RE CHAO SZE BANG FRANK

HCB 549/2000

IN THE HIGH COURT OF THE

HONG KONG SPECIAL ADMINISTRATIVE REGION

COURT OF FIRST INSTANCE

BANKRUPCTY PROCEEDINGS NO. 549 OF 2000

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R E A S O N S F O R D E C I S I O N

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1. I have before me an application taken out by the Bank of China (Hong Kong) Limited on 15 April 2002 for an order under section 42 of the Bankruptcy Ordinance, Cap. 6 that notwithstanding the presentation of the petition filed by Bright Islands Corporation ("Bright Islands") on 22 February 2000, the partial payment in the sum of HK$3 million made by the debtor, Chao Sze Bang Frank, to the applicant on 6 February 2001 shall not be void in the event of a bankruptcy order being made on the petition. The application is opposed by the Official Receiver. Bright Islands was served with the summons but chose not to attend and has written to the court through its solicitors that it has no submission to make as to the merits of the application.

2. The background matters giving rise to this application may be set out as follows.

3. On 19 January 2000, Bright Islands served a statutory demand on the debtor for US$6,305,772.88, based on a guarantee executed by the debtor. On 22 February 2000, Bright Islands presented a petition for bankruptcy against the debtor based on the judgment debt ("the 1st Petition").

4. On 5 July 2000, the debtor issued a summons to strike out the 1st Petition for abuse of process. An order was made that the 1st Petition be struck out on 3 October 2000. Bright Islands lodged an appeal to the Court of Appeal against the order of striking out on 18 October 2000.

5. On 16 August 2000, the Kwangtung Provincial Bank (which has become the Bank of China (Hong Kong) Limited after the merger of banks, the applicant herein) served a statutory demand on the debtor on the basis of a default judgment obtained on 1 December 1999. The demand was for US$3,747,227.70 and HK$69,080.00.

6. In response to the applicant's statutory demand, the debtor's solicitors wrote to the applicant's solicitors on 28 August 2000 to explore the possibility of a settlement with the applicant. It was stated in that letter that in the event that the applicant should petition for bankruptcy, the applicant would no doubt be aware that the chance of the applicant recovering the judgment debt or even a part of it would be slim. Hence, it would be much more in the interests of the applicant and the debtor to work out an amicable settlement.

7. Correspondence was exchanged between the applicant's solicitors and the debtor's solicitors from September 2000 to January 2001 on a repayment proposal acceptable to both. Initially, the debtor's solicitors had asked for payment of only half of the judgment debt plus interest in full and final settlement of the judgment sum and that he should have time to pay by instalments. The debtor's solicitors repeatedly emphasized that that was what the debtor would be financially capable of paying on a realistic basis and that in the event that the debtor was made bankrupt, it would be very likely that the applicant would not receive much in the bankruptcy, if anything at all. The applicant's solicitors rejected this proposal and insisted on payment in full of the judgment debt, failing which a petition for bankruptcy would be presented without further notice. Eventually, an agreement was reached on 19 January 2001 when the applicant's solicitors accepted the repayment proposal of the debtor's solicitors to pay the judgment debt of over HK$29 million by instalments as follows: HK$5 million on 23 January 2001, 5 instalments of HK$500,000.00 each on various dates between 28 February 2001 and 30 June 2001, and the balance of the judgment debt on 31 July 2001.

8. Pursuant to the above agreement, on 2 February 2001, HK$2 million was paid to the applicant by a cheque issued by the debtor's brother, Chao Sze Kwong George. On 6 February 2001, HK$3 million was paid to the applicant by a cheque issued by the debtor and this is the disposition that the applicant seeks to validate in its summons.

9. On 17 February 2001, the debtor passed away. A limited grant of letters of administration was obtained by the debtor's son for the purpose of representing the debtor in the appeal brought by Bright Islands.

10. Other than HK$5 million, the applicant did not receive any payment from the debtor or the debtor's estate in satisfaction of the judgment debt. On 18 December 2001, the applicant presented a petition for bankruptcy against the estate of the debtor for the outstanding balance of the judgment debt ("the 2nd Petition").

11. On 15 March 2002, the Court of Appeal allowed the appeal brought by Bright Islands and set aside the order striking out the 1st Petition. Thus, the 1st Petition was restored and on 22 April 2002, I made a bankruptcy order on the 1st Petition. On 24 April 2002, the applicant withdrew the 2nd Petition with the leave of the court.

12. It is common ground that the disposition would be caught by section 42 because it was made after the presentation of the 1st Petition and that it would be void unless validated by the court. What is special about this case is that the 1st Petition was ordered to be struck out on 3 October 2000 and was restored some 17 months later in March 2002. The disposition was made at the time when the 1st Petition was ordered to be struck out. At the time of the disposition, the applicant was aware of the 1st Petition and that it had been struck out pursuant to a judgment delivered on 20 September 2000. However, the applicant had no knowledge that Bright Islands had lodged an appeal against the order of striking out until about July 2001, after it had made inquires following a periodic bankruptcy search. Notwithstanding that the applicant's solicitors had often exchanged correspondence with the debtor's solicitors between September 2000 and January 2001 when the settlement agreement was reached, the applicant's solicitors had made no inquires with the debtor's solicitors if Bright Islands had lodged an appeal from the order striking out the 1st Petition.

13. I would first deal with the argument of Mr Mohan Datwani, who appeared for the applicant, that O. 59 r. 13 (1) of the Rules of the High Court should be invoked so that the disposition would not be invalidated. The argument was as follows. Section 99 (1) of Cap. 6 provides that:

"The rules and practice of the High Court for the time being for regulating the ordinary civil procedure of the court shall, so far as the same may be applicable and not inconsistent with the provisions of this Ordinance, be applied to bankruptcy proceedings......"

And O. 59 r. 13 (1) of the Rules of the High Court provides that:

"Except so far as the court below or the Court of Appeal or a single judge may otherwise direct: -......(b) no intermediate act or proceeding shall be invalidated by an appeal."

Mr Datwani submitted that as there are no specific rules under the Bankruptcy Ordinance governing section 42 applications, the rules and practice of the Rules of the High Court should apply and the disposition would qualify as an "intermediate act" as this had taken place when the appeal of Bright Islands was pending. By virtue of O. 59 r. 13 (1), the disposition should not be invalidated by the appeal.

14. I am unable to accept this submission. The rules and practice of the High Court for regulating civil procedure would only be applied "so far as the same may be applicable and not inconsistent with the provisions of [Cap. 6]", as provided in section 99 (1). As the substantive provision is made in section 42 that any disposition of property made by a person adjudged bankrupt in the period to which that section applies is void unless validated, and the period referred to is wide enough to cover the period in which an appeal is pending, there is no room for applying O. 59 r. 13 (1) (b), which is inconsistent with the substantive provision in section 42.

15. Next, I turn to examine the applicant's argument based on section 42 (4) (a) of Cap. 6 which provides as follows:

"This section does not give a remedy against any person -

(a) in respect of any property or payment which he received before the commencement of the bankruptcy in good faith, for value and without notice that the petition had been presented;......"

16. Mr Datwani submitted that even though the applicant was initially aware of the 1st Petition, the applicant learned subsequently that the 1st Petition was struck out and had no knowledge that a Notice of Appeal had been lodged against the striking out. It was submitted that the lack of notice of the Notice of Appeal should be equated with the lack of notice of the petition in section 42 (4) (a) in this situation. There are no decided cases as to whether such an equation should be made in a situation where a petition has been struck out and later restored on appeal. Assuming and without deciding that the applicant could get over the hurdle of "without notice", the applicant would still have to establish that the transaction was made in "good faith". The burden is clearly on the applicant to make out good faith on its part at the time that the disposition was made.

17. On the evidence adduced before me, I am not satisfied that the applicant has discharged that burden. The applicant has merely stated that it had no knowledge of the appeal lodged by Bright Islands until some time after July 2001. I have no explanation why the applicant's solicitors had made no inquires of the debtor's solicitors whether the order striking out the 1st Petition was the subject of an appeal, when the negotiations for settlement were conducted between them over a 5-month period. It is clear from the correspondence that the applicant knew that the debtor was unable to pay his debts from the lack of liquid resources. The applicant did not say whether it knew of the size of the claim of Bright Islands against the debtor. The mere fact that the 1st Petition was struck out does not mean that there was no debt owed to Bright Islands. This merely signified that the demand made by Bright Islands was insufficient to found a petition because the debt was in dispute or the demand was not for a liquidated sum. In my view, an inference could be drawn from the correspondence that the applicant knew, by the settlement it had reached with the debtor, that the applicant would have taken a substantial portion if not the entirety of the debtor's assets in payment of the debt owed to the applicant, and the applicant must have known that this would leave the debtor with little or no assets to pay his other creditors. In the circumstances, I am unable to find that the applicant has discharged the burden of proving that it took the disposition in good faith.

18. Lastly, I turn to the matters governing the exercise of the court's discretion in making a validation order. It was argued for the applicant that in giving time to the debtor to pay the debt to the applicant by instalments, this must have been in the interest of all his unsecured creditors as the alternative would be to bankrupt the debtor. I am unable to see the matter in that light. The debtor's assets were clearly insufficient to pay all his creditors. The disposition made to the applicant out of the debtor's assets meant that the debtor's assets had been depleted to the extent of HK$3 million. The other unsecured creditors had been made worse off by the disposition. Further, the disposition was not made in full and final settlement of the debt due to the applicant. If that had been the case, it might be argued that the other unsecured creditors would benefit from the settlement because the total indebtedness and the number of unsecured creditors would be reduced. There is no good reason in this case why pari passu distribution should not apply to the general body of unsecured creditors.

19. Mr Datwani referred me to the dicta of Buckley LJ in Re Gray's Inn Construction Co. Ltd [1980] 1 All ER 814 wherein it is stated as follows:

"Since the policy of the law is to procure so far as practicable rateable payments of the unsecured creditors' claims, it is, in my opinion, clear that the court should not validate any transaction or series of transactions which might result in one or more pre-liquidation creditors being paid in full at the expense of other creditors, who will only receive a dividend, in the absence of special circumstances making such a course desirable in the interests of the unsecured creditors as a body." (emphasis supplied)

20. It was submitted that there are special circumstances here by virtue of the pending appeal which was not known to the applicant when the disposition was made. I do not agree with this. I do not find special circumstances "making such a course [i.e. that the unsecured creditors are not paid pari pasu] desirable in the interests of the unsecured creditors as a body." There is a rebuttable presumption that the disposition is inimical to the interests of the general body of creditors and the burden is on the applicant to rebut that presumption (Re Aw Sian Sally [1999] 2 HKC 270.) I am not persuaded that the applicant has discharged that burden to establish to the satisfaction of the court that the interest of the general body of unsecured creditors had not been prejudiced.

21. For the above reasons, I decline to make an order validating the disposition and the applicant's summons is dismissed. I order the applicant to pay the Official Receiver HK$3 million within 14 days hereof. I was told by the Official Receiver that interest would not be sought on this sum. As for costs, I have made an order that the applicant is to pay the Official Receiver's costs of this application on a gross sum basis at HK$16,000.00, to be paid within 14 days hereof.