HONESTWIN LTD. v. MEZELY TRADING LTD.

1996, No. A9024

IN THE HIGH COURT OF THE

HONG KONG SPECIAL ADMINISTRATIVE REGION

COURT OF FIRST INSTANCE

ACTION NO. A9024 OF 1996

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J U D G M E N T

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1. The Pacific coast of South America is a source of fish for high protein fishmeal. Peru, in particular, has been a supplier but more recently Ecuador has entered the market. The Plaintiff company has been importing

fishmeal from Peru since about 1993 via a trading company for onward sale and direct transportation to the mainland. The company most frequently used by the Plaintiff to purchase the fishmeal has been Luckmate Commodities Trading Limited.

2. In 1996 the Plaintiff company came to know of the Defendant company through a mutual acquaintance or friend. It was the Plaintiff's practice to trade only with Hong Kong based companies for understandable reasons of reliability and financial security. The fishmeal available was in fact from Ecuador and the price quoted was an attractive one. One of the Defendant's directors, a Mr. Pang, referred to a Mr. Huang as the person in charge of the German company which was to supply the Defendant with the fishmeal. He was the son of a Mr. Huang Di Yan an official in the Bank of China (H.K. and Macau branch). This was equivalent to some form of reference as to the Defendant company's standing.

3. There may well have been some preliminary oral discussions between representatives of the Plaintiff and Defendant companies which ultimately led to an exchange of documents. This is clear from a letter of the 23rd January 1996 from Mr. Sy Shi Kwong to the Plaintiff company (in fact to Mr. Yu the Managing Director). It is apparent from the last part of that letter that some early reservations were expressed as to the actual availability of the goods offered for sale by the Defendant company. The point was made that most quotations put forward have required Letters of Credit to be opened abroad.

4. The Defendant put in its formal quotation on or about the 29th January 1996. The material particulars are -

10,000 metric tonnes Ecuador F.A.Q. Fishmeal

(from)	Ecuador
(Price)	USD552/M.T. C.I.F. F.O. Main port of China.
(Delivery)	30-45 days after acceptance of L/C FP.
(Packing)	50Kg/Bags (in new black polypropylene bags.)
(Inspection)	Quality, quantity, weight by S.G.S. or comparable.
(Payment)	By irrevocable 100% at sight L/C in favour of [Mezely].

5. Following this a draft contract was faxed by the Plaintiff company because a letter of 31st January 1996, faxed by Mr. Pang, stated that when confirmation from the manufacturer and the shipping company had been received that the goods could be shipped before the end of February, then the contract would be returned signed. A few days later (3rd February) Mr. Pang was writing again raising some queries. None of those is wholly clear. The third relates to a statement that in the current agreement of Mezely (which may relate to the Defendant's agreement with its supplier although the formal agreement does not appear to have been entered into until the 6th February 1996) there is no room for any negotiation about the term that shipment should be made 45 days after receipt of a satisfactory Letter of Credit. Apparently Guayaquil was a shallow draught port and for one ship carrying a cargo of 10,000 metric tonnes, loading by lighters would be slow. Instructions for Mezely's intermediary with its suppliers, Mr. Huang, was sought. How that concerned the Plaintiff company is not entirely clear.

6. The contract between Mezely and its supplier, Ledl International, was signed on the 6th February. Its terms are not of strict relevance but since this was a direct shipment from Guayaquil, Ecuador to Dalian on the mainland, there were obviously some features common to both contracts. For example the 10,000 metric tonnes were identified as 200,000 bags each of 50 kgs. There were to be two deliveries effected before the end of March. On the same day Mezely wrote to the Plaintiff company requesting the Letter of Credit be opened stating that loading would be completed by 25th March. (This is to be contrasted with Mezely's contract with its supplier which provided for delivery before the end of March.) The two 5,000 tonne deliveries would arrive at Dalian mid-April. Major term of the Letter of Credit was loading before 30th March with a reference to Mezely's Letter of Credit in favour of its supplier being dated 25th March.

7. The Plaintiff company made an application for a Letter of Credit in favour of Mezely on the 7th February. It incorporated the nine terms of payment (documents available with each shipment) forwarded by Mezely. Mezely had put these forward as the summary of its contract with its supplier. It had in fact erred in respect of the ninth term - with its supplier the term actually read "pre-shipment survey report/certificate issued by S.G.S. in duplicate" where as it was asking the Plaintiff to incorporate it as "...... survey report/certificate issued by C.C.I.B. and counter-signed officially by S.G.S. ......" Mezely soon sent back on the 8th February to the Plaintiff company a note asking for the ninth term to be amended by excluding C.C.I.B.'s involvement - which it had required in the first instance. It raised no other point on the terms.

8. The contract between Honestwin and Mezely was signed on the 10th February. It provided for shipment before the end of March in two loads each of 5,000 metric tonnes. The first instalment was requested before the end of March. The nine terms requested by Mezely were incorporated, the ninth not having yet been amended.

9. It was decided by Honestwin that in view of some reservations the Letter of Credit, instead of covering full payment for the full 10,000 metric tonnes would in fact provide for payment only by instalments. Accordingly on 28th February Honestwin applied for a Letter of Credit to cover the first instalment only. It was identical to the original request in all other respects. At the same time Honestwin sent to its bankers an explanation for the change and gave voice to its concern about the risk, asking it to alert the Defendant's bank, the Bank of Communications, to the need for care in order to minimise the risk.

10. On the same date the Bank of China opened the Letter of Credit for the first instalment. Honestwin wrote to Mezely (again on the same day) pointing out its bank's interest in the details of the supplier and reminding Mezely about the loss which it would face from failure to deliver the goods on time. Honestwin had a contract with a buyer with a delivery date agreed and a deposit accepted. In fact Honestwin's contract with its buyer, Liaozhong, was dated 1st March and the first part of the deposit was banked on the 6th March but it is clear that the details had been agreed beforehand, as one would expect. There was no reply to this communication. It is clear on the face of the document that Mezely had notice for some time of the fact that it was anticipated that losses would flow if it were unable to perform the contract. Furthermore Mezely raised no queries on the second application for the Letter of Credit nor upon the Letter of Credit. The bank had made some minor additions to the request in its Letter of Credit which included a "supervision loading report ... issued and signed by S.G.S. at loading and also indicating name and quantity of commodity vessel's name, date and place of issue and marked 'loading supervision by S.G.S.'"

11. Mezely at the instance of its bank, the Bank of Communications faxed a request for amendments to the Letter of Credit on the 5th March 1996 which was trivial and inconsequential. Nonetheless the Plaintiffs asked their bank to accept most them and this was duly done. There was even some attempt by the Defendants to remove part of a term which specified 100,000 bags with 50 kgs. each which was a nonsense. Mezely had itself specified 10,000 metric tonnes in 50 kilogramme bags. The Letter of Credit provided for the first instalment of half the cargo in 50 kilogramme bags viz. 100,000 bags each of 50 kilogrammes. The Bank of China duly issued an amendment to the Letter of Credit on the 11th March and advised Mezely's bank. Its expiry date was extended to 30th April 1996.

12. Two days later (13th March 1996) Mezely's bank opened a Letter of Credit in favour of its supplier in West Germany. Not until 22nd March did Mezely raise again the matter of the Letter of Credit from Honestwin and suggest that it was unacceptable and on the 26th March, it sent by fax to Honestwin a copy of the terms of its supplier's Letter of Credit, asking Honestwin to arrange for its bank to delete twelve clauses. Honestwin quickly pointed out that of those 12 deletions sought, 10 had in fact been the clauses required by Mezely's own bank, so Honestwin was in no position to do anything about them. However it agreed to ask its bank to delete the remaining two which had been inserted by Honestwin's bank - clause 12 and 14.

13. Clause 12 had been in the original Letter of Credit of 28th February. Although Mezely had raised a number of trivial amendments - including the insertion of a word omitted from the clause, - it had not objected to it. In any event the clause was unobjectionable. The contract itself in Article 10D, E, G and 11F provided for the substance of clause 12. It occasioned no difficulty or surprise.

14. Clause 14 in Mezely's document appears to be related to a "tested telex" sent by the issuing bank to advising bank. I cannot find such a clause in Honestwin's Letter of Credit. There may be some confusion in the Defendant's numbering of the clauses for which it sought amendment. However that term would occasion no problem for any person required to comply with it. It essentially related to the name of the vessel nominated. It could hardly occasion any difficulty for Mezely.

15. In their letter of 20th March to Mezely, Honestwin gave vent to a fear that they had held for some time - that "much fuss" was being made about the Letter of Credit terms to delay purposely delivery or even as an excuse to avoid delivery altogether. The serious "economic and social consequences" of a breach were again stressed.

16. The Plaintiff's request to its bank for the two amendments sought by the Defendant was effectively the end of the contract. The bank declined any amendment. To the Plaintiff it was clear that either the Defendant did not have the fishmeal to supply or it was unable to supply them within the contractual period of delivery. The conduct of the Defendant in relation to the terms of the Letter of Credit which gave rise to the Plaintiff's reasonable fears that the Defendant would not meet its contractual obligations is well evidenced by the documentation. On the 28th March 1996 Honestwin entered into two contracts with Luckmate Commodities, its usual supplier, for the supply of Peruvian fishmeal. The first contract for 3,500 to 5,000 metric tonnes, and the second for 10,000 metric tonnes. This was in order to try and fulfil its own contract to supply Liaozhong, so as to reduce its own liability for any breaches of contract with the mainland buyer. Honestwin then issued proceedings against Mezely.

17. Mezely originally raised in its defence in September 1996 that Honestwin orally agreed to open the Letter of Credit before 18th February 1996, and had failed to do so despite repeated demands and requests. However despite this contention, which is in any event contrary to the documentary evidence, the Defendant agreed to a Letter of Credit for the first 5,000 tonnes which was opened on the 28th February. Their contention was then that the terms of the Letter of Credit did not comply with the terms of the contract and harked back to the Defendant's belated request for amendments with which I have already dealt. The Defendant alleged a repudiation of the contract by the Plaintiff in failing to make the requested amendments, which repudiation it accepted on the 18th April. However it is clear that it did not accept it, (if it was a repudiation) because the Defendant wrote to the Plaintiff on the 20th May 1996 asking if the Plaintiff would amend the Letter of Credit and perform the contract.

18. The defence case was conducted on the basis of this defence until the end of the third day of this trial (which was estimated to last four days). There was then a complete change of legal personnel representing the Defendant. Not surprisingly, Mr. Leo Remedios who took over the reins, found himself in considerable differently as a consequence. He sought to amend the defence and, with the consent of Sir John Swaine S.C., on behalf of the Plaintiff, leave was given. The trial then proceeded to last fourteen days.

19. Before I consider these amendments it is pertinent to consider the original allegations. The beneficiary's certificate was in the Plaintiff's application for the Letter of Credit dated 7th February 1996 which was agreed by the Defendant. The supervision loading report and the requirement for the name of the carrying vessel was part of the Letter of the Credit. It is difficult to see how the Defendant could reasonably have objected to these and had not done so when it requested amendments on the 7th March - it merely requested a minor addition to the former. The requested amendment to make it "CIF FO Dalian, China" was accepted. That relating to the quantity of the fishmeal - metric measurement - was illogical.

20. The Re-Re-Amended Defence now pleaded an oral agreement prior to the written contract between the parties, the essence of which was that the Plaintiff's Letter of Credit was to conform to that issued by the Defendant to its supplier, and that it was to be used as a form of security for the latter. A further oral agreement was alleged to have been made between the parties on the 3rd March. The purported effect of this was that the Defendant's acceptance of the terms of the Letter of Credit, and its use of the Plaintiff's Letter of Credit as "backing" or security for its own Letter of Credit, was dependent or conditional upon its supplier accepting the same. Finally, the Defendant alleges a third oral agreement made on the 26th March 1996 following its supplier's purported rejection of the two additional requirements in the Plaintiff's Letter of Credit. That involved the Plaintiff applying to its bank to amend the Letter of Credit by deleting the two additional requirements. In short the bank did not delete the two requirements and thereby the Defendant alleges that the Plaintiff breached the contract.

21. I heard the evidence of Mr. Yu, the Plaintiff's Managing Director over a number of days. He gave me the impression of being an experienced businessman who knew how this contract had proceeded and what was and was not agreed. He rejected out of hand the three alleged oral agreements save that, in relation to the third alleged agreement, he did agree to ask the Plaintiff's bank to exclude the two requirements. I have no hesitation in accepting his evidence. He was I am sure truthful and careful. He had misgivings about the ability of the Defendant to fulfil this contract from a relatively early stage. No doubt those misgivings stemmed from his bank's reservation. That was why the Letter of Credit was changed to cover an instalment delivery of 5,000 tonnes. I reject the Defendant's suggestion that the change to instalments was brought about by any financial or creditworthy problems on the part of the Plaintiff company in relation to its bank. Such a suggestion is in any event wholly inconsistent with the documentation.

22. By contrast with the evidence of Mr. Yu, I found, I regret to have to say, that of Mr. Pang on behalf of the Defendant, unreliable, evasive and unconvincing. The low water mark of his evidence was a convoluted and quite illogical explanation of a letter from the Defendant company to its bank faxed on the 13th March 1996. This letter with others, emerged late in the trial because the Defendant had failed to give proper and full discovery at the right time. It is quite clear that not only is this letter entirely consistent with the Plaintiff's letter of the 28th February 1996 but, in my view, was actuated by it. Furthermore the Defendant's letter to its bank is quite inconsistent with its argument about the first two oral agreements alleged, and the suggestion that the reason for there being instalments for delivery of the contractual goods was some liquidity problem experienced by the Plaintiff.

23. I have accordingly concluded that the Defendant was in breach of its obligations under the contract with the Plaintiff. The Plaintiff reasonably had some doubts eventually as to whether the Defendant could in fact fulfil the contract. But in reliance upon the Defendant's apparent commercial probity, it contracted to sell on the fishmeal. On the face of it this was a good contract to secure. The price in the market was rising and Ecuadorian fishmeal was cheaper than Peruvian but with the same analysis and content value. It may well be that the Defendant was itself contracting with a genuine supplier but in turn, that supplier may have been encountering difficulties in meeting its contract with the Defendant. Hence the Defendant's preoccupation with seeking some way to extricate itself from its contract with the Plaintiff. Whatever its problems may have been with its supplier, it failed to fulfil its contract with the Plaintiff and was vulnerable to a claim by the Plaintiff for any losses it, in turn, had sustained. The Letter of Credit was opened in good time by the Plaintiff and its terms were reasonable, consistent with the contract, and unobjectionable.

Damages

24. The Plaintiff's claims for loss and damage consequent upon the breach of contract falls under the following headings:

1. The compensation payable to Liaozhong by reason of the failure to meet strictly the terms of its contract with it.

2. The loss and loss of profit flowing from the contracts with Luckmate Commodities in order to supply to Liaozhong.

3. Incidental and consequential bank interest and charges.

1.) The contract with Liaozhong

25. The Defendant knew that the Plaintiff was selling on to a mainland buyer. I accept Mr. Yu's evidence on this and the letter from Honestwin to Mezely of the 28th February 1996 - with its significant sentence "This is what we have talked about right at the beginning" - is conclusive in my view. There was not only no reply, and therefore an implied acceptance of what the Plaintiff set out, but the Defendant wrote to its own bank a fortnight later, that inability to supply the goods "would cause a series of economic loss compensation in the mainland and under ... circumstances where no other new source of supply ... is more reliable." This was unequivocal and as I have stated earlier a letter on which Mr. Pang was found sadly wanting in his attempt to put forward an explanation other than that indicated by its straightforward wording.

26. The delivery date for the contract with Liaozhong was before the 30th April 1996 at Dalian. In other words the contractual date for delivery to Liaozhong was the same as that for Mezely to Honestwin. Hence delivery on that date was crucial.

27. Liaozhong was to pay, and did pay a deposit of RMB10m., a substantial deposit of a little under 20 percent of the contract price. The balance of the purchase price was to be paid within three days of delivery.

28. Not surprisingly the contract contained specific provisions as to compensation in the event of a breach. The seller (Honestwin) was to compensate the buyer (Liaozhong) "for a penalty in the amount up to double the amount of the deposit or ... shall be fined at 10% of the deposit per day of delay." That was the certified translation of the relevant clause. The reference to "penalty" and "fined" reasonably suggested to any reader that this was more than a reasonable quantification of Liaozhong's likely loss. It was certainly draconian in the provision for "up to double the deposit" - i.e. RMB20m. which would be equivalent to 35% of the contract price. Although one could not discount the possibility that the loss suffered by Liaozhong could equate to this sum, as expressed there was certainly a punitive element.

29. However it was clear that although there was an original contract on the 1st March 1996 with this clause, it was superseded by a contract dated the 5th March 1996. At first the written and oral evidence from the Plaintiff's witnesses suggested that this contract replaced the original because the original had been lost. A close examination of the two contracts, and the evidence, made it clear that clause 4 (the compensation clause) was re-written because of uncertainty. The two contracts were identical in their form in Chinese characters in all respects save as to clause 4. The English translation, varied in its use of language but not as to the substance and effect of the other clauses, confirmed this. The changes in clause 4 eliminated the language which referred to any form of penalty. It was more certain for the seller (Honestwin). If it failed to deliver before the 30th April compensation was limited to 10% of the total deposit each day in the event of delay in delivery and where there was total failure, compensation was equivalent to 100% of the deposit (over and above return of the deposit.)

30. In the event there was substantial delay in delivery - 19 days in delivery of 3,600 metric tonnes and 41 days in delivery of 5,000 metric tonnes. Honestwin managed however to negotiate that an overall delay of 19 days would be used as the basis for compensation. The ultimate compromise was an adjustment whereby RMB8m. was deducted from the price paid by Liaozhong and the balance of RMB11m. was to depend on the outcome of Honestwin's action against Mezely. Honestwin's direct actual loss to date on this contract is therefore RMB8m.

31. In this loss of RMB8m. a true quantification of compensation for loss suffered by Liaozhong and what of the "deferred" claim for a further RMB11m.?

32. Having heard expert evidence from two practitioners experienced in mainland contract law, I have come to the following conclusions. There is no significant difference between the two expert opinions advanced. The contract between Honestwin and Liaozhong was subject to Foreign Economic Law.

33. Article 19 of the Law of the People's Republic of China on Economic Contracts involving Foreign Interest stipulates that liability to pay compensation for breach of contract shall be equal to the loss suffered by the other party as a consequence of the breach but it may not exceed the loss which the party responsible for the breach ought to have foreseen at the time of the conclusion of the contract as a possible consequence of the breach.

34. Article 20 covers the position where the parties have agreed in the contract that if one party breaches it, it shall pay a certain amount of damages to the other party; they may also agree the method of quantifying such damages. Where the damages for breach are so quantified they shall be regarded as compensation for the losses consequent upon the breach. However if one party contends that the agreed damages are for more or for less than is necessary to compensate for the breach, then that party may request a court or arbitration body to reduce or increase them accordingly.

35. It is agreed that this law applies to contracts made involving Hong Kong Special Administrative Region interest.

36. Article 37 is of significance in the application of this law to this contract. It reflects sound common law thinking:

"Any disputes arising from a contract ought to be settled by the parties if possible, through consultations or mediation of a third party."

37. Professor Wang's evidence confirmed that where the contract contains a provision as to the compensation payable there is a presumption that the two parties have agreed upon the compensation in the event of a breach. The parties' attempts to compromise are factors to be taken into consideration by any court or arbitral body which had been asked to review the question of compensation. The fact that a payment has already been made pursuant to a compromise is another factor to be considered. There is, as one would expect and properly interpret from article 37, a general principle of encouraging compromise.

38. The fact that in the second contract (5th March 1996) a new clause 4 was in effect substituted, the remainder of the contractual terms being unaltered, is good evidence that the parties applied their minds to achieving a degree of certainty and reasonableness in respect of compensation. Words suggesting "penalty" were excluded. The re-drafted clause made it clear for the sellers (Honestwin) what was regarded as the consequential compensation.

39. At a later stage the parties came to a further agreement following the delay in delivery and the understandable refusal of Liaozhong to accept late delivery for the final quantity (1,400 tons) - the market had dropped significantly. The result of that was a deduction of RMB8m. from the contract price as compensation with the remaining RMB11m. to be paid if Honestwin were able to recover it from Mezely. Not to be overlooked is the fact that Honestwin had been able to negotiate the compensation down to RMB19m. in the first instance even though the delay in delivery would have entitled Liaozhong, on a strict application of clause 4 to have demanded a much higher figure.

40. I have no doubt that Honestwin had done their best to keep the compensation payable - and paid - by them to an absolute minimum. Given these three specific efforts to reduce the compensation I am satisfied that a court or arbitration body, applying articles 19, 20 and 37 would not have interfered with the final result and would have given recognition to the parties attempts to agree upon a proper figure.

41. In my view RMB8m. can safely and properly be regarded as compensation within the ambit of the Foreign Economic Contract Law. I have considered the classic statements in R. & H. Hall Ltd v. W.H. Pim & Co. [1928] A.E.R. (at Pp.768-770); and Koufos v. Czarnikow [1969] 1. A.C. (applying Hadley v. Baxendale [1854] 9. Exch. 341) Pp. 388, 406, 415-416 & 424-425. Sir John Swaine S.C. does not seek to argue as to the deferred RMB11m.

42. The Defendant sought to challenge the legality of the contract between Honestwin and Liaozhong on the basis that the payment provided for was in breach of exchange control law. Although this was never pleaded in the defence (which had been amended on three occasions already) that would not have been fatal to the contention. More importantly the matter was never put to Mr. Yu, nor was any statement filed or served in relation to it until late in the trial. I declined to order the recall of Mr. Yu for him to be further cross-examined. There was no substance in the point.

2(a) The contract with Luckmate Commodities

43. As seen Honestwin had to contract with Luckmate in order to meet its obligations to Liaozhong. It had to pay more than it was contracted to pay to Mezely, in initially a rising market. Originally it contracted to purchase a further delivery of 4,835 metric tonnes in order to complete its contract to supply 10,000 metric tonnes to Liaozhong - it had supplied 8,600 metric tonnes but in order to be able to supply the balance of 1,400 metric tonnes it needed to contract with Luckmate for a full shipment. Liaozhong eventually dispensed with the balance and Honestwin was likely to be left with the full shipment to dispose of. The market was probably by then on the wane.

44. Honestwin had paid a deposit of $305,000 to Luckmate to secure this final shipment. It was hoping to sell the balance on the market. It decided to cancel the shipment. This was a prudent course given that there was no market for any part of the shipment other than possibly one which involved a significant loss. It was able to negotiate a return of part of the deposit paid to Luckmate leaving a net loss of US$200,000 to which is to be added the charges of Luckmate on the sum of US$1,206-85. Applying the same principles I am satisfied the sum paid to Luckmate was reasonable compensation. As a check it reflects a loss of profit of just over US$41 per metric tonne for Luckmate, without having to consider any other item of loss.

2(b) Loss of profit on sale to Liaozhong

45. In relation to the 8,600 metric tonnes which Liaozhong accepted, the loss to the Plaintiff of profit was US$606,800. This follows the mathematical calculation set out in paragraph 10(1) of the Re-Amended Statement of Claim, supported by the contractual documents.

46. It was unable to sell 1,400 metric tonnes - the balance cancelled by Liaozhong and so profit was lost on that in the sum of US$185,500. Again this is the figure pleaded in paragraph 10(1A) of the Re-Amended Statement of Claim and supported by the documentation.

47. The overall loss under this head is therefore US$792,300. This is a direct loss as a consequence of the Defendant's breach of contract and I am satisfied on the evidence that the Plaintiff acted reasonably to meet its obligations, and to mitigate its losses.

3.) Bank charges and interest

48. These relate to the Letters of Credit opened to pay Luckmate Commodities for the two deliveries. The negotiations with Liaozhong was not concluded until August and therefore Honestwin was not in a position to repay the bank until mid-July in the first instance and early September in the second. The total paid to the bank was HK$957,849. This was a direct loss flowing from the Defendant's breach.

Summary

The losses are thus:

1.	Compensation to Liaozhong	RMB8m.
2a)	Compensation and charges to Luckmate	US$201,206-85
2b)	Loss of profit	US$792,300
3.	Bank charges and interest	HK$957,849

The conversion rate of RMB to the HK dollar is 1.068. RMB8m. is therefore HKD7,490,636.70.

The conversion rate of US$ to the HK dollar is 7.74. US$993,506.85 is therefore HKD7,689,743.

There will therefore be judgment for the Plaintiff for HKD16,138,228 with interest and costs to be taxed if not agreed. The Defendant's counterclaim is dismissed with costs to be taxed if not agreed.