Holake (Hong Kong) Ltd. v. Holiday Resorts (Management) Co. Ltd.

DCCJ13702/2000

IN THE DISTRICT COURT OF THE

HONG KONG SPECIAL ADMINISTRATIVE REGION

CIVIL ACTION NO. 13702 OF 2000

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Reasons for Decision

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The Plaintiff is a lift maintenance service company. The Defendant was the management company appointed by the Deed of Mutual Covenant ("the DMC") of the property development better known as the Sea Ranch ("the Sea Ranch") until 10 December 1999; but the Defendant maintained elsewhere that its appointment under the DMC had not been validly terminated. The Third Party, obviously, is the owners incorporated of the Sea Ranch. In this action, the Plaintiff sues the Defendant for $62,520.00 being charges under a Lift Maintenance Contract dated 5 March 1999 ("the Lift Maintenance Agreement") between the Plaintiff and the Defendant for maintenance of lifts of the Sea Ranch. The Defendant, in turn, joins the Third Party for indemnity of the Defendant's liability towards the Plaintiff.

2. The court's file shows that the Defendant is contesting liability vis-a-vis the Plaintiff. Although summary judgment has been given against the Defendant in favour of the Plaintiff, I have been given to understand that the Defendant is appealing to the Court of Appeal against the summary judgment. At this juncture, therefore, it would seem that the Defendant is proceeding with undue haste against the Third Party for summary judgment under Order 16 rule 4 of the Rules of the District Court, Cap. 336. Nevertheless, the Defendant's application for Order 16 judgment was heard by me on 31 January 2001. On that occasion, I decided that it was not appropriate to give judgment as sought; instead I gave orders for directions. Before I could hand down reasons for my decision made on 31 January 2001, the Defendant applied for leave to appeal against that decision of mine. Hence I am here giving reasons for refusing Order 16 judgment and for giving leave to appeal.

3. The Defendant's case against the Third Party was based on Clause 7 (d) in the DMC ("the indemnity clause") which reads:-

"...... and the owners shall fully and effectually indemnify the Management Company from and against all actions proceedings, claims and demands whatsoever arising directly or indirectly out of or in connection with the management of the said land and the said Sea Ranch and the operation of the ferry services or any act, deed, matter or thing done or omitted as aforesaid and all costs and expenses in connection therewith and not involving criminal liability, dishonestly or wilful negligence on the party of the Management Company."

4. At the time of the hearing on 31 January 2001 on the Order 16 summons, the Third Party had not yet filed a proper Defence to the Third Party Notice. All I had were murmurs of "foul!" in affirmations ("the affirmations") filed on behalf of the Third Party in opposition to the Order 16 summons.

5. I regret to say that those who prepared the Third Party's case did not and still do not appear to grasp the issues at hand. They raised a number of matters in the affirmations. Quite a few of them are plainly irrelevant or pointless as answers to the Defendant's case against the Third Party and I shall leave them alone. Then there are the following matters mentioned in the affirmations:-

(i) the Defendant had not informed the Third Party before committing on the Lift Maintenance Agreement;

(ii) the Defendant had not submitted a budget (including provision for charges under the Lift Maintenance Agreement) for approval by the Third Party;

(iii) the Defendant refused to hand over or allow the Third Party to inspect the books relating to the management expenses of Sea Range;

(iv) the Defendant, under another arrangement unrelated to lift maintenance, collected a large amount ($421,288 + 134,882 + 145,749 +124,602 = $826,521) of contributions from the individual owners of Sea Ranch for a ferry service but did not pay the ferry company, thus the Third Party is facing a claim for $950,000 from the ferry company;

(v) the Defendant paid to Messrs. M.K. Lam & Co., solicitors (those acting for the Defendant in the present proceedings) $851,155 being legal costs and disbursements for services rendered by that firm; Mr. Andrew Kam, a partner of that firm, is or was also a director of the Defendant;

(vi) the Defendant's management accounts were qualified by auditors;

(vii) the Defendant was not a contracting party to the Lift Maintenance Agreement.

6. The Defendant contended that the matters in (i) to (vii) above were irrelevant and not valid defences to the Defendant's claim for indemnity against the Third Party under the indemnity clause in the DMC.

7. In my view, it is a matter of mixed law and fact as to whether the Defendant could make commitments on behalf of the Third Party in each particular instance concerning the maintenance of or services to common areas and common facilities at the Sea Ranch. Certainly, it was open to the Third Party to plead in a proper Defence that Clause 7 (d) does not have the effect as contended by the Defendant and that certain conditions have to be met. If the Third Party would so plead the court would be bound to hold a trial to ascertain the pertinent facts and determine whether requisite conditions have been met.

8. Now, assuming that the Defendant would be ordinarily entitled to complete and unquestionable indemnity under Clause 7 (d), it was open to the Third Party to plead in a proper Defence that the Defendant had been put in funds (by way of management fees paid) for the charges for which the Plaintiff is suing the Defendant and that it was the Defendant's own failure or refusal to pay those charges. Success of such defence would, of course, very much depend on thorough investigation of the accounts to which the Third Party said it did not have access as a result of denial by the Defendant. Nevertheless, it would be a good defence based on facts to be determined.

9. The Defendant produced some management accounts to show that there was a large deficit and hence it could not pay. In answer to this, all that the Third Party had to show by affidavit evidence (to be supported by pleadings in due course) was that the management accounts were suspect and that, possibly, the Defendant misappropriated management funds. Indeed, there were, before me on 31 January 2001, evidence tending to show financial irregularities.

10. First, in paragraph 12 of the affirmation by Madam Leung Lo Ming filed on 4 December 2000 on behalf of the Defendant, it is admitted that $950,000 were owed to ferry operators. The actual demand from the ferry operators (letter dated 18 September 1998) was for ferry hire charges from 1 April 1998 to 31 August 1998 totalling $950,000. The management accounts produced by the Defendant for 1 March 1998 to 31 August 1998 show that, during those months, there was a monthly deficit but the deficit was not so large that partial payment to the ferry operators could not be made. In the absence of any explanation in the affidavit evidence filed on behalf the Defendant, I could not and still cannot see why the Defendant paid no ferry charges at all for the months of April to August 1998 inclusive! Mr. Kam for the Defendant tried to brush this matter aside by saying that the ferry service account was a separate account. With respect, the point is that when there is prima facie evidence of missing funds, albeit under another account, and when the Defendant refused to produce the books and supporting accounting records (not just written up monthly or yearly accounts) of the management accounts of Sea Ranch, the Third Party would be entitled to at least put the Defendant to strict proof that the management fees collected by the Defendant were not sufficient to cover outgoings such as lift maintenance charges. In a case like this, a Defence calling for strict proof is as potent as it can be.

11. The second piece of evidence tending to show financial irregularity comes from the auditor's report dated 11 November 1998 on the Defendant's annual accounts for the year ended 31 March 1998. There, the auditors noted that:-

"Qualified opinion arising from limitation of audit scope

Except for any adjustments that might have been found to be necessary had we been able to obtain sufficient evidence concerning accounts receivable, in our opinion the financial statements give a true and fair view, in all material respects of the state of the company's affairs as at 31st March, 1998 and of its loss for the year then ended and have been properly prepared in accordance with the Companies Ordinance.

In respect alone of the limitation on our work relating to accounts receivable:-

- we have not obtained all the information and explanation that we considered necessary for the purpose of our audit; and

- we were unable to determine whether proper books of account had been kept in respect of accounts receivable.

 

	GLASS RADCLIFF CHAN & WEE
	Certified Public Accountants"

12. The third piece of evidence tending to show financial irregularity comes from the auditors' report dated 12 November 1999 on the Defendant's annual accounts for the year ended 31 March 1999. There, the auditors noted that:-

"Qualified opinion arising from disagreement about accounting treatment

Included in the accounts receivable shown on the balance sheet are management fees receivable of HKD2,143,000 due from owners which have been outstanding for more than two years. Various legal actions have been taken between the owners and the company, the final outcome of which is not certain. Should these management fees be irrecoverable, a full provision for this amount would have to be made in the owners' account.

Furthermore, according to Chapter 344 of Building Management Ordinance Section 34L, no provision in a deed of mutual covenant or other agreement shall operate to entitle the manager of any building to be indemnified by the owners of the flats in that building in respect of any legal costs, charges; expenses or fees relating to any civil or criminal proceedings (whether successful or otherwise) between or in respect of that manager and those owners and any such provision shall be void and of no effect. As the company has recorded in owners' accounts legal and professional fees amounting to HKD829,820, the majority of which represented reimbursement of Counsel fees, court fees and draftsman fees incurred for the recovery of management fees, a liability of the company may exist in this respect. No provision for such a contingent liability has been made in the financial statements.

Except for the absence of the above mentioned provisions, in our opinion the financial statements give a true and fair view, in all material respects, of the state of the company's affairs as at 31st March, 1999 and of its profit for the year then ended and have been properly prepared in accordance with the Companies Ordinance.

 

	GLASS RADCLIFF CHAN & WEE
	Certified Public Accountants"

13. A can of worms immediately appeared when I looked at the audited annual accounts of the Defendant. For instance, payment of $829,820 as legal costs in the year ended 31 March 1999 is an item in the corporate accounts of the Defendant. Paragraph 14 of the affirmation by Madam Leung Lo Ming I have referred to reads:-

"As stated in the Directors' Report of the Defendant for the year ended 31st March 1999, during the year the Defendant paid legal and professional fees from the owners account of HKD851,155.00 to M.K. Lam & Company of which HKD829,820.00 represented reimbursement of Counsel fees, court fees and draftsman fees incurred for the recovery of management fees due from certain owners. Such legal actions were taken by the Defendant against the defaulting owners of the Sea Ranch with the Deed of Mutual Covenant."

The auditors have, of course, noted that the Defendant could not rely on any indemnity clause in the DMC to appropriate funds from the Sea Ranch management account for legal expenses and remarked that "a liability may exist in this respect". In other words, the Defendant prima facie misapplied $829,820! $829,820 is more than enough to discharge the amount being sued for by the Plaintiff! Hence, the Defendant's claim for indemnity, on evidence originated from the Defendant, is hardly justified. I need not go on to other instances of probable impropriety that were on the evidence patently begging inquiry. Put simply, there would be a hell of a trial once the factual and legal issues have been properly framed.

14. Last but not the least, the Defendant can only obtain indemnity if it was a proper expenditure incurred by the Defendant. The bizarre thing is that in the Defendant's evidence filed to oppose the Plaintiff's application for Order 14 judgment, the Defendant stated that the Plaintiff never treated the Defendant as a contracting party to the Lift Management Agreement. Paragraph 3 of the Affirmation of Madam Leung Lo Ming filed on 9th February 2001 reads:-

"The Plaintiff had rejected the Defendant's offer for settlement, and by letter dated 26th January 2000 indeed gave notice of termination of the agreement for the lift maintenance service specifically to Holiday Resorts (H.K.) Limited and not to the Defendant thereby evincing that the Plaintiff had never treated the Defendant as the contractual party to the said agreement. Now produced and shown to me marked "DL-3" is a copy of the said letter."

In fact, the contracting party named in the Lift Maintenance Agreement was Holiday Resorts (Management) Limited but the signatory was Holiday Resorts (Management) Co. Ltd. Mr. Kam for the Defendant said that there was a clear clerical error in the Lift Maintenance Agreement. Having been through the muddled management accounts, I may be forgiven for not being able to see as clearly as Mr. Kam wanted me to see. I considered the identity of the contracting/liable party under the Lift Maintenance Agreement would be an issue for trial too.

15. For the reasons outline above, on 31 January 2001, I refused to give judgment for the Defendant. Instead, I gave leave to the Third Party to file and serve a proper Defence. I did also on that occasion hint to solicitors for the Third Party that they ought to obtain a higher standard of professionalism in the conduct of the Third Party's case. I did not, however, tell them in explicit terms how the Third Party's case could be pleaded on the materials already available.

16. When the parties came before me on 6th March 2001 on the Defendant's application for leave to appeal against my decision of 31 January 2001, the Third Party had filed and served its Defence to the Third Party Notice and Counterclaim against the Defendant. I regret to say that that piece of pleading is a disappointment and does not really further the Third Party's cause. I could not discern from the Defence filed on behalf of the Third Party a solid answer to the claim by the Defendant. The Third Party's potential case has not been particularly and effectively pleaded in the subsequent Defence. Whereas the court has a paramount duty to see that justice will be done, the court cannot foist upon the Third Party grounds of defence which the Third Party does appear to want to continue to reply upon. In the circumstances, I felt that the only proper thing for me to do was to give leave to appeal and order costs of the application for leave be costs in the appeal. So I did.