THAKRAL CORPORATION (HK) LTD v. IRIVER HONG KONG LTD

HCA 2635/2004

IN THE HIGH COURT OF THE

HONG KONG SPECIAL ADMINISTRATIVE REGION

COURT OF FIRST INSTANCE

ACTION NO. 2635 OF 2004

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J U D G M E N T

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1.  The plaintiff Thakral engages in Hong Kong in the distribution of electronic devices; buying from the manufacturer or supplier and selling to authorized retailers the goods in question.  The defendant iRiver makes electronic devices and in particular MP3 players in various models.

2.  In the latter part of 2003 following a trial period Thakral became a distributor in Hong Kong of iRiver’s MP3 players.  Although a draft distribution agreement, designed comprehensively to bind the parties to its terms, was prepared and circulated, it was not signed.  Notwithstanding, both parties now accept they were contractually bound to each other; however, the terms are disputed. 

3.  In February 2004 iRiver terminated the relationship and called for the return of its unsold stock.  Thakral claims this conduct was a wrongful breach; that the parties were committed to perform until 31 July 2004.  By this action it sues in damages to recover the loss of actual profits and those it claims it would have earned had the contract run its course.

4.  iRiver’s defence advanced at trial was that Thakral was in fundamental breach of an express term of their contract, alternatively an implied term, entitling it to terminate forthwith.  That term was that for the duration of the contract Thakral was committed not to promote or market in Hong Kong any product in competition with those of iRiver.  And yet it did so, namely, it promoted and marketed an MP3 player known as ‘Yes’.  The Yes MP3 player was in fact a brand of player that Thakral had itself developed and made.

5.  Thakral does not dispute it marketed the Yes player at the same time, but disputes the existence of a non-compete term of their contract, or that it was in breach of the contract.  Thus it holds firm to the view that iRiver terminated the distributorship wrongfully, and of its entitlement to the consequential financial loss.

6.  In the absence of a definitive, written and signed agreement of distributorship between the parties, their respective cases stand and fall on what were the agreed terms, whether there was a breach and if so the consequences of that breach, gleaned from the written and spoken words and conduct of those representing the parties.

7.  The evidence variously relied on by both parties comprises the draft (but unsigned) distribution agreement which was prepared for and on behalf of iRiver and sent to Thakral, written comments concerning various terms of the draft distribution agreement made by the in-house auditor of Thakral, email traffic between representatives of the parties, and a notice issued by iRiver at the request of Thakral that Thakral had been appointed to be its authorized distributor until 31 July 2004.

Background

8.  iRiver is the Hong Kong based subsidiary of a South Korean listed company called Reigncom Limited.  A co-founder was Marilyn Chen, who was at the material time and still is the CEO of iRiver.

9.  On Ms Chen’s evidence the parent company developed the iRiver brand of MP3 player and began marketing it in South Korea from the end of 2000.  She said sales went well to the extent that for three years it was the market leader in South Korea, with 65% of the market share.

10.  From the outset the parent also promoted the brand for sale in Hong Kong.  However, here their marketing strategy was low key and mainly online.

11.  In or about mid-2002 the parent decided to appoint a distributor to engage the market in Hong Kong more robustly.  They chose Jebsen & Co. Limited.  Jebsen had a strong presence in Hong Kong in MP3 players; in fact, it was then the market leader with its own brand JNC.  It was chosen for this purpose.

12.  iRiver was incorporated in Hong Kong.  Then iRiver and Jebsen joined forces to design and promote an MP3 player called Jebsen iRiver.  According to Ms Chen sales were encouraging.  Under the arrangement Jebsen was permitted to continue to market its JNC brand.

13.  But by mid-2003 there were problems.  Ms Chen said that without authority Jebsen took the product into the PRC and undercut iRiver’s appointed distributor there with whom they had a non-compete agreement.  Worse, Jebsen developed a counterfeit player under the same name and in direct competition.

14.  In these circumstances iRiver was keen to disengage and deal with another distributor.

15.  For its part Thakral is a subsidiary of Thakral Corporation Limited, which is a Singapore-based, publicly listed company whose group of companies engages globally in trading, distribution, manufacturing and property development.  Thakral being the Hong Kong based subsidiary has for sometime been involved in the distribution of high-end electronic products, including those of Panasonic, Samsung and Sanyo.

16.  In charge of sales and distribution in Hong Kong is one Andy Lulla, who has been employed as vice-president of sales and marketing since 1998.

The Parties Converge

17.  Mr Lulla made the first approach.  In early July 2003 he met Frank Cheng and May Leung, respectively a director and the marketing manager of iRiver, and gave them a sales pitch, highlighting Thakral’s years of experience and that it was already the distributor of MP3 players for Samsung and Sanyo.

18.  As this introduction coincided with iRiver’s intentions to stop dealing with Jebsen, Ms Chen set up a second meeting with Mr Lulla, still in July, and discussions continued.  The upshot was that iRiver agreed to use Thakral to distribute its MP3 players to a limited market, being audio/video shops in Tsimshatsui District, for a trial period.

19.  Ms Chen revealed iRiver’s goal to increase significantly its market share in Hong Kong from the current level of 3%, and Mr Lulla promised that Thakral would do its best to help them achieve that.  All that is agreed. 

20.  What is not agreed is Ms Chen’s assertion that at the meeting she made it clear that if the parties were to contract, following a trial period, it would be a necessary condition that Thakral should no longer distribute any other branded player in competition with iRiver’s MP3.  And on her account Mr Lulla agreed to this.  Thus came into being the non-compete obligation which is central to iRiver’s case.

21.  Mr Lulla for his part just as strenuously denies this was a term of the engagement of Thakral’s services.  He said it would have made no commercial sense to lose the business of established and popular brands for that of the diminished business of a fledgling in Hong Kong well off the pace in terms of sales.  He said it was Thakral’s track record which attracted Ms Chen’s interest.  His assurance that Thakral would do all it could to help iRiver extend its market share did not include a commitment that it would stop distributing other brands nor would it be a necessary feature of the prospective relationship.

22.  It is pertinent to note that no minutes of the meeting were taken or details of the decisions made recorded.  And in follow up email correspondence there was no reference to a non-compete provision.  It is significant, too, that even as the relationship foundered giving rise to complaints made by iRiver, breach of the non-compete term was not one of them.

23.  It is further noteworthy that throughout the relationship it was not negotiated and certainly not agreed that iRiver for its part should be restricted only to using Thakral as its distributor in Hong Kong.

Business Gets Underway

24.  Thakral placed its first order in mid-August 2003 and thereafter there were a number of further orders.  Whilst there were issues and niggles, the parties both accept that this signalled the successful conclusion of the trial period.

25.  By now it was October 2003.

26.  Email traffic reveals that Thakral’s area of operation was expanded to other parts of Hong Kong and selected chain stores, including Broadway and Fortress.  Finally, it became territory-wide.  Thakral was invited to submit a marketing plan with sales forecasts.

27.  Significant to Thakral’s case is that with no formal distributorship agreement yet binding the parties, Mr Lulla asked for something in writing confirming the appointment by iRiver of Thakral as distributor of its MP3 players.  iRiver obliged.  By letter on its letterhead dated 4 November 2003 it wrote:

“To whom it may concern

Dear Sir/Madam

Re: Authorised Distributor

This is to certify that Thakral Corporation (HK) Ltd. are appointed by iRiver Hong Kong Limited as our authorized Distributor over the full region of HKSAR to carry iRiver brand products until July 31 2004.”

It included a telephone number to be dialled in case of any query.  The letter was chopped and signed by Mr Cheng, who I have already identified to be a director of iRiver. 

28.  On 17 November another letter in near identical terms was written and delivered.  This one was signed by Ms Chen, the CEO.  The reason for a repeat is disputed; nothing turns on that.  At any rate, both signatories were empowered to bind iRiver.

29.  Thakral regards this in the absence of anything more formal as notice that the parties were committed to a distributorship agreement throughout Hong Kong and that it was scheduled to run until the end of July 2004.

30.  The response of iRiver is that it was a document prepared at Thakral’s request to give comfort to those retailers Thakral was to invite business from, confirming Thakral’s authority and status; that it is a nonsense to treat it as containing terms to bind the parties; that pending anything more formal there was no designated term the distributorship was to run.

31.  On 14 November iRiver sent to Thakral for consideration a draft distribution agreement.  This was a comprehensive, professionally drawn document, which Ms Chen testified was the same or similar to those it used worldwide.  It contained a non-competition clause.  It also provided for a cut-off date, being 31 July 2004.  The same was referred to the Thakral group’s in-house legal counsel, Sanjib Sengupta.  He made notes on one copy.  This included one in which he viewed as unacceptable the non-competition clause, given that Thakral was already distributing competing MP3 players into the market.

32.  In the event this document in whatever form was never signed.  Representatives of the parties did meet to discuss the terms and Mr Sengupta’s comments.  This was in mid-January 2004.  David Leung, husband of Ms Chen and employed by iRiver on a consultancy basis, was at the meeting.  Following the meeting he emailed that he would get back to Thakral on the matters raised.  But that did not happen.

China Express

33.  This is a convenient description for two subsidiaries of Thakral Corporation Limited, China Express Corporation and China Express Associates.  During the course of the trial period and distributorship that subsequently was contracted for Thakral sometimes for convenience used China Express to make the sales to retailers.  In fact more often than not sales were made by China Express using personnel of China Express.

34.  And this was to have implications which led to the parting of the ways and this action.

35.  In September 2003, one Simon Chin joined iRiver, employed as its sales and marketing manager.  Thereafter he came to be involved in the emerging distributorship agreement with Thakral.

36.  On 26 January 2004, Mr Chin had cause to send an email, the contents of which I repeat verbatim:

“Dear Andy,

We note from ‘PC Market’ magazine that China Express has taken up distributorship for ‘YES’ mp3.

We fully understand that in Thakral’s position, is to diversify business risk to carry as many MP3 products as possible and maximize profit for your company.

If we were in your position, we would do the same.

However, from iRiver’s point of view, we hope that our dealer can focus on iRiver products only so that dealer’s sales force, and finance will not be diversified into competitor’s biz.

From those dealers who can focus 100% in our biz, we will have no hesitation of supporting 100% in return.

Nevertheless, for those dealers who diversifies into other similar products, then iRiver will have no choice but also to look for other sales channels, to diversify our biz risk also.

Regards,

Simon Chin”

The Yes MP3 player referred to was, as I have stated at the beginning of this judgment, the player that had been developed and made by Thakral in-house and which it did indeed begin to distribute through China Express as from January 2004.

37.  iRiver invites me to treat this as a formal complaint that Thakral through its agent was in material breach of the settled term that it could not compete, with a warning that this might signal termination of the distributorship. 

38.  Thakral’s response is that by its ordinary meaning it was not an ultimatum; that it was no more than an expression of disappointment that Thakral’s sales force in China Express had introduced another competitor into the market, rather than concentrating on the iRiver player.  But there was no suggestion of a breach “If we were in your position we would do the same”; surely presupposes otherwise.  And the final paragraph was not a threat of termination for breach, but an indication that iRiver would be entitled to use other distributors more loyal to its brand.

39.  The next event of significance was a meeting between representatives of both parties.  This time minutes were taken by Mr Chin, and these formed the substance of an email of 10 February he sent to Mr Lulla with copies to his CEO Ms Chen and her husband Mr Leung.  In gist it indicates that both sides were wanting to push on in promoting and advancing the iRiver brand.  For instance item 3 dealt with the training of promoters in such chain stores as Broadway, and item 4 with approaches to Fortress.

40.  Item 8 is particularly pertinent.  That and the final sentences of the email I repeat verbatim:

“8. Yes mp3

It is our original iRiver concept that we will only support and work with distributor who are willing to devote their resources to our company and product.

However, we also understand that for the business risk matter, our distributor might be tempted to carry out other trading business with other mp3 products.

Recently, it has come to our attention that China Express is actively engage in the promotion of Yes mp3 business in Hong Kong.

We are not comfortable to share our marketing plan and activities and hold our meeting with China Express in the future.

We do not understand why our promoters are being shared with Yes mp3 promotion in AV shops and computers mall.

We seek to remove China Express personal from our meetings and promotion discussion in the future and Thakral is to replace with suitable personal.

Thakral responded that they will reply to us and appoint new agent from Thakral to take care of iRiver account.

Meeting closes with harmony and iRiver waits for new communication within the time line set forth above.

Thank you for your attention.

Best Regards

Simon”

41.  It is apparent:

that iRiver was uncomfortable with the dual role of China Express, being a member of the Thakral Group, pushing sales of the iRiver brand and the Yes brand; (We are not comfortable …);

that iRiver was aware that its product was not the only product promoted by a member of the Thakral group; (Recently, it has come to our attention …);

that iRiver sought to expel China Express personnel from meetings and discussions concerning promotion of the iRiver brand and that Thakral would use an alternative agent for sales; (We seek to remove China Express).

42.  What it did not say was that Thakral was in material breach by permitting the promotion and sales of its own in-house brand.  Indeed, it seems resigned to China Express continuing to promote and sell the Yes MP3 player.

43.  By email of 11 February Mr Lulla sent to Mr Chin an order for March 2004 and a sales’ forecast for April to June 2004.

44.  This is indicative of “business as usual”.  But it may be a key to why iRiver ultimately decided to terminate the distributorship.  It also plays a part in the assessment of the loss subsequently claimed by Thakral.

45.  There was dissent in a further, unrelated email from Mr Leung to Mr Lulla of 13 February as follows:

“Subject: China Express issue

Dear Andy,

Please be informed that before you give us an acceptable solution to the matter regarding China Express distributing Yes Mp3 business in HK.

You are to exclude all/any business meeting/involvement regarding iRiver business with China Express personal.  Falling to do that may result to seriously destroying our business relationship with Thakral.

Thank you for your attention.

David Leung

Consultant

iRiver HK Ltd.”

46.  It is significant in what it says, and what it does not.  It clearly and finally stated that to protect the relationship China Express and its personnel were to play no part in promoting and selling iRiver products.  It did not state that Thakral was competing and was thus in breach.

47.  Then an internal email from Ms Chen as CEO to Mr Chin copied to her husband of 14 February.  It referred to Mr Lulla’s forecast for sales in April to June 2004:

“Dear Simon,

Thakral’s sales forecast is too small.

we are aiming to get over 6-8K/month in this year.

if Thakral cannot come up with a solution how to penetrate this HK market for iRiver, then we have no choice but to do it by ourselves.

2-3K/month was what we achieved last year … then Thakral has no difference and value-added than JNC … pls discuss with Thakral and come up with a better sales forecast with aggressive marketing plan.”

48.  Therein the obvious; Mr Lulla’s projections were going to do nothing to increase iRiver’s market share, being the raison d’etre for engaging Thakral, and that a parting of the ways may be necessary.  What was not stated, or discussed, was that Thakral was promoting its own brand, and was in breach.

49.  On 20 February there was scheduled to take place a “road show” promotion of new iRiver products to be jointly hosted by iRiver and Thakral.  Invited were dealers actual and potential of the iRiver MP3 player.

50.  Prior to the event there was a flurry of email traffic, in which iRiver announced it objected to China Express personnel being present or involved.  In the event some China Express personnel were present.  Whether they were there because of a change of heart by iRiver or in disregard to iRiver’s direction is in dispute.  In the event I do not need to resolve that dispute.

51.  But clearly the road show was not well attended and was not a success.

52.  An email of 23 February sent to Mr Lulla by Mr Chin but drafted by Ms Chen under the heading “company style” stated that iRiver was disappointed with the turnout at the presentation and the organisation and that China Express people were there.  And then:

“Since both parties have different company styles, after numerous meetings with you and Mr Kamal, we cannot see how we can cooperate anymore.

Andy, we feel so tired … and no more time and energy for more meetings with Thakral … it seems like nothing much has been achieved since our last meeting.

China Express issue still not solved …

company style is very different …

iRiver management side had internal meeting and would like to put an end to this misery to both companies.  We cannot see any improvement in the future and we cannot match Thakral’s style.

iRiver will take back all stock Thakral has on hand now, including all AV/retail chain store.  Pls kindly give me your full list by tomorrow morning, and we will compensate full amount.

Regards,

Simon”

53.  It was, on an ordinary reading, a notice that the relationship was at an end.  But there is no reference to a breach and an acceptance of the breach.  The heading perhaps reveals the true reason; incompatible styles.

54.  Curiously, there was a subsequent exchange of emails purporting to indicate a future in the relationship after all.  Thakral was invited to prepare a new marketing plan for consideration.  A meeting was set up and held.  It seems to have been productive and amicable.

55.  But then, on 5 March 2004, an email from Mr Chin to Mr Lulla headed “stock return” read:

“Dear Andy,

Please accept my sincere thanks to you and your sales team for all the support extended to us during the past few months.

I believe that Mr Kamal already delivered the message to you about iRiver’s decision regarding Hong Kong market distribution.

We understand that this is a business decision, and hope that our friendship shall remain unchanged.

In order to clear out all accounting issue, kindly prepare your current stock list including your existing reseller’s and submit to us on or before 11 Mar 04.

We will buy back from you these existing stocks so as to clear up any future confusion and conflict.

If we do not received the figure after this cut off date, we would then consider you don’t have any stock to be returned to us.

Thank you for your kind attention!

Best Regards

Simon”

56.  This was the final word on the matter, with the given reason for the termination: a “business decision”.

57.  There followed then correspondence dealing with the recovery of stock already delivered and the refund of the purchase price paid for it.

Findings of Fact

58.  Was it an express term of the distributorship agreement that Thakral must not deal in any product in competition with iRiver?

59.  Ms Chen was firm in asserting that it was.  But there are difficulties about that, which include the following:

(a)     there were no minutes taken of the meeting when she said it was agreed, no follow up notes or emails, or subsequent reference to that agreement;

(b)     no other person at the meeting supported her account;

(c)     the pleaded defence did not give particulars of the meeting and this term of the agreement;

(d)     Ms Chen made no reference to this meeting in her witness statement.  (As an explanation she said she had forgotten, and was only reminded when she re-read the emails in preparation for trial.)  And yet …;

(e)     no subsequent e-mails made reference to the term and, when the Yes MP3 player came on to the market, of a breach of that term.

60.  I am satisfied there was no express non-competition provision which prevented Thakral from dealing in a product in competition.

61.  Was there an implied term not to compete? 

62.  Speaking generally, an implied term is one which can be established as representing a common intention of the parties as determined by the words of the agreement and surrounding circumstances. An implied term may be found to be binding on the parties where it is necessary to give business efficacy to the contract, or where the term represents the obvious, but unexpressed intentions of the parties.

63.  That is incontrovertible — see Chitty on Contracts 13-004 to 13-007.

64.  It is not possible to see how a non-compete obligation could be implied in the circumstances.  Amongst the obvious barriers are that Thakral was already doing business with others, that iRiver was entitled to engage other distributors, that no trade practice was said to exist; indeed that was not pleaded.

65.  It seems to me and I so find that the true reason for the decision made by Ms Chen and her senior team in management to cut off relations was because of the disappointing forecast taking the parties through to the end of June 2004.  The allegation of being in breach of a non-competition provision has the hallmarks of a wish to avoid culpability in the damages that Thakral then pursued.

66.  There was no non-competition provision express or implied and thus no breach of contract by Thakral.

67.  Were the parties committed to each other up until 31 July 2004?

68.  It is the case of iRiver that without the express distribution agreement having been signed specifying inter alia the duration of the contract there was no agreed term; that the relationship between the parties was on an ad hoc basis and that either party could terminate on reasonable notice.

69.  Mr Wright for iRiver submitted that the letter of 4 November repeated on 17 November 2003 upon which Thakral relies was no substitute for the full, standard form document sent out between the two dates.  He suggested it is inconceivable that iRiver would intend the parties to be bound by a distributorship agreement in a letter of one sentence.  He submitted the only reasonable and common sense conclusion must be that the letter and repeat were intended to indicate the existence of a distributorship arrangement to satisfy the traders whom Thakral was supplying.  The letters were not the agreement.

70.  However, there was no collateral email or other document to support that proposition.  The notice issued with no strings attached.  As I find, it was, in effect, to crystallize the duration of the contract subject to any alteration as and when (or if) the parties signed the comprehensive distributorship agreement submitted in draft form.

71.  iRiver committed to the date 31 July 2004 (which as it happened was the date envisaged in the draft form agreement).  Thakral accepted by acting on it.

72.  Even if the letters were given to Thakral to show to the retailers, prima facie it must have been intended that they stated the true position.  There was no evidence that it was intended to hoodwink the retailers.

73.  I am satisfied that the parties did agree to be bound until 31 July 2004; that by terminating by notices in February 2004 iRiver was in breach, and liable in damages.

74.  I come to just how much that is next.

Quantum

75.  Mr Sanjib Sengupta, this time wearing the hat of group internal auditor for Thakral Corporation Limited, was given the task of calculating Thakral’s loss of profits consequent upon the premature termination of the distribution agreement.

76.  Mr Sengupta first calculated what had in fact been earned during the history of the relationship from the first order in August 2003 to the date of termination in February 2004.  Noting that in many instances Thakral had used China Express as a channel to the dealers, he treated those profits as profits earned by Thakral.

77.  Next, applying the same method, he calculated the lost profits occasioned by Thakral being required to return unsold stock.

78.  Finally, basing his calculations on an actual order placed in March 2004 and purchase forecast provided to iRiver for April, May and June 2004, he worked out the quantum of prospective purchase orders and sales to 31 July 2004, and the resultant profits that would have been generated for Thakral (and China Express). 

79.  By allowing for a share of promotional expenses as well, Mr Sengupta arrived at an overall loss, and thus the amount now claimed to be due.

80.  Ms Chen from the witness box was not content to accept the gross profit margin calculated by Mr Sengupta.  His figures revealed a margin of 20%, sometimes more.  She said in her experience the appropriate rate should be around 10-15%.

81.  That said, Mr Sengupta based his numbers on actual figures achieved; it was a historical fact that the margins were represented by those figures.  The calculations were not guessed, and there was no suggestion they could not have been sustainable.

82.  Mr Wright questioned the entitlement of Thakral to claim for losses allegedly sustained by China Express.  As he put it there was no privity of contract between iRiver and China Express.  China Express has no claim in law against iRiver. 

83.  That strictly speaking is so.  But iRiver knew all along that it was dealing with a company in a long-established group of companies; that it would be not unrealistic for Thakral to use one of the companies within the Thakral group in its deals with the end traders.  In reality, Thakral could have bought and then sold direct, and the margins and profits would have been precisely the same.

84.  As I see it the arrangement with China Express was an internal one and I hold that iRiver does not escape liability on the basis of there being no privity of contract.

85.  But of much more significant moment is the point made by Mr Wright that Mr Sengupta based his calculations of future losses on forecasts of sales anticipated between March and July.  However, an important feature of the relationship between the parties was that at no stage was Thakral the exclusive distributor of iRiver in Hong Kong, nor was it contemplated.

86.  This of course was a matter of fact that Thakral argued to support the proposition that it in turn was not bound by a non-competition clause.

87.  Thus a realistic scenario might well have been that iRiver, disillusioned by Thakral’s disappointing forecast of sales (which realistically was not likely to achieve the goal of increasing its market share in the short term) might well have chosen to give priority to orders made by other distributors, actual or prospective.

88.  It might well have chosen to believe that Thakral was more likely to promote sales of its own product, the Yes MP3 player, and again for that reason have transferred its allegiance to another distributor.

89.  I think there is much force in this proposition.  iRiver’s orders may have fallen away because of the impact on the market of Thakral’s own player.  But further, without in anyway being liable in breach, iRiver could have concentrated on sales through another or other distributors.  For that reason, Mr Sengupta’s calculations for future loss must be treated as speculative and not sustainable.

90.  That which is sustainable is the loss occasioned by iRiver’s breach which Thakral would have earned on the stock it was obliged to return to iRiver, and that includes profit that would have been achieved by China Express.

91.  I leave it to the parties to calculate what that amounts to, based on the formulae used by Mr Sengupta, with liberty to apply if they cannot.

92.  For the purpose of making it absolutely clear, I mention that that figure does not include future profit on future sales, which is too speculative a figure.  Proof of that prospective loss has not been established.

93.  Added to the figure claimed is the agreed sum of $125,413 for outstanding promotion costs.  There will be interest from the date of the writ to this date at prime plus 2%.

94.  As to costs; this order is nisi.  I order costs to Thakral.  However on the assumption that the total award falls within the jurisdiction of the District Court the scale shall be the District Court Scale.