A Tale of Two Cities: Discharge of US-Denominated Debt in Chapter 15

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In recent years the world’s major financial hubs have placed an increased emphasis on cross-border communication and cooperation when it comes to the insolvency and restructuring of international enterprises. Singapore, for example, has implemented a new insolvency regime and the UK, for its part, has added a new scheme of arrangement comparable in some respects to Chapter 11 in the US. Hong Kong, however, has recently taken what appears to be a more restrictive view of this forward-thinking approach to cross-border restructurings, particularly with respect to the recognition of schemes or plans sanctioned by foreign courts. 

In the Hong Kong case of Re Rare Earth Magnesium Technology Group Holdings Ltd1, Harris J sanctioned a scheme of arrangement discharging the company’s indebtedness. Scheme creditors’ ability to pursue collections against a guarantor of the company’s indebtedness was curtailed. In return, creditors would extend the repayment deadline for five years and receive extension interest, interim payments and the final payment (resulting in an estimated 100 percent recovery for scheme creditors). Alternatively or in combination, scheme creditors could elect to receive convertible bonds in the new company redeemable for 100 percent of the outstanding principal amount.

Notably, the company did not need to seek parallel schemes of arrangements in other jurisdictions. This despite the business group carrying on activity in several provinces in China, the holding company having been incorporated in the Cayman Islands and the company itself having been incorporated in Bermuda. No parallel scheme or recognition application was necessary because all the claims by scheme creditors were governed by Hong Kong law.

In considering whether the court could properly exercise its discretion in sanctioning the scheme, Harris J noted that weight should be given to the effectiveness of the scheme in foreign jurisdictions. “The expectation that the discharge of Hong Kong law-governed debt effected by a Hong Kong scheme of arrangement will be recognized abroad is justified because the discharge occurs as a matter of substantive Hong Kong law. This is certainly to be expected of a jurisdiction which applies what is commonly known as the Rule in Gibbs2. The Rule in Gibbs provides that a debt is treated as discharged if compromised in accordance with the law of the jurisdiction which governed the instrument giving rise to the debt.”3

Harris J was therefore of the view that a Hong Kong scheme of arrangement to discharge Hong Kong law-governed debt would be recognized abroad and sanctioned the scheme.

But Harris J went further, adopting in dicta the view that debt governed by US law could not be compromised by recognition of a foreign scheme under Chapter 15. Chapter 15 recognition would therefore be no bar to a creditor, who had not submitted to the jurisdiction of the foreign scheme, and could thereby conceivably present a winding-up petition in Hong Kong. Thus the only way to effectively discharge such debt was under Chapter 11.

Citing a recent decision by Judge Martin Glenn in In re Agrokor4, Harris J stated “Chapter 15 operates procedurally to prevent action by a creditor against property in the United States. Recognition does not appear as a matter of United States law to discharge the debt … . Unlike a discharge under Chapter 11 which purports to have worldwide effect, recognition under Chapter 15 is limited in territorial effect and … it is reasonable to assume … does not discharge the debt.”5 In doing so, the court adopted a stance that was somewhat contrary to recent jurisprudence where US debt was compromised pursuant to an arrangement or plan abroad and subsequently recognized by a US court under Chapter 15.

The Hong Kong court’s pronouncement concerning the effect of a Chapter 15 recognition on US law-governed debt has quickly become the subject of a recently filed Chapter 15 proceeding of insolvent Chinese property developer Modern Land in which the foreign representative sought and received an order recognizing a Cayman scheme that discharged its New York law-governed debt.

Judge Glenn clarified in In re Modern Land6 that “[p]rovided that the foreign court properly exercises jurisdiction over the foreign debtor in an insolvency proceeding, and the foreign court's procedures comport with broadly accepted due process principles, a decision of the foreign court approving a scheme or plan that modifies or discharges New York law governed debt is enforceable … . Chapter 15 limits a U.S. bankruptcy court's authority to enjoin conduct outside the territorial jurisdiction of the United States, but it does not make a discharge of New York law governed debt any less controlling.”7 

It would appear that Judge Glenn may have ameliorated Harris J’s dicta in Re Rare Earth by confirming that Chapter 15 recognition has the effect to discharge US law-governed debt. Hopefully this clarification will be adopted by the courts in Hong Kong and other jurisdictions and with it bring more certainty and consistency, particularly under the auspices of the UNCITRAL Model Law and the Rule in Gibbs, to cross-border restructurings.

Stay tuned for further developments.

[2022] HKCW 81/2021 (6 June 2022).
The Gibbs Rule emanates from the 1890 decision in Antony Gibbs & Sons v. La Societe Industrielle et Commerciale des Metaux (1890) QBD 399.
Re Rare Earth Magnesium Technology Group Holdings Ltd [2022] HKCW 81/2021 (6 June 2022), para 29.
In re Agrokor, 591 B.R. 163 (Bankr. S.D.N.Y. 2018).
5 Re Rare Earth, para. 36.
6 In re: Modern Land (China) Co., LTD., 2022 WL 2794014, at *1 (Bankr. S.D.N.Y. Jul. 18, 2022).
7 Id. at *4.

DISCLAIMER: Because of the generality of this update, the information provided herein may not be applicable in all situations and should not be acted upon without specific legal advice based on particular situations.

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