Battered by the COVID-19 pandemic and the decline in passengers travelling to Hong Kong, Hong Kong Airlines (HKA) has become the latest carrier to undergo a debt restructuring. Its restructuring plan was sanctioned by the English court on 9 December 2022 and its scheme of arrangement was sanctioned by the Hong Kong court on 14 December 2022.
- The English High Court proceeded on the basis that the Cape Town Convention applied, and did not address the much debated question of whether a restructuring plan constituted an "insolvency related event" for the purposes of the Convention.
- The unsecured class in the Restructuring Plan included secured creditors in respect of that part of their debt which exceeded the value of their security, the English High Court being satisfied that the plan did not affect their security rights. This approach was followed by the Hong Kong Court in its consideration of the scheme.
- The English High Court confirmed that the "sufficient connection" requirement was satisfied. The Court noted that whilst, in other cases, a "sufficient connection" existed as an "overwhelming majority" of the plan/scheme company's indebtedness was governed by English law, this was not a requirement. "Sufficiency" fell to be established by the facts of each case and not by satisfaction of a numerosity requirement.
- The Hong Kong Scheme's effectiveness was conditional but the Hong Kong Court considered that the conditions didn't represent any impediment as: they were either within HKA's control or, as regards Government authorisations, HKA did not expect insuperable difficulties in obtaining them; and all relevant parties were committed to the successful implementation of the scheme.
The English Restructuring Plan and the Hong Kong Scheme
In late 2022, HKA proposed a restructuring plan for HK$31.55bn of HKA's indebtedness. At the time HKA was both cash flow and balance sheet insolvent and was the subject of a winding up petition before the Hong Kong Court of First Instance (filed in March 2022 and subsequently adjourned).
The plan had three key elements:
- the injection of HK$3bn by HNA Aviation (owned by Liaoning Fangda Group, a Northeast China-based conglomerate) in exchange for a 99% equity stake;
- a significant reduction of its aircraft fleet from 53 aircraft to 20 aircraft, with retained aircraft being held on modified terms, and the liabilities in respect of the returned aircraft being compromised; and
- the compromise of unsecured creditors' claims.
The plan excluded certain claims and so did not deal with the entirety of HKA's indebtedness (approximately HK$49.01bn).
Parallel court proceedings in England (a restructuring plan under Part 26A of the Companies Act 2006 (the Restructuring Plan)) and Hong Kong (a scheme of arrangement under Sections 670 and 673 of the Companies Ordinance (Cap 622) (the Hong Kong Scheme)) were required due to the existence of both Hong Kong law and English law liabilities. Both England and Hong Kong apply the Rule in Gibbs (Anthony Gibbs & Sons v La Societe Industrielle et Commerciale des Metaux1) which means that the Restructuring Plan could not compromise any liability governed by Hong Kong law and the Hong Kong Scheme could not compromise any liability governed by English law. The Hong Kong Scheme and the Restructuring Plan were conditional upon the success of one another.
The Restructuring Plan – Key Issues at the English Court Sanction Hearing
A class of unsecured creditors could include secured creditors voting in respect of the unsecured portion of their claims, where a plan did not affect secured creditors' security rights
The creditors were divided into three classes, each of which approved the Restructuring Plan:
- unsecured creditors (lenders, trade creditors and lessors of aircraft to be returned);
- critical lessors (financiers or lessors of retained aircraft) - the critical lessors could either continue the leases or finance arrangements on amended terms and for an amended duration or terminate their lease/financial arrangement and stay in this class or have their aircraft returned and then claim as an unsecured creditor; and
- perpetual noteholders (the holders of senior perpetual notes governed by English law and guaranteed by HKA and other group entities).
Each class's claims were to be compromised differently but in essence, each would receive an upfront cash payment being a percentage of the value of their claim. The unsecured creditors and critical lessors would also receive a pro rata share of any payment under a contingent value right arrangement and the perpetual noteholders would receive a performance-linked distribution based on the contingent value right arrangement.
The key potential issue concerned the constitution of the class of unsecured creditors and the inclusion of secured creditors (in respect of the part of their debts that exceeded the value of their security). The court observed that the Restructuring Plan did not affect the secured creditors' security rights and it was the unsecured portion of their liabilities (and the right to recover the deficiency) that was being compromised. In addition, only two secured creditors attended the meeting of unsecured creditors, and if the votes of those two secured creditors were discounted, the Restructuring Plan would still have been approved by over 90% of the unsecured creditors voting at the meeting.
The court held that the presence of secured creditors at the meeting of unsecured creditors did not fracture the class in these circumstances.
It was not necessary for an overwhelming majority of the indebtedness to be governed by English law to establish a "sufficient connection"
Jurisdiction may only be exercised if the matter has "a sufficient connection" with England. Here, HKA was incorporated in Hong Kong and registered as an overseas company in the UK and English law governed debt amounted to 42% of HKA's total indebtedness. A significant portion of the holders of non-English law debt had been actively participating in the Restructuring Plan, and it was considered that the Restructuring Plan was proceeding "hand-in-glove" with the Hong Kong Scheme. These factors satisfied the "sufficient connection" requirement here.
Whilst in some cases (for example, Re Smile Telecoms Holdings Limited2), a sufficient connection had been found because the "overwhelming majority" of a plan/scheme proponent's indebtedness was governed by English law, the Court held that this does not mean that "an overwhelming majority" of indebtedness was necessary to establish a sufficient connection: "Sufficiency" falls to be established by the facts of each case and not by satisfaction of a numerosity requirement.
No clarification on whether a restructuring constitutes an "insolvency related event" under the Cape Town Convention
The Cape Town Convention (CTC) had been ratified by the UK and the PRC. Article XI(10) of the related Protocol to the CTC on Matters Specific to Aircraft Equipment (the Aircraft Protocol) provided that where a lessee had suffered "an insolvency-related event", the obligations of that lessee could not be modified without the consent of the lessor. This potentially applied to 8 of the retained aircraft where a PRC-incorporated company was a co-lessee with HKA.
Since the issue had not been raised, the Court assumed the CTC applied rather than addressing the much debated question of whether a restructuring plan constitutes an "insolvency related event" for the purposes of the CTC. The CTC presented no jurisdictional difficulty here for two reasons:
- The critical lessors unanimously voted in favour of the Restructuring Plan so each may be taken to have consented to the modification of its rights and the lessee's obligations.
- Each critical lessor had two options and could have chosen to terminate its lease and recover its aircraft; however, by choosing to continue the leasing arrangements on modified terms, the critical lessor had consented to that modification.
The Hong Kong Scheme - Key Issues at the Hong Kong Court Sanction Hearing
Deeds of contribution not required in Hong Kong
The court noted that, in order to permit the discharge of debts owed by related debtors (primary obligors where HKA was a guarantor), HKA had entered into various deeds of contribution (agreeing to make a contribution to each group company in respect of any amounts paid by that group company to discharge is primary liabilities). The court confirmed that, although the use of deeds of contribution was well established in England, it was not required in Hong Kong.
A class of unsecured creditors can include secured creditors voting in respect of the unsecured portion of their claims and a financier can be properly placed into a class of lessors
The judge considered that the Hong Kong Scheme properly placed the scheme creditors into two classes (unsecured creditors and critical lessors). In particular, the judge took into account the following:
- Although certain unsecured creditors had claims which were in part secured, the Hong Kong Scheme would only apply to the unsecured portion of their claims. Accordingly, he agreed with their inclusion in the class of unsecured creditors.
- China Development Bank (CDB) was properly placed into the class of critical lessors (despite the fact that CDB was a financier rather than a lessor). In the event of HKA's liquidation, CDB would have claims against HKA for payments due under the loans taken out by the SPV borrowers, as HKA had assumed liability under a covenant to pay (hence CDB’s rights were essentially identical to the lessors' rights). In addition, the security held by CDB (in respect of HKA's shares in the SPV borrowers) was worthless and should not render CDB a secured creditor for classification purposes.
Impact of conditions in a scheme
The Hong Kong Scheme's effectiveness was subject to certain conditions. If these conditions posed considerable uncertainties, the scheme may not be sanctioned. The court considered that these conditions did not represent any impediment here since:
- a number of the conditions were within HKA's control;
- all relevant parties were committed to the successful implementation of the Hong Kong Scheme; and
- HKA did not expect insuperable difficulties in obtaining government authorisations.
Both the English and Hong Kong court considered the international effectiveness of the plan/scheme. Given the facts of the case, the plan/scheme were likely to be internationally recognised as effective and that no holder of PRC law governed debt had opposed the plan/scheme and so would be unlikely to seek to undermine the plan, the remote risk of adverse enforcement in the PRC would not affect the effectiveness of the plan/scheme and the plan/scheme had a reasonable prospect of having a substantial effect in foreign jurisdictions of key practical importance.