XCHRX METROWELL HOLDINGS LTD. v. EDWARD WONG FINANCE CO. LTD.

HCA 11309/1999

IN THE HIGH COURT OF THE

HONG KONG SPECIAL ADMINISTRATIVE REGION

COURT OF FIRST INSTANCE

ACTION NO. 11309 OF 1999

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J U D G M E N T

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1. On 13 July 1999 the plaintiff was granted ex parte an injunction under which the defendant was ordered to pay the sale proceeds of a property known as 8, Tai Tam Road Hong Kong (the property) after payment in discharge of a first mortgage registered against the title of the property into court or in the alternative into an account jointly held by the parties' solicitors. The plaintiff gave the usual undertaking in damages.

2. On the return date being 23 July 1999 the injunction was discharged and replaced by an undertaking in lieu proffered by the defendant. It included the following order:

"the issue of whether the Defendant shall be required to pay the surplus of the proceeds of sale of the Property (after discharge of the 1st mortgage) into a joint account, and what fortification of the Plaintiff's undertaking as to damages should be required, be adjourned for argument to a date to be fixed in consultation with Counsel's diary but in any event not before 1st October 1999, with half day reserved."

3. Those matters reserved for argument are now before me for determination.

4. The following is a brief history of events.

History

5. Periwin Developments Limited (Periwin) was at all material times the owner and registered proprietor of the property upon which, by 17 April 1997, it was building four separate houses. To raise money to finance the construction it entered into a loan agreement incorporating a legal charge with China State Bank (CSB) of 31 March 1995. I have earlier and shall hereafter refer to this as the first mortgage. That was registered on 28 April 1995.

6. On 17 April 1997 Periwin and the plaintiff entered into an agreement for the sale and purchase of the property. The plaintiff is a company incorporated in Hong Kong in or about 1997 having a share capital of $10,000.00. Its shares are beneficially owned by a Mainland company called Heilongjiang ITIC whose assets exceed RMB$3,255m. It has access to short-term revolving credit with the Hong Kong Bank of up to US$5m. By all accounts the plaintiff was incorporated for the purpose of carrying out real estate investment on behalf of its parent company. This was the first transaction it entered into. Under the agreement completion of the sale and purchase was to take place when the houses were fully built. The agreed price of $291m was to be paid in various stages. Between 27 March and 17 June 1997 the plaintiff paid in terms of the agreement four instalments totalling $87.3m. The instalment paid on 17 June 1997 of $29.1m was in fact paid to Periwin's solicitors to be held by them as stakeholders and was not released to Periwin until 15 October 1997. The agreement was registered on 12 May 1997.

7. Periwin needing further funds for the project approached the defendant for support. The defendant is one of a group of companies incorporated in Hong Kong in 1975. Its principal business is lending money. At all material times it has had net assets in excess of $314m. The defendant agreed to lend Periwin $40m repayable on demand, which advance was secured by second mortgage dated 2 September 1997 and registered on 10 September 1997. I shall call this the second mortgage.

8. During the course of 1998 a dispute arose between Periwin and the plaintiff concerning delays in construction of the houses. Claiming breach of the agreement because the houses were substantially incomplete past the deadline, the plaintiff rescinded the agreement and issued proceedings for the recovery of the deposits paid. Periwin denies being in breach, disputes liability and has filed a counterclaim. These proceedings are pending. They are currently in the discovery phase; they are not ready for trial and no trial date has been fixed.

9. Meanwhile Periwin defaulted under both first and second mortgages.

10. By transfer dated 12 July 1999 the defendant purchased from CSB the first mortgage debt for the full amount due including recovery costs. This came to $88,124,892.00 made up as follows:-

Principal sum	78,000,000.00
Interest to date	9,839,262.00
Recovery costs	285,630.00
	88,124,892.00

11. By letter of 14 June 1999 the defendant's solicitors gave to the plaintiff notice that it was proposing to exercise its power of sale under the second mortgage and put the property up for sale. There was correspondence between the parties with each claiming priority in their respective claims to the proceeds of sale after the amount due under the first mortgage had been cleared. This was not resolved. With a prospective sale pending the plaintiff through its solicitors sought an assurance that in the event of the sale the proceeds after recovery of amounts due under the first mortgage would be held by a stakeholder pending resolution of the dispute. When this was not forthcoming the plaintiff sought and obtained the ex parte order of 13 July 1999 and issued a writ the following day.

12. There have been developments since that order and its substitute of 23 July 1999.

13. On 1 November 1999 the defendant, in its capacity as first mortgagee, sold the four houses to four separate purchasers but with a common beneficiary and all conditional upon each other, for a total of $128m. The purchasers paid a total of $12.8m deposits. Completion was due on 8 March 2000. But the purchasers defaulted. The agreements were terminated. There is a dispute as to who was at fault and there are proceedings. If the defendant is successful it will be entitled to forfeit the deposits and credit that amount against the accrued interest on the first mortgage. By that date, with interest mounting at $32,599.00 per day, the total interest outstanding was over $21m, prospectively to be reduced by credit of the deposits to $6.7m. Of course the interest continues to accrue.

14. Then on 8 September 2000 the defendant sold the houses again, this time for $136m. Deposits of $6.8m have been paid and further amounts of $6.8m are due on 2 January 2001. Completion is due on 2 April 2001. Simple mathematics reveal that no more than $38m will be left to meet the competing claims of the plaintiff of $87.3m and defendant of $40m plus accrued and accruing interest. If the deposits on the first failed sale have to be returned that amount will shrink to $25m.

15. That being the history to date I turn now to the matters I am asked to deal with.

The issues

16. Should the order of 13 July 1999 requiring the defendant to pay into court or to a stakeholder the surplus proceeds of sale be reinstated in the same or like form and, if so, should the plaintiff's undertaking as to damages be fortified?

The Defendant's case

17. It is the defendant's case that the plaintiff should not be entitled to the injunction it seeks; that there should be no tag on the surplus proceeds of sale at all.

18. Mr Chan SC has argued on its behalf that the plaintiff to succeed in its claim against the defendant must first establish that it has a lien over the deposits it paid Periwin. Insofar as there is a live issue as to whether or not it was in breach in rescinding its agreement with Periwin it will have no lien if it does not win that case. Furthermore if it does succeed only the first three instalments paid precede the date the second mortgage came into being to establish priority. The final instalment of $29.1m having been paid to and held by a stakeholder and not released to Periwin until after that date the second mortgagee would have priority in that amount.

19. Mr Chan contends that this being an application for an interlocutory injunction I am bound before exercising my discretion to proceed to ask myself the series of questions laid down in the cornerstone case of American Cyanamid. Whilst conceding there is a serious question to be tried, he says that on the balance of convenience I should not grant the same because even if the plaintiff ultimately succeeds the remedy of damages will provide a sufficient remedy. He quotes from Snells Equity thirteenth edition at paragraph 45-37:

"45-37 (2) BALANCE OF CONVENIENCE. This may have to be dealt with in three stages.

(i) The "governing principle" is that if the claimant would be adequately compensated by an award of damages if he succeeds at the trial, and the defendant would be able to pay them, no injunction should be granted, however strong the claimant's case....."

20. He goes on to say that the plaintiff's rights to a prior claim are uncertain subject to the outcome of litigation which may take months or longer to be resolved. Furthermore, though it seeks to recover $87.3m, only about $38m will be available for distribution after payment of the amount due under the first mortgage. This is an amount well within the capacity of the defendant to find in damages.

21. He says on the facts and in the circumstances of the case the defendant should not be deprived of the use of the sum be it plus or minus $38m for an indefinite period of time where there is no risk to the plaintiff whatever the outcome.

22. If however I am minded to grant the injunction the plaintiff asks for Mr Chan argues that its undertaking in damages should be fortified. Whilst born of wealthy parents there is no evidence that it has any assets beyond a nominal share capital and a very dodgy debt of $87.3m. And the assumption being that this must have been borrowed there is nothing to suggest that it would have the capacity to meet its undertaking in damages. Certainly there would be no obligation of Heilongjiang ITIC for all its wealth to oblige. He submits that any injunction granted should be conditional upon the plaintiff paying into court an amount to equate with what the defendant might expect to recover if it ultimately wins and is awarded damages, namely, what it would have earned had the money been in the pool for investment. The current rate is 2% a month, and that is what he proposes the plaintiff pays into court for as long as the injunction lasts, less 1/2% per month being the likely interest rate that funds paid into court will earn.

The Plaintiff's case

23. Mr Chang SC for the plaintiff argues a different approach altogether. It is his case that the defendant in its capacity as first mortgagee has a statutory obligation to ensure the surplus proceeds of sale are preserved pending the outcome of the dispute in priority of claims between the defendant (in its capacity as second mortgagee) and the plaintiff. Thus the money should be ordered to be paid into court not to provide interlocutory security pending the outcome of a dispute between parties but in exercise of that statutory obligation. That derives from Section 54 of the Conveyancing and Property Ordinance Cap. 219 (CPO) which states:-

"Application of money received.

54

Any money received by a mortgagee or a receiver from the sale or other dealing with the mortgaged land or any security comprised in the mortgage shall be applied to the following priority -

(a) in discharge of all rent, taxes, rates and other outgoings due and affecting the mortgaged land;

(b) unless the mortgaged land is sold subject to a prior incumbrance, in discharge of that prior incumbrance;

(c) in payment of the receiver's lawful remuneration, costs, charges and expenses and all lawful costs and expenses properly incurred in the sale or other dealing;

(d) in payment of mortgage money, interest and costs due under the mortgage,

and any residue shall be paid to the person who, immediately before any sale or other dealing, was entitled to the mortgage land or authorized to give a receipt for the proceeds of the sale of that land."

24. The underlining is mine.

25. It is Mr Chang's contention that after the defendant in its capacity as first mortgagee exercising its power of sale to sell the property has applied the sale proceeds in compliance with sections 54(a), (c) and (d) (54(b) has no application in this case) it has a statutory obligation to pay the residue as aforesaid. In practice this amounts to paying the next mortgagee or chargeholder of which the first mortgagee has notice. Where as in this case there is a dispute as to who is entitled the money should be paid into court. He quotes from Fisher v. Lightwood's Law of Mortgage, tenth edition part V page 396, where the editor was dealing with section 105 Law of Property Act 1925, whose terms essentially match section 54 CPO:-

"Where there are subsequent incumbrances, it has been held that the surplus proceeds should be paid to the incumbrancer next in order, and if the first mortgagee has notice of any subsequent incumbrance, he is liable to any subsequent incumbrancer if he pays the proceeds to the mortgagor....

If there is a dispute as to whether or not there is a subsequent incumbrance, e.g. where the mortgagor contests the validity of the second mortgage the surplus should be paid into court or, if so requested, put on deposit pending a settlement of the dispute."

26. It is Mr Chang's case that subject to the outcome of the Periwin action the plaintiff has priority for the whole of the $87.3m and that includes the $29.1m final instalment. That is because the critical date was that upon which it was paid to Periwin's solicitors, who thereafter were holding the same as agents for Periwin and thereby standing in Periwin's shoes.

27. On the issue of fortification Mr Chang says that the present case is analogous with an interpleader application with both parties claiming entitlement to a fund. It would, he submits, be gravely unjust for one party only to have to furnish security in a fortified undertaking whilst the other did not, particularly in the amount asked for which could amount to as much as $7.2m per annum.

The outcome

28. Although it is not appropriate for me to rule on the merits of the plaintiff's case in its action against Periwin I believe I can say that were it to succeed it will have a proprietary interest in the property by way of a lien over it to secure payment up to $87.3m. Further it seems it could have a high chance of success in its claim that not less than $58.2m of that would be recoverable ahead of the claim by the defendant in its capacity as second mortgagee. (The issue of whether or not the $29.1m has similar priority is academic, given the size of the available fund is likely to be more or less $38m).

29. But does the plaintiff presently have a lien and a proprietary interest? The question was dealt with in the case of Fung Kan Wai & Anor v. Leung Shiu Fat & Ors [1999] 4 HKC 70. Nazareth VP said at p. 76:-

" Mr Sham also seeks to rely on Halsbury's Laws of England (4th Ed. Reissue) Vol 28 para 763 p 388 which recognises that:

A purchaser who has paid a deposit or money on account of the purchase price to the vendor and has then lawfully repudiated his contract has an equitable lien on the vendor's interest in the land agreed to be sold.

However, it can be seen from the authorities cited in support of the statements in that paragraph in particular Whitbread & Co Ltd v Watt [1902] 1 Ch 835 at 915, that:

The lien is created by the contract under which the money is paid as part of the purchase-money, and on the faith that the contract will be carried out, and not by the default of the vendor. The default give rise to the necessity for enforcing the lien, but the lien arises from the contract ... the purchaser has a lien, both when the contract goes off for want of title and when the contract is rescinded under a condition enabling the purchaser to rescind. If the purchaser himself makes default the case is entirely different. If the purchaser makes default in such a way as to deprive himself of any debt at all, he cannot have a lien for that which does not exist.

The lien is the same in effect as if the vendor had executed a mortgage of the property in the purchaser's favour for the amount covered by the lien (Rose v Watson (1864) 10 HL Cas 672; Cabra Estates plc & Ors v Glendower Investments (Chancery Division, 11 November 1992, unreported) per Deputy Judge Roger Kaye QC).

It follows, therefore, that if the purchaser chooses to terminate the contract by repudiation and thereby to disentitle himself to the property, there are no grounds for a lien. That is no injustice to the purchaser, for the lien is created by the contract and exists in support of it, and it is the purchaser who has brought the contract to an end."

30. It follows from the authorities quoted by Nazareth VP that the plaintiff has not yet justified it has a lien and a proprietary interest; only that it has a claim to one, pending the outcome of its case with Periwin.

31. For this reason I do not believe that there is a statutory obligation on the defendant, qua its office of first mortgagee, to pay into court or otherwise pending the outcome of the dispute. I am of the view that that obligation would arise only if and when the plaintiff has won against Periwin.

32. For this reason the defendant as first mortgagee may dispose of the surplus proceeds of sale to itself as second mortgage, subject however to any order already made or that I might make granting the plaintiff injunctive relief.

33. I now return to the first of the two questions I posed under the heading "The issues", namely, should the order of 13 July 1999 requiring the defendant to pay into court or to a stakeholder the surplus proceeds of sale be reinstated in the same or like form?

34. In my view the answer is yes, it should.

35. Reverting to the principles of American Cyanamid I find first there is a serious issue to try. This much is clear cut and there is no dispute. I have already indicated that in my view the plaintiff if it wins in the action against Periwin stands an excellent chance of being entitled to all the surplus proceeds of sale. If that eventuality does arise I do not believe this is a case where the plaintiff could be adequately compensated in damages. Having justified its claim that it has a proprietary interest in the shape of a lien over the property and the first charge over the surplus proceeds of sale it should, I believe, be entitled forthwith to realise on that charge and recover the same. That would not be possible if its remedy was a judgment in damages as an unsecured creditor of the defendant. Whilst I do not doubt the ability of the defendant to meet such an obligation there is no guarantee it could or would immediately liquidate or otherwise raise funds to pay what on any view is a sizeable amount. Thus I believe the plaintiff is entitled to the protection of an injunction freezing the security and this should remain pending resolution of its entitlement to the same or further order, in case the proceedings are not prosecuted diligently. Though I do not presume to anticipate any future order, a judge later seized of the matter might consider undue delay a good enough reason to discharge the order of today.

36. I shall come to the terms of the injunction shortly.

37. There remains the second question, should the plaintiff's undertaking as to damages be fortified?

38. In my view the answer to that is yes, most assuredly.

39. Of course the downside of an injunction securing an asset pending the outcome of litigation is the liability in damages in the event that the suit is lost. How could the plaintiff pay that? Though born of wealthy parents, it stands alone and could not call upon them or any third party to honour its undertaking to pay damages if it loses. Indeed what could happen is that having already lost upwards of $87.3m it might well be abandoned in disgust. But I am inclined not to accept as suitable or appropriate the proposals put forward by Mr Chan. He submits that in the normal course of its business the defendant could earn 24% per annum on its investment capital, and this is what it is likely to be awarded following a successful suit. But historically, successful claimants given judgment for sums of money they have had to wait for are awarded interest at a commercial rate, usually 1 or 2% above prime or the judgment rate. This currently stands at 12 1/2%, and is the starting point I adopt in assessing the quantum of the fortified undertaking. Counsel have told me that 6 1/2% can be earned on moneys paid into court, what I shall call the court rate. Thus the appropriate rate is I believe the judgment rate less the court rate, being 6% per annum.

40. Next I have to assess the prospective duration of the injunction. Given that, on a best case scenario, the surplus funds following sale will not be available before 1 April 2000, it seems to me that a period of 18 months after that date, nearly two years from now, should be more than sufficient time for all issues to be determined.

41. Rounding up the prospective $38m fund to $40m for ease of accounting, I arrive at a figure of $3.6m, the level at which I fix the fortified undertaking. Given that Heilongjiang ITIC has a facility with the Hong Kong Bank it seems that the most suitable course to adopt is for the undertaking to be backed by a bank guarantee.

42. The terms of the order, subject to drafting, now follow. There will be liberty to apply; furthermore the costs order will be nisi at first instance.

43. I am indebted to both senior counsel for the clarity of their submissions.

The Orders

44. On condition that the plaintiff's undertaking incorporated in the order of 13 July 1999 be reinstated, fortified by the guarantee of a bank registered and licensed to do business in Hong Kong in the sum of $3.6m in a form to be agreed by the parties' and the bank's solicitors, it is ordered that :

(1) the defendant will pay the surplus if any of the proceeds of sale of the property after either discharging or making provision for settlement of all moneys due and payable under mortgage registered number 6274323 into an interest bearing account jointly held and administered by the solicitors for the parties; but if they are unable to agree then into an interest bearing account administered by the Court Suitors Fund;

(2) the defendant is henceforth released from its undertaking of 23 July 1999;

(3) this order shall remain in force pending determination of the proceedings between the parties, or order of this court;

(4) there be liberty to apply;

(5) costs of this application and of those reserved on 13 July 1999 and 23 July 1999 be to the plaintiff (to be met by the defendant) taxed if not agreed, with certificate for senior and junior counsel. This order shall be nisi at first instance.