DRAGON SUCCESS ENTERPRISES LTD v. AESO HOLDING LTD

HCMP 1647/2017

IN THE HIGH COURT OF THE

HONG KONG SPECIAL ADMINISTRATIVE REGION

COURT OF FIRST INSTANCE

MISCELLANEOUS PROCEEDINGS NO 1647 OF 2017

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D E C I S I O N

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Background

1.  The Plaintiff seeks, as a secured creditor, to enforce a Share Charge against the defendant (“the Company”) and asks for the appointment of receivers to receive the charged share.

2.  By way of background, the Company was listed on the GEM of the Hong Kong Stock Exchange (“HKSE”) on 13 January 2017.  It holds one share in Aeschylus Ltd (“the Share”).  Aeschylus Ltd in turn holds 100% of the shareholding in Aeso Ltd.  The Company, Aeschylus Ltd and Aeso Ltd will collectively be referred to as “the Group”.

3.  Aeso Ltd is the operating arm and cash cow of the Group.  Aeso Ltd operates the business of providing fitting out and renovation contracting services of Hong Kong premises. 

4.  On 13 April 2017, 5 requisitionists requisitioned for an EGM seeking to replace the entire board of directors, including Jones Chan, the founding member and largest shareholder of the Company.

5.  A war erupted between 2 camps of shareholders headed by Jones Chan (“the Chan’s Camp”) and Liu Chang Kien (“the Liu’s Camp”).  Each wanted to wrest control over the Company.

6.  On 11 and 12 June 2017, the Company issued contradictory announcements. The Chan’s Camp sought to remove Zhang Qi (“Zhang”) and Law Wing Kit (“Law”) as directors. The Zhang’s Camp alleged that Liu's Camp was prohibited by an injunction order dated 9 June 2017 from exercising their powers as directors. 

7.  On 12 June 2017, the Company’s shareholders passed resolutions at an EGM (“the EGM”) which purportedly removed the “puppets” of Jones Chan from the board whilst Jones Chan remained.  A New Board comprising, amongst others, Zhang and Law were appointed directors.

8.  On 12 June 2017, HKSE directed that, pending clarification of the Company’s contradictory public announcements, trading in the shares of the Company be halted on that day (“the Trading Halt”).  The Trading Halt has continued till this hearing.

9.  Since June 2017, 8 sets of proceedings (including the present case) have been commenced involving the Company and one or more of the 2 camps.  There are cross-allegations of fraud and collusion and cross applications for injunctions against exercise of powers as directors. Amongst the proceedings was a petition by Jones Chan to wind-up the Company.

10.  On 30 June 2017, in HCA 1496/2017, I refused Jones Chan’s application for an “interim” interim injunction and held that the New Board should take control.  After a substantive hearing, B Chu J handed down judgment on 31 August 2017 (“B Chu J’s Judgment”), granting an interim injunction to restrain, amongst others, the Liu's Camp from relying on and/or carrying into effect, the resolutions passed at the EGM SAVE AND EXCEPT any resolutions passed for the Company to continue to defend the present proceedings and in particular this receivership summons, and to continue HCA 1737/2017 (§174).  Accordingly, Jones Chan has become the only director on the board.

11.  Amidst the shareholders’ war, on 3 July 2017, the Plaintiff demanded the Company to repay a loan for HK$34,804,119.55.  The Plaintiff relied on a Loan Facility Agreement (“the Loan Agreement”) dated 8 June 2017 which extended a facility of $50 million to the Company and a Share Charge by which the Company charged the Share to the Plaintiff as security for the loan.

12.  It is the Plaintiff’s case that continuation of the Trading Halt for 15 business days up to 3 July 2017 entitled the Plaintiff to demand for repayment under the Loan Agreement.  Further, there were events of default in that the Company has failed to repay within 3 days of the Plaintiff’s demand and there was a petition for winding-up against the Company.

13.  The Plaintiff has tried to register the Share Charge through the Company’s registered agent in Cayman Islands.  Aeschylus Ltd (through Jones Chan) also instructed lawyers to effect the share transfer in favour of the Plaintiff.  However, due to the intervention of the Company, the process was not completed.

14.  The Plaintiff issued the present originating summons on 21 July 2017 and the summons for appointment of interim receivers on 1 August 2017. This is opposed by the Company on the following broad grounds:

(1)   Fraud between the Plaintiff and Jones Chan to strip the Company of its cash cow and to frustrate the New Board’s control over the Company’s business;

(2)   The Plaintiff voluntarily assumed risk when making the loan at a time of the Company’s internal conflict;

(3)   The availability of financial resources to repay the loan;

(4)   The appointment of receivers would cause irreparable financial and reputational harm to the Company.

Legal principles

15.  The court has discretion to order the appointment of a receiver to take steps to protect charged property where the security is in jeopardy.  The receiver shall preserve the subject matter of the dispute for the benefit of the party ultimately held entitled: Chen Hongqing v Mi Jingtian and ors, HCMP 962/2017, 27 June 2017, Mimmie Chan J, §§40, 78-79.

16.  In deciding whether to grant any interim relief, the court should take whichever course which appears to carry “the lower risk of injustice if it should turn out that it is wrong”: Music Advance Ltd v Incorporated Owners of Argyle Centre Phase I [2010] 2 HKLRD 1041.

17.  The general principles in American Cyanamid apply.  The court needs to consider if there is a serious issue to be tried, whether there is risk of dissipation, the damage to the company if the appointment is made and whether such damage can be adequately compensated by damages.

18.  The Court must treat the receiver application with “very great circumspection”, particularly where receivers are to be appointed over the entire asset/undertaking of a company, not just a particular asset: Bond Brewing Holdings Ltd v National Australia Bank Ltd & ors (1990) 1 ACSR 445 at p 456; Re Niceline Co Ltd [2003] 2 HKLRD 725 at §71.

19.  Where a company with an active trading business as opposed to an asset holding company is concerned, the appointment of receivers has more adverse effect.

20.  The stigma attached to the appointment of receivers in the eyes of the public must not be overlooked, for it is difficult for the public to distinguish between receivers appointed on grounds of insolvency and those for other reasons: Jaber v Science & Information Technology Ltd [1992] BCLC 764 at 789H; Re Niceline Co Ltd at §72.

Application of the legal principles

21.  As a result of B Chu J’s Judgment, Mr Wong SC (originally instructed by the New Board) decides “not to say anything” about this summons because of the uncertainty over whether the New Board still had the authority to resist this summons.  I do not share his view because the present proceedings have been excepted in §174 of B Chu J’s Judgment.  In any case, lacking the Company’s submission on the merits does not mean the court will shut its eyes to the evidence.

Ground (1) – Fraud between the Plaintiff and Jones Chan

22.  As regards the loan, the Plaintiff’s case is supported by 7 drawdown notices dated between 16 June and 3 July 2017.  The money was used as performance bonds of the Company to enable the Group to secure construction projects: §153 of B Chu J’s Judgment.  In addition, Jones Chan (as executive director) has written to the Plaintiff to accept liability and admit inability to repay (“the Admissions”).

23.  The Company has no defence to the claim for repayment of the $34.8 million principal.  The Company itself has issued a writ in HCA 1737/2017 seeking to set aside the Loan Agreement and so it would be unjustly enriched if it were allowed to keep the Plaintiff’s money. 

24.  Even if there was fraud, there is nothing to show that the Plaintiff has suffered any monetary loss to entitle it to set off the loan.

25.  As regards the Share Charge, the position may be different.  The Company pointed out some suspicious features in its affirmations.

26.  Firstly, the Loan Agreement produced by the Plaintiff contains a term entitling the lender to demand immediate repayment when “there is any change in substantial shareholding, control or management in the Borrower”.  This term is missing from the version circulated by Jones Chan at a purported directors’ meeting.

27.  Secondly, there is no dispute that Zhang and Law had not received notice of the 2 board meetings which were held on 9 and 11 June 2017 to approve and ratify the Loan Agreement, Share Charge and execution of the Instrument of Transfer.  Even on Jones Chan’s version, the resolution in the 2^nd board meeting was after all the other directors left when he “suddenly” recalled the need to ratify the Loan Agreement and Share Charge. 

28.  Thirdly, in the hearing for interim injunction heard before me on 30 June 2017, Jones Chan never produced the Loan Agreement and Share Charge to show that the Plaintiff as lender might demand repayment of a substantial loan if there were to be a change in control or management.  Instead, Jones Chan produced a couple of letters from small contractors to demonstrate the negative effect of change of management on the Company.

29.  Fourthly, the timing of the last tranche of the loan on 3 July 2017 was particularly suspicious.  The Plaintiff lent a very substantial sum of $11 million and its solicitors issued a demand letter for repayment of all 7 tranches of the loan on the very same day. 

30.  Fifthly, the Admissions were made by Jones Chan without discussion with other directors.

31.  Sixthly, shortly after the Plaintiff demanded for repayment of the loan, Jones Chan presented the winding-up petition on 10 July 2017.

32.  Seventhly, on the following day, Jones Chan, purportedly on behalf of Aeschylus Ltd instructed lawyers to request the agent to register the transfer of the Share to the Plaintiff whilst the Plaintiff instructed another agent to request for registration of the Share Charge.

33.  Eighthly, the Plaintiff took out a peculiar application on 21 July 2017 in its capacity as creditor for an order that sought to prevent the New Board from taking control over the Group. 

34.  Ninthly, upon knowing that the change in directorship had taken place, the Plaintiff took out the present application for receivership.

35.  The applicant in a receiver application must come to Court with “clean hands”: Macau First Universal International Ltd v Ding Xiaohong (No 2) [2012] 2 HKLRD 494 at §28.

36.  The receiver application will be refused if the applicant seeks to derive advantage from his dishonest conduct: Spry, Principles of Equitable Remedies (9^th ed), p 254.

37.  The fact that an interim relief is sought in furtherance of a fraud is ordinarily a conclusive objection to the relief sought. (Spry, Principles of Equitable Remedies (9^th ed), p 513.)

38.  In any event, to the extent there is uncertainty as to the matters giving rise to “unclean hands”, such matters should be taken into account when considering the question of balance: Spry, Principles of Equitable Remedies (9^th ed) at p 513.

39.  I have considered the Company’s evidence.  The Company may have reasons to doubt the validity of the Share Charge.  That said, I am of the view that it is a quantum leap to say that an agreement induced by fraud is “illegal”. If fraud is established, the Company may be entitled to damages or a declaration that the Share Charge was not enforceable.  However, on the evidence, there is nothing to show loss suffered by the Company: Target Holdings Ltd v Redferns [1996] 1 AC 421, 432-434 Lord Browne-Wilkinson.  At best, successful challenge to the Share charge would make the Plaintiff an unsecured creditor.

40.  On the other hand, Jones Chan might have his own agenda when entering into the Loan Agreement and Share Charge.  However, even if the Plaintiff’s conduct has in reality assisted the Chan’s Camp in the shareholders’ war, there was nothing to show that the Plaintiff was acting in collusion with Chan.  Ten years’ friendship between Mr Ho of the Plaintiff and Jones Chan would not make a difference to my view.  There is also no evidence to show that the Plaintiff was aware of the internal irregularities, such as absence of notice of directors’ meetings.  The different version of the Loan Agreement circulated by Jones Chan was not signed by the Plaintiff.

41.  The defence to the Share Charge remains only arguable at this stage.

Ground (2) – Voluntary assumption of risk

42.  The timing of the making of the Loan Agreement and Share Charge was peculiar.  It was a matter of public knowledge that there were conflicts regarding management of the Company because of the various announcements.  It is the Plaintiff’s own evidence that Mr Ho would read the Company’s announcements.  According to the Company, this was the Plaintiff’s voluntary assumption of risk from the outset of the loan transaction: Jian Tools For Sales Inc v Roderick Manhattan Group Limited [1995] FSR 924 at pp 943-944.

43.  I do not agree that a lender who lends to a Company with internal conflict would compromise his legal rights despite clear legal drafting.  Jian Tools concern the defendant’s adoption of a sign which could potentially constitute passing off despite the Plaintiff’s objection.  The factual scenario was different and inapplicable here.

Ground (3): Availability of financial resources to repay the loan

44.  The Company’s evidence on financial position is as follows:

(a)   The business is operating.  Aeso Ltd’s monthly income is about $9 million.

(b)   The Company’s revenue (mostly contributed by Aeso Ltd) for April to June 2017 was approximately $28.4 million, representing an increase of 50% compared to the period in the previous year.

(c)   Despite the increase in revenue, the Company has suffered loss of HK$12.17 million because of the increase in administration expenses (HK$16 million), largely for professional fees that Jones Chan allegedly caused the Company to incur for his personal agenda.

(d)   The current assets are about $122 million as at 31 July 2017.  It has account receivables of $50.9 million and amount due from customers for unbilled work done at $24.9 million.

(e)   The Company’s market capitalization (which is reflective of Aeso Ltd’s value) is about $540 million. 

(f)   The senior management of Aeso HK has not changed and are capable of carrying out the Company’s business.

(g)   The Company has a credit line of $50 million.

45.  On the other hand, Mr Barlow SC points out that the Company only has cash of HK$5.18 million.  It is cash insolvent when one takes into account the amount due to the Plaintiff and the fact that bank facilities have been terminated or suspended.  The Company has deliberately withheld its cash flow statement from the Plaintiff, despite Liu’s Camp having obtained the same from Chan’s Camp following the decision of L Wong J dated 11 August 2017 in HCMP 1721/2017.  There is no way to find out if the Group’s business would remain viable so as to maintain the value of the Share.

46.  There are no particulars as to the Company’s current assets or account receivables (taken from the one-page Consolidated Statements of Financial Position of the Company).  That is clearly insufficient to demonstrate the Company’s solvency or positive net worth: Re Universal Dockyard Ltd [2004] 1 HKLRD 935, §47.

47.  Moreover, the Company does not own fixed assets and its turnover is derived substantially from non-recurring projects.  The dispute between the 2 camps of warring shareholders have made it difficult for the Group to secure new projects.  There is risk of employers of projects calling on Aeso Ltd for the surety bonds to guarantee performance.  It would in turn lead to devastating consequences on the Group’s operations.

48.  There is doubt as to the genuineness of the credit line provided by New Century Services Co Ltd which has not been answered by the Company.  In particular, Jones Chan as the (undisputed) director of the Company has deposed that he was never informed of the negotiations or any board meeting or resolution in relation to the credit line and hence challenges its genuineness.  In addition, New Century is a $2 company owned by shareholders living in public housing estates.

49.  L Wong J has on 28 July 2017, in a previous application for injunction invited the Company to utilize the credit line to repay the Plaintiff, but that was not accepted by the Company.

50.  Further, the senior management of the Company are all from the Liu’s Camp who do not possess similar expertise as Jones Chan.

51.  The availability of financial resources to repay the Plaintiff remains in doubt.  The Plaintiff’s security is in jeopardy as a result of the shareholders’ war.

Ground (4): Irreparable harm to the Company

52.  It is true that the appointment of receivers may cause reputational harm to the Company and damage to the goodwill and reputation of Aeso Ltd: Re Niceline Co Ltd, 741I-743I.  Such damage is not readily quantifiable: Re Full Billion Shipping Ltd [2003] 2 HKLRD 674 at §§48-50.

53.  However, the Company has not shown how appointment of receivers would have caused additional financial and reputational harm to the Company over and above that already caused by the Trading Halt, the press reports of the litigation and harassment of lawyers and petition for winding-up.  The listing status of the Company was already at risk before this summons.

Exercise of discretion

54.  Applying American Cyanamid, the Company has no defence at all to the claim for repayment of the loan but has refused to repay despite the existence of a credit line and in the light of what appears to be a cash insolvent position.  The order of B Chu J has caused Jones Chan to be the only director on the board save for some exceptions.  In view of the doubtful solvency and the shareholders’ war, the interests of the creditors are the paramount consideration: BCEG International Co Ltd v Liu Xiu & anor, HCMP 3219/2016, 14 March 2017, §§24-26, Au‑Yeung J.

55.  In earlier proceedings before me on 30 June 2017 for an injunction in HCA1496/2017, both the Chan’s Camp and Liu’s Camp said they were content to consider the appointment of receivers to facilitate resolution of their dispute: transcript of hearing, pp 3N-O, 7A-M, 17A-B.

56.  The balance is clearly in favour of appointment of receivers pending trial so that the Plaintiff’s rights would not be prejudiced.  In the case of a winding-up, the Share Charge, if established, would be hived off from the general assets of the Company.

Terms of appointment

57.  The relief is interim.  I do not intend to give the Plaintiff greater protection than is required.  The Company will first be given an opportunity to pay the principal ($34,804,119.55) with interest thereon totalling $35,464,904.22 into court, failing which the receivers will be appointed immediately.  This will cause the least disturbance to the Company.  It would not be a costly exercise since the Company is a holding company only.

58.  Insofar as the scope of authority is concerned, I will only authorize the receivers to receive the Share and all rights, dividends and benefits arising thereunder.  The question of who should control or manage the Company is not a straightforward one.  At this stage, I see no reason why the receivers should be empowered to change the composition of the board of any company in the Group without prior approval of the court.

59.  Appointing receivers involve fees.  The Plaintiff is a HK$1 company.  It is not clear when the war between the shareholders will come to an end.  It is best for the receivers to be secured in terms of remuneration.  I therefore order the Plaintiff to deposit $300,000 into court as security for the remuneration for the receivers and $500,000 to fortify its undertaking as to damages as a condition for the appointment of the receivers.

60.  Applying Music Advance, the appointment of receivers subject to the conditions I have imposed in the 3 preceding paragraphs is least likely to cause injustice in the event that the order turns out to be wrong.

Conclusion

61.  Upon the Plaintiff’s undertaking to indemnify the receivers for their remuneration, I order as follows:

(1)   As a pre-condition for the appointment of receivers, the Plaintiff shall deposit a sum of HK$300,000 into court as security for the receivers’ fees and another $500,000 to fortify its undertaking as to damages, both by 4 pm on 8 September 2017.

(2)   Unless the Company pays $35,464,904.22 into court by 4 pm on 8 September 2017, Mr Stephen Liu and Mr David Yen shall be appointed as receivers over the Share.

(3)   There be an order in terms of the draft order submitted to me save that in paragraphs 5(2) and 5(3), there shall be added in the beginning the following words:

“Subject to approval of the court, …”

(4)   The receivers are at liberty to apply to the relevant agent to register the name of the shareholder to that of the receivers.

62.  As for costs, having regard to paragraph 49 above, I am of the view that the appropriate costs order should be the Plaintiff’s costs in the cause with certificates for 2 counsel and I make an order nisi accordingly.

63.  I thank counsel for their assistance.