CHAN WING KAM DOMINIC v. HOP SHING LOONG LIGHTING LTD

HCCW 195/2005

IN THE HIGH COURT OF THE

HONG KONG SPECIAL ADMINISTRATIVE REGION

COURT OF FIRST INSTANCE

COMPANIES WINDING-UP PROCEEDINGS NO. 195 OF 2005

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J U D G M E N T

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Introduction

1.  This was the hearing of a winding up petition presented by the Petitioner, Mr Dominic Chan Wing Kam against Hop Shing Loong Lighting Limited (“the Company”).  The petition is based on a debt of HK$1,164,978.41 which the Petitioner alleges is owed to him by the Company.  Despite the service of a statutory demand on the Company in respect of this debt on 3 February 2005, no payment was forthcoming from the Company, resulting in the presentation of the petition on 9 March 2005.

2.  The Petitioner contends that the Company should be wound up pursuant to section 177(1)(d) of the Companies Ordinance (Cap. 32) on the grounds that it is unable to pay its debts and that it is just and equitable that it should be wound up.  Although Mr Bartlett, who appeared for the Petitioner, referred also to section 177(1)(f) of the Ordinance and submitted that it was just and equitable that the Company should be wound up, it seems clear that the real basis for this petition is inability on the Company’s part to pay its debts.  As to this, the Petitioner relies on the deemed inability of the Company to pay its debts as a result of its failure to satisfy the statutory demand, pursuant to section 178(1)(a) of the Ordinance, and further submits that the Company is clearly insolvent.

3.  The Company resists the making of a winding up order.  The parties had initially agreed on the issues which arose for determination, describing these as follows:

(1)	Whether the Company is insolvent or unable to pay its debts;
(2)	Whether the Company has a genuine and serious cross-claim against the Petitioner in HCA 2124 of 2004 (this being an action commenced by the Company against the Petitioner and two other defendants seeking, as against the Petitioner, damages for breach of contract, breach of fiduciary duty, misrepresentation and conspiracy to injure and other relief); and
(3)	whether the discretion to wind up should be exercised, or whether it is just equitable that the Company be wound up.

4.  At the hearing, Mr Ho, appearing for the Company, suggested that all these issues were inter-related, and slightly re-formulated these issues, contending:

(1)	that the Company disputed its liability to the Petitioner bona fide on substantial grounds;
(2)	that, in any event, the Company had cross claims against the Petitioner which were genuine and serious, and which exceeded the amount of his claim against it; and
(3)	that it would not be just and equitable to wind up the Company.

Background

5.  The background to the Petition and the High Court action referred to above is as appears below.

6.  The Petitioner was at one time the controlling shareholder of the Company, which was founded by his father, and which carries on business in the lighting trade.  It does so from rented premises which are owned by a company called Super Profit Limited (“Super Profit”), whose shareholders are members of the Petitioner’s family, or companies in which members of his family are interested.  This property was mortgaged by Super Profit to DBS Bank Limited (“the Bank”) to secure general banking facilities granted to the Company.  In addition to this mortgage, the Petitioner himself had entered into a guarantee in favour of the Bank as further security for such facilities.  It seems that the business of the Company was run by the Petitioner and his brother in law, Mr Thomas Mak Chi Wai (“Mr Mak”).  The Petitioner’s daughter, Ms Leona Chan (“Ms Chan”), was also employed by the Company.

7.  According to the Petitioner, in about 2001 and early 2002, he was hoping to retire from the Company.  As the Company’s recent financial performance had not been particularly good, he hoped to find new investors to invest in the Company and improve its performance.  At this time, the Company had made use of the facilities that had been made available to it to the extent of some HK$19 million.  The Petitioner says that he was introduced to a Mr Ngai Chun Hung (“Mr Ngai”), and that following negotiations, a share subscription agreement (“the Subscription Agreement”), was entered into between Win Success Limited (“Win Success”), a company apparently controlled by Mr Ngai, the Petitioner, the Company and the other shareholders in the Company.  It will be necessary to look at the terms of the Subscription Agreement more closely later in this judgment.  The effect of the Subscription Agreement was that new shares were issued to Win Success, giving it a 70% interest in the Company, in consideration of an injection of capital of some HK$6,810,055.00.

8.  The Petitioner says that having ceded control of the Company to Mr Ngai, he and Super Profit wished (as had all along been their intention) to free themselves and their assets from the security which they had given to the Bank.  When the Company’s performance did not improve as expected, this desire became stronger.  In June 2004, the Petitioner resigned as a director of the Company.  The reasons for his doing so are not relevant to these proceedings.  Having resigned as a director, the Petitioner informed the Bank that he wished to terminate the guarantee which he had given in respect of the Company’s facilities.  Just before the guarantee expired, the Bank made a demand under the guarantee in relation to certain amounts owed by the Company under the facilities, and during August 2004, the Petitioner paid the Bank HK$1,164,978.41, giving rise to the debt on which the petition is based.  The Petitioner says that during September 2004, he paid a further HK$508,474.33 to the Bank, but this amount is not relied upon in the statutory demand or the petition.  At about the same time, Super Profit entered into a sale and purchase agreement in respect of its property from which the Company carried on business.

9.  When the Company learnt of this, it commenced HCA 2124 of 2004 against the Petitioner, Super Profit and Flora Lighting Limited (“Flora Lighting”), a company in which Ms Chan is interested (and in which the Company claims that the Petitioner is also interested), alleging:

(1)	that the (then proposed) sale of the shop premises by Super Profit would result in the termination of the facilities provided by the Bank to the Company, and that the Petitioner had failed to disclose his intention to bring about such a state of affairs to the other parties to the Subscription Agreement prior to its being entered into;
(2)	that by the terms of the Subscription Agreement, the Petitioner had expressly represented, or expressly or impliedly agreed, that he would not cause such facilities to be terminated either until a reasonable time had elapsed (said to be five years) or until the Company no longer required the facilities, and that causing Super Profit to enter into the agreement to sell the property was a breach by the Petitioner of the Subscription Agreement and the representation (although paragraph 11 of the Statement of Claim in HCA 2124 of 2004 speaks of a breach of the representation, it may be that what was intended was to allege that the representation was a misrepresentation).
(3)	that the Petitioner and Ms Chan, in breach of their respective duties as director and employee of the Company (and in the case of the Petitioner, in breach also of the Subscription Agreement) had diverted a business opportunity of the Company’s to Flora Lighting - namely a potential distributorship agreement with a company called Remote Controlled Lighting Limited.  It was alleged that such an agreement had been in the course of negotiation by Ms Chan when she was employed by the Company, but that she (either acting on her own behalf or on behalf of the Petitioner or for both of them) initiated steps to incorporate Flora Lighting shortly before she resigned from her employment with the Company, and diverted the distributorship agreement to Flora Lighting.
(4)	that these matters constituted a conspiracy on the part of the defendants (the Petitioner, Super Profit and Flora Lighting), Ms Chan and Ms Tsui Mee Lin (the directors of Flora Lighting) to injure the Company.

10.  On the basis of these allegations, the Company sought an injunction to prevent the sale of the shop premises by Super Profit (which it claimed was controlled by the Petitioner) and the relief which I have already mentioned against the Petitioner.  The writ in HCA 2124 of 2004 was also registered as a lis pendens against the property, but this was subsequently vacated and the sale went through.  On completion of the sale, a substantial portion of the sale proceeds were retained by the Bank as mortgagee of the property to discharge the Company’s debts to it (which then stood at about HK$26 million).  In consequence, Super Profit, which has appeared as a supporting creditor in respect of the petition, says that it became a creditor of the Company to the extent of some HK$26,635,000.00.

11.  A number of affirmations have been filed by the parties.  The Petitioner has filed four affirmations, together with an affirmation from his solicitor, Mr John Ku.  The Company has filed three affirmations from Mr Mak.  In Mr Mak’s affirmations (in particular his second affirmation), a number of further allegations are made against the Petitioner and Ms Chan.  These include further allegations of diversion of business by Ms Chan away from the Company to Flora Lighting, on the basis of inferences which it is said should be drawn from an alleged drop off in commercial sales made by the Company following Ms Chan’s departure, and the alleged failure of any business to materialise from other projects on which Ms Chan had been working prior to her resignation (particular reference being made to a project in Macau).  It is also alleged that the Petitioner has between about 1999 and 2001 caused the Company to expend some HK$9.9 million for non-operational expenses, which were in reality his personal expenses, and that he should be required to reimburse the Company for this amount.

The Company’s position

12.  Against this background, Mr Ho submitted as follows:

(1)	There was a bona fide dispute of substance as to whether or not the Company owed the Petitioner anything, as the Petitioner was not entitled to demand repayment of this sum from the Company having regard to the fact that he had wrongfully caused the Company’s facilities to be terminated by the Bank.  In support of this contention, Mr Ho relied on:
	(a)	certain warranties contained in Clause 11.1 of the Second Schedule to the Subscription Agreement as giving rise to an express obligation on the part of the Petitioner not to terminate such facilities or to cause them to be terminated, either for so long as the Company required them, or at least for a reasonable time (said to be five years);
	(b)	a submission that such a term was to be implied into the Subscription Agreement; and
	(c)	statements by Mr Mak in his affirmations that he had been told by Mr Ngai that a representation along these lines had been made to him by the Petitioner during the course of negotiations which led to the Subscription Agreement.
(2)		Further, the Company had cross-claims against the Petitioner in respect of:
	(a)	breaches of certain restrictive covenants contained in clause 6 of the Subscription Agreement, and of his fiduciary duties as a director of the Company; and
	(b)	the sums totalling HK$9.9 million odd referred to in paragraph 11 above.
(3)	It could not be said that the Company was unable to pay its debts, in that if it were to succeed in its claims against the Petitioner, it would be able to do so.
(4)	In any event, relying on the just and equitable ground, it would not be just or equitable to wind the company up, having regard to the matters complained of, the close relationship between the Petitioner and Super Profit, and the fact that the Company’s claim in HCA 2124 of 2004 would be stifled by the making of a winding up order against it.

Bona fide dispute of substance - obligation not to cause facilities to be withdrawn

13.  So far as Mr Ho’s first point is concerned, I have some doubt as to whether this can properly be characterised as a dispute as to the alleged debt, or whether it is more properly to be characterised as a cross claim.  It is not disputed that the Petitioner has in fact paid the amount on which the petition debt is based to the Bank pursuant to his obligations to it under the guarantee.  Having done so, he is subrogated to the Bank’s rights against the Company, and becomes a creditor of the Company to the extent of that amount.  The suggestion that he was in breach of his obligations under the Subscription Agreement, or guilty of a misrepresentation, would seem to give rise to a cross-claim, rather than a defence to the claim itself.

14.  However, I do not think that this makes any real difference.  In order to resist a petition on the basis that the petition debt is bona fide disputed on substantial grounds, it is necessary for the Company to establish the existence of a dispute as to the debt by sufficiently precise factual evidence, which is believable.  Where a company relies upon cross-claims as the basis for resisting a winding-up petition, it is necessary for it to show that the cross-claims are genuine and serious and that they exceed the amount of the debt on which the petition is based (see e.g. Re Bayoil SA [1999] 1 Lloyds Rep 211 at 216; Re Landune International Ltd (unreported, HCCW No. 1178 of 2004, 14 July 2005, Kwan J, at paragraphs 26 to 31 of the judgment).  A similar approach to that followed in the case of resistance on the basis that the debt is disputed is to be adopted in relation to the question of whether or not a Company has a genuine and serious cross-claim such as would entitle it to resist a petition against it (see Re ICS Computer Distribution Ltd [1996] 1 HKLR 181 and Re Keen Lloyd Resources Ltd [2004] 2 HKC 33).

Express terms or warranties

15.  So far as the argument that the Subscription Agreement expressly obliged the Petitioner to ensure that the facilities from the Bank remained in place (whether until the Company ceased to need them, or for a lesser, reasonable, period), I am quite unable to see that this provides any substantial grounds for disputing the debt relied upon by the Petitioner.  I say this because:

(1)	The express warranties and representations relied upon are contained in the Second Schedule to the Subscription Agreement.  Clause 4.2 of the Subscription Agreement provides:
	“	In consideration of [Win Success] entering into this Agreement, the Company and [the Petitioner] each warrants and represents to [Win Success] in the terms of [the warranties set out in the Second Schedule].”
	This provides no basis for suggesting that the warranties relied upon were made by the Petitioner to the Company.  On the contrary, they are expressly stated to have been made by both the Petitioner and the Company to Win Success.
(2)	Clause 2 of the Subscription Agreement provides further confirmation of the point made in the preceding sub-paragraph.  That provides that in subscribing for the shares to be allotted to it, Win Success (and not the Company) relies upon the representations and warranties set out in the Subscription Agreement.
(3)	If there were any doubt that the representations and warranties referred to in the Second Schedule were not intended to be relied upon by the Company, confirmation of this can be found in the terms of Clause 6 of the Agreement, which sets out undertakings given by the Petitioner (and Mr Mak) to both the Company and Win Success.  This (and other provisions such as Clause 4.5) makes it clear that where it was intended that the Company should be entitled to rely on a provision of the Subscription Agreement against the Petitioner, this would be expressly stated.
(4)	Quite apart from this difficulty (which is, in my view, insurmountable), the Company is faced with the further difficulty that the terms of the representations and warranties on which it relies do not in fact give rise to the consequence which is asserted.  The relevant provisions are in the following terms:
	“	There are not now outstanding with respect to the Company or to which the Company is a party [Warranty 11.1]:
			Any arrangements contractual or otherwise between the Company and any third party which will or may in accordance with its terms be terminated as a result of any change in the central management or shareholders of the Company or of the sale and purchase provided for in this Agreement or of compliance with any other provision of this Agreement [Warranty 11.1.3];
			Any agreement or arrangement which the Warrantor knows or believes to be invalid or in respect of which there are grounds for its determination rescission avoidance or repudiation (whether by the Company or any other party) [Warranty 11.1.12]; and
			Any agreement or arrangement which involves or is likely to involve obligations or liabilities which by reason of their nature or magnitude ought reasonably to be made known to an intending investor of the Subscription Shares [Warranty 11.1.13].”
(5)	There is no suggestion that the facilities made available by the Bank were capable of termination by the Bank by reason of a change in management or shareholders. Nor is there any basis for supposing that such facilities were invalid, or could be determined, rescinded, avoided or repudiated by the Bank as at the date of the Subscription Agreement. On the contrary, the facilities remained in place for over a year after the Subscription Agreement was entered into. Similarly, there is no basis for suggesting that there was any agreement involving substantial liabilities which ought to have been disclosed.
(6)	This provides a further reason (which is, in my view, equally insurmountable) for concluding that the Company’s contentions as to breach of express terms of the Subscription Agreement in this respect are wholly lacking in substance.

Implied terms or warranties

16.  As for the suggestion that there was an implied term to the effect that the Petitioner should not cause the facilities to be withdrawn for a period of not less than five years, or perhaps indefinitely, I cannot see any basis for implying such a term.  There is nothing in the express terms of the agreement to require such a term to be implied as a matter of necessary implication.  Nor is such a term one which could conceivably be said to be necessary to give business efficacy to the arrangement.

17.  On the contrary, Clause 8 of the Subscription Agreement was an entire agreement clause, which provided that:

“Each party confirms that this Agreement sets out the entire agreement and understanding between the parties in relation to the transactions contemplated and that it supersedes all previous agreements arrangements and understandings between them or any of them with regard to such transactions and that that party is not entering into this Agreement or any of the arrangements contemplated in reliance upon any representation or warranty not expressly set out in this Agreement.”

18.  That clause makes it impossible, in my view, to contend for the existence of the implied terms alleged.

19.  Further, it seems to me that such a term, even if capable of implication, would, like the express warranties referred to above, be more naturally one which would be implied (if at all) as between the Petitioner and Win Success, and not as between the Petitioner and the Company, as would be necessary to enable the Company to take the benefit of it.

20.  I therefore do not consider that the term alleged can be implied into the Subscription Agreement for the benefit of the Company.

Misrepresentations

21.  As for the alleged misrepresentation, the Company’s evidence is that this was made to Mr Ngai, or Win Success.  That being so, it is difficult to see how the Company can rely upon it.  Leaving that difficulty aside, this aspect of the Company’s supposed defence to the Petitioner’s claim against it is also, in my view, entirely precluded by the effect of Clause 8 of the Subscription Agreement.

22.  I am therefore satisfied that Mr Ho’s first point, that the Petitioner’s debt is bona fide disputed on substantial grounds, is not made out.

Cross-claims

23.  As to Mr Ho’s second point, namely the existence of genuine and serious cross-claims exceeding the debt on which the petition is based, the cross-claims asserted fall into two broad parts:

(1)	Claims based on alleged breaches by the Petitioner of clauses 6.1.1, 6.1.2 and 6.1.3 of the Subscription Agreement, or of his fiduciary duty to the Company as its director; and
(2)	Claims based on alleged misuse of the Company’s funds.

Breaches of contract or fiduciary duty

24.  As to the former, it is to be noted that the only alleged breach of such obligations mentioned in the Statement of Claim in HCA 2124 of 2004 relates to a potential distributorship arrangement involving a company called Remote Controlled Lighting Limited.  However, this allegation does not appear to be mentioned in Mr Mak’s affirmations made on behalf of the Company.  Instead, reliance is placed on alleged diversions of the Company’s business to Flora Lighting, which are said to have been effected by the Petitioner.

25.  The fundamental difficulty with these claims is that they are premised on the supposition that the Petitioner is interested in Flora Lighting.  However, there is no evidence put forward by the Company capable of supporting such an inference.  All that the Company is able to point to is the fact that Ms Chan, the Petitioner’s daughter, is a shareholder in Flora Lighting, and that she and his wife are directors of that Company.  The other shareholders of Flora Lighting are a BVI company, and a Mainland Chinese individual.  There is no evidence to connect either of these to the Petitioner.  As against this, the Petitioner has twice stated on affirmation that he has no interest in Flora Lighting.

26.  In these circumstances, whatever suspicions the Company and Mr Mak may harbour as to the role or interest which the Petitioner might have in Flora Lighting, these are not supported by any evidence, let alone the clear and precise evidence that is required in order for the court to be satisfied that the cross-claim relied upon is genuine and serious.

27.  This apart, there is no evidence (let alone clear and precise evidence) that the Petitioner himself has done any acts which could be said to be a breach of any of his obligations.  These obligations were:

(1)	To devote his full time and attention to the business of the Company, and not to participate in any other business (whether or not competitive with that of the Company) as long as he remained a director of it (see Clause 6.1.1 of the Subscription Agreement).  This clause is not referred to in HCA 2124 of 2004.  Moreover, there is nothing to suggest that the Petitioner had failed to devote his full time and attention to the Company up until his resignation in June 2004.  Nor is there anything to suggest that he had participated in another business.
(2)	Not, within one year of his resignation as a director, to solicit any client of the Company, who had been a client in the two years preceding his resignation (see Clause 6.1.2 of the Subscription Agreement).  However, as to this, there is not only no evidence that the Petitioner is connected with Flora Lighting, but there is no evidence that Flora Lighting has in fact serviced former clients of the Company.  The Company’s case as to this, as set out in Mr Mak’s affirmations can best be described as mere speculation and supposition.
(3)	Not to make use of confidential information of the Company during or after the period of his directorship (see Clause 6.1.3 of the Subscription Agreement).  Once again, there is no evidence to suggest that the Petitioner has himself made use of any such information, or any indication of what confidential information has been misused.
(4)	Finally, as to the fiduciary duties which the Petitioner undoubtedly owed to the Company while he was its director, there is once again no evidence to show that he was guilty of any diversion of its business to Flora Lighting.

28.  The Company’s own case in HCA 2124 of 2004 appears to acknowledge that Ms Chan may have acted on her own behalf in setting up Flora Lighting.  Despite over a year having passed since the commencement of those proceedings, no further particulars of alleged breach by the Petitioner of his obligations, or involvement by the Petitioner in the business of Flora Lighting, have been provided.  Although various assertions are made in Mr Mak’s affirmations (on the slenderest of foundations, or none at all) as to possible actions on the part of Ms Chan which might, if done by the Petitioner, be breaches of such obligations or duties, there is no evidential basis put forward for the suggestion that Ms Chan was doing these things on the Petitioner’s behalf.  She herself was under no obligations to the Company of the sort alleged against the Petitioner, being neither a director of the Company, nor subject to contractual non-competition or non-solicitation obligations under her terms of employment with the Company.

29.  I therefore do not consider that a genuine or serious cross-claim has been put forward in relation to any of these matters.

Misuse of the Company’s funds

30.  As to the suggestion that the Petitioner has misused the Company’s funds over a period of some years, this allegation is denied by the Petitioner, who says that while the Company may have made payments in respect of his own expenses over the years, this was part of an arrangement by which his overall remuneration package was dealt with in a manner that was thought likely to provide a more advantageous tax treatment for himself.  He also alleges that Mr Mak’s remuneration package was handled in a similar way. The Petitioner says that this treatment was accepted by the Company and its shareholders, appearing as it did in the Company’s audited accounts, which were approved annually by the shareholders in general meeting.  Although Mr Mak disputes that such approval should be given much weight, he does not appear to deny that his own remuneration was the subject of similar arrangements.

31.  Further, although this allegation was made as early as May 2005, this did not form part of the claim in HCA 2124 of 2004.  Whatever may have been the position in relation to the other cross-claims relied upon, it would seem that these matters must have been known to Mr Mak when those proceedings were commenced.  There is no explanation for the failure to include them, if they were (as is now said) genuine and serious claims.  Even when they were first put forward in Mr Mak’s second affirmation, all that Mr Mak could say was that he was advised that the Company “may” be advised to amend its Statement of Claim in HCA 2124 of 2004 to plead these matters.  Despite this statement, no steps have, it seems, been taken to amend that Statement of Claim, nor has any explanation been proffered for the failure to do so.  In these circumstances, I do not think that this alleged cross-claim can be said to be one which is serious and genuine.

32.  It will be clear from the foregoing that I do not consider that the Company has demonstrated that there is any bona fide dispute of substance as to the Petitioner’s debt, or that it is exceeded by genuine and serious cross-claims against the Petitioner.

Company’s ability to pay its debts

33.  So far as the Company’s financial position is concerned, the Company having failed to meet the statutory demand, it is deemed to be unable to pay its debts, and therefore liable to be wound up.  Quite apart from this, the Company has not put forward any satisfactory evidence as to its financial position.  The figures put forward by it in support of an abortive application for a validation order, properly understood, make it clear that it is operating at a sizeable loss every month.  For the reasons which I have already given, no reliance can be placed on the alleged cross-claims as providing a basis for thinking that the Company should be regarded as solvent, or otherwise able to pay its debts.

Discretion as to whether or not to make winding up order

34.  Finally, I should say that, in my view, Mr Ho’s submission that it would not be just and equitable to wind up the Company is not well founded.  The just and equitable ground under section 177(1)(f) of the Ordinance provides a ground for winding up a company, not a basis for seeking to stave off a winding up order on the basis of supposed justice or equity.  Be that as it may, where, as here, a company is clearly indebted to a Petitioner, has no grounds for suggesting that there is a viable cross-claim, and appears unable to pay its debts, the correct exercise of the court’s discretion would be to make the winding up order sought.  Doing so will not deprive the Company of its ability to assert any claims it may have, whether against the Petitioner or others, as these may be pursued by its liquidator if he thinks they have sufficient merit.

Disposition and costs

35.  I therefore propose to make the usual winding up order with an order nisi  for costs in favour of the Petitioner, such costs to be taxed on the party and party basis if not agreed.