CHINA BAOLI TECHNOLOGIES HOLDINGS v. ORIENT EQUAL INTERNATIONAL GROUP LTD AND OTHERS

HCA 1399/2016

IN THE HIGH COURT OF THE

HONG KONG SPECIAL ADMINISTRATIVE REGION

COURT OF FIRST INSTANCE

ACTION NO 1399 OF 2016

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RULING

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1. This is my ruling.

Applications before the court

2. There are the following applications before the court:

(1)  the defendants’ application by way of letter dated 17 August 2016 (supported by Counsel’s Certificate dated the same day) to file a summons during court vacation (“Vacation Application”) for an order that Squadron be struck out and not be heard on any of the applications for want of authority (“Authority Summons”);

(2)  the Authority Summons itself;

(3)  the defendant’s summons dated 18 July 2016 for injunction against Lantau, Squadron and SVK and for disclosure in relation to 1.167 billion shares in the plaintiff (“the Defendant’s Injunction Summons”);

(4)  Squadron’s summons dated 2 June 2016 for clarification of the extent of the existing injunction (or setting aside the injunction obtained by the plaintiff as against Squadron) in respect of the part of the 1.167 billion shares affecting Squadron (“Squadron’s Clarification Summons”);

(5)  Squadron’s summons dated 4 July 2016 for further fortification of the plaintiff’s undertaking as to damages;

(6)  Lantau’s summons dated 5 July 2016 for clarification of the extent of the existing injunction (or setting aside the injunction obtained by the plaintiff as against Lantau) in respect of the part of the 1.167 billion shares affecting Lantau (“Lantau’s clarification summons”);

(7)  Squadron’s summons dated 11 August 2016 to set aside leave to serve the Third Party Notice dated 18 July 2016) out of the jurisdiction on Squadron (“Squadron’s Setting Aside Summons”); and

(8)  Lantau’s summons dated 11 August 2016 to set aside leave to serve Third Party Notice on Lantau out of the jurisdiction (“Lantau’s Setting Aside Summons”).

The background and procedural history

3. The plaintiff is a listed company in Hong Kong. The defendants are all shareholders of the plaintiff, who became shareholders by way of a placement exercise by the plaintiff.  Lantau and Squadron are companies incorporated in the BVI and Bahamas respectively.  They provided funds to the defendant in exchange for certain obligations in relation to the shares held by the defendants in the plaintiff. The question in the present action relates to those shares and what are the exact obligations of the defendants to Lantau and Squadron in relation to those shares, and whether the agreements which embody those obligations can be impeached.

4. The shares which the plaintiff placed with the defendants were subject to “lock up” undertakings, whereby the defendants were not to deal with those shares, including to sell or dispose or pledge those shares for a period of two years, save in defined, limited circumstances.

5. Shortly after the placement, the plaintiff discovered that its shares were sold on the market in volumes which alerted it to possible breach of the lock up undertakings.  Inquiries were made resulting in the discovery that the defendants had relinquished control of the shares to Lantau and Squadron.

6. The relinquishment was pursuant to a “loan” agreement.  I use the word in inverted commas because the effect of the agreements, which are not identical as between Lantau and Squadron, are the subject of dispute.  They are broadly described as loans with the shares as securities.  Another way of describing them would be as sale of shares with options to repurchase the same at the end of the term of three years.

7. The sale of the shares on the open market was clearly in breach of the lock up undertakings.

8. The defendants say that they were defrauded or misled by Lantau and Squadron through one James Wang into believing that the agreements were ordinary loan agreements and that the shares could not be sold in the market during the lock up period.  Alternatively, they were acting under a mistake which was known to Lantau and Squadron.  In the circumstances the agreements are and were capable of being impeached.

9. The plaintiff applied for an injunction over the shares which was initially granted ex parte by Ng J.  The injunction was effective to affect Lantau and Squadron, who have since been prevented from further sale of their shares.  Pursuant to the terms of the injunction, an inter partes Summons was issued returnable on 3 June 2016.

10. On 1 June 2016, Squadron made an urgent ex parte application to discharge the Injunction as against it.  This application came before P Li J, and was dismissed.

11. On the return date hearing of the plaintiff’s injunction summons, G Lam J ordered that the matter be adjourned for argument, that the plaintiff was to provide fortification of its undertaking as to damages in the sum of $7 million, varied the scope of the injunction on the application of the holder of the custodian account where certain of the shares were held and continued the injunction until trial or further order.

12. In the meantime, L Chan J had, on 27 July, made orders granting leave to the defendant to serve Third Party Notices on Lantau and Squadron respectively, out of the jurisdiction.

13. The matter first came before me on 4 August. It was adjourned to 22 August in order to allow Lantau and Squadron time to make application to set aside the order for leave to serve out of the jurisdiction, and for Lantau and Squadron to file further affirmations to deal with the defendant’s injunction application.

14. On 16 August 2016, the defendants took out an application for leave to file the Authority Summons during the court vacation.

Matter since the case was last adjourned

15. The most important development since the case was last adjourned was that the defendant, in the course of attempting to serve the Third Party Notice on Squadron, discovered that Squadron did not exist.

16. The evidence was that the defendants’ legal representatives in the Bahamas searched the Bahamian Companies Registry, and were informed that there was no company on the Registry with the name of Squadron Holdings SPV0164HK Limited, although other companies bearing similar names were in existence.

17. Inquiries were also made at the given address of Squadron, which was the same address stated in the relevant agreements, as well as the address provided by Mr Holland, managing director of Squadron and the officer who deposed to six affirmations on behalf of Squadron in the present proceedings.  The inquiry revealed that the offices of Squadron were not located at that address, and that the company which in fact occupied that address was trying to locate Squadron to pass on a letter which it had received addressed to Squadron at that location.

18. In response to the Authority Summons and the evidence in support thereof, Mr William Wong SC, on behalf of Squadron, at the hearing handed up a second affidavit of Mr Richard Healey, solicitor of Messrs Oldham, Li & Nie (Squadron’s solicitors), exhibiting copy of an affirmation of Mr Jan Borghardt, counsel and attorney‑at‑law in the Commonwealth of the Bahamas.  Mr Borghardt exhibited a certificate of incorporation of Squadron dated 17 August 2016, ie, five days before the hearing on 22 August 2016, one day after the 4^th Affirmation of Mr Li, on behalf of the defendant was affirmed and served, and also after the draft Authority Summons was dated and served.

19. Mr Borghardt also deposed to Bahamian law, specifically that pursuant to Section 70 of the International Business Companies Act 2000, a company may, within 90 days of incorporation, adopt a pre‑incorporation contract and according to Mr Borghardt, it is “as if the company were in existence on the date the contract was entered into”.[1]

20. Mr Borghardt further produced a corporate resolution ratifying all acts of Squadron nunc pro tunc (now for then — in other words, that the act should be treated to have effect from an earlier date), expressing the view that the challenge raised against Squadron regarding its validity is groundless and a technical non‑issue, that any Bahamian company can adopt a written contract entered in its name and assume all rights and liabilities under that written contract.

Status of Squadron needs to be clarified

21. Mr McCoy SC who appeared on behalf of the defendants (in lieu of Mr Joffe who appeared on the last occasion) first of all took issue with the admissibility of the evidence of Mr Borghardt, who he submitted was purporting to give evidence of foreign law as an expert, but who (a) did not acknowledge his duties under Appendix D of the Rules of the High Court, and (b) was in any event not independent as he was the agent of Squadron in the Bahamas.[2]

22. In any event the evidence of Mr Borghardt was unsatisfactory, according to Mr McCoy, to an extent being based on evidence received from Mr Sean Nottage, Director and President of Squadron.

23. Mr McCoy further submitted that the question of the existence of Squadron may or may not necessarily be cured by Section 70 of the Bahamian International Business Companies Act, and that he should be allowed to deal with this point by seeking opinion from Bahamian lawyers.  In any event, the core issue is whether the statute (or common law) allowed ratification not only of the pre‑incorporation contracts, but also ratification of all acts taken in the name of the company, specifically the taking part in legal process in Hong Kong.

24. Mr McCoy’s position was that the hearing should be adjourned, that he should be allowed to file evidence in response to the affirmation of Mr Borghardt, that he should be allowed to, in the course of the hearing of the Authority Summons, cross‑examine Mr Borghardt, Mr Holland and Mr Nottage (although he did acknowledge that he had no right to cross‑examine Mr Nottage).

25. Mr McCoy submitted that there may be a fraud or abuse of process by Squadron, given that it had not been properly explained why Squadron had been incorporated only after the point was taken by the defendant, and in the meantime, Mr Holland had gone on oath saying that it had been incorporated, and had given a false address over all six affirmations he deposed to in these proceedings.  He went as far as to say that this might be further evidence of the alleged fraud perpetrated by Lantau and Squadron on the defendants.

26. Mr Wong for Squadron relied on the evidence of Mr Borghardt and said that Squadron now exists and ratified all previous acts which were taken in its name.  This cured the defect posed by the failure to incorporate Squadron at the time of the execution of the agreements, and also during the course of its involvement in these proceedings.

27. Mr Wong submitted that Bahamian legal advice was unnecessary since the words of Section 70 of the act was plain and in similar terms to the relevant section in our Companies Ordinance.

28. Mr Wong further submitted that the stance of the defendant was purely to cause further delays to the present hearing.  In the worst case scenario, he should not be placed in a position worse than someone who had previously not been involved in the proceedings but now wishes to be heard on matters which affected it.

29. Mr Charles Sussex SC for Lantau expressed that this was a matter between defendant and Squadron, and did not affect Lantau, that whatever the outcome, his position was that the summonses involving Lantau should go ahead.

30. Mr Victor Dawes SC for the plaintiff’s did not associate himself with Mr McCoy’s submissions, but observed that unless I felt I could summarily dismiss Mr McCoy’s applications, in other words, that I was sure, at this stage, with the limited materials available that there was no merit to the defendant’s argument, the matter might need to be adjourned for argument with evidence properly before the court on the Bahamian legal position and how it affects the present proceedings.

31. Needless to say, I have carefully considered the parties’ submissions.

32. I note, as a starting point, that there has been a defect in the affirmations and Squadron’s role in the proceedings.  It is therefore incumbent on Squadron to remedy the defect and convince the court that the defect does not affect the present proceedings.

33. Whilst Mr Wong may, in the end, be proved right that the subsequent incorporation and ratification of the agreements is sufficient to cure any defect and allow the court to proceed to hear the merits of the various applications, I am not convinced that the point has been made out sufficiently in view of the paucity of evidence available, and without opportunity being given to the defendants who discovered the defects, and were only apprised shortly before the hearing of the incorporation of Squadron and ratification of the pre‑incorporation acts, to deal with these matters.

34. I recognise the defects in Mr Borghardt’s affirmation pointed out by Mr McCoy.  Whilst it is the case that the affirmation was undoubtedly prepared in a very short time, that does not absolve Squadron from providing a full explanation to the satisfaction of the court.  I find it strange that Mr Borghardt had to rely on advice from Mr Nottage, (who has not been identified to be a lawyer), to say that there was a delay of falling through the cracks of the incorporation of Squadron due to transition of rules in the Bahamas, this should have been more familiar to Mr Borghardt as a lawyer.  This may, of course, be because Mr Borghardt appears to specialise in property transactions as is apparent from his CV attached to the affirmation, and not company formation or corporate litigation, although it lists his area of practice as corporate matters.  Nonetheless, this aspect is disturbing and the explanation of transition not one that I can readily understand.  If it is said that the application was filed long ago, but the Companies Registry in the Bahamas had neglected to process the same, it would have been a simple matter to say so and to exhibit a copy of the application papers instead of mentioning a convoluted and half‑understood explanation from his own client.

35. Further, a close examination of Section 70 of the International Business Companies Act as exhibited in the affirmation of Mr Borghardt, would show that the application of that statute is limited only to providing that the company shall be bound by and entitled to the benefits of a pre‑incorporation contract as if the company had been in existence at the date of the contract, and had been a party to it (the contract).  It says nothing about any other acts of the company, especially taking part in legal proceedings in Hong Kong or otherwise.  That underlines the need for proper advice from the Bahamas.

36. No explanation is given as to how exactly Mr Holland was able to depose in his 1^st affirmation on 1 June 2016 that Squadron was a private company incorporated in the Commonwealth of the Bahamas[3], and that it was carrying on business as a private financial lender focused on securities‑based stock agreements when it was not even in existence at that time.  I am now told that Squadron is, in fact, a special purpose vehicle set up for this particular transaction.  Nor has there been any explanation forthcoming as to why a false address has been given and is still used by Mr Holland even up to the last affirmation of Mr Holland affirmed on 19 August 2016.

37. This court expects affidavits and affirmations placed before it to be truthful.  Whilst it does not require perfection, if there is some matter in the affirmations placed before the court, which is prima facie untrue, good explanation must be given.  The court cannot simply wilfully shut its eyes and ignore these defects, on the basis that they do not affect the core issue, or that dealing with them will cause delay.  It may be that there are perfectly good explanations which will explain the apparent defect in the affirmations.  However, until the issues are resolved, I am reluctant to act on these affirmations and on the arguably defective status of Squadron.

38. In the course of argument, I raised a suggestion that since Squadron now exists and on a fair reading of Section 70 of the International Business Companies Act provided by Squadron, it is capable of adopting pre‑incorporation contracts, it could simply undertake to re-file whatever summonses and affirmations that it had previously filed, and proceed to be heard on the basis of its present status, leaving whatever acts that had gone before to be dealt with as a matter of costs.  This suggestion was adopted by Mr Wong, but opposed by Mr McCoy, who took the point that the court should receive all the evidence before deciding whether or not to allow Squadron to re-file and proceed with the hearing.

39. After having given the matter further thought, I have come to the view that my suggestion is not a viable or desirable solution to the present problem.  By analogy with ex parte applications for injunction to the court which require full and frank disclosure, the court may discharge the injunction where there has been a material non‑disclosure but proceed to re‑grant the injunction in the same or similar terms.  However, before the court takes such a course, it must have received explanation for the non‑disclosure in order to properly assess whether the injunction should be re‑granted. In the present case, Mr McCoy raises the spectre of fraud in the failure of incorporation and the deficiencies in the affirmations, as a reason why the court may decline to entertain Squadron’s applications.  Whilst I consider that the likelihood of fraud in the failure of incorporation and the deficiency of affirmations would be on the low side, I cannot dismiss it out of hand.

40. I come to the conclusion reluctantly that the proceedings regarding Squadron should not be heard until the issue of its authority has been dealt with as a preliminary issue.

The position of Lantau

41. That leaves the position of Lantau.  Mr Sussex submitted that whatever deficiencies plagued Squadron in respect of its existence or the affirmations filed on its behalf, such matters did not affect Lantau and the applications which related to them should be heard immediately, and should not have to await the resolution of the preliminary issue between Squadron and the defendants.

42. Mr McCoy was of the view that applications which relate to Lantau and to Squadron should be heard together, that Squadron and Lantau were closely inter‑related, and it would not be desirable to have them heard separately.  This position was echoed by Mr Dawes who, although not insistent on having the application relating to Lantau and Squadron be heard together, pointed to the potentially undesirable results if they were heard separately and even worse if they were heard by different judges.

43. Whilst I have considerable sympathy for Mr Sussex’s client, I am of the view that it is better for the application in relation to Lantau and Squadron to be heard together.  There is a commonality of some issues, and if one judge hears the two sets of application separately, there may be grounds for saying that the tribunal has pre‑judged the second set of applications.  If different judges hear the two sets of applications separately, there would then be a potential for inconsistent finding of facts, and that, as the courts have repeatedly said, is undesirable.

44. I would therefore decline to deal separately with the summonses in relation to Lantau.

Fortification

45. Given the new issues, there will inevitably be delay, and given the parties’ representation so far, such delay is likely to be substantial.

46. Mr Wong and Mr Sussex both asked for fortification by way of payment into court to the extent of the loan outstanding.  I see no reason why this should not be granted to the extent that Lantau or Squadron have not already sold the shares transferred to them or their control.  In other words, the loan minus whatever has been realised through the sale of the shares in the market.  This fortification should be provided by the defendants.  This will afford some comfort to Lantau and Squadron for the inevitable delay caused by the fact that these applications will not be going ahead today.

47. I have, of course, in consideration of fortification, also considered the position of the defendants, but since the defendants have, at an early stage, expressed that they would be quite willing to not receive the money, and had indeed sought to prevent remittance of the money or acceptance of the money into their accounts, I consider that the order of fortification would not create great injustice for the defendants.

Orders

48. I grant leave to the defendants to file the Authority Summons during vacation time.

49. I grant leave to Squadron to file and serve the 2^nd affirmation of Mr Healey, the 6^th affirmation of Mr Holland, save that paragraphs 6 to 16 thereof should be expunged.

50. I grant leave to Squadron to file and serve evidence in opposition to the Authority Summons on or before 6 September 2016.

51. I grant leave to the defendants to file and serve evidence in reply on or before 20 September 2016.

52. Squadron do have leave to file and serve its evidence in reply on or before 4 October 2016; then the defendants do have leave to file and serve its reply on or before 18 October 2016.

53. After that, no further evidence be filed without leave of the court.

54. The Authority Summons be fixed to be heard on 10 and 11 November 2016 before me.

55. The Summonses mentioned in paragraph 2(3) – (8) above (“the Summonses”) will be heard after the issue raised by the Authority Summons has been dealt with between Squadron and the defendants.

56. I grant leave to the parties to fix a 4‑day hearing for the Summonses not earlier than 28 days from the conclusion of the Authority Summons and not in consultation with counsels’ diaries.

57. I order that the 1^st and 2^nd defendants do make payment into court in the amount of the loan advanced by Lantau less the amount through the sale of the shares in the market within 7 days after provision of sufficient evidence of the amount of proceeds it received from sale of the shares in the plaintiff it obtained from the 1^st and 2^nd defendants.

58. I order that the 3^rd defendant do make payment into court in the amount of the loan advanced by Squadron less the amount through the sale of the shares in the market within 7 days after provision of sufficient evidence of the amount of proceeds it received from sale of the shares in the plaintiff it obtained from the 1^st and 2^nd defendants.  I am satisfied for the present purposes that the Squadron has provided sufficient evidence in the 5^th and 6^th Affirmations of Mr Holland.

59. There is liberty to apply.

60. Costs be reserved.