FONG KIN WA v. LI HAU YI AND ANOTHER

HCMP 2235/2019

[2023] HKCFI 765

IN THE HIGH COURT OF THE

HONG KONG SPECIAL ADMINISTRATIVE REGION

COURT OF FIRST INSTANCE

MISCELLANEOUS PROCEEDINGS NO. 2235 OF 2019

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J U D G M E N T

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A. INTRODUCTION

1.  By an originating summons of 3^rd December 2019, the Plaintiff seeks:

1.1  a declaration that the Defendants are in repudiatory breach of a provisional agreement for sale and purchase of the entire share capital of Sino Friendship Development Limited (“the Company”)  dated 29^th May 2019 (“the Agreement”);

1.2  a declaration that the Plaintiff has lawfully and effectively terminated the Agreement;

1.3  an order that the Defendants refund to the Plaintiff the sum of $3,273,000, being deposits paid by the Plaintiff under the Agreement.[1]

B.  THE BACKGROUND

2.  By the time of the trial before me, there was no dispute of fact between the parties.

3.  Each of the 1^st and 2^nd Defendants was, at all material times, a 50% shareholder of theCompany.

4.  The Company owned the property situated at Ground Floor with cockloft at No. 428 Shanghai Street, Kowloon, Hong Kong (“the Property”). 

5.  On 29^th May 2019, the Plaintiff as purchaser and the 1^st and 2^nd Defendants as vendors entered into the Agreement, for the sale and purchase of the entire share capital of the Company, for a consideration of $32,730,000.  The material terms of this provided as follows.[2]

“4. Completion is conditional upon the following:

(a)  the Purchaser having completed his due diligence investigation on the business, financial, legal and all other aspects of the Company and satisfied with the results thereof;

…

If any of the foregoing conditions is not fulfilled (or waived by the Purchaser)  on or before the Completion Date, the Purchaser shall be entitled to cancel the transaction under this agreement whereupon the Vendor shall return all the deposit paid to the Purchaser forthwith.

5. To facilitate the carrying out of the due diligence investigation by the Purchaser, the Vendor hereby undertakes to deliver to the Purchaser or the Purchaser’s solicitors all documents relating to the Company as soon as possible. The Purchaser shall carry out the due diligence investigation and confirm in writing to the Vendor or the Vendor’s solicitors whether he is satisfied with the results of such due diligence investigation within 14 days after the date of delivery of all documents by the Vendor or the date of delivery of such further documents reasonably requested by the Purchaser. If it is discovered during the due diligence investigation that there is any problem, the Vendors shall remedy the same as soon as possible before the Completion Date.

…

11. The Vendor hereby represents and warrants to the Purchaser, and shall represent and warrant to the Purchaser and the Company respectively on Completion, that:

…

(f)  all taxation which the Company shall be liable to pay has been or will be so paid prior to completion;

…

(k)   the Company has complied with all the legislation and statutory requirements including those under the Company Ordinance.”

…

22.  The parties hereto agree to be bound by the following additional terms:

(i)  The Purchaser understands and acknowledges that as the previous accountant of the Company had lost all the documents inside the Green Box, the Vendor can now only provide certified copies of documents registered in the Companies Registry; and the Vendor has engaged a new accountant to handle tax returns, auditing and all shareholders’ documents.  In the event that the Company’s documents, tax returns and auditor’s reports are incomplete, whereby affecting this sale and purchase / or resulting in cancellation of this transaction, the Vendor shall only be required to return all the deposits paid by the Purchaser, and the Purchaser shall not claim for any liability or damages.  If prior to the Completion Date, the Hong Kong Inland Revenue Department cannot issue tax assessment to the Company, the Vendor shall have right to postpone the Completion Date for 2 months.

(ii)  The Purchaser, Fong Kin Wa himself, has an absolute priority in purchasing the shares of the Company.  If completion does not take place due to government tax reasons and the Purchaser may accepts the return of deposits, should the Vendor or the Company re-sells the shares or the Property before 31 August 2020 (i.e. can sell in free market after 1 September 2020), the Purchaser shall have priority in purchasing the shares and / or the Property at the same purchase price as agreed now, otherwise the Purchaser shall be entitled to claim for compensation of double deposits through legal action.”

6.  Before the Agreement was entered into, the Plaintiff was “fully aware that the Defendants had not prepared accounting documents or dealt with tax matters of the Company …, and hence Clause 22 was added to the Agreement”.[3]

7.  The Plaintiff paid $3,273,000 as deposits and part payments of the purchase price to the Defendants, and this was held by the Defendants’ solicitors as stakeholders.

8.  The parties’ solicitors exchanged correspondence in relation to the due diligence investigation relating to the Company, and proof of title to the Property.  In particular, there were the following items of correspondence, culminating in the Plaintiff’s refusal to complete the Agreement.

8.1  On 5^th June 2019, the Plaintiff’s solicitors requested the provision of various documents including original copies of all audited financial statements of the Company.

8.2  On 28^th June 2019, the Defendants’ solicitors sent to the Plaintiff’s solicitors copies of the audited financial statements of the Company for seven years of assessment from 2010/11 to 2016/17.  Each of the financial statements contained[4] a “proposed” profits tax computation for the years of assessment they covered, which showed the following figures.

Year of assessment	Assessable profits (losses)  ($)
2010/11	78,090
2011/12	164,755
2012/13	119,162
2013/14	(291,610)
2014/15	(418,081)
2015/16	1,841
2016/17	130,079
2017/18	111,993

8.3  On 2^nd July 2019, the Plaintiff’s solicitors requested various documents, including all profit tax returns and tax assessments of the Company, to enable the Plaintiff’s auditors to conduct a due diligence exercise.

8.4  On 24^th July 2019, the Plaintiff’s solicitors requested the provision of certain missing documents, including (1)  the audited financial statements of the Company ended 31^st December 2018 (which would have related to the year of assessment 2018/19), (2)  all profits tax returns for the years of assessment 2010/11 to 2018/19 submitted to the Inland Revenue Department (“IRD”), (3)  all letters of exemption for submitting profits tax returns issued by the IRD, and (4)  all notices of assessment for the years of assessment 2010/11 to 2018/19 issued by the IRD.

8.5  On the same day, the Defendants’ solicitors replied that “…our client shall require at least one more month to prepare the production of documents, including the profit tax returns and notices of assessment from IRD.”  They further invoked cl.22 of the Agreement to say that completion should be postponed for two months from 30th July 2019 to 30th September 2019.

8.6  On 25^th July 2019, the Plaintiff’s solicitors pointed out that under cl.22 of the Agreement, the Defendants only had the right to postpone completion by two months “如在成交日或之前香港稅局未能向該公司發出評稅通知書.[5]  In this regard, please enlighten us whether the Inland Revenue Department has issued to your client any notice of assessment of tax of the Company for our client’s consideration.”

8.7  On the same day, the Defendants’ solicitors replied “We are instructed to inform you that, according to our clients’ record and memory, there is no notice of assessment from the Inland Revenue Department.”

8.8  On 29^th July 2019, the Plaintiff’s solicitors indicated that they had been told by the Plaintiff’s auditor that the Defendants had not submitted any tax returns “for the year of assessment 2017 to 2018”.  Therefore, they were of the view that the Defendants could not exercise the option to extend time for completion.

8.9  The parties did, however, subsequently agree to the extension, as recorded in the Defendants’ solicitors’ letter of 30th July 2019.

8.10  On 16^th August 2019, the Defendants’ solicitors sent an email to the Plaintiff’s solicitors saying “Please see attached draft audited accountant report for your client’s consideration.”  Attached was a draft set of financial statements of the Company for the year ended 31^st December 2018.  The draft was undated and unsigned by either the Defendants (as directors of the Company)  or the Company’s auditors.  The draft financial statements contained a “proposed profits tax computation” which calculated the assessable profits for the year at $78,970.

8.11  On 19^th September 2019, the Defendants’ solicitors referred back to the Plaintiff’s solicitors’ letter of 24^th July 2019, and said that (1)  the audited reports from 2012-2018 had been provided, (2)  no profit tax returns for the years of assessment 2010/11 to 2018/19 could be provided, (3)  no letters of exemption had thus far been issued by the IRD, and (4)  no assessments for the years of assessment 2010/11 to 2018/19 could be provided.

8.12  On 26^th September 2019, the Plaintiff’s solicitors pointed out that “your clients have so far failed to provide to us the profit tax return for the years 2010/11 to 2018/19 as well as the tax assessment for the said periods and such other documents requested by our client’s auditor.  In this respect, we are instructed that our client is not satisfied with the due diligence review on the Company’s matter”. They further gave notice that unless the documents were received and accepted by the Plaintiff by 2pm on 30th September 2019, the Plaintiff would exercise his right to cancel the sale and purchase, pursuant to cl.4 of the Agreement.

8.13  On 27^th September 2019, the Defendants’ solicitors said that the Defendants’ tax representative was “looking into” the provision of profits tax returns and tax assessments.  They further indicated the Defendants’ offer to set aside a sum of $1,200,000 to be stakeheld in satisfaction of any demand for tax payable for the period 2010/11 to 2018/19 after the date of completion in the event of any demand for tax assessment within six years after completion (“the Stakeholding Offer”).

8.14  On 30th September 2019, the Plaintiff’s solicitors rejected the Stakeholding Offer, and stated that “Since your client fails to provide us with the captioned documents as requested in our letter to you dated 27^th September 2019 which results that our client is not satisfied with the due diligence review on the matters of the Company, we hereby formally notify your client through your goodselves that pursuant to Clause 4 of [the Agreement], our client exercises his right to cancel the transaction under [the Agreement]”.  They further sought the return of the deposits of $3,273,000 paid by the Plaintiff.

9.  The dated and signed financial statements of the Company for the year ended 31^st December 2018 (that is, for the year of assessment 2018/19)  were produced by the Defendants to the Plaintiff for the first time on 30th March 2020, when they were served on the Plaintiff’s solicitors as an exhibit to the 2^nd Defendant’s Affirmation dated 17^th February 2020.  The financial statements as then exhibited did not include the proposed profits tax computation which was in the draft statements sent in the Defendants’ solicitors’ email of 16^th August 2019, although it is the Defendants’ unchallenged evidence that the financial statements as signed did in fact include the profits tax computation, and a complete set of the financial statements were subsequently exhibited in the 2^nd Defendant’s Affirmation of 22^nd February 2023.

C.  THE PARTIES’ CASES

10.  The Plaintiff seeks the return of the deposits paid, on the grounds that the Defendants’ failure to provide the documents requested:

10.1  amounted to a repudiatory breach of the Agreement, in particular cl.22 or an implied term that the Defendants were to use their best endeavours to bring the transaction to fruition;

10.2  alternatively, entitled the Plaintiff to exercise his right under cl.4 of the Agreement to terminate the Agreement, not being satisfied with the results of the due diligence exercise.

11.  Counsel for the Plaintiff, Mr Lee Yee Hung, confirmed that the Plaintiff was not pursuing his claim for damages.

12.  The Defendants say that:

12.1  as a matter of construction, there was no obligation under cl.22 of the Agreement to provide any documents, nor was there any implied term of the Agreement as contended for by the Plaintiff;

12.2  whilst there was an obligation under cll.4 and 5 of the Agreement to provide documents reasonably requested by the Plaintiff, this did not extend to the tax returns or tax assessments sought as the Company was not obliged as a matter of law to file any tax returns, so there were no tax returns or tax assessments to provide.  As for the audited financial statements for the year ended 31^st December 2018, a draft set was provided on 16^th August 2019 and as matters turned out, they were the same as the set which was eventually signed by the auditors and provided to the Plaintiff on 30th March 2020;

12.3  the Plaintiff is not entitled to exercise his right under cl.4 of the Agreement as he failed to challenge the accuracy of the audited financial statements and their tax computations (signed for the years 2010/11 to 2017/18; draft for the year 2018/19), and as he could not refuse to accept the result of the due diligence review if any problems discovered would not materially affect the title to the Property or extra liability.  In the present case, the Company did not in fact have any tax liability, and the Plaintiff should have known that;

12.4  in any event, the tax indemnity which the Defendants were to execute pursuant to cl.8(h)  of the Agreement on completion, and the Stakeholding Offer, would have sufficed to remedy any problem of potential tax liability, so that the Plaintiff was not entitled to refuse to complete the Agreement.

D.  ANALYSIS

D1.   Whether obligation to prepare and/or produce tax returns, tax assessments and signed financial statements under the Agreement

13.  Mr Lee submitted that as a matter of construction of cl.22(i)  of the Agreement, there was an obligation on the Defendants to prepare audited financial statements and file tax returns of the Company.  The submission was that:[6]

13.1  by cl.22(i), the Defendants represented that they had engaged a new accountant to handle tax returns and audit matters of the Company;

13.2  in making this representation, the Defendants must have implicitly agreed to the contractual obligation of preparing audited financial statements and filing profits tax returns;

13.3  incomplete financial statements or tax returns might affect the sale and purchase under the Agreement, or result in cancellation of the transaction;

13.4  the issuance of notices of assessment by the IRD was a pre-requisite to completion.

14.  With respect, I do not follow the logic of the argument that because the Defendants had engaged an accountant to handle tax returns and audit matters, therefore the Defendants must have obliged themselves as a matter of contract to file tax returns and prepare audited financial statements.  It is a non sequitur.

15.  Furthermore, I am unable to agree that an obligation to prepare audited financial statements and to file tax returns can be said to be expressly provided for in cl.22.  It is simply not what the clause says.  Mr Lee submitted that the construction exercise should be conducted without “literalism”, citing Investors Compensation Scheme Ltd v West Bromwich Building Society [1998] 1 WLR 896 at 913B-E (Lord Hoffmann).  However, the language of cl.22(i)  simply does not impose any obligation to prepare or produce documents.  Rather, it provides for the agreed consequences of the (known)  fact that the Company’s documents were not in order at the time of the Agreement.  Those consequences were that (1)  if the documents ultimately were incomplete, resulting in cancellation of the Agreement, the Defendants would only have to return the deposits paid, and not be liable for damages; (2)  if prior to the agreed completion date, the IRD could not issue tax assessments, the Defendants would have the right to postpone completion by two months.  This is not a construction arrived at by taking the clause literally, or being pedantic about the language used; it is simply the natural and ordinary meaning of cl.22(1), and what a reasonable man would understand the clause to mean.

16.  Mr Lee submitted that cl.22(i)  must have imposed an obligation on the part of the Defendants to prepare the Company’s audited financial statements or to file the Company’s profits tax returns, or else it would have been pointless for the Defendants to have made their representation; also, the Defendants could have simply sat back and not proceeded to prepare the statements or file the tax returns.[7]  I do not agree.  As the Defendants accept, they were obliged under cll.4 and 5 of the Agreement to provide all documents relating to the Company for the purpose of the Plaintiff’s due diligence investigation into the business, financial, legal and all other aspects of the Company, and documents reasonably requested by the Plaintiff. The Defendants would have had to prepare documents insofar as was necessary to fulfil this obligation; they do not suggest otherwise.

17.  Mr Lee also submitted that it would not have been necessary to provide for the Defendants’ right to extend the time for completion (if the IRD could not issue tax assessments to the Company in time), had there not been an obligation on the part of the Defendants to file tax returns in the first place.  However, it simply does not follow that cl.22(i)  should therefore be read as expressly providing for an obligation on the Defendants to file tax returns.  As Mr Dixon Co, counsel for the Defendants, pointed out, under cll.4 and 5, there is an obligation to produce documents reasonably requested by the Plaintiff, which would include tax returns, tax assessments and audited financial statements; to that extent, it might be necessary for the Defendants to prepare tax returns (I return to this below).  Clause 22(i)  should therefore be read in conjunction with cll.4 and 5, and as providing for consequences arising out of compliance or non-compliance with the obligations under those clauses.

18.  Mr Lee’s alternative case was that there was an implied obligation on the part of the Defendants to prepare financial statements and file tax returns, being part of an implied term that “the Defendants [were to] use their best endeavours to bring the transaction to fruition”.[8]  I do not agree that such a term should be implied into the Agreement.

18.1  It is vague and very broad.

18.2  It is not so obvious as to go without saying.

18.3  It is not necessary to give business efficacy to the Agreement, at least insofar as it is said to oblige the Defendants to prepare financial statements and file tax returns for the Company, given that there is already an express obligation under cll.4 and 5 to produce documents reasonably requested by the Plaintiff.  If the Plaintiff reasonably requested the Defendants to produce the tax assessments, and if the Defendants had not yet filed tax returns, then the Defendants might have to take steps to file tax returns; but if the Plaintiff did not make such a request, it is difficult to see why the Defendants should nevertheless have the obligation to file tax returns.

19.  Even if the implied term were to be reformulated to be more limited in scope, and confined to an obligation to prepare financial statements and tax returns (rather than a general obligation to use best endeavours), it would still not be one which is obvious, or necessary to give business efficacy to the Agreement, for the same reasons.

20.  In any event, all of this seems to me to be an arid debate in the light of the Defendants’ position, as stated by Mr Co, that they accepted that they had an obligation under cll.4 and 5 of the Agreement to produce documents relating to the Company which were reasonably requested by the Plaintiff, and that such documents included tax returns, tax assessments and audited financial statements.  Mr Co’s qualification to the obligation of production was simply that the Defendants did not have to produce tax returns and assessments in the present case as the Company had no tax liability, so it did not have to file tax returns.[9]

21.  It appears that the Plaintiff sought to argue for an absolute obligation on the part of the Defendants to file the Company’s tax returns so that it could be argued that there was a repudiatory breach on the part of the Defendants regardless of whether or not the Company had any tax liability or obligation to file returns under the provisions of the Inland Revenue Ordinance (“the IRO”).[10]  However, as set out above, I do not consider that it could be said that such an obligation arises on the express wording of cl.22(i).  Nor would it be necessary or obvious that such an obligation should be implied: if, for example, if the Plaintiff never asked for the tax returns, then it is difficult to see why the omission to file tax returns should constitute a repudiatory breach which the Plaintiff could rely on if it happened to discover this omission prior to the time for completion.

D2.  Whether breach of obligation to provide tax returns, tax assessments and audited financial statements reasonably requested by the Plaintiff

22.  The Defendants accept that they had the obligation to produce documents reasonably requested by the Plaintiff relating to the Company under cll.4 and 5 of the Agreement.  However, they say that they did not have to produce the Company’s tax returns or the tax assessments issued by the IRD as the Company was not required by law to file any tax returns.[11]  The argument is that:

22.1  by the time of the Agreement, more than six years had elapsed since the years of assessment of 2010/11, 2011/12, and 2012/13, so that the assessor would have been out of time to issue any additional assessment under s.60 IRO;

22.2  for 2013/14 and 2014/15, the Company made losses, so that it did not have to notify the Commissioner of Inland Revenue (“CIR”)  that it was chargeable to tax under s.51(2)  IRO;

22.3  for subsequent years, whilst the Company made profits, the Company would have been entitled to offset its losses from 2013/14 and 2014/15 so that it would still not have had to notify the CIR that it was chargeable to tax under s.51(2)  IRO.

23.  I do not agree.  At least in relation to the first three years of assessment of 2010/11, 2011/12, and 2012/13, in which the Company made profits, it would have had the obligation to notify the CIR that it was chargeable to tax under s.51(2)  IRO.  At the hearing before me, Mr Co accepted that this was the case.  It was also not denied that had the Company given notice under s.51(2)  IRO during the years of assessment in question, it would have been asked to file a tax return pursuant to s.51(1)  IRO, and the CIR would then have proceeded to assess the Company to tax.  The Company cannot rely on a time bar under s.60 IRO (if any)[12] as at the time of the Agreement in May 2019 to say that it did not have, or never had, the liability to file a tax return during the earlier years of assessment in question.

24.  Therefore, even on the logic of the Defendants’ own argument, it could not be said that the Defendants did not have the obligation to produce the tax returns and tax assessments requested by the Plaintiff in relation to the first three years of assessment of 2010/11, 2011/12, and 2012/13.

25.  This is sufficient to dispose of the Defendants’ argument that they did not fail to produce documents reasonably requested by the Plaintiff under cll.4 and 5 of the Agreement.

26.  To the extent necessary, I go on to consider the tax returns and tax assessments for subsequent years of assessment.  The Defendants’ argument that the Company did not have to file tax returns for subsequent years because it made a loss in 2013/14 and 2014/15, and that this would also have offset profits in all other subsequent years, is premised on the fact that the Company failed to file tax returns in 2010/11, 2011/12, and 2012/13 and therefore its profit-making activities did not come to the attention of the IRD in the first place.  Had the IRD been properly notified that the Company was chargeable to tax for those years of assessment, it would in all likelihood have continued to ask the Company to file tax returns in subsequent years, and at least for 2013/14, the first year in which a loss is said to have been made (when the IRD would not yet have known that the Company had made a loss for the year of assessment).  I therefore do not accept that the Defendants (who have the burden in this regard)  establish that the Company was not required by law to file tax returns for 2013/14 and onwards.

27.  I do not propose to go further to consider the Defendants’ argument that in any event, the Company did not have to notify the CIR under s.51(2)  IRO of its chargeability to tax in respect of the years 2015/16 onwards for the reason that it would have been able to offset its losses from 2013/14 and 2015/16 against the profits made in later years, pursuant to s.19C IRO, so that it would have had no “assessable profits” in those years of assessment under ss.2 and 14 IRO.  It does not seem to me to be necessary, or appropriate, to embark on the exercise of determining questions of the ambit and operation of s.51(2)  and other related provisions of the IRO in the circumstances of the present case.

28.  Separately, the Defendants also failed to produce the Company’s signed audited accounts for the year ended 31^st December 2018 (year of assessment 2018/19)  (“the Missing Audited Accounts”), which were requested by the Plaintiff’s solicitors’ letter of 24^th July 2019.  The Defendants say that they sufficiently complied by producing a draft set by their solicitors’ email of 16^th August 2019, which were identical in substance.  I do not agree that provision of a draft set of financial statements amounts to compliance with a request to provide a set of audited financial statements.  Cll.4 and 5 of the Agreement provided for the request and provision of documents to enable the Plaintiff to carry out a due diligence investigation into the business, financial, legal and other aspects of the Company.  It is difficult to see how reliance can be placed on the views expressed in a draft auditors’ report which has not been signed by the auditors, or the information provided in the financial statements which is said to be provided by the directors when the directors’ report has not been signed by the directors.

29.  Mr Lee also submitted that the Plaintiff’s solicitors’ letter of 26^th September 2019 failed to specifically identify the Missing Audited Accounts as not having been provided.  However, the Plaintiff’s solicitors’ letter of 24^th July 2019 had specifically identified them as missing, and their letter of 26^th September stated that “we would inform you that your clients have so far failed to provide us the profit tax return for the years 2010/11 to 2018/19 as well as the tax assessment for the said periods and such other documents requested by our client’s auditor.”  The fact is that the Missing Audited Accounts were specifically requested, and there was subsequently a chaser for outstanding documents.  There was nothing in the letter of 26^th September 2019 to suggest that the Plaintiff had withdrawn its request for the Missing Audited Accounts.

30.  I therefore find that the Defendants were in breach of their obligation to provide tax returns, tax assessments and audited financial statements of the Company reasonably requested by the Plaintiff.  The breach was repudiatory in nature.[13]  Clause 4 expressly stated that completion was conditional upon the Plaintiff having completed his due diligence investigation; provision of documents under cl.5 was to enable the carrying out of the due diligence investigation.  The Defendants’ failure to provide the requested documents even by the (postponed)  date for completion meant that the Plaintiff could not complete his due diligence in time for completion.

D3.   Whether Plaintiff entitled to cancel the transaction under the Agreement pursuant to cl.4

31.  There is a separate question of whether the Plaintiff was entitled to cancel the transaction under the Agreement on the grounds that he was not satisfied with the due diligence investigation, pursuant to cl.4 of the Agreement.  This was the ground on which the Plaintiff terminated the Agreement.  The Plaintiff’s solicitors’ letter of 30th September 2019 stated that the Plaintiff was not satisfied with the due diligence review given the Defendants’ failure to provide the documents requested in the Plaintiff’s solicitors’ letter of 26^th September 2019.[14]

D3.1   Argument that no duty to provide tax returns, tax assessments, Missing Audited Accounts

32.  The Defendants say that there was no duty to provide the Company’s tax returns or the tax assessments issued by the IRD as the Company was not required by law to file any tax returns.  As for the Missing Audited Accounts, the Defendants say that they were not expressly identified in the Plaintiff’s solicitors’ letter of 26^th September 2019 as being requested.  I have rejected both arguments above.

33.  It is also important to bear in mind the context of the obligation to provide documents.  As provided by cl.5 of the Agreement, the documents were to facilitate the conduct of the due diligence investigation into various aspects of the Company.  As provided by cl.4 of the Agreement, completion was conditional on the Plaintiff first being satisfied as to the due diligence investigation.  The Plaintiff would have been acquiring a company about which he knew nothing, and he would have wanted to be sure that he was not being exposed to unknown liabilities, whether financial, legal, or otherwise.  Hence, also, the requirement in cl.11(f)  and (k)  for the Defendants to represent and warrant that “all taxation which the Company shall be liable to pay has been or will be so paid prior to completion” and that “the Company has complied with all the legislation and statutory requirements including those under the Company Ordinance”.

D3.2   Argument of failure to raise reasons for dissatisfaction with due diligence

34.  The Defendants say that the Plaintiff waived the right to complain about the Company’s tax position since he did not raise any queries about the financial statements or the tax computations.[15]

35.  However, the Plaintiff squarely raised the request for tax returns, tax assessments and the Missing Audited Accounts.  It was the failure to provide these documents that was expressly given as the reason for the Plaintiff not being satisfied with the due diligence review.  It cannot be said that no query in this regard was raised.  The absence of any query regarding the “proposed tax computations” in the Company’s audited accounts for the years cannot amount to satisfaction with the Company’s tax position when Plaintiff had asked for, but not been provided with, details of the actual tax computations provided to, and the tax assessments made by, the IRD.

D3.3  Argument that Plaintiff should have been satisfied with due diligence investigation

36.  The Defendants say that it should have been apparent to the Plaintiff that there was nothing wrong with the Company’s tax position, and should have therefore been satisfied with the due diligence investigation.[16]

37.  However, at no point prior to the scheduled date for completion did the Defendants ever say that their refusal to provide the Company’s tax returns or tax assessments was because the Company, in their view, had no obligation to file tax returns; that the Company had accordingly not filed any tax returns; that no tax assessments had ever been issued; and that the Company had no tax liability.

38.  In oral submissions, Mr Co said that the Plaintiff should have figured out, with the assistance of his professional advisers, that the Defendants’ failure to provide tax returns and tax assessments was because the Company did not need to file tax returns (so the Defendants say), rather than that the Company had failed in its obligations to make such filings.  When asked how the Plaintiff could have possibly done this, Mr Co said that this could have been indirectly inferred from reading together the following:

38.1  the Defendants’ solicitors’ letter of 26^th July 2019 stating that according to the Defendants’ record and memory, there were no notices of assessment from the IRD;

38.2  the Defendants’ solicitors’ letter of 19^th September 2019 stating that no profits tax returns for 2010/2011 to 2018/19 could be provided; and

38.3  the audited financial statements for the first three years of assessment of 2010/11, 2011/12 and 2012/13.

39.  I cannot agree.  The audited financial statements for the first three years of assessment of 2010/11, 2011/12 and 2012/13 showed that profits were made (so that tax returns ought to have been filed and tax assessments ought to have been made).  The fact that no profits tax returns could be provided (as asserted in the letter of 19^th September 2019)  and the fact that there were no notices of assessment from the IRD (as asserted in the letter of 26^th July 2019)  cannot lead to a conclusion that the Company did not need to file returns.  Indeed, as Mr Co subsequently acknowledged, the Company did have an obligation to notify the CIR of its chargeability to tax under s.51(2)  IRO, and in the ordinary course of events it would have been asked to file tax returns following the giving of such notice.  In my view, the failure to provide copies of any tax returns filed and tax assessments made, coupled with the failure to provide any explanation for such absence, reasonably entitled the Plaintiff not to be satisfied with the results of the due diligence investigation into the Company.

40.  In fact, rather than explaining that (in the Defendants’ view)  the Company had no obligation to file any tax return and hence had received no tax assessments, the correspondence from the Defendants’ solicitors suggested otherwise.

40.1  The letter of 24^th July 2019 stated that “our client shall require at least one more month to prepare the production of documents, including the profit tax returns and notices of assessment from IRD”.  Instead of suggesting that there were no such documents and that the Company had no requirement to submit any tax returns, the Defendants’ solicitors were saying that they needed time to provide the documents.

40.2  In the same letter, the Defendants’ solicitors sought to invoke the provision for extension of time under cl.22 of the Agreement.  It will be recalled that cl.22 provided that “If prior to the Completion Date, the [IRD] cannot issue tax assessment to the Company, the Vendor shall have right to postpone the Completion Date for 2 months.”  The request for an extension of time implied that the Defendants expected there to be tax assessments forthcoming from the IRD (but just that they would not be issued in time to enable completion on the originally scheduled date under the Agreement).

40.3  The letter of 19^th September 2019 confirmed that no letter of exemption (in relation to the submission of tax returns)  had been issued to the Company by the IRD.

40.4  The letter of 27^th September 2019 stated that “As regards our client’s provision of profits tax returns for the years 2010/11 to 2018/19 and the tax assessment for the said period as requested by your client’s auditors, we are given to understand that our client’s tax representative is looking into this matter and would revert to us soonest.”  This does not suggest that there were no profits tax returns or assessments (or no obligation to file tax returns); if that had been the case, there would hardly have been anything to “look into”.

41.  In such circumstances, I do not agree that the Plaintiff should have been able to discern that there was nothing wrong with the Company’s tax position.

42.  Mr Co submitted that it did not matter that the Defendants did not explain their position since a party can justify, ex post facto, his refusal to perform a contract, if there were facts in existence at the time which would have provided a good reason for the refusal.[17]  This misses the point.  The issue is whether the Plaintiff was entitled not to be satisfied with the due diligence investigation prior to the time fixed for completion.  It is nothing to the point that the Defendants could (they say)  have assuaged the Plaintiff’s concerns at the time and prior to completion, if they did not in fact do so.

43.  The absence of signed audited accounts for the last full financial year before the date of completion (that is, the Missing Audited Accounts)  can only serve to reinforce this conclusion (that the Plaintiff was entitled not to be satisfied with the results of the due diligence investigation).  As I have earlier explained, reliance cannot be placed on the views expressed in draft audited accounts as though they were signed audited accounts.  The fact that it subsequently transpires that the auditors were agreeable to sign them in the same form does not change the fact that as at the time of completion, the Plaintiff did not have the auditors’ confirmed view as to the latest financial status of the Company.

D3.4   Argument that Company’s tax position sufficiently addressed by tax indemnity and Stakeholding Offer

44.  The Defendants say that even if the Plaintiff was reasonably entitled to the view that there might be potential tax liabilities, the tax indemnity to be provided under cl.8(h)  of the Agreement and the Stakeholding Offer would have addressed such liabilities.[18]

45.  The requirement for the Defendants to execute a tax indemnity on completion was all along contained in cl.8(h)  of the Agreement.  It could not be the case that this was intended to negate the Plaintiff’s right to require satisfaction as to the Company’s tax position under cll.4 and 5 of the Agreement.  The Plaintiff’s right under cl.4 of the Agreement to cancel the transaction in the event of dissatisfaction with the due diligence investigation was not stated to exclude dissatisfaction with the tax position of the Company.

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

47.  Similarly, the Stakeholding Offer did not answer the question of whether the Company had liabilities, and if so what was the nature and extent of such liabilities.  The Plaintiff was not obliged to work out whether or not the Stakeholding Offer might be sufficient, in monetary terms, to cover the Company’s potential tax liabilities, in circumstances where he had not even been given the information which had been requested in relation to such liabilities.  Furthermore, the Stakeholding Offer could not have addressed non-monetary liabilities, such as the obligation to answer any queries from the IRD addressed to the Company.  The Plaintiff was entitled to seek information in the due diligence investigation so as to ascertain whether any such potential liabilities might be a cause for concern. He would not have wished to be in a position whereby he became the owner of the Company but had difficulty answering queries relating to the Company’s affairs dating from a time when he had no personal involvement with the Company.

48.  The Defendants say that any tax problem would not have affected the title to the Property.  However, as they also acknowledge, the concern of the Plaintiff would have been to acquire the Property without any extra liability (arising from the fact that he was acquiring a company rather than the Property directly).[19]  In the absence of the information requested, it was reasonable for the Plaintiff to consider that he was not satisfied with the due diligence investigation into the Company.

D3.5  Other matters

49.  Prior to the hearing, the parties submitted an agreed list of issues.  In the course of this judgment, I have addressed most of these.  For some of them, I do not consider that they are necessary or appropriate for determination.  For example, the issue of whether assessable profits must be determined and assessed by the IRD is not an issue that arises for determination.

E.  DISPOSITION

50.  For the reasons given above, I grant a declaration that the Defendants were in repudiatory breach of the Agreement in failing to produce documents reasonably requested by the Plaintiff under cll.4 and 5 of the Agreement, and a declaration that the Plaintiff was entitled to, and did, terminate the Agreement by reason of his not being satisfied with the due diligence investigation into the Company under cl.4 of the Agreement.

51.  I order that the Defendants refund to the Plaintiff the sum of $3,273,000, being the deposits paid by the Plaintiff under the Agreement.

52.  I further make an order nisi that the costs of and occasioned by this action should be paid by the Defendants to the Plaintiff, to be taxed if not agreed.