Uncovering the Enigma of the Public Policy Exception in Cross-Border Insolvency

By Irvin Ho Jia Xian (LLB Student, Singapore Management University)

Introduction

The Model law on Cross-Border Insolvency (the “Model Law”) preserves the possibility of excluding or limiting recognition of a foreign insolvency proceeding on the basis of overriding public policy considerations. Under Article 6 of the Model Law, the court may refuse to take an action governed by the Model Law if that action would be manifestly contrary to the public policy of the State. Given the inherently vague nature of this provision, there is a diversity of conceptions as to what would justify its invocation. In this article, I hope to shed some light on what the public policy exception entails by examining the reasoning employed by various courts around the world.

Protection of a State’s commercial interests

One popular reason for invoking the public policy exception is when the State’s commercial interests are jeopardized. In the American case of In re Qimonda AG (2011) 462 BR 165, the Fourth Circuit had to decide whether to terminate 4,000 patent licenses, pursuant to a German insolvency proceeding. The license holders objected, claiming that “deferring to German law, to the extent it allows cancellation of the US patent licenses, would be manifestly contrary to US public policy.”

The court affirmed the judgment of the US Bankruptcy Court, stating that the termination of the patent licenses would create uncertainty and stifle the progress of American technological development, which would ultimately hurt the US economy. Although the US has embraced the principle of modified universalism with its acceptance of the Model Law, this commitment is not unreserved when the State’s commercial interests are negatively implicated.

Administration of justice

Singapore had dealt with the public policy exception in the seminal case of Re Zetta Jet [2018] 4 SLR 801. There, a shareholder of the debtor had obtained an injunction to prevent the debtor from carrying on any further actions pursuant to a Chapter 11 proceeding in the US. However, the debtor ignored the injunction. Subsequently, the debtor sought recognition of the Chapter 11 proceedings from the Singapore court.

The court denied recognition on public policy grounds. Disregarding an injunction issued by the Singapore court undermines the administration of justice as failure to comply with a court’s orders will be met with punitive measures. Granting full recognition of the US proceedings, notwithstanding the deliberate failure to comply with the Singaporean injunction, would undermine the administration of justice, and consequently, public policy.

One thing to note is that Singapore’s adoption of the Model Law does not include the word “manifestly”, which the court recognised might create that a lower standard for invoking the public policy exception. Nonetheless, the court found that the same result would follow even if the higher standard were applied, as the administration of justice forms a “fundamental policy” of the State.

Nonetheless, the court granted limited recognition so that the Chapter 11 trustee could seek to set aside the original injunction. After setting aside the original injunction, the trustee was successful in obtaining recognition as the court found that the COMI of the debtor was properly found in the US, rather than Singapore. Re Zetta Jet provides an interesting approach in partially applying the public policy exception. An entity guilty of committing an insolvency-related default may still seek limited recognition to set aside the basis for which the default arose initially.

Objectionable conduct of the parties

One interesting area for discussion is whether the objectionable conduct of parties is sufficient to invoke the public policy exception. Although not specifically dealing with the Model Law, the Hong Kong court’s recent decision in In the Matter of China Fishery Group Limited [2018] HKCFI 2622 raises some points for consideration.

In that case, the debtor and creditor entered into a quid pro quo; on the one hand, the creditor promised to withdraw its winding-up petition of the debtor. On the other hand, the debtor could not oppose the creditor’s immediate re-appointment of the provisional liquidators if it failed to repay its debt in six months. However, rather than finding a way to repay its debts, the debtor initiated Chapter 11 proceedings shortly before the six-month deadline. This imposed a worldwide moratorium which prevented the creditor from resuming their winding-up petition against the debtor. Subsequently, the Chapter 11 trustee applied to the Hong Kong court for leave to disclose a prior decision which concerned the discharge of the provisional liquidators and the reasons for that decision to the US proceedings.

The Hong Kong Court refused to grant the trustee leave. Central to the judgment is the issue of whether the debtor had acted “contumeliously”. The court noted that the debtor had only managed to begin the Chapter 11 proceeding through “conscious fraud” on both the creditor and the court. It never had any intention to honour the agreement and abused the Chapter 11 proceedings to thwart the creditor from resuming the winding-up petition. Accordingly, public policy reasons militate against assisting a proceeding that arises in such a way.

Differential treatment of creditors

Last, we consider a situation where the treatment of creditors is different in both States. Generally, it is neither necessary nor expected that the relief requested by the foreign representative be identical to or available under domestic law. Such an interpretation would comport with the notion of international comity and reflects the principle of modified universalism. However, there are limits to how much the court should tolerate the dissimilarity in the treatment of creditors. For example, in re Sivec SRL (2012) 476 BR 310, the US Bankruptcy Court held that comity is inappropriate where a creditor is treated “vastly different[ly]” in the foreign proceeding than it would be under domestic law. On those facts, the creditor in question would be treated as a secured creditor if the proceedings were commenced in the US. In contrast, this same creditor would not even be regarded as a creditor in the Italian proceedings. Given the vast disparity in treatment, the court refused to extend comity to the Italian proceedings on public policy grounds.

Conclusion

In conclusion, the public policy exception remains rife with controversy. The idea of what can constitute a public policy consideration is largely left to each State to determine. Yet, there exist certain universal considerations which any court may apply. Moving forward, there exists a pertinent need to adopt a comparative approach in examining international cases. This will aid in furthering our own understanding of what this enigmatic exception entails.