CHINA MEDICAL LTD v. AUTOSCALE RESOURCES LTD

HCA 2449/2008

IN THE HIGH COURT OF THE

HONG KONG SPECIAL ADMINISTRATIVE REGION

COURT OF FIRST INSTANCE

ACTION NO. 2449 OF 2008

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R U L I N G

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1.  The Plaintiff and the Defendant are parties to a Guarantee.

2.  In this case, a judgment in default of defence has been entered against the Defendant on 10 March 2009.  I have before me the Defendant’s application to set aside the default judgment. There is no argument that the default judgment was regularly entered.

3.  In this application to set aside, the Defendant relies on 3 main grounds:

(1) The Defendant asks that the judgment be set aside on the ground that the Plaintiff and UPMG had made an agreement in writing dated 1 August 2005 that disputes arising under that agreement (“Subscription Agreement”) should be referred to arbitration. The Defendant says that its liability under the Guarantee should only be determined after the outcome of the arbitral proceedings is known, and accordingly, in the meantime, all the court proceedings should be stayed pending the arbitration between the Plaintiff and UPMG;

(2) The Action should be stayed pursuant to section 6 of the Arbitration Ordinance; and

(3) In any event, the Defendant says that it has shown a defence with a real prospect of success, and therefore judgment ought to be set aside in the light of its having a good defence to this Action.

4.  I would deal with the three grounds in turn.

The First Ground

5.  The legal principles are not in dispute.  I have found the observations of Ma J (as he then was) in the case of Linfield Limited v Taoho Design Architects Limited [2002] 2 HKC 204 particularly helpful, and I would respectfully adopt His Lordship’s statement of principles set out in paragraphs 9 to 14 of that judgment.  I do not need to repeat what His Lordship has said in those paragraphs, save to highlight, in particular,the following statement at the end of paragraph 14:

“I would add that where a plaintiff institutes proceedings as of right (and not in breach of an arbitration agreement or exclusive jurisdiction clause) he is not to be deprived of carrying on those proceedings unless very good reasons exist to the contrary.” (emphasis added)

6.  In the present case, it is of particular importance to note that the Guarantee contains no arbitration clause.  In fact, to the contrary, clause 5 of the Guarantee provides:

“The parties agree that any legal action or proceeding arising out of or relating to this guarantee may be brought in the courts of Hong Kong and irrevocably submits to the non-exclusive jurisdiction of such courts.”

7.  Thus, despite the fact that there is an arbitration clause in the Subscription Agreement, the Guarantee does not contain any arbitration clause, and therefore, there can be no question but that the Plaintiff’s Action is brought as of right in this Court.  It is therefore incumbent upon the Defendant to demonstrate “with very good reasons” why a stay should be granted.

8.  Mr Wong, on behalf of the Defendant, has advanced two main arguments and they appear to be as follows:

(1) the liability of UPMG under the Subscription Agreement is seriously disputed, and that arbitration proceedings have been commenced for adjudication of that dispute; and

(2) there is a risk that if a stay is not granted, there may be inconsistent findings made in the arbitration and the litigation in this Court.

9.  I am not persuaded that these are “good reasons”, not to mention “very good reasons”, for staying the present Action: 

(1) Clearly, in this case, there is no identity of parties in the arbitration proceedings and those in the court Action. 

(2) The cause of action in the arbitration is founded on the Subscription Agreement, whereas the cause of action in the present Action is on the Guarantee.  Although there may be common issues arising in both sets of proceedings, these causes of action founded on different contracts remain legally distinct and separate (albeit related). 

(3) As for the risk of inconsistent findings, that in my view carries very little weight in my exercise of the discretion. 

10.  And indeed, in the judgement of Ma J in Linfield, paragraphs 16-17, His Lordship said:

“16. These would not have been important features at all if the parties had been completely different.  Even if there are multiple sets of proceedings involving similar or even the same issues, if there is no identity of parties, I fail to see how it is desirable or even possible for one or more of such proceedings involving different parties to be stayed pending the resolution of any other set or sets of proceedings.  The determination of any issues in proceedings between different parties would not be binding on any other party in another set of proceedings.  I recognize immediately that this may give rise to a risk of inconsistent findings, but where findings made in earlier proceedings (even on the same issues) are not binding in later proceedings, the risk is inevitable.  However desirable it may be to have consistency, findings made in different proceedings between different parties cannot be made binding on other persons. 

17. Of course where High Court proceedings are involved, the court has powers under RHC O 4 r 9 to try to ensure, even as between different parties and different proceedings, a fair measure of consistency (e.g., by trying the actions at the same time or one after the other).  However, where the proceedings involve on the one hand court proceedings and on the other, arbitration proceedings, there is simply no equivalent power to O 4 r 9.  This is because the juridical foundation for the two types of proceedings is different: one is based on the constitutional right of all persons to have access to the courts to resolve disputes; the other is based on a contractual right to resolve disputes by reference to an agreed tribunal.”

11.  Later, in paragraph 19 His Lordship continued: 

“I accept that based on the statements of claim served in the two actions (assuming that these reflect the claims made by Linfield against the various other parties), many similar issues may well arise and many similar facts would have to be dealt with in the proceedings against the various parties, but if any findings made by an arbitral tribunal will not bind Linfield or GWA in the proceedings between them (indeed I doubt that such findings will even be admissible as evidence), there is simply no point in awaiting the outcome of the arbitral proceedings.  I also fully accept that the risk of inconsistent findings may exist but this is unavoidable and is not a weighty factor (or even a factor at all) that enters into the exercise of discretion in these circumstances.”

12.  I would respectfully agree and adopt these observations as they are apt to be applied to the present case.

13.  Mr Wong refers me to the case of Clinton Engineering Ltd v. Dong-Jun (Holdings) Ltd [1998] 3 HKC 208.  Mr Wong argues that Clinton Engineering is particularly apposite to the present circumstances.  In particular, he draws attention to the fact that the Defendant has already indicated that it would not dispute liability under the Guarantee in the event that liability of UPMG is established in the arbitration.  He says that in those circumstances, the present case closely resembles the facts of Clinton Engineering where the court has granted a stay.

14.  In my view, Clinton Engineering is distinguishable.  The plaintiff in ClintonEngineering was apparently suing on an “undertaking” which the defendant in that case had given.  The terms of that “undertaking” can be gleaned from the judgement of Findlay J at pp. 211H – 212A.

“… the terms of the defendant’s undertaking, which was negotiated with, and agreed to, by the plaintiff, is such that both parties to this action will be bound by the arbitrator’s award as far as the defendant’s liability to the plaintiff is concerned.  The defendant’s obligation is to pay to the plaintiff what the arbitrator finds is due by the subsidiary, and the plaintiff cannot impose on the defendant any greater obligation than that.

It being so, on my finding, that the defendant’s obligation is to pay what the arbitrator finds is due by the subsidiary to the plaintiff….” (emphasis added)

15.  It is clear that under the terms of the so-called “undertaking” in the Clinton case, the defendant’s obligation was predicated upon the findings of the arbitrator. 

16.  By contrast, the Plaintiff in our case is suing on the Guarantee, and not on any intimation by the Defendant of its intention not to dispute liability under it (whether expressed in its solicitors’ letter of 9 February 2009 or paragraph 15 of Mr Benson Wong’s affirmation).

17.  There is also nothing in the Guarantee to suggest that liability of the Defendant depends on the arbitrator’s award against UPMG.  I am therefore not convinced that Clinton Engineering is directly applicable to the circumstances of our present case. 

18.  Furthermore, the Defendant has not demonstrated any advantage, and I find no convincing reason, why these proceedings in court having been commenced as of right, should be stayed in favour of the arbitration. 

19.  Moreover, I also accept the submissions of Mr Maurellet, counsel for the Plaintiff, that the grant of a stay would, very likely, occasion serious injustice to the Plaintiff.  UPMG is a BVI company.  There is nothing to show that UPMG is in a financial position to meet any award that maybe made against it in the arbitral proceedings.  Indeed, from the evidence, the UPMG group and Cavalier appear to be financially rather precarious.

20.  If the Court were to grant a stay, it would effectively be forcing the Plaintiff to pursue its claim against UPMG to the end by way of arbitration.  There is a risk that such a course may ultimately be a completely futile exercise, involving great expense.

21.  Secondly, the arbitration is now academic, if it has ever been commenced at all.  It has only reached a very preliminary stage.  It has not at all progressed and the situation is set out in Mr Russell Coleman SC’s note as follows:

“(1)   I have no record my having been informed that I might had been appointed arbitrator in this matter; and

(2) as I have not accepted any such appointment; and

(3)  the parties have not taken any steps to progress matters; and

(4)  it is intention of the Claimant to withdraw; and

(5)  I shall act on the basis that this reference has ceased, and I shall accordingly take no further action.”

22.  This is completely different from a case where arbitration proceedings have progressed to an advance stage.  From all the evidence available, it would seem that this arbitration had not even commenced.

23.  For the foregoing reasons, I am not satisfied that a sufficient case has been made out for me to exercise my discretion in granting a stay of the Court Action pending arbitration and, accordingly, the first ground of the Defendant’s application fails.

The Second Ground

24.  In respect of the second ground, the short answer is that there is simply no arbitration agreement between the Plaintiff and the Defendant in this case.  As already pointed out, clause 5 of the Guarantee in fact suggests otherwise.  That being the case, section 6 of the Arbitration Ordinance and article 8(1) of the UNCITRAL Model Law are simply not engaged.  The second ground of this application also fails.

The Third Ground

25.  In respect of the third ground, the Defendant says it has a good defence to the present Action. 

26.  There is no dispute that if UPMG were liable to the Plaintiff for any amount, the Defendant would also be liable to the Plaintiff for such amount under the Guarantee.

27.  The Plaintiff’s claim against UPMG are brought under four heads:

(1) UPMG was in breach of its obligation under clause 6.1.2 of the Subscription Agreement in that UPMG had failed to use its best endeavours to procure the Initial Public Offer (“IPO”) to take place;

(2) UPMG was in breach of its obligation under clause 4.5.2, schedule 7 in that it had failed to redeem the Plaintiff’s convertible preference shares;

(3) UPMG had failed to pay dividends on the Plaintiff’s convertible preference shares in breach of clause 1.1.1, schedule 7; and

(4) UPMG had failed to compensate the Plaintiff for the breaches or hold the Plaintiff harmless in respect of losses arising under the Subscription Agreement.

28.  In response to the first allegation, the Defendant relies on two main arguments:

(1) The obligations were already fulfilled by a reverse take over (“RTO”) exercise.

(2) The Plaintiff through Mr Joseph Wong has already “approved” or given support to the RTO.   The Plaintiff’s approval of the RTO was further evidenced by its consent to the conversion of 914 convertible preference shares into shares of Cavalier.

29.  In my view, neither of these arguments affords the Defendant any defence to this first allegation. 

30.  IPO is defined under the Subscription Agreement in schedule 2 as meaning “the initial public offering and listing of the Shares on a recognized stock exchange approved by the Investor.”

31.  The RTO, on the other hand (as described by Mr Benson Wong) involves the acquisition by the Cavalier Group of UPMG’s shares.  This is clearly not an IPO of UPMG’s shares as contemplated under the Subscription Agreement.  The RTO was indeed “inconsistent with and inimical to an IPO” (see comments made in the Plaintiff’s solicitors’ letter dated 23 January 2008,Bundle, p. 294).

32.  I do not accept the argument that an RTO should be equated with an IPO; or that by proceeding to arrange for the RTO, UPMG has discharged its obligations under the Subscription Agreement.

33.  Indeed, the Defendant itself and/or UPMG are quite aware of the difference between an IPO and an RTO.  Just by way of an example, in the course of the correspondence in late 2007, in the letter dated 19 December 2007 from UPMG to Mr. Roberts of the Plaintiff, a number of documents were enclosed for Mr Roberts’ attention.  Among them was a memorandum which sought to explain what the RTO was.  The memorandum (Bundle, p. 486) explained under the heading “Reverse Takeover”:

“A type of merger used by private companies to become publicly traded without resorting to an initial public offering.” (emphasis added)

Under the heading “Benefits”:

“The advantages of public trading status include the possibility of commanding a higher price for a later offering of the company’s securities.  Going public through a reverse takeover allows a privately held company to become publicly held at a lesser cost, and with less stock dilution than through an initial public offering (IPO).”

34.  I take another example (Bundle, p. 428), the financial statement of the UPMG group.  In the notes, UPMG explained thus:

“Each of the Convertible Preference Shares will be automatically converted to one share of common share of the Company upon the Company’s listing of its shares in a public market.  Should no public listing occur within three years (subject to extension under certain conditions), the Convertible Preference Shares will be redeemed at a price of $2,500 per share plus a premium of 2%.” (emphasis added)

35.  These are just examples showing clearly that UPMG fully appreciated the distinction between an RTO and an IPO.  And in the financial statement that I have just quoted, UPMG clearly understood its obligation to procure the listing of its own shares, not some shares of an already listed company.

36.  In addition, the definition of IPO in schedule 2 of the Subscription Agreement refers to “the approval by the Investor”.  As rightly pointed out by Mr Maurellet, the Plaintiff has never approved that the place of listing should be Over-The-Counter Bulletin Board in the United States. Hence, the listing of the shares of Cavalier in that exchange could not have discharged UPMG’s obligation under the Subscription Agreement.

37.  On the second argument advanced by the Defendant, namely, that the Plaintiff has through Mr Joseph Wong approved the RTO, it should first be noted that Joseph Wong was not a director or officer of the Plaintiff (although he is the husband of Ms Rebecca Wong, one of the Plaintiff’s directors).

38.  The Defendant relies on an e-mail from Joseph Wong dated 2 April 2007.  However, having considered the e-mail in question, it is quite clear to me that there is no indication that Joseph Wong was clothed with the authority to represent the Plaintiff in agreeing to an RTO in place of an IPO, or to waive the Plaintiff’s right to insist on compliance with clause 6.1.2 of the Subscription Agreement.

39.  In any event, it appears clearly from the correspondence that as of December 2007 the Plaintiff had already expressed disagreement as to adopting the RTO as the manner of listing the UPMG shares.  At that stage, the time has not arrived for UPMG’s performance of its obligation to procure the IPO.  It cannot be said that the Plaintiff has in anyway led the Defendant to believe that it would not insist on performance of UPMG’s duty to procure the IPO by August 2008.

40.  The Defendant also seeks to rely on the fact that on 8 January 2008, the Plaintiff had accepted the conversion of 914 of the convertible preference shares into shares of the listed company.  However, the difficulty with this argument is that when it is viewed in the light of the letter from UPMG on 7 January 2008 (Bundle, p. 615) as well as Mr Roberts’ reply of the same date (Bundle, p. 617), it becomes clear that only such shares being held by the Plaintiff as nominees of the other investors were to be converted under the RTO exercise.  It is clear from such correspondence that the Plaintiff itself has not consented to the conversion of its own shares.  I do not therefore consider that the Plaintiff’s application for shares assists the Defendant’s argument in this regard. 

41.  Having considered the evidence, I am not satisfied that the Defendant has made out an arguable defence in answer to the allegation that UPMG has failed to procure the IPO under the Subscription Agreement.

42.  As for the second head concerning UPMG’s failure to redeem the convertible preference shares, I agree with Mr Maurellet that on a proper construction of clause 4.5.2 and 4.5.5, UPMG’s obligation is mandatory.

43.  To this, the Defendant only seeks to argue that its obligation to redeem only arises upon a failure to achieve an IPO; and consequently, because the arrangement of the RTO equates with the procuring of an IPO, the obligation to redeem does not arise.  

44.  This argument stands or falls with the previous argument regarding the distinction between an IPO and an RTO.  As I have rejected the Defendant’s argument with respect to the RTO, this defence also fails.

45.  And likewise, in respect of the third head of claim, the Defendant’s only argument again hinges on the RTO being a sufficient performance of UPMG’s obligation.  Again, that argument fails in light of my views under the first head.

46.  I need not express any views in respect of the fourth head as Mr Wong has not addressed me on that.

47.  For the foregoing reasons, I am not satisfied that the Defendant has put forward any defence with a real prospect of success.  Accordingly, the Defendant has failed on its third ground for a stay of the present proceedings.

Conclusion

48.  The Defendant’s summons is dismissed.

49.  After hearing submissions, I have ordered costs of the application to be paid by the Defendant, assessed at $174,975.00.