Re The Prudential Assurance Company Ltd

HCMP 2027/2013

IN THE HIGH COURT OF THE

HONG KONG SPECIAL ADMINISTRATIVE REGION

COURT OF FIRST INSTANCE

MISCELLANEOUS PROCEEDINGS NO 2027 OF 2013

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J U D G M E N T

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Introduction

1.The transfer of any insurance business that falls within the meaning of “long term business” is regulated in Hong Kong under Part IV of the Insurance Companies Ordinance (Cap 41) (“the Ordinance”) and requires the sanction of the Court of First Instance of the High Court of Hong Kong.  “Long term business” includes, among others, life insurance, retirement scheme and certain kinds of health insurance (see s 2 of the Ordinance).

2.The Prudential Assurance Company Limited (“PAC”), which was incorporated in England and Wales in 1881, has operated a branch office in Hong Kong since 1964.  The Hong Kong Branch has since 1977 carried on “long term business” in the territory within the meaning of the Ordinance.  It is the last remaining Asian branch office of PAC and is now a very substantial business in its own right, having operated on a stand-alone basis for many years.  New long term insurance business is distributed by the Hong Kong Branch’s sale force which includes direct employees and over 5,000 authorised agents and through its bank distribution partners.

3.The long term business carried on by PAC’s Hong Kong Branch in or from Hong Kong (“the Business”) has expanded rapidly in recent years and has been growing in size relative to PAC’s UK and Europe business.  PAC has a total of 9.5 million policy holders of which around 800,000 have policies taken out in Hong Kong.  The Business amounts to approximately 1.3 million policies, with liabilities as at 31 December 2012 of approximately HK$118 billion.  This represented approximately 9% of PAC’s long term business as at the end of 2012. 

4.The Prudential group, including PAC’s holding company Prudential plc and its subsidiaries, now wish to have the entire Business transferred from PAC’s Hong Kong Branch to a local company called Prudential Hong Kong Limited (“PHKL”), which was incorporated specifically for that purpose in 2008.  PHKL is a subsidiary of PAC with an issued share capital of HK$200 million.  The proposal would involve, using estimated values as at the end of 2012, the transfer of £13 billion in assets and the associated liabilities to PHKL, representing approximately 10% of PAC’s long-term fund at that date.

5.Under the law of Hong Kong, such a transfer can only lawfully take place pursuant to a scheme sanctioned by the Court of First Instance under s 24 of the Ordinance.  This is to be contrasted with the transfer of general insurance business which may take place pursuant to s 25D of the Ordinance without the sanction of the court.  PAC proposes to transfer the other insurance policies written by its Hong Kong Branch to another subsidiary incorporated in Hong Kong.

6.PAC and PHKL have now applied jointly by petition to this court for sanction of the scheme of transfer.  For reasons I shall explain, the scheme has been split into two schemes, called the Main Scheme and the EEA Policies Scheme.

Reasons for there being two schemes

7.The petitioners also intend to seek the sanction of the High Court of England and Wales pursuant to s 105(4) of the Financial Services and Markets Act 2000 (“the 2000 Act”) in respect of the scheme as if it were an insurance business transfer scheme within the terms of s 105 of the 2000 Act.  That decision was made following consultation with PAC’s regulators in the United Kingdom.  The reasons for seeking the sanction of the English court are as follows:

(1) the Business comprises a number of policies which are governed by English law;

(2) the Business is a significant part of PAC and its transfer includes a significant part of the PAC Inherited Estate (a part of the with-profits fund which I shall describe below).  As PAC is a company incorporated in England and Wales, it is considered appropriate that PAC apply to the English court for approval of the scheme;

(3) the use of an insurance business transfer process based only in Hong Kong would raise practical difficulties and cost implications for those policyholders who are based in the UK and Europe and who may wish to make representations.

8.The English court will only have jurisdiction to sanction the scheme if it falls within the scope of what is called a “Case 3 excluded scheme” in light of s 105(3) of the 2000 Act.

9.A crucial condition for qualifying as a “Case 3 excluded scheme” is that the business to be transferred under the scheme does not include policies of insurance against risks arising in an “EEA State”. 

10.EEA State is defined in paragraph 8 of Part 1 of Schedule 3 to the 2000 Act, which in turn leads to Schedule 1 to the Interpretation Act 1978, and in essence means a State which is a member State of the European Union or a party to the agreement on the European Economic Area signed at Oporto on 2 May 1992 together with the Protocol signed at Brussels on 17 March 1993, as modified or supplemented from time to time.

11.In order to ensure that the scheme presented to the English court for sanction meets that requirement, the petitioners have split the scheme into two by reference to the location of the risks insured against, viz. a “EEA Policies Scheme” for the transfer of any policies of insurance against risks arising in an EEA State (including any such policies in respect of which an EEA State is the “State of the commitment”), and a “Main Scheme” for the transfer of the long term insurance business of PAC’s Hong Kong Branch with the exception of the policies falling within the EEA Policies Scheme. 

12.The petitioners intend to apply to the English court for an order sanctioning the Main Scheme as if it were an insurance business transfer scheme under the 2000 Act.  I am told that the application will be heard on 10 December 2013.  No such application will be made in respect of the EEA Policies Scheme.

13.As explained above, the scheme has been split into two solely for the purpose of allowing an application to be made to the English court for sanction of the Main Scheme. The EEA Policies Scheme incorporates the relevant provisions of the Main Scheme.  The effect of the EEA Policies Scheme on any policy transferring under it is identical to that of the Main Scheme.  Accordingly no distinction between the two schemes is made in the evidence on the merits and effects of the proposed transfer.  This also explains why a single petition has been presented to this court to apply for sanction of both schemes.  The division of the transfer into two schemes is artificial from the perspective of Hong Kong law. Together the Main Scheme and EEA Scheme cover the entirety of the Business. Accordingly, I shall refer below to the two schemes collectively as a single scheme without distinction.

14.Under the 2000 Act, as a condition for the English court to give sanction of the Main Scheme, it is necessary for the petitioners to have obtained the approval of the Hong Kong court in respect of that scheme.  The petitioners have also stated that the transfer will not proceed unless the English court sanctions the Main Scheme.

15.Subject to the sanction of the courts in both jurisdictions, the effective date of the transfer under the scheme is expected to be 00:01 am UK time on 1 January 2014.

The legal framework in Hong Kong

16.The application for sanction is made under s 24(1) of the Ordinance, which provides:

“Where it is proposed to carry out a scheme under which the whole or part of the long term business carried on in Hong Kong by an insurer ("the transferor company") is to be transferred to another insurer ("the transferee company") the transferor company or transferee company may apply to the Court of First Instance, by petition, for an order sanctioning the scheme.”

17.A number of mandatory conditions for such sanction are stipulated in s 24.  In brief they include the following:

(1) that the petition is accompanied by a report on the terms of the scheme by an independent actuary;

(2) that a notice of the application has been published in the Gazette and in newspapers giving details for the inspection of the petition and the independent actuary’s report;

(3) that a statement setting out the terms of the scheme and containing a summary of the independent actuary’s report has been sent to the policy holders and to the members of the insurers concerned;

(4) that a copy of the petition, of the independent actuary’s report and of the explanatory statement to policy holders and members has been served on the Insurance Authority not less than 21 days before;

(5) that copies of the petition and of the independent actuary’s report have been open to inspection for a period of not less than 21 days; and

(6) that the transferee company is, or immediately after the making of the order will be, authorized to carry on any long term business to be transferred under the scheme.

18.If these conditions are satisfied, the court may in its discretion sanction the scheme.  The principles that guide the exercise of this discretion have been explained by Hoffmann J in Re London Life Association Ltd (21 February 1989, unreported) and summarised by Evans-Lombe J in Re AXA Equity and Law Life Assurance Society plc [2001] 2 BCLC 447 at 468e-469b which have been adopted in Hong Kong in Re Winterthur Life [2005] 4 HKLRD 313.  They are, as summarised by Evans-Lombe J, as follows:

“(1) The 1982 Act confers an absolute discretion on the Court whether or not to sanction a scheme but this is a discretion which must be exercised by giving due recognition to the commercial judgment entrusted by the Company's constitution to its directors.

(2) The Court is concerned whether a policyholder, employee or other interested person or any group of them will be adversely affected by the scheme.

(3) This is primarily a matter of actuarial judgment involving a comparison of the security and reasonable expectations of policyholders without the scheme with what would be the result if the scheme were implemented. For the purpose of this comparison the 1982 Act assigns an important role to the Independent Actuary to whose report the Court will give close attention.

(4) The FSA by reason of its regulatory powers can also be expected to have the necessary material and expertise to express an informed opinion on whether policyholders are likely to be adversely affected. Again the Court will pay close attention to any views expressed by the FSA.

(5) That individual policyholders or groups of policyholders may be adversely affected does not mean that the scheme has to be rejected by the Court. The fundamental question is whether the scheme as a whole is fair as between the interests of the different classes of persons affected.

(6) It is not the function of the Court to produce what, in its view, is the best possible scheme. As between different schemes, all of which the Court may deem fair, it is the Company's directors' choice which to pursue.

(7) Under the same principle the details of the scheme are not a matter for the Court provided that the scheme as a whole is found to be fair. Thus the Court will not amend the scheme because it thinks that individual provisions could be improved upon.

(8) It seems to me to follow from the above and in particular paragraphs (2) (3) and (5) that the Court, in arriving at its conclusion, should first determine what the contractual rights and reasonable expectations of policyholders were before the scheme was promulgated and then compare those with the likely result on the rights and expectations of policyholders if the scheme is put into effect.”

19.I am satisfied on the evidence that the mandatory conditions have been complied with.  In particular, by a letter dated 18 November 2013, the Insurance Authority has stated that approval in principle has been given to authorise PHKL under s 8 of the Ordinance to carry on the following classes of long term business in or from Hong Kong: A (Life and annuity), C (Linked long term), D (Permanent health), G (Retirement scheme management category I), H (Retirement scheme management category II) and I (Retirement scheme management category III), as defined in Part 2 of Schedule 1 to the Ordinance.  Formal authorisation will be given to PHKL following compliance with a number of conditions specified in that letter.  I am satisfied on the evidence that those conditions have either been fulfilled or will be fulfilled without difficulty following the sanction of the court.

The rationale of the scheme

20.The commercial reason for the scheme is that the Prudential group wish to align the legal structure for the Hong Kong business with its geographical location.  PAC’s Hong Kong Branch is part of PAC which is an English company and operates in the United Kingdom, but from an operational perspective the Hong Kong Branch is part of the Asian arm of the group.  This is anomalous within the group because business units are structured along geographical lines.  The scheme of transfer has been proposed to mitigate this “structural anomaly”.

21.It is said that the transfer will bring the benefits of:

(1) better aligning the Prudential group’s operating units along regional lines;

(2) improving the efficiency of decision making;

(3) removing the tensions that currently exist within PAC as a result of the differing risk profiles and regulatory regimes that apply to its Hong Kong and its UK & Europe businesses, leaving each territory to pursue the strategy that best fits the needs of its market, policyholders and shareholders; and

(4) improving longer-term corporate flexibility.

The principal elements of the scheme

22.In very broad terms, the transfer of the Business to PHKL includes the following three elements: transfer of the policies, transfer of the relevant assets, and transfer of supporting contractual arrangements, intellectual property and business records.

23.The third of these can be briefly described.  The arrangements to be transferred include reinsurance, administration and investment management agreements.  The related intellectual property and business records will also be transferred to PHKL.  Certain intellectual property licensed to PAC and hedging and derivative arrangements will however not be transferred.  Instead, such intellectual property will be licensed to PHKL by Prudential IP Services Limited, as is the case for other companies within the Prudential group, and PHKL will put in place new hedging and derivative arrangements for its business.

24.The transfer of the policies and assets from PAC to PHKL needs to be described in greater detail. Under the scheme, the policies written by PAC that fall within the Business will be transferred from PAC to PHKL so that PHKL will become entitled to all the rights and interests of PAC and assume all the obligations of PAC in relation to those policies.  The scheme effects no change to any other term and condition of any of the policies.  Nor is there any intention to change the investment strategy or bonus policy as a result of the transfer, or the identity of the relevant fund managers.  In other words, the only change is that PHKL is to be substituted as the insurer in place of PAC in relation to all transferred policies.  The policies will in future be enforceable against PHKL instead of PAC.  There is also a provision in the scheme for PHKL to be substituted for PAC in all legal proceedings in connection with the Business.  The scheme does not provide for any policy holder to be entitled to opt out of the transfer or to seek a return of premium or other variation of the contract of insurance.

25.It is relevant to note that PAC, both in and outside Hong Kong, has written both with-profits policies and non-profit policies that fall within its long term business.  With-profits policies are policies that participate in the profits of the insurance company, while non-profit policies are those that do not so participate.

26.PAC’s long term business fund consists of four sub-funds.  In essence the scheme will effect a split of the With-Profits Sub-Fund (“the PAC With-Profits Sub-Fund”) and the Non-Profit Sub-Fund (“the PAC Non-Profit Sub-Fund”).  The other two sub-funds of PAC, namely, the Defined Charge Participating Sub-Fund and the Scottish Amicable Insurance Fund, which have been created primarily as a result of previous transfers of business from the Equitable Life Assurance Society and Scottish Amicable Life Assurance Society, will not be split by the scheme.

27.The Business, which is to be transferred, comprises:

(1) with-profits policies written in the PAC With-Profits Sub-Fund, and a small amount of non-profit business (mainly riders to with-profits policies) written in the PAC With-Profits Sub-Fund; and

(2) non-profit policies written in the PAC Non-Profit Sub-Fund.

28.At the receiving end, the scheme requires PHKL to operate a shareholder fund and a long term insurance fund (as required by s 22 of the Ordinance).  Two ring-fenced sub-funds of the long term insurance fund will be created: the Non-Profit Fund (“the PHKL Non-Profit Fund”) and the With-Profits Fund (“the PHKL With-Profits Fund”).  The PHKL With-Profits Fund will be further sub-divided into two ring-fenced sub-funds: the PHKL In-Force Sub-Fund, which is intended to support the existing with-profits policies transferred from PAC, and the PHKL New Business Sub-Fund, which is intended to support the new long term policies written by PHKL. 

29.In broad terms, pursuant to the scheme under the approach that has been applied:

(1) assets held in respect of certain liabilities will be allocated according to whether those liabilities will be transferred to PHKL or remain with PAC;

(2) a proportion of the balance of the assets of the PAC With-Profits Sub-Fund (the “PAC Inherited Estate”) will then be allocated to PHKL.  The proportion will be determined broadly pro rata to the asset shares of the transferring and non-transferring with-profits policies at the transfer date; and

(3) an additional allocation of £270 million will then be made from the PAC Inherited Estate to PHKL to support the writing of new with-profits business by PHKL.

30.Thus assets backing the liabilities of PAC arising from the Business which form part of the PAC Non-Profit Sub-Fund (ie the non-profit business) will be transferred to PHKL and allocated to the PHKL Non-Profit Fund.  All profits and losses arising in this fund will accrue to the shareholder of PHKL.

31.Similarly, the assets representing the liabilities of the transferring with-profits policies written by PAC’s Hong Kong Branch (including the small amount of non-profit business in the PAC With-Profits Sub-Fund) will be transferred to PHKL and allocated to the PHKL In-Force Sub-Fund. 

32.After allocating specific amounts to represent liabilities in UK & Europe on the one hand and Hong Kong on the other, there is a balance in the PAC With-Profits Sub-Fund which has been called the PAC Inherited Estate.  In essence it represents assets in excess of what PAC expects to pay out to existing policy holders.  It has been built upon over many years from a number of sources and provides working capital to support current and future business.  How to apportion this balance as between PAC and PHKL upon the transfer has been a much discussed topic in the preparation of the scheme.  A number of different methods can in theory be used to carry out the apportionment.  The methodology eventually adopted is an allocation in line with asset shares.  This is done by comparing the with-profits benefit reserves subject to necessary adjustments, resulting in a ratio of 10.87% for PHKL.

33.A significant assumption in this approach is that the aggregate risk level in each territory is similar so that the different territories can be said to have similar requirements for capital support.  The view expressed by the independent actuaries in their report that the allocation by applying this methodology is reasonable is subject to satisfactory alignment of the risk levels of the two territories being achievable at the transfer date.  Provisions have been made for the risk alignment to be confirmed shortly before the scheme is to take effect.

34.The PHKL In-Force Sub-Fund will be closed to new business other than increments to or replacements of the policies transferred into that sub-fund, and is intended to be operated in a manner consistent with the way the PAC With-Profits Sub-Fund was operated before.

35.Under the scheme, the PHKL board of directors will determine from time to time, with the benefit of actuarial advice, the surplus arising within the funds.  The proportion of surplus arising in the PHKL In-Force Sub-Fund that will be distributed to holders of with-profits policies will be determined by the PHKL board of directors, subject to a requirement that not less than 90% of divisible surplus be allocated to the with-profits policies in that fund.  The balance of the surplus accrues to the shareholders of PHKL.  The same arrangement has applied to the PAC With-Profits Sub-Fund.

36.The holders of with-profits policies written by PAC, including those written by its Hong Kong Branch, have hitherto benefitted from the protections available under the UK regulatory regime as part of the PAC With-Profits Sub-Fund.  To preserve the reasonable expectations of the transferring policy holders in this respect, the scheme encompasses a set of Principles of Financial Management for PHKL which set out the guiding principles that will apply to the operation of the PHKL With-Profits Fund.  These include (as summarised by Mr Coleman SC):

(1) a requirement to maintain current distribution practice;

(2) ring-fencing of the assets backing the transferring with-profits policies;

(3) a target of 100% asset share for payouts on maturity (or higher, if guarantees are in the money) and smoothing rules to be neutral in the long term;

(4) restrictions on the level of new business that can be written in both the PHKL New Business Sub-Fund and the PHKL Non-Profit Fund, broadly not to exceed levels which the appointed actuary considers would have a material adverse impact on transferring with-profits policy holders.  Further, the PHKL In-Force Sub-Fund and the PHKL With-Profits Fund as a whole must always have the same economic strength.  This means that the PHKL New Business Sub-Fund cannot write business where its risk of not paying its claims is greater than that of the PHKL In-Force Sub-Fund;

(5) restrictions of charges only to reflect those reasonably incurred in the normal operation of the PHKL With-Profits Fund;

(6) rules relating to the treatment of excess surplus arising in the PHKL With-Profits Fund; and

(7) all dealings between PHKL’s funds and any member of the corporate group of which PHKL is a member to be on an arm’s length basis.

37.The scheme also requires PHKL to appoint a With-Profits Committee, with independent members, to advise the PHKL board of directors in relation to the rights and reasonable expectations of the transferring with-profits policy holders.  The terms of reference of this committee are similar to those of the corresponding committee of PAC.

38.The PHKL In-Force Sub-Fund is a closed fund devised for the protection of the transferring policy holders.  It is expected that, over the future years, as its business runs off, the assets in excess of those that PHKL expects to pay out to meet its obligations to existing policy holders will gradually cease to be required to support the business of that fund.  The scheme provides for such capital to be transferred to the PHKL New Business Sub-Fund to support the writing of new with-profits business.  This is consistent with the way in which the PAC With-Profits Sub-Fund is currently operated in relation to the capital which is released as in-force business runs off.

39.The scheme contains a sunset clause for the PHKL In-Force Sub-Fund so that, if the total value of asset shares of the policies within that fund falls below 10% (which is not expected for at least 40 years), the PHKL board of directors may resolve that that fund be merged with the PHKL New Business Sub-Fund, provided there is no objection from the Insurance Authority.  This has been devised in part to protect the transferring policy holders as the cost of maintaining the PHKL In-Force Sub-Fund as a separate fund may become disproportionately large as the fund runs off.  In the event of such “merger” the Principles of Financial Management for PHKL will cease to have effect but certain protections in them will continue to apply until all transferring with-profits policies have terminated.

40.As mentioned above, in addition to the pro rata allocation, under the scheme £270 million (expected to be in cash) will be transferred out of the PAC Inherited Estate to PHKL and allocated to the PHKL New Business Sub-Fund, with a view to supporting the new with-profits business that PHKL will write.  The scheme also requires not less than 90% of divisible surplus arising in that fund to be allocated to the with-profits policies in that fund.

41.In order not to prejudice non-transferring policy holders within the PAC With-Profits Sub-Fund, Prudential plc will be required by an undertaking over the following three years to provide such shareholder support as is necessary to maintain the benefit expectations and security of PAC’s policy holders as if the sum of £270 million had not been transferred to PHKL.

42.There is an additional part of the transfer which relates to certain non-profit annuity business of PAC, including the liabilities of Prudential Annuities Limited (“PAL”).  It is proposed that this business and its risks be shared between UK & Europe and Hong Kong.  This is to be achieved by way of a reinsurance agreement, which provides for a proportion of such business to be reinsured to PHKL on a quota share basis amounting to 10.87%.  Based on a total value of £575 million for PAL’s business, this means £63 million worth of that business will be allocated to PHKL.  The interest will be purchased by PHKL through a reduction in the assets of the PAC With-Profits Sub-Fund that would otherwise be transferred to PHKL.

43.In 1998, with-profits policies holders of PAC were given an assurance that the deduction of personal pension mis-selling costs from the PAC Inherited Estate will not have an impact on PAC’s bonus and investment policy for with-profits policies.  To protect the transferring policy holders’ rights and expectations in this respect, PHKL will give a similar assurance under the scheme, so that the investment bonus policy of the PHKL In-Force Sub-Fund will be set as if the amount of support available under the assurance given by PAC was allocated to that sub-fund.  PHKL’s assurance in this regard is to be supported by its shareholder fund.

44.To support PHKL, Prudential plc will give an undertaking to PHKL that it would provide capital support to PHKL to ensure that PHKL maintains a solvency ratio exceeding 150% under the relevant Hong Kong regulation.  This undertaking lasts for approximately five years from the transfer date or until the end of the third consecutive year in which the assets in the PHKL New Business Sub-Fund have been sufficient to cover its regulatory capital and solvency requirements on a stand-alone basis.  Prudential plc will also give an undertaking, which is unlimited in time, to the Hong Kong Insurance Authority to the same effect.

The independent actuaries’ report and other actuaries’ reports

45.The appointed joint independent actuaries, whose report on the scheme is required by statute, have prepared a detailed report (a summary of which was sent to the policy holders) as well as a supplementary report.  They have stated as their overall conclusions that:

(1) the scheme is unlikely to have a material adverse effect on the security of the guaranteed benefits of the non-transferring policy holders of PAC or those of the policies of PAL;

(2) transferring policy holders will enjoy an increased level of security for their guaranteed benefits in the short term, as a result of the amount of assets to be transferred from PAC to PHKL;

(3) thereafter the security provided by surplus assets within PHKL is likely to reduce through the writing of new with-profits business, and in the medium term it may fall below the level which would have applied if the scheme had not been implemented.  However, the scheme includes a number of safeguards which they consider should mean that transferring policy holders will continue to benefit from a high level of security;

(4) the security for transferring policy holders will also be enhanced by undertakings from Prudential plc to provide financial support to PHKL if necessary.  Provided these (or equivalent) undertakings remain in place and enforceable, they consider that the scheme is unlikely to have a material adverse effect on the security for the guaranteed benefits of transferring policy holders;

(5) the scheme is unlikely to have a material adverse effect on the reasonable benefit expectations of any group of policy holders of PAC;

(6) the apportionment methodology for the PAC Inherited Estate achieves a reasonable balance between the two territories.

Position of the Insurance Authority

46.Under s 24(5)(a) of the Ordinance, the Insurance Authority has a right to be heard in this petition.  He has been represented in these proceedings throughout and has indicated that he does not object to the proposed transfer, a position which he maintained at the end of the sanction hearing.  His comments and observations on the proposed transfer have been reflected, where appropriate, in the documents before the court.

47.Following the approach established by the authorities, in exercising my discretion I should give much weight to the views of the independent actuaries and the Insurance Authority. As Kwan J said in Re Sun Life Financial (Hong Kong) Ltd [2006] 4 HKLRD 369 at §29:

“… The statutory mechanism assigns important roles to the independent actuary and the Insurance Authority and the court will pay close attention to their views, as the question of whether policy holders would be adversely affected is largely actuarial, and the Insurance Authority can be expected to have the necessary material to form an informed opinion. …”

Representations and objections

48.At the directions hearing in September this year, directions were given by the court for notification of the policy holders and advertisement of the scheme.  Following publicity of the scheme, a total of 1,751 communications had been received from transferring policy holders (out of 681,761 mailings to such policy holders) and 22,885 from non-transferring policy holders (out of 2,344,808 mailings to such policy holders).  The majority of these communications are oral.  Some of the communications relate to the transfer and some do not.  Of those that relate to the transfer, the vast majority are enquiries rather than objections.  In total, 39 and 42 communications have been received from transferring and non-transferring policy holders respectively that are objections to the transfer.

49.Dedicated teams of personnel from PAC and PHKL were given the responsibility to deal with the objections mainly by written responses (prepared with legal and actuarial input) but also by telephone and in meetings. 

50.The objections and the petitioners’ responses have been summarised by the petitioners’ solicitors in a schedule.  The correspondence relating to all objections, including transcripts of oral objections, and copies of all written responses to the policy holders have been included in the bundles before me.  A number of policy holders have specifically requested that their objections be placed before the court.  These have been placed in the hearing bundles and my attention has been drawn to them in particular.

51.A number of policy holders have indicated an intention to make oral representations to the court at the hearing of the petition.  For this purpose, as some of these policy holders reside in the UK, video conferencing facilities and special sitting hours were put in place so that those policy holders could address this court from London.  As it turned out, however, no policy holder appeared at the hearing of the petition on 26 November 2013 in this way.  Six policy holders appeared in person in Hong Kong to make oral representations at the hearing.

52.I have carefully considered the objections which I shall summarise and discuss below.  This of necessity cannot be an exhaustive exercise.  What I endeavour to do below is to highlight those which seem to me to be the most common concerns among policy holders or of greater significance.

53.First, objection has been raised on the ground that there is no benefit for policyholders from the Transfer.  While there is no change effected by the scheme to the terms of the policies in favour of the policy holders, I do not think it is entirely accurate to say that no benefit will enure to policy holders.  As explained above, the commercial rationale for the transfer includes aligning the business structures with the risk profiles and regulatory regimes that apply to the territory in question, leaving each corporate unit to pursue the business strategy that best fits the needs of its market, policyholders and shareholders.  The improvement in efficiency may well, even if indirectly, benefit policy holders.

54.In any event benefit to policy holders is not the touchstone for sanction.  As Hoffmann J said in Re London Life Association Ltd, in the end the question is whether the scheme as a whole is fair as between the interests of the different classes of persons affected.  Fairness here is gauged not only as between policyholders themselves but also as between them and the insurance companies and their shareholders. Giving due weight to the commercial judgment of the directors, it seems to me that the scheme is being proposed by rational and justifiable reasons.

55.Secondly, some policy holders have objected to the transfer on the ground that no absolute guarantee has been offered that there is no effect whatever on policy holders.  Such a guarantee is not a condition for sanction of the scheme.  What is important is to see if there are policy holders that would be likely to be adversely affected by the scheme and if so, whether they would be unfairly treated as a result.  It seems to me that steps and measures have been painstakingly devised in this case to ensure that, consistently with the transfer of the Business, the rights and reasonable expectations of both transferring and non-transferring policy holders are protected.  Whether a policy holder will be adversely affected is primarily a matter of actuarial judgment involving a comparison of the security and reasonable expectations of policy holders without the scheme and what the result would be if the scheme were implemented: Re Allied Dunbar Assurance Ltd [2005] 2 BCLC 220 at §13.  In this case, the independent actuaries, who play a statutory role, have reported that the scheme is unlikely to have a material adverse effect on the security of the non-transferring policy holders, or on the security of the transferring policy holders provided the undertakings given by Prudential plc (which I have described above) remain in place.  On the materials before me, there is nothing to suggest that any policy holder or class of policy holders will be adversely affected by the scheme to any material extent.

56.Thirdly, a number of policy holders (mainly transferring policy holders) have objected to the scheme on the ground that their consent has not been obtained.  As Kwan J (as she then was) said in Re Winterthur, supra, at §22, however, the short answer to this is that the transfer of long term insurance business is permissible under s 24 of the Ordinance without the consent of policy holders.  The statutory regime adopted for the transfer of long term insurance business is one that requires notice of the proposed transfer and relevant information be given to policy holders, so that if they consider they would be adversely affected by the scheme they could make representations to the court. The court would then make a decision whether or not to approve the scheme.  I have already set out above the principles on which the court exercises that power.  The sanction of the scheme does not depend as a criterion on the consent of the policy holders whether individually or as a class.  No policy holder or class of policy holders is given a power to veto a scheme.

57.Fourthly, objection has been raised on the ground that there is no opportunity for the transferring policy holders to opt out of the transfer.  It has, however, been established that an opt-out mechanism is not as such an essential part of a scheme.  As Lindsay J stated in Re Norwich Union Linked Life Assurance Ltd [2004] EWHC 2802 (Ch) at §26 (adopted by Kwan J in Re Winterthur at §35):

“But, and this is a consideration that affects several of the complaints, it is for the Boards of the proponent companies to formulate the Schemes which they wish to have considered by the Court. The Scheme so proposed does not make provision for any opt-out. It is no part of the Court’s duty when considering whether or not to sanction a scheme to consider whether in this particular or that its provisions might be improved. Unless failure to provide an opt-out goes to the basic question of fairness, which in my view it does not, then the complaint that no opt-out is provided is not such as to jeopardise the sanctioning of the Scheme.”

In the circumstances of the present case I do not think that the absence of an opt-out mechanism renders the scheme unfair as a whole.

58.Fifthly, a number of transferring policy holders prefer to remain insured by PAC instead of PHKL. They object to the scheme on the ground that after the transfer, they would lose the “global support structure” of PAC as compared to PHKL which is a local company, and the reputation and track record of PAC as compared to PHKL which is a new company.  This objection was emphasised by Mrs Lily Chan, whose husband was a transferring policy holder, at the hearing.  She (and Madam Kam, another objector) also queried whether there was some “secret agenda” behind the scheme, such as a sale of the Hong Kong business.

59.There may well indeed be policy holders who have chosen to take out insurance or invest their money with PAC because it is an English company, with a very large business and a very long history.  I acknowledge that they have opinions and sentiments – genuinely and strongly held by them – as to why they wanted to do business with PAC in the first place and as to their lack of confidence in PHKL.

60.I must however look at the objective effect of the scheme on the policy holders.  While as a company it was only formed in 2008, it seems to me more than a little unfair to describe PHKL as a “newborn baby” (as one objector has done).  It is already a company with a share capital of $200 million.  Plans are in place, before the transfer takes effect, to increase the surplus of assets over liabilities of the non-profit business of the Hong Kong Branch by £50 million. As a result of the amount of assets that will be transferred to it under the scheme (with a value of some £13 billion), PHKL will be a life insurer with very substantial capital and a solvency ratio well in excess of the Hong Kong statutory requirements.  It will continue to use the same brand name which in Chinese refers to 英國保誠 (UK Prudential).  Like PAC, it will be part of the Prudential group, headed by Prudential plc which is listed in Hong Kong, London, New York and Singapore.  As I have stated above, there will be undertakings provided by Prudential plc for the support of PHKL.  On behalf of the petitioners, Mr Coleman SC has stated that there is no secret agenda behind the scheme.

61.In this connection, Mrs Lily Chan also complained that although her husband purchased the policy in mid 2013, at a time when the scheme must have already been in preparation for some time, nothing was mentioned to them about it.  This does not seem to me to affect the fairness of the terms of the scheme.  If a policy holder considers that there was any misrepresentation or misleading statement made to him that led him to enter into an insurance contract (though I am not saying there was any in this case), he may try to seek rescission or other relief under the ordinary law of contract.  It is not as such a reason for not sanctioning the scheme.

62.Sixthly, there has been a concern on the part of transferring policy holders that after the transfer, the insurer, namely, PHKL, would have a smaller fund for investment which would have an adverse impact on its investment performance.  It seems to me this complaint is misconceived because although there is at present only one PAC With-Profits Sub-Fund, there are already separate asset pools within it so that the assets relating to the business of the Hong Kong Branch have been managed and invested from Hong Kong.  There is nothing to suggest that the investment performance of those assets would deteriorate after they are allocated to the PHKL In-Force Sub-Fund.

63.Seventhly, some transferring policy holders object to the scheme on the ground that their policies would lose the benefit of UK regulatory supervision.  While it is true that PHKL will not be subject to UK regulation, as explained above the scheme contains provisions in the form of the Principles of Financial Management, to which PHKL needs to adhere, which have been designed specifically to replicate certain aspects of the UK regulatory framework for the benefit of transferring with-profits policyholders.  I do not think that there is any such unfairness to transferring policy holders in this respect as should cause me to refuse sanction.

64.Eighthly, some policy holders have raised concerns about the cost of the preparation and implementation of the scheme.  The scheme provides that the costs and expenses attributable to the scheme are to be divided between PAC and PHKL and allocated to the surplus of their respective non-profit funds.  In other words, the burden is borne wholly by the shareholders of the two companies, not by the policy holders.

65.Ninthly, some non-transferring policy holders have objected to the scheme on the basis that PAC would henceforth lose the opportunity to write further business in Hong Kong and to profit from the Hong Kong market for long term insurance.  This objection seems to me to be misplaced because the assets supporting transferring and non-transferring policies are already held in separate asset pools, on which the actual return on policies are based.  It follows that the non-transferring policyholders do not currently benefit from the “profits” of the Hong Kong business, and there will therefore be no change in this regard as a result of the transfer.  Prior to the scheme, insofar as there is a profit from the Hong Kong assets not distributed to the policy holders of the Hong Kong business, under the 90:10 profit distribution rule it is Prudential plc, as PAC’s shareholder, that is entitled to the profits from the PAC With-Profits Sub-Fund.  After the transfer, the same rule applies so it will be PAC shareholder fund (and not PAC’s non-transferring policy holders) that will receive the 10% profits from the PHKL With-Profits Fund.

66.Tenthly, another objection that has been raised, understandably only by non-transferring policy holders, is that the terms of the transfer favour PHKL at the expense of the non-transferring policy holders.  In particular, concern has been expressed about the sum of £270 million to be taken out of the PAC Inherited Estate and injected into the PHKL New Business Sub-Fund to support the writing of new long term business by PHKL.

67.The petitioners’ response is that the terms of the transfer have been reviewed by a number of individuals and bodies, including the independent actuaries and UK regulators, to ensure that it is fair to both transferring and non-transferring policyholders.  The vast majority of the PAC Inherited Estate will be retained by PAC in the UK.  The reduction in the assets of the total fund remaining in PAC is broadly commensurate with the reduction in its liabilities.

68.The evidence is that £270 million is the amount of capital in the PAC Inherited Estate that would be used to write with-profits business in Hong Kong in any event over the three years following the transfer even if the scheme were not to be implemented.

69.The independent actuaries have concluded that the likelihood of distributions from the PAC Inherited Estate, including the proportion to be allocated to PHKL, if the scheme is not implemented, appears relatively low.  It follows that there is unlikely to be any adverse effect in terms of benefit expectations on the non-transferring policy holders who shall remain with PAC.

70.Moreover, the evidence is that because after the transfer the PAC Inherited Estate will no longer fund new business growth in Hong Kong and because of the relative rates of growth between Hong Kong and the UK, after the transfer, all else being equal, the financial strength of the PAC With-Profits Sub-Fund may be expected to improve. 

71.In addition, as stated above, there will be an undertaking provided from the PAC shareholder fund to the PAC With-Profits Sub-Fund to make good any deficiency up to £270 million arising from the transfer of the equivalent sum to PHKL to support the writing of new long term business.

72.Taking all these into account I do not find that the transfer of £270 million to PHKL will have any material adverse effect o the non-transferring policy holders or is such as to render the scheme unfair as a whole.

73.In the end, I have come to the conclusion that none of the objections, whether taken singly or in combination with others, is sufficient to cause me to doubt the overall fairness of the scheme and to withhold sanction.

Future amendment of the scheme

74.Finally, the scheme contains provisions for its amendment after sanction is given by the Hong Kong court.  They provide for two routes for modifying the scheme: amendment with the court’s consent and amendment without further application to the court. These provisions form part of the scheme that the court needs to examine before sanctioning it.  At the earlier directions hearing I asked the petitioners to address me on the issue of amendment at the hearing of the petition and this they have done by way of very helpful written submissions.  The position seems to me to be as follows.

75.S 25(1)(e) of the Ordinance provides:

“(1) Where the Court of First Instance makes an order under section 24 sanctioning a scheme the Court of First Instance may, either by that order or by any subsequent order, make provision for all or any of the following matters:

…

(e)  such incidental, consequential and supplementary matters as are necessary to secure that the scheme shall be fully and effectively carried out.”

76.So far as amendments with the court’s consent are concerned, where they are “such incidental, consequential and supplementary matters as are necessary to secure that the scheme shall be fully and effectively carried out”, by virtue of s 25(1)(e) the court has power, by a subsequent order in respect of the scheme, to give permission for amendments to be made, without there being any need for a new scheme.

77.For amendments without further application to the court, however, the power to make them, if any, has to derive from the scheme itself and the original order sanctioning the scheme.  The petition in the present case seeks an order, inter alia, as follows:

“… the Main Scheme may be amended in accordance with its provisions after sanction of the Main Scheme subject to the Court’s consent in certain circumstances set out in the Main Scheme. The Main Scheme may also be amended in accordance with its provisions after the Court’s sanction and without further application to the Court for further consent in the specified circumstances set out in the Main Scheme, including change to the Hong Kong law or regulation and where such amendment is appropriate in light of the change and consistent with the objectives of the Main Scheme …”

78.In my view, this may also be said to be a provision that falls within s 25(1)(e).

79.The English equivalent of s 25(1)(e), namely, paragraph 5(1)(e) of Schedule 2C to the Insurance Companies Act 1982 which later became s 112(1)(d) of the 2000 Act, was considered by Knox J in Re Hill Samuel Life Assurance (unreported 10 July 1995), where he said:

“Equally, it might be said that the word in the paragraph is “necessary” rather than “desirable”.  “Necessary” does not stand by itself in that paragraph.  The phrase is:-

‘… necessary to secure that the scheme shall be fully and effectively carried out’.

Although “necessary” is somewhere in the middle between “vital” on the one hand and “desirable” on the other, if it used in the phrase “necessary to secure that the scheme shall be fully and effectively carried out” and it extends to consequential and supplementary matters, it would seem to me legitimate for the Court to conclude within the ambit of a scheme which it approves something which will give the full benefit of the scheme to one or other of the two units that are being amalgamated.  In that sense it seems to me that although this is certainly not a matter which is vital to the approval of the scheme – and, indeed, there is specific evidence to that effect – it nevertheless is something which is within the jurisdiction of the Court to approve and on that basis I do approve it.”

80.In Re Norwich Union Linked Life Assurance Ltd [2004] EWHC 2802 (Ch), Lindsay J said:

“11. … [The] predominant purpose [of the contents of an insurance business transfer scheme] must be to result in one or more transfers of the described kind. Moreover, it may be (though I do not need to decide and do not decide this issue) that only such supplemental provisions can be within an [insurance business transfer scheme] as could be authorised under the more liberal view taken of what is “necessary” under section 112(2)(d). However, there are good reasons, if the proponents of a scheme from the outset see the need for a given supplemental provision, that it should be included within the scheme itself. …

12. In the result I see myself as having jurisdiction in relation to the supplemental provisions in the draft Order by one or both of two routes; either they are in the Scheme and will stand or fall (and hence stand) with the rest of it or they are matters which, upon the Scheme being sanctioned, properly fall within the more liberal view of what is “necessary” within section 112(1)(d). …”

81.Although those two cases do not concern the power to make provisions for the future amendment of the scheme without further application to the court, I think that the reasoning there supports a liberal reading of s 25(1)(e).  Here, the amendments contemplated by the relevant provision in the scheme are required to be “consistent with the objectives of the Scheme”.  They have to be justified by changes in Hong Kong law or regulation or by changes in actuarial or other practices or be such as to improve the rights and reasonable expectations of the transferring with-profits policy holders.  It seems to me that a provision to enable such amendments to be made without further application to the court can properly be said to fall within s 25(1)(e).  It is something “necessary”, in the sense used by Knox J and Lindsay J, to ensure that the scheme, which is intended to last many years, may be fully and effectively carried out. 

82.It may be that, where a scheme contains so wide a provision for amendment as to purport to allow a wholly new scheme to be introduced without further court sanction, the court will lack jurisdiction or will simply refuse to sanction it on the basis that it is repugnant to the statute which reposes in the court the power and responsibility for sanctioning insurance business transfer schemes.  But this is not such a case.

83.The courts in both the UK and Hong Kong have previously sanctioned insurance business transfer schemes that contained provisions allowing certain amendments to be made to the scheme without further application to the court.  A number of examples have been shown to me, including the scheme in Re AXA Equity and Law Life Assurance Society plc sanctioned by the English court, the scheme in Re The Standard Life Assurance Company [2007] CSOH 137 sanctioned by the Scottish court and the scheme in Re AXA (Hong Kong) Life Insurance Co Ltd, HCMP 1647/2012, 16 October 2012, sanctioned by the Hong Kong court.  It would appear therefore that the practice relating to such transfer schemes is quite different in this respect from that for schemes for corporate arrangement which may be sanctioned by the court under s 166 of the Companies Ordinance, where provisions for subsequent amendment of the scheme after the court’s sanction are unusual: see Re Cape plc [2007] 2 BCLC 546 at §73.  There, Richards J said in relation to a scheme of arrangement under s 425 of the Companies Act 1985:

“There are strong reasons why in most cases the court is unlikely to exercise the jurisdiction to sanction a scheme with provisions for future amendments. The factors on which Mr Phillips laid stress, such as the need for creditors and the court to know with clarity and certainty the terms of the arrangement and how they will affect creditors and the obvious possibility that creditors may be content with the arrangement in its original form but not as it is subsequently amended, are strong grounds for not sanctioning a scheme which contains amendment provisions. However, the particular circumstances of a case may make it appropriate to sanction such a scheme, notwithstanding those considerations. I shall not pre-empt a consideration of the fairness of the scheme to be proposed by Cape. However, it is a scheme with unusual features. The need to provide constructively for asbestos-related claims is clear but they are likely to continue for 40 to 50 years. A scheme which seeks to put in place arrangements which will need to exist over such an extended period is unusual, and perhaps unprecedented. It is predictable that there will be legal, medical and financial developments with a significant impact on the arrangement, but it is impossible to know what they will be. There is therefore a clear case for some flexibility. These unusual circumstances, combined with provisions designed to protect creditors, are such that the court may well conclude that it is right to sanction the scheme in its present form. Accordingly, it would not be right to refuse to make orders convening the meetings on the grounds that the scheme or ancillary documents contain provisions permitting their future amendment.” (emphasis added)

84.What Richards J described there as “unusual, and perhaps unprecedented” seems to me to be the situation here, and may well be the norm in insurance business transfer schemes generally.  I am satisfied that given that the regime set up by the scheme, in particular the PHKL In-Force Sub-Fund, is expected to continue in effect for an extended period of time, during which there may well be changes in the legal and regulatory environment and in actuarial practice that have a significant impact on the arrangement embodied in the scheme, it is justifiable and necessary to include mechanisms for amendment of the scheme including the Principles of Financial Management.  I also note that there is a built-in safeguard in the enabling provisions in that no amendment can be made if the Insurance Authority objects to it. 

Conclusion

85.For the above reasons I consider it appropriate to sanction the scheme and make the order sought and there will be an order accordingly.

Mr Russell Coleman, SC, instructed by Hogan Lovells, for the 1^st and 2^nd petitioners

Mr William Liu, SGC of the Department of Justice, for the Commissioner of Insurance

Policyholders: Mr Chan Ka Yeung, Mrs Lily Chan Sham Yuet Wah (on behalf of Mr Lawrence Chan), Mr Poon Wai Keung, Ms Kam Lan Fong, Mr Cheung Dy Mo Hua and Madam Wong Chuen, appeared in person