LEO INNOTECH (HOLDING) LTD v. LEE SHUNG CHI

CACV 170/2016

IN THE HIGH COURT OF THE

HONG KONG SPECIAL ADMINISTRATIVE REGION

COURT OF APPEAL

CIVIL APPEAL NO. 170 OF 2016

(ON APPEAL FROM HCA NO. 474 OF 2015)

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REASONS FOR JUDGMENT

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Hon Yuen JA:

1.  I agree with Kwan JA’s reasons for judgment.

Hon Kwan JA:

2.  This is the appeal of the defendant against the judgment of L Chan J on 27 July 2016 (“the Judgment”).  The judge dismissed his appeal against the summary judgment entered by Master J Wong on 5 February 2016.  On 13 October 2016, the judge gave his decision dismissing the defendant’s application for stay of execution of the master’s judgment pending this appeal (“the Decision”).  For ease of reference, I will adopt the terms as defined by the judge in the Judgment.

3.  The judgment entered in favour of the plaintiff is in the sum of $9,583,009.38, being the sums due to the plaintiff under two loan agreements both dated 28 February 2014 made between the parties.  They are called the Replacement Loan Agreement (the principal was $8,515,263.63 and the amount due on 10 February 2015 was $8,942,478.82) and the Standby Loan Agreement (the standby loan was not more than $1 million and the sum due on 10 February 2015 was $640,530.56).  The Replacement Loan Agreement had replaced an earlier loan agreement dated 1 January 2010 called the Share Capital Facility Agreement.  All the agreements were written in Chinese.  It is not in dispute that the defendant signed each of them.  For the Replacement Loan Agreement and the Standby Loan Agreement, he initialled each of the pages in the agreements.

4.  Each of the Replacement Loan Agreement and the Standby Loan Agreement contained a provision that the plaintiff could demand full repayment of the loan and interest accrued by giving the defendant a five-day notice.  The plaintiff did so by a letter of its solicitors to the defendant dated 10 February 2015, demanding payment of $9,583,009.38 within seven days.  The defendant made no response to the demand[1].  The writ was issued on 6 March 2015.

5.  The defendant was represented by solicitors until November 2015.  His former solicitors filed a defence for him on 26 May 2015 (with no particulars of the defences of fraudulent misrepresentation and conspiracy to defraud or injure) and an affirmation setting out his case in some detail was filed only on 30 September 2015 (“the Opposing Affirmation”).  On 26 November 2015, the same day he filed a notice to act in person, he filed a supplemental affirmation in Chinese without leave (“the Supplemental Affirmation”).  The Supplemental Affirmation was admitted de bene esse at the hearing before the master, and so the plaintiff did not respond to it.  The master concluded that the defence is unbelievable with or without the Supplemental Affirmation.  On appeal, the judge considered the Supplemental Affirmation on the same basis and arrived at the same conclusion.  We have treated the Supplemental Affirmation in the same way as the courts below.  It is not necessary for the defendant to issue a summons for leave to adduce new evidence in this appeal in respect of one of the exhibits to the Supplemental Affirmation that he wished to rely on[2].

6.  At the conclusion of the hearing, we dismissed the defendant’s appeal with costs to the plaintiff.  I now give reasons for dismissing the appeal.

This appeal

7.  In this appeal, the defendant was represented by Ms Yvonne Fong and Mr Dickson Chan.  Three broad grounds of appeal were advanced in the notice of appeal as amended.

8.  The first relates to a point of law concerning the Replacement Loan Agreement.  The Share Capital Facility Agreement, which was superseded by the Replacement Loan Agreement, provided that the loan to be advanced of not more than $8 million was for the defendant’s use in the restructuring of the plaintiff’s capital and related matters and expressly authorised the plaintiff to apply the entirety of the loan for this stated purpose (clause 2).  It is the plaintiff’s case that the loan had been so applied and the defendant was allotted 300 shares in the plaintiff in the capital restructuring.

9.  It is not in dispute that on the plaintiff’s case, this contravened section 47A(1) of the repealed Companies Ordinance, Cap 32, which provided that “where a person is acquiring or is proposing to acquire shares in a company, it is not lawful for the company or any of its subsidiaries to give financial assistance directly or indirectly for the purpose of that acquisition before or at the same time as the acquisition takes place”.  Mr Richard Leung, who appeared for the plaintiff throughout, further accepted that the loan transaction was not saved by any of the exceptions in section 47C, in view of clause 2 of the Share Capital Facility Agreement and the whole of the amount advanced was used to purchase the 300 shares in the plaintiff in the capital restructuring.  Nevertheless, the judge held that the breach of section 47A does not affect the liability of the defendant (or the directors of the plaintiff) to repay the loan under the Replacement Loan Agreement.  The defendant contended that the judge was wrong in law in this holding.

10.  The second ground relates to factual disputes concerning the Replacement Loan Agreement.  The judge had found the defences raised by the defendant unbelievable (the loan agreement was procured by fraudulent misrepresentation; there was a conspiracy to defraud or injure; the loan agreement was never intended to be legally binding and would not be enforced; and that no loan was made to the defendant) and contradicted by contemporaneous documents including those produced by the defendant.  The defendant’s counsel did not challenge those findings seriously but chose to focus their attack on what they perceived to be weaknesses in the plaintiff’s case.

11.  The defendant contended that the judge had overlooked discrepancies, and dubious and unexplained features of the plaintiff’s case – the lack of breakdown as to how the principal of $8,515,263.63 was arrived at; the principal exceeded $8 million which was the limit of the loan under the Share Capital Facility Agreement; the total consideration for the 300 shares in the plaintiff allotted to the defendant was $9,707,103 and this was in excess of the principal of $8,515,263.63; the returns of allotment showed that the defendant had not paid for the 300 shares allotted.  It was submitted there is a triable issue whether the plaintiff had lent any money to the defendant for capital injection purpose as alleged by the plaintiff.

12.  The defendant prayed in aid Billion Silver Development Ltd v All Wide Investments Ltd [2000] 2 HKC 262 at 268C to 269E for the proposition that where there are doubts or suspicion as to the validity of the plaintiff’s case, it is not to the point to dismiss them on the basis that they did not improve the quality of the defence because if possibly genuine weaknesses were exposed in the plaintiff’s case, this would cast doubt on the plaintiff’s right to invoke the procedure of summary judgment in the first place.  Where there are features of both claim and defence, as they are so far explained, which are disturbing because they bear the appearance of falsity and disreputable business dealings, the court would not presume to be capable of assessing the chance of success of one as opposed to the other, so the correct course is to give unconditional leave to defend.

13.  The third ground relates to factual disputes concerning the Standby Loan Agreement.  There is no dispute that $640,530.56 was paid by the plaintiff into the defendant’s bank account in four tranches from 14 February 2014 to 10 March 2014.  It is also common ground that these funds were used to pay staff salaries of LIT HK (Leo InnoTech (Hong Kong) Ltd, formerly known as Avanti Innovation Technology Group Limited (“Avanti”)) and LIT GZ (利奧傳感科技 (廣州) 有限公司).  The defences raised and rejected were that the Standby Loan Agreement was mere formality and never intended to be legally binding, and that the plaintiff just utilised the defendant’s bank account to pay the staff salaries and no money was advanced to him.

14.  On appeal, the defendant contended it was not specified in the Standby Loan Agreement or in an earlier agreement dated 14 February 2014 called the Separation Agreement (made between the plaintiff, the defendant and Leo Paper Group Enterprises Ltd(“LPE”)) that the $1 million to be lent to the defendant was for the specific purpose of paying the staff salaries of LIT HK and LIT GZ.  The Replacement Loan Agreement and the Standby Loan Agreement were entered into by the plaintiff and the defendant on 28 February 2014 pursuant to the Separation Agreement.  In summary, the Separation Agreement provided that the defendant was to transfer all his 300 shares in the plaintiff to a nominee of LPE for a nominal consideration and he would purchase from the plaintiff for a nominal consideration all the shares in LIT GZ and LIT HK.  The defendant signed the bought and sold notes and other documents dated 25 June 2014 to transfer all his shares in the plaintiff to LPE.

15.  It was submitted that the first tranche of $250,000 was paid to the defendant’s personal account on 14 February 2014, over four months before he signed the documents to transfer all his shares in the plaintiff to LPE, and this was contrary to clause (II)(16) c) of the Separation Agreement.

16.  By reason of all the above matters, it was contended that there is a triable issue on the circumstances by which the plaintiff paid $640,530.56 into the defendant’s bank account.

Financial assistance in the acquisition of shares

17.  The defendant, whether by his former solicitors or by himself when he acted in person, did not raise the point about contravention of section 47A(1) of the repealed Companies Ordinance.  The point was not raised in the hearing before the master.  It was raised by the judge for the first time on appeal.  Understandably, the plaintiff had not in its pleaded case or in its affirmations dealt with this issue.  I do not think the defendant can make any mileage out of this omission in the circumstances.  This court should consider first whether the judge is right in law in holding that notwithstanding the contravention of section 47A(1), there are circumstances in which the company may recover assets against the person who received a transfer of the assets from the company pursuant to the loan transaction, and, if so, whether there is factual basis on the available evidence that the plaintiff may recover the amounts advanced on such legal premise.

18.  The relevant part of section 47A(1) has been set out.  Section 47A(3) provided that if a company acts in contravention of this section, it is liable to a fine, and every officer who is in default is liable to imprisonment or a fine.  Unlike the new legislation in section 276 of the Companies Ordinance, Cap 622[3], section 47A did not specify the consequences of a breach on the transaction as a whole.

19.  We were taken by the parties to the case law in England and Australia with legislation comparable to section 47A at the time those cases were decided.

20.  The judge recognised that the Replacement Loan Agreement was void and unenforceable, so if the loan was not advanced to the defendant, he could not have enforced it in court against the plaintiff.  This does not mean that after the money was advanced to him, it is not recoverable from him.  The judge held that even if the defendant cannot be sued for repayment as a borrower of a void loan, he could still be liable to repay the money to the plaintiff as a constructive trustee.  He could be sued in the alternative as a trustee holding the money for the plaintiff’s benefit as an alternative to the claim of repayment of loan[4].

21.  Where the company has transferred money or other property pursuant to a void and unenforceable transaction, one of the bases on which the company may recover from the recipient is that of a constructive trust, following the principles laid down by Lord Selborne LC in Barnes v Addy (1874) LR 9 Ch App 244 at 251 to 252.  This is borne out by all the textbook authorities cited by the defendant: Law of Companies in Hong Kong (2^nd ed) by Stefan H C Lo and Charles Z Qu, §15.108; Hong Kong Company Law Legislation and Commentary by Stefan Lo and E L G Tyler, §[3301]; Gore-Browne on Companies, Update 126, §24B[4]; British Company Law & Practice, CCH. New Law, §22-270. Belmont Finance Corporation v Williams Furniture Ltd (No 2) [1980] 1 All E R 393 is a well-known example where recovery was made under the principle of constructive trust by knowing receipt.

22.  Ms Fong has not disputed this legal proposition and accepted in her oral submission that she would not be taking any point on the law.  Her contention was that no money was advanced to the defendant so he could not be a recipient and hence liable as a constructive trustee.  This would be dealt with under the next heading when I consider factual issues raised by the defendant to cast doubt on the plaintiff’s case that money was advanced as alleged.

23.  Leaving aside for the time being the defendant’s arguments on receipt, I am of the view that the plaintiff has made out a case of knowledge for the purpose of knowing receipt.  Ms Fong has taken no issue on the defendant’s knowledge.  It would be difficult to contend he had no knowledge in view of the contemporaneous documentary evidence – the Share Capital Facility Agreement (clause 2); the email exchanges sent or copied to the defendant in March 2010 and exhibited as “LSC-29” to the Supplemental Affirmation; the Separation Agreement (clause (II)(17)); and the Replacement Loan Agreement (clause (1)).  According to these documents, the defendant knew or should have known that the consideration he was to pay for the 300 shares of the plaintiff to be allotted to him in the capital restructuring exercise would be provided by the plaintiff in the form of a loan.

The claim under the Replacement Loan Agreement

24.  The main point taken by the defendant on appeal is whether the loan was actually made by the plaintiff and received by the defendant.

25.  The judge was alive to the fact that on the plaintiff’s case no cash was paid to the defendant pursuant to the Share Capital Facility Agreement and the Replacement Loan Agreement[5].  According to the plaintiff, the advance was made by way of accounting transfers in the restructuring exercise and shares were allotted to the defendant for the total consideration of $9,707,103.  According to the returns of allotment and the documents filed in the Companies Registry, the 300 shares were allotted to the defendant in four tranches on:10 July 2012 (100 shares, amount payable on each share including premium $20,000), 11 July 2012 (50 shares, amount payable on each share including premium $4,091.70), 13 July 2012 (100 shares, amount payable on each share including premium $24,181.07) and 17 July 2012 (50 shares, amount payable on each share including premium $101,688.22).

26.  The points taken by the defendant in this appeal regarding the lack of breakdown of the principal sum of $8,515,263.63 in the Replacement Loan Agreement and the discrepancy between this principal sum and the total consideration for the allotment of the shares were only raised for the first time in this appeal.  Because of this, the plaintiff did not file evidence to explain how the principal sum was arrived at or to deal with the apparent discrepancy.

27.  Nevertheless, it could be noted from the repayment schedule to the Separation Agreement that the principal sum due under the Share Capital Facility Agreement as on 26 May 2011 was $7,502,516.50.  This repayment schedule also showed that the amount of $8,515,263.63 was arrived at by adding the principal of $7,502,516.50 and the accumulated accrued interest from 31 May 2011 to 28 February 2014.  It was provided in clause (1) of the Replacement Loan Agreement that the total amount of the principal sum and accumulated interest, which remained unpaid, amounted to $8,515,263.63 as at the date of the Replacement Loan Agreement on 28 February 2014, that the parties had no disagreement as to this amount and its calculation, and that they agreed to treat this amount of $8,515,263.63 as the principal sum for the Replacement Loan Agreement.  As a result of the Share Capital Facility Agreement having been superseded by the Replacement Loan Agreement, the repayment date was extended from 31 December 2014 to 28 February 2018.

28.  As for the principal sum of $7,502,516.50 under the Share Capital Facility Agreement, the plaintiff has not adduced evidence on a breakdown of this figure.  Nor was it known as to the actual date when this principal sum was advanced, save that as on 26 May 2011, this amount had come into being.  In the defendant’s written submission the point was taken that it was alleged in the plaintiff’s affirmation in reply to the Opposing Affirmation that the loan was borrowed from the plaintiff “as early as” when the Share Capital Facility Agreement dated 1 January 2010 was signed.  This is misquoting §§9 and 19 of the reply affirmation.

29.  Under clauses 1 and 2 of the Share Capital Facility Agreement, it was provided that the amount to be advanced to the defendant for the purpose of the capital restructuring of the plaintiff, the de-registration of a company in Guangzhou known as廣州市邁前貿易有限公司 and incidental matters would be no more than $8 million.  So the exact figure of the principal sum was not specified.  Clause 3 stipulated that the period of the loan would commence from 1 January 2010.  This is not to say that the withdrawal would be made on 1 January 2010.  Clause 4 provided that interest would accrue on the amount withdrawn from the date of the withdrawal and no interest would be charged for the first year during the period of the loan.

30.  I think there is some explanation of the arithmetic for the principal sum of $7,502,516.50 in the email of Jockey Lui of the Leo Paper Group to the chairman Leung Chun Wah Samuel dated 30 March 2010, which was copied to the other directors of the plaintiff including the defendant.  Mr Lui stated in the email he had discussed with the defendant and another director Fung Kwong Yuen Johnny the implementation of the capital restructuring of the plaintiff and set out two proposals, A and B, for the consideration of Mr Leung.  Mr Leung subsequently decided to choose proposal B, which entailed the absorption by the Leo Paper Group of the entirety of the losses of the Avanti Group, which must be written off, instead of just 75% with the defendant bearing 25% of the losses.  According to proposal B, the total funds to be contributed by the defendant in the capital restructuring of the plaintiff would be $7,980,500.  This was made up of $5 million being the defendant’s obligation before the restructuring as at 31 December 2009 and $2,980,500 that he was required to inject into the capital for his 10% shares after restructuring.

31.  Although this figure of $7,980,500 does not agree with the principal sum of $7,502,516.50 in the Share Capital Facility Agreement, it should be noted that Mr Lui had stated in this email he was giving an analysis of how the figures were calculated and that an independent accountant was conducting an audit of the accounts of the plaintiff and the final figures would be based on the report of the accountant after the completion of the audit.  That would also account for the discrepancy with the amount of $9,707,103 being the total consideration the defendant was required to pay when the shares were eventually allotted to him in July 2012.  The defendant acknowledged that the process of his being awarded the 300 shares, which entailed an exercise of capital restructuring, was not completed until mid 2012, see his statement of claim in HCA 1555/2014 at §10.  This also put paid to Ms Fong’s argument that the principal sum allegedly advanced as on 26 May 2011 could not be related to the 300 shares as the shares were allotted in July 2012.

32.  Ms Fong further submitted that on the face of the returns of allotment, the consideration for the 300 shares allotted to the defendant was stated to be payable and there was no indication that the consideration had been paid.  Similarly, in a schedule exhibited by the plaintiff showing the subscription of shares by the defendant, the amount of the total consideration for the share subscription matched the target funding “to be raised”.  This again would appear to indicate that the consideration had not been paid and the target funding had yet to be raised.  However as these documents were not put into evidence earlier, the plaintiff has not been able to give an explanation (if any) for them.

33.  I do not think these matters are sufficient to cast doubt on whether the advance of the amount said to be the defendant’s contribution to the plaintiff’s capital in the restructuring as explained in the email of Mr Lui had been carried out.  The fact remains that 300 shares being 10% of the shares of the plaintiff were allotted to the defendant, and, as stated in the returns of allotment, they were allotted to him at a substantial premium.  He had held the shares for two years until he transferred them to LPE on 25 June 2014 pursuant to the Separation Agreement.  During the restructuring exercise, he was independently advised by his lawyers and accountant, as appeared from his email to Mr Leung dated 7 June 2010 exhibited as “LSC-26” to the Supplemental Affirmation and other email exchanges in June 2010 in “LSC-27”.

34.  It is unnecessary to deal with Ms Fong’s argument on the alleged dilution of the defendant’s shares in the plaintiff from 25% to 10%.  A full explanation of this was given in Mr Lui’s email of 30 March 2010, and, as I have just mentioned, the defendant had professional advice from his lawyers and accountant at the time.

The claim under the Standby Loan Agreement

35.  There is even less scope for argument in respect of the claim under the Standby Loan Agreement.

36.  The main argument of the defendant is that according to the provisions of the Separation Agreement, the first tranche of the standby loan should only be released to the defendant when he had transferred his 10% shareholding in the plaintiff to the Leo Paper Group.  The transfer of the defendant’s 300 shares to LPE was on 25 June 2014 whereas the first tranche of $250,000 was deposited into his account on 14 February 2014, which was even before the Standby Loan Agreement dated 28 February 2014 was signed.

37.  There is no substance in this point. Clause (23) of the Standby Loan Agreement provided that upon the execution of the agreement by the parties, the agreement would come into effect as from 1 March 2014.  By clause (2)(c), the defendant acknowledged that as and when the agreement came into effect, the plaintiff had already released $250,000 of the standby loan to the defendant and he had received this advance.  Whether this was contrary to the condition as provided in the Separation Agreement is not material, and would have no bearing on the defendant’s liability to repay the loan.

38.  It was further contended that in the reply affirmation, the plaintiff had denied it had any obligation to provide funding to the defendant to assist in the staff and salary matters of LIT HK and LIT GZ, and that this would appear to be contrary to the emails between the defendant and the directors of the plaintiff in February and March 2014 which were to the effect that the plaintiff would provide funds to the defendant to pay the outstanding staff salaries of LIT GZ and LIT HK.

39.  There was no contradiction at all.  What the plaintiff actually said in the reply affirmation was that there was no obligation to provide further funding to assist in the staff and salary matters of LIT HK and LIT GZ, which were then wholly owned by the defendant, save for performing its obligation expressly stated in clause (II)(15) of the Separation Agreement and this was later turned into the Standby Loan Agreement.

Conclusion

40.  None of the grounds of appeal is of merit.  I agree with the master and the judge the various lines of defence raised by the defendant are unbelievable, for the reasons given by them.  This is not a situation in which there are doubts or suspicion as to the validity of the plaintiff’s case, as argued in this appeal.  As the judge has stated, the defendant has tried to confuse matters by making all sorts of wild allegations and he has sought to create an artificial complexity in the case.

41.  We have therefore dismissed the appeal with costs to the plaintiff.

Hon Au J:

42.  I respectfully agree.