Re New Smart Energy Group Ltd

HCMP 1566/2012

IN THE HIGH COURT OF THE

HONG KONG SPECIAL ADMINISTRATIVE REGION

COURT OF FIRST INSTANCE

MISCELLANEOUS PROCEEDINGS NO 1566 OF 2012

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DECISION

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1.I have before me a Petition issued by the Company seeking the court sanction pursuant to section 59 of the Companies Ordinance of a reduction of its share capital. In this Decision I deal with one particular matter, the nature of which will become apparent in due course, on which I think guidance to practitioners is desirable. The purpose of the reduction of capital is two-fold. The first is to create a credit which can be used to eliminate the Company’s accumulated losses with the result that the Company’s capital and reserve will more closely reflect its available net assets and will, subject to the Company’s performance, permit the payment of dividends to its shareholders in due course.

2.Secondly, the Company’s shares have been traded on the Stock Exchange below their original nominal value of HK$0.08 per share. Because of the restrictions imposed by section 50 of the Companies Ordinance on the issue of new shares at a discount to their par value, the fact that the Company’s shares have been trading below their par value has created real and practical difficulties for the Company in raising funds from the equity market.  The Company wishes to reduce the nominal value of the Company’s unissued shares to HK$0.01 which will give it great flexibility in raising new funds through the equity market. 

3.It is well established that both of these purposes are discernible purposes for the purposes of a capital reduction:

(1)   Re Tian An China Investments Co Ltd [1998] 2 HKLRD 474 at (476B-I)

(2)   Re Cheuk Nang Technologies (Holdings) Ltd [2001] 4 HKC 571 (at 573G-574D)

(3)   Re Goldbond Group Holdings Ltd HCMP 1891/2003, 27 June 2003 (unreported) per Kwan J (at §§27-31)

(4)   Re Hong Kong Construction (Holdings) Ltd HCMP 1477/2005, 5 October 2005 (unreported) per Kwan J (at §6)

4.I am satisfied generally that the 4 criteria with which the court is primarily concerned before sanctioning a reduction of capital are satisfied in the present case namely:

(1)  the shareholders are being treated equitably;

(2)  the reduction has been properly explained to shareholders prior to them being called upon to vote on a resolution to approve the proposed reduction of capital;

(3)  the reduction is for a discernible purpose; and

(4)  the creditors are sufficiently safeguarded.

5.The only issue that has arisen on the hearing of the Petition is the forms of undertaking that the Company will give to the court.  This is relevant to the 4^th requirement. 

6.First, and this has been uncontentious, the Company offers an undertaking in the normal way in respect of losses in respect of provisions against subsidiaries which are listed in Part II of the First Schedule containing undertakings to the order, and in respect of which, although unlikely, it is possible there will be future recoveries.  This provides in the normal way that if any such future recoveries are made, then so long as there shall remain outstanding any debt or claim against the Company which, if at the date on which the reduction of capital becomes effective were the date of the commencement of a winding-up of the Company, would be admissible to proof in such a winding-up, such recoveries shall be credited to a special capital reserve rather than being treated as realised profits and should be undistributable save in the limited circumstances contained in the undertaking, the first of which is that the Company shall be at liberty to apply the capital reserve for the same purposes as a share premium account may be applied.  The formal undertaking offered to the court in this respect was unobjectionable. 

7.The second undertaking related to the amount representing the amount by which the credit arising from the reduction of capital exceeds total accumulated losses of a permanent nature of the Company as at 31 December 2011.  In the form of order sent to the court in advance of the hearing of the Petition, the relevant undertaking provided that this amount would be credited to the share premium account of the Company. 

8.The reason this was proposed was as follows.  In Re Poly Investments Holdings Ltd [2007] 2 HKLRD 10, Kwan J (as she then was) in dealing with a similar reduction of capital accepted (see paragraph 17) that the excess of credit arising from the reduction of capital over the accumulated losses should be credited to the share premium account.  It does not, with respect, seem to me that this is appropriate. Section 48 of the Companies Ordinance which deals with share premiums provides that share premiums, by which I mean real premiums paid over and above the nominal price of a share, are credited to a share premium account.  Section 48(3) provides that the share premium account can be utilised for various limited purposes.  The only one which is relevant in circumstances such as the present case is to be found in section 48B(3)(a), namely, paying up unissued shares of the Company to be issued to members of the Company as fully paid bonus shares.

9.It seems to me to be fairly clear that the justification for this exception must be the underlying assumption that the bonus shares to be issued would be backed by a premium that would have been received either as cash or other valuable consideration at the time the relevant shares which gave rise to the premium were issued.

10.I appreciate that in practice over time this may cease to be the case, however, it seems to me to be inconsistent with the intention of section 48B(3) for what is no more than a book entry to be potentially used as the basis for issuing as fully paid up bonus shares to shareholders.

11.Mr Anson Wong who appeared for the Company also referred me to another of Kwan J’s judgment on reduction of capital, namely, Hong Kong Construction (Holdings) Ltd HCMP 1477 of 2005 (supra).  On similar facts her Ladyship accepted that the excess credit over the accumulated losses could be credited to a capital reduction reserve account and be applied in such manner as the directors should consider appropriate.  Whilst I agree that such an excess should be credited to a special capital reserve account, rather than the share premium account, it is not clear to me why in that case her Ladyship thought it appropriate to leave entirely in the discretion of the directors how such an account could be utilised. It seems to me that the account should necessarily be limited in application either to cases in which the capital of the company has been increased for new consideration or is the result of the capitalisation of distributable profits. 

12.After discussion Mr Wong accepted this and suggested a new undertaking in the following terms which I consider to be appropriate:

1.  The Company undertakes that in the event of the Company making any future recoveries in respect of the provisions against subsidiaries identified in Part II hereto (the “Subsidiaries”), which had been made in the accounts of Company up to 31 December 2011, all such recoveries (the “Recoveries”), up to an amount of HK$171,025,000 (the “Limit”), will be credited to a new special capital reserve in the accounting records of the Company (“Special Capital Reserve 1”) and that so long as there shall remain outstanding any debt of or claim against the Company which, if the date on which the reduction of capital becomes effective (the “Effective Date”) was the date of the commencement of the winding-up of the Company, would be admissible to proof in such winding-up and the persons entitled to the benefit of such debts or claims shall not have agreed otherwise, such reserve shall not be treated as realised profits for the purposes of section 79B of the Companies Ordinance (Cap 32) and shall (for so long as the Company shall remain a listed company) be treated as an undistributable reserve of the Company for the purposes of section 79C of the Companies Ordinance (Cap 32), or any statutory re-enactments or modifications thereof PROVIDED THAT:-

(1)  The Company shall be at liberty to apply Special Capital Reserve 1 for the same purposes as a share premium account may be applied;

(2)  The Limit may be reduced by the amount of any increase, after the Effective Date, in the paid up share capital or the amount standing to the credit of the share premium account of the Company as a result of the payment up to shares by the receipt of new consideration or the capitalization of distributable profits if such increase is not used to reduce the limit under paragraph 1 hereof;

(3)  The Limit may be reduced upon the disposal or other realization, after the Effective Date, of any of the Subsidiaries by the amount of the provision made in relation to the provision made in relation to such Subsidiary as at 31 December 2011 (which amount is set out in Part II hereto) less such amount (if any) as is credited to the Special Capital Reserve 1 as a result of such disposal or realization; and

(4)  In the event that the amount standing to the credit of the Special Capital Reserve 1 exceeds the Limit after any reduction of the Limit pursuant to provisos (2) and/or (3) above, the Company shall be at liberty to transfer the amount of any such excess to the general reserves of the Company and the same shall become available for distribution or to use any such excess to offset the accumulated losses of the Company, as the case may be.

2.  The Company undertakes that it will create in its accounting records a further special capital reserve (“Special Capital Reserve 2”) in the amount of HK$87,627,124 (representing the amount by which the proposed capital reduction exceeds the total accumulated losses of permanent nature of the Company as at 3l December 2011) (the “Amount”) and that so long as there shall remain outstanding any debt of or claim against the Company which, if the Effective Date was the date of the commencement of the winding-up of the Company, would be admissible to proof in such winding-up and the persons entitled to the benefit of such debts or claims shall not have agreed otherwise, such reserve shall not be treated as realised profits for the purposes of section 79B of the Companies Ordinance (Cap 32) and shall (for so long as the Company shall remain a listed company) be treated as an undistributable reserve of the Company for the purposes of section 79C of the Companies Ordinance (Cap 32), or any statutory re-enactments or modifications thereof PROVIDED THAT:-

(1)  The Amount may be reduced by the amount of any increase, after the Effective Date, in the paid up share capital or the amount standing to the credit of the share premium account of the Company as a result of the payment up of shares by the receipt of new consideration or the capitalization of distributable profits if such increase is not used to reduce the Limit under paragraph 1 hereof;

(2)  In the event that the Amount of Special Capital Reserve 2 is so reduced pursuant to proviso (1) above, the Company shall be at liberty to transfer the amount of any such reduction to the general reserves of the Company and the same shall become available for distribution.

3.  The Company undertakes that, for so long as the undertakings set out above remain effective, it will (i) cause or procure its statutory auditors to report by way of a note or otherwise a summary of the undertakings in its audited financial statements or in the accounts of the Company published in any other form, and (ii) publish or cause to be published in any prospectus issued by or on behalf of the Company a summary of the undertakings.

Mr Anson Wong, instructed by D S Cheung & Co, for the petitioner