CHINA METAL RECYCLING (HOLDINGS) LTD (IN LIQUIDATION) v. DELOITTE TOUCHE TOHMATSU (A FIRM)

HCA 1517/2016

[2024] HKCFI 877

IN THE HIGH COURT OF THE

HONG KONG SPECIAL ADMINISTRATIVE REGION

COURT OF FIRST INSTANCE

ACTION NO 1517 OF 2016

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D E C I S I O N

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A.  INTRODUCTION

1.  There are before me two summonses taken out by the Defendant:

1.1  a summons dated 31^st March 2023 seeking the issuance of a letter of request (“the Letter of Request”) to the proper judicial authority of the People’s Republic of China for the provision of various audit working papers and other related documents in the form of documents and electronic data kept in mainland China (“the Mainland Documents”) by Deloitte Touche Tohmatsu Certified Public Accountants LLP (“Deloitte China”), pursuant to the Arrangement on Mutual Taking of Evidence in Civil and Commercial Matters between the Courts of the Mainland and Hong Kong (“the Arrangement”) and the Court’s inherent jurisdiction (“the Summons”);

1.2  a summons dated 27^th December 2023 seeking leave to file and serve further affirmation evidence in support of the Summons (“the Evidence Summons”).

2.  At the case management conference on 13^th November 2023, I directed that the Summons was to be determined on the papers.

3.  By letters dated 9^th November 2022, 14^th June 2023 and 24^th November 2023, the Plaintiff confirmed that it takes a neutral stance on the Summons. It did not file any submissions in response to the Defendant’s submissions.

4.  The Plaintiff did not oppose the application to file further evidence, and I make an order in terms of the Evidence Summons.

B.  THE BACKGROUND

5.  The following is taken largely from the Defendant’s skeleton submissions.

B1.  The parties’ pleaded cases

6.  The Plaintiff was a Cayman Islands company listed on the Hong Kong Stock Exchange. Mr Chun Chi Wai (“Mr Chun”) at all material times was its CEO and the chairman of its board of directors (“the Board”).

7.  The Plaintiff’s pleaded claim against the Defendant is as follows.

7.1  The Defendant was engaged to carry audits of the Plaintiff and a group of associated companies (“the Audit Engagements”) for the years ending 31^st December 2009, 2010 and 2011 (“the Relevant Years”), and owed duties to the Plaintiff to carry out the Audit Engagements with reasonable care, skill and diligence and, if necessary, to report to the Plaintiff’s management any irregularities.

7.2  Mr Chun perpetrated a fraud through a series of repetitive fictitious transactions with purported suppliers and customers related to or controlled by Mr Chun in order to manipulate the group’s profits. The transactions involved false documents and round robin fund flows (“the Fraud”).

7.3  The Plaintiff’s financial statements for the Relevant Years therefore did not give a true and fair view of the Plaintiff’s financial position, and the Defendant failed to warn the Plaintiff’s management of the Fraud.

7.4  As a result of the Defendant’s breach of duties in relation to the Audit Engagements, the Plaintiff suffered losses comprising (i) funds allegedly misappropriated in June and July 2013 in the sum of around HK$1,960,887,984; and (ii) dividends declared by the Plaintiff in respect of the Relevant Years in the sum of around HK$673,474,000.

8.  The Defendant’s pleaded case is as follows.

8.1  The Fraud as alleged is not admitted.

8.2  The Defendant’s duties towards the Plaintiff were set out in the engagement letters. In particular, as an auditor, it was only required to obtain reasonable, but not absolute, assurance as to whether the Plaintiff’s financial statements taken as a whole were free from material misstatement, and was not required to conduct forensic investigations or be an expert in the authentication of documents.

8.3  The Defendant did not breach any of its duties. It conducted the audits with due care, skill and professional skepticism, and had warned the Plaintiff of its internal control deficiencies; alternatively, none of the matters that came to its attention warranted communication to the Plaintiff.

8.4  The alleged Fraud was sophisticated and no reasonable auditor would have detected it.

8.5  In any event, the effective cause of the alleged loss was the perpetration of the alleged Fraud and concealment by Mr Chun and the Board, which should be attributed to the Plaintiff.

8.6  As to the alleged misappropriations in June and July 2013, in January 2013, the Defendant had drawn to the Plaintiff’s attention a whistle-blower report about the alleged Fraud and required the Board to investigate such matters. As to the dividends, there were sufficient distributable reserves to declare the dividends irrespective of the alleged Fraud.

8.7  The Plaintiff’s claim is time-barred pursuant to a three-year contractual limitation period agreed in the Audit Engagements.

8.8  In any event, the Defendant relies on the Plaintiff’s failure to mitigate and counterclaims the Plaintiff for misrepresentations made by the Plaintiff’s management and contributory negligence.

B2.  The Mainland Documents

9.  According to the Defendant, the Mainland Documents which are the subject of the Summons are in the possession of Deloitte China. Deloitte China is an accounting firm established in accordance with the laws of the PRC. The Defendant and Deloitte China are both member firms of Deloitte Touche Tohmatsu Ltd, but they are legally separate and independent entities. Deloitte China provided audit services to the Plaintiff and its subsidiaries. In particular, its audit field work was conducted in mainland China, and the Mainland Documents were generated and kept at Deloitte China’s offices.

10.  The Mainland Documents comprise the following categories of documents:

10.1  audit working papers of the audits of financial statements in the Relevant Years, stored and maintained digitally or in the document archiving system of Deloitte China in mainland China;

10.2  email correspondence relevant to the audits in the Relevant Years generated or preserved in mainland China;

10.3  hardcopy documents generated or preserved in mainland China during the audits in the Relevant Years; and

10.4  other documents relevant to the audits in the Relevant Years generated or preserved in mainland China, including sales contracts, bank statements, audit and bank inquiry letters, receipts, meeting notes and memoranda.

11.  The Defendant has obtained an expert opinion from Professor Han Liu, an Associate Professor of Law at Tsinghua University, explaining that the Mainland Documents, comprising audit working papers and audit-related documents, constitute audit archives in mainland China and must be preserved and kept in mainland China in compliance with the rules and regulations of the PRC. They are prohibited from being transmitted outside mainland China without approval from the relevant authorities.

12.  It should be noted that the Defendant seeks to obtain these documents for the purpose of complying with its own obligations of disclosure in the present proceedings.

C.  RELEVANT LEGAL PRINCIPLES

13.  The court has an inherent jurisdiction to issue a letter of request to another court for assistance in obtaining evidence; whether to do so involves an exercise of discretion: Panayiotou and others v Sony Music Entertainment (UK) Ltd [1994] Ch 142 at 146H to 150J (Nicholls VC); Kwan Chui Kwok Ying v Tao Wai Chun, unreported, CACV 194/2002, 13^th December 2002, at [19] to [22] (Woo JA).

14.  Whilst the factors relevant to whether to issue a letter of request for the examination of a witness would not entirely overlap with the factors relevant to whether to issue a letter of request for the production of documentary evidence, I accept the Defendant’s submissions that guidance may be derived from authorities relating to the former.

15.  I accept the Defendant’s submissions that the following factors are relevant in the exercise of discretion in the present case:

15.1  whether there is reason to suppose that the mainland court would be receptive to the request: cf. Panayiotou at 150F; Kwan Chui Kwok Ying at [22]; Bold Shine Investment Ltd v Zheng Deli [2023] 2 HKC 417 at [15], [24] to [25], [30] to [31] (Chow JA). It is not necessary that there be complete certainty as to what will happen in the mainland court: cf. Delco Participation v HWH [2021] HKCFI 249 at [58] (Coleman J). Allied to this is the consideration of whether the request would be an exercise in futility: cf. Huang Yu Hui v Zheng Shizhi [2022] 1 HKC 274 at [13] (Au-Yeung J);

15.2  whether it is necessary and in the interests of justice to obtain the documents. This includes a consideration of whether the evidence is relevant and material. Cf. Huang Yu Hui at [11]; Delco Participation at [25] to [26] (Coleman J). It seems to me that the admissibility of the documents should also be considered under this heading: cf. Panayiotou at 153H;

15.3  whether reasonable attempts have been made to obtain the evidence in other ways: cf. Huang Yu Hui at [11];

15.4  whether the application is made bona fide and with such promptness as not to cause unreasonable delay: cf. Huang Yu Hui at [11].

16.  It seems to me that it is also necessary to consider:

16.1  whether the documents sought are sufficiently precisely identified (rather than being a general request for discovery). See Panayiotou at 151C to 153F;

16.2  whether the documents exist and are likely to be in the possession of the person from whom production is sought: cf. Panayiotou at 153H to 154A.

17.  In the present case, if a letter of request is to be issued, the relevant procedure will be governed by the Arrangement, which came into force on 1 March 2017. For present purposes, the following articles[1] are relevant:

Article 1: This Arrangement is applicable to the mutual taking of evidence in civil and commercial matters between the People’s Courts of the Mainland and the Courts of the HKSAR.

Article 2: The parties must make requests for the taking of evidence through their respective designated liaison authorities, of which the Higher People’s Courts are designated as the liaison authorities of the Mainland, whilst the Administration Wing of the Chief Secretary for Administration’s Office of the HKSAR Government is designated as the liaison authority of the HKSAR …

Article 3: …In the event that the requested party considers that the material as contained in a request does not comply with the relevant legal provisions of its jurisdiction, and affects its completion of the requested matter, it shall promptly inform the requesting party and ask amendment of the request or for supplementary material. The requesting party should, at the request of the requested party, make amendment, provide supplementary material or re-issue a request.

If the requested party considers that the requested matter does not fall within the scope of assistance as provided in the Arrangement, it may return the letter of request and specify the reason(s) therefor.

Article 4: The letter of request and the relevant material attached should be in the Chinese language. In case the document is not in the Chinese language, a Chinese translation of it should be provided.

Article 6: …The scope of assistance that may be requested by a court of the HKSAR in seeking the taking of evidence by the People’s Courts of the Mainland under the Arrangement includes:

(1) …

(2) provision of documentary evidence, real evidence, audio-visual information and electronic data;

…

Article 8: The letter of request or the relevant material attached shall specify:

(1) the name of the court issuing the letter of request and the name of the court conducting hearing of the case relating to the letter of request;

(2) the names or titles and addresses of the parties or witnesses in connection with the requested matter, and all other information that will facilitate the making of contact with and the identification of them;

(3) the particulars of the requested assistance, including but not limited to, the basic circumstances of the case…; the specific document or article to be obtained…; the reasons for the taking of the evidence; where necessary, a statement of the importance of the evidence to the action…;

(5) the contact person of the requesting party and his contact information;

(6) all other information which will assist in the execution of the requested matter.”

D.  APPLICATION OF PRINCIPLES IN THE PRESENT CASE

D1.  Whether there is reason to suppose that the mainland court would be receptive to the request

18.  The Defendant’s draft Letter of Request appears to fall within the scope of the Arrangement.

18.1  It is a request for evidence in a civil and commercial matter (cf. article 1).

18.2  The evidence sought consists of documentary evidence and electronic data (cf. article 6).

19.  The draft Letter of Request satisfies the formal requirements under the Arrangement.

19.1  Professor Liu has opined that as the Mainland Documents are primarily located in Shanghai, and in the possession of Deloitte China which is registered in Shanghai, the Shanghai Higher People’s Court is most likely to be the competent authority in the matter. The draft Letter of Request accordingly names the Shanghai Higher People’s Court as the liaison authority in the mainland. The Letter of Request is proposed to be issued via the Administration Wing of the Chief Secretary for Administration’s office. (Cf. article 2.)

19.2  The draft Letter of Request and attached list of documents have been translated into simplified Chinese (cf. article 4).

19.3  The draft Letter of Request specifies the matters required under article 8.

20.  I note that although Deloitte China is not a party to the action, Professor Liu has opined that the Shanghai Higher People’s Court would nevertheless likely accede to the request.

21.  Furthermore, the Defendant says that it was informed by the relevant regulators in mainland China that matters arising from civil proceedings in Hong Kong should be dealt with under the Arrangement.

22.  As pointed out by the Defendant, Article 3 provides a mechanism for the amendment, supplementation or re-issue of a request in the event that the mainland court considers that this is necessary. This should facilitate the reception of the request by the mainland court.

D2.  Whether the documents have been sufficiently precisely identified

23.  The documents have been identified with sufficient particularity in the present case, being a necessary requirement under article 8 of the Arrangement.

D3.  Whether the documents exist and are likely to be in the possession of the person from whom production is sought

24.  The circumstances of the present case are that the Defendant has been able to identify the documents and to know that they are within the possession of Deloitte China.

D4.  Whether it is necessary and in the interests of justice to obtain the documents

25.  The evidence is that the Mainland Documents ought to be the subject of disclosure by the Defendants in the present proceedings, being relevant to the issues in dispute between the parties. In particular, they would be relevant to the determination of whether or not the Defendant was in breach of its duties in conducting its audits, revealing what the Defendant (through Deloitte China) knew at the material time.

26.  Furthermore, as explained by the Defendant, steps have been taken, with the assistance of mainland lawyers, to carry out a digital comparison of the documents held by Deloitte China and the documents held by the Defendant in Hong Kong (without transferring the contents of any of the mainland documents to Hong Kong) so as to minimise the number of documents sought under the Letter of Request – documents which were duplicated between the two sets were taken out from the final list of the Mainland Documents, as the Defendant could give discovery of these in Hong Kong without seeking them from Deloitte China. The resulting list is just over 4,000 documents in length (this may be compared with the discovery so far given by the Defendant in Hong Kong in these proceedings of 165,000-odd documents). Leaving aside the figures, the point is that efforts have been made to limit the documents sought to those which are truly necessary.

27.  It is not possible at this stage to say whether each of the Mainland Documents is admissible or material to the issues in the proceedings. However, this is of relatively less importance in the circumstances of the present case, which are that the documents are all admitted by the Defendant to be relevant to such issues and that the purpose of obtaining the Mainland Documents is to comply with the Defendant’s discovery obligations.

28.  In the circumstances, it is necessary and in the interests of justice for the Defendant to obtain the documents.

D5.  Whether reasonable attempts have been made to obtain the evidence in other ways

29.  According to Professor Liu’s expert opinion, the Mainland Documents cannot be transmitted outside mainland China without approval from the relevant authorities, so that Deloitte China cannot simply pass the documents to the Defendant. I need not go into the details of the rules and regulations prohibiting such transmission as they are not disputed, save for one aspect.

29.1  In Securities and Futures Commission v Ernst & Young [2015] 5 HKLRD 293, Ng J held, on the basis of the PRC legal evidence then before the court, that the Regulations on Strengthening Protection of States Secrets and Archive Management related to Listing Overseas and Issuance of Securities Overseas (CSRC Announcement [2009] No.29 (“Regulation 29”) issued by the China Securities Regulatory Commission (“CSRC”) only prohibited the transmission of audit working papers involving state secrets, state security or significant public interest (see [170] to [179]).

29.2  Subsequent to this decision, the legal position was clarified by article 12 of the Interim Provisions on Audit Services Provided by Accounting Firms for Overseas Listing of Mainland Chinese Enterprises (“the 2015 Interim Provisions”), which took effect from July 2015. Article 12 of the 2015 Interim Provisions dealt with retrieval and inspection of audit working papers by overseas judicial or regulatory authorities, but did not distinguish between audit working papers that did deal with state secrets and those that did not.

29.3  In Joint and Several Provisional Liquidators of China Medical v KPMG, unreported, HCCW 435/2012, 24^th February 2016, Harris J held that article 12 of the 2015 Interim Provisions could not be read as saying that audit working papers, in respect of which there was no reason to think that they contained state secrets, could not be taken out of the mainland.

29.4  Subsequent to this decision, there has been further clarification by the CSRC in the Provisions on Strengthening Confidentiality and Archives Administration of Overseas Securities Offering and Listing by Domestic Companies (CSRC Announcement [2023] No.44) (“Regulation 44”), which took effect from 31^st March 2023. Professor Liu explained that Article 9 of Regulation 44 clarified the meaning of article 6 of Regulation 29. Under article 9, overseas transmission of working papers produced on the mainland by securities companies and securities service providers in the process of undertaking businesses related to overseas offering and listing by domestic companies were to be retained on the mainland. Where such documents needed to be transferred or transmitted outside the mainland, the relevant approval procedures stipulated by national regulations were to be followed.

29.5  Professor Liu has therefore opined that the Mainland Documents cannot be transmitted outside mainland China.

30.  If Deloitte China were to transfer the Mainland Documents to the Defendant without prior approval, it would be subject to administrative liabilities and criminal sanctions, as explained by Professor Liu.

31.  The parties have considered other means of enabling the Defendant to produce the Mainland Documents in these proceedings.

31.1  The Plaintiff asked the Defendant whether it sought approval of the relevant authorities in mainland China for the outbound transmission of the Mainland Documents. As mentioned above, the Defendant’s evidence is that it was informed by the relevant regulators in the PRC that matters arising from civil proceedings in Hong Kong should be dealt with under the Arrangement.

31.2  The Plaintiff proposed, by reference to a previous experience in another action, that Deloitte China could make available the Mainland Documents for inspection in mainland China and upload the documents on a separate platform accessible only in mainland China. However, Professor Liu’s opinion is that the proposed arrangement would nevertheless breach PRC law. Furthermore, even if documents could in this way be identified as being relevant for use at the trial of the present proceedings, they could not be produced for such use.

32.  In the circumstances, there do not appear to be any other way for the Defendant to obtain the Mainland Documents.

D6.  Whether the application is made bona fide and with such promptness as not to cause unreasonable delay

33.  The Summons was issued on 31^st March 2023. The Defendant submitted, and I accept, that it was reasonable for the Defendant to wait until after the promulgation of Regulation 44 on 24^th February 2023 (clarifying the position under PRC law) before issuing the Summons. The Defendant has given discovery of other documents in the meantime.

D7.  Other discretionary factors

34.  It is relevant to note that the Defendant is making the application in order to meet its own discovery obligations, rather than to seek documents from an opposing party.

35.  The Plaintiff has taken a neutral stance and has not filed any evidence to contradict the Defendant’s factual or expert evidence, or submissions to contradict the Defendant’s.

36.  These factors also support the exercise of discretion in the Defendant’s favour.

D8.  Conclusion as to exercise of discretion

37.  In the circumstances, the court’s discretion should be exercised in the Defendant’s favour.

E.  DISPOSITION

38.  As indicated above, there will be an order in terms of the Evidence Summons.

39.  I further grant an order in terms of the Summons.