BVI Case update: Challenges to winding up applications in the BVI - the implications of arbitration clauses in underlying contracts.

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1 BVI Case update: Challenges to winding up applications in the BVI - the implications of arbitration clauses in underlying contracts. When there is a valid arbitration clause in a contract, which contract forms the basis of a debt, will the very existence of that clause invoke a mandatory automatic stay of winding up proceedings taken on foot of that debt? James Morrin reviews recent developments in the BVI. The Commercial Division of the High Court in the BVI has provided interesting guidance on potential grounds for opposing an application to wind up a BVI company in the recent decision of Farara J in Retribution Limited v L Capital KDT Limited (BVIHCMAP 2015/78 and 2015/89) ( Retribution ). This judgment will be of particular interest to parties to disputes where statutory demands have been issued on foot of debts due and owing under contracts containing arbitration clauses. The position under BVI law with regard to the implication of arbitration and exclusive jurisdiction clauses on creditor led applications to appoint liquidators under the Insolvency Act 2003 has been considered by the Court of Appeal in two key recent decisions. Before looking at the Retribution decision, these decisions warrant some analysis since they clearly coloured the conclusions reached in that case. Court of Appeal Decisions in C-Mobile and Jinpeng v Peak In C-Mobile Services Limited v Huawei Technologies Co. Limited [2015] ECSC J0915-5, C- Mobile applied to stay Huawei s application to appoint liquidators on foot on an unmet statutory demand on the basis that the contract under which the debt in question arose contained an arbitration clause. It was argued that the winding up proceedings should be stayed in light of the mandatory stay provision at Section 6(2) of the Arbitration Ordinance 1976 which provided that: If any party to an arbitration agreement., commences any legal proceedings in any court against any other party to the agreement in respect of any matter agreed to be referred, any party to the proceedings may at any time after appearance, and before delivering pleadings or taking any other steps in the proceedings, apply to the court to stay the proceedings; and the court, unless satisfied that the arbitration agreement is null and void, inoperative or incapable of being performed or that there is not in fact a dispute between the parties with regard to the matter agreed to be referred, shall make an order staying the proceedings The High Court refused to allow the stay, and the Court of Appeal upheld that decision and dismissed the appeal. On the facts of C-Mobile, the Court of Appeal held that the dispute was not one which fell within the ambit of the arbitration clause in question and accordingly the winding 1

2 up petition was not a legal proceeding commenced in respect of any matter agreed to be referred by the parties in question for the purposes of Section 6 (2). What is of more relevance in C-Mobile was the Court s analysis and adoption of the key principles set out by the English Court of Appeal in Salford Estates (No.2) Ltd. V Altomart [2014] EWCA In Salford, the Court initially concluded that the English mandatory stay provision (contained in Section 9 of the Arbitration Act 1996) did not apply to a creditor s winding up petition since such a petition is not a claim for payment of a debt and is therefore outside the ambit of the statutory mandatory stay provision. Further, it was held that it seems highly improbable that Parliament, without any express provision to that effect, intended Section 9 of the 1996 Act to confer on a debtor the right to a non-discretionary order striking at the heart of the jurisdiction and discretionary power of the court to wind up companies in the public interest where companies are not able to pay their debts 1. This reasoning was approved and adopted by Pereira CJ in C-Mobile in holding that A wind up application, although it may be premised on the underlying debt, is not an action or proceeding on the debt under the contract.winding up is a class remedy. It is a collective remedy being undertaken for the benefit of all creditors. In Salford, the English Court of Appeal went a step further in its analysis however, and held that save in wholly exceptional circumstances it would not exercise its wide discretion to wind up a company under the English Insolvency Act in a manner that was clearly inconsistent with the legislative intent of Section 9 of the Arbitration Act (i.e. in a situation where there was an arbitration clause and the narrow statutory exceptions to a stay did not exist). The Court went on to state that it would be anomalous, in the circumstances, for the companies court to conduct a summary judgment type analysis of liability for an unadmitted debt, on which a winding up petition is grounded, when the creditor has agreed to refer any dispute relating to the debt to arbitration. Further, the Court held that I consider that, as a matter of the exercise of the court s discretion under IA 1986 s 122 (1)(f), it was right for the court either to dismiss or to stay the petition so as to compel the parties to resolve their disputes over the debt by their chosen method of dispute resolution rather than require the court to investigate whether or not the debt is bona fide disputed on substantial grounds. The court relied on the English decision in Halki Shipping v Sopex Oils [1998] 1 WLR 726 in this regard. In C-Mobile, the Court of Appeal while expressly approving of the reasoning in Salford, ultimately distinguished Salford on the facts since in C-Mobile i) the arbitration clause was not wide enough to apply to the debt in question; ii) there was no dispute as to the debt; and iii) the arbitration proceedings in question were withdrawn. Since the decision in C-Mobile the Arbitration Ordinance 1976 has been repealed and replaced by the Arbitration Act 2013 (the Arbitration Act ), which came into force on 1 st October Section 18 of the Arbitration Act provides for an automatic stay as follows: (1) A court before which an action is brought in a matter which is the subject of an arbitration agreement shall, if a party so requests not later than when submitting his first statement on the 1 Salford at [9]. 2

3 substance of the dispute, refer the parties to arbitration unless it finds that the agreement is null and void, inoperative or incapable of being performed. The effect of Section 18 (1) in relation to a winding up application was considered by the Court of Appeal in Jinpeng Group Limited v Peak Hotels and Resorts Limited [2015] ECSC J ( Peak ), a decision handed down on 8 th December 2015 which developed the law further beyond C-Mobile. In Peak, the Court of Appeal held that a creditor s petition to wind up a company on the just and equitable ground (under Section 162 (1) (b) of the Insolvency Act 2003) was an issue between the respondent and its creditors over the company s ability to pay its debts as they fall due and accordingly was effectively a class action on behalf of creditors that was not covered by Section 18 (1). The Court therefore essentially reached the same position as that adopted in both Salford and C-Mobile in this regard, except this time by specific reference to the newly enacted mandatory stay provision in the BVI legislation. However, the Court went on to distinguish the position in the BVI from that espoused by the English Court of Appeal in Salford. While holding that the position in England has been interpreted to mean that the court will grant a stay of court proceedings once the defendant raises the issue of dispute, regardless of the level or quality of the dispute, the Court distinguished the position in the BVI by reference to its interpretation of Salford as follows: The position outlined by the Chancellor [in Salford] comes close to the automatic stay position which is now firmly a part of the learning in connection with section 18 of the Arbitration Act. He is saying in very clear terms that a winding up application based on a debt that is covered by an arbitration agreement will be stayed unless there are exceptional circumstances. However, I do not think that a creditor should have to prove exceptional circumstances. This Court s judgment in the C-Mobile case sets out and distinguishes the BVI court s statutory jurisdiction to wind up a company based on its inability to pay its debts as they fall due unless the debt is disputed on genuine and substantial grounds. This principle is too firmly a part of BVI law to now require a creditor exercising the statutory right belonging to all the creditors of the company to apply to wind up the company, to prove exceptional circumstances to establish his status to apply. The statutory jurisdiction under section 162(1)(b) is satisfied once the creditor is applying on the basis of a debt that is not disputed on genuine and substantial grounds. 2 (emphasis added) The debt in Peak was not disputed on genuine and substantial grounds and it fell under the terms of the arbitration clauses in question. The court held that it therefore had the power under the wide discretion enjoyed under Section 162 of the Insolvency Act 2003 to stay or dismiss the application and send the parties to arbitration. However, clearly distinguishing the position in the BVI from that of the English court in Salford, the court went on to hold that a party does not have to prove exceptional circumstances to invite the court to exercise its discretion to make a winding up order. It has to show that the dispute is not on genuine and substantial grounds and leave it to the court to exercise its discretion under Section 162 on the usual bases. 2 At [47]. 3

4 Retribution a step towards shutting the door on creditors where there is an arbitration clause? The C-Mobile, Salford and Peak decisions fell to be considered by the Commercial Court in Retribution, which decision was handed down on 25 January The main issues before the court for determination in Retribution were i) whether the debt as alleged was disputed on genuine and substantial grounds, ii) whether in light of the arbitration clause in the underlying agreement the application to wind up was an abuse of process and should be dismissed and iii) ought the court, in exercise of its wide discretion under Section 167 of the Insolvency Act 2003, appoint liquidators in all of the circumstances. The respondent company submitted, in reliance on the principles enunciated in Salford, that where a debt is disputed and where a valid arbitration clause covers that dispute then the proper test for whether the debt is bona fide or not is the substantial dispute test by reference to Section 157 of the Insolvency Act 2003 and the well-established common law principles 3. Rather it was submitted (principally in reliance on Salford) that test is a much lower one such that effectively a bare denial of the debt will suffice to trigger the mandatory stay provision in Section 18 of the Arbitration Act. Farara J, while finding these submissions of considerable force ultimately found himself bound by the Court of Appeal decision in Peak. Farara J distilled the following principles from Peak: i) The Court of Appeal did not apply Salford in an application to appoint liquidators under the just and equitable ground; ii) iii) iv) The Court must decide on the basis of a preliminary review of the evidence before it, whether the debt is disputed on genuine and substantial grounds (per Sparkasse); That the position in the BVI is not that as in Salford, where an automatic stay will be granted if there is a disputed debt and that debt falls under an arbitration agreement; The reasoning in Peak was that the principle of a debt being disputed on genuine and substantial grounds is too firmly rooted in BVI law to require a creditor applying to appoint liquidators to prove exceptional circumstances such as those under Section 18 (1) of the Arbitration Act; v) Applications made to appoint liquidators on foot of unpaid debts fall squarely within the winding up jurisdiction and procedure, to which an arbitration clause does not apply, as it becomes a class remedy on behalf of itself and all the creditors of the company. 3 Per Sparkasse Bregenz Bank AG v In the Matter of Associated Capital Corporation Territory of the British Virgin Islands, High Court Civil Appeal BVIHCVAP2002/0010 4

5 Farara J found that there was in fact a genuine and substantial dispute as to the debt in question. Accordingly, the application had to fail under Section 157 of the Insolvency Act. Importantly however, he nonetheless observed that even if he was wrong on that finding, the Court still would have refused to appoint liquidators in all of the circumstances. In so finding, Farara J made specific reference to the powers of the Court under Section 18 (1) of the Arbitration Act. Further, he observed that in exercising its discretion to appoint liquidators under the Insolvency Act, the court may dismiss such an application even if it is satisfied on the evidence that a ground for the appointment of liquidators (such as insolvency by virtue of an unmet statutory demand) has been proved (per Section 167 (1) (b) of the Insolvency Act). Further, in light of the BVI s recent efforts to establish itself as an emerging centre for international arbitration, Farara J stressed the importance of the Court not interfering with disputes which parties had agreed should be resolved by arbitration: It is clear to me.that the parties expressly agreed to resolve all their disputes through the process of arbitration, and not to have a party, without using the arbitral mechanism mandated by that clause, take the draconian step of applying to wind up another corporate party. The principle of international arbitration is now inimical to the stature ascribed to parties who have agreed to resolve their disputes however unmerited or seemingly indefensible, out of the court process, and through the contract mandated process and internationally recognized system of arbitration Whether when next faced with this issue on a new set of facts the Court of Appeal will continue to distinguish the position in the BVI as espoused in Peak, or move closer to the position of the English courts per Salford remains to be seen. In the meantime, the decision in Retribution will certainly provide further food for thought to BVI companies facing winding up petitions where there is an underlying agreement to refer disputes to arbitration. James Morrin Associate March 2016 For further information please contact James Morrin jmorrin@fararakerins.com or Tamara Cameron tcameron@fararakerins.com This article is only intended to give a summary and general overview of the subject matter. It is not intended to be comprehensive and does not constitute, and should not be taken to be, legal advice. If you would like legal advice or further information on any issue raised by this briefing, please contact Farara Kerins. 5