XCHRX CTO (H.K.) LTD. v. LI MAN CHIU AND OTHERS

HCA5165/2001

IN THE HIGH COURT OF THE

HONG KONG SPECIAL ADMINISTRATIVE REGION

COURT OF FIRST INSTANCE

ACTION NO.5165 OF 2001

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REASONS FOR DECISION

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1. This action came before me on summons day on 7 December 2001 upon the plaintiff's inter partes summons ("the plaintiff's summons") for the continuation of the ex parte Mareva injunction against all the defendants dated 1 December 2001 ("the ex parte Order"). There was at the same time a summons taken out by the defendants on 6 December 2001 for the discharge of the ex parte Order. After hearing submissions, I discharged the ex parte Order, but granted a fresh Mareva injunction to last until after the trial, upon the plaintiff undertaking to fortify its undertaking as to damages. I had given oral reasons for so doing. I now reduced them into writing.

The background

2. The plaintiff is a freight forwarder. The 1st defendant used to be its managing director. The 2nd defendant is his wife and is the former customer services manager of the plaintiff. The 1st and 2nd defendants each holds one of the two shares of $1 each in the 3rd defendant and are its directors. The 3rd defendant is a non-trading entity and functions as the designated exporter for one of the plaintiff's customers, Rustan Commercial Corporation ("Rustan").

3. In June 2001, the 1st and 2nd defendants resigned from the plaintiff following the discovery of certain misdeeds committed by the 1st defendant in respect of payments concerning Rustan. The matter was settled, and the 1st defendant executed a Deed of Undertaking dated 7 June 2001 ("the Deed") in favour of the plaintiff and paid approximately HK$1 million to the plaintiff. The 1st and 2nd defendants left the plaintiff's employment thereafter.

4. In September 2001, the plaintiff moved office. In the course of removal, a box of documents relating to the 3rd defendant was found. Investigations into the documents led the plaintiff to commence this action and to apply for the ex parte Order on 1 December 2001.

5. The plaintiff's complaints herein are twofold. Firstly, it says that the 1st defendant had caused the plaintiff to short-invoice Rustan and caused the 3rd defendant to invoice Rustan for the services not covered by the plaintiff's invoices. Secondly, it is said that the 1st defendant had caused the 3rd defendant to invoice and obtain payments from the plaintiff for expenses and charges that had not been incurred.

6. The plaintiff claims against all the defendants as constructive trustees and in money had and received. The relief sought include account and tracing remedies.

7. The ex parte Order restrained all defendants from dealing in or disposing of their properties up to a value of HK$8 million. The ex parte Order additionally restrains the 1st defendant from engaging in business which is the usual and ordinary business of the plaintiff in Hong Kong, and from soliciting the plaintiff's customers until 7 July 2002.

The discharge application

8. The discharge application was made on three grounds. It is firstly argued that the plaintiff's evidence does not support a claim against the 2nd defendant. It is also said that there is material non-disclosure with regard to the plaintiff's financial position. Thirdly, it is submitted that the prohibitory injunction against the 1st defendant should not have been made as it is enforcing a restraint of trade clause. I shall deal with these grounds in turn.

The merits of the claim against the 2nd defendant

9. It is not in dispute that payments had been made by Rustan and by the plaintiff to the 3rd defendant. The plaintiff's case is that the money received by the 3rd defendant was the plaintiff's money and trust money. The plaintiff further says that the 2nd defendant is a recipient of the money through the 3rd defendant, and that the 2nd defendant received the money with knowledge of the wrongs committed. The plaintiff therefore claims to exercise a tracing remedy against the 2nd defendant.

10. The 2nd defendant, on the other hand, says that she is only a nominal shareholder and that there is no evidence to show that she had knowledge of the alleged wrongs committed by the 1st and/or the 3rd defendants. The 2nd defendant also says that there is no evidence of a risk of dissipation of assets on her part.

11. The evidence relevant to the claim against the 2nd defendant can be summarized as follows :

(a) The 2nd defendant was, before her resignation in June 2001, the customer services manager of the plaintiff.

(b) The 2nd defendant is the 1st defendant's wife. The 2nd defendant says, however, that she is contemplating divorce proceedings against the 1st defendant.

(c) The 2nd defendant is a 50% shareholder and one of the two directors of the 3rd defendant. According to the 2nd defendant, she is only a nominee for the 1st defendant and takes no active part in the 3rd defendant.

(d) The address of the registered office of the 3rd defendant is the same as that of the 1st and 2nd defendants' home address.

(e) The 2nd defendant had jointly with the 1st defendant signed audited accounts of the 3rd defendant for the years ending 31 March 1998 and 31 March 1999.

(f) The audited accounts of the 3rd defendant record advancements made to the 2nd defendant to the tune of $88,000 and $388,000 for the years 1998 and 1999 respectively. The accounts also show that the 3rd defendant held substantial amount of deposits in its bank accounts. There are also income and expenditure of substantial amounts.

(g) The documents in the box found by the plaintiff show that almost all the "operating expenses" of the 3rd defendant were personal expenses and expenses in relation to the 1st and 2nd defendants' home.

(h) Rustan had been handled exclusively by the 1st defendant and another of the plaintiff's staff, Miss Yim.

(i) The invoices issued by the 3rd defendant to Rustan between 1995 and 1997, found among the documents in the box, were all signed by either the 1st defendant or Miss Yim.

(j) Only the 1st defendant, Miss Yim and another of the plaintiff's staff, Mr Suen, had access to the room in which the box of documents were found.

12. It is fair to say that the evidence does not directly link the 2nd defendant to the alleged wrongs committed by the 1st defendant through the 3rd defendant on the plaintiff. However, I am of the view that there is, on these evidence, a good arguable case that the 2nd defendant knew or ought to have known of the wrongs committed by the 1st defendant and involving the 3rd defendant. The 2nd defendant was the plaintiff's customer services manager. The evidence does not show that the 2nd defendant was not aware of the initial purpose for which the 3rd defendant was set up, namely, to serve as designated exporter of the plaintiff's customers, particularly, Rustan. It is also not said that the 2nd defendant did not know that the 3rd defendant was and is not a trading entity. Despite this, the audited accounts of the 3rd defendant show substantial amounts of money going in and out of the 3rd defendant and some HK$1 million deposit(s) in its bank account(s). The 2nd defendant had signed the audited accounts and the signing pages set out the balance sheet for the financial year. She must have seen, or at least would be able to see, that the company had substantial income and expenditure. She would therefore be put on notice as to the irregularities in the activities of the 3rd defendant as shown by the accounts, bearing in mind that it was not trading. While the 2nd defendant says that she is a nominee and takes no active part in the 3rd defendant, she had made no reference to nor explained the audited accounts, including loans to her of not insubstantial amount. In my view, the audited accounts, taken against the 2nd defendant's relationship with the plaintiff, the 1st and 3rd defendants, present telling evidence from which inferences can be drawn that the 2nd defendant had or should have knowledge of the irregularities and wrongs committed on the plaintiff. There is a good arguable case on the claim against the 2nd defendant.

13. As to the requirement of establishing a real risk that the 2nd defendant might dissipate her assets or render them unavailable for judgment, there is again no direct evidence in this regard. What the plaintiff relies on is that it is seeking a tracing remedy against the 2nd defendant. The plaintiff also refers to the fact that there are complaints of dishonesty against the defendants. I have concluded that there is a good arguable claim against the 2nd defendant for a tracing remedy. There is also a good arguable case that the money claimed by the plaintiff is money of the plaintiff. Considering this and my conclusion on the 2nd defendant's knowledge of the misdeeds committed through the 3rd defendant, which involves a low standard of morality on the part of the defendants, I am of the view that is it justifiable to infer that there is a real risk that a judgment in favour of the plaintiff would remain unsatisfied if the Mareva injunction is refused.

Material non-disclosure

14. The plaintiff deals with its financial position in the context of an undertaking as to damages in paragraph 39 of the affirmation of Cheung Wing Yee filed on 1 December 2001. The material part reads :

"The plaintiff is both willing and able to give [an undertaking as to damages]. The plaintiff has a paid up capital of HK$3 million which is intact. The plaintiff's turnover in 1999 to 2000 is over HK$100 million although by reason of the economic downturn and the 1st defendant's misfeasances, the plaintiff's business has not been profitable."

15. The defendants criticize this paragraph and in particular the word "intact" as being ambiguous. In his affirmation in support of the discharge application, the 1st defendant pointed out that the paid up capital of the plaintiff was only increased to HK$3 million in 1996. He said that the plaintiff was unable to pay its rent and trade debts, which amounted in June 2001 to over HK$10 million. The 1st defendant further stated that the plaintiff has been making losses since 1996 and that it has no substantial tangible assets.

16. The duty of a plaintiff in an ex parte injunction application to disclose its financial position has been considered by the Court of Appeal in Wah Nam Holdings Co. Ltd & Ors v. Excel Noble Development & Ors [2000] 3 HKC 118. Ribeiro J (as he then was) said at page 128I and 129C-E that :

"It is clear that where, as in the present case, a cross-undertaking is given to the court, if nothing further is said, the court will take the plaintiff to be impliedly representing that his financial position allows him to meet his potential liability thereunder.

...

It follows that if a plaintiff's financial position is such that, viewed fairly, it may be said to raise realistic doubts as to the plaintiff's ability to honour the cross-undertaking, it becomes incumbent upon the plaintiff to make full and frank disclosure of his financial position to the ex parte judge so as to permit the judge to determine for himself the correct order to make in the light of such disclosures. The judge in such cases has various options. He may consider it proper to refuse the injunction altogether. Or, he may decide to require some degree of fortification of the cross-undertaking as a condition for the grant of the injunction. Alternatively, he may simply decide to grant the injunction against the cross-undertaking notwithstanding the risk that it may not be honoured or fully honoured if called upon. It is however crucial that all relevant material be placed before the judge so that he can make the decision for himself : Lock Internation plc v. Beswick [1989] 1 WLR 1268 at 1279C."

17. I accept that the term "intact" is capable of different constructions. It may mean that the net asset position of the plaintiff is of a value no less than the value of its share capital, which, Mr Chain for the plaintiff says, is the meaning the plaintiff was conveying to the ex parte judge. But that does not necessarily mean that the plaintiff is in a position to meet a claim for damages arising out of the grant of a Mareva injunction. The point for consideration is whether the plaintiff should have gone on to tell the ex parte judge something more about its financial position. What the plaintiff had done in the supporting affirmation is to go on to mention its annual turnover and to say that its business has not been profitable. In my view, that is an economical way of stating its financial position.

18. The 1st defendant had since stated on oath certain matters relating to the plaintiff's financial position. Those matters are relevant to the consideration of the ex parte judge and ought to have been made known to him. What views would the ex parte judge have formed of those matters is entirely a matter for him. Even if they would result in a very dim view being taken of the plaintiff's financial ability, yet if the ex parte judge nevertheless considered this a proper case to grant the injunction, then that does not give rise to any ground for attacking the ex parte Order.

19. What happened here is that there had not been a disclosure of that nature before the ex parte judge. The failure to disclose is in my view material and fatal to the ex parte application. The defendants' objection on this ground is a valid one. The ex parte Order ought therefore to be discharged.

The prohibitory order against the 1st defendant

20. In clause 2(c)(i) of the Deed given by the 1st defendant to the plaintiff, the 1st defendant undertakes, for a period of 12 months from the date of the Deed, not to enter into, carry on or be engaged, concerned or interested in the usual business of the plaintiff in Hong Kong. Under clause 2(c)(ii), the 1st defendant further undertakes not to induce or solicit any individual or company that had been the plaintiff's customer in the 48 months before the date of the Deed. There are other restrictions contained in clause 2(c) of the Deed.

21. I accept that the law does not necessarily differentiate between a restraint of trade clause contained in an employment contract and one contained in other types of contract in terms of the test for deciding whether to enforce a restraint clause. The test is ultimately one of reasonableness of the clause. However, the fact that the contract under consideration is not an employment contract is relevant when addressing the question of whether the restraint clause is reasonable in scope or the subject matter of restraint.

22. The 1st defendant's objection here is that the plaintiff has not shown that there is a legitimate interest that requires protection. In meeting this objection, Mr Chain refers to the decision in BSC Building Materials Supply Co. Ltd v. Cheung Chi Hung Michael [1998] 2 HKC 425. In that case in considering whether the employer had a legitimate interest in terms of its trade connection and business secret, Waung J attached significant importance to the fact that the employee occupied a high position of executor director and would have built up and acquired access to the trade connection and secrets of the plaintiff.

23. The plaintiff's business is in freight forwarder. It is arguable that trade connection and customer relation are important and legitimate interest of the plaintiff that require protection.

24. The 1st defendant, prior to his resignation, was the managing director of the plaintiff and was fully in charge of the plaintiff's operation in Hong Kong. He was said to be in total control of the operation of the plaintiff. Arguably, by virtue of his position, the 1st defendant is in a position to have access to the plaintiff's trade connection and/or to nurture relationship with the plaintiff's customers. Considering these and also the background leading to the conclusion of the Deed that contains the restraint clause, I am satisfied that the plaintiff has made out a case that the clause is a reasonable one.

The application for re-grant of Mareva injunction

25. Consequent upon my conclusion that there had been material non-disclosure with respect to the plaintiff's financial position, the ex parte Order was ordered to be discharged. The plaintiff moved for a re-grant of the Mareva injunction.

26. It is not disputed that there is power to grant a fresh Mareva injunction following the discharge of an ex parte order : Shenzhen Universal Enterprises Industry and Trade Company Supplies v. Wei Bun Trading Co. Ltd [1989] 1 HKLR 470. It is a matter of discretion.

27. In support of the fresh application, Mr Chain argues that the non-disclosure is innocent and that it is in truth a case of insufficient disclosure, as opposed to complete omission. Mr Chan disagrees that the failure is innocent because the plaintiff must have known that it had defaulted in paying its rent and had outstanding trade debts. It is also pointed out that the plaintiff is financially not good for an undertaking. It is further proposed that the 2nd defendant be given an opportunity to address the matters relating to the audited accounts of the 3rd defendant. In reply and at my instigation, the plaintiff through counsel offers to fortify its undertaking by means of the provision of a bank guarantee in the sum of HK$1 million within 14 days. Mr Chan submits that if fortification is to be ordered, it should be in the sum of HK$3 million.

28. In exercising the discretion of the case, I note that this is not a case where there is a complete failure to disclose the material facts, but is one where the disclosure made is insufficient to enable the ex parte judge to form a faire view of the plaintiff's financial ability to meet its undertaking as to damages. I agree that this is not a case of culpable non-disclosure or one where there is deliberate attempt to mislead the court. Considering this and looking also at the overall circumstances of the case, I am of the view that it is just and convenient that there be a re-grant of the Mareva injunction upon an undertaking to fortify that undertaking as to damages.

29. On the question of the amount to be covered by the bank guarantee, I do not regard the offer of HK$1 million as unreasonably low. As the evidence stands, no particular loss has been identified. There is no evidence to suggest what may be the likely scale of whatever loss the defendants may suffer as a result of the Mareva injunction being in place. As to the offer to fortify within 14 days, I agree that the time proposed is too long and I will shorten it to seven days. The plaintiff's undertaking as to damages is to be fortified by the provision within seven days of a bank guarantee in the amount of HK$1 million.

Exceptions to the Mareva injunction

30. The defendants ask that exceptions be made for their legal expenses and living expenses. The plaintiff does not oppose as a matter of principle, but disagrees with the amounts sought. The plaintiff has in the ex parte Order made provisions for the defendants' living and ordinary expenses in the amount of $5,000 per week and $100,000 for their legal expenses. There is also exception relating to mortgage payments which the plaintiff agree to include in the new Mareva injunction. The plaintiff also does not object to making provision for tax payments.

31. On behalf of the 1st and 2nd defendants, it is said that they respectively need $100,000 and $150,000 each month to meet their living expenses and that additionally they would each need $750,000 as legal fees for the further conduct of the discharge application, which is on top of $200,000 already spent.

32. The 1st and 2nd defendants' figures on living expenses are based on two schedules of expenditure which include items such as mortgage repayments, credit card and loan repayments and maintenance of parents. I agree with Mr Chain's observations that it cannot be right that the recurrent living expenses of the defendants should include repayments to the tune of $40,000 or $20,000 each month. They should form the subject matter of specific exceptions upon clear evidence in support being adduced. Mr Chan has suggested that the defendants be at liberty to apply on a future date for specific exceptions with regard to their credit card and other loan repayments upon the drawing up of a schedule of such liabilities. I am prepared to go along with that.

33. As to the level of living expenses, leaving aside mortgage repayments, tax liability and loan repayments, a reasonable figure for the 1st defendant is $30,000 per month. In the case of the 2nd defendant, taking into account that she has also to meet the expenses of their child, a reasonable monthly amount is $40,000.

34. On the legal fees, I have to say that I am every skeptical of the proposed figure of $750,000 for each of the defendants for the further conduct of the interlocutory injunction. It is neither justified nor reasonable. I will only sanction $150,000 for each of the 1st and 2nd defendants, apart from providing for the $200,000 that had already been incurred.

Costs

35. The defendants ask for the costs of and occasioned by the discharge application. Mr Chain does not feel able to argue against it. I therefore order that the costs of and occasioned by the discharge application be to the defendants against the plaintiff, to be taxed if not agreed. Otherwise, the costs of the plaintiff's inter parte summons be costs in the cause.