paper Holdings Ltd [2024] HKCA 352, [2024] 2 HKLRD 1040.

10. [2020] HKCFI 311, [2020] 2 HKLRD 423.

11. Sian Participation (n 1) [98], [82].

12. [2019] HKCA 873, [2019] 4 HKLRD 85.

13. BVIHCMAP2014/0025 (8 December 2015).

14. Guy Lam (n 9).

15. (n 8).

16. (n 11).

17. (n 13).

18. Sian Participation (n 1) [93].

19. Sian Participation (n 1) [97].

20. Parmalat Capital Finance v Food Holdings [2008] UKPC 23, [2008] BCC 371 [9]: the court would usually stay or dismiss a winding-up petition and leave the creditor (who presented the petition based on an unsatisfied statutory demand) first to establish his claim in an action (e.g. arbitration), if a petitioner’s debt is bona fide disputed (by the company) on substantial grounds – this effectively shifts the burden to the company to take steps in disputing the debt as soon as it is served with a statutory demand; Asia Master Logistics (n 11) [94].

21. Hung Yip (HK) Engineering Company Limited v Kunli Civil Engineering Limited [2021] HKCFI 153.

22. Similar to England where there is no standalone statutory mechanism to do so (unlike BVI).

23. But Ka Chon (n 13) [63]; Sian Participation (n 1) [35].

24. Shandong Chenming (n 10).

25. Sian Participation (n 1) [99], [127].

This memorandum is a summary for general information and discussion only and may be considered an advertisement for certain purposes. It is not a full analysis of the matters presented, may not be relied upon as legal advice, and does not purport to represent the views of our clients or the Firm. Denis Brock, an O’Melveny partner licensed to practice law in Hong Kong (Solicitor-Advocate), England & Wales (Solicitor-Advocate), Ireland, Australia, New Zealand, and New York; David Foster, an O’Melveny partner licensed to practice law in England & Wales (Solicitor-Advocate); Kieran Humphrey, an O’Melveny counsel licensed to practice law in Hong Kong, England & Wales, and Australia; Aditya Kurian, an O’Melveny counsel licensed to practice law in Hong Kong, India, and England & Wales; and Alvin Sin, an O’Melveny counsel licensed to practice law in Hong Kong, contributed to the content of this newsletter. The views expressed in this newsletter are the views of the authors except as otherwise noted.

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