HCA 1685/2019
[2025] HKCFI 2003
IN THE HIGH COURT OF THE
HONG KONG SPECIAL ADMINISTRATIVE REGION
COURT OF FIRST INSTANCE
ACTION NO 1685 OF 2019
_____________
BETWEEN
LEUNG CHA SEE PHARMACEUTICAL LIMITED
1st Plaintiff
PROPITIOUS FAME LIMITED
2nd Plaintiff
RITZY ASPIRATION LIMITED
3rd Plaintiff
and
MAN KAM HO (文錦豪)
1st Defendant
ZHU DANYUN (朱丹雲)
2nd Defendant
BERTONE INTERNATIONAL INDUSTRIAL CO, LIMITED
3rd Defendant
M DRAGON INTERNATIONAL TRADING DEVELOPMENT LIMITED
4th Defendant
FU WAH MEDICINE COMPANY LIMITED
5th Defendant
FIVE STATES LIMITED
6th Defendant
EXCELCO SECRETARIAL AND ACCOUNTANCY SERVICE LIMITED
7th Defendant
_____________
Before:
Hon Mimmie Chan J in Court
Dates of Hearing:
17-21 June 2024, 24-28 June 2024, 22-23 August 2024, 18 December 2024
Date of Judgment:
16 May 2025
________________
J U D G M E N T
________________
Introduction
1. The present action is brought by Leung Cha See Pharmaceutical Limited as the 1st Plaintiff (“LCS ”), Propitious Fame Limited as the 2nd Plaintiff (“Propitious ”), and Ritzy Aspiration Limited as the 3rd Plaintiff (“Ritzy ”) (Propitious and Ritzy together, “the Investors ”, and collectively with LCS, “the Plaintiffs” ), against:
(1) Man Kam Ho, the 1st Defendant (“Man ”) and Zhu Danyun, the 2nd Defendant (“Zhu ”), for breach of contract and/or fiduciary duties;
(2) Bertone International Industrial Co Limited (“the 3rd Defendant ”), M Dragon International Trading Development Limited (“the 4th Defendant ”), Fu Wah Medicine Company Limited (“the 5th Defendant ”), and Five States Limited (“the 6th Defendant ”), for accessory liability in respect of the alleged breach of fiduciary duties by Man and Zhu; and
(3) Excelco Secretarial and Accountancy Service Limited (“the 7th Defendant ”) for breach of duties owed in tort.
2. On 22 December 2020, the Plaintiffs obtained a final judgment against the 3rd and 6th Defendants, as no notice of intention to defend had been filed by those Defendants. The default judgment was entered in the following terms:
(1) judgment against the 3rd Defendant for payment to LCS of the sum of HK$7,796,542, together with interest;
(2) judgment against the 6th Defendant for payment to LCS of the sum of HK$5,199,000, together with interest; and
(3) judgment against the 3rd and 6th Defendants, for payment to the Plaintiffs of fixed costs in the sum of HK$11,545.
3. The present trial is accordingly confined to the Plaintiffs’ claims against the remaining Defendants, namely Man, Zhu, the 4th Defendant, the 5th Defendant and the 7th Defendant.
Parties
4. LCS is a limited liability company incorporated in Hong Kong on 7 February 2014. According to the Plaintiffs’ own description, it carries on business at all material times as a trader of health products and proprietary Chinese medicine. Prior to 11 April 2018, Zhu was its sole director and shareholder. Since 11 April 2018, and pursuant to the Agreement (defined below) Propitious has held 70% of the shares in LCS (ie 7,000 shares), with Zhu retaining a 30% shareholding (ie 3,000 shares).
5. 保齡寶生物股份有限公司 (“BLB ”) is a company incorporated in the Mainland. It is listed on the Shenzhen Stock Exchange and is engaged in the manufacturing of health products. Deng Shufen (“Deng ”) is its Chairman and General Manager.
6. BLB International Company Limited (“BLB International ”) is a Hong Kong-incorporated subsidiary of BLB, engaged in the trading of health products.
7. BLB International owns two wholly owned subsidiaries:
(1) Propitious, being a company incorporated in the British Virgin Islands; and
(2) Ritzy, also a company incorporated in the British Virgin Islands.
8. BLB (Hong Kong) Health Goods Company Limited (“BLB HK ”) is a limited liability company incorporated in Hong Kong on 16 March 2018 pursuant to the BLB HK Agreement (as defined below). Since its incorporation, its shareholders have comprised Ritzy (70%), Zhu (15%), and Man (15%). According to the Plaintiffs, BLB HK has at all material times engaged in the development, sale, and trading of chocolate, sweets, and health products. BLB, together with its direct and indirect subsidiaries, including BLB International, Propitious, Ritzy, has been referred to by the Plaintiffs collectively as the “BLB Group ”.
9. Man was at all material times the General Manager of LCS until his resignation, which took effect on 1 September 2018 (according to Man) and, on the Plaintiffs’ version of events, in December 2018. He is also a shareholder and director of BLB HK.
10. Zhu was at all material times a director and registered shareholder of both LCS and BLB HK.
11. The 3rd and 4th Defendants are both companies incorporated in Hong Kong, which were, at material times, purported suppliers to LCS.
12. The 5th and 6th Defendants are both companies incorporated in Hong Kong, which were, at material times, purported customers of LCS.
13. The 7th Defendant is a company incorporated in Hong Kong which, at all material times and up to about April 2018, served as LCS’s accountant to prepare the 2018 Audited Report. The 7th Defendant also acted as the company secretary of LCS up to 23 July 2019, when it was replaced by The Law Shop Limited.
Background
14. In mid-2017, Zhu caused LCS to enter into an agreement for purchasing a property at Unit C, 17/F Houston Industrial Building (“the Zhu Property ”) for HK$3,707,100. The purchase was completed on 8 September 2017, and a mortgage was registered against the property on 14 November 2017 in favour of Bank of China (“BOC ”).
15. Around September 2017, Zhu and Man were introduced to BLB International’s sales manager through a middleman, Cheung Lock Ning Lily (“Cheung ”), and subsequently to Deng, the Chairman and General Manager of BLB. From around November 2017, negotiations were underway for a potential joint venture to sell and market the products of the BLB Group.
16. During negotiations, Zhu and Man represented that they had long-standing experience in the trading of health products. Deng alleged that Man and Zhu represented to her that they controlled and operated the LCS, which could be used to market and distribute the BLB Group’s products. Notwithstanding that Zhu was the sole registered director and shareholder of LCS, Deng claims that it was further represented to her that Man was LCS’s ultimate owner. These allegations are denied by both Man and Zhu.
BLB HK Agreement
17. On 1 March 2018, Ritzy, Man and Zhu signed a written agreement (“the BLB HK Agreement ”) to incorporate a Hong Kong limited liability company in BLB HK as their joint venture company.
18. The BLB HK Agreement contained, inter alia , the following clauses:
(1) Clause 2.1 (original in Chinese): 該公司將在香港經營，主要包括快銷品、巧克力、糖、Just like sugar (水)、藥品食品以及保健產品的開發、銷售，及進出口業務，當中涉及上下游的所有產業，包括但不限於：連鎖店、原材料供應、貨物運輸等等，積極開拓香港、澳門及海外市場，為客戶提供優質的保健產品，從而令甲、乙、丙三方均獲得滿意的經濟效益。
Clause 2.1 (English Translation):
The Company (BLB HK) shall operate in Hong Kong, primarily engaging in the development, sale, and import/export of fast-moving consumer goods, chocolates, sweets, ‘Just like sugar’ (water), pharmaceutical and health products. This includes, but is not limited to, the establishment of retail chains, supply of raw materials, and logistics and transportation services. The parties shall proactively develop markets in Hong Kong, Macau, and overseas, in order to provide customers with high-quality health products, thereby generating satisfactory economic benefits for Parties A, B, and C (Ritzy, Man and Zhu).
(2) Clause 2.5 (original in Chinese): 甲、乙、丙三方一致同意由乙方文錦豪先生擔任公司總經理。
Clause 2.5 (English Translation): The Parties A, B, and C (Ritzy, Man and Zhu) unanimously agree that Mr Man Kam Ho of Party B shall serve as the General Manager of the Company.
(3) Clause 2.9 (original in Chinese): 文錦豪先生以及乙方未經甲方同意不得直接或間接擔任其他公司職務，特別是不允許開設和參與與保齡寶(香港)健康產品有限公司同類行業公司的經營活動。如發現，乙方朱丹雲及文錦豪先生須向甲方分別支付港幣 5,000,000 賠償金。
Clause 2.9 (English Translation): Mr Man Kam Ho and Party B (Man) shall not, without the prior consent of Party A (Ritzy), directly or indirectly assume any position in any other company, in particular, shall not establish or participate in any business activities of companies engaging in the same industry as BLB (Hong Kong) Health Goods Company Limited. In the event of any breach, Zhu Danyun and Man Kam Ho of Party B shall each pay Party A (Ritzy) compensation of HK$5,000,000.
(4) Clause 2.10 (original in Chinese): 上述間接擔任意思為：委託或指使他人代替本人參與與甲方不相關的公司的工作，致使競爭及損害甲方的利益。
Clause 2.10 (English Translation): The term “indirectly assume” shall mean authorising or instructing another person to act on one’s behalf in participating in work for a company unrelated to Party A (Ritzy), thereby creating competition and causing harm to the interests of Party A (Ritzy).
19. On 16 March 2018, BLB HK was incorporated in Hong Kong pursuant to the BLB HK Agreement, with shareholdings of 70% (Ritzy), 15% (Man), and 15% (Zhu). Initially, Deng, Yang Xue (“Yang ”), and Man were appointed directors, but on the same day, Deng and Man resigned and were replaced by Xiao Huaxiao ("Xiao ") and Zhu.
The Agreement
20. On 4 April 2018, a written agreement was executed among Propitious, Zhu, and LCS (“the Agreement ”). The Agreement contains the following terms (which are more relevant):
(1) Clause 2.1 (original in Chinese): 甲乙雙方協商一致同意，甲方以增資擴股形式進入梁濟時公司，占公司股份70%，梁濟時公司原有股東乙方以原有公司業績審計後按PE值占合作後梁濟時公司股份30%。
Clause 2.1 (English Translation): Party A (Propitious) and Party B (Zhu) agree that Party A (Propitious) would participate in LCS by way of capital increase and equity expansion, thereby holding 70% of the company’s shares. The original shareholder, Party B (Zhu), would hold 30% of the shares in LCS, based on the audited performance of the original company and a PE based valuation.
(2) Clause 2.2 (original in Chinese): 乙方向甲方提交的2017年3月至2018年2月的審計報告，淨利潤為港幣1,108,258.91元，(見附件五)，乙方承諾真實無誤。(見附件六，乙方承諾函)
Clause 2.2 (English Translation): Party B (Zhu) submitted to Party A (Propitious) the audited report for the period from March 2017 to February 2018, which reported a net profit of HK$1,108,258.91 (see Annex 5). Party B (Zhu) warrants the truth and accuracy of the report (see Annex 6, Party B’s Letter of Undertaking).
(3) Clause 2.3 (original in Chinese): 甲方同意乙方按上述財報7.6PE值作價進入公司，合計為港幣8,422,767.72元，占公司股權30%。
Clause 2.3 (English Translation): Party A (Propitious) agrees that Party B (Zhu) shall enter the company based on a valuation calculated at 7.6 PE ratio derived from the above financial report, totaling HK$8,422,767.72, representing 30% of the company’s shareholding.
(4) Clause 2.4 (original in Chinese): 甲方對應乙方上述作價，以現金港幣19,653,124.68元出資進入梁濟時公司，占公司股權70%。該筆款項在甲乙雙方合約簽署完畢、梁濟時公司營業執照、股權登記完畢後，由甲方注入梁濟時公司銀行戶口。
Clause 2.4 (English Translation): Party A (Propitious) shall, corresponding to the valuation provided by Party B (Zhu) as mentioned above, contribute HK$19,653,124.68 in cash into LCS, representing 70% of the company’s equity. This amount shall be injected into the company’s bank account by Party A (Propitious) upon the execution of the contract by both parties and the completion of the company’s business licence and equity registration procedures.
(5) Clause 2.5 (original in Chinese): 該交易完成後，甲方持有該公司7,000股普通股股份，占已發行股份總數70%；乙方持有該公司3,000股普通股股份，占已發行股份總數30%。股本合計港幣28,075,892.40元，每股面值港幣2,807.60元。
Clause 2.5 (English Translation): Upon completion of the transaction, Party A (Propitious) shall hold 7,000 ordinary shares in the company, representing 70% of the issued shares, and Party B (Zhu) shall hold 3,000 ordinary shares, representing 30% of the issued shares. The total share capital shall be HK$28,075,892.40, with each share having a nominal value of HK$2,807.60.
(6) Clause 3.2.1 (original in Chinese): 乙方承諾，自雙方簽署本協議之日起一周內乙方向甲方提供梁濟時公司的三年營運方案計畫，並促使該計畫實現。
Clause 3.2.1 (English Translation): Party B (Zhu) undertakes to provide Party A (Propitious) with a three-year business operation plan for LCS within one week from the date of execution of this Agreement by both parties, and to facilitate the implementation of such plan.
(7) Clause 3.2.2 (original in Chinese): 原股東朱丹雲以及文錦豪團隊負責公司運營及管理，產品銷售及產品開發等。
Clause 3.2.2 (English Translation): The original shareholder, Zhu Danyun, together with Man Kam Ho’s team, shall be responsible for the operation and management of the Company, including product sales and product development.
(8) Clause 3.2.3 (original in Chinese): 甲方母公司向梁濟時公司有償借資港幣60,000,000元，加上投入公司股權的港幣約20,000,000元，合計共港幣80,000,000元，甲方在2018年內分三次注入：
注資日期及金額：
2018/03/31 – 港幣30,000,000元
2018/06/30 – 港幣30,000,000元
2018/10/31 – 港幣20,000,000元
Clause 3.2.3 (English Translation): The parent company of Party A (Propitious) shall provide a loan of HK$60,000,000 to LCS, together with a capital injection of approximately HK$20,000,000 in equity, amounting to a total of HK$80,000,000. Party A (Propitious) shall inject the funds into LCS in three instalments during 2018 as follows:
Capital Injection Date and Amount:
2018/03/31 – HK$30,000,000
2018/06/30 – HK$30,000,000
2018/10/31 – HK$20,000,000
(9) Clause 3.2.5 (original in Chinese): 乙方及文錦豪先生團隊銷售業績承諾：自合同簽訂起至2018年12月31日完成不少於港幣130,000,000元銷售額 (僅為香港及澳門市場，不包含中國內地市場)，並創收不低於港幣16,000,000元的稅後淨利潤。 (“the Sales Warranty ”);
Clause 3.2.5 (English Translation): Party B (Zhu) and Mr Man Kam Ho's team undertake that from the date of execution of this Agreement until 31 December 2018, they shall achieve a sales revenue of no less than HK$130,000,000 (limited to the Hong Kong and Macau markets, excluding Mainland China), and shall generate no less than HK$16,000,000 in net profit after tax.
(10) Clause 3.2.7 (original in Chinese): 倘乙方違反前述承諾，甲方得以書面通知乙方，而乙方在收到甲方通知後1個月之期限內提供令甲方滿意的改善方案，屆期未能完成者，甲方有權終止本協議。
Clause 3.2.7 (English Translation): If Party B (Zhu) breaches the aforementioned undertakings, Party A (Propitious) may notify Party B in writing. Should Party B fail to provide a satisfactory remedial plan to Party A within one month upon receiving such notice, or fail to implement the plan within the stipulated time, Party A shall be entitled to terminate this Agreement.
(11) Clause 3.3.2 (original in Chinese): 除本協議另有規定或預期外，該公司的業務應由董事會管理，而股東應對該公司行使其權利，以確保：
(a) 該公司根據本協定的條款正確及有效地經營和處理其業務和事務；及
(b) 業務的經營遵守董事會不時擬訂的政策。
Clause 3.3.2 (English Translation): Unless otherwise provided or contemplated in this Agreement, the business of the Company shall be managed by its board of directors, and the shareholders shall exercise their rights in relation to the Company so as to ensure that:
(a) the Company operates and manages its business and affairs properly and effectively in accordance with the terms of this Agreement; and
(b) the business operations are conducted in compliance with the policies adopted from time to time by the board of directors.
(12) Clause 3.6.1 (original in Chinese): 乙方應為梁濟時公司委派總經理及管理層人員，以確定及建議該公司產品的生產和銷售，報經董事會同意後實施。梁濟時公司董事會應儘快審批乙方委派的總經理的意見和方案並作確認。
Clause 3.6.1 (English Translation): Party B (Zhu) shall appoint the General Manager and management personnel of LCS to formulate and recommend the Company’s production and sales plans for its products, which shall be implemented upon the approval of the board of directors. The board of directors of LCS shall, as soon as practicable, review and confirm the opinions and proposals of the General Manager appointed by Party B (Zhu).
(13) Clause 3.6.2 (original in Chinese): 甲乙雙方一致同意推舉乙方文錦豪先生作為梁濟時公司的總經理。
Clause 3.6.2 (English Translation): Party A (Propitious) and Party B (Zhu) unanimously agree to nominate Mr Man Kam Ho, of Party B (Zhu), as the General Manager of LCS.
(14) Clause 3.6.3 (original in Chinese): 文錦豪先生以及乙方未經甲方同意不得直接或間接擔任其他公司職務，特別是不允許開設和參與與梁濟時公司同類行業公司的經營活動。如發現，乙方朱丹雲及文錦豪先生須向甲方分別支付港幣5,000,000賠償金。(“the Non-compete Warranty ”)
Clause 3.6.3 (English Translation): Mr Man Kam Ho and Party B (Zhu) shall not, without the consent of Party A (Propitious), directly or indirectly assume any position in other companies, in particular, they are prohibited from establishing or participating in the operations of companies engaged in a business similar to that of LCS. If discovered, Party B (Zhu) and Mr Man Kam Ho shall each pay HK$5,000,000 in compensation to Party A (Propitious).
(15) Clause 3.6.5 sets out the duties of the General Manager in LCS.
(16) Clause 3.7.3 (original in Chinese): 乙方在甲方加入梁濟時公司之前所擁有的有形資產歸乙方所有(見附件八，有形資產清單)。
Clause 3.7.3 (English Translation): The tangible assets owned by Party B (Zhu) prior to the entry of Party A (Propitious) into LCS shall remain the property of Party B (Zhu) (see Annex 8, Tangible Assets List).
(17) Clause 3.8.1 (original in Chinese): 梁濟時公司於該交易完成前所產生的一切債權糾紛及債務，責任由乙方承擔。
Clause 3.8.1 (English Translation): All liabilities and debts of LCS arising prior to the completion of the transaction shall be the sole responsibility of Party B (Zhu).
(18) Clause 4.3 (original in Chinese): 如因乙方原因矛盾不可調和，甲方有權要求解除本協定，並按照期初投入收回投資款。
Clause 4.3 (English Translation): If due to reasons attributable to Party B (Zhu), the conflict becomes irreconcilable, Party A (Propitious) shall have the right to terminate this Agreement and recover the investment funds based on the initial contribution.
21. By a declaration dated 1 April 2018 (attached as Annex 9 of the Agreement (“Declaration ”)), Zhu, as shareholder and director of LCS, confirmed that as of 31 March 2018, LCS was indebted in the following sums, which were to be borne solely by the original LCS and not by LCS following the capital injection by Propitious :
(1) small and medium-sized enterprises loans in the outstanding sum of HK$1,325,951.55;
(2) outstanding loans to be repaid in instalments in the sum of HK$1,411,051.50;
(3) HK$63,820 owed to 日曆金融(香港)有限公司 in respect of a vehicle (car plate number UL6038);
(collectively, “the Debts ”)
Post-Agreement Performance
22. Pursuant to the Agreement:
(1) On or around 4 April 2018, Zhu, Yang and Xiao were appointed directors of LCS; and
(2) In around April 2018, Man was appointed General Manager of LCS;
23. On 4 April 2018, Yang and Xiao were also appointed as directors of Propitious.
24. On 11 April 2018, Zhu transferred 7,000 shares in LCS to Propitious, so that Propitious became the 70% registered shareholder of LCS and Zhu became 30% registered shareholder (ie 3000 shares) of LCS.
25. Propitious procured the transfer of a total sum of HK$19,653,124.68 as share capital injection into LCS, by first depositing the funds into LCS’s account maintained with Chong Hing Bank (“CHB Account ”), which were then transferred to LCS’s account with Bank of China (Hong Kong) (Account No. 012-355-0-009262-4) (“BOC Account ”) on the following dates:-
(1) HK$5,000,000 on 20 April 2018;
(2) HK$5,000,000 on 25 April 2018;
(3) HK$9,653,124.68 on 24 May 2018.
26. Zhu remained the sole authorised signatory of LCS’s:
(1) CHB Account until in or around July 2018, when Yang was added as an authorised signatory;
(2) BOC Account until in or around October 2018, when Yang and Xiao were also added as authorised signatories.
The Alleged Fictitious Transactions
27. Between April 2018 and July 2018:
(1) LCS purchased a list of pharmaceutical products from the 3rd Defendant with a total value of HK$7,796,542 , the majority of which had purportedly been sold to the 5th Defendant with the value of the purchase orders amounting to HK$7,901,302.4 (as per Schedule 1 to the Re-amended Statement of Claim (“ SOC ”)).
(2) LCS purchased a list of pharmaceutical products with a total value of HK$5,199,000 from the 4th Defendant, most of which had been purportedly sold to the 6th Defendant, with the value of the purchase orders amounting to HK$7,519,000 (as per Schedule 2 to the SOC).
(3) The Plaintiffs allege that no record showed that LCS had received any of the products purportedly purchased from the 3rd Defendant and the 4th Defendant, but LCS had settled the price in respect of the purchases. The Plaintiffs further allege that none of the HK$7,901,302 and HK$7,519,000 owed by the 5th Defendant and the 6th Defendant had been settled. According to the Plaintiffs, the transactions of sale and purchase were designed to dissipate Propitious’ capital contribution and loan proceeds to purported suppliers of LCS in which Man and Zhu have an interest (“the Fictitious Transactions ”).
28. On their part, Man and Zhu allege that all the products were ordered from the 3rd Defendant and the 4th Defendant. However, LCS was unable to deliver all the products to the 5th and 6th Defendants due to the BLB Group’s failure to provide further funding for LCS’s business, leaving LCS without resources to produce and package the goods.
Man’s resignation and employees’ departure
29. By a letter dated 27 July 2018, Man tendered his resignation as General Manager of LCS, specifying 1 September 2018 as the effective date of termination. The reasons cited included Propitious’ failure to fulfil its capital injection requirement under the Agreement, resulting in the inability to implement the agreed sales plan and the breakdown of mutual trust. By a further letter dated 30 August 2018, LCS acknowledged receipt of the resignation and confirmed its acceptance with effect from 1 September 2018. LCS thereafter ceased payment of Man’s salary from that date.
30. In contrast, the Plaintiffs allege that, on 28 August 2018, Man unilaterally and without the consent of LCS refused to report to work and perform his duties as General Manager of LCS. On the Plaintiffs’ case, Man unilaterally resigned from his position of General Manager of LCS in December 2018.
31. By letter dated 24 December 2018, the Bank of Communications Trustee Limited notified LCS that it had failed to make the mandatory MPF contributions for a period of three months.
32. On 9 January 2019, six LCS employees lodged a complaint to the Labour Department against LCS for failure to pay salary. In or around January 2019, all of LCS’ employees had left the company except Zhu.
The pleaded claims
33. At the outset, it is necessary to emphasize, once again, the fundamental role of the pleadings in an action. As the courts have repeatedly sought to remind parties, it is the pleadings which define the issues in the trial, dictate the course of proceedings both before and at trial, and confine the issues to be determined by the Court at trial. The pleaded issues define the scope of the evidence, and not the other way around, and it will not be acceptable for unpleaded issues to be raised out of the evidence which is to be, or has been, adduced.
34. In Kwok Chin Wing v 21 Holdings Ltd (2013) 16 HKCFAR 663 (at paras 21-27), the Court of Final Appeal highlighted the importance and purpose of pleadings, referring first to the oft-cited passage of the judgment of the Court of Appeal in Wing Hang Bank Ltd v Crystal Jet International Ltd [2005] 2 HKLRD 795:
“In a trial, particularly where evidence is given by witnesses, it becomes extremely important that each side knows exactly what are the live issues. Where issues are sought to be introduced that have not been adequately or properly pleaded, amendments must be sought unless the consent of the other party or parties has been obtained. It will simply not do for unpleaded issues to be ‘slipped in’ when evidence is being given in the hope that the other side is not sufficiently alert to object.”
The Chief Justice then continued to observe:
“… One does not sift through the evidence adduced in the trial in the hope that something was said that can conceivably found a cause of action. Issues , I would reiterate, must be properly pleaded unless for some reason the pleadings have assumed a less significant role in the proceedings. …
The purpose of pleadings, in clearly and unambiguously setting out the true extent and nature of a dispute not just for the benefit of the parties but also for the Court in managing and trying cases, remains important under our system of civil justice.” (emphases added)
35. In the SOC filed in this action, despite having set out a long narrative of the relevant agreements, the terms and contractual duties alleged to have been assumed by the parties thereunder, the parties’ conduct after the agreements, and the alleged wrongful acts, the actual claims of breach and misconduct as pleaded against Man and Zhu are:
(1) breach of fiduciary duties (paragraph 48 of the SOC);
(2) failure to act with skill, care and effort (paragraph 49 of the SOC);
(3) misappropriation (as against Zhu only, paragraphs 51-52 of the SOC); and
(4) breach of contract (paragraphs 64 to 71 of SOC): specifically Zhu’s failure to make contribution of HK$8,422,767.72, Zhu’s failure to repay the Debts of LCS which she had allegedly warranted to repay under the Agreement, and breach by Zhu and Man of warranties with regard to sales and profits and against competition, under clauses 3.2.5 and 3.6.3 of the Agreement.
36. As pointed out by the Court on day one of the trial, there is no pleaded claim that Man had failed to provide the 3-year business plan (“Business Plan ”) referred to at paragraph 19.1 of the SOC, which simply recited the terms of the Agreement. Accordingly, there is no room or cause for Counsel for the Plaintiffs to repeatedly refer, even in Closing, to Man’s alleged breach and failure to submit the Business Plan, when the SOC has never been amended. All the terms of a contract may have been set out in a pleading, but that alone does not mean that it is open to a party at or after trial to pick and choose which term it is alleged to have been breached, and to rely on the consequences of such breach. The voluminous documents produced at trial can be relied upon only for the purposes of the pleaded claims, of which the Defendants have notice.
37. It must also be highlighted at this stage that the SOC pleads a detailed case of allegedly fictitious transactions having been made by Man and/or Zhu, of false or bogus purchases of goods from the 3rd Defendant and 4th Defendant, and bogus sales of goods by LCS to the 5th and 6th Defendants; of dissipation of LCS’ funds by virtue of these fictitious transactions; and misappropriation of LCS’ funds by Zhu and/or Man; all as evidence of the alleged breach by Zhu and Man of the fiduciary and contractual duties which they, on the pleadings, owe to LCS. It is on the basis and in the premise of these claims of fictitious transactions (constituting fraud) and breach of fiduciary duties that the Plaintiffs seek and claim from Zhu and Man damages (paragraph 53 of the SOC) and account of profits (paragraph 54 of the SOC). Although there is a general prayer for relief, in paragraph 1.3 of the prayer, for “all necessary accounts and inquiries” against the Defendants, this must be on the basis of the pleaded claims made in the SOC.
38. The Plaintiffs’ specific pleading in this case can and should therefore be distinguished from the more simple case, where a claimant seeks from a defendant said to be a fiduciary, such as a director of a company, an order to give accounts of payments received, or in relation to matters and assets entrusted to the fiduciary. Such a claim is made against the defendant purely because the defendant is a fiduciary and accordingly under a duty to give accounts, irrespective of whether there is breach of fiduciary duties, or misconduct, or breach of trust or contract. It will be a straightforward claim pleaded on the basis that the defendant is a director or beneficiary, with the duty to account, that the plaintiff had asked for an account, but the defendant had failed to comply, and the relief is for such an account to be ordered as against the defendant. Such a claim for accounts, which is a cause of action in itself, is not dependent on any claim of misconduct or other wrongdoing, and it is not necessary for a claim of misconduct to be made. It is often asserted by a company, or a liquidator of a company, against the directors of the company, or by a beneficiary of a trust against the trustee, for an explanation of the accounts, records or assets of the company/trust entrusted to the directors/trustee or other fiduciary, and the making of such a claim frequently occurs in a case where the claimant may not have any information at all in relation to the affairs or assets entrusted to the fiduciary, such as a claim by a client against the manager of funds entrusted to the manager for investment. It is not necessary for such a claim for account to be accompanied by a 24-page pleading of alleged wrongdoing, as is found in the present case.
Burden of proof
39. The above emphasis is made in the context of the submissions made by Counsel for the Plaintiffs, that Zhu and Man bear the burden in this case to prove and establish that the transactions complained of by the Plaintiffs were genuine, and that the funds of LCS had not been misappropriated or dissipated, because the claims made by the Plaintiffs are for accounts to be given by Zhu as a director and Man as the General Manager and alleged fiduciary. This is a submission which I cannot accept in this case.
40. The Plaintiffs’ claim made in these proceedings is that goods of a value of HK$7,796,542 were purported to have been purchased with LCS’ funds from the 3rd Defendant, and then purportedly sold to the 5th Defendant for HK$7,901,302.40, and that goods of a value of HK$5,199,000 were purported to have been purchased from the 4th Defendant, and then purportedly sold to the 6th Defendant for HK$7,519,000. The transactions were said to be fictitious, and constituted dissipation and misappropriation by Zhu and Man of LCS’ funds, because there were no records of the products ever having been delivered to LCS by the suppliers (the 3rd and 4th Defendants), and there was no payment received from the alleged customers to which the goods were allegedly sold, ie the 5th and 6th Defendants which were claimed to be connected with Zhu and Man.
41. Counsel for Zhu and Man highlighted the fact that the claims made by the Plaintiffs in this case are that there were deliberate acts of dishonesty and fraudulent conduct on the part of Zhu and Man, which constitute a crime in that they had engaged in a fraudulent scheme to deceive LCS by the use of forged invoices and documents for the disputed sales and purchases. As expected, it was submitted by Counsel that allegations of fraud must be pleaded distinctly with utmost particularity, so that the defendants know precisely the case they have to meet (citing Aktieselskabet Dansk Skibsfinansiering v Wheelock Marden & Co Ltd [1994] 2 HKC 264, and Deak Perera Far East Ltd v Deak & ors [1995] 2 HKC 28). Proof of dishonesty requires cogent and compelling evidence. Reference was made to the observation made by Lord Millett in Three Rivers DC v Bank of England (No 3) [2003] 2 AC 1 (at para 186), that dishonesty is usually a matter of the court’s inference drawn from primary facts, such that a defendant accused of dishonesty or fraud should be given knowledge not only of the fact that he is alleged to have acted dishonestly, but also of the primary facts which are sought to be relied upon at trial to justify the inference of dishonesty and fraud.
42. This turns back to the function and importance of pleadings in the action. If the pleaded case in the SOC was simply one of the Plaintiffs’ claim for an account to be made by each of Zhu and Man in their role as the director and general manager and alleged fiduciaries of the Plaintiffs, without more, then the evidence, discovery and trial would have been prepared on that straightforward basis and within such confined and limited scope. The issues would simply be: were they the director and general manager respectively of LCS? Did they owe the alleged fiduciary duties to the Plaintiffs? Are the Plaintiffs entitled to the accounts they seek?
43. Instead, and because the SOC is pleaded as an action based on misconduct, misappropriation, bogus transactions, dishonesty amounting to fraud, and breach of fiduciary and contractual duties, the focus of the evidence, of discovery and of the entire trial, was on whether there were the alleged fictitious transactions, concealment, misappropriation, and breach of contractual warranties and fiduciary duties. This necessitated a trial of 12 days, with 7 witnesses called on factual evidence, before closing submissions were made for another day. Obviously, this would not
44. There is no dispute that a director of a company is under fiduciary duties, as directors of companies are treated as trustees of the assets of the company in their hands or under their control, and that the primary obligation of the trustee is to account for his stewardship of the property of the company. The Court of Appeal so held in Liu Hsiao Cheng v Wong Shu Wai [2018] 1 HKLRD 1087. In the case of Jeremy Michael Ranson v Customer Systems PLC [2012] EWCA Civ 841, useful observations were made by Lewison LJ:
“20. It is , at the outset, necessary to distinguish between directors of a company and employees of a company. Since a company is an artificial person it must have human agents through which it exercises its powers. … Although company directors are not strictly speaking trustees, they are in a closely analogous position because of the fiduciary duties which they owe to the company: Bairstow v Queens Moat Houses plc [2001] 2 BCLC 531, 548. In particular they are treated as trustees as respects the assets of the company which come into their hands or under their control: In re Lands Allotment Co [1894] 1 Ch 616, 631; Re Duckwari plc [1999] Ch 253, 262. It is, therefore, a person’s position as a director (which he will have voluntarily assumed) and the powers over the company’s property which that entails that give rise to fiduciary duties….
21. The appointment of a person as a company director does not make that person an employee of the company. A director is the holder of an office. Nor does appointment as a company director of itself bring into existence any contract between the director and the company. Many directors will have contracts of service running in parallel with their status as officers of the company. But they are distinct legal relationships.
22. Whereas a company directory will stand in a fiduciary relationship to the company, an employee will not, merely by reason of his role as an employee, assume fiduciary obligations to his employer.
23. In addition as Lord Browne-Wilkinson pointed out in Henderson v Merrett Syndicates Ltd [1995] 2 AC 145, 206:
“The phrase “fiduciary duties” is a dangerous one, giving rise to a mistaken assumption that all fiduciaries owe the same duties in all circumstances. That is not the case.”
24. Since fiduciary obligations are not “one size fits all” it is, in my judgment, dangerous to reason by analogy from cases about company directors to cases about employees. The former cases (obviously enough) proceed on the basis that the director, while in office, owes a wide-ranging and single minded duty of loyalty to the company. In the case of a company director there is no question but that the director owes fiduciary duties to the company. The cases explore the extent to which, consistently with those duties, a director may prepare for business life after the end of his directorship. But in the case of an employee there is an anterior question: does the employee owe fiduciary (as opposed to contractual) duties at all?”
(Emphases added)
45. Relying simply on the fact that Zhu in this case is a director of LCS, which fact is not disputed by Zhu, Counsel for the Plaintiffs proceeded to contend that once this directorship/trust relationship is established, LCS as the beneficiary is entitled to an account from Zhu as of right, and that irrespective of the proof of any wrongdoing, Zhu and Man (who is claimed by the Plaintiffs to be either a shadow director or in the position of a person owing fiduciary duties) have the burden to explain the transactions in order to show that they were genuine and not fictitious as claimed by the Plaintiffs, and that the funds involved were not unauthorized dissipation or misappropriation of LCS’ funds. Reliance was placed essentially on the judgments in Libertarian Investments Ltd v Hall (2013) 16 HKCFAR 681 and Trinity Concept Limited (in liquidation) v Wong Kung Sang [2022] 1 HKLRD 1388, [2022] HKCFI 547 . Whilst the legal principles set out in these cases cannot be disputed, in my judgment, they cannot be applied to this case for the purpose of shifting the burden of proof on the Defendants.
46. In Libertarian , Lord Millett NPJ explained that once a trust relationship is established, the beneficiary is entitled to an account as of right, and this was cited in the judgment in Trinity Concept . The observation of Lord Millett, at paragraph 167 of his judgment, is as follows:
“It is often said that the primary remedy for breach of trust or fiduciary duty is an order for an account, but this is an abbreviated and potentially misleading statement of the true position. In the first place an account is not a remedy for wrong. Trustees and most fiduciaries are accounting parties, and their beneficiaries or principals do not have to prove that there has been a breach of trust or fiduciary duty in order to obtain an order for account. Once the trust or fiduciary relationship is established or conceded the beneficiary or principal is entitled to an account as of right. Although like all equitable remedies an order for an account is discretionary, in making the order the court is not granting a remedy for wrong but enforcing performance of an obligation.”
47. In Trinity Concept , Deputy High Court Judge Winnie Tsui (as she then was) pointed out:
“72. It must be emphasised that the beneficiary’s right to an account is an entitlement. The right arises immediately out of the trustee’s receipt of the property. He does not have to prove that there has been a breach of trust in order to obtain an order for account. But like other equitable relief, such an order is discretionary: Libertarian at [167]; Snell’s Equity at para. 20-015.
73. In Attorney General v Cocke , Harman J explained, at 420G-421A:
The basis of the duty to account is the fiduciary relationship. It is important to notice that the court, in a case where there is no allegation of any impropriety but merely an allegation of a relationship of a fiduciary and an object of the fiduciary duty, will frequently make a common form order for an account (unless indeed it be oppressive or for some other good reason the court in its discretion thinks it wrong to make an order) but will not make any order in respect of the costs of that application, reserving those costs until the account has been taken. That is because the duty to account arises, but if the accounting party is innocent and produces a true and good account, it would be quite wrong that the cost of carrying out that duty should be thrown upon the innocent accounting party. (underline added)
74. As a matter of proper analysis, therefore, when granting an order for account, the court is not granting a remedy for wrong but enforcing performance of an obligation: Libertarian at [167].”
48. As can be seen from paragraphs 87 to 93 of the judgment of Ribeiro PJ in Libertarian , observations on onus of proof were made in the context of the causal connection between the breach of duty and the loss resulting from the breach. At paragraph 89 of his judgment, Ribeiro PJ pointed out that where the breach in question consists of a wilful failure by the fiduciary to carry out his fiduciary duty, his omission causing loss to the trust estate, he is liable to account on a willful default basis. His Lordship proceeded to explain how the loss is assessed, and at paragraph 93, it was pointed out that “where the plaintiff provides evidence of loss flowing from the relevant breach of duty, the onus lies on the defaulting fiduciary to disprove the apparent causal connection between the breach of duty and the loss (of particular aspects of the loss) apparently flowing therefrom”.
49. It is also pertinent to note that on the facts of Trinity Concept , the defendants were the sole directors of the plaintiff company when the suspicious transactions took place, and the plaintiff had paid out sums of money with no supporting documents, which payments (according to the learned judge) arguably called for an explanation. The learned judge took the view that as a matter of law, the defendants owed the plaintiff a duty to account for the suspicious transactions, and that it was entitled to an account as of right. It was pointed out in the judgment that the plaintiff in the case, acting through the liquidators, did not have any further information about the transactions, and was not in a position to tell whether the sums were properly paid out, or to even specify any breach of trust on the part of the defendants. It can be seen from paragraph 176 of the judgment that the plaintiff in the case did not plead any specific breach of trust.
50. Leaving aside the fact that the judgment in Trinity Concept was made in a striking out application, and that the decision was that there was an arguable case giving rise to a duty to account, I do not accept that Trinity Concept can be taken as authority for Counsel’s submission that in a case where the plaintiff makes an allegation of fraud, breach of trust and breach of specified fiduciary duties, the plaintiff does not bear the burden of proof of these claims, and that it is for the defendant to disprove these claims such that on the facts of this case, Zhu and Man have the onus to show that there was in fact no fraud, no fictitious transaction, and hence no breach of fiduciary duties to give rise to an account.
51. The better formulation of the correct principle is that in the present case, which is pleaded as one of misappropriation, misconduct and breach of duties against Zhu and Man (as distinguished from the type of case described in paragraph 42 above), the Plaintiffs which make the assertions and allegations set out in the SOC bear the legal burden to establish, on a balance of probabilities commensurate with the seriousness of their allegations, that there were fictitious transactions, and that Zhu and Man had acted in breach of their fiduciary/contractual duties, and had dissipated and misappropriated the funds of LCS. This involves the Plaintiffs first showing a prima facie case of such misconduct, misappropriation/dissipation or breach of duties, before the evidential burden shifts to Zhu and Man as directors/alleged fiduciaries to put forward an explanation in an attempt to demonstrate that the transactions were genuine, for the proper purposes of LCS, such that the use of funds was legitimate and for the business purpose of LCS. If they can do so, it is still for the court to decide whether in view of the explanation offered, there remains a case proved by the Plaintiffs to the requisite standard of the claims which they made.
52. With the above considerations in mind, I now deal with the issues arising from the state of the pleadings and the evidence adduced.
Whether Man was a party to the Agreement
53. On the contractual claims, the Plaintiffs assert that Man was in breach of contractual duties imposed under the Agreement, and further claim that he was in breach of fiduciary duties owed by reason of the responsibilities and duties which he assumed as General Manager under the Agreement. It is on the basis that Man is a party to the Agreement that the Plaintiffs seek damages against Man inter alia for his breach of the warranties contained in clauses 3.2.5 and 3.6.3 of the Agreement.
54. On its face, Man is not named as a party to the Agreement, which was made and signed only by Zhu and Propitious.
55. Notwithstanding the above, the Plaintiffs’ case is that Man was actually the ultimate owner of the shares of LCS, and that Zhu signed the Agreement only as trustee of the shares which she held for and on behalf of Man. In paragraph 16.2 of the SOC, the Plaintiffs plead that Man and Zhu had represented to Deng in the course of the negotiations of the Agreement that they owned or controlled LCS, and that notwithstanding that Zhu was the sole director and sole registered shareholder of LCS, Man was in fact the “ultimate owner of LCS”.
56. There is nothing in the Agreement which refers to Zhu holding the shares in LCS on trust for Man, or for any other third party. To the contrary, the Agreement recites the authorized capital of LCS of 10,000 ordinary shares, and that Zhu was the shareholder of LCS prior to the transaction contemplated under the Agreement. None of the terms were stated to apply to any third party, and apart from clause 3.2.5 and clause 3.6.3 (containing the Sales Warranty and the Non-compete Warranty), none of the covenants set out in the Agreement were given by, for or on behalf of any party other than the actual parties named, ie Zhu and Propitious. The Sales Warranty is dealt with separately, below. The claim under the Non-compete Warranty was no longer pursued at Closing.
57. The Agreement provides, under clause 12.2, that save as expressly stated, no party is constituted the agent of the other party:
“除本協議明顯地另有所指外，不構成一方作為另一方的代理關係。”
58. By operation of Clauses 13.1 and 13.2, the Agreement contains the entire contract and undertaking by/between the parties, as they provide expressly that each party entered into the Agreement without relying on any statement/representation, guarantee or warranty not expressed or stated in the Agreement. The clauses state as follows:-
“13.1 本協議包含本協議各方就本協議有關事宜所達成的完整協議及承諾。
13.2 各方在簽訂本協議時並未依賴任何未載於本協議的陳述、保證或承諾。”
59. Although Deng maintained in her testimony that Zhu’s signatures in the Agreement represented both herself and Man, she could not offer any explanation as to how this was so. The Agreement was signed by Zhu as Party B to the Agreement, and for and on behalf of the company, LCS, only . The Investors could not justify why Man did not sign the Agreement, and was not made a party thereto, despite being the owner of LCS (or any of its shares) as the Plaintiffs now assert. Nor could Deng explain why Zhu was not asked, or stated in the Agreement, to sign for and on behalf of Man, if he was the true owner and controller of LCS, or if Man’s role was so essential. Counsel for Man pointed out that under the Agreement, Man was not even nominated as a director of LCS, only as General Manager. The Sales Warranty only refers to a warranty by Zhu (as Party B) and Man’s sales team, that the sales would be achieved. A reasonable construction of clause 3.2.5 is that if the sales could not be achieved, Zhu as the only person to the Agreement would be liable for breach.
60. In my judgment, the Plaintiffs have simply failed on the evidence to discharge the burden of proving their assertion, that Man was the ultimate owner of the shares in LCS, and that the Agreement had been concluded by Zhu as the trustee of the shares held on behalf of Man. The assertion goes against the express terms of the Agreement, and there is no evidence in support apart from Deng’s bare allegation.
61. The Plaintiffs rely essentially on the fact that Man had actively participated in securing the collaboration between the Investors and LCS and in concluding the Agreement. It was highlighted that it was Man who had discussed and communicated extensively with Deng throughout the process of negotiations of the Agreement. According to the Plaintiffs, it was Man who had made all the important decisions, including the terms of the Agreement which was prepared by the Investors. The Plaintiffs highlighted the fact that it was Man who told Deng that the Investors’ proposal to acquire 30% of LCS was not suitable and should be deferred, and it was Man who had assured Deng that the collaboration between LCS and the Investors would be profitable. After reviewing the draft Agreement prepared by the Investors, it was Man who confirmed that it was in order, and that he had no comments.
62. I do not accept that Man’s role, even any key role of his, in the negotiations for the Agreement can prove that he was the true owner of the shares of LCS, and hence the true party or principal to the Agreement.
63. According to Zhu and Man, prior to the Agreement, Zhu was the owner of all the shares in LCS, as well as the sole director thereof, and Man had throughout been acting only as Zhu’s personal consultant/adviser in relation to the business of LCS and the collaboration proposed with the Investors. They deny that there was any representation made to Deng that Man controlled or owned LCS, and deny that Man had ever been, at any time, the ultimate owner of LCS as the Plaintiffs allege.
64. On the evidence, Zhu left the Mainland for Macau in 2000 and from 2002, she had started to work in Hong Kong in the business of selling pharmaceutical products. She first operated a pharmacy in Sheung Wan, Hong Kong (“WH ”), which was a joint business of herself and her relatives, and engaged in the wholesale of Chinese medicinal products. In 2013, Zhu commenced a business in Macau with a partner, which was engaged in the import and export of Western medicinal products. Zhu also set up a sole proprietorship business in 2013, which was engaged in the wholesale of health products. LCS was a company Zhu set up on her own in Hong Kong in 2014, operating a business of the wholesale of Chinese medicinal products. In 2017, Zhu operated 2 other companies which dealt in health products, wine, beer and frozen meat.
65. Zhu first came to know Man in 2003, on the introduction of an experienced owner/operator of a pharmacy in Sheung Wan (“Kwok ”). From 2008 onwards, Zhu had constant contact with Man, and had consulted him on the know-how and sales of Chinese medicinal products. Zhu and Man also had common dealings and contacts with other individuals in the pharmaceutical/health products businesses. It was through the introduction of people in this business that Zhu and Man came to know of Deng.
66. Man himself had operated a company which was, since 1991, engaged in the sale of Chinese and Western medicinal products in Canada. He had business dealings with Kwok, from whom Man purchased products for sale in Canada. Man returned to Hong Kong from Canada in 1996, and commenced a company (“WF ”) dealing in the import and export of Chinese and Western medicinal products. WF was very successful and expanded rapidly, to the extent that its sales reached HK$120,000,000 by 2010. Due to the financial crisis in 2010, however, Man became bankrupt, and he could only work as a consultant manager with Kwok until 2013.
67. By 2013, Zhu had set up her health products business. Man assisted Zhu in her sales and import business, and received a commission on such sales. When his bankruptcy was discharged in 2015, Man was engaged as Zhu’s personal consultant to assist her in the management and expansion of her businesses, including the business of LCS. According to Man’s evidence, he received a monthly consultancy fee, and a commission on the sales. Man explained that he was not the legal or beneficial owner of any shares in LCS, pointing out that at the time when LCS was established by Zhu in 2014, he was still an undischarged bankrupt, and did not have any resources to make any investment into LCS.
68. According to Man, he established another company of his own in 2017, which company was successful in obtaining a supplies contract for a large pharmaceutical chain in Hong Kong.
69. Neither Zhu nor Man has denied that Deng representing the BLB Group had been introduced to both of them (together with a Mr Wong, who operated a separate business and was a former employee/colleague of Man when Man was operating WF). The initial meetings with Deng were attended by both Zhu and Man, when Deng expressed interest in collaborating with businesses and companies in Hong Kong which might assist BLB and the BLB Group to expand their business and sales from the Mainland where they had been operating to areas outside the Mainland such as Hong Kong, in order to facilitate the movement and use of their funds in Hong Kong. Some of the meetings and negotiations with Deng had also involved Mr Wong, and another Mr Poon (a common friend of Zhu and Man) who had the distribution/sales rights of various US products. The negotiations all concerned BLB’s expansion of its Mainland business to areas outside the Mainland, and the transfer BLB’s funds to Hong Kong for suitable investments.
70. It is clear from the evidence of Zhu and Man that Deng had expressed interest in various businesses in Hong Kong which could offer to BLB and the BLB Group the opportunity to expand the business and sales of the BLB Group and their products to Hong Kong. They were looking for people who had experience in sales, import to and export from Hong Kong of products compatible with the products in which the BLB Group was dealing, and exploring the opportunity to invest in businesses or work in collaboration with people who had such experience, in Hong Kong. The evidence of both Zhu and Man was that the BLB Group and Deng who was representing the Group were interested in them as a “sales team”, and that the proposals they were seeking were for the sale and promotion of the products in which the BLB Group was dealing. Deng had received, or asked for, proposals from Zhu and Man, as well as from Mr Wong and Mr Poon.
71. On the evidence regarding the history of the dealings between Zhu and Man, it is very probable and credible that Man had been approached by Zhu as a consultant when she established her businesses in Hong Kong. It is likely that when Zhu and Man were later approached with the opportunity of collaboration with a Mainland group which was looking to invest in the pharmaceutical and health products businesses, they would meet with Deng, and it is credible from the nature of their previous dealing that Zhu turned to and relied on Man for advice, and help regarding the negotiations with Deng. The Investors involved a listed company on the Mainland, and the investment proposed was substantial. Man had more experience than Zhu in the business, and as she had worked with and consulted him throughout the years, Zhu must have trusted Man, to the extent of giving him a large role in the ultimate negotiations with Deng and the Investors, particularly when the formal Agreement was prepared by the Investors and submitted to Zhu. I do not find it surprising that Zhu involved Man as her personal consultant and adviser in the negotiations and finalization of the Agreement – even if he was not a shareholder or director of LCS. Although Man was not named as a party, it is indisputable that the Investors and Zhu had agreed (and Man himself knew by virtue of his role in the negotiations) that Man would be employed as the General Manager for the business of LCS to be acquired by the Investors. Man would have the incentive to secure the finalization of the Agreement and the injection of funds into LCS by the Investors upon the conclusion of the Agreement.
72. For the above reasons, the reliance placed by the Plaintiffs on the fact that in the course of the negotiations, Man had assured Deng that the collaboration between LCS and the Investors would be profitable, that the Investors’ proposal to acquire 30% of LCS was not suitable, that he had reviewed the draft Agreement and approved it, or that he hoped to be a director of LCS in time, cannot be sufficient to show that Man was the true shareholder and owner of LCS. It is totally unsurprising that in the course of negotiations, a party would give assurances to the other party that the collaboration proposed would be successful and profitable, that the players could be trusted, and that positive statements would be made to induce trust and confidence in the project. It can hardly be said in this case that Man’s statements and assurances to such effect amount somehow to evidence of his ownership or even control of LCS, the target company. The WeChat messages relied upon by Counsel for the Plaintiffs were exchanged in such context, and in my judgment, they are neither conclusive nor persuasive evidence of the Plaintiffs’ claims of Man’s ownership or control of LCS. The fact that Deng herself had placed her trust in Man cannot mean that Man was the owner or controller of LCS. As Counsel for Zhu and Man pointed out, Deng did not even insist on Man being made a party to the Agreement. The evidence of Deng in this entire case comprises her own opinions and unfounded beliefs, which I do not consider to be reliable.
73. As Counsel for Zhu and Man emphasised, of the over 600 pages of contemporaneous WeChat records produced in these proceedings, there is no single trace of the parties’ mention of or reference to Man holding any legal or beneficial interest in LCS.
74. The only document which the Plaintiffs could refer to, to support the claim that Man was a shareholder of LCS, is the WeChat message from Zhu in the LCS Work Group chat (“Group Chat ”), dated 20 February 2019. This was at a late stage of the parties’ collaboration, when the relationship had already turned sour. In the chat, Zhu complained about the directors’ decision on 13 February 2019 to reduce her salary. Zhu referred in the message to the fact that the “3 shareholders” of LCS had resolved in April 2018 to pay Zhu a monthly salary of HK$40,000. According to Counsel for the Plaintiffs, the “only irresistible inference” from this is that the “third shareholder” was Man.
75. When Zhu was cross-examined, she explained that the third shareholder she had referred to was intended and meant to be Yang, the director appointed by the Investors to the board of LCS after the execution of the Agreement in April 2018. Although Yang was not the registered shareholder of LCS, Deng had told Zhu that Yang represented the Investors which were the shareholders, and that Yang had the authority to make decisions regarding LCS. Zhu said that upon such representation made by Deng, she had had no alternative but to accept the decisions made by Deng and Yang, since Yang was pointedly held out by Deng to have the authority of the Investors as shareholders, and that was why Zhu referred to there being three shareholders who had decided on her salary in April 2018.
76. In her submissions, Counsel for the Plaintiffs contended that Zhu’s claim of Yang being the third shareholder was “utterly unconvincing”. However, Zhu in cross-examination referred also to her WeChat message to Deng on 21 August 2018, which to some extent lends support and gives credence to her explanation. Zhu explained that by August 2018, there had been disagreements between herself and Yang, and in her message to Deng on 21 August 2018, Zhu referred inter alia to Yang’s instruction that there were to be only inward receipts and no outward payments, and stated (translated from original text):
“All along, Yang and Xiao are only the directors nominated by your side. Just now, you confirmed for the first time that they can represent your side as shareholders. If she had said so yesterday, I would have been willing to have a shareholders’ meeting with them …”
Zhu claimed that after 21 August 2018, she had considered that LCS had three shareholders, and she had to accept, in view of Deng’s clear intimation to her, that Yang was equivalent to a shareholder.
77. Zhu’s explanation may not be entirely satisfactory, but in my judgment, the statement in the message of 20 February 2019 is too uncertain to allow the Court to draw a reasonable inference, let alone the “irresistible” inference advanced by Counsel, that Man was all along the “third shareholder” of LCS. There was no evidence from any other witness, and I have not been referred to any documentary evidence, of the people who were present at the meeting in 2018 when Zhu’s salary was allegedly “resolved” or agreed by the shareholders, and accordingly there is no clear evidence at all as to who Zhu could possibly have been referring to in the message. In summary, I do not find the WeChat message to be sufficient or unequivocal evidence of any clear facts from which any inference can be drawn, as Counsel for the Plaintiffs contended, that Man was a shareholder or owner at LCS.
78. Counsel for Zhu and Man has highlighted that by the principle of contra proferentem , if there should be ambiguity in a contract term, such ambiguity is to be resolved against the party seeking to rely upon the term (Tam Wing Chuen v Bank of Credit and Commerce Hong Kong Ltd [1996] 2 HKLR 161).
79. In this case, if there is any ambiguity in the provisions of the Agreement, as to whether Man is a party to the warranties contained in clauses 3.2.5 and 3.6.3, such ambiguity must be resolved against Propitious and the Investors which drafted the Agreement, and which now seek to rely on the clauses of the Agreement to enforce them against Man.
80. My finding is that there is no evidence to prove that Man was a party or principal under the Agreement. Further, as Counsel for Man correctly submitted, mere involvement in management or influence over decisions is not sufficient to establish a de facto or shadow directorship (Popely v Popely [2019] BCC 1089).
Whether Man owed fiduciary duties to LCS
81. Man was not a director of LCS at any time.
82. The Agreement signed by Propitious and Zhu specifies in clause 3.6.2 that Man was unanimously agreed by the parties to be nominated as the General Manager of LCS.
83. The duties of the General Manager are set out in clauses 3.6.2 and 3.6.5. Clause 3.6.3 states that without Propitious’ consent, neither Man nor Zhu can directly or indirectly take on any duties with other companies, and in particular, cannot establish or take part in any operation of a company which carries on a business similar to that of LCS.
84. Clause 3.6.5 sets out the duties of the General Manager, which include: (under clause 3.6.5(i)) developing and improving (1) “the concepts, systems and procedures of the promotion and sales of the products of LCS”; (2) LCS’ finances, administration and reporting system and procedures; (3) the application of LCS’ products in different markets; and (4) the system and procedure for raw material supplies; and (under clause 3.6.5(iii)) managing and supervising the daily operations of LCS.
85. There is no dispute that Man did take up the appointment as General Manager, until his resignation in 2018.
86. There is no evidence of any separate contract of employment having been signed between LCS and Man in respect of his appointment as General Manager. I have rejected the claim that Zhu had made the Agreement on behalf of or as trustee for Man, such that Man is not a party to the Agreement. Accordingly, Man’s duties arise only as a result and by virtue of his appointment as General Manager of LCS.
87. The observations made by the Court in Jeremy Michael Ranson v Customer Systems PLC have been set out at paragraph 44 above. After explaining the distinction between obligations owed by company directors and by employees, Lewison LJ went on to explain at paragraph 25, as follows:
“25. In my judgment the starting point for determining whether Mr Ranson owed fiduciary duties to CS, and if so, what duties, is his contract of employment. As Lord Browne-Wilkinson explained in Kelly v Cooper [1993] AC 205, 214 (in relation to the fiduciary duties of an agent):
“The existence and scope of these duties depends upon the terms on which they are acting.”
26. In the same case the Privy Council approved the well-known statement of Mason J in Hospital Products Ltd v United States Surgical Corporation (1984) 156 CLR 41, 97:
“That contractual and fiduciary relationships may co-exist between the same parties has never been doubted. Indeed, the existence of a basic contractual relationship has in many situations provided a foundation for the erection of a fiduciary relationship. In these situations it is the contractual foundation which is all important because it is the contract that regulates the basic rights and liabilities of the parties. The fiduciary relationship, if it is to exist at all, must accommodate itself to the terms of the contract so that it is consistent with, and conforms to, them. The fiduciary relationship cannot be superimposed upon the contract in such a way as to alter the operation which the contract was intended to have according to its true construction.”
…
28. In his masterly judgment in University of Nottingham v Fishel [2000] ICR 1462, 1491 Elias J accurately said:
“…the essence of the employment relationship is not typically fiduciary at all. Its purpose is not to place the employee in a position where he is obliged to pursue his employer's interests at the expense of his own. The relationship is a contractual one and the powers imposed on the employee are conferred by the employer himself. The employee's freedom of action is regulated by the contract, the scope of his powers is determined by the terms (express or implied) of the contract , and as a consequence the employer can exercise (or at least he can place himself in a position where he has the opportunity to exercise) considerable control over the employee's decision making powers. This is not to say that fiduciary duties cannot arise out of the employment relationship itself . But they arise not as a result of the mere fact that there is an employment relationship. Rather they result from the fact that within a particular contractual relationship there are specific contractual obligations which the employee has undertaken which have placed him in a situation where equity imposes these rigorous duties in addition to the contractual obligations. Where this occurs, the scope of the fiduciary obligations both arises out of, and is circumscribed by, the contractual terms; it is circumscribed because equity cannot alter the terms of the contract validly undertaken .” ” (Emphases added)
88. Man is not a director of LCS, and the Supreme Court of Canada in Galambos v Perez [2009] 3 SCR 247 (at paras 66, 75 and 77) pointed out that it is fundamental to all ad hoc fiduciary duties that there is an undertaking by the fiduciary, which may be express or implied, that the fiduciary will act in the best interests of the other, in accordance with the duty of loyalty reposed on him or her. Such undertaking may be the result of the exercise of statutory powers, the express or implied terms of an agreement, or simply an undertaking to act in this way.
89. Fiduciary duties are onerous, and not lightly imposed and the court should exercise caution before importing fiduciary duties into an essentially commercial relationship (ABK Limited v Foxwell [2002] EWHC 9 (Ch) at para 73).
90. The position maintained by Man is that he is not a party to the Agreement which refers to the duties of the General Manager. However, it is not disputed in his evidence that Man had been given and had read the Agreement, and had approved its contents. He accepted that his role within LCS was to be responsible for sales, and the undisputed evidence is that he was the one who had negotiated and obtained the purchase of products and raw materials from the 3rd and 4th Defendants, and the orders from the 5th and 6th Defendants, on the terms and at the prices Man had agreed on LCS’ behalf.
91. In High Fashion New Media Corporation Limited v Leong Ma Li [2024] HKCA 1067 , the court held, at paragraph 73, as follows:
“The hallmark of a fiduciary duty is a requirement that a person pursues the interests of another at the expense of his own . Fiduciary duties can arise because the essence of the relationship is such that one party is obliged to act for the benefit of another (such as trustees and beneficiaries, directors and companies). They may also arise as a result of specific obligations or functions undertaken by a person that requires the law to impose a duty positively to act in the best interest of another, to the exclusion of other interests, including his own.” (Emphasis added)
92. Along the same vein, McLachlin J in Norberg v Wynrib [1992] 2 SCR 226, at p 237 explained that fiduciary relationships “are always dependent on the fiduciary’s undertaking to act in the beneficiary’s interests”, and in Hodgkinson v Simms [1994] 3 SCR 377, at p 406, La Forest J explained that the fiduciary principle “monitors the abuse of a loyalty reposed”.
93. The Plaintiffs’ case is that as General Manager, Man’s duties are those set out at clause 3.6.5 of the Agreement. Under these provisions, Man had been given the responsibility of managing and supervising the daily operations of LCS, the implementation of matters delegated to him by the board of directors (clause 3.6.5(vi)), and developing the finances of the company (in accordance with clause 3.6.5(i)(b)). With these powers and duties in mind, it can be said that Man had undertaken obligations and functions which impose a duty for Man to exercise such of his powers and his discretion in the best interest of LCS, to the exclusion of other interests, including his own. He cannot, for example, agree on or approve prices for LCS’ purchase or sale of goods or materials which are not in the best interests of LCS.
94. On Man’s case, he was never in charge of the finances of LCS, as both he and Zhu have maintained throughout that it was Yang, Mandy Yuen (“Mandy ”, working under Yang) and Xiao, all of whom were appointed by the Investors and were sent to work at LCS from April 2018, who had the power to control and the responsibility for LCS’ finances and accounting matters after the completion of the Agreement. According to Man, after the parties’ execution of the Agreement, he had not been consulted on financial matters such as the increase of operation expenses and the renting of additional warehouses, nor on staff employment and salary decisions. However, even if Man’s own case is to be accepted in this regard, that his duties were confined and he was only in charge of sales, he was nevertheless entrusted with and had undertaken duties and functions which would entail the exercise of powers or discretion affecting the interests of LCS, and he would be required to act in the best interests of LCS in these aspects.
95. I bear in mind, however, the reminder set out in the judgment of the English Court of Appeal in Bristol and West Building Society v Mothew [1998] Ch 1, at 16C-F, that not every legal claim arising out of a relationship with fiduciary interest will give rise to a claim for a breach of fiduciary duty (citing LAC Minerals Ltd v International Corona Resources Ltd (1989) 61 TLR (4th ) 14 cited at p 28, per La Forest J). In his judgment, Lord Justice Millett also referred to Permanent Building Society v Wheeler (1994) 14 ACSR 109, and the following observation made by Ipp J at pp 157 and 158:
“It is essential to bear in mind that the existence of the fiduciary relationship does not mean that every duty owed by a fiduciary to the beneficiary is a breach of fiduciary duty. In particular, a trustee’s duty to exercise reasonable care, though equitable, is not specifically a fiduciary duty. … The director’s duty to exercise skill and care has nothing to do with any position of disadvantage or vulnerability on the part of the company. It is not a duty that stems from the requirements of trust and confidence imposed on the fiduciary . In my opinion, that duty is not a fiduciary duty although it is a duty actionable in the equitable jurisdiction of this court.”
96. Having considered the duties admittedly assumed by Man in his position of General Manager of LCS, I can accept that he does owe a fiduciary duty to act in the best interests of LCS, to the exclusion of all others, and not to abuse the trust and confidence reposed in him in leading and supervising the sales and purchase of products on behalf of LCS, and in the exercise of his powers and discretion in these aspects of the sales business for which he was responsible. It remains to be considered whether there was any established breach of any fiduciary duty as owed by Man, or Zhu.
Whether the Fictitious Transactions were sham, or genuine
97. To recap, the pleaded breaches of fiduciary duties claimed to be owed by Zhu and Man (at paragraph 48 of the SOC) are that they:
(1) failed to act bona fide in the best interests of LCS;
(2) acted for their own interests and benefit or that of the 3rd and 4th Defendants, and acting contrary to the interests of LCS;
(3) exercised their powers for the improper purpose of dissipating the sums of HK$19.6 million (subscribed by Propitious for the shares in LCS) and HK$2.39 million (advanced by Propitious to LCS) to the 3rd and 4th Defendants, in which Zhu/Man allegedly had an interest and through which they made an unauthorized profit.
These form the first category of claims made against Zhu and Man (as summarised at paragraph 35 above.
98. The pleaded basis of these claims of breach of fiduciary duties is that there were Fictitious Transactions which Zhu and/or Man concluded with the 3rd to 6th Defendants, for the purpose of dissipating the funds of LCS to entities connected with Zhu/Man or in which they had interests.
99. The Fictitious Transactions were all particularized in Schedule 1 and Schedule 2 to the SOC. They involved LCS’ purported purchase of Chinese medicinal products/raw materials from the 3rd and 4th Defendants and LCS’ purported sales to the 5th and 6th Defendants, which were allegedly not paid for. It is alleged (in paragraphs 41 to 46 of the SOC) that there were no records which show that LCS had received any of the products purchased from the 3rd and 4th Defendants, and no records of payment by the 5th and 6th Defendants, which claimed that all the goods which had been delivered to them from LCS had already been rejected, and returned, although LCS had no record of such allegedly returned goods.
100. On 22 December 2020, the Plaintiffs obtained judgment against the 3rd and 6th Defendants, as they did not file notice of intention to defend these proceedings.
101. The 4th and 5th Defendants filed Defences in the action, but did not take part in the trial. According to their Defences, it is admitted that LCS had purchased medicinal products from the 4th Defendant, and that the 5th Defendant had placed orders for the purchase of pharmaceutical/medicinal products from LCS. The 4th Defendant denies the claim of Fictitious Transactions and that the goods had not been delivered by the 4th Defendant to LCS. The 5th Defendant claims that LCS had only delivered some but not all of the products, that some of the delivered products had quality problems, and that the 5th Defendant is not liable for payment in respect of the undelivered and the defective products.
102. The Plaintiffs rely on various factors to prove that the Fictitious Transactions were sham, and not genuine: (1) the allegedly close connection between the Defendants; (2) the lack of supporting documentation; and (3) the timing of the transactions and the payments out.
The alleged close connection between the Defendants
103. The Plaintiffs aver in the SOC that the 3rd and 5th Defendants had a common shareholder and director, the 4th and 6th Defendants had common directors (surnamed Ip), and that the 4th Defendant was the 70% shareholder of the 5th Defendant, such that they were all somehow connected or related. This is one of the matters relied upon by the Plaintiffs to show that the transactions were mere shams.
104. It is not disputed by the 4th and 5th Defendants that the 4th Defendant was, from October 2018 to March 2019, a 70% shareholder of the 5th Defendant. It is denied that the directors of the 4th and 6th Defendants surnamed Ip were related or even known to each other. The 4th Defendant denies that it had any close connection with the 6th Defendant by virtue of the matters alleged by the Plaintiffs. The 5th Defendant likewise denies any close connection with the 3rd Defendant, as suggested by the Plaintiffs.
105. The alleged connection of the 4th and 6th Defendants, being the fact that their directors had similar names, has been flatly denied by the witness of the 4th Defendant, Mr Lee (who was called by Zhu and Man to give evidence), as being the Plaintiffs’ pure speculation and fanciful surmise. There is no other evidence to establish the alleged link of the Ip directors.
106. Zhu accepted in her evidence that she had let office premises to the 4th Defendant at one time, for about 6 months. The premises had been left vacant after Zhu’s health products business had ceased operation upon completion of the Agreement, and Mr Lee of the 4th Defendant offered to take up the space for his company. Mr Lee of the 4th Defendant also accepted this, saying in his testimony that it was for an interim period when he was looking for a place to move, and that rent had been paid to Zhu. It was argued by the Plaintiffs that this shows Zhu had a close relationship with the 4th Defendant.
107. The facts asserted and the evidence relied on by the Plaintiffs, that the 4th Defendant and the 5th Defendant were close, even if true, cannot necessarily mean that Zhu or Man was close to either the 4th or 5th Defendant, and that Zhu and Man had conspired with the 4th and 5th Defendants to carry out the scheme involving the Fictitious Transactions. These companies were all in the same business, of dealing in Chinese medicinal/pharmaceutical products, and it is not surprising that there would have been business dealings between them.
108. According to Zhu’s evidence, the 5th Defendant had formerly been a client of Man’s companies, and the 5th Defendant had purchased large quantities of Chinese medicinal raw materials from the 3rd Defendant through Man. After the completion of the Agreement, Man brought the business of the 5th Defendant to LCS, and because the 3rd Defendant had previously been a supplier of raw materials for the 5th Defendant, LCS also commenced to have dealings with the 3rd Defendant.
109. As for the 6th Defendant, Zhu explained that it was also a former client of Man’s companies, and that he had brought the business of the 6th Defendant to LCS after the completion of the Agreement.
110. The Plaintiffs made the point that there is no evidence that Zhu/Man had done any due diligence against the 3rd to 6th Defendants before entering into the substantial contracts with them, but bearing in mind the relatively small market, and the fact that Man (who had been in the industry for a long time) had done business with the 3rd , 5th and 6th Defendants at least, I do not find such submission of the Plaintiffs to be of much weight against the particular background of this case.
111. As highlighted in the earlier part of this Judgment, the allegation made by the Plaintiffs against the Defendants is that the transactions in April to July 2018 were fictitious, and shams, which never took place. The claims are not only that there was fraud, but that the fictitious sales and purchases can and are to be inferred from the facts pleaded, namely, that there were no records of LCS’s receipt of the goods, the close relationship evidenced by the alleged common shareholding and directorship amongst the defendants, and that as LCS’s purported customers, the 5th and 6th Defendants had not settled the prices for the goods they had allegedly purchased.
112. On the authorities, the court cannot draw the inferences contended by the Plaintiffs, unless there is primary evidence that logically and reasonably justifies the inference, as the court cannot choose between guesses on the ground that one surmise seems more likely than others (Ming Shu Chung v Ming Shiu Shum (2006) 9 HKCFAR 334, at para 79). In the context of the standard of proof in cases of forgery, the court also stated in Re H & Others (Minors) (Sexual Abuse: Standard of Proof) [1996] AC 563 at 586 (cited in Nina Kung v Wong Din Shin (2005) 8 HKCFAR 387, at 560), as follows:
“The balance of probability standard means that a court is satisfied an event occurred if the court considers that, on the evidence, the occurrence of the event was more likely than not. When assessing the probabilities the court will have in mind as a factor, to whatever extent is appropriate in that particular case, that the more serious the allegation the less likely it is that the event occurred and, hence, the stronger should be the evidence before the court concludes that the allegation is established on the balance of probability. Fraud is usually less likely than negligence.”
113. The claims and the pertinent evidence on the alleged close relationship amongst the Defendants have been set out in gist at paragraphs 103 to 106 above. In my judgment, the fact of close relationship as alleged has not been established by any sufficiently clear and cogent evidence, for any inference to be drawn therefrom.
The lack of documentation
114. The more pertinent question is whether there were records of LCS’ receipt of the goods from the 3rd and 4th Defendants as purported suppliers, and records of delivery to and payment by the 5th and 6th Defendants as purported purchasers of the products.
115. The liquidator of the 3rd and 6th Defendants gave evidence that no documents whatsoever were found relating to the transactions between these Defendants and LCS. However, his evidence is that the directors and those responsible for the 3rd and 6th Defendants either could not be located, or did not come forward, for the purpose of the liquidator’s questioning or providing documents to the liquidator. The liquidator was not even able to locate any bank account of the 6th Defendant. On the whole, the liquidator’s evidence in this case cannot be taken to mean that he had conducted a thorough investigation of the affairs of the 3rd and 6th Defendants, and had inspected all the records of the 3rd and 6th Defendants, but could not find any document in the possession of the 3rd and 6th Defendants which related to the transactions with LCS, the supply of the goods to or by LCS, or any payment that could be identified for the transactions.
116. Both Zhu and Man have been cross-examined at length on the invoices and the transactions said to be fictitious. Ms Wu, Counsel for the Plaintiffs, submits that their evidence is incredible and should not be accepted, but having considered the matter against the background of the entire case, I cannot agree with Ms Wu that the evidence of Man and Zhu should be rejected as totally improbable, or incredulous.
117. It is clear from the evidence that, as Counsel for the Plaintiffs also pointed out, the relationship between the investors of the BLB Group camp on the one hand, and Zhu and Man on the other, had very quickly turned sour after the completion of the Agreement. With the benefit of hindsight, there was a misfit in the parties’ work style and practice, which led to strife and disagreement. Zhu and Man were accustomed to the more informal and traditional style of conducting business with suppliers and customers: mostly relying on oral agreements and undertakings based on mutual trust. The Investors, being part of a listed company, were obviously subject to stricter controls, regulations and practices, adhering to written forms, standardized documents, set steps and procedures for approval of contracts. Trust and confidence were gradually lost, and the working relationship could not be salvaged. Each blamed the other for failure to perform promises given.
118. A vast majority of the complaints made in the evidence, which include the bundles of WeChat messages relied upon at trial, show that the Plaintiffs’ representatives (and Yang and Deng in particular) had claimed that Man and Zhu failed to produce the requisite financial reports, statements and other documents to show or substantiate: expenses required for the purchase of raw materials or products; deliveries of products to LCS; Zhu’s and Man’s sales; receivables due to LCS, etc. On their part, Man and Zhu complained that the Investors had failed to make timely remittance of the funds provided for in the Agreement to enable LCS to make the necessary sales which had been warranted under the Agreement.
119. The claim of Fictitious Transactions reflects this difference between the parties’ work styles. Counsel for the Plaintiffs repeatedly highlighted the fact that there were no or insufficient documents which could substantiate the sales, supplies, deliveries and purchases of the products, with only scanty notes and details of the relevant dates of delivery and payments. It was also pointed out that Man and Zhu have not been able to produce any documents at trial to substantiate their claims that the relevant products had been purchased from the 3rd and 4th Defendants, and delivered to LCS, or that goods had either been delivered to the 5th and 6th Defendants, or were in LCS’ storage.
120. In their evidence, Man and Zhu maintained that whatever documents which existed had all been submitted in the course of their dealings to Yang, or Deng, and should be within the records and systems of LCS. On their case, Man had resigned as early as July 2018, whereas Zhu had been discharged from any right to operate the business of LCS since January 2019 (after which she was only responsible for the task of collecting debts and receivables from customers). Zhu further claims that on 26 April 2019, Yang and Xiao took away the computers and all the documents of LCS from LCS’ office, and brought all these documents to the office of BLB International in Hong Kong (which is not disputed by Deng), such that Zhu did not have further access to any documents of LCS. Zhu claimed that she did not have the password or log-in credentials to access the accounting system implemented by the Plaintiffs, and that she could not gain access to check either the warehouse/storage records or the finances of LCS.
121. On the question of the existence or otherwise of LCS’ inventory of goods, it is also very pertinent that since November 2018, the Investors failed not only to pay salaries to LCS’ employees, but also stopped payment of the rent for LCS’ warehouses. As a result, the landlord chained up the entrance to LCS’ Warehouse 205 in December 2018. LCS further defaulted in payment of rent for Warehouse 307 from late 2019, all of which eventually led to Warehouse 205 being repossessed in December 2019 and proceedings being instituted in early 2021 for repossession of Warehouse 307. Demands had been made by the landlord for LCS to clear the stock in the warehouse by paying the rent in default. It is the case of Zhu and Man that the stocks in LCS’ warehouses had been seized and disposed of by the landlords. This is in fact admitted by Xiao under cross-examination.
122. The central theme of the Plaintiffs’ evidence filed is that Zhu and Man, who were tasked with the duty under the Agreement to be responsible for the development and improvement of LCS’ sales and marketing strategy and financial system, as well as the management of LCS’ daily operations, had the duty to prepare and provide the financial statements of LCS, and that Yang and Xiao had been pressing Man and Zhu since July 2018 for the half yearly financial statement of LCS, but that they had failed to do so, and the Investors had been kept in the dark about the financial situation of LCS.
123. Zhu and Man claim however that they were only responsible for sales, and to achieve the sales and profits under the Sales Warranty given by Zhu under the Agreement: that by 31 December 2018, there would be sales of HK$130,000,000, and net profit of HK$16 million. They had provided Yang and Xiao with all the documents, information and details of the sales and purchases which they were in a position to supply, and they maintain that it was not their responsibility to prepare the financial statements of LCS which the Investors required for reporting to the listed company. On Man’s and Zhu’s case, Yang and Xiao were the ones responsible for finances generally, and they were indeed appointed to the board in order to oversee the financial aspects of LCS’ operations after the Agreement. They claim that the Investors’ control (through Yang, Mandy and Xiao) of financial matters is evidenced by the fact that all the cheque books, company chops and access to bank accounts had been handed over to Yang from as early as April 2018 (for the cheque books and company chops), to July 2018 (when Yang was added as a signatory of the CHB Account) and September 2018 (when Yang and Xiao were added as signatories to the BOC Account). Mandy was the effective accountant stationed in LCS’ office. Cheques had to be obtained from her before any payment could be made. No payment could be made for any expenses, without seeking the approval of Yang and Xiao. From May 2018, LCS implemented the procedure whereby application forms with supporting documents had to be submitted for approval of expenditure by Yang and Xiao. Mandy was the person within LCS who was consistently handling the finances, by preparing reports on daily bank ledgers, sales figures, and receivables, for circulation and reporting to Xiao and Yang. On Man’s evidence, when Yang or Xiao asked for financial reports, he would simply forward their requests to Zhu, Mandy or Cheung, the outsourced bookkeeper. According to Man, all the invoices for the purchases handled by him were passed to the “finance people”, who were Yang and Xiao.
124. The complaint of Man is that he was only General Manager in name, and had no power over any financial matters which affected the operation of the business of LCS, such as renting additional warehouses (which he opposed but was decided by Xiao) and incurring more expenses for sales (which he wanted but was not granted).
125. On her part, Zhu claimed that Yang and Xiao had all the powers of Deng as the majority shareholder, and by August 2018, Yang had directed the implementation of the “only in and no out” policy for LCS’ bank accounts, refusing to approve funding for packaging of raw materials for sales. By January 2019, Zhu’s duties and power had been reduced to that of a debt collector only.
126. A valid point made by Counsel for Zhu and Man in submissions is that notwithstanding the Plaintiffs’ constant refrain in these proceedings, that there was a dearth of documents relating to the transactions handled by Zhu and Man, the Plaintiffs have yet been able to produce in discovery and in the trial bundles detailed figures and analyses of the products dealt in by LCS in 2018, including details of the suppliers, the quantities of the products supplied, the dates of the invoices issued by the suppliers, the amounts in storage and the expiry dates, including the figures and details set out in Schedule 1 and Schedule 2 of the SOC on the allegedly Fictitious Transactions. These documents were not in fact referred to or explained in the Plaintiffs’ witness statements. When Counsel for Zhu and Man attempted to cross-examine the Plaintiffs’ witnesses on the figures set out in a table of “raw materials” on page 1467 of Bundle C (“Table ”) which includes details of the quantities, costs, and dates of invoices of the goods supplied to LCS by the 3rd Defendant, the Court pointed out the deficiency in the lack of explanation as to the provenance of the Table and other documents disclosed by the Plaintiff.
127. Despite the objections made by Ms Wu (Counsel for the Plaintiffs) in Closing to the Defendants’ further reliance on the Table, and the emphasis which had been made by Ms Wu that there is no evidence that the Plaintiffs had accepted the accuracy of the Table, I take note of the fact that the Plaintiffs were had not been disputed by the Plaintiffs.
128. Ms Kong, Counsel for Zhu and Man, pointed out that the Table produced by the Plaintiffs on page 1467 of Bundle C includes details of the quantities, costs, and dates of invoices of the goods supplied to LCS by the 3rd Defendant. If the Table is compared with Schedule 1 of the SOC, at least 16 items of Schedule 1 are listed in the Table compiled by the Plaintiffs, which shows that the goods were within LCS’ warehouse and recorded in LCS’ computer system at one stage. This contradicts the Plaintiffs’ claim that the sales to LCS from the 3rd Defendant were fictitious and that the goods supplied by the 3rd Defendant were non-existent.
129. In any event, the Plaintiffs did have record of, and produced at trial, the documents including the invoices from the 3rd and 4th Defendants covering the allegedly Fictitious Transactions complained of. This is more consistent with the case of Zhu and Man, that they had all along provided the Plaintiffs with, and they did have, the information relating to the purchases and sales of the products identified in Schedules 1 and 2, and of their dealings with the 3rd , 4th , 5th and 6th Defendant as part of their duties in effecting the sales activities of LCS.
Timing of the transactions
130. Part of the Plaintiffs’ case is that the sums of money injected by the Investors had been almost immediately drained and siphoned off, highlighting the dates of inflow of funds from the Investors and the withdrawals of funds very shortly thereafter. According to the Schedules to the SOC, the alleged sales from the 3rd Defendant took place between 20 April 2018 and 19 June 2018, with sales of such items to the 5th Defendant allegedly taking place in June 2018. The alleged purchases from the 4th Defendant took place between 8 June 2018 and 2 July 2018, with sales to the 6th Defendant taking place in July and August 2018. The purchases from the 3rd Defendant total HK$7,796,542, with sales to the 5th Defendant totaling HK$7,901,302.40. The purchases from the 4th Defendant total HK$5,199,000 and the sales of the goods to the 6th Defendant total HK$7,519,000.
131. To the extent that it is claimed that the transactions were fictitious and planned to siphon off the funds, by reason of the fact that they took place immediately after receipt of the funds from the Investors, I can accept Man’s evidence in answer. Man pointed out that it was the Investors’ and his concern that there should be results in sales achieved for LCS, bearing in mind that under the Agreement, there was a warranty that by 31 December 2018, LCS should achieve sales of not less than HK$130 million, to attain net profit of HK$16 million.
132. The Agreement was signed in early April 2018. According to the evidence of Man and Zhu, the Sales Warranty was given on the condition and in the premises of the Investors’ agreed injection of approximately HK$20 million (HK$19,653,124.68) by way of capital, and a further loan of HK$60 million, making a total injection of HK$80 million in funds for LCS. Under clause 3.2.3, the time for the injection and the amounts to be injected by the Investors were stipulated to be: HK$30 million by 31 March 2018, HK$30 million by 30 June 2018, and HK$20,000,000 by 31 October 2018. With the warranties of sales and profits in mind, it had always been Man’s concern to secure supplies for sales of the products as soon as possible, on the basis that the funds provided for in the Agreement would all be received in time, and in accordance with the Agreement. Against such background, it is neither suspicious nor inherently improbable or incredible, that Man would enter into the substantial transactions with the 3rd and 4th Defendants in May and June 2018, and to effect payment therefor when deliveries were made (on Man’s and Zhu’s case).
Particulars/record of delivery
133. The Plaintiffs’ claim is that the transactions with the 3rd and 4th Defendants were fictitious because of the absence of particulars and there was no proof of delivery of the products to LCS. The documents which were produced by the Plaintiffs for trial include the invoices issued by the 3rd and 4th Defendants to LCS, and in some cases accompanied by copies of LCS’ cheques issued in settlement of the invoices. The Plaintiffs claim however that there were no records of prior negotiations nor subsequent correspondence having been conducted by Man with the 3rd or 4th Defendants, to evidence the existence of the contracts and the delivery of the goods which are the subject matter of the invoices.
134. As set out in the earlier parts of this Judgment, I accept the evidence of Man and Zhu, that they had been conducting their businesses in the traditional manner customary to more old-fashioned retailers of herbal and Chinese medicine and drugstores in Hong Kong, which is based on oral agreements, and trust. I therefore do not regard it as exceptional or surprising, that there was no correspondence exchanged amongst the Defendants in this case, in the form of letters or emails, as is more common in modern day trading.
135. The invoices which were produced do show in some cases notations made in Zhu’s handwriting (confirmed by Zhu in testimony), indicating details such as time for delivery, payments by cheque numbers, dates of delivery to warehouse, etc. I find this to be a common manner of conducting business and handling settlement of invoices in Hong Kong. As Counsel highlighted, these notes were made by Zhu contemporaneously, at a time when proceedings were not anticipated. I have no reason to doubt the authenticity of the manuscript notes made on the invoices with regard to the delivery dates communicated, and agreed.
136. My understanding of the evidence and testimony of Man as to his usual procedure adopted for conducting LCS’s sales, in accordance with customary trade practice, is as follows. When LCS wanted to order raw materials and products for the purpose of its sales, he would seek quotations from suppliers which were conducted orally. A supplier like the 4th Defendant would quote a price and if the quantity and price was acceptable, Man would place the order, and the delivery dates would be confirmed and agreed orally. It would take time for the materials to be ready, and the usual delivery time for a batch of Chinese medicinal products was approximately 2 to 3 months. An invoice would be issued by the supplier to LCS when the goods were ready for delivery, and by trade custom, payment would have to be made before delivery. Man would inform Zhu and Yang after LCS’s order had been placed, for Zhu to correspond and follow up with the supplier for payment and delivery of the products.
137. When questioned by Ms Wu why delivery dates were not specified in the invoices from the 3rd and 4th Defendants, Man’s evidence was that the approximate dates for delivery were orally indicated to him at the time when the order was confirmed, and he would inform Zhu of the approximate delivery date. Payment terms were likewise not indicated on the face of the invoices, because the trade-accepted practice and understanding was that payment would be required to be made before delivery. If the terms agreed were for payment to be made first, for delivery later, there would be one price, and if payment was to be made upon delivery, there would be a different price. All these would be orally discussed, and it was a matter of trust.
138. On Man’s evidence, delivery was a matter attended to by Zhu and Mandy. After informing Zhu and Yang of the products ordered, it was for Zhu and Yang to follow up and communicate with the supplier, and to manage payment. Man emphasized that Yang knew how much goods had been received, what funds were available and how much had to be paid for settlement. When the products were delivered, they would go into LCS’s warehouse, and Mandy would be responsible for recording and entering the products into the inventory. Mandy and another employee would sign for receipt of goods delivered into the warehouse and make a record of the goods entered into the inventory. Mandy would be given the delivery note, which would show the quantity and type of products delivered, and all these particulars would be recorded by her in the computer. She would also have received from Man/Zhu the purchase orders placed by LCS’s customers such as the 5th Defendant, for inventory control. As supported by the WeChat messages in evidence, it was Mandy who made the daily sales reports, daily bank ledgers and receivables for circulation to the directors and to the Group Chat. Man highlighted the fact that Xiao, the finance chief and supervisor, would check with Mandy every Friday and verify the quantity of goods in the warehouse.
139. In relation to the orders from the 3rd and 4th Defendants, Man explained in testimony that the orders were placed with them before April 2018 (being the earliest date of the invoices). According to Man, when the Agreement was negotiated and concluded, it was agreed that the first injection of HK$30 million was to be received by LCS on 31 March 2018. He was acutely aware of the Sales Warranty under the Agreement, that HK$130 million in sales had to be achieved by 31 December 2018, and he knew that it would take time for materials to be procured for sales. Hence, he had commenced negotiations with suppliers and potential purchasers and had placed orders with the 3rd Defendant approximately one month before the earliest date of the invoice (20 April 2018). According to Man, he had informed the 3rd Defendant that he expected that payment for the goods ordered by LCS could be made in April 2018.
140. On behalf of the Plaintiffs, Ms Wu queried the substantial quantities and value of the materials which were the subject matter of LCS’s purchase and the 3rd Defendant’s invoice dated 20 April 2018, and questioned whether there were purchasers available and secured by Man for the materials bought. In answer, Man explained that the order placed with the 3rd Defendant, for HK$1,080,000 worth of materials, was meant for LCS itself to be made into products for sale, as well as for supply to the 5th Defendant. On his evidence, the raw materials purchased by LCS (such as 牛黃) could either be packaged and sold under LCS’ own label or name, or they could be packaged for sale to other retailers/customers of LCS under their own labels or brands. On Man’s evidence, the materials LCS had purchased from the 3rd Defendant could be sold to other customers, any time before the materials were ascertained or identified for delivery in accordance with the 5th Defendant’s contract and delivery schedule. He emphasized that LCS could always keep track of the raw materials it had in inventory, and place further orders, if necessary, for supply to customers like the 5th Defendant, after any part of the materials purchased from the 3rd Defendant were utilized for LCS’ own brands, or for sale to customers other than the 5th Defendant.
141. Man further explained in cross-examination that in relation to the transactions with the 5th Defendant, there were purchase orders placed for the materials specified in the 3rd Defendant’s invoice of 20 April 2018. According to Man, the 5th Defendant did not require delivery of the products in one batch, but in 2 separate batches. Man explained that this was in fact advantageous to LCS, as it enabled him to deal in the materials in the interim, and he could sell to other customers, and place further orders with the 3rd Defendant later, if appropriate. Mandy would have clear records of LCS’s inventory, and the 5th Defendant would only be invoiced according to the volume of actual delivery as required by the 5th Defendant.
142. I do not find Man’s evidence on sales to be inherently improbable or incredible, as Ms Wu suggests, and in any event, there is no other evidence on trade practice to discredit Man. Deng and Xiao who gave evidence for the Plaintiffs, had no personal knowledge of the sales practices.
143. On the question of the authenticity of the invoices, Counsel for the Plaintiffs referred the 4th Defendant’s Mr Lee to the fact that the invoices issued by the 4th Defendant appeared to have 2 different formats. Mr Lee said that the formats were changed from time to time, and he decided at one stage to remove the reference to the 4th Defendant’s Shenzhen entity from the invoice. The invoice with the Shenzhen reference in the heading related to skincare products, different to pharmaceutical/medicinal products. I can find nothing suspicious in these respects.
144. In other respects, Mr Lee’s evidence on the manner of his dealings with Man and LCS is largely consistent with that of Man. On delivery, Mr Lee was able to confirm that the products sold by the 4th Defendant to LCS were first collected from the Mainland manufacturer by vehicle, and then delivered to the warehouse of LCS, in batches. Mr Lee also confirmed that payment had been made by LCS and received by the 4th Defendant. In my judgment, the inability of Mr Lee and Man to recall smaller details of the quotations of the prices given, the specifications of the products, and the costs of the supplies of the materials to the 4th Defendant, cannot be taken against the witnesses, bearing in mind the long lapse of time between the dates of the transactions in April to June 2018 and the date of trial, in conjunction with the intricate details being asked.
145. The invoices produced evidencing the transactions between LCS and the 3rd and 4th Defendants, are contemporaneous documentary evidence, which on their face are sufficient to provide evidence of the sales to LCS. As the court held in Simetra Global Assets Ltd v Ikon Finance Ltd [2019] 4 WLR 112 at paras 48 and 49, a judge proposing to reach a contrary conclusion needs to explain why the contemporary documents are not to be taken at face value, or are to be outweighed by other compelling considerations. On the materials available in this case, other than mere surmise, there is no evidence on which the court can conclude or even infer that there were in fact no purchases and sales which had been concluded, and that the documents were forgeries.
Inventory taking and checking
146. Man’s evidence on LCS’ manner of taking delivery of products ordered by LCS has been set out under the previous heading.
147. In addition, Man and Zhu maintained that there had been regular stocktaking exercises undertaken by Yang, Mandy and Xiao, and there are contemporaneous records in the WeChat messages to confirm this. On 10 September 2018, Yang’s message to Man and Zhu referred to a stocktaking which had taken place on 1 September 2018, and the fact that she had found some products which had expired, and some products in the warehouse which did not belong to LCS, all of which were to be dealt with or cleared. On 28 February 2019, Yang again referred to a stocktaking to be undertaken on 26 March 2019, and an attachment was circulated to members in the Group Chat to show the situation of the inventory in the warehouse. Another attachment of the warehouse inventory was circulated on 28 March 2019, which evidences that some stocktaking had indeed been undertaken on the day. On 12 April 2019, Yang issued an instruction in the Group Chat, that the stocks in the warehouse, including those of the 5th Defendant, were to be dealt with. On 10 May 2019, Zhu issued a message to Xiao and Yang in the Group Chat, referring to a “written confirmation” of disposal of stock inventory, which was signed by Xiao and Yang on 6 May 2019, and expressed her views on the proposed sale of the stock in the inventory.
148. As Ms Kong contended, the above shows that there were stocks from the 5th Defendant in LCS’s warehouse. They also show that there had been stocktaking of the inventory stored in the warehouse. The Plaintiffs’ claims, that no stocktaking had taken place with participation by representatives of the Investors, ring hollow in the light of the evidence. In cross-examination, Xiao admitted that there had been regular stocktaking, and that he had supervised a few of them, after May 2018. He also accepted that stock lists were available and were used to check against the physical counting of stocks, and further, that LCS’s computers would have records of the entries and withdrawals of items in the warehouse.
149. It is pertinent that according to Zhu’s message of 10 May 2019, products on the inventory had been sold or disposed of. It is also pertinent that on the evidence, the Plaintiffs stopped payment not only of wages and MPF contributions for its employees since November 2018, but also of rent for its warehouses, such that the landlords had repossessed 2 warehouses by the end of 2020/early 2021, and stock in the warehouses had been seized and disposed of by the landlords. The fact that the Plaintiffs allege that items delivered/returned by the 3rd , 4th , 5th and 6th Defendants could not be traced or located may be due partly to these disposals.
150. It is also disingenuous for the Plaintiffs to plead, in circumstance when LCS had stopped paying salaries to its employees by November 2018, that Yang “only discovered” in January 2019 that its employees had left LCS. This is again demonstrative of the unreliability of the Plaintiffs’ claims and assertions.
151. Against all the evidence, there is hardly room for the court to find that on a balance of probabilities, no deliveries had been made by the 3rd , 4th , 5th or 6th Defendants of goods sold, or returned, to LCS.
The payments out
152. It is the Plaintiffs’ case that Man and Zhu had procured the substantial payments out to the 3rd and 4th Defendants and had concealed them from the Investors, as part of the scheme to dissipate the funds injected into LCS. According to the Plaintiffs, Man and Zhu were the ones who had handled LCS’ finances and were in a position to siphon off the capital invested into LCS. It was also contended by Counsel for the Plaintiffs that Man had resigned before the Investors could find out from the financial statements that all the funds had been dissipated and misappropriated. For these, the Plaintiffs rely on the fact that Zhu had retained the company chop of LCS until July 2018, that she had signed the cheques by way of settlement of the invoices of the 3rd and 4th Defendants, and that the change of signatory to LCS’ BOC Account was not completed until September 2018. They further rely on the fact that whatever financial or sales reports Mandy or Yang had prepared, they were based entirely on data provided by Man on sales volume and inventory. On the Plaintiffs’ case, any stocktaking which had taken place was not meaningful for that reason.
153. Even if I accept that Man, being responsible for negotiating and concluding the sales and purchase contracts, had the first-hand and direct knowledge or information on the quantities and amounts of sales and purchases concluded, I do not accept that Yang, Xiao and Deng did not have knowledge of the payments which had been made into, and out of, LCS’ bank accounts, or that they had been kept in the dark as to LCS’ finances, as they allege. As can be seen from the messages in the Group Chat, bank statements (銀行及流水賬) had been circulated, for example on 7 May 2018, and Deng, Yang and Xiao would know of the payments made by LCS up to that date. On the Plaintiffs’ case, the payments to the 3rd Defendant at least had already been made by then.
154. Further, the bank statements of LCS’s BOC Account were circulated on 17 July 2018. By then, the payments in settlement of the 4th Defendant’s invoices dated June 2018 and 2 July 2018 had been made.
155. Ms Wu put to Man that he resigned at the end of July 2018, as he knew that the financial documents would soon disclose that funds of LCS had been siphoned off. However, as Ms Kong pointed out and as Man confirmed, the bank statements for the month of 31 August 2018 issued shortly after Man’s resignation in fact showed multiple deposits into LCS’ bank account, representing the proceeds of sales made in the months after the date of the Agreement.
156. As Ms Kong submitted for Man and Zhu, the final financial report and statement of LCS for the year ending 31 March 2019 (“2019 Report ”) records that the inventory as of 2019 was recorded at HK$13,337,954, representing an increase of HK$13,023,111 from HK$314,843 for 2018. This suggests a significant increase in purchases after 31 March 2018, which is consistent with purchases having been made under LCS’ transactions with the 3rd and 4th Defendants (of HK$12,995,542 in total), and that those inventories had remained in LCS’ warehouse as at 31 March 2019. It was pointed out that despite this inventory increase of HK$13 million, the “trade payables” remained constant at around HK$2.5 million, indicating that most of these purchases had been paid up. The revenue recorded in the Income Statement for the financial year ending 2019 was approximately HK$13 million, reflecting that the alleged fictitious sales of HK$13.1 million were not included. The “trade receivables” recorded as at 31 March 2019 were HK$3.6 million, significantly lower than the allegedly outstanding balances from the 5th and 6th Defendants.
157. Ms Kong highlighted the fact that the 2019 Report was signed by both Yang and Xiao, as directors.
158. Ms Kong further submitted that although the auditors of LCS had qualified the 2019 Report, by noting that they had not been able to obtain sufficient appropriate audit evidence regarding the opening balances and closing inventories, this was because (as expressly noted in the 2019 Report) they had not observed the physical counting of the inventory stated at HK$13,337,954 at the end of the year, and were not able to satisfy themselves as to the inventory quantities by other ordered procedures. Ms Kong submitted that the qualification should not be taken to mean that the inventory figures recorded in the 2019 Report were necessarily inaccurate.
159. I agree with Ms Kong’s submission, that Yang and Xiao, as directors who signed the 2019 Report, were responsible for ensuring that the financial statement and the directors’ report are free from material misstatement, including any misstatement regarding the inventory which, as Ms Kong highlighted, was one of the largest assets of LCS at the material time. The directors’ responsibility was expressly stated by the auditors in the 2019 Report. If Xiao and Yang had any doubts that the inventory was seriously overstated, they should have raised queries before, and should not have signed the financial statement. As Ms Kong also highlighted, Xiao was a senior certified public accountant on the Mainland, with many years of experience in finance and in accounting of listed companies. His acceptance by signing the 2019 Report and the financial statements therein must mean that there was no substantial overstatement in the inventory.
Evidence of payment by the 5th Defendant
160. On Man’s evidence, under his contract with the 5th Defendant, the latter had to pay 10% deposit for the orders it placed with LCS. A search at the Companies Registry has confirmed that one Mak Shiu Yin Alexander (“Mak ”) was registered as a director of the 5th Defendant since 11 June 2018.
161. The bank statement of LCS shows that on 10 July 2018 (on the same day as when the 5th Defendant placed 4 purchase orders with LCS), a sum of HK$305,700 was deposited by transfer into LCS’ BOC Account from one “MAK S* Y* A*”. The sum deposited corresponds with 10% of the 4 orders placed by the 5th Defendant totaling HK$3,057,000, and “MAK S* Y* A*” corresponds with Mak, the director of the 5th Defendant.
162. Ms Kong submits, and I accept, that the evidence supports Man’s testimony as to the authenticity of the orders placed by the 5th Defendant with LCS, and that the 5th Defendant had at least paid a 10% deposit for the orders. If the transactions between LCS and the 5th Defendant were fictitious and were shams, there should not be the payment recorded in LCS’ bank statement for 10 July 2018. The fact of payment casts doubt on the veracity of the Plaintiffs’ sweeping claim, that all the sales to the 5th and 6th Defendants based on the purchases from the 3rd and 4th Defendants are fictitious.
163. In addition, at least some of the items listed in Schedules 1 and 2 of the SOC, stated to be products sold by the 3rd and 4th Defendants to LCS, and sold by LCS to the 6th and 5th Defendants appear to tally with the Table produced by the Plaintiffs, which contradicts the claim that all the transactions were non-existent and that the relevant purchase orders were forgeries.
164. Counsel for Zhu and Man also made the valid point in her submissions, that the Plaintiffs’ assertions and the stance they maintain against the Defendants are in fact self-contradictory. On the one hand, the Plaintiffs’ pleaded case is that the 3rd and 4th Defendants had not delivered any goods to LCS because the alleged sales were shams. On that basis, LCS seeks in these proceedings a refund from the 3rd and 4th Defendants of amounts paid by LCS to them, and also wound up the 3rd Defendant on the basis of its debt.
165. On the other hand, LCS seeks from the 5th and 6th Defendants payment of the price for goods alleged by LCS to have been delivered to them, and further wound up the 5th Defendant on the basis of the debt due from the 5th Defendant to LCS for the products sold to the 5th Defendant.
166. As Ms Kong pointed out, if the 3rd and 4th Defendants as suppliers of LCS had not delivered any products to LCS, LCS would not be in a position to deliver any products to the 5th and 6 Defendants, and there will be no basis for LCS to claim against the 5th and 6th Defendants for the price of goods sold, and no basis whatsoever to wind up the 5th Defendant. On the other hand, if the 5th and 6th Defendants are liable to pay LCS for the goods they had received from LCS, then LCS must have accepted that it had received deliveries of the products from the 3rd and 4th Defendants for sale to the 5th and 6th Defendants, and there is no basis for LCS to wind up the 3rd Defendant for any debt due, and no basis to claim in these proceedings that the sales and deliveries to LCS was fictitious.
167. The fact that a purchaser of goods defaulted in payment cannot be the basis for an inference that the sale was fictitious.
168. The Plaintiffs claim that adverse inferences should be drawn against Man and Zhu for failing to call any witnesses to give evidence or to make affirmations to support their cases. However, the courts would only be inclined to do so in cases where there is “a valid and legitimate basis for making the assumption” (per Le Pichon J, as she then was, in Lee Hysan Estate Co Ltd v Sky Heart Ltd [1997] 1 HKC 313, at 366C-D). Further, the inference is always open to explanation by circumstances which make some other hypothesis a more natural one than the party’s fear of exposure of unfavourable evidence (Tullett & Tokyo International Securities Ltd v APC Securities Co Ltd [2001] 2 HKLRD 356, at 365F-G). The position is amply explained more recently by Harris J in Moorthy Selvaraj (as one of the beneficiaries of the estate of Karupaya Selvaraj, Deceased) v Karupayee Ammal (as the administratrix and one of the beneficiaries of the estate of Karupaya Selvaraj, Deceased) and others [2024] HKCFI 403 , at paragraph 20:
“This suggests that the Plaintiff’s evidence is made more compelling simply by virtue of the 5th Defendant choosing not to give evidence disputing the facts alleged by the Plaintiff. This seems to me plainly to be wrong. A defendant’s election alone to make a no case to answer submissions and, in Hong Kong, the consequential election not to call evidence, is equally consistent with the defendant taking the view that the plaintiff’s case is so weak that there is no need to give evidence. There is no presumption that an adverse inference is to be drawn from a defendant’s decision not to call a witness. There must be a case to answer before an inference can be drawn from a defendant’s decision not to call a witness to rebut it , that the witness’s evidence would not have assisted in answering the prima face case, but even then it does not necessarily follow that such an inference can be drawn. A defendant can proceed on the basis that although a prima facie case was advanced in pleadings and witness statements after cross-examination of the plaintiff’s witnesses it can be demonstrated that the case has not been proved on the balance of probabilities and the defendant need not call any evidence; which will normally result in a no case answer submission being made. What a failure to call a witness cannot do is to transform a plaintiff’s unsatisfactory evidence into satisfactory evidence.” (Emphasis added)
In my view, it would be wholly inappropriate to draw any inference against the Defendants in this case, when the Plaintiffs’ case has not even been made out.
169. If any adverse inference is to be drawn, it should be against the Plaintiffs for not having called evidence from Yang who, on the face of the Group Chat, had been the person who had been asking for, compiling and circulating the daily sales reports and statements and the inventories of LCS. According to Man and Zhu, Yang was the person responsible for financial documents and who had all the information relating to the sales and purchases of materials and goods. If it was indeed the case that Yang had not obtained any or any sufficient information or data from Man and Zhu, as the Plaintiffs now allege, it would have been obviously necessary and appropriate to procure Yang’s evidence in these respects, to establish the Plaintiffs’ case and to refute the assertions made by Man and Zhu. The failure to call Yang, who is still in LCS’s/BLB Group’s employment, can only mean that her evidence will not be supportive of the Plaintiffs’ case. The explanation offered for not calling Yang, that she had to take care of her elderly parent, is not convincing given the availability and convenience of giving evidence by video link - which was never considered or applied for by the Plaintiffs.
170. With respect, the claims made in these proceedings are in my view sweeping allegations, with no underlying evidence in support. This is particularly so when the assertions made against the Defendants are of such a serious nature as amounting to fraud and the commission of a crime. As I have pointed out at the beginning, the claims made against Zhu and Man are not simply asserted against them as directors/trustees liable on that basis only to give accounts, and not by reason of any misconduct, breach of fiduciary duties, or misappropriation on their part. The accounts are sought by virtue of the fact that they were fraudulent, and this must be established to the requisite standard of proof.
171. On the issue of the Fictitious Transactions and whether the Court can make findings on falsities in the invoices or relating to the purported sales, deliveries and purchases referred to therein, the observations made by Ribeiro PJ on inference of forgery and fraud, in Nina Kung v Wong Din Shin (2005) 8 HKCFAR 387, are pertinent:
“185. A related principle should be applied in tandem. Where , as in the present case, the court is invited to reach a conclusion of forgery as an inference to be drawn on the basis of circumstantial evidence, any such inference must be properly grounded in the primary facts found. The court guards against indulging in conjecture under the guise of drawing an inference where the primary evidence does not logically and reasonably justify the particular inference in question ….
186. The High Court returned a few years later in Jones v Dunkel & Another (1958-1959) 101 CLR 298 at p.305, to stress the need for a proper foundation for the inference. It is not permissible merely to choose what may be considered to be the more likely of two guesses if neither is properly justified by the primary facts found . While the court was divided as to its application to the facts of that case, it was agreed as to the nature of the principle. Dixon CJ (who was in the minority), referring to the abovementioned passage from Bradshaw v McEwans Pty Ltd (unrep., High Court of Australia, 27 April 1951), stated:
But the law which this passage attempts to explain does not authorise a court to choose between guesses, where the possibilities are not unlimited, on the ground that one guess seems more likely than another or the others . The facts proved must form a reasonable basis for a definite conclusion affirmatively drawn of the truth of which the tribunal of fact may reasonably be satisfied. (at p.305)
And Kitto J (for the majority) cautioned:
One does not pass from the realm of conjecture into the realm of inference until some fact is found which positively suggests, that is to say provides a reason, special to the particular case under consideration, for thinking it likely that in that actual case a specific event happened or a specific state of affairs existed . (at p.305)
187. In HKSAR v Lee Ming Tee & Securities and Future Commission (2003) 6 HKCFAR 336, Sir Anthony Mason NPJ acknowledged the need for such a disciplined approach to the drawing of inferences and in particular for inferences of fraud or serious misconduct to be drawn only where such inferences are compelling. Dealing with an allegation that senior SFC officers had deliberately and improperly terminated an investigation in order to avoid compromising the standing of the subject of the investigation who was acting as an expert witness in a criminal trial in which the SFC was interested, his Lordship stated:
…that conclusion was not to be reached by conjecture nor, as the respondent submitted, on a mere balance of probabilities. It was to be plainly established as a matter of inference from proved facts. (at §72)
(Emphases added)”
172. It is also important to note that, in Nina Kung v Wong Din Shin , the Court made it clear that in requiring the wife in the case to “dispel suspicious circumstances”, the lower courts had applied the wrong burden of proof. Moreover, it was explained that the existence of “suspicious circumstances” did not prevent the wife from discharging her persuasive burden, nor enable the father who had the burden of proof to discharge his burden.
173. Considering the entirety of the evidence and the explanations given by Zhu and Man of their dealings, my finding is that the Plaintiffs have fallen far short of proving to my satisfaction their allegations that Man and/or Zhu had acted in breach of their fiduciary duties to LCS without LCS’s best interests at heart, by engaging in the allegedly Fictitious Transactions. As these have not been shown to be fictitious transactions, I cannot see how it can be said that Zhu and Man had acted for their own interests or benefit, or had exercised their powers in relation to these transactions for their own purpose, or for the object only of dissipating the money injected into LCS.
Whether there was breach of duty of care and skill in relation to the Fictitious Transactions
174. The pleading in paragraph 49 of the SOC is that by reason of the matters pleaded of the Fictitious Transactions, Zhu and Man had failed to act with the reasonable degree of skill, care and effort. This is separate to the claims of breach of contract made against Zhu and Man in paragraphs 64 to 72B of the SOC.
175. Counsel has not developed any arguments to support the claim of breach of duty of care. As Millett LJ explained in Bristol and West Building Society v Mothew [1998] Ch 1, at 16F-17B (after repeating that not every legal claim arising out of a relationship with fiduciary incidents will give rise to a claim for a breach of fiduciary duty):
“It is similarly inappropriate to apply the expression to the obligation of a trustee or other fiduciary to use proper skill and care in the discharge of his duties . If confined to cases where the fiduciary nature of the duty has special legal consequences, then the fact that the source of the duty is to be found in equity rather than the common law does not make it a fiduciary duty. The common law and equity each developed the duty of care, but they did so independently of each other and the standard of care required is not always the same. But they influenced each other, and today the substance of the resulting obligations is more significant than their particular historic origin. In Henderson v Merrett Syndicates Ltd . [1994] 3 WLR 761 at p. 799 Lord Browne-Wilkinson said:
“The liability of a fiduciary for the negligent transaction of his duties is not a separate head of liability but the paradigm of the general duty to act with care imposed by law on those who take it upon themselves to act or advise others. Although the historical development of the rules of law and equity have, in the past, caused different labels to be stuck on different manifestations of the duty, in truth the duty of care on bailees carriers, trustees, directors, agents and others is the same duty: it arises from the circumstances in which the defendants were acting, not from their status or description. It is the fact that they have all assume responsibility for the property or affairs of others which renders them liable for the careless performance of what they have undertaken to do, not the description of the trade or position which they hold.” ”
It is accordingly sensible that the claim of breach of duty of care was not pursued.
Whether there was breach of contract
176. The pleaded claims of breach of contract are that:
(1) Zhu failed to make contribution of HK$8,422,767.72 to LCS for her 30% shareholding (paragraph 64 of the SOC);
(2) Zhu failed to repay the Debts (paragraph 65 of the SOC);
(3) there was breach of the Sales Warranty, in that LCS failed to make profits of HK$16 million, sustaining a loss instead of HK$4,814,509 for the period from 1 April 2018 to 31 March 2019, such that there was a shortfall in profits after tax of HK$20,814,509 (paragraph 67 of the SOC);
(4) Zhu and Man controlled or managed Basic Wholesale Limited (“Basic ”) which traded in health products, without the consent of the Plaintiffs, such that there was breach of clause 3.6.3 of the Agreement (paragraph 69 of the SOC) and clause 2.9 of the BLB HK Agreement.
177. There is no pleading of Man failing to discharge the duties of General Manager. There is accordingly no basis for the Plaintiffs to seek any finding on such breach (as sought in the Plaintiffs’ list of issues). Nor is there any pleading in the SOC that Man was in breach for failing to provide the Business Plan, or that Zhu and/or Man were either in breach of the Agreement, or had misled the Investors regarding the true financial position of LCS, when the 2018 audited report of LCS was not true and accurate. There is no claim of such breach in the SOC, and no claim made of misrepresentation.
178. I have also held that there is no evidence to prove that Zhu had made the Agreement as agent or trustee for Man. Not being a party to the Agreement, Man cannot be held to be liable for any breach of contract.
Whether Zhu in breach of contract for failing to make contribution of HK$8,422,767.72
179. This issue turns entirely on the construction of clauses 2.3 and 2.5 of the Agreement.
180. The legal principles applicable to construction of contract terms are trite. Interpretation is the ascertainment of the meaning which the document would convey to a reasonable person having all the background knowledge which would reasonably have been available to the parties in the situation in which they were at the time of the contract (Investors Compensation Scheme v West Bromwich Building Society [1998] 1 WLR 896, at 912H). The background was famously referred to by Lord Wilberforce as the matrix of fact. Interpretation is a unitary exercise, and as the Court of Final Appeal more recently summarized in Eminent Investments v DIO Corp (2020) 23 HKCFAR 487 (at paras 43-44), the starting point is the ordinary and natural meaning of the words of the contract, but context is important, and account should be taken not only of the natural and ordinary meaning of the provision in question, but also the purpose of the contract and of the provision, other relevant provisions, the facts and circumstances known or assumed by the parties at the time that the contract was executed, the quality of the drafting of the instrument, and commercial common sense.
181. The principle of contra proferentem is also applicable, as Counsel for Zhu and Man has highlighted. If there should be any ambiguity in a contract term, such ambiguity should be resolved against the party seeking to rely upon the term (Tam Wing Chuen v Bank of Credit and Commerce Hong Kong Ltd [1996] 2 HKLR 161). There is no real dispute that the Agreement was prepared and drafted by the Investors.
182. As part of the relevant factual matrix, Ms Kong pointed out that on its incorporation on 7 February 2014, Zhu was the sole shareholder and director of LCS.
183. The Agreement recites that Zhu agreed to Propitious participating or “entering into” LCS by way of increase in capital and expanding/enlarging the shareholding. This was repeated in clause 2.1, which recites that Propitious would hold 70% of the shareholding upon its entering LCS by an increase in capital. Clause 2.1 further states that the original shareholder, Zhu, would hold 30% of the shares on the basis of the PE (price earnings ratio) of the LCS shares being 7.6, according to the audited report of LCS for the period March 2017 to February 2018 attached as Annex 5 to the Agreement (“Report ”).
184. Clause 2.3 of the Agreement states that Propitious agreed that on the PE value of 7.6, Zhu was to hold 30% of the shares of LCS, with a value of HK$8,422,767.72.
185. Whereas clause 2.4 continues to state that Propitious would contribute HK$19,653,124.68 in cash to hold 70% of the shares, and that the sum would be paid into LCS’s bank account upon both parties’ execution of the Agreement and the completion of registration of the shares, clause 2 is totally silent on any amount to be paid, any contribution to be made, or any further form of consideration to be provided by Zhu in exchange for her continued shareholding in LCS.
186. I agree with Ms Kong that the HK$8,422,767.72 referred to in clause 2.3 only serves to set out the valuation of Zhu’s 30% shareholding, on the basis of a PE ratio of 7.6. Clause 2.3 does not make provision for Zhu’s payment of this sum, nor the timing for any payment. It is common ground that Zhu did not pay this sum.
187. Clause 2.5 of the Agreement sets out and confirms the shareholding structure after the completion contemplated by the Agreement, with Propitious holding 70% and Zhu holding 30% of the shares. Again, there is no mention in clause 2.5 of any capital or fund injection to be made by Zhu.
188. Clause 3.2.3 provides for a loan of HK$60 million to be made to LCS by Propitious’ parent, stating the time for Propitious’ injection of a total sum of HK$80 million by 3 instalments, on 3 specified dates.
189. There is no other provision for any form of fund injection by Zhu.
190. The transaction provided for in the Agreement was completed with Zhu transferring 70% of her shares to Propitious, as recorded in the board minutes of LCS, and the bought and sold notes. Zhu did not receive any part of the money paid by Propitious, as Propitious’ injection of capital was paid into LCS. The effect of the Agreement is that Zhu’s shareholding in LCS was reduced from 100% to 30%, and Propitious held 70% of the shares in LCS as a result of Zhu’s transfer, and in consideration for Propitious’ injection of capital into LCS.
191. In my judgment, the intention and meaning of clauses 2 and 3 of the Agreement are clear, the purpose of the transaction was to procure Propitious as a 70% shareholder for its contribution of capital, and for the shares of Zhu to be transferred to Propitious to achieve such result.
192. If there is any ambiguity in the provisions of clauses 2 and 3 of the Agreement, such ambiguity must be resolved against Propitious and the Investors which drafted the Agreement, and which now seek to rely on the clauses of the Agreement to compel payment by Zhu.
193. The Plaintiffs argued that even without an express requirement or provision in the Agreement, Zhu should know and she understood that she had to contribute to the capital of LCS. If this was an express requirement and the understanding of the parties, there is no reason whatsoever why it was not stated in the Agreement itself. It would have been a simple matter to state in the Agreement that Zhu has to make payment of a certain sum to LCS, by a certain date, if that was the true intention of the parties. They did not so state in the Agreement.
194. Contrary to the Plaintiffs’ contentions, the Agreement contains an entire agreement clause in clause 13.1, and clause 13.2 further states that no party had relied on any representation or warranty not contained or set out in the Agreement.
195. It is indisputable, and Deng herself accepted in cross-examination, that the messages in the Group Chat never contained any reference to or mention of any contribution or outstanding payment to be made by Zhu. Nor is there any mention in LCS’ financial statement as to any amount due from Zhu as shareholder, constituting unpaid capital contribution.
196. As for implied terms, I do not accept that any term for Zhu’s payment should be implied. It is not necessary to give business efficacy to the Agreement, nor is it obvious in the circumstances of the case.
197. In all, I reject the claim that Zhu was in breach of the Agreement by any failure to make contribution of capital required from her.
Whether there was breach of the Non-compete Warranty
198. The claim pleaded in paragraphs 69 to 71 of the SOC (the alleged operation by Zhu/Man of Basic as a competing business) was abandoned by the Plaintiffs in Counsel’s Reply Closing Submissions.
Whether there was breach of the Sales Warranty
199. The Plaintiffs’ claim is that LCS made a loss of HK$4,814,509 for the period from 1 April 2018 to 31 March 2019, and that there was breach of the Sales Warranty contained in clause 3.2.5 of the Agreement, that there would be profits of HK$16 million for the period from the signing of the Agreement to 31 December 2018.
200. Zhu and Man have throughout highlighted the fact that in breach of the express provisions of clause 3.2.3 of the Agreement, the Investors were only able to transfer to LCS HK$5 million on 23 April 2018 and on 26 April 2018 (totalling HK$10 million), and HK$9,653,124 on 24 May 2018. The total sum of HK$19,653,124 received by LCS by 24 May 2018 was less than 25% of the promised funding of HK$80 million as provided for under the Agreement.
201. Man and Zhu maintained that the late transfer of funds and the shortage of funds received from the Investors had impact on LCS’s business operations which were planned under the Agreement to be expanded, and had in fact caused difficulties for LCS in completing the goods which LCS had contracted to supply to purchasers like the 5th and 6th Defendants. Although Xiao suggested in his evidence that by May 2018, LCS had a total of HK$9,164,643 available in its bank account, according to Schedules 1 and 2 to the SOC, a total of HK$12,995,542 was already payable by then to the 3rd and 4th Defendants.
202. Man maintained in cross-examination that the business operations planned and the profit generation anticipated under the Agreement simply could not be executed without the capital injection promised and provided for in accordance with the Agreement. The initial Business Plan included securing exclusive distribution rights and operating retail stores for products, all contingent upon receiving HK$30,000,000 by 31 March 2018. Instead, only HK$5 million was received on 20 April 2018, which could not enable LCS to make the deposit of HK$10 million required to be paid in order to secure LCS as a sub-distributor of Ma Bak Leung (馬百良), as originally envisaged in the Business Plan produced by Man. Man further explained that without any assurance from the Investors as to when the exact sums to be injected could be received, he was not in any position to make any commitment to suppliers or purchasers, or any other third party which had potential business opportunities to offer. According to Man’s evidence, he already had to withdraw or cancel orders and commitments which he had made for LCS because of the delay in the receipt of funds from the Investors, and this had destroyed his and LCS’s credibility in relation to such and future business opportunities.
203. Man further highlighted his predicament and frustrations, of not receiving the capital promised under the Agreement in time to implement the plans and secure the purchases and sales required and envisaged under the Business Plan on the one hand, but being pressed on the other hand to achieve the sales and the profits warranted in the Agreement by 31 December 2018. This eventually led to the submission of his resignation letter on 27 July 2018, which echoed his frustrations in the following terms:
“1. According to the (Agreement), Propitious was required to inject into (LCS) a total of $80 million. However, until the present time, Propitious only injected approximately $22,653,124.68. Notwithstanding my repeated requests, Propitious has not implemented the Agreement by making further injection of capital into (LCS).
2. Further, I have been requested by Propitious to continue implementing the sales plan which I had prepared, in circumstances when Propitious will not be injecting further capital.
3. The sales plan which I had prepared previously is based on Propitious injecting capital into (LCS) in accordance with the Agreement. If Propitious will not implement the Agreement and make further injection of capital, it is impossible for the sales plan to be implemented, and I cannot achieve the results anticipated by the sales plan.”
204. As Counsel for Zhu and Man pointed out, clauses 2.4 and 3.2.3 of the Agreement provide for Propitious’ payment for 70% of the shares and for an advance of HK$60 million, within the time specified in the Agreement, and without making such payment contingent upon any event. The performance required is that sales of HK$130 million and net profit of HK$16 million should be achieved by 31 December 2018 – and not any time before
205. Further, by early 2019, Zhu had been excluded from any real management or responsibility of the business and sales of LCS, as she was only confined to collecting the receivables and debts due to LCS. Before then, in August 2018, Yang had refused to approve funding for packaging raw materials, imposing an “only in and no out” payment policy for LCS.
206. Although Counsel for the Plaintiffs sought to make the distinction that the sum of HK$60 million to be injected by the Investors, as referred to in clause 3.2.3 of the Agreement, was expressed to be an interest-bearing loan to LCS, and not part of the capital to be injected by Propitious under the Agreement, there is no suggestion that the loan was for any purpose other than to finance the expansion of LCS’ business and for funding its business operations and activities. It was all part of the money expected to be injected into LCS upon Propitious’s “entry” into LCS, as contemplated by and in accordance with the Agreement, on the dates specified. It would be against common sense to suggest that the loan was not envisaged for the expansion of LCS’s business and to increase sales.
207. The Business Plan supports the case of Zhu and Man. Item 2.1 of the Business Plan which refers to the business projects makes express provision for the receipt of a total of $80 million by the end of March, June and October 2018. Item 2.2 which refers to retail outlets provides also for investment funds of $10 million and item 2.4 refers to an investment of $20 million for the wholesale business.
208. According to the Plaintiffs, Propitious was discharged from its liability to make the advance of HK$60 million under clause 3.2.3 of the Agreement, by virtue of the failure on the part of Zhu/Man to achieve the sales target of HK$130 million stipulated in the Agreement. The legal principles and authorities cited and relied upon by Ms Wu in her Closing Submissions in support of the Plaintiffs’ case equally support and assist the case of Zhu/Man, in the context of whether the latter should be regarded as being in breach of the Sales Warranty.
209. Just as there is no express provision in clause 3.2.5, that the capital and loan injection totaling HK$80 million is a condition precedent for the operation the Sales Warranty, likewise, there is no provision in clause 3.2.3 that Propitious’ injection of HK$80 million was conditional upon the sales target of HK$130 million and net profit target of HK$16 million being achieved. Clause 3.2.3 states the specific dates when the loan of HK$60 million was to be made to LCS: by 3 installments on 31 March, 30 June and 31 October 2018. The Sales Warranty was to be achieved only by 31 December 2018. It goes against the express language of clause 3.2.3, and defies common sense, to construe the injection of HK$60,000,000 by 31 October 2018 to be conditional upon any target being achieved by a later date of 31 December 2018.
210. Applying the principles propounded by Ms Wu, Zhu as a party to the Agreement is entitled to treat herself as having been discharged from the liability to further perform the obligations of achieving the sales and profits targets under clause 3.2.5, pending Propitious’s due performance of its obligations to advance the full amount of HK$60 million in accordance with clause 3.2.3. Ms Wu relies on paragraph 28-001 of Chitty on Contracts (Vol 1, 35th Ed), which states:
“One party to a contract may, by reason of the other’s breach, be entitled to treat himself as discharged from his liability further to perform his own unperformed obligations under the contract and from his obligation to accept performance by the other party if made or tendered.”
211. Ms Wu submits that the principles set out at paragraph 28-006 of Chitty are also applicable:
“The decision to terminate the obligation of the parties to perform the remaining primary obligations under the contract is not one for the party in breach to take. The party in breach is a wrongdoer and it cannot benefit from that wrong by maintaining that its breach was effective to bring the contract between the parties to an end irrespective of the wishes of the other party to the contract. It is for the innocent party to decide whether the primary obligations of the parties to perform in the future should be brought to an end or not. A further option open to the innocent party is simply to withhold performance of its own obligations until such time as the other party perform its obligations under the contract. The entitlement of a party to withhold performance in this way depends upon the rules relating to the order of performance and the interdependence of the parties’ obligations.
The party who elects so to withhold performance is not thereby choosing to terminate the contract. Rather, it is withholding performance so that the obligations of the parties are effectively in suspense pending the performance by the other party of the obligation which is a condition precedent to, or a concurrent condition of, the first party’s obligation to perform. Thus the first party’s obligations are effectively in suspense until the other performs.”
212. In my judgment, there is no dispute that Propitious did not advance the capital and the loan in accordance with the time specified under clauses 2.4 and 3.2.3 of the Agreement, ie by 31 October 2018, and Zhu as the only other party to the Agreement is entitled to withhold performance under clause 3.2.5. I accept the evidence of Man and Zhu, that without the capital injection and the advance provided for in accordance with the Agreement, it was impossible for Zhu and Man to execute the operations and achieve the profit generation planned for. The initial Business Plan, which included securing exclusive distribution rights and opening retail stores, was contingent upon receiving HK$30 million in full by 31 March 2018 , but the first injection of capital only arrived on 20 April 2018, in the sum of merely HK$5 million. The loan of HK$60 million was to be fully advanced by 31 October 2018 but only HK$3 million of the loan had been made on 6 July 2018. Man further explained in his evidence, which I accept, that the sporadic and unpredictable nature of the capital injections severely hampered the ability to plan and execute business operations effectively. It would take time to scout locations for the opening of retail stores, and it also required time to apply for and obtain the necessary licences before any new retail business outlet can commence to operate. Man and Zhu had no alternative but to focus on wholesale business in the interim. Achievement of the sales and profits targets was severely hampered without the necessary funding and I accept the propositions advanced by Counsel that Zhu (and Man if he was ever a party to the Agreement) was discharged from their obligations assumed under clause 3.2.5, by virtue of Propitious’ breach of clause 3.2.3 of the Agreement.
Whether Zhu was in breach of fiduciary/contractual duties
213. The claims against Zhu are rather convoluted.
214. At paragraph 51 and 52 of the SOC, the Plaintiffs claim that Zhu had, in breach of her fiduciary duties:
(1) withdrawn a sum of HK$2.5 million from LCS’ bank account for her own benefit and without LCS’ authorization, on 8 June 2018; and
(2) procured, without LCS’ authorization, the transfer on 7 September 2018 of 2 sums totaling HK$2,290,941.83 to discharge mortgage loans for the Zhu Property (registered in LCS’s name) which under the Agreement was agreed to be her liability to discharge, and not LCS’s.
These comprise the misappropriation claims, and for convenience, they are referred to as the “Unauthorized Transfer Claims ”.
215. At paragraph 65 of the SOC, the Plaintiffs further claim that in breach of the Agreement, Zhu failed to repay the Debts, which were defined at paragraph 20 of the SOC to include: (1) a debt of LCS in the sum of HK$1,325,951.55 (representing a small and medium-sized enterprise loan due from LCS to the bank); (2) further outstanding installment loans of LCS in the sum of HK$1,411,051.50; and (3) a debt of HK$63,820 for a vehicle. This is referred to as the “Debt Claim ”.
The Unauthorized Transfer Claims
216. The Unauthorized Transfer Claim includes the sum of HK$2,290,941.83, and this is related to the Zhu Property. On their pleaded case (in paragraph 52 of the SOC), this sum was transferred from LCS’s account without LCS’ authorization, for the discharge of the mortgage loans for the Zhu Property, despite the fact that it was Zhu who was liable for these debts relating to the Zhu Property.
217. The parties acknowledged and agreed, under clause 3.7.3 of the Agreement, that all the tangible property owned by Zhu prior to the completion of the Agreement would remain the property of Zhu. Such tangible property was identified as the Zhu Property in Annex 8 to the Agreement, stated to be worth HK$3,881,445. On Zhu’s evidence, the Zhu Property had been purchased and financed by her solely, but was registered in the name of LCS of which she was the sole shareholder at the time of acquisition of the property.
218. The Plaintiffs’ own pleading acknowledges (at paragraph 19.9 of the SOC) that it was a term of the Agreement that the Zhu Property under LCS’s name “shall be the property of Zhu”.
219. Despite the clear acknowledgment in clause 3.7.3 of the Agreement and the express acknowledgment in the SOC, Deng who gave evidence on behalf of the Plaintiffs would not accept that the Zhu Property belonged to Zhu, even though Zhu had paid for the property. Deng’s refusal to return the Zhu Property to Zhu was simply that “it was not hers to begin with”, but no explanation has been given as to why this was so. Despite Deng’s assertions to the contrary, Annex 8 to the Agreement on which Deng relies (to assert her opinion and claim that Zhu had made a false statement as to the Zhu Property) only refers to the Zhu Property being “wholly owned” (“全資擁有”) in LCS’s name. There is no representation of the Zhu Property being unencumbered, or there being no outstanding mortgage. From Deng’s claim in testimony that Zhu had misappropriated property or funds of LCS, it would appear that she considered that the Plaintiffs would be entitled to hold on to the Zhu Property as some measure of “self-help”.
220. On Zhu’s case, the sum of HK$2,290,941.83 had been automatically deducted from LCS’s bank account with BOC on 7 September 2018 under pre-existing mortgage arrangements made with BOC, and there was no transfer by Zhu herself.
221. The Zhu Property registered in the name of LCS had (prior to the date of the Agreement) been mortgaged to BOC in July 2017 to obtain one of the two Small Medium Enterprise (“SME ”) loans of HK$2,200,000 for LCS. According to Zhu’s evidence, LCS had to make monthly repayments of approximately HK$30,000 to BOC, and the monthly repayments had throughout been made by autopay, under pre-existing arrangements made with BOC, with monthly deductions from LCS’s BOC bank account. The autopay arrangements had been put in place prior to the execution of the Agreement, and had continued thereafter, to the knowledge of the Investors.
222. According to Zhu, she had contemplated selling the Zhu Property after the completion of the Agreement, but the sale had been postponed or delayed because of lack of co-operation from Deng/the Investors.
223. In late August 2018, BOC informed LCS that because of the substantial funds deposited into LCS’s account after Propitious’ injection of capital and loans, LCS was no longer eligible for the SME loans, which had to be repaid, and that BOC would make the deduction from LCS’s account by way of settlement of the loans.
224. As a result of BOC’s decision to terminate the SME loan facility, there were insufficient funds in LCS’s BOC bank account by the end of August for the deduction to be made by BOC in settlement of the sum of approximately HK$2.3 million required for repayment. Mandy informed Zhu of this, and in turn, Zhu informed Deng and asked Deng to procure the return of Zhu Property to Zhu, so that she could sell the Zhu Property and repay the SME loan, but Deng refused. In any event, as discussed with and proposed by Mandy, Zhu had by 7 September 2018 transferred from her own bank account into LCS’s BOC Account sufficient sums to make up the balance required for BOC’s deduction and repayment. This includes a sum of HK$670,411.50 and a further sum of HK$491,443 (explained below).
225. As for the remaining HK$2.5 million comprising the Unauthorized Transfer Claim, this is related to the receivables of the LCS business. By agreement, LCS’s receivables which accrued before the cut-off date of 23 April 2018 belonged solely to Zhu. The Plaintiffs do not dispute this. On Zhu’s evidence, she had agreed with Xiao at a meeting held before 8 June 2018 that, for easy management and to avoid the inconvenience of Xiao having to make repeated and intermittent payments to Zhu for the receivables payable and due to her, Zhu should withdraw one lump sum of HK$2.5 million from LCS first, and leave the offsetting to be done after all the debts and receivables were settled. Pursuant to such agreement, Mandy gave to Zhu a cheque of LCS for the sum of HK$2.5 million.
226. According to Zhu, Xiao then reneged on the aforesaid agreement, and Zhu was accused of having misappropriated the sum of HK$2.5 million. The dispute was brought to the attention of Deng, and the matter was discussed in the Group Chat. On 24 July 2018, Yang informed Zhu that the receivables to be paid to Zhu had to be supported by detailed particulars of the relevant invoices, and that payment to Zhu would only be made after LCS had actually received the sums concerned.
227. Xiao’s testimony is that after the proper accounting exercise and calculations had been made in respect of the receivables due to Zhu prior to the cut-off sale, Mandy had reported to him that Zhu had already repaid and LCS had received a sum of $491,443, which was the sum that Zhu had been overpaid for the receivables due to her before the cut-off date. This sum was included in the transfers which Zhu had made into LCS’s BOC bank account on 7 September 2018 (as explained and referred to in the preceding paragraphs). Deng claimed in testimony that she had no knowledge of the transfers made by Zhu.
228. On the evidence, as Ms Kong submitted, the allegedly unauthorized transfer of HK$2.5 million has been accounted for and repaid by Zhu, as Xiao acknowledged, and there is nothing to show that LCS has sustained any further loss or damage as a result of the alleged misappropriation.
The Debt Claim
229. In the SOC, the Plaintiffs categorized the Debt Claim as a contractual claim made under the Agreement against Zhu, for her breach of a term to repay the Debts.
230. The Agreement does not in fact contain any term or covenant for Zhu to make repayment of the Debts.
231. The Agreement does provide, under clause 3.8, that all the debts created before the completion of the Agreement were to be borne by Zhu, and that Zhu was to honestly declare LCS’ state of indebtedness prior to the Agreement. Clause 3.8.2 of the Agreement refers to Annex 9, which is the Declaration signed by Zhu dated 1 April 2018. By the Declaration, Zhu stated that up to 31 March 2018, LCS had outstanding debts of: a SME loan of HK$1,325,951.55, an instalment loan of HK$1,411,051.50, and a loan of HK$63,820 in respect of vehicle UL 6038 (collectively referred to as “Outstanding Loans ”).
232. By the Declaration, Zhu stated that the Outstanding Loans were to be borne by the “original LCS”, and had nothing to do with the new shareholder. It can be taken to mean that Zhu accepts the liability for the Outstanding Loans, and she has not retracted from such acknowledgment. She only claimed in her evidence that she had made partial repayment, of the sum of HK$670,411.50 referred to in paragraph 224 above, and that the balance would be repaid when LCS transfers the Zhu Property back to her.
233. There is no pleading in the SOC of any misrepresentation (regarding the Declaration) having been made by Zhu which had induced the Agreement, and there is no claim that LCS or Propitious had paid the Outstanding Loans to the creditors to be entitled to reimbursement by or an indemnity from Zhu, pursuant to the acknowledgment contained in the Declaration.
234. The pleaded claim made against Zhu is on the basis of an implied term of the Agreement, arising as a matter of obvious inference and due to their being necessary for business efficacy, and alternatively on the true construction of the Agreement, that Zhu shall repay the Debts within a reasonable time.
235. Zhu does not in fact dispute her liability for the Outstanding Loans or any unpaid balance thereof, and on her evidence, she had offered to settle the Outstanding Loans in exchange for LCS’s transfer of the Zhu Property to her, but the Plaintiffs had ignored her offer, and at trial, Deng still refused to accept that the Zhu Property belonged to Zhu, as was acknowledged in the Agreement. Deng’s denial that the Zhu Property belongs to Zhu is contradictory to the Plaintiffs’ position. If the Zhu Property is not Zhu’s, but LCS’s, then it is LCS’s liability to pay for the mortgage, and there is no unauthorized transfer by Zhu as claimed in paragraph 52 of the SOC.
236. In respect of the plea that Zhu was in breach of the implied term to repay the Debts within a reasonable time, her failure can be seen on the evidence to be due to Deng’s and LCS’s own refusal to transfer the Zhu Property back to her. To the extent that the Plaintiffs seek any remedy from Zhu for payment of any remaining balance of the Outstanding Loans relating to the Zhu Property, not discharged by the transfers made on 7 September 2018, it is only just and fair for the Court to declare that such payment should be conditional upon the due transfer of the Zhu Property back to Zhu.
Whether 3rd to 6th Defendants are liable as accessories
237. Since my finding is that the Plaintiffs have failed to establish their claims of breach of trust, misappropriation or breach of duties on the part of Zhu and Man, there is no case that the 3rd to 6th Defendants had assisted any breaches, or had received any proceeds with knowledge of any wrongful breaches or acts on the part of Zhu or Man.
Whether Excelco is liable for breach of duty of care
238. The pleaded claim against Excelco (paragraphs 73 to 78 of the SOC) is that as the accountant and auditor for LCS at the material time, Excelco had knowledge that the financial report prepared for LCS for the period from 1 April 2017 to 31 January 2018 (“Financial Report ”) would be submitted to the Investors and would be relied upon by them in considering whether to invest in LCS, and in calculating the contribution to be made by Propitious under the Agreement. According to the Plaintiffs, Excelco had intentionally prepared and audited the Financial Report to show a net profit before tax of HK$1.3 million for the period from 1 April 2017 to 31 January 2018 (“Relevant Period ”), “with knowledge that LCS had not earned any profit at all” (paragraph 74, SOC). The Plaintiffs claim that Excelco was accordingly reckless and/or negligent in preparing the Financial Report and in having them audited, and in breach of its duties of care owed to both LCS and Propitious.
239. In relation to Propitious, it is claimed that its relationship with Excelco was sufficiently close, and alternatively Excelco had assumed responsibility to Propitious, since Excelco had been informed of the Investors’ intention to invest in LCS, and Excelco was aware, or ought to have been aware, that the Financial Report for the Relevant Period would be relied upon by Propitious. It is alleged that Propitious had indeed relied on the Financial Report in its decision to enter into the Agreement upon the terms as to the calculation of the contribution to be made by Propitious, and that Excelco had breached its duty when it knowingly inflated LCS’s profit before tax in the Financial Report to HK$1,307,783, as stated.
240. The considerations for whether a common law duty of care should be imposed are the foreseeability of damage, the proximity of the relationship between the parties, and whether it would be fair, just and reasonable to impose liability (Luen Hing Fat Coating & Finishing Factory Ltd v Waan Chuen Ming (2011) 14 HKCFAR 14).
241. It is admitted in Excelco’s Defence that it provided accounting and bookkeeping services to LCS, and that at all material times, LCS had one Mr Li Man Fai (“Li ”) as its auditor. According to the evidence of Mr Cheung, the director of Excelco (“Cheung ”), Excelco was the corporate secretary of LCS and had provided bookkeeping services to LCS, and further, LCS’s auditing work was entrusted to Li, who had signed and issued the Financial Report. Cheung himself was neither a qualified accountant nor auditor.
242. On Cheung’s evidence, Excelco prepared and compiled LCS’s financial reports such as profit and loss statements and statements of assets and liabilities, on the basis of the documents and data provided by LCS, and Excelco would submit these financial and accounting reports to Li, for auditing. Excelco would also prepare the tax returns for Zhu, the director, to sign on behalf of LCS.
243. Cheung’s evidence is that he was told by Zhu in January 2018 that a potential investor of LCS required an up-to-date financial report for the Relevant Period. He prepared a report, on the basis of the documents and data submitted to him by LCS, and it was prepared as an internal accounting report of LCS. The report was then submitted to Li for auditing. The final Financial Report was prepared by Li and then submitted to Zhu.
244. On its face, the Financial Report was issued and signed by Li. There is no evidence as to whether the Financial Report was in the form of the one which had been prepared by Cheung/Excelco, and no evidence has been adduced of the form of the report which was compiled by Cheung, and submitted to Li for auditing.
245. In Zhu’s witness statement, she explained that in January 2018, Deng had asked her to supply the most up-to-date financial report of LCS, and she had asked Cheung to compile it, and that the Financial Report for the Relevant Period, together with 3 years’ audited financial reports of LCS, were submitted by her to the Investors.
246. According to these financial reports, LCS’s profit after income tax for the years were as follows:
HK$
2014/2/7 – 2015/3/31
162,031.74
2015/4/1 – 2016/3/31
347,485.92
2016/4/1 – 2017/3/31
82,919.13
2017/4/1 – 2018/1/31
1,108,390.57
247. On Zhu’s evidence, Deng and Yang had raised questions with her in early 2018 on LCS’s recorded net profit for the year 2016/2017, of HK$82,919.13. Zhu explained that the net profits of LCS for 2015 and 2016 had substantial growth, and that there were also considerable net profits for 2017. In fact, there was a huge volume of business for the years 2016 and 2017, because there were many purchasers from the Mainland in these years, and there were substantial cash transactions, much more than the years before. At the time, Zhu had wanted to save tax and to purchase a warehouse, and therefore she did not deposit all of the cash proceeds into LCS’ bank accounts. In September 2017, when Zhu purchased the warehouse in the name of LCS (namely the Zhu Property), she had to explain to Cheung that the proceeds came from the cash sales income of LCS in 2016/2017, and Cheung advised and proposed that the cash sales proceeds of LCS should be recorded and reflected in LCS’s financial statements for the year 2017/2018. Zhu pointed out that she had already explained this to Deng, during meetings held in around March 2018, when questions had been raised by the Investors on the accounts and figures for 2016/2017, and she had pointed out that the acquisition of LCS did not have to proceed if the Investors were not satisfied with her explanation, or with the accounts. A WeChat message sent by Zhu on 9 March 2018 in response to a message and queries from Yang corroborates this. According to Zhu, she had explained the treatment of the sales income from 2016/2017 and their inclusion in the figures in 2017/2018 at her meetings and discussions with Deng, and Deng had accepted the situation with the emphatic assurance to Zhu that Deng could make the decision for the Investors, and that the acquisition should proceed.
248. In cross-examination, Cheung accepted Zhu’s account in her witness statement as to the preparation of the Financial Report and his advice on the treatment of the sales figures, as correct. He accepted that it was his advice to Zhu, to record the profits made by LCS in 2016/2017 in the financial period for 2017/2018, instead of taking steps to amend the original financial statements which had been submitted for LCS for the year 2016/2017. In gist, this meant that the net profit of HK$1,108,390.57 recorded in LCS’s Financial Report for the Relevant Period included LCS’s cash income for the year 2016/2017.
249. Cheung accepted in his evidence that the Financial Report did not accurately reflect the correct financial statement of LCS. He also accepted that the Financial Report and data for 2017/2018 were sent to Li for audit, without Li being told of the inclusion of the sales income for 2016/2017 in the figures for 2017/2018. He accepted that the audited Financial Report was prepared on the basis of the financial statements and data Li/Excelco had prepared for LCS. He admitted that the Financial Report would show a vast improvement in the revenue and net profit of LCS for the Relevant Period from 1 April 2017 to 31 January 2018, compared with the figures for the period ending 31 March 2017.
250. Cheung’s only explanation was that the total figures for the 2 years would be the same.
251. On the evidence, despite the fact that Cheung was not a qualified accountant, it is indisputable that he and Excelco had provided services to LCS in the form of preparing financial reports and compiling financial data provided by Zhu. It is admitted that Cheung/Excelco provided a report recording the revenue and profit before and after income tax for the Relevant Period and had provided it to Li for auditing and finalizing the Financial Report, and that the revenue and profit were recorded and represented on the basis of the advice which Cheung had given to Zhu (to record the cash proceeds from sales made in 2016/2017 in the figures for 2017/2018). It is Cheung’s own evidence that he had been informed by Zhu of the potential investment to be made by the Investors, and the purpose for preparing the Financial Report.
252. On the above evidence, I am satisfied that there is sufficient proximity between Excelco and LSC, and between Excelco and Propitious, and that it is reasonably foreseeable to Cheung/Excelco that LSC and Propitious would rely on the Financial Report and would sustain damage if the Financial Report was negligently prepared and was inaccurate as to the statements made therein.
253. It cannot be disputed that on the evidence, the statement made in the Financial Report as to LCS’s revenue and profit for the Relevant Period was incorrect, as they in fact included revenue from the year 2016/2017, and there was no qualification or explanation made in the Financial Report to clarify this.
254. However, on Zhu’s evidence which I accept to be credible, she had explained the figures contained in the Financial Report to Deng, and Deng had accepted her explanation. Hence, I am not satisfied on the available evidence that the Investors had relied on the Financial Report and the statement of the net profit of LCS for 2016/2017 and 2017/2018, when they decided to proceed with the acquisition under the Agreement. I take note of and accept Cheung’s evidence, that the Financial Report does portray the net profit and receivables for the 2 years in question, combined.
255. There is no pleaded claim of misrepresentation, nor of breach of clause 2.2 of the Agreement which deals with the truth of the statement of net profit of HK$1,108,390.51.
Disposition
256. The SOC contains, on the whole, sweeping claims and assertions (examples including all those relating to the Fictitious Transactions, the claim that Zhu and Man had operated or controlled a competing business, and the claim that Excelco had knowledge that LCS had not made any profits at all), without regard to whether there is actual evidence in support. Other claims and assertions made throughout trial and up to Closing were unpleaded and unparticularised in the SOC (examples being Man’s alleged failure to produce the Business Plan, and the “mismanagement” of trust assets by Zhu and Man). This is not consistent with responsible pleading and conduct of proceedings.
257. By reason of the findings made, the conclusion is that the Plaintiffs have not established on a balance of probabilities any of the claims asserted against the Defendants, of breach of contract, breach of fiduciary duties, dishonest assistance, knowing receipt, and negligence. All of such claims are dismissed.
258. I will made an order nisi that the costs of the action are to be paid by the Plaintiffs to the Defendants, with certificate for two Counsel, with liberty to the parties to apply within 14 days for variation of the costs order in the light of the findings made.
(Mimmie Chan)
Judge of the Court of First Instance
High Court
Ms Teresa Wu and Ms Lilian Ip, instructed by Jones Day, for the 1st to 3rd plaintiffs
Ms Cindy Kong and Mr Alan Au, instructed by David Fenn & Co, for the 1st and 2nd defendants
The 4th Defendant was not legally represented since 4 March 2024
The 5th Defendant was not legally represented since 8 June 2021
The 7th Defendant was not legally represented since 8 February 2024