EMPEROR UA CINEMAS LTD v. LARK CHINA CINEMA INVESTMENTS LTD

HCMP 929/2022

[2022] HKCFI 2316

IN THE HIGH COURT OF THE

HONG KONG SPECIAL ADMINISTRATIVE REGION

COURT OF FIRST INSTANCE

MISCELLANEOUS PROCEEDINGS NO 929 OF 2022

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REASONS FOR JUDGMENT

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1.  By an originating summons (“OS”)  and a summons both dated 15 July 2022 the plaintiff, Emperor UA Cinemas Limited (“P”), seeks an injunction restraining the defendant, Lark China Cinema Investments Limited (“D”), from presenting a winding-up petition against P pursuant to a statutory demand served on 30 June 2022 requiring P to pay HK$70,223,660 (“SD”).

2.  As the determination of the summons will have the effect of disposing the substantive relief sought in the OS, the parties agreed that the hearing shall be treated as the substantive hearing of the summons and the OS.  At the end of the hearing, I granted an injunction to enjoin D from presenting a winding-up petition against P in reliance on the SD and ordered D to pay the costs of and occasioned by the summons and the OS to P, to be assessed by way of gross sum assessment.  These are the reasons for my judgment.

Background

3.  By a “Joint Venture Agreement for the Ownership of Emperor UA Cinemas Limited” dated 28 January 2014 (“JVA”)  entered into between (1)  Emperor Motion Picture Enterprise Limited (“EMP”)  and D as shareholders of P, (2)  Emperor Motion Picture (Hong Kong)  Limited and UA Cinema Circuit Limited as the guarantor of EMP and D respectively, and (3)  P as the JV company, the parties agreed to establish and invest in operating company(ies)  for the purpose of operating not more than 8 cinemas under the brand name of Emperor-UA in the Mainland (“Cinema Projects”). 

4.  The JVA provides, inter alia, as follows:

(1)  P’s issued share capital is HK$10,000 and is held by EMP and D as to 70% and 30% respectively.  “Shareholders” means EMP and D or any person(s)  to whom they may properly transfer their shares pursuant to the JVA (recital (B), cl.1.01);

(2)  EMP and D participate as Shareholders in P for the purpose of establishment, operation and management of the Cinema Projects on the terms and conditions stated in the JVA (recital (C));

(3)  P shall carry on the business of holding the wholly owned subsidiary[1] (“Subsidiary”)  and holding the certificate for the purpose of the Cinema Projects.  The Subsidiary, in turn, will enter into tenancy agreements with the landlords of the existing and prospective sites of the Cinema Projects on such terms as approved by the Board (cl.2.01(a)-(b));

(4)  Clause 4 deals with finance of which clause 4.01 states as follows:

“The Shareholders shall each use reasonable endeavours to procure that the requirements of the Group[2] for financing any of the Cinema Projects are met. In the event that the financial resources of any member of the Group are at any stage insufficient to satisfy the financing requirements as determined by the Board of such member, the Shareholders will:-

(a)  first use reasonable endeavours to procure loans or borrowings or facilities from banks and other similar sources for the member(s)  of the Group on the most favourable terms reasonably obtainable as to interest, repayment and security …

(b)   subscribe for additional Shares or advance to the member(s)  of the Group on such loan terms as mutually agreed for such amounts as may be determined by the Board in the proportions of 70% by [EMP] and 30% by [D] if loans or borrowings or facilities from banks and other similar sources are insufficient for the finance required.”

(5)  The business of each member of the Group shall be managed by its Board, which shall consist of 3 directors nominated by EMP and 2 directors nominated by D.  The quorum of Board meeting of P shall be 2, which shall consist of one director nominated by each of EMP and D (cl.5.01-5.05).

(6)  The quorum of shareholders meeting shall be 2 with one representing EMP and one representing D (cl.5.07).

(7)  Clause 5.10 deals with matters requiring the approval of both Shareholders and states as follows:

“The Shareholders shall exercise all voting rights and other powers of control available to them in relation to any member of the Group to procure that the member of the Group shall not without the prior written approval of both Shareholders:-

(a)  … (l)

…

(m)   borrow any money;

…

(t)   make any capital expenditure, commitment and/or any payment in excess of HK$1,000,000;

…

(ae)   make, amend or terminate any contract, loan, guarantee or other arrangement with any Shareholder or any Affiliated Company;

…”

(8)  The Shareholders agree and acknowledge that the JVA “will be performed in a spirit of mutual cooperation, trust and confidence and that its intention is that the business, profitability and reputation of the Group shall be extended and maximised by all reasonable and proper means and each Shareholder undertakes to use all reasonable commercial efforts to promote such business in the PRC” (cl.8.02).

(9)  No transfer of shares shall be made by either Shareholder except in accordance with the provisions of cl.9 which provides, inter alia, that (a)  both the transferee and transferor shareholder shall remain liable for the performance of all of the obligations of the transferor shareholder under the JVA; and (b)  it shall be a condition precedent for the transfer of shares that the transferee executes a deed of ratification and accession under which the transferee shall agree to be bound by and shall by the JVA (cl.9.01-9.03).

(10)  The initial term of the JVA shall be 10 years from the date of the JVA (cl.10.01).

(11)  If a party determines that any other party has materially breached its obligations and such other party disputes such determination, the dispute shall be resolved with each party shall first make a good faith effort to resolve the dispute through negotiation.  If the parties fail to resolve the dispute through negotiation within 30 days following delivery of written notice of dispute, then the parties shall refer the dispute to arbitration in accordance with the UNCITRAL Rules in force and the place of arbitration shall be in Hong Kong.  The award of the arbitrator shall be final and binding on the parties (cl.18.01(a)-(b)).

5.  The capital and financing structure of the Cinema Projects is as follows:

(1)  P does not carry on any business other than holding its investment in the Subsidiary which, in turn, holds and operates the Cinema Projects in the Mainland. 

(2)  P only has nominal capital and all its funding has been provided by the Shareholders in proportion to their shareholding in P.  Between 2014 and 2018, EMP and D advanced shareholders’ loans to P in the amounts of HK$215,466,207 and HK$92,342,660 respectively.

(3)  All the capital and funding required by the Subsidiary have been provided by P in the form of capital injection and loans in that:

(a)  by December 2017, the registered (and paid up)  capital of the Subsidiary is RMB 110 million; and

(b)  by July 2017, P provided loans to the Subsidiary in the aggregate amount of RMB 110.2 million. The Subsidiary repaid RMB 34 million to P, leaving a balance of RMB 76.2 million. 

(4)  When the Subsidiary has surplus cash not required for its operation, it would repay the loans owed to P which, in turn, would apply the amount to repay the shareholders’ loans owed to EMP and D in proportion to their shareholding:

(a)  In August 2019, the Subsidiary repaid RMB 9 million to P.  In June 2020, the Subsidiary repaid RMB 25 million to P, leaving a balance of RMB 76.2 million; and

(b)  P made 3 repayments of the shareholders’ loans to EMP and D in August 2019 (HK$36.7 million), September 2019 (HK$9.8 million)  and June 2020 (HK$27.23 million). As at 30 June 2022, P still owed HK$163,855,207 to EMP, and HK$70,223,660 to D.

6.  According to the annual return filed by P on 12 April 2022, on 17 December 2021, EMP transferred its 70% shares in P to Tale Success Limited (“TSL”). 

7.  By letter dated 21 June 2022, D demanded P to repay HK$70,223,660 (“Debt”), being the entire amount of shareholders’ loan owed to D, within 7 days. 

8.  On 30 June 2022, D served the SD on P. In the SD, D described itself and EMP as “Shareholders” of P.  Reliance was placed on (1)  cl.4.01 of the JVA; (2)  the shareholders’ loans advanced to P from 2014 to 2018 and the 3 repayments made by P to the Shareholders; (3)  the reports and consolidated financial statements of P for the years ended 31 December 2020 (“2020 AFS”)  and 31 December 2021 (“2021 AFS”); and the demand letter of 21 June 2022. 

Discussion

9.  The principles are well established and have been sufficiently stated in Silver Starlight Ltd v China Citic Bank Corporation Ltd, Tianjin Branch  [2021] HKCA 1248, §14 (per Godfrey Lam JA)  in this way:

“There is no dispute between the parties on the applicable principles for the grant of an injunction to prevent the presentation of a winding-up petition. They do not align with the American Cyanmid principles governing the grant of an ordinary interlocutory injunction,[3] but are based instead on the court’s inherent jurisdiction to prevent abuse of its process: see Re Sinom (Hong Kong)  Ltd [2009] 5 HKLRD 487. A company has to show that the presentation of a winding-up petition against it would be an abuse of process, in order to obtain an injunction in advance to prevent it. Great circumspection must be exercised in respect of the grant of such injunction, for the right to petition for winding-up in appropriate circumstances is a right conferred by statute, and a would-be petitioner should not be restrained from exercising it except on clear and persuasive grounds: Sinom, §10. As Harris J observed in Hung Yip (HK)  Engineering Co Ltd v Kinli Civil Engineering Ltd [2021] 1 HKLRD 860 at §14, the ability to present a petition promptly in the case of a company believed to be insolvent is important to creditors since by virtue of section 184(2)  of the Companies (Winding Up and Miscellaneous Provisions)  Ordinance (Cap 32)  (“Ordinance”), it is relevant to the date of commencement of the liquidation …”

10.  Mr Justin Ismail, counsel for P, submits that the court should grant the injunction sought against D for the following reasons:

(1)   The shareholders’ loans owed by P to the Shareholders, including the Debt, are not repayable on demand because cl.5.10(ae)  of the JVA provides that P cannot terminate a loan without the express written approval of both Shareholders.  D cannot circumvent cl.5.10(ae)  by procuring the unilateral termination of the shareholders’ loan between P and D.  Consistent with this, shareholders’ resolutions had been passed before P repaid the shareholders’ loans to EMP and D in 2019 and 2020.  D’s assertion that the shareholders’ loans were repayable on demand is plainly wrong. 

(2)   Unless restrained, D would present a winding-up petition against P and irreparable damage would be caused to P.  The petition would set in motion a series of statutory and commercial constraints on P’s operations, and the ability to apply for a validation order would be of little comfort given that P and the Subsidiary currently operate 7 cinemas across the Mainland.  It would also bring unquantifiable damage to P’s creditworthiness and goodwill. 

(3)   D has not approached P, let alone made a good faith effort, to resolve the dispute on repayment of the Debt through negotiations, as required by cl.18.01(a)  of the JVA. 

11.  On the other hand, Mr Clifford Smith SC (leading Mr Look Chan Ho), counsel for D, opposes the application on the following grounds:

(1)  The Debt is repayable on demand and has been approved by EMP in accordance with cl.5.10(m)  of the JVA.  It is also confirmed by (a)  the letters of representation provided by P’s directors to the auditors; and (b)  the 2020 AFS and the 2021 AFS, both approved by P’s directors. 

(2)  The fact that the Debt is repayable on demand is consistent with cl.4.01 of the JVA.  The fact that the 3 repayments made by P to the Shareholders in 2019 and 2020 had been approved by shareholders’ resolutions does not assist P as those repayments were initiated by P.  It has no bearing on whether the Debt is repayable on demand.

(3)  Cl.5.10(ae)  of the JVA has no application because (a)  EMP is no longer a Shareholder of P, and TSL has not executed any deed of ratification and accession as required by cl.9.03 of the JVA. TSL cannot enforce the terms of the JVA; (b)  repayment of loans does not require the approval of both Shareholders, evidenced by the fact that when the Subsidiary (a “member of the Group”)  repaid the loans to P, no separate approval from EMP or D was needed; (c)  in seeking repayment of the Debt, D is not exercising any voting rights or other powers of control available to it qua Shareholder of P, but is exercising its contractual right as a creditor of P; and (d)  requiring P to perform its obligation to repay the Debt does not constitute amending or terminating the loan agreement. 

(4)  As a creditor of P, D should not be deprived of the statutory right to present a petition against P. It has nothing to do with the arbitration clause in the JVA. 

(5)  P is “indisputably insolvent because its liabilities hugely exceed its assets” (Re Comtowell Ltd [1998] 2 HKLRD 463, 472, per Le Pichon J; Re First Dragon Fashion (Hong Kong) Ltd [2011] HKCLC 107, §73, per To J).  As at 31 May 2022, P recorded unaudited consolidated net liabilities and net current liabilities of approximately HK$407 million and HK$290.7 million respectively.

12.  In my judgment, there are bona fide dispute as to whether D is entitled to demand P to repay the Debt without the approval of both Shareholders of P. 

13.  First, one can see from the way the capital and financing structure of P is arranged (as described in §5 above)  that it is at least arguable that it was the agreement of all Shareholders that the funding required by P and the Subsidiary would be provided by EMP and D in the form of shareholders’ loans and that such loans would be repaid out of the surplus cash of the Subsidiary.  There is no suggestion that the Subsidiary has surplus cash to repay the loans owed to P.  Nor is there any suggestion that P has any other source of fund to repay any of the shareholders’ loans owed to EMP or D.

14.  Second, the suggestion that D is entitled to demand immediate repayment of the Debt is on its face inconsistent with the following terms of the JVA:

(1)  Clause 4.01 provides that the Shareholders shall use reasonable endeavours to procure that the financing requirement of the Group is met in proportion to their shareholding.  By requiring P to repay the Debt, D is in effect forcing the Subsidiary to repay the loans to P so as to put P in fund to repay the Debt to D.  This is also inconsistent with the Shareholders’ obligation to meet the financing requirement of the Group in proportion to their shareholding in P.

(2)  Clause 8.02 requires the Shareholders to perform the JVA “in a spirit of mutual cooperation, trust and confidence” and to extend and maximise the business, profitability and reputation of the Group “by all reasonable and proper means”.  As there is no suggestion that the Subsidiary has the necessary cash to repay the loans, the only way for the Subsidiary to raise fund would be to sell its assets, which is not conducive to extending and maximising the business, profitability and reputation of the Group. 

15.  Third, it seems to me that the contention that D is entitled to seek repayment of the Debt without the approval of both Shareholders is inconsistent with:

(1)   Clause 5.10(m), (t)  and (ae)  of the JVA, which provide that any member of the Group shall not without the prior written approval of both Shareholders borrow any money, make any payment in excess of HK$1 million or terminate any contract or loan.  It is irrelevant that EMP is no longer a shareholder of P.  As a party to the JVA, P is entitled to enforce the terms of the JVA in its own right; and

(2)   the conduct of the Shareholders in (a)  considering the cash position of the Subsidiary, the cash flow projection and funding requirements of P and the Subsidiary before approving P to repay the shareholders’ loans in the specified amounts; and (b)  approving the directors of P to take action to repay shareholders’ loans to the shareholders.   

16.  There is no evidence to suggest that D’s demand for payment of the Debt has ever been considered or approved by the Shareholders, it is at least arguable that the SD was made by D in breach of the JVA, which P is entitled to hold it against D. 

17.  The dispute between P and D as to whether D was entitled to demand repayment of the Debt is one which should be resolved through the contractually agreed mechanism stipulated in cl.18.01 of the JVA.  There is no reason why D should be allowed to circumvent cl.18.01 by serving the SD and presenting a petition against P on the basis that it fails to comply with the SD, thereby forcing P to litigate the dispute in court, still less through the summary process of winding up proceedings.

18.  Having reached the above conclusion, it is not necessary to deal with the 3 other arguments advanced by Mr Smith.  Nevertheless, in case D wants to appeal against the order made by this court, I will briefly explain why I do not consider those arguments to have any merit. 

19.  First, the statutory right to present a petition does not avail D.  This is because the right to present a winding up petition is only available to a creditor who can enforce a claim against P by an action in debt and the claim has to be liquidated (Butterworths Company Law (Winding Up and Miscellaneous Provisions)  Handbook, 5^th e.d, §179.05).  For the reasons stated in §§13 - 16 above, I do not consider that D is entitled to demand repayment of the Debt.   

20.  Second, the transfer of the shares from EMP to TSL is irrelevant given that:

(1)  P is a party to the JVA and is entitled to enforce the terms of the JVA in its own right;

(2)  If, as D asserts, TSL has not executed any deed of ratification and accession, the transfer of the shares from EMP to TSL would be treated as not having been effected, and EMP remains a Shareholder of P.  

21.  Third, the argument that P is insolvent is wholly without merit:

(1)  It is well established where, as here, an alleged debt is disputed by the company in good faith on substantial grounds, the petitioner cannot claim to be a creditor and has no locus standi to present a petition and the petition will be dismissed or struck out with costs (Boyle & Marshall, Practice and Procedure of the Companies Court, 1997, §9.177). 

(2)  Where there is a substantial dispute on the petitioner’s locus to present a petition, the court need not and should not embark on an examination of the company’s financial position.  To do so would mean that any officious person could present a baseless petition and yet put a company to the expense and anxiety of proving its solvency before the court (Re Hyundai Engineering & Construction Co Ltd [2002] 2 HKLRD 354, §§28-29, per Kwan J (as she then was)).

(3)  In considering the solvency of P, the court looks at the financial position of P rather than that of the Group.  The 2020 AFS, the 2021 AFS and the unaudited consolidated management accounts relied on by D are all consolidated group accounts which incorporated the financial statements of P and the Subsidiary.  The net current liabilities and deficiencies shown in the consolidated accounts represent the financial position of the Group, and cannot be taken as the financial position of P. 

(4)  At the hearing, Mr Smith contends that D is at least a contingent or prospective creditor of P and, as such, must be entitled to present a petition against P.  As I said at the hearing, the contention is irrelevant as the injunction sought by P does not have the effect of enjoining D to present a petition qua contingent or prospective creditor, assuming D is such creditor (which has not been established).

22.  In my view, it is an abuse of process for D to serve the SD and threaten to present a winding up petition against P in circumstances where it knew that (1)  the financing of the Group and repayment of loans owed by the Subsidiary and P are governed by the terms of the JVA; (2)  the Shareholders have all along acted on the basis that shareholders’ loans could only be repaid after both shareholders had considered and approved the repayments; and (3)  the dispute as to whether any party acted in breach of the JVA is one which should be determined by negotiations, followed by arbitration.