“What is clear is that the selection of creditors for the class composition cannot be arbitrary or capricious. If there is evidence of a calculated and dishonest move to remove or to place certain creditors in certain class with the purpose of ensuring that the class is constituted in such a way that certain creditors would not be able to vote or that their votes would be rendered ineffective, this will be considered as class manipulation or gerrymandering.”
per Judicial Commissioner Ong Chee Kwan.
This is a commentary on the High Court’s decision in AirAsia X Berhad v BOC Aviation Limited & 14 Ors (Originating Summons No.: WA-24NCC-467-10/2020).
Leong Wai Hong, Claudia Cheah, Shannon Rajan and Laarnia Rajandran acted for the 2nd Intervener, Malaysia Airports (Sepang) Sdn Bhd (“Malaysia Airports”). Sharon Chong and Janice Ooi acted for the 4th Intervener, Sky High I Leasing Company Limited.
On 19 February 2021, Judicial Commissioner Ong Chee Kwan allowed AirAsia X Berhad’s (“AAX”) application under s.366 of the Malaysian Companies Act 2016 (“the Act”) for leave to convene creditors meetings for the purposes of considering and approving a scheme of arrangement (“Scheme Application”). However, the Learned Judge disagreed with AAX’s classification of the scheme creditors into two classes, i.e. ‘Class A’ secured creditors and ‘Class B’ unsecured creditors.
The Learned Judge agreed with the submissions from counsel for Malaysia Airports and counsel for the lessors and held (a) that the lessors of lease agreements with AAX be treated as unsecured creditors and be placed in ‘Class B’; and (b) that Airbus S.A.S. (“Airbus”) be treated as unsecured creditor and be placed in a separate class from the other unsecured creditors in ‘Class B’.
Key points for the convening stage
- The principal jurisdiction question for the Court is the identification of the classes and to ensure that each class is properly constituted so that the meetings for each of the classes can be properly convened.
- The scheme company still bears the duty of absolute transparency and to unreservedly disclose all material information to assist the Court in determining the classification and the composition of the creditors, how the creditors’ meeting(s) is to be concluded and to address any allegation of an abuse of process and or if the application is not made bona fide.
- The Court must always be mindful of the possibility of class manipulation. It is incumbent on a company to propose a scheme fairly and not to manipulate the constitution of classes to ensure apparent satisfaction of the statutory requirements.
In its Scheme Application, AAX proposed that its debts amounting to approximately RM64.15 billion be reconstituted into an acknowledgement of indebtedness for a principal amount of up to RM200 million to be shared pari passu with Class A secured creditors and Class B unsecured creditors (“Scheme”).
As part of this overall restructuring exercise, AAX also intends to carry out a proposed share capital reduction, proposed share consolidation and thereafter undertake a fundraising exercise to seek fresh injection to fund the operations.
At the commencement of the Scheme Application, AAX had originally placed all scheme creditors into one unsecured creditors class.
After Malaysia Airports objected to its classification as an ‘unsecured’ creditor, AAX filed an application to amend its classification to change it to 2 classes, namely:
- ‘Class A’ creditors comprising ‘creditors who are considered critical or essential and who may have secured and or other rights’; and
- ‘Class B’ creditors who are ‘creditors who do not fall within Class A’ (“First Revision”).
Three weeks later and whilst the amendment proceedings were ongoing, AAX made further changes to the formulation, specifically that ‘Class A’ was described as ‘creditors who are critical or essential to the business of AAX and are considered to have a common or unified interest in the continuation of AAX as a going concern, some of whom may be able to assert secured rights’ (“Second Revision”). The changes are underlined.
After leave to amend was granted, AAX proposed again to change the classification to ‘Class A’ secured creditors and ‘Class B’ unsecured creditors (“Third Revision”).
Decision of the High Court
Classification of scheme creditors
Firstly, in answering whether the constituent of the class is a matter that ought to be determined by the Court at the convening stage or better left to after the proof of debts exercise or even the sanction stage, the High Court held in the affirmative for the convening stage. His Lordship found that “the principal jurisdiction question for the Court is the identification of the classes and to ensure that each class is properly constituted so that the meetings for each of the classes can be properly convened. To me, this can only be achieved if the issue pertaining to the constituent or composition of the classes is taken at the Convening stage”.
Secondly, the High Court found that AAX was wrong in classifying the lessors and Airbus as ‘secured creditors’ within ‘Class A’ and held that they are to be treated as unsecured creditors. Among the reasons for His Lordship’s decision are the following:
- With respect to the lessors, His Lordship held that AAX “cannot treat the Lessors who had paid the ‘security deposits’ and ‘maintenance reserves’ as secured creditors and classified them under Class A creditors. They do not come within the definition of ‘secured creditors’ under s.2 of the Insolvency Act 1967”.
- With respect to Airbus S.A.S., whose contingent debt formed ¾ of the total scheme debt, the High Court held that the “cash deposits” consisting of “pre-delivery payments” treated as part payment toward the purchase price does not make Airbus a secured creditor. Further, any contingent liability towards Airbus is only claimable upon approval of the Scheme and subsequent termination of the purchase agreements. As such, there was no basis for AAX to treat Airbus as a secured creditor.
His Lordship also specifically concluded that it is not disputed that the Malaysia Airports is a secured creditor given that it has a contractual lien over AAX’s assets. Thus, Malaysia Airports and the lessors are to be placed in ‘Class A’ and ‘Class B’ respectively.
Thirdly, the High Court considered whether the lessors ought to be placed in a separate class altogether by reason of their dissimilar rights with the other creditors. On this issue, the lessors contended that the debt owed by AAX to the lessors cannot be restructured under the Scheme without their consent pursuant to the Cape Town Convention and the Aircraft Protocol, and the common law principle known as “the rule in Gibbs” which provides that a debt obligation can only be changed or discharged in accordance with the law governing that obligation. In deciding on these issues, His Lordship held:
- After considering the submissions and expert reports submitted by the parties, whilst agreeing with the lessors that the Cape Town Convention and the Aircraft Protocol apply to schemes of arrangements, the Court decided in this case that AAX does not require the consent of the lessors in respect of the ‘cram-down’ provision under the Scheme in the form of a 99.7% hair-cut of their claims. His Lordship’s reason for this is that the Scheme provides for the termination of the lease agreements.
- As for the rule in Gibbs, the Court agreed with the courts of Singapore and Australia that the Gibbs Rule does not operate to restrict the Court from entertaining and approving a scheme of arrangement which involves the discharge or modification of any contractual rights between the scheme company and its creditors even where the contracts are governed by English laws or other foreign laws.
The lessors also contended that even if they cannot be excluded from the Scheme, they ought at least to be placed in a separate class from Airbus since the amount of the debt said to be owed to Airbus would effectively deprive the lessors of having any meaningful weight in its votes on the Scheme since Airbus’s vote alone would carry the resolution as its debt value would exceed more than 75% of the total Scheme Debts. On this issue, whilst the Court did not agree that Airbus should be placed in a separate class just because its claim alone exceeds 75% of the total claims in ‘Class A’, His Lordship held that the difference in the rights between Airbus and the Lessors under the Scheme is significant and warrants that the lessors be placed in a separate class from Airbus. The Court took into consideration the effect of the commercial evaluation of the fresh contracts that Airbus would very likely enter with AAX which would potentially significantly mitigate Airbus’ losses arising from the termination of the agreements in comparison with the lessors’ rights under the Scheme where the lessors would bear a 99.7% loss of their accrued debts even with fresh contracts entered with AAX to mitigate its losses of rentals in respect of the unexpired terms of the lease agreements.
Whether the Scheme is a ‘compromise or arrangement’ under s.366(1) of the Act
The High Court held that the Scheme is a ‘compromise or arrangement’ under s.366(1) of the Act. Whilst the High Court found that the Scheme which proposes to pay its scheme creditors only 0.3% of their claims, does come across as “audacious” and “non-bona fide”, the marginally better position provided for under the Scheme compared to liquidation was sufficient to constitute a ‘compromise or arrangement’ under the Act.
Whether the Applicant is so hopelessly insolvent that it is against public policy to sanction the Scheme
The Court acknowledged that while AAX’s past performance records and financial position indicated that AAX is indeed hopelessly insolvent, His Lordship ultimately held that this “Court ought not make any commercial judgment on the viability or otherwise of the company post Scheme at this stage without the benefit of any independent or expert report.” Similarly it was not for the Court to speculate as to whether AAX will or will not be able to raise the necessary funding.
Whether the Proposed Debt Restructuring is bona fide or an abuse of process
The High Court found that since there was no evidence of actual dishonesty shown by AAX, His Lordship was not prepared to hold that the Scheme Application is not bona fide even though AAX failed to satisfactorily explain its earlier changes in classification.
That said, His Lordship also found that the multiple changes in classification of creditors throughout the proceedings suggested “a determined effort to place certain creditors together into a single group regardless of the true legal position of the creditors as secured creditors or otherwise. The formulation of the classes appears to be no more than a matter of form than substance”.
This decision extensively examines the court’s jurisdiction and duties when considering an application under s.366(1) of the Malaysian Companies Act 2016 for an order that a meeting of the relevant classes of creditors be convened, also known as the ‘Convening Stage’. This jurisdiction and duty are distinct from the ‘Meeting Stage’ of the classes of creditors and the ‘Sanction Stage’ of the proposed scheme of arrangement.
In a first of its kind ruling, the Malaysian court has ruled that AAX’s proposed scheme of arrangement is an “insolvency-related event” for the purposes of the Cape Town Convention’s aircraft protocol.