THE OFFICIAL RECEIVER v. CHAN KWONG HUNG

HCMP 3294/2004

 IN THE HIGH COURT OF THE

HONG KONG SPECIAL ADMINISTRATIVE REGION

COURT OF FIRST INSTANCE

MISCELLANEOUS PROCEEDINGS NO. 3294 OF 2004

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J U D G M E N T

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1.  This was an application by the Official Receiver seeking a disqualification order pursuant to section 168H of the Companies Ordinance (Cap. 32) (“the Ordinance”) against Mr Chan Kwong Hung (“Mr Chan”) in respect of his conduct as a director of Chark Fung Securities Company Limited (“Chark Fung”), Winton Commence Limited (“Winton”), Ming Fung Bullion Company Limited (“Ming Fung Bullion”) and Kee Fung Sing International Finance Company Limited (“KFS”), all of which are in liquidation.

2.  Each of the four companies was wound up by orders made on 8 July 1998 pursuant to petitions presented by the Securities & Futures Commission on 26 May 1998.  The companies were part of the Ming Fung group of companies, which provided financial services to the investing public.  Chark Fung was registered as a dealer on the Hong Kong Stock Exchange, Winton was registered as a dealer on the Hong Kong Futures Exchange, Ming Fung Bullion was a dealer in foreign exchange, and KFS was a finance company, providing finance to clients of Chark Fung.  Chark Fung, Winton and KFS are all in insolvent liquidation.  Ming Fung Bullion, however, is solvent.

3.  The time for the bringing of these disqualification proceedings would ordinarily have expired on 25 May 2002, 4 years after the winding up of the companies commenced (see section 168I(2) of the Ordinance).  However, this time limit was extended until 28 December 2004 on applications made by the Official Receiver, and these proceedings were in fact commenced on 24 December 2004.

4.  As Mr Chan had by then been charged with conspiracy to defraud KFS, its shareholders and owners of securities held by KFS and Chark Fung, arising out of his involvement in the affairs of the companies, these proceedings were stayed on his application, to await the outcome of the criminal proceedings.  Following a trial in the district court, Mr Chan was found guilty of the charge against him, and was, on 26 January 2006, sentenced to a term of imprisonment of 4½ years, and made the subject of a disqualification order for a period of 7 years under section 168E of the Ordinance.  Although this was not formally in evidence, Ms Ismail, who appeared for the Official Receiver, told me that an appeal by Mr Chan against his conviction was recently dismissed.

5.  Following the conclusion of the criminal proceedings, these proceedings were re-activated.  It is the Official Receiver’s position that the period of disqualification of 7 years imposed by the district judge in the criminal proceedings is insufficient, having regard to the many respects in which the Official Receiver suggests Mr Chan has shown himself to be unfit to be a director of a company.

6.  Mr Chan indicated at the outset that he did not intend to contest these proceedings.  He has, however, filed two affirmations in these proceedings.  In his first affirmation, made in support of his application for a stay, he indicated that he “strenuously denied” the allegations made by the Official Receiver in his report in support of the application, although he did not put forward any evidence in support of his denial.  The second affirmation, made after his conviction, simply stated that he had been disqualified from acting as a director by the District Court, and that he did not intend to act as a director in future.  At the hearing, Mr Chan indicated that he did not wish to address the court in relation to any of the matters raised by the Official Receiver, or in the submissions of Miss Ismail.

7.  Section 168H(1) of the Ordinance imposes a duty on the court to make a disqualification order in certain circumstances.  It provides that:-

“(1)     The court shall make a disqualification order against a person in any case where, on an application under this section, it is satisfied –

(a)     that he is or has been a director of a company which has at any time become insolvent whether while he was a director or subsequently; and

(b)     that his conduct as a director of that company, either taken alone or taken together with his conduct as a director of any other company or companies, makes him unfit to be concerned in the management of a company.”

8.  As Chark Fung, Winton and KFS are all in insolvent liquidation, and Mr Chan was a director of each of them, the condition mentioned in subsection (1)(a) is satisfied.  Further, his conduct in relation to each of them, and his conduct in relation to Ming Fung Bullion, of which he was also a director, is to be taken into account when considering his fitness to be concerned in the management of a company – see subsection (1)(b), from which it is clear that the fact that Ming Fung Bullion is not insolvent does not prevent the court from taking into account Mr Chan’s conduct as a director of that company.

9.  When considering the question of unfitness, the court is required by section 168K(1) of the Ordinance to have particular regard to the matters mentioned in the Fifteenth Schedule to the Ordinance.  Part I of that Schedule, which applies in relation to all of the companies, includes any misfeasance or breach of any fiduciary or other duty by the director in relation to the company, and any misapplication or retention by the director of, or any conduct by the director giving rise to an obligation to account for, any money or other property of the company (paragraphs 1 and 2 of Part I) and the extent of the responsibility of the director for any breach by the company of the obligation to keep proper books of account pursuant to section 121 of the Ordinance (paragraph 3(h) of Part I).  In relation to the three insolvent companies, the court must also have regard to the matters mentioned in Part II of the Fifteenth Schedule, which include the extent of the director’s responsibility for the causes of the company becoming insolvent, and any failure by him to company with the obligation to provide the liquidator with a statement of affairs pursuant to section 190 of the Ordinance (paragraphs 1 and 4(a) of Part II).

10.  These matters are not, however, exhaustive.  As is made clear by Re Bath Glass Limited (1988) 4 BCC 130 at 135 and Re Copyright Limited [2004] 2 HKLRD 113 at 123, any misconduct of the director qua director is relevant to be taken into account, notwithstanding that it does not fall within any specific statutory provision.

11.  Section 168H(4) provides that the period of disqualification to be ordered is to be between 1 year and 15 years.  For practical purposes, this range has been divided into three smaller parts – up to 5 years, over 5 and up to 10 years and over 10 and up to 15 years.  The lowest of these brackets is to be applied where though disqualification is mandatory, the case is one which is not, relatively speaking, very serious.  The top bracket is to be reserved for particularly serious cases, while the middle bracket should be applied to cases which are serious, but do not merit a disqualification period within the top bracket (see Re Sevenoaks Stationers (Retail) Limited [1991] Ch 164 at 174E-G).

12.  In the present case, the Official Receiver points to the following matters as demonstrating Mr Chan’s unfitness.  These matters are, it is said, particularly serious in relation to Mr Chan because he was quite clearly the controlling director in running the affairs of the companies:-

(1)     There was a deficiency in client assets, in the form of missing shares and funds, of about HK$240 million, for which Mr Chan had provided no explanation, despite his being asked for one, and notwithstanding that he was examined by the liquidators of the companies pursuant to section 221 of the Ordinance.

(2)     Mr Chan caused the assets of the companies and/or their clients to be misapplied by using such assets to make payments of some HK$38.37 million to gambling related entities on behalf of customers, for which Mr Chan received commissions of between HK$20,000 to HK$70,000 per month over a period of time - the fact that such payments were made and such commissions were received by him personally was admitted by Mr Chan during his section 221 examination.

(3)     Mr Chan was behind the operation of 10 client accounts of KFS, which were not in fact operated by the clients to whom the accounts appeared to belong, out of which about HK$135 million was withdrawn between 1 January 1997 and 25 May 1998, such withdrawals being recorded as withdrawals by the account holders, although the proceeds thereof were paid out to persons other than the account holders, including some HK$20.6 million paid to a company called Link Standard Limited, a company of which Mr Chan and his wife were the shareholders and directors, and some HK$63.2 million odd which found its way back to KFS where it was treated as a repayment of Mr Chan’s shareholder’s current account with KFS.

(4)     Notwithstanding the payments mentioned in the previous sub-paragraph, Mr Chan remained indebted to KFS for some HK$42.77 million on his shareholder’s current account with that company.

(5)     Between 1 January 1997 and 31 May 1998, net payments totalling some HK$143.66 million (i.e. some HK$60 million in addition to the amounts mentioned in sub-paragraph (2) above) were made out of the companies to Mr Chan and related parties, including his wife, Link Standard Limited and Ming Fung Goldsmith (a firm of which Mr Chan was a proprietor).

(6)     Mr Chan had failed to ensure that there were proper controls or supervisory systems in place to safeguard client property, such as shares, or to monitor the position of clients who were in debt to the company, so as to enable timely and appropriate recovery action to be taken where necessary, or to put in place controls to ensure that internal prohibitions against provision of facilities to staff of KFS or their spouses or close relatives were observed.  He also appeared to have delegated the responsibility for monitoring compliance with regulatory requirements to an unqualified person, and to have failed to take necessary care when signing cheques placed before him for signature, in that he did not consider whether or not such payments were justified or necessary.

(7)     Mr Chan had, in the course of the liquidation of the companies, failed to cooperate with the liquidators in a number of important respects, failing to provide a statement of affairs for some 3 years, and then providing one which was materially incomplete, failing to provide information to the liquidators when requested to do so, vigorously resisting applications for his examination under section 221 of the Ordinance, and showing an unwillingness to provide information during the course of the examination when it eventually took place.

(8)     There had been a failure to keep proper books of accounts and accounting records so as to enable the companies’ true financial position to be monitored.  In particular, there was the use of the 10 suspect client accounts mentioned in sub-paragraph (3) above, coupled with the apparent deletion of information from computers used by key staff, including Mr Chan, insufficiency of supporting documents for transactions, and the failure to record all transactions in the companies books.

13.  Each of these complaints is made good by the evidence contained in the Official Receiver’s report, the affirmation of Mr Gabriel Tam, one of the liquidators of the companies, and a report compiled by Messrs Ferrier Hodgson on the instructions of the Official Receiver, attempting to reconstruct, from the limited records available, the sources and applications of the funds of the companies.

14.  Despite the work done by the liquidators and Messrs Ferrier Hodgson, it has not been possible to account for the whereabouts of the missing client assets of HK$240 million, or for the source of the funds which were in the 10 suspect accounts, which were later withdrawn from such accounts, or for the source of the funds paid to the gambling related entities.  The Official Receiver’s belief, which Ms Ismail submitted was established on a balance of probability, is that the missing client assets were that the source of the funds in the 10 suspect client accounts and for the other payments to parties connected with Mr Chan and to the gambling related entities.  I think that this is right, but even if it is not, it does not, in my view, make any appreciable difference to the question of what period of disqualification should be imposed in this case.

15.  In my view, having regard to the matters complained of, which I have summarised in paragraph 12 above, it is clear that Mr Chan has:-

(1)     been guilty of misfeasance and breach of his fiduciary duties in relation to the companies - in particular in relation to the matters mentioned in paragraphs 12(2), (3) and (5) above;

(2)     been involved in the misapplication of property of the companies - in relation to the same matters;

(3)     been responsible for the failure of the companies to keep proper books of account, in contravention of section 121 of the Ordinance, having regard to the matters mentioned in paragraph 12(3) and (8) above;

(4)     bears substantial responsibility for the insolvency of the three insolvent companies, having regard to the matters mentioned in paragraphs 12(2) to (6) above; and

(5)     has failed to comply with his obligation to provide statements of affairs in respect of the companies to the liquidator, having regard to the delay in doing so, and the quality of the statements eventually provided.

16.  Further, the massive deficiency in client assets, which would appear, at least on a balance of probabilities in my view, to have been caused by Mr Chan’s acts which are complained of in paragraphs 12(2) to (5) above, also indicates that Mr Chan has been guilty of serious misfeasance and breach of duty in relation to the companies.

17.  Having regard to the extent of the deficiency in client assets, and the magnitude of the amounts involved in the misapplications and breaches of duty by Mr Chan, there can be no doubt that Mr Chan is quite unfit to be concerned in the management of a company, and that the nature of his conduct puts this case right at the top of the most serious category of cases.  All other things being equal, I would have come to the view that a period of disqualification of just short of 15 years, which is the maximum period of disqualification permissible, should be imposed on Mr Chan.

18.  Before deciding on the length of the period of disqualification, however, I think it right to consider:-

(1)     what, if anything, is the effect of Mr Chan’s sentence of 7 years’ disqualification, which was passed as part of the sentence in the criminal proceedings against him; and

(2)     whether there are any mitigating factors that should be taken into account in Mr Chan’s favour.

19.  So far as the criminal proceedings are concerned, I am of the view that they do not, save to the limited extent indicated below arising out of the fact that the disqualification period made in those proceedings commenced running on 26 January 2006, have any impact on this case.  It is clear from SSTI v Rayna [2001] 2 BCLC 48, SSTI v Newstead [2001] EWCA Civ 1083 (the application for leave to appeal in the Rayna case) and Re Regal Motion Industries Ltd [2005] 1 HKLRD 461 that the making of a disqualification order pursuant to section 168E of the Ordinance as part of the sentence in criminal proceedings does not, of itself, prevent the Official Receiver from instituting or continuing with the prosecution of an application for a disqualification order under section 168H.  It is only in the rare case where the institution or continuation of section 168H proceedings would amount to an abuse of the process, because of the existence of a very substantial overlap between the matters taken into account in the criminal proceedings, and the matters to be taken into account in the civil proceedings under section 168H, that it would be appropriate to deny relief under section 168H.

20.  It suffices to say that this is clearly not such a case, for the following reasons:-

(1)     The ambit of the criminal proceedings was very much narrower than the ambit of the complaints made by the Official Receiver in this application.  The criminal proceedings concerned a charge of conspiracy to defraud, arising out of the operation of the 10 suspect accounts, and the false accounting related to those accounts, over a shorter period (from November 1997 to May 1998) than that dealt with in the evidence in these proceedings (January 1997 to May 1998).  As is apparent from paragraph 12 above, the complaints raised by the Official Receiver involved many other matters, going well beyond complaints as to the operation of the 10 suspect accounts.

(2)     The focus of the criminal proceedings was on the criminality of the conduct complained of – this involved an investigation as to whether the conduct complained of was dishonest.  By contrast, in these proceedings, dishonesty is but one of the factors (although, of course, an important one) to be taken into account, the investigation being into the wider question of the fitness of the respondent to be involved in the management of a company, and his culpability in respect of the matters of which complaint is made.

(3)     The district judge, who was limited by section 168E(3)(b) of the Ordinance to passing a maximum sentence of 10 years’ disqualification, imposed a sentence of 7 years’ disqualification.  Given the seriousness of Mr Chan’s conduct, such a period of disqualification, which would be appropriate for a case of serious unfitness falling short of the top bracket, is clearly insufficient to reflect the degree of Mr Chan’s unfitness to act as a director of a company.

21.  I have also considered whether or not Mr Chan’s age and state of health should be taken into account as potential mitigating factors.  He is now aged about 67 years, and is not, it seems, in the best of health.  In my view, these factors will rarely be appropriate factors to take into account.  There is no upper age limit for persons to serve as directors of companies, and given the extent of Mr Chan’s dereliction of duty noted above, it seems to me that it would be wrong to reduce the period of disqualification simply because of his age or state of health.  One of the main purposes of the making of a disqualification order is to protect the public.  Another important purpose is to provide a deterrent to other directors who may be minded to disregard their obligations or to act otherwise improperly.  Neither of these purposes would appear to be served by imposing a shorter period of disqualification that the circumstances of the case merit on a director who is aged or in poor health.  That is particularly so where, as here, Mr Chan has shown little if any remorse for his conduct, and has conspicuously failed to demonstrate or even suggest that he has seen the error of his ways.

22.  Finally, it has been suggested in a number of authorities that delay in the bringing of proceedings, where this is not due to the fault of the respondent, may justify a reduction in the period of disqualification to be imposed, especially where the respondent has for practical purposes been unable to act as a director pending the resolution of the disqualification proceedings.  In this case, it has now been over 8 years since the companies went into liquidation.  However, it seems to me that it would not be appropriate to make any reduction to the period of disqualification to be served by Mr Chan because the delay cannot, I think, fairly be laid at the door of the Official Receiver or the court system.  The delay in bringing the proceedings in the first place was, it would seem, largely caused by the fact that it was necessary for extensive investigations to be carried out in order to ascertain, as far as possible, the reasons for the companies’ failure.  The incomplete and inaccurate state of the companies’ accounting records, for which Mr Chan must bear a substantial degree of responsibility, was no doubt a major factor in causing the investigation to take the time that it did.  Moreover, Mr Chan’s own lack of cooperation with the liquidators, to the extent of resisting the making of an order for his examination under section 221 of the Ordinance up to the level of the Court of Appeal, is a further factor leading to the delay that is, in my view, attributable to Mr Chan.  After these proceedings were commenced, it was Mr Chan who sought an adjournment of them pending his trial in the criminal proceedings.  In the circumstances, I do not think that any reduction of the period of disqualification is called for.

23.  As I have indicated, the appropriate period of disqualification that should be ordered against Mr Chan is slightly under 15 years, the maximum permissible.  In my view, a period of disqualification of 14 years 9 months would be appropriate.  However, it seems to me that it is relevant to take account of the fact that Mr Chan has been the subject of a disqualification order since 26 January 2006, as the disqualification order made by the judge in the criminal proceedings would appear to have taken effect on the date of the order (rule 10 of the Companies (Disqualification of Directors) Proceedings Rules, which provides that a disqualification order shall take effect on the 21^st day after the day on which it is made, would not appear to apply to a disqualification order made under section 168E, as a result of the combined effect of Rule 2 and section 168P(1) of the Ordinance).  Given that this order will take effect from the 21^st day after it is made, which will be 26 December 2006, I think it appropriate to reduce the period of disqualification which I would otherwise have imposed by 11 months, to take account of the fact that Mr Chan will by that date already have been disqualified for that period, as this would, in my view, accord with the spirit of section 168D(3) of the Ordinance, which provides that where a disqualification order is made against a person already subject to such an order, the periods of such orders shall run concurrently.

24.  Thus, for the reasons I have given, I shall make an order disqualifying Mr Chan from acting as a director of any company for a period of 13 years and 10 months from the date on which this order takes effect.

25.  So far as the costs of these proceedings are concerned, as the Official Receiver has been successful in obtaining the disqualification order sought, I shall make an order nisi that Mr Chan is to pay the Official Receiver his costs of these proceedings, such costs to be taxed on the party and party basis if not agreed.