Till debt do us part: When corporate debt work-outs don't work out, and why

LAST week, Singapore's High Court approved the winding up of collapsed oil trader Hin Leong Trading which had chalked up US$4.9 billion of debt, far outweighing estimated realisable assets of under US$300 million. While the Hin Leong story was complicated by lapses in corporate governance and alleged fraud, the case brings up difficulties faced in rehabilitating overly leveraged businesses that have fallen down the sinkhole of a deep downturn.

Questions have surfaced in an environment now marked by widespread insolvency risk. How effective is our current debt restructuring regime in paving a way out for firms in distress? How far has Singapore's updated legal toolkit gone to extend much needed breathing space to debt-laden firms, and in so doing, advance towards becoming Asia's debt restructuring hub?

Hin Leong's proceedings were tainted by malfeasance in dealings with banks, but its case is far from unique. Allegations of trade finance fraud have also surfaced against Zenrock, Agritrade and other oil and commodity traders seeking restructuring in Singapore.

The fortunes of the once thriving trading sector have faltered, with the pandemic dampening energy and commodity demand and disrupting supply chains.

Robson Lee, Singapore-based partner of US law firm Gibson Dunn, notes that the judicial managers from PwC filed the application to wind up Hin Leong about 10 months after they were first appointed. He describes the outcome as hardly surprising, considering the PwC managers have sought to no avail for white knight investors to "take over Hin Leong as a whole".

"Investors are seen as more interested in specific assets, many of which were held by Hin Leong's affiliates," says Mr Lee.

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Credit ratings agency Fitch Ratings have noted that corporate defaults worldwide have outpaced levels seen during the global financial crisis, on an annualised basis, during the first eight months of 2020.

Data from wealth management platform provider iFast showed Singapore's corporate bond defaults peaked in 2016 and 2017 following the first cracks in the offshore and marine (O&M) sector. iFast has more recently warned of default risks linked to bonds issued here by a media company and a firm active in jewelry and property issues. Three other property business trusts may not redeem perpetuals maturing this year, an analyst with the wealth platform said.

When creditors lead the way

Judicial management, which puts insolvent firms in the custody of court-appointed managers or supervisors, is one of two mechanisms availed to firms seeking debt revamps out of Singapore.

The second mechanism, the scheme of arrangement, grants existing management more room to shape the restructuring of a distressed firm. Data drawn from recent history seems to point to more progress for corporate work-outs done via schemes.

City University of Hong Kong professor Wan Wai Yee noted in a published study that the Singapore court has sanctioned at least 39 schemes between 1996 and 2019 that paved the way for debt refinancing or restructuring.

Following the enactment of enhanced scheme provisions in 2017, court applications filed under the enhanced scheme provisions from 2017 till Dec 31, 2020 outnumbered those pursuing judicial management, by 117 to 70.

But the years that followed on from 2019 have seen firms recommencing debt revamps after implementing sanctioned schemes. At least two of these firms - consumer electronics trader TT International and offshore support vessel Nam Cheong - fell within the 39 cases cited in Prof Wan's study.

This prompts the question if debt revamps via Singapore's schemes - or even out-of-court proceedings - have gone far enough.

Nam Cheong emerged with negative equity after executing its scheme in September 2018, which saw its controlling shareholder inject RM50 million more equity.

Prof Wan's study suggested over 15 of the 39 court-sanctioned schemes tabled no outright haircuts to debts owed by the firms. Indeed, observations point to a prevailing mentality among banks here that can hinder rehabilitation of firms.

As Rajah & Tann managing partner Patrick Ang puts it: "Singapore's lenders generally uphold the mantra that debtors who did wrong have to make whole."

BlackOak LLC's founding partner and seasoned restructuring expert Ashok Kumar suggests however, that "keeping the debt whole and kicking the can down the road would impede the ability of debtor firms to move on with a lightened balance sheet".

Marco Polo Marine has so far stood out as a rare example to have reduced its debt pile to a sustainable level via a court-sanctioned restructuring. But this came at a price. Group chief executive Sean Lee found bank loans tougher to raise, with the firm weighed down by the stigma attached to restructured businesses.

Banks weigh in heavily on any restructuring outcome, in Singapore and elsewhere. But here, creditors are seen dictating the direction of debt revamps.

Firms need to get majority buy-in from their creditors before they can proceed with debt revamps under Singapore's updated scheme. This is unlike in the United States, where firms can file US Chapter 11 applications without any backing from creditors, notes James Sprayregen, US-based restructuring partner of international law firm Kirkland & Ellis.

Others see indications of the mindset gradually changing in the banking sector.

Rajah & Tann's Mr Ang suggests that many senior bankers now involved in insolvency and restructuring matters have picked up the ropes during the 1998 Asian Financial Crisis.

Rajah & Tann was among market practitioners here involved in the liquidation of Lehman Brothers' Singapore assets after the collapse of the then fourth largest investment bank in the world in 2008. That led to the sale of Lehman Brothers Singapore to Nomura within two months, and also investments in commercial and residential properties. The proceedings in Singapore are said to have resulted in high recovery, though involved lenders would have accepted haircuts.

Swissco: a successful restructuring

Twenty years after Lehman's collapse, Swissco Holdings' court-appointed supervisors Ernst & Young in May 2019 managed to close another exceptional deal for a substantial part of the listed group's offshore support vessel (OSV) business.

Unlike the case for Marco Polo Marine, the deal with Allianz Middle East Inc for Swissco Offshore and other related assets was tabled through a scheme under the judicial management.

Angela Ee, Swissco's judicial manager from EY, says that the deal, which saw assets carved out of the holding group, succeeded because it was structured in a manner that met both the requirements of the investor and creditors.

With market values of OSVs having more than halved since the 2014 oil price crash, Swissco's deal is likely to have called for steeper haircuts than those seen in Lehman Brothers' proceedings here, to pave the way for Allianz to come on board. Ms Ee acknowledges that haircuts would be necessary when the proposed recoveries fall below loan amounts.

But she maintains the Swissco deal "has yielded positive recovery for the involved creditors" and that "a successful restructuring would reduce the quantum of haircuts".

The deal was completed about two and a half years after Swissco Holdings and its OSV subsidiary filed for judicial management. It came after an earlier buy-out offer for the OSV subsidiary that came to light fell through the cracks amid a protracted industry downturn.

What creditors think vs what the business needs vs what the board wants

Local business and banking culture have also weighed on recent high-profile insolvency proceedings. Poor corporate governance was linked to the still ongoing restructuring of tycoon Lim Oon Kuin's oil business empire, water treatment firm Hyflux and erstwhile rising star in the O&M sector, Swiber Holdings.

The restructuring of Mr Lim's empire saw three businesses being placed within quick succession under the care of court-appointed supervisors. Trading firm Hin Leong filed for judicial management in April after it ran up US$800 million of futures losses that went unreported for years. Shipping affiliate Ocean Tankers followed in May and in August, the court approved OCBC Bank's application against Xihe Holdings and subsidiaries.

Parts of the larger tainted empire, such as Xihe, are above water or hold assets commanding market value.

US-based lawyer Mr Sprayregen argues that generally, the insolvency proceedings for cases involving entities that are still afloat should seek to separate allegations of fraud from the business results.

He suggests that in the US, for instance, a presiding judge has tremendous amount of discretion to shape a debt revamp and can choose among others, to place the business involved under a trustee. That would have supported the appointment of third-party supervisors for Xihe, although the lenders were the one to have pushed for its restructuring under judicial management.

OCBC Bank's application against Xihe was also approved because it secured majority backing from exposed lenders. Put simply, banks want expediency in loan recovery, which they deemed as better achieved through putting Xihe under judicial management.

But banks did not seem eager to push for the same from the long drawn out proceedings of Hyflux and Swiber.

Hyflux's financial distress was linked in the early days of its corporate work-out to potential mismanagement. Two and a half years after its original attempt to restructure via scheme of arrangement, it headed into judicial management in November last year after the court rejected yet another application to extend its restructuring bid.

FTI Consulting restructuring expert Rod Sutton, which represented holders of Hyflux's medium term notes, says that the presence of a strong board, which did not seem inclined to take on advice, did not help the firm's restructuring.

"Creditors also did not receive timely updates on the firm's financial performance or negotiations with potential investors," he says.

Hyflux's controlling shareholder Olivia Lum had exerted a heavy influence on the board even after the firm embarked on restructuring. Such a scenario is not uncommon in Asia, where many businesses remain family-owned.

In Swiber's case, executive chairman Raymond Goh has stayed on board to shape investor deals eventually tabled by the firm's judicial managers.

Swiber headed into judicial management in 2016 after aborting a liquidation bid, following public outcry over perceived disclosure lapses on a US$710 million deal that failed to materialise.

Four years on, its creditors have voted again to support a second US$200 million deal on the table with Swiber's long-time project partner, Rawabi Holdings, after a similar one with Seaspan fell through. Practitioners suggested that Swiber's lenders should have provisioned for exposures amounting in all to billions of dollars by now.

That would have encouraged creditors to back any proposal that will yield at least some recovery. This is vastly different from the course that lenders to Hin Leong's Xihe have pursued.

Up until the early days of its judicial management, Xihe was still a target for rescue financing from an investor identified during its out-of-court restructuring.

That deal is now said to be off the table. Boutique law firm BlackOak's Mr Kumar who represented the investor, would not comment on the case but flagged one area of concern.

"We haven't seen a scenario where existing secured creditors make way or share upside on value with new money," he says. Rescue financing would not materialise when lenders and investors cannot agree on discounts to asset values resulting in haircuts to existing debts.

It does appear that the decades of work Singapore has put in to progressively tweak its legislative framework would need cross-sectoral support to make sure it can go the distance in helping cushion firms transitioning through business cycles.

Towards a hub for debt work-outs

Singapore has already incorporated, as part of its enlarged toolkit, rescue financing and other provisions drawn from the US Chapter 11 Bankruptcy Act, which has been widely embraced by firms seeking cross-border restructuring. These updates were introduced in 2017 just after the first cracks surfaced in the offshore and marine sector.

Most recently, Singapore rolled out last November and this January two programmes targeting small-to-medium enterprises that form the backbone of its economy. The programmes sought to simplify and reduce costs of proceedings pursued to term out or pare debts for this business demographic supporting those higher up in the food chain.

O&M firms and many other businesses exposed to overseas markets have since sought restructuring out of Singapore, which would have helped them to shave legal costs.

Kirkland & Ellis' Mr Sprayregen suggested that in this respect, Singapore can bank on, among others, the weight it pulls as a major maritime and trading hub.

Several trading firms exposed to the pandemic-triggered credit crunch have already pursued legal proceedings here.

Singapore's updated regime has also made inroads with a leading foreign jurisdiction. In March 2019, the English court moved to recognise the debt protection Singapore granted to steel producer H&CS Holdings against an arbitration commenced by Glencore before a UK tribunal.

That said, countries like the United Arab Emirates and Indonesia have yet to recognise Singapore's cross-border jurisdiction, Mr Sutton of FTI Consulting observed. This is one of several hurdles standing in the way of Singapore carving out a bigger role in corporate debt restructuring.

One Achilles heel often cited is Singapore's apparent lack of success in rehabilitating firms through its judicial management regime, which sceptics deemed as too creditor-driven.

Some practitioners also advocate for tapping foreign talent to promote application of such provisions borrowed from the US framework. "Singapore should consider opening up its debt restructuring market to foreign lawyers who bring with them more exposure to cross-jurisdictional business transactions," Mr Sutton says.

Gibson Dunn's Mr Lee says: "The government may wish to consider permitting foreign lawyers with the requisite professional experience (with the US Bankruptcy code) to be admitted to the Bar for prescribed durations to work alongside local practitioners in the court."

He further suggests that experienced legal minds can be imported on case-by-case basis to adjudicate global debt revamps and implement the relevant provisions.

"This will instill greater confidence within the global community that Singapore is well positioned and equipped to be the debt restructuring hub of Asia, comparable to the US and other major financial centres."

Rome was not built overnight - the US bankruptcy code was enacted in 1978 and an ecosystem has since developed to support its application. "It takes time to develop Singapore as a debt restructuring hub just as it has taken some time to develop Singapore as a centre for arbitration," Mr Sprayregen says.