TANG YANG v. QIU SHICHANG

DCCJ 2922/2022

[2024] HKDC 2086

IN THE DISTRICT COURT OF THE

HONG KONG SPECIAL ADMINISTRATIVE REGION

CIVIL ACTION NO 2922 OF 2022

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JUDGMENT

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A.  INTRODUCTION

1.  This is the Plaintiff’s claim against the Defendant for breach of the provisional agreement for sale and purchase of the entire share capital of a BVI company called Pacificape Limited (“Company”) dated 17 March 2021 (“Agreement”).

B.  BACKGROUND

2.  There is no serious disagreement on the facts of the present case which can be summarized as follows.

3.  At the material time, the Defendant was the sole director and sole shareholder of the Company.  The Company was incorporated in BVI on 11 January 2011.  It was not a registered non-Hong Kong company under Companies Ordinance (Cap 622) until 23 November 2021.

4.  In June 2012, the Company acquired a property known as Flat B on 8/F and Car Parking Space No 222 on Lower Ground 2 Floor, Crown By The Sea, 3 Tsing Yung Street, Tuen Mun, New Territories (“Property”). Since acquisition, the Company has rented out the Property and the rental income received by the Company up to 31 March 2021 was in the sum of $1,341,650.

5.  On 17 March 2021, the Plaintiff and the Defendant entered into the Agreement whereby the Plaintiff agreed to purchase, and the Defendant agreed to sell, the entire issued share capital of the Company for the consideration of $12,680,000.  Pursuant to clause 1(a) of the Agreement, the Plaintiff paid an initial deposit of $634,000 to the Defendant.

6.  Insofar as relevant to the present case, the Agreement contains the following express terms:-

(a)  Clause 1(b): The Purchaser shall enter into a formal agreement in such form as prepared by the Vendor’s solicitors on or before 19 April 2021 upon which the Purchaser shall pay a further deposit of $634,000;

(b)  Clause 1(c): Completion shall take place at the office of the Vendor’s Solicitors on 19 July 2021 (“Completion Date”) at or before 4 p.m. upon which the Purchaser shall pay the balance of the purchase price;

(c)  Clause 2: The Vendor warrants and undertakes to the Purchaser that Company is not liable to any loan or debt liability, and it is not involved whether as plaintiff or defendant or otherwise in any court proceedings and no such proceedings are threatened or pending.  The Vendor further warrants that he shall be responsible for any liability as a result of or in connection with any such loan or debt liability or proceedings incurred as aforesaid on or before the Completion Date;

(d)  Clause 5(e): The Vendor warrants and undertakes to the Purchaser that on completion, the Company shall not be liable to any debt commitment, or involved in any legal proceedings or dispute in tax liability, or violate any law or any rule or regulation of any governmental body affecting any of the Company;

(e)  Clause 5(f): The Vendor warrants and undertakes to the Purchaser that the Company has always been in compliance to supply all its relevant records and document to any competent authority as required by the current legislation, rule and regulation;

(f)  Clause 8: Should the Vendor fail to complete the sale and purchase of the shares of the Company in accordance with the Agreement, the Vendor shall immediately compensate the Purchaser with a refund of the deposits together with a sum equivalent to the amount of the initial deposit as liquidated damages; and the Vendor and the Purchaser agree that neither party shall be entitled to take any action to claim against the other for damages or for specific performance or other relief of whatever nature in relation thereto under the Agreement or otherwise at law;

(g)  Clause 9: Should the Purchaser fail to complete the sale and purchase of the shares of the Company in accordance with the Agreement, all deposits shall be forfeited to the Vendor; and the Vendor and the Purchaser agree that neither party shall be entitled to take any action to claim against the other for damages or for specific performance or other relief of whatever nature in relation thereto under the Agreement or otherwise at law;

(h)  Clause 13: Unless otherwise specified therein, time shall in every respect be of the essence of the Agreement.

7.  On 23 March 2021, the Plaintiff’s solicitors Messrs Johnny K K Leung & Co (“JKKL”) sent a letter to the Defendant’s solicitors Messrs H Y Leung & Co (“HYLC”) recapping the gist of the Agreement and requesting the Defendant to provide various documents such as the Company’s audited accounts, tax computation, management accounts, etc.

8.  On 14 April 2021, JKKL sent an email to HYLC among others asking for outstanding documents and information for due diligence.  It was stated in the said email that the Plaintiff was “ready and willing to proceed with the sale and purchase subject to the satisfactory due diligence review” (underlining added).

9.  The parties did not enter into a formal agreement in accordance with clause 1(b) of the Agreement but the Defendant did pay the further deposit of $634,000 to the Defendant on 19 April 2021 (which, together with the initial deposit of $634,000 paid on 17 March 2021, is collectively referred to as the “Deposit”).

10.  Since no formal agreement was signed, the transaction proceeded on the basis of the Agreement.

11.  On 24 May 2021, JKKL sent an email to HYLC emphasizing that they were still waiting for various documents including the audited account and management account of the Company from date of incorporation for “due diligence purposes”.

12.  On 31 May 2021, JKKL sent a reminder to HYLC urging for a reply to their earlier email of 24 May 2021. HYLC replied JKKL by email on the same date stating that they were in the process of requesting title deeds and documents of the Property from the mortgagee bank and the Company’s account “are being prepared” and they would let JKKL have the same “for [their] review soonest possible”.

13.  On 7 July 2021, HYLC emailed JKKL stating that, according to the accounting documents provided by the Defendant, there was limited information and insufficient data for the period before 2015 and expected that there would be qualified opinion on the opening balances brought forward.  HYLC asked if the audited accounts of the Company from incorporation date to the Completion Date was necessary for completion.  If they were needed, JKKL were reminded of “the account’s limitation and potential qualification as mentioned”.

14.  On 9 July 2021, JKKL sent an email to HYLC noting the Defendant’s position on qualified opinion and requested for the Company’s latest management account for consideration.  JKKL confirmed that they needed audited accounts “from incorporation up to present”.

15.  On 14 July 2021, JKKL sent an email to HYLC among others putting on record that “up to the date of this email, no management account or audited account have been provided to us for due diligence purposes.” (underlining added).

16.  No completion took place on 19 July 2021.

17.  On 21 July 2021, HYLC sent an email to JKKL enclosing the Company’s unaudited management accounts.

18.  On the same date, JKKL sent an email to HYLC informing D of the problems revealed during due diligence investigation, namely:-

(a)  The Company had received income from renting out the Property since 2017 and ought to have applied for a valid business registration certificate in compliance with s5(1) of the Business Registration Ordinance (Cap 310);

(b)  The Company was deemed to have established a place of business in Hong Kong by reason of renting out the Property and receiving income therefrom but was not registered as a non-Hong Kong company, in contravention of s776 of the Companies Ordinance (Cap 622); and

(c)  The Defendant was required to provide tax computation prepared by auditor for the financial year ended 31 March 2017 up to 31 March 2021 so as to ascertain whether profit tax was payable for each of these financial years.

19.  On 26 July 2021, HYLC replied to JKKL stating among others that D was “in the process of applying for business registration certificate and registration as a registered non-Hong Kong company for the Company” and attaching thereto the draft profits tax computation for reference.

20.  On 28 July 2021, HYLC sent an email to JKKL attaching draft and unsigned audited financial statements for the year ended 31 March 2015 to 31 March 2021 and the preliminary management accounts of the Company for completion purpose.

21.  On 4 August 2021, HYLC sent an email to JKKL proposing a post-completion arrangement, whereby the Defendant would be “willing to apply for a business registration certificate and registration as a registered non-Hong Kong company for the Company”, and to “put sufficient security money to be stakeheld by us for payment of any liabilities which may arise after completion in respect of any breaches by the Company of the Business Registration Ordinance (Cap 310) and Companies Ordinance (Cap 622). In the event that no such liabilities arise within a certain number of months (to be mutually agreed) from the completion date, we can release the security money in full to our client. In addition, in view of the present situation, we foresee that the audited accounts of the Company can only be delivered after completion” (underlining added).

22.  On 5 August 2021, JKKL sent a letter to HYLC rejecting the proposed post-completion arrangement, putting on record that the Defendant failed and/or refused to provide the Plaintiff with the necessary information and/or documents to complete the due diligence exercise, and was in breach of clause 5(f) and clause 13, as well as the implied term on due diligence causing completion not taking place as scheduled and suggesting on a without prejudice basis extending the completion within 3 working days after the Defendant had satisfied all the outstanding due diligence requisitions within 14 days from 5 August 2021.

23.  On 11 August 2021, HYLC sent a letter to JKKL denying his obligation to facilitate due diligence exercise to be carried out to the satisfaction of the Plaintiff and/or his obligation to deliver the Company’s accounts to the Plaintiff before completion.  HYLC stated that documents had previously been provided “as a gesture of goodwill and with a view to completing the captioned transaction in an amicable manner”.  HYLC requested the Plaintiff to “proceed with completion soonest possible and that any outstanding matters (if any) shall be dealt with post-completion”. HYLC was “willing to stakehold a reasonable sum on completion pending compliance of the outstanding matters” (underlining added).

24.  On 13 August 2021, JKKL sent a letter to HYLC restating their position in their letter dated 5 August 2021, and given that the Defendant had declined to extend the deadline for completion and unilaterally demanded the Plaintiff to complete with outstanding matters to be dealt with post-completion, the Defendant was in breach of Agreement.

25.  On 17 August 2021, HYLC sent a letter to JKKL repeating their position that the Defendant had no obligation to provide any accounting/financial documents of the Company to the Plaintiff but stating that the Defendant was willing to extend completion date.

26.  On 6 September 2021, JKKL sent a letter to HYLC accepting the breach of the Agreement by the Defendant and demanding the Defendant to return the Deposit and pay the liquidated sum as compensation.

27.  On 13 September 2021, HYLC sent a letter to JKKL putting on record that the Plaintiff had chosen to repudiate the Agreement wrongfully and D was entitled to forfeit the Deposit in the total sum of $1,268,000.

C.  THE PARTIES’ CASES

C1.  The Plaintiff’s case

28.  The Plaintiff’s primary case is that the Defendant is in breach of clauses 5(e) and 5(f) because:-

(a)  The Company had failed to apply for a Business Registration Certificate in compliance with section 5(1) of the Business Registration Ordinance (Cap 310);

(b)  The Company had failed to register as a non-Hong Kong company, in contravention of section 776 of Companies Ordinance (Cap 622); and

(c)  The Company had failed to provide tax computation prepared by auditor for the financial year ended 31 March 2017 up to 31 March 2021 to ascertain whether profit tax was payable for each of these financial years.

29.  As a result of the Defendant’s breaches of the expressed terms, it was the Defendant who fails to complete in accordance with the Agreement.  It follows that clause 8 would apply and the Plaintiff is entitled to seek return of the Deposit (of $1,268,000) and payment of the liquidated damages of $634,000 (“Liquidated Damages”), totalling $1,902,000;

30.  The Plaintiff’s alternative case is that, by reason of business efficacy, the Agreement contains the following implied terms:-

(a)  Within a reasonable time before the completion date, the Defendant (as vendor) should provide the Plaintiff (as purchaser) with the necessary information and/or documents required for the purposes of financial due diligence to ensure that the compliance of the warranties in clause 5 of the Agreement; and

(b)  The parties shall only proceed to completion after the Plaintiff communicated to the Defendant its reasonable satisfaction with the result of due diligence (“Implied Terms”).

31.  Due to the Defendant’s failure to provide the documents and the existence of the problems mentioned above, the Plaintiff was not reasonably satisfied with the result of due diligence.  As a result, the Defendant is in breach of the Implied Terms and clause 8 would apply with the same result as for the breach of the express terms.

32.  The Plaintiff’s fallback position is that there is a total failure of consideration under the Agreement and the Defendant is unjustly enriched in the sum of the Deposits at the expenses of the Plaintiff.  Therefore, the Defendant should return the Deposit to the Plaintiff.

C2.  The Defendant’s case

33.  The Defendant’s case, as clarified by Mr Yim at the opening, is as follows:-

(a)  The Defendant admits that he is in breach of clause 5 by reason of the problems complained by the Plaintiff. However, upon proper construction, clause 5 is a warranty, not a condition, and therefore the Defendant’s breach of clause 5 would only entitle the Plaintiff to claim damages against the Defendant under clause 2, but does not entitle the Plaintiff to terminate the Agreement; and

(b)  The Agreement does not contain the Implied Terms and there is no obligation on the part of the Defendant to provide any document to the Plaintiff for due diligence;

(c)  Clause 8 does not apply to breach of warranty.

34.  Mr Yim further argues that it is the Plaintiff who is in breach of the Agreement by reason of her failure to complete.  However, it is noted that the allegation that the Plaintiff is in breach is not pleaded in the Defence.  There is also no counterclaim by the Defendant against the Plaintiff.  Before hearing the evidence, I ask Mr Yim whether there is any application to amend the Defence and/or add the Counterclaim.  After a short adjournment, Mr Yim informs the Court that he has no instruction to make any application.

D.  ISSUES IN DISPUTE

35.  Pursuant to the directions made at the PTR, the parties have filed an Agreed List of Issues in Dispute which contains the following agreed issues:-

(a)  Whether the Agreement contains the Implied Terms?

(b)  Whether the Defendant is in breach of clause 5(e), clause 5(f) and/or the Implied Terms as at the completion date (ie 19^th July 2021 at/or before 4 p.m.) or at any other subsequent date?

(c)  Whether the Defendant is liable to pay the Plaintiff (i) the Deposit of $1,268,000; and (ii) the Liquidated Damages in the sum of $634,000?

36.  In addition to the above, the Defendant proposes an additional issue in the Agreed List, i.e. whether the Implied Terms are conditions or warranties?  This is objected by the Plaintiff on the ground that it is not pleaded and irrelevant.

37.  At the hearing, Ms Leung for the Plaintiff very fairly accepts that paragraph 8 of the Defence, ie “It is averred that those problems, even if existed, do not affect the Completion but at best only matters to damages”, is capable of being understood as raising the issue of whether the Implied Terms are conditions or warranties.  However, Ms Leung maintains that this issue is irrelevant because once it is proved that the Defendant fails to complete, the Plaintiff is entitled to seek return of the Deposit and claim the Liquidated Damages under clause 8 regardless of whether the Implied Terms are warranties or conditions.  I will deal with Ms Leung’s submissions below.

38.  At the closing, Mr Yim proposes to add another new issue, ie whether clause 5 is a warranty or a condition.  Once again, Ms Leung very fairly does not object, but she maintains the same view that this new issue is also irrelevant.

E.  WITNESSES

E1.  The Plaintiff’s evidence

39.  The Plaintiff adopts her witness statement as her evidence in chief and her evidence is not challenged by Mr Yim.

40.  Under cross-examination, the Plaintiff says that the Agreement was provided by the estate agent from Ricacorp and it was the estate agent’s idea to add in handwriting an additional clause after clause 17 that “Due to the measure of the new coronavirus, the completion can be postponed if any party is under compulsory isolation” (“Handwritten Clause”).

E2.  The Defendant’s evidence

41.  Whilst the Defendant also adopts his witness statement as evidence in chief, it appears during cross-examination that he has very limited personal knowledge on the transaction.  His answer to most of the questions asked by Ms Leung is that he does not know because he entrusted the matters to his agent and his solicitors.  However, the Defendant readily accepts that the Plaintiff had the genuine intention to complete the transaction.  When he is asked why, according to his understanding, his solicitors provided documents to the purchaser’s solicitors, the Defendant’s answer is that it was the procedure to be done in the sale and purchase of the Property and it was done to perform the Agreement.

F.  THE EXPRESS TERMS

42.  At the closing, Mr Yim very sensibly accepts that, by reason of the problems mentioned at §28 above, the Defendant is in breach of clauses 5(e) and 5(f).  However, Mr Yim submits that, reading in conjunction with clause 2, it is clear that clause 5 is a warranty, rather than a condition, and the breach of which would only entitle the Plaintiff to seek damages under clause 2, instead of to terminate the Agreement.

43.  Mr Yim submits that there are 3 reasons to support his interpretation that clause 5 is a warranty:-

(a)  Firstly, the word “warrants” is used in clause 5 (as well as in clause 2);

(b)  Secondly, breach of clause 5 would only be a potential liability after someone has commenced proceeding and, in such case, clause 2 would apply;

(c)  Thirdly, clause 2 has provided the consideration for the breach, ie “the Vendor shall be responsible for any liability as a result of or in connection with any such loan or debt liability or proceedings incurred as aforesaid on or before the Completion Date”.

44.  Mr Yim further argues that clause 8 does not apply even when the Defendant is in breach of clause 5 because:-

(a)  Clause 5 is a warranty and to trigger clause 8 for breach of warranty would defeat the very nature of clause 5;

(b)  Clause 8 is only confined to the matters relating to the sale and purchase of the Company’s shares, such as the signing of bought and sold notes, instrument of transfer, etc, but not for breach of clause 5.

F1.  Nature of clause 8

45.  I propose to deal with the arguments on clause 8 first.

46.  The law on construction of a contract is well established and is neatly summarized by Mr Recorder Manzoni, SC in the recent case of Wai Lung Yee Shirley v Ng Cheuk Nam [2024] HKCFI 457 at §63 as follows:-

(a)  The construction of a contract is an attempt to discover what a reasonable person would understand the parties to have meant;

(b)  The starting point is the ordinary and natural words of the contract, but the court may also take into account the overall purpose of the contract, other provisions of the contract, the facts known or assumed by the parties at the time of the contract, and the background knowledge which would reasonably have been available to both parties in the situation in which they were at the time of the contract;

(c)  Commercial commonsense, and the surrounding circumstances are clearly useful aids to construction, but the court must be careful not to rewrite the contract, and should always remain alive to the words in fact used.

47.  In my view, the wording of clause 8 is clear and unambiguous – it applies “Should the Vendor fail to complete in accordance with this Agreement”.  There is nothing in the said clause to show that its application is limited only to breach of conditions or only to matters such as the signing of bought and sold notes, instrument of transfer, etc, as suggested by Mr Yim.

48.  In Man Wing Fun Stephen v Ho Ching Yee Susanna, HCA 3724/1997, 25 February 1999, Mr Recorder Edward Chan SC was asked to construe a similar clause which provided that:

“Should the Vendor after receiving the initial deposit paid hereunder fail to complete the sale in the manner herein contained, the Vendor shall immediately compensate the Purchaser with a refund of the initial deposit together with a sum equivalent to the amount of the initial deposit as liquidated damages and the reimbursement/payment (as the case may be) of stamp duty of the said premises and the Purchaser shall not take any further action to claim damages or to enforce specific performance”. (emphasis added)

49.  Having reviewed the authorities, Mr Recorder Edward Chan SC held that:-

“32. I am prepared to agree that when clause 8 of the agreement spoke of “failed to complete the sale in the manner herein”, the word “complete” would not just include the act of the execution of the assignment and the payment of the balance of the purchase money, but may include any other act which the parties had agreed to do before to complete the sale. In other words, I agree with the views of Findlay J that in the context “complete the sale in the manner herein” would mean “to do what else is required of him under the agreement leading to the final act” …” (emphasis added)

50.  The case of Man Wing Fun Stephen was followed by Madam Recorder Yvonne Cheng SC (as she then was) in Castle Global Limited v Ip Tai Hoi Paul [2020] HKCFI 1106 at §39 and Au-Yeung J in Dragon Access Holdings Limited v Lo Chu Hung [2020] HKCFI 2895 §42.

51.  In my view, there is no material difference between “fail to complete … in the manner herein” in Man Wing Fun Stephen and “fail to complete … in accordance with this Agreement” in the present case.  I would therefore construe the word “complete” in clause 8 to include the acts which the parties agreed to do before to complete the sale.

52.  Under clause 5(e) of the Agreement, the Defendant agreed to ensure that, on the Completion Date, the Company shall not be liable to any debt commitment, or involved in any legal proceedings, or dispute in tax liability or violate any law or any rule or regulation of any governmental body affecting any of the Company.  Under clause 5(f) of the Agreement, the Defendant further agreed to ensure that the Company had been providing records and documents to competent authority as required under the law.

53.  It is not disputed that on the Completion Date:-

(a)  The Company had not applied for a Business Registration Certificate in compliance with section 5(1) of the Business Registration Ordinance (Cap 310);

(b)  The Company had not been registered as a non-Hong Kong company, thereby in contravention of section 776 of Companies Ordinance (Cap 622); and

(c)  The Defendant had not provided tax computation prepared by auditor for the financial years ended 31 March 2017 up to 31 March 2021 so as to ascertain whether profit tax was payable for each of these financial years in respect of the rental income of over $1.3 million in total.

54.  Mr Yim accepts that, by reasons of the above failure, the Defendant is in breach of his contractual obligations under clauses 5(e) and 5(f).

55.  In such circumstance, I am of the view that the condition of clause 8 has been satisfied, ie “Should the Vendor fail to complete in accordance with this Agreement”.  I agree with Ms Leung that clause 8 applies squarely, regardless of whether clause 5 is a condition or a warranty, and the Plaintiff is entitled under clause 8 to ask for return of the Deposit and claim the Liquidated Damages.  This is sufficient to dispose of the action.

56.  However, for the sake of completeness, I would proceed to consider Mr Yim’s argument that clause 5 is a warranty.

F2.  Clause 5: condition, warranty or intermediate term?

57.  For the following reasons, I have no hesitation to reject Mr Yim’s argument that clause 5 is a warranty:-

(a)  Firstly, the fact that the word “warrants” is used in clause 5 does not necessarily mean that the said clause is a warranty.  Putting into the context of clause 5, the word “warrants” means “guarantee” or “assure”.  It has little bearing on whether clause 5 is a condition, a warranty or even an intermediate term;

(b)  Secondly, clause 5 should be considered as a whole and it is absurd to suggest that the Plaintiff can never rely on a breach of clause 5 to terminate the Agreement, no matter how serious the breach is.  Taking clause 5(a) as an example which that “The Vendor hereby warrants and undertakes to the Purchaser that as at the date of this Agreement, the Vendor is the sole beneficial owner of the Sale Share of the Company and the Company has no other shareholder”.  Considering the scenario where, before the Completion Date, the Plaintiff found out that the Defendant was not the sole beneficial owner of the Company.  If Mr. Yim were right, it would mean that the Plaintiff was still not entitled to terminate the Agreement, but had to complete the transaction first and then seek damages or indemnity from the Defendant.  This outcome clearly defies common sense as well as commercial sense;

(c)  Thirdly, it is important to bear in mind the undisputed fact that the Plaintiff and the Defendant did not know each other before signing the Agreement and the transaction was concluded through an estate agent.  In effect, the Plaintiff was acquiring the Company which she knew nothing, and clause 5 was to protect her from being exposed to unknown liabilities.  According to Mr Yim’s argument, the Plaintiff cannot terminate the Agreement even when she discovers before the Completion Date that there are some serious problems with the Company which may give raise to substantial liability.  This clearly defeats the purpose of clause 5;

(d)  Fourthly, the fact that the Plaintiff is entitled to seek damages or indemnity from the Defendant under clause 2 does not necessarily mean that clause 5 is a warranty.  As rightly pointed out by Ms Leung, there are other “non-monetary” liabilities which cannot be compensated by damages, such as the obligation to answer any queries from Inland Revenue Department addressed to the Company on tax computation;

(e)  Lastly, warranties in the technical sense are now of reduced significance in the modern law.  The court is more likely to classify a term as intermediate where the entitlement to terminate depends on the nature and consequences of the breach; Chitty on Contracts (35^th edition) §28-21;

(f)  An intermediate term is a term which is capable of being broken either in a manner that is trivial and capable of remedy by an award of damages or in a way that is so fundamental as to undermine the whole contract. In other words, where the consequences of a breach of a particular term can vary significantly, the response that the term is intermediate is more appropriate because it gives the court the flexibility to tailor the response to meet the justice of the case; see Chitty on Contracts (35^th edition) §28-46.

58.  Ms Leung submits that, if categorization is necessary, clause 5 should fall into the category of “intermediate term”.  Ms Leung argues that, on one hand, non-compliance like belated compilation of audited accounts by a few days or late filing of annual return for even a few months may be trivial, but on the other hand, where the non-compliance of law such as the present case with persistent non-filing of tax return for over 7 years, no preparation of accounts at all since incorporation, coupled with no business registration or company registration, this could lead to substantial financial and legal liabilities.

59.  I agree with Ms Leung.  If necessary, I have no hesitation to find that clause 5 is an intermediate term.

60.  Ms Leung further submits that the Defendant’s breach of clause 5 is serious and persistent which goes to the root of the Agreement.  For instance, the Company has received more than $1.3 million rental income since 2017 but has never filed any tax return.  To rectify the breach, one would expect that the Company would be required not only to pay the outstanding tax, but also to pay a penalty for the late payment, and it is impossible to ascertain the extent of such potential liability.

61.  Further, as submitted by Ms Leung, some of the breach may not be “automatically rectifiable”.  For instance, Court’s approval is required to retrospectively extend the time for convening an annual general meeting and laying before the Company its audited financial statements, and the Court must be satisfied that there are good reasons to do so; Liang Ronald v LWK & Partners (HK) Ltd, HCMP 1742/2013, 26 February 2014, §§11-12.  There is no guarantee that Court’s approval would be given to rectify the Company’s failure to prepare and file audited account in time.

62.  Once again, I agree with Ms Leung.  Based on my finding that clause 5 is an intermediate term, I would further find that the Defendant’s breach is so fundamental that it undermines the whole Agreement.  By reason of the Defendant’s breach, the Plaintiff is entitled to terminate the Agreement, and to claim the Deposit and the Liquidated Damages under clause 8.

G.  THE IMPLIED TERMS

63.  In deference to the parties’ arguments, I would further proceed to consider whether the Agreement contains the Implied Terms as  suggested by the Plaintiff.

64.  There is no dispute on the applicable principles.  For a term to be implied into a contract:-

(a)  It must be reasonable and equitable;

(b)  It must be necessary to give business efficacy to the contract, so that no term will be implied if the contract is effective without it;

(c)  It must be so obvious that “it goes without saying”;

(d)  It must be capable of clear expression;

(e)  It must not contradict any express term of the contract: Kensland Realty Ltd v Whale View Investment Ltd (2001) 4 HKCFAR 381 at §23.

65.  In Marks and Spencer pls v BNP Paribas Securities Service Trust Co (Jersey) Ltd [2016] AC 742, Lord Neuberger added the following six comments on the conditions at §21:-

(a)  First, the implication of a term was not critically dependent on proof of an actual intention of the parties when negotiating the contract.  If one approaches the question by reference to what the parties would have agreed, one is not strictly concerned with the hypothetical answer of the actual parties, but with that of notional reasonable people in the position of the parties at the time at which they were contracting;

(b)  Secondly, a term should not be implied into a detailed commercial contract merely because it appears fair or merely because one considers that the parties would have agreed it if it had been suggested to them.  Those are necessary but not sufficient grounds for including a term;

(c)  Thirdly, it is questionable whether reasonableness and equitableness will usually, if ever, add anything: if a term satisfies the other requirements, it is hard to think that it would not be reasonable and equitable;

(d)  Fourthly, business necessity and obviousness can be alternatives in the sense that only one of them needs to be satisfied, although his Lordship suspected that in practice it would be a rare case where only one of those two requirements would be satisfied;

(e)  Fifthly, if one approaches the issue by reference to the officious bystander, it is vital to formulate the question to be posed with the utmost care;

(f)  Sixthly, necessity for business efficacy involves a value judgment.  The test is not one of “absolute necessity”, not least because the necessity is judged by reference to business efficacy.  A term can only be implied if, without the term, the contract would lack commercial or practical coherence.

66.  Ms Leung submits that:-

(a)  First, it is simply common sense that, when dealing with the sale and purchase of share capital, a purchaser just like the Plaintiff would naturally be concerned with the business, financial and legal aspects of the target company before proceeding to completion.  As such, it must be within the parties’ reasonable contemplation that certain scope/extent of due diligence exercise has to be carried out within a reasonable time.  The Implied Terms here give effect to the reasonable expectation of the parties;

(b)  Secondly, in order for the Plaintiff to ascertain the Defendant’s representation in clauses 5(e) and 5(f), the Defendant would have had to prepare and produce sufficient documents insofar as was necessary to enable the carrying out of the due diligence review by the Plaintiff so as to avoid exposure to potential liabilities as a future owner of the Company, and completion was conditional on the Plaintiff first being satisfied as to such exercise;

(c)  Thirdly, after signing the Agreement, the Plaintiff’s solicitors started to request documents from the Defendant for the purpose of due diligence and the Defendant’s solicitors acceded to the Plaintiff’s requests for documents without any complaint. Instead, the Defendant’s solicitors replied positively that the Company’s account were being prepared and that they were in the process of applying for business registration certificate and registration as a registered non-Hong Kong company for the Company.  There was also no question from the Defendant’s solicitors when the Plaintiff’s solicitors indicated in their email dated 14 April 2021 that the completion was “subject to the satisfactory due diligence review”.  Prior to the completion, the Defendant’s solicitors never indicated that the provision of documents was made voluntarily and out of goodwill;

(d)  Most importantly, it is the Defendant’s own evidence that, according to his understanding, his solicitors provided documents to the Plaintiff’s solicitors because it was the procedure to be done in the sale and purchase of the Property and it was done to perform the Agreement.  This reinforces the Plaintiff’s case on the existence of the Implied Terms.

67.  On the other hand, Mr Yim refers to the recent case of High Route Limited v Wong Chung Kai [2024] HKCFI 75 to support his argument that there is no implied term on due diligence in the Agreement.

68.  In High Route, the parties entered into a provisional sale and purchase of the entire share of a company called Keen Day for the purpose of effecting the sale and purchase of a property.  The transaction fell through because the plaintiff, being the purchaser, was not satisfied with the due diligence investigation on the company.

69.  It was the plaintiff’s case that there were implied terms in the provisional agreement to the effect that the plaintiff should be entitled to carry out due diligence investigation on the business, financial, legal and all other aspects of Keen Day and completion was conditional upon the Plaintiff having completed its due diligence investigation on all aspects of Keen Day and was satisfied with the results thereof.

70.  The provisional agreement contained the undertaking from the defendant which is similar to clause 5 in the present case, including that the company should not be involved in any legal proceedings or subject to any legal financial or tax liability and that the company had complied with all legislation and statutory requirements including those under the Company Ordinance.

71.  The defendant did not deny that there were implied terms in the provisional agreement but argued that the implied terms proposed by the plaintiff were too wide.  The defendant proposed that the implied terms should be that (a) the plaintiff was only entitled to raise question concerning Keen Day’s business, affairs and documents within a reasonable time after receipt of the documents on Keen Day from the defendant and/or before the completion date and the question must be reasonable and necessary for the purpose of ascertaining that the defendant could sell the Shares to the plaintiff free from encumbrances and that Keen Day was not subject to any existing or certain legal, financial or tax liability; and (b) the defendant was not obliged to answer any question raised by the plaintiff concerning Keen Day’s business, affairs and documents which was not raised within reasonable time after receipt of the documents on Keen Day from the defendant and/or before the completion date and/or which was frivolous or speculative and did not concern the ability of the defendant to sell the shares to the plaintiff free from encumbrances or any existing or certain legal, financial and tax liability of Keen Day.

72.  Mr Recorder William Wong SC considered that the most important issue was whether the plaintiff could rely on its pleaded implied terms.  If not, that was the end of the matter and there was no need to decide whether the defendant could rely on its implied terms.

73.  The learned judge considered that the plaintiff’s implied terms could not be implied into the provisional agreement because of the following reasons:-

“40.  First, the net effect of the Plaintiff’s Implied Terms on Due Diligence, would be that the Plaintiff could walk away from the transaction insofar as it not satisfied with the results of its due diligence exercise.  Whether the Plaintiff satisfies with its own due diligence exercise is a matter beyond the Defendant’s control.  It is not the Plaintiff’s pleaded case that its satisfaction of the due diligence exercise is subject to some reasonableness requirement applying an objective test.  I am of the view that the parties could not have intended that a party of the transaction, here, the Plaintiff could walk away from the transaction if it was not satisfied with its due diligence exercise.

41.  Secondly, the net effect of the Implied Terms on Due Diligence is inconsistent with Clause 8 of the Provisional Agreement [on purchaser’s failure to complete and forfeiture of deposit].  If the Plaintiff could walk away from the transaction so long as it is not satisfied or the Defendant has not satisfied the Plaintiff on due diligence, then Clause 8 is otiose.  It is no answer that there are other situations the Defendant might invoke Clause 8.  For instances, the Plaintiff’s failure to pay further deposits and/or balance of the purchase price.  The key is that if the Plaintiff enjoys such a right, the Plaintiff could always exercise such a right prior to the Defendant’s attempt to invoke its right under Clause 8.  In reality, it is practically unlikely that the Defendant, qua vendor, could invoke Clause 8 of the Provisional Agreement. In the present case, before the payment of the balance of the purchase price, the Plaintiff attempted to walk away from the Provisional Agreement precisely on the basis of the Implied Terms on Due Diligence.

42.  Thirdly, again as a matter of context in the present case, the parties only started to negotiate the scope and extent of the due diligence exercise in the draft formal agreement which the parties ultimately could not agree upon after the conclusion of the Provisional Agreement.  This shows that by the time of the Provisional Agreement, it was envisaged that the scope and extent of the due diligence exercise had to be further negotiated and agreed upon. In such circumstances, it is inherently improbable for the parties to impliedly agree that the Plaintiff could terminate the Provisional Agreement so long as it is not satisfied with its due diligence without reference to the scope and depth of the same.

43.  Fourthly, I agree that the Plaintiff’s Implied Terms on Due Diligence are vague and incapable of being formulated with precision.  There is no yardstick as to when and how the Plaintiff could be said to have completed its due diligence exercise or what are the criteria for the Plaintiff being “satisfied” with the results of its due diligence exercise.

44.  Fifthly, as the experts jointly agree, any due diligence exercise is to be carried out on a case by case basis, and largely depends on the purposes of the purchaser, the nature of the transaction and the nature and size of the subject company and that due diligence exercise focuses on the deal, the scope which could vary widely and depends on the client’s specification and what the transaction process allowed.  For example, the due diligence exercise for the purpose of an initial public offering will be very different in scope and in depth than a due diligence for the purchase of a single asset company with minimum transactions history.  I agree that it is inherently improbable for such a fluid exercise to be implied without any prior discussion and agreement, and without any express provision to govern its scope and consequences.

45.  Sixthly, I agree that the protection of the purchaser, under the Provisional Agreement, is achieved by the warranties, undertakings and indemnity given by the vendor and guarantor in Clause 3.  If it is subsequently discovered that any of the warranties were untrue, the purchaser’s remedy is to sue for breach of warranty and to seek indemnification.  This was evidently the bargain that was reached and accepted by the parties under the Provisional Agreement.

46.  I also agree that it is clear from Clause 4 of the Provisional Agreement, and also the first sentences of Clause 8 of the Provisional Agreement, that the question of what should constitute condition precedent for completion had been considered – the only circumstance which would entitle the Plaintiff to cancel the transaction altogether is where the Defendant cannot show good title.

47.  To introduce, by implication, an entitlement to a right to due diligence, coupled with a right to refuse to complete if the purchaser was not satisfied with the results is to re-write the bargain for the parties.  The Court cannot do that.

48.  In fact, the case of La Rosa v MacEnnovy Trust Ltd (2010) 11 NZCPR 930 shows precisely what the parties could have agreed upon under the doctrine of freedom of contract. In that case, there was an express clause that the agreement was subject to the purchaser being satisfied with a due diligence investigation and the purchaser could cancel the transaction without giving reason and with the term said to be inserted for the sole benefit of the purchaser.  There was no such express term here.  This Court cannot rewrite the contract for the parties.

49.  Seventhly, I agree with Mr Li SC for the Defendant that the Plaintiff’s Implied Terms on Due Diligence is marred with difficulties as it case that (a) there is no limit to what matters the Plaintiff can take into account in its due diligence; (b) the due diligence exercise also no temporal limit and (c) importantly, whether the Plaintiff was satisfied with its due diligence exercise was to be decided subjectively by the Plaintiff alone.  Hence, the terms if implied would give the Plaintiff a carte blanche to walk away from the transaction at any time it sees fit, under the purported reason that it was “not satisfied” with the due diligence.  This cannot be right.”

74.  I do not read the judgment of High Route as laying down any legal principles on whether the due diligence requirement can or cannot be implied in an agreement for sale and purchase of the sale capital of a company.  In my view, it is clear that the decision is High Route was made in light of the particular facts of that case which are distinguishable from the present case:-

(a)  As pointed out by Ms Leung, one of the main reasons why the learned Recorder held that the plaintiff’s implied terms on due diligence could not be implied into the provisional agreement was because they were not subject to the test of reasonableness, and whether the plaintiff was satisfied with the due diligence was to be decided subjectively by the plaintiff alone.  To imply the plaintiff’s implied terms into the agreement would mean that the plaintiff could make use of the proposed implied terms to walk away from the transaction without risking the forfeiture of the deposit and would be inconsistent with clause 8 in the provisional agreement;

(b)  But in the present case, the Implied Terms proposed by the Plaintiff are subject to the test of reasonableness in that the completion is subject to the Plaintiff’s reasonable satisfaction with the result of due diligence.  In other words, the Plaintiff cannot use the Implied Terms to get away with the transaction by simply alleging that she was not satisfied with the result because, if dispute arises, her decision would be scrutinized under the test of reasonableness.  If her decision is found to be unreasonable, the Plaintiff would be in breach of the Agreement and clause 9 would apply to entitle the Defendant to forfeit the Deposit.  This also means that there is no inconsistency between the Implied Terms and clause 9 of the Agreement in the present case;

(c)  Another reason why the learned Recorder reached the conclusion in High Route was because the agreement contained express terms setting out the condition precedents for completion and the learned Recorder considered that it amounted to re-writing the agreement if the implied terms proposed by the plaintiff (ie the completion was conditioned upon the plaintiff’s satisfaction with the due diligence) was implied into the agreement.  However, the Agreement in the present case does not contain any condition precedents for completion and to imply the Implied Terms into it would not have the effect of re-writing the bargain between the parties as in High Route;

(d)  Further, unlike High Route where the parties only started to negotiate the scope and extent of the due diligence exercise in the draft formal agreement which the parties could not ultimately agree, it seems that the parties in the present case have had no difficulty in understanding the scope and extent of the due diligence since the beginning.  The Plaintiff’s solicitors started asking for documents shortly after the signing of the Agreement for due diligence review and, before the Completion Date, there was never any objection from the Defendant’s solicitors to the Plaintiff’s request or any complaint that the documents requested by the Plaintiff were unnecessary.

75.  Most importantly, there was no objection from the Defendant’s solicitors when the Plaintiff’s solicitors said in their email dated 14 April 2021 that the Plaintiff was “ready and willing to proceed with the sale and purchase subject to the satisfactory due diligence” (underlining added).  In fact, it is the Defendant’s own evidence that, according to his understanding, his solicitors provided documents to the Plaintiff’s solicitors as a matter of procedures to be done in the sale and purchase of the Property and it was done to perform the Agreement.  This supports the Plaintiff’s case on the Implied Terms.

76.  I agree with Ms Leung that since the Plaintiff and the Defendant were total strangers to each other at the time when the Agreement was signed, the only way for the Plaintiff to ascertain the truthfulness of the Defendant’s representations in clause 5 was to look at the Company documents for due diligence.  No purchaser would want to inherit a company which has lots of liabilities and/or hidden debts/liabilities.

77.  Mr Yim further argues that, if the Plaintiff and the Defendant truly intended that the Plaintiff’s reasonable satisfaction of due diligence was a condition for completion, why didn’t they expressly write it down in the Agreement, just like the Handwritten Clause?

78.  With respect, Mr Yim’s argument is not supported by evidence.  There is no dispute that the Agreement is a pre-printed form supplied by the estate agent and the idea of adding the Handwritten Clause was raised by the estate agent to cater for the special social environment at the material time.  This is different from the situation where the agreement was specifically prepared after negotiation.

79.  Mr Yim also submits that the Implied Terms is unnecessary because the Plaintiff is entitled to seek indemnity or damages against the Defendant if there is any breach of clause 5.

80.  In my view, the existence of clause 2 does not prevent the Implied Terms from being implied into the Agreement.  I respectfully adopt the following comment of Cheng J in Fong Kin Wa v Li Hau Yi [2023] HKCFI 765:-

“46. On the contrary, the Plaintiff’s entitlement under the two clauses was different. The fact that the Plaintiff had a right to call on the Defendants to indemnify him in respect of any tax liabilities of the Company after completion does not mean that the Plaintiff was not entitled to know the nature and extent of such liabilities before deciding whether to complete the purchase of the Company in the first place.”

81.  By reason of the aforesaid, despite the admirable effort of Mr Yim, I reject Mr Yim’s submissions.  Had it been necessary to make a determination, I would have no difficulty to find that the Agreement contains the Implied Terms as suggested by the Plaintiff.  I would further find that the Defendant is in breach of the Implied Terms by reason of his failure to provide the documents, such as business registration, registration of the Company as a non-Hong Kong company and tax computation, to enable to the Plaintiff to carry out due diligence to her reasonable satisfaction in respect of the representations made by the Defendant under clause 5.

82.  As for the issue whether the Implied Terms, if implied in the Agreement, are conditions or warranties, Mr Yim accepts that it would stand and fall together with the issue whether clause 5 is a condition or warranty.  For the same reasons set out above, if necessary, I would find that the Implied Terms are intermediate terms and the Defendant’s breach is so fundamental that it undermines the whole Agreement.  By reason of the Defendant’s breach, the Plaintiff is entitled to terminate the Agreement, and to claim the Deposit and the Liquidated Damages under clause 8.

H.  UNJUST ENRICHMENT

83.  In light of my above findings, I do not think I need to deal with the Plaintiff’s fallback position on unjust enrichment in any great detail.  Suffice it to say that it is not disputed that the transaction has not been completed and the Defendant has failed to return the Deposit to the Plaintiff.  Notwithstanding Mr Yim’s suggestion that the Plaintiff is in breach of the Agreement, there is no such plea in the Defence, let alone a counterclaim (despite my invitation to Mr Yim to consider whether it is necessary to add the Defence and/or add the Counterclaim).  In such circumstances, I agree with Ms Leung that the Defendant is unjustly enriched if he is allowed to retain the Deposit.

I.  DISPOSITION

84.  For the reasons given above, I enter judgment against the Defendant in favour of the Plaintiff and order that the Defendant do pay the Plaintiff the sum of $1,902,000.  I further order that the Defendant do pay the Plaintiff interest on the said sum at half judgment rate from 19 July 2021 (ie the Completion Date) to the date of Judgment and thereafter at judgment rate until payment.

85.  Costs should follow the event.  I make an order nisi that the Defendant do pay the Plaintiff’s costs of this action, including any reserved costs, to be taxed if not agreed with Certificate for Counsel.  Any application to vary the costs order nisi should be made within 14 days from the date of this judgment.

86.  Lastly, I remain for me to thank Ms Leung and Ms Cheng for the Plaintiff, and Mr Yim and Mr Siu for the Defendant for their helpful assistance to the Court.