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JUDICIAL MANAGEMENT – A Corporate Rescue Tool [PART 1]

INTRODUCTION

As we start a new year, Covid-19 cases continue to climb in Malaysia and break record after record most days.

Being left with little choice, the Malaysian Government has re-imposed the Movement Control Order (“MCO”) with a number of sectors not being allowed to operate. Inevitably, the MCO will likely send the economy into reverse shortly after it has emerged from recession and it now certainly piles more pressure on struggling companies.

As a matter of necessity in these challenging times, we can expect to see more companies avail themselves of the corporate restructuring instruments such as Judicial Management, Corporate Voluntary Arrangement and Scheme of Arrangement to save their ailing businesses.

In this article, we will discuss the mechanism of JUDICIAL MANAGEMENT which has lately been a popular corporate restructuring instrument.


OVERVIEW OF JUDICIAL MANAGEMENT

Malaysia has traditionally resorted to liquidation or winding-up proceedings when a company faces insolvency. Little known to many, the Companies Act 2016 (“the Act”) has introduced various restructuring mechanisms into Malaysia’s insolvency landscape such as Judicial Management as an alternative to liquidation.

Judicial Management allows a financially distressed company or its directors or its creditors to apply for a court order to place the management of the company in the hands of a qualified insolvency practitioner, known as the Judicial Manager.

The benefit of Judicial Management is that it provides financially distressed companies with breathing space to rehabilitate and to save themselves from liquidation. It aims to achieve this by placing a moratorium on proceedings against the company, divesting the control of the company from its management and allowing the court-appointed Judicial Manager to take over the running of the company.

However, it must be noted that pursuant to Sections 405(6) and 403 of the Act, this statutory mechanism is not available to companies in liquidation, licensed institutions or operators of designated payment system regulated under the laws enforced by the Central Bank of Malaysia and companies subject to the Capital Markets and Services Act 2007.


THE APPLICATION

The Governing Provisions

The statutory provisions for Judicial Management are found at Sections 403 to 430 of the Actand the corresponding rules at Part III of the Companies (Corporate Rescue Mechanism) Rules 2018 (“the Rules”).

Who Can Apply?

Under Section 405 of the Act, a company or its directors or a creditor, including any “contingent or prospective creditor” or all or any of those parties, together or separately, may file a Judicial Management application.

Recently, the High Court in Spacious Glory Sdn Bhd v. Coconut Three Sdn Bhd [2020] MLJU 1827 had the occasion to examine the meaning of “contingent or prospective creditor”. In resisting a Judicial Management application, the company contended that the applicant who was a judgment creditor of the company had no locus standi to make the application based on a judgment which was stayed pending appeal.

Such contention was disagreed by the High Court. In holding that the applicant had thelocus standi to make the application, the High Court found that the applicant was a “contingent or prospective creditor” who had a pecuniary claim against the company and that the company would become subject to a liability to the applicant should the judgment was affirmed in the appeal.

Filing of a Judicial Management Application

Section 404 of the Actsets out the pre-conditions for an applicant to file a Judicial Management application, namely, the applicant must consider that:-

  1. the company is or will be unable to pay its debts; and
  2. there is a reasonable probability of rehabilitating the company or of preserving all or part of its business as a going concern or that otherwise the interests of creditors would be better served than by resorting to a winding up.

A Judicial Management application shall be made by way of an Originating Summons supported by an affidavit. In a case where the application is filed by a creditor, the cause papers shall be served on the company within 5 days from the date of filing.

The application must be advertised in a widely circulated newspaper in Malaysia in both Malay and English languages, and be given to the company itself and to person who has appointed or is or may be entitled to appoint a receiver or receiver and manager of a company’s property under the terms of a debenture (“debenture holder”). The Rules also provide that upon a written request and payment made by any creditor or member of a company, the applicant shall furnish a copy of the application and affidavit to such person within 48 hours of the request.

Interim Moratorium

Upon the filing of a Judicial Management application, Section 410 of the Act provides for an interim moratorium which puts a halt to certain actions against the company pending the Court’s disposal of the application. These actions include:-

  1. proceedings to wind up the company;
  2. commencement or continuation of lawsuits and execution proceedings against the company, except with leave of the Court; and
  3. enforcement of any charge on or security over the company’s property and repossession of any goods in the company’s possession under any hire purchase agreement, chattels leasing agreement or retention of title agreement, except with leave of the Court.

The purpose of this temporary safe zone is to ensure that the application would not be rendered futile by creditors who would immediately commence lawsuits or accelerate the winding up proceedings against the company upon being notified of the application.


THE MAKING OF A JUDICIAL MANAGEMENT ORDER

Opposition to a Judicial Management Application

Rule 13 of the Rules provides that any secured creditor or any person who has appointed or is or may be entitled to appoint a receiver or receiver and manager, who intends to appear at the hearing to oppose the application shall serve the notice of intention to appear on the applicant or his solicitor. Similar to a winding-up proceeding, such person shall also file an affidavit opposing the application within a stipulated time.

It has often been debated that the Judicial Management law rules out the right of unsecured creditors to oppose a Judicial Management application. Such impression is created as Rule 13 of the Rules only allows a secured creditor or a debenture holder to serve a notice of intention to appear but makes no mention of unsecured creditors.

This seems to be in line with Section 409 of the Act(read together with the Companies (Amendment) Act 2019) which empowers the Court to dismiss the application if it is satisfied that a receiver or receiver and manager has been or will be appointed or the making of the Order is opposed by a secured creditor. In essence, it allows any secured creditor to veto the application. Again, Section 409 of the Act also does not mention the right of unsecured creditors to oppose the application.

The position of unsecured creditors was considered by the High Court in the case of Million Westlink Sdn Bhd v. Maybank Investment Bank Berhad & Ors [2019] MLJU 1721. In dismissing the unsecured creditor’s application to intervene in the Judicial Management application, the High Court held that unsecured creditors did not have legal standing to oppose the making of a Judicial Management Order.

However, the High Court decision in Million Westlink was overturned in its appeal by the Court of Appeal. Therefore, in light of the Court of Appeal decision, the current position of law appears to be that unsecured creditors have the right to be heard in opposition to the making of the Judicial Management Order.

This Court of Appeal decision also seems to be resonated with the High Court decision in Goldpage Assets Sdn Bhd v Unique Mix Sdn Bhd [2020] MLJU 723. In Goldpage Assets, it was held that there was nothing in the Act which prevented any unsecured creditor from attempting to oppose the Judicial Management application.

[33] I am thus of the considered view that it cannot be case that unsecured creditors be shut out from a JM hearing and that it was not the intent of Parliament to restrict the opposition of the JM to only secured creditors. The words in the said sub sections, do not state that any other creditor cannot oppose the JMO but it is obligatory upon the Court, by the use of the word ‘shall’ therein, to dismiss the application for a JMO if the secured creditor who is one who can also appoint a receiver or receiver manager, opposes the JMO.

The Test

Pursuant to Section 405(1) of the Act, the Court may make a Judicial Management Order if:-

  1. The Court is satisfied that the company is or will be unable to pay its debts; and
  2. The Court considers that the making of the order would be likely to achieve at least one of the following purposes:-
    • The survival of the company, or the whole or part of its undertaking as a going concern;
    • The approval under Section 366 of the Act of a scheme of arrangement between the company and any such persons as are mentioned in that section;
    • A more advantageous realization of the company’s assets would be effected than on a winding up.

That said, the above test comes with an exception. Section 405(5) of the Act vests the power in the Court to make a Judicial Management Order and appoint a Judicial Manager if it considers the “public interest” so requires, notwithstanding that the applicant fails to satisfy the above test.

The Act does not define or provide any explanation as to what falls within the consideration of “public interest”. Nonetheless, the High Court in the case of Re Biaxis (M) Sdn Bhd [2020] MLJU 1188 gave a good example of exceptional circumstance where the consideration of “public interest” may apply. The illustration given by the High Court was that if a company who alone possesses the Covid-19 vaccine makes a Judicial Management application, it meets the exceptional public interest requirement for a Judicial Management Order to be made.

The “public interest” ground is rarely relied on to obtain an order for Judicial Management probably due to its uncertain scope. As the law on Judicial Management in Malaysia continues to evolve, it remains to be seen how the Malaysian courts will deal with this ground.


EFFECTS OF A JUDICIAL MANAGEMENT ORDER

The Six-Month Moratorium

Under Section 406 (1) of the Act, a Judicial Management Order shall remain in force for a period of 6 months from the making of the Order and may be extended for another 6 months subject to such terms as the Court may impose.

During this period, Section 411(4) of the Act provides for a moratorium which is similar to the interim moratorium that the company enjoys before the granting of the Order. This moratorium also gives the company additional protection against the appointment of receiver or receiver and manager over any property and undertaking of the company as well as the transfer of any share of the company or alteration of the status of any member of the company except with leave of the Court.

Role of the Judicial Manager

Upon the making of the Order, the management of the company is placed in the hands of the appointed Judicial Manager. The powers normally conferred on the directors will be exercised instead by the Judicial Manager to do anything necessary for the purpose of rehabilitating the company, subject to supervision by the Court.

Pursuant to Sections 420 and 421 of the Act, the Judicial Manager shall within 60 days of the Order send his proposal to the creditors and then summon a creditors’ meeting to decide whether to approve or reject the proposal. Unanimity is not required. The approval of 75% of the total value of creditors shall bind all the creditors.

Once the proposal is approved, the Judicial Manager is obliged to manage the company’s affairs, business and property in accordance with the proposal. By virtue of Section 422 of the Act, the creditors are also entitled to form a committee of creditors to monitor the progress of the Judicial Management.

Discharge of the Judicial Management Order

A Judicial Management and the moratorium automatically end once the Judicial Management Order expires. Nonetheless, they may be ended earlier by an application to the Court to discharge the Judicial Management Order.

The High Court in the case of Leadmont Development Sdn Bhd v. Infra Segi Sdn Bhd & Another Case [2018] 10 CLJ 412 considered the following 4 situations as set out in the Act in which a Judicial Management Order can be discharged:-

  1. under Section 421(5)(a) of the Act where the Judicial Manager's proposal fails to garner approval of the requisite majority of creditors;
  2. under Sections 424(1) and 424(2)(a) of the Act where the purpose of the Judicial Management has been achieved;
  3. under Sections 424(1) and 424(2)(a) of the Act where the purpose of the Judicial Management is incapable of achievement;
  4. under Sections 425(1) and 425(3(d) of the Act where the company's affairs, business and property are being or have been managed by the Judicial Manager in a manner which is or was unfairly prejudicial to the interests of its creditors or members, or if a particular act or omission by the Judicial Manager is or would be so prejudicial to them.

STRIKING THE BALANCE

A Pro-Debtor Mechanism?

The main feature of the Judicial Management regime is the moratorium that comes with it. It aims to provide solace to ailing companies by temporarily warding off legal actions whilst the companies focus on reviving their businesses.

At first blush, this restructuring mechanism may appear to be one which is pro-debtor as it gives rise to the utmost concern of creditors, namely delays in their legal actions. From the perspective of creditors, it may be more expedient to wind up the debtor companies in order to recover part of the debts, if not all.

However, in some cases, the companies’ ability to pay debt and to rehabilitate is contingent of a substantial payment that the companies are expected to receive from ongoing projects. While the companies work towards realizing the potential cash inflow, they are genuinely in need of a temporary breathing space from the intervention of their creditors. Against such a backdrop, the more overriding concern of the creditors is the preservation of the businesses as a going concern in order to maximize the value of the companies’ assets. To achieve this purpose, Judicial Management may be a useful tool and it may serve the interests of creditors better than by resorting to a winding up.

It is also worth mentioning that unlike a Scheme of Arrangement where the company's existing management remains in-charge, a Judicial Management is helmed by the Judicial Manager who is an independent third party. Owing to this feature of independency, Judicial Management tends to be the creditors’ preferred mode of restructuring when there are doubts over the ability and genuineness of the company’s management to rehabilitate the company.

Exercise of Caution against Abuse of Process of Court

While Judicial Management may be a good tool to assist companies that suffer from a temporary setback, it also opens the door for abuse by unscrupulous debtor companies which merely intend to delay the inevitable liquidation.

Accordingly, the Courts have been mindful to ensure that Judicial Management is not used as a tool of abuse by debtor companies to the detriment of creditors. One instance of the Courts’ exercise of caution can be gleaned from the Court of Appeal decision in CIMB Islamic Bank Bhd v Wellcom Communications (NS) Sdn Bhd & Anor [2019] 4 CLJ 1.

In Wellcom Communications, the Court of Appeal held that once a Judicial Management application is dismissed, the interim moratorium automatically lapses and any stay of the said dismissal results in an abuse of process of court as it would effectively render the company immune from legal actions for such extended period at the expense of its creditors.

The Court of Appeal also took the opportunity to caution against making a Judicial Management Order without strict proof and evidence.

[9] The effect of making a judicial management order in relation to an insolvent company which may have no prospect of recovering money or assets within a reasonable time indeed may be very drastic. Thus, the court's consideration at all stages, that is to say from the date the application is filed and from the date of the order, if any is given, must be based on strict proof and evidence and not merely surmise and conjecture to ensure creditors are not defrauded by sympathy evoking stories of insolvent companies. The court must also justly, economically and expeditiously dispose of the application as well as any appeal process, for the said s. 411 of CA 2016 is heavily against even secured creditors.

Stemming from the above, the Judicial Management regime is designed to protect the interests of both creditors and debtors without favoring either party. At the same time, the judiciary plays an important role in striking a balance between the two.


CONCLUSION

In the face of the economic devastation brought by the Covid-19 pandemic, more companies will pursue corporate debt restructuring to resuscitate their businesses and avoid the terminal liquidation. It is therefore worth keeping a close eye on whether Judicial Management serves as an adequate corporate rescue mechanism for the ailing companies in weathering the pandemic storm.

Further, since the last quarter of 2020, there has been a push for amendments of the Act to introduce new features for the purpose of enhancing the effectiveness of the Judicial Management regime and other restructuring mechanisms. It is hoped that the amendments will be implemented timely to rescue the ailing companies from the dire straits.


Author

Kar Man Chong
Associate
E-mail: Karman@leekoh.com.my

 

For further information, please contact the author or her team partners:-

Koh Yew Chong
Managing Partner
E-mail: yckoh@leekoh.com.my

Justin Leong Chee C’Jun
Partner
E-mail: justinleong@leekoh.com.my

 

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