DE-ETCO INTERNATIONAL LTD. v. DESIRABLE ENTERPRISE CO. LTD. AND ANOTHER

IN THE COURT OF APPEAL

1992, No. 205
(Civil)

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J U D G M E N T

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Penlington, J.A.:

1. This is an appeal from an order of Godfrey J. dated the 23rd October 1992 in which he refused to sanction the terms of a proposed settlement of an action brought by the Official Liquidator against the 2nd defendant. In doing so he ordered that the costs of the hearing be paid by the Official Liquidator but did not go on to provide that such costs should come from the assets of the plaintiff company. The Official Liquidator appeals against that decision.

2. De-Etco International Limited ("DIL") was incorporated in Hong Kong in July 1986. It was a joint venture between two other companies, Desirable Enterprises Company Limited ("DEC"), and Donling Enterprises Limited ("DEL"). DEC were in the business of manufacturing electrical components and its contribution towards the venture was the provision of machinery and expertise, whereas DEL contributed capital funds. The shareholding was 65% by DEC and 35% by DEL. The paid-up capital of DIL was $1 million. The directors of DIL were Mak Ming Hung ("Mak"), his wife Yu Yuk Kum, Yik Foon ("Yik") and his wife Ngai Kwan Chow. Mak and his wife are directors of DEC and Yik and his wife are directors of DEL.

3. It was a part of the joint venture agreement that DIL would purchase a factory property known as No. 602 on the 6th Floor of Sunbeam Centre, 27 Sing Yip Street, Kowloon. This property was purchased for $1,892,400 which was financed by a mortgage loan from the Bank of East Asia. This transaction took place in October 1986 and the property was registered in the name of DEC. However, on the 2nd July 1987, DEC executed a deed of trust which recited that DEC held the property in trust for the shareholders of DIL.

4. Things did not go well with the joint venture and eventually DEC petitioned for the winding-up of DIL. That petition was initially opposed but eventually an order winding up DIL was made with the consent of all shareholders. The grounds were that DIL was insolvent and that the fundamental substratum of the company had failed. The winding-up order was dated the 30th October 1989. There was to be no committee of inspection.

5. The Official Receiver began to investigate the affairs of the company and it was discovered that the factory premises registered in the name of DEC were possibly beneficially owned by DIL. It also seemed that in addition to the mortgage loan obtained from the Bank of East Asia the factory premises had been charged by DEC to the Bank of East Asia to secure general banking facilities granted by the Bank of East Asia to DEC. In May 1990 the Official Receiver, with the sanction of the court pursuant to s. 119(1)(a) of the Companies Ordinance, brought proceedings against DEC for a declaration that the factory premises were held by DEC on trust for DIL. It also sought an account of the monies borrowed from the Bank of East Asia by DEC, using the factory premises as security.

6. Also in May 1990 the Bank of East Asia began proceedings against DEC and DIL seeking payment of the outstanding sums due from DEC and delivery of the premises by DEC to the bank. This order was eventually granted and the property was sold by the Bank of East Asia who, after deducting the amounts due by both DEC and DIL, were left with a balance of $981,283. That amount has, by agreement between the parties, been paid into court.

7. Proceedings have been issued against DEC by the Official Liquidator which have been the subject of several amendments on both sides. DEC is contesting the action and is counterclaiming for a sum in excess of $5 million. These proceedings have been the subject of an indemnity for costs entered into by DEL and Yik. There were several meetings held between the Official Liquidator and Mak and finally an offer of settlement was made by the Official Liquidator which was accepted by DEC. The terms provided that the $981,283 surplus from the sale of the factory premises should be paid to the Official Receiver. A sum of $200,000, which had been paid into court by DEC, would be released back to them and that there would be no order as to costs.

8. This settlement requires the sanction of a judge, pursuant to s. 119 of the Companies Ordinance. An application was accordingly made for such an approval by the Official Receiver. He considered that the settlement was a good one in that it would be very likely that a 100% dividend could be paid from the assets of the company. Mak and his wife have put in claims for $415,000 and $230,000 respectively being arrears of salary. The Official Receiver however considers that these claims should be resisted. If they can so be resisted there will be assets available to re-pay DEL the amount it advanced when the company was formed and two claims by Yik and his wife which have been the subject of an award from the Labour Tribunal. There would also be funds sufficient to pay the Official Receiver his costs. However the application for sanction was opposed by DEL on the basis that it did not settle claims which DEL had in respect of machinery which it said had been wrongfully re-possessed by DEC and which was the property of DIL and also for an account of what happened to the money which had been obtained from DEC from the Bank of East Asia on overdraft using the factory premises as security. There was a claim by DEL that goods produced by DIL had been sold by DEC who had retained the funds received.

9. It was clear at the hearing of the application by the Official Receiver for sanction by the court that the dispute was between the DEC camp and the DEL camp. There were at that stage no outside creditors whose interests needed to be protected.

10. Godfrey J. found that this was not a simple case in which DIL's claims against DEC and DEC's claims against DIL will all be resolved by the proposed compromise. If the claims of Mr. and Mrs. Mak were not successful there would be no-one interested in the claims brought by DEL against DIL other than DEL who were opposed to the compromise. He considered that he should not sanction the compromise in that it was unsatisfactory in that it did not deal with all the outstanding claims, and it was at least possible that it would operate to the prejudice of DEL without giving them any compensating advantage. He said:

"It must be left to the Official Receiver and the advisers of DEL to come to some other arrangements for the resolution of the real dispute, which is between DEC and DEL and with which the Official Receiver ought not as it seems to me to be concerned".

There is no appeal against that decision.

11. Godfrey J. however went on to say:

"The costs of DEL of this application are to be taxed if not agreed and paid by the Official Receiver to DEL. The Official Receiver's application was unsuccessful and was made in the face of opposition by DEL which had been funding the action the Official Receiver has sought to compromises; the costs should in these circumstances simply follow the events. Certificates for 2 counsel."

12. It was essentially the case for the Official Receiver before us that he had obtained the sanction of the company judge, Jones J., to commence the action against DEC and he had to obtain his consent before he could come to a binding agreement to any compromise. He had applied for directions and Jones J. had ordered that affidavits be filed, both by the Official Receiver and by Mak. That had been done. There was then a hearing and, having considered all the evidence, Godfrey J. was not satisfied that the compromise should be sanctioned, in the face of strong opposition from DEL. The hearing was however not adversarial in nature. So far as the Official Receiver was concerned he was simply seeking the court's approval for what he considered was a reasonable compromise. If approved it would mean that in all probability the legitimate claims of DIL's creditors would be paid in full whereas if the litigation went ahead there was no certainty of it being successful as DEC, Mak and his wife had substantial claims which might totally extinguish the assets available. The fact that a creditor took part in the hearing and vigorously opposed the proposed compromise did not turn the proceedings into an adversarial action. The position of the Official Receiver in such a situation is analogous to that of a trustee acting on behalf of those entitled to part of the assets of a company being liquidated. While the Official Receiver did not dispute that the court had a wide discretion as to costs, here the award was wrong in principle. Godfrey J. should have complied with Order 62 rule 6(2) which provides that a trustee acting as such in any proceedings shall be entitled to be paid his costs out of the trust fund unless he has acted unreasonably. There was no such finding here. In In re Silver Valley Mines [1882] 21 Ch 381 it was held that an official liquidator, who was in some sense a trustee, was as a general rule entitled to his costs out of the estate. He was however a paid agent and was bound to discharge his duties with reasonable care and skill. To that degree he was not in the same position as a gratuitous trustee who could only be deprived of his costs for misconduct. In that case the trial judge had found that the official liquidator had made "a blunder" and his conduct had been "improper and wrong". As a result of that finding he ordered him to pay the costs. Jessel M.R. held that in the light of that finding of fact the Court of Appeal should not interfere with the order of costs. However, in relation to another application made by the official liquidator for leave to appeal, he said that even though the application was refused the liquidator had done nothing wrong in making it. He considered that a rule ought not to be laid down that in general terms official liquidators must conduct litigation entirely at their own risk as to costs in the event of failure.

13. Here it is submitted that there has been no finding that the Official Receiver for the court's sanction was "improper and wrong". Godfrey J. simply said he refused to make an order and costs should follow the event. That was not correct in principle.

14. In In re John Tweddle & Co. Ltd. [1910] 2 KB 697 the Court of Appeal was concerned with an award of costs personally against an official receiver because, as a result of a report made by him, a director of a company had been required to attend to be publicly examined as to his conduct. At that hearing he was exonerated of any misconduct. Cozens-Hardy M.R. at 703 said:

"I am unable to read s. 8 (of the Companies (Winding-up) Act, 1890) and the duties which are imposed upon the official receiver thereby without being impressed with the fact that the official receiver is merely discharging a statutory duty of a judicial or semi-judicial character when carrying that section into effect".

It was held that while the director was entitled to his costs they could only be paid if funds were available in the liquidation. The official receiver was not personally liable. Here the Official Receiver contends that the same principle applies to s. 119 of the Companies Act. He was simply seeking the court's sanction pursuant to a duty imposed on him by that provision.

15. Mr. Denis Chang Q.C., for DEL, submitted that the Official Receiver had gone to the court to seek sanction of the compromise "in the teeth" of the most vigorous opposition by DEL. Correspondence between DEL's solicitors and the Official Receiver makes that quite clear. The application was totally misconceived and should never have been brought. Godfrey J., having considered all the evidence, has rightly ordered that the Official Receiver should pay the costs of the unsuccessful application and his discretion cannot be disturbed unless it can be shown that he had taken into account matters which were "wholly extraneous or irrelevant": Jones v. McKie & Anr. [1964] 1 WLR 960 per Willmer L.J. at 966. It was submitted that the Official Receiver had not adopted a neutral stand at the hearing of the summons. He referred to what was said by Mr. E.T. O'Connell, Assistant Principal Solicitor in the Official Receiver's Office, in an affidavit filed in support of the application. Mr. O'Connell said that he "strongly supported" the settlement proposed for the reasons then given. The Official Receiver both before and during the course of the hearing had taken an adversarial stance and, having failed, should pay the costs. Reliance is placed on Leon v. York-o-matic [1966] 1 WLR 1450. There Plowman J. said that the court would only intervene in respect of a liquidator's proposed actions if it were shown that he was not acting in good faith or in a way which no reasonable liquidator could do. Here Godfrey J., to whom that decision was referred, has refused the sanction and it must be assumed that he has so found. Reference was also made to In re M.C. Bacon Ltd. [1990] 3 WLR 646 where at 654 Millett J. said:

"A liquidator's right to recoup out of the assets of the company expenditure properly incurred by him, including costs of unsuccessful proceedings properly brought by him, has been recognised for over 100 years".

He refers to In re Silver Valley Mines and also to In re Wilson Lovatt & Sons Ltd. [1977] 1 All ER 274. In that case Oliver J. referred at 286 to the ordinary presumption, namely that:

"a liquidator litigating is entitled to recoup himself, unless he has been guilty of misconduct".

Strong reliance however is placed by Mr. Chang on what was also said by Millett J. in In re M.C. Bacon Ltd. at 655:

"What in that case is the test to be applied? The liquidator submits that on the authorities the test is whether the expenditure in question was properly made. If so, he claims, recoupment should be allowed virtually as a matter of course. In my judgment, that is not the test. The question falls for determination by the court pursuant to section 112(2) of the Act and the test is not whether the expenditure was properly incurred but whether it would be just to make the order. In the past there has been a natural assumption that, if the expenditure was properly incurred and there was no misconduct on the part of the liquidator, it would be just to allow him to recoup himself out of the company's assets. But the question has always previously arisen in a context where the assets in question were distributable among the persons for whose benefit the expenditure was incurred. It has never, so far as I am aware, previously arisen in circumstances like the present where the assets sought to be charged with the costs are not so distributable, and where the effect of an order would be to require a secured creditor, being a successful litigant with an order for costs against the liquidator, so far as possible to satisfy the liquidator's taxed costs as well as his own out of security, and to deprive him of his contractual right to resort to his security for payment of the difference between his own taxed costs and the costs for which he is liable to his own solicitor. It is difficult to imagine anything more unjust."

Here it is submitted that DEL, in whose favour the order was made, is a contributory and a contributing creditor interested in the estate of the company and it would be equally unjust that the order for costs in its favour should be paid from the estate of the company.

16. I am quite satisfied from the authorities that a liquidator should be entitled to be recouped for his costs from the assets of the company unless it is shown that his conduct has been improper or in a case such as this he has brought an application which was totally misconceived and doomed to failure or if it would be unjust to make such an order. I do not consider that the circumstances here, while somewhat unusual, are such as to make an order that the liquidators costs should come from the company assets "unjust" as Millett J. ruled in In re M.C. Bacon Ltd. Godfrey J. has not so found and in the absence of such a finding I consider that the order he has made is wrong in principle. Because the Official Liquidator proposed and supported, albeit strongly supported, the compromise does not mean that his application should be treated as an adversarial matter before the court. It is quite true that there was vigorous opposition to the proposal before the application was brought but equally I think, it is clear from the correspondence, that the Official Receiver simply took a different view to that of DEL. It is quite clear that there are claims by DIL against DEC in respect of the machinery, in respect of the alleged failure to account for the proceeds of sales and above all for the amount which was borrowed from the Bank of East Asia on the security of the factory premises. However, as the Official Receiver has said, these claims are by no means certain to succeed and as against them there are the very substantial claims to be brought by DEC and its directors. No doubt Godfrey J. was right in deciding that, on all the facts before him, he should not give his sanction to the compromise but that is a long way from saying that the application was so totally misconceived that it should never have been brought and that the Official Receiver should be liable for the costs incurred.

17. I would allow this appeal.

Nazareth, J.A.:

18. I agree, and, because we are allowing the appeal, would add the following.

19. From the note of the judgment appealed, it is not apparent whether the judge relied upon In re M.C. Bacon Ltd. We were told however that the same authorities as put before us were relied upon below. From the penultimate sentence of that note (i.e. "the costs should in these circumstances simply follow the events") I am inclined to think he did not, but rather that he relied upon the general principle relating to costs.

20. However that may be, it seems to me that the situation that Millett J. addressed was very different to that which confronts us here. Although not "merely discharging a statutory duty of a judicial or semi-judicial character" in the way referred to by Cozens-Hardy M.R. in In Re John Tweddle & Co. Ltd., the Official Receiver was clearly doing so to a far greater extent than some other person appointed as liquidator (see s.188 et seq of the Companies Ordinance Cap.32).

21. Furthermore DEL as a shareholder was not a secured creditor, nor was it in the position of a successful litigant. Indeed the Official Receiver was of the view its claim should be resisted.

22. I therefore am not persuaded in relation to the matters before this court, that the well established general rule that my Lord has referred to i.e. that a liquidator has a right to recoup himself out of the assets of the company, is displaced by the dictum of Millett J.

Mortimer, J.:

23. I have had the opportunity of reading both these judgments in draft. I agree with them and would also allow this appeal.

Penlington, J.A.:

24. Appeal allowed. Order amended to provide that the costs of the Official Receiver before Godfrey J. be paid from the assets of De-Etco International Limited.

25. There will be an order nisi that the Official Receiver have the costs of this appeal as against the 2nd defendant.