ALL FUND INDUSTRIAL LTD. v. QUEENTEX CO. LTD.

A11750/95

IN THE HIGH COURT OF THE

HONG KONG SPECIAL ADMINISTRATIVE REGION

COURT OF FIRST INSTANCE

ACTION NO. 11750 OF 1995

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JUDGMENT

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1. This is an action by the Plaintiff for the price of goods sold and delivered under 10 invoices presented between April 1995 and August 1995. The Defendant has denied that it is liable to pay the Plaintiff and alleges that the goods did not correspond with sample, were unmerchantable and not fit for the purpose for which they had been bought; it counterclaims for over-payment, and for loss and damages suffered as a result of the defective goods.

Background facts

2. The Plaintiff is a manufacturer of printed circuit boards ("PCBs"). The Defendant is a manufacturer of hand-held game machines, which include one designated as (in short) "Q-78".

3. The Q-78 game machine comprises a piece to be held in the hand (known as the "main board") and another piece (known as the "subsidiary board" or "head board") which contains an LCD screen. This subsidiary or head board can be detached from, and snapped onto, the top part of the main board so as to enable different games to be played.

4. Different PCBs are required for the main board and for the subsidiary board. The PCBs required for the main board are called (in short) "Q-19" or "Q-23" depending on the game. The PCB required for the subsidiary or head board is called "QH".

5. A Q-19 or Q-23 contains conductive pins on one side only. A QH contains conductive pins on both sides - one side connects with the LCD, and the other side connects with the Q-19 or Q-23. These conductive pins have been called "golden fingers" in the trial, as apparently that is what they are commonly called in the trade.

Commencement of business between the Plaintiff and the Defendant

6. The Defendant had been manufacturing their Q-78 hand-held game machines for some time. It supplier of PCBs was a company called Wah Tung. All the requisite drawings and specifications for the Q-78 PCBs were kept by Wah Tung.

7. In 1994, the Plaintiff company, which had just started business, was introduced to the Defendant company as a potential supplier of PCBs

8. Since the Defendant did not have drawings or specifications of Q-19, Q-23 or QH, it gave the Plaintiff samples of Wah Tung's PCBs for the Plaintiff to reproduce them by a process of reverse engineering. The Plaintiff then produced certain samples for the Defendant's approval, and these were approved in due course.

9. There is a dispute between the parties as to whether Mr Chong Ming Heung of the Plaintiff was also given a sample of the Q-78 game machine, which I will refer to below.

Purchase Orders

10. In January 1995, the Defendant gave its first Purchase Order for Q-78 PCBs to the Plaintiff. The price for the QHs were $0.18 per piece and that for Q-19's and Q-23's $0.81 per piece.

11. Between January 1995 and July 1995, the Defendant gave the Plaintiff a number of Purchase Orders. The Purchase Orders have been listed in paragraph 11 of the Amended Defence and Counterclaim. Different types of PCBs were ordered in each Purchase Order, and there does not appear to be any correlation between the quantities of QH's and Q-19's/Q-23's ordered in each Purchase Order. In other words, there is nothing in the quantities to indicate that the Q-19's or Q-23's ordered in any particular Purchase Order were for assembly with the QH's ordered in the same Purchase Order (see Schedule 2 annexed to the Plaintiff's Submissions).

Deliveries

12. Various quantities of PCBs were delivered by the Plaintiff to the Defendant in due course. For each delivery, a stamp was put on the delivery order by the Defendant to the effect that inspection of the goods had not yet been performed.

13. As for Q-78 PCBs, 90,000 pcs of Q-19's had been delivered to the Defendant in February 1995 and another 211,000 pcs of Q-19s had been delivered in March. As for QH's, 300,000 pcs were delivered in March. In fact, such quantities have to be approximate, because the evidence was that the PCBs were mass-produced and were not actually counted - they would be weighed, and quantities were only calculated according to weight.

14. One feature to be noted was that the goods delivered were apparently not earmarked. According to the evidence of Mr Tomos Tam of the Defendant, the PCBs supplied by the Plaintiff would be delivered to the Defendant's mainland factory from time to time, where they would be put together with other PCBs supplied by the Plaintiff and previously delivered.

15. From April to August 1995, a total of 307,300 pcs of Q-19's, 203,000 pcs of Q-23's and 500,000 pcs of QH's were delivered (see the Table annexed to this Judgment).

Invoices

16. A number of invoices were issued by the Plaintiff to the Defendant. A credit period of 30 days was given. A total of 10 invoices are the subject-matter of this action. They are the invoices dated from 3 April 1995 to 14 August 1995. These invoices cover goods which had been delivered from April onwards.

17. It is clear from the evidence that:-

- of the 6 April invoices totalling $607,760, part payment of $300,000 was made on 26 June 1995;

- the 3 May invoices totalling $347,130 were paid in full on 27 July 1995; and

- the 4 June, July and August invoices totalling $105,390 were unpaid.

Complaints

18. It is the Defendant's case that starting from May 1995, problems were found with the Plaintiff's PCBs. A number of contemporaneous documents emanating from the Defendant's mainland factory have been adduced in evidence under the hearsay rules, and no counter-notice has been issued. (Their authenticity has been admitted under Order 27 rule 4 Rules of the High Court and their late disclosure in the procedure of discovery has been explained by the fact that these documents had been kept in the Defendant's mainland factory).

19. It is common ground that in June 1995, a meeting was held between representatives of the Plaintiff and the Defendant, although there is a dispute as to whether at that meeting, the Defendant's representatives were complaining only about the QH's, or also about the Q-19's and Q-23's.

20. Mr Chong's evidence was that the complaints were only about the QH's, and that Mr Tai of the Defendant had told Mr Tam that about 90% of the main board PCBs were alright after assembly for the time being.

21. Mr Tam's evidence was that that was not so, because by that time, he had received the mainland factory reports which also had complaints about the main board PCBs (19 May 1995).

22. I find that the Defendant probably did also complain about the main board PCBs, although possibly not to the extent as they did regarding the QH's because the bulk of the reports concerned the QH's and they were also defective in a more apparent manner (see the PCBs attached to the 18 May 1995 report). Further, the Defendant withheld from payment a sum slightly more than the prices attributable to all the Q-78 PCBs delivered in April ($299,430).

Payment

23. On 26 June 1995, the Defendant paid $300,000 out of the total April invoiced amount of $607,760. There is a dispute between the parties as to whether the endorsement which now appears on the copy of the cheque was there when Mr Chong signed it.

24. I find that it was not. No witnesses have been called by the Defendant to testify to the appearance of that document when it was sent to the Plaintiff. Further, if the Plaintiff was meant to acknowledge the endorsement by signing the document, one would have expected the signature to appear below the endorsement.

25. In July 1995, the Defendant paid the May invoices in full. Mr Tam said in evidence which I accept that the Defendant was attempting to find ways to use the PCBs supplied by the Plaintiff.

Re-casting the mould

26. On 10 August 1995, the Defendant's mainland factory engineer suggested in a report that the mould for the casing be re-cast so as to add a piece of plastic, so as to force the head board to one side to compensate for the deviation in the PCBs.

Return of goods

27. On 15 August 1995, however, the Defendant asked the Plaintiff to collect large quantities of the PCBs upon their proposed return to Hong Kong between 16 August and 18 August. The Plaintiff refused to do so. The relationship between the parties deteriorated. As it turned out though, the goods were not returned for some time.

November 1995 meeting

28. In November 1995, there was a meeting between the Plaintiff and the Defendant, part of which was noted down by Miss Agnes Yung, Mr Tam's assistant, in a document which was produced to Court.

29. At that meeting, as noted by Miss Yung, it was said that the QH's were all defective, although Miss Yung in fairness said that she could not remember who said it.

30. For the rest, Mr Tam is noted as suggesting that the PCBs were only good for single cabinet game machines, i.e. without interchangeable heads, but that orders were comparatively few. Mr Tam suggested to Mr Chong that the Defendant would return all the PCBs but would call for stock if and when the PCBs were required for single cabinet games machines.

31. Mr Chong refused on the basis that he was not aware that the PCBs were required for inter-changeable games. There was further discussion on this point, and Mr Tam then made an alternative suggestion that the stock be kept by the Defendant but that a discount of 50% would have to be given by the Plaintiff. This was refused by the Plaintiff, and the meeting ended in an unfriendly atmosphere. The present writ soon followed.

Issues

32. The main issues in this case, in chronological order, are as follows:-

(1) Did the Plaintiff know the intended use for which the PCBs were purchased?

(2) Does the Plaintiff have a valid argument that the Defendant should have subjected the PCBs to an "E-test"?

(3) Were the PCBs in good condition because they came from the same mould as other PCBs which it had supplied the Defendant earlier?

(4) Although the Defendant had paid for about half of the April deliveries, and in full for the May deliveries, has the Defendant thereby lost any right to reject the goods?

(5) Did the PCBs correspond with the samples, and/or were they defective or unfit for the purpose?

(6) What, if any, loss has the Defendant suffered as a result of any defective PCBs?

(1) Knowledge of intended use

33. I find that the Plaintiff did know the intended use for which the PCBs were purchased by the Defendant. Mr Chong accepted that he was aware that the Defendant was in the business of hand-held game machines and that the PCBs were ordered in the course of the Defendant's business.

34. As to Mr Chong's denial that he was given a sample Q-78 game machine, I cannot accept that evidence. The Defendant had pleaded in paragraph 6 of the Amended Defence and Counterclaim (and referred in paragraphs 8(2) and 10 to the allegation) that the Defendant had given Mr Chong such a sample. That was not specifically traversed in the Reply. Although procedurally, there is a deemed traverse, the absence of a specific traverse may be noted.

35. Further, it only stands to reason for the Defendant to show a potential supplier such as the Plaintiff how the PCBs were to be used, especially when there were no drawings or specifications to assist.

36. However, that is not to say that the Defendant's purchases of all the Q-78 boards should be taken as one. It has not been pleaded that the contracts for the purchase of the main board PCBs (the QH's) and the subsidiary or head board PCBs (the Q-19's and Q-23's) were correlated, and as I have noted, there is nothing in the quantities ordered in each Purchase Order to show any such correlation in fact.

(2) "E-test" irrelevant

37. The Plaintiff has pleaded in paragraph 5 of its Reply that the Defendant should have subjected the PCBs to an "E-test", and Mr Chong has said in evidence that when he told the Defendant that if he were required to submit the PCBs to an E-test, he would charge more, the Defendant said that it would perform the E-test itself.

38. In my view this argument is unsound. The seller has an obligation in law to supply goods which are merchantable and fit for the purpose. In the absence of a clear and specific agreement, the seller cannot exempt his goods from liability. I do not regard Mr Chong's statement to the Defendant to be anything close to an exemption clause.

39. In any event, it is clear from the evidence that the E-test would simply have detected whether the PCBs had short-circuited or not. It would not have detected the problems which were later found with some of the PCBs supplied by the Plaintiff to the Defendant.

(3) Use of same mould does not necessarily lead to same condition of products

40. The Plaintiff also contended that because the same moulds had been used for earlier PCBs which had been accepted by the Defendant, the PCBs in issue must also have been in the same good condition.

41. However it was clearly demonstrated in cross-examination of Mr Chong that the same mould did not necessarily lead to the same condition of products. This is because the PCBs had to go through many processes in the course of production, and faults in any of these processes might have led to variations in the condition of the products e.g. in the drilling of the holes; the positioning of the silkscreen (which may itself be subject to wear and tear); the reversing of the silkscreen for QH's; electro-plating; casting out from the mould, etc.

42. Further, this argument by the Plaintiff that all the products must be of the same quality because they were from the same mould is belied by an inspection of the QH's attached to the mainland factory report of 18 May 1995, which contain different faults.

43. I find therefore that just because the PCBs in issue came from the same mould as other PCBs which the Plaintiff had supplied the Defendant earlier, it does not necessarily follow that the same quality of products would ensue.

(4) No loss of right to reject by reason of payment

44. As noted before, the Defendant paid $300,000 out of the total invoiced value of the April deliveries (leaving unpaid slightly more than that attributable to the Q-78 PCBs) and paid in full for the May deliveries which included Q-19's and QH's. The Plaintiff contended that the Defendant had thereby lost its right to reject the goods.

45. I do not accept that argument. I accept Mr Tam's evidence that since he had already set aside more than $300,000, he thought that was enough protection for the Defendant. Moreover the relationship between the Plaintiff and the Defendant had still not reached the stage of hostility, and the Defendant was still attempting to use the Plaintiff's PCBs.

(5) Did the PCBs correspond with Wah Tung samples and/or were they unmerchantable and/or unfit for the purpose?

46. This is the most important issue in the case. It is alleged by the Defendant that the defects comprised (a) irregular width of the golden fingers themselves; (b) irregular width of the distance between the golden fingers; (c) variation in the screw-holes; (d) rough edges and (e) dirt or dust on the surfaces.

47. Before I deal with the evidence, however, I should note that correspondence with the Wah Tung samples should not be equated with merchantability or fitness for purpose. The situation is not like that of say, garments, where design (and hence, correspondence with sample) may matter as much (or even more) than merchantability or fitness for purpose.

48. Even if the Plaintiff's PCBs did not correspond with the Wah Tung samples, depending on the extent to which they did not correspond, the PCBs could still have been merchantable and fit for the purpose. If so, no loss or damages would be suffered by the Defendant as a result of the failure to correspond with sample.

49. Further it is clear from Mr Tam's evidence that the Defendant's complaints arose because the PCBs were defective, and not simply because they did not correspond with the Wah Tung samples.

50. Therefore, the expert evidence called by both parties to compare the Plaintiff's PCBs with the Wah Tung samples was, I regret to say, not of much value to me.

51. In any event, the Plaintiff's expert evidence was of little value because the Plaintiff supplied them with only 1 sample of each type of PCB from the Plaintiff's warehouse. This is of little assistance because of the discrepancies in the condition of the products that could arise as a result of the course of production. Moreover, it is not even known from which batch of products the Plaintiff had taken the samples for its experts' examination.

52. Dr Matthew Yuen, the Plaintiff's main expert, accepted in fairness that the scope of his examination must be limited to see whether the Plaintiff was capable of producing PCBs corresponding with the Wah Tung samples. He accepted that he would need a large number of samples if he were required to justify that the Plaintiff's products were within a reasonable acceptance level. Yet the Plaintiff never asked to obtain samples from the large stock of PCBs that the Defendant had brought back from the mainland factory.

53. Moreover, Mr Chan, Dr Yuen's assistant at the time, accepted that he had only tested one side of the QH's golden fingers. This was because he did not know at the time what the PCBs were for. Yet it is clear that one of the main reasons why defects could have arisen in the production of the QH's was that in the process of reversal, a misalignment could have taken place leading to a mis-positioning of the golden fingers.

54. Finally, in dealing with the question of tolerances, Dr Yuen frankly accepted that whilst he was critical of the tolerances stipulated by the Defendant's expert, Mr Yu Ka Wo, his own standard of tolerance of 10% was really just a figure plucked out of thin air. With all respect to Dr Yuen, that does not give the Court much to go on at all.

55. However, regrettably, the Defendant's expert evidence was similarly unhelpful. I do not doubt Mr Yu's integrity although he is in the Defendant's employ, but the inaccuracies of his measurements were substantially revealed in cross-examination and he had to abandon some results because discrepancies in the figures were exposed.

56. Further, he based his standards on some Wah Tung samples, but which were not the Wah Tung samples given to the Plaintiff, and as variations may occur in the course of production of PCBs, that may also be the case for the Wah Tung PCBs too. In other words, there is no evidence to show that the measurements for the Wah Tung samples Mr Yu used were identical to the measurements for the Wah Tung samples supplied to the Plaintiff.

57. Moreover, Mr Yu accepted that his formula for calculating tolerances is not based on any scientific texts or principles.

58. In the light of all the above, I have to come to the view that neither the Plaintiff's nor the Defendant's expert evidence is of value to the Court in deciding the question of correspondence with the Wah Tung samples.

59. Neither are the in-house reports of the Defendant prepared by Mr Cheung Kwok Bun and Miss Luk Wai Yin, nor the SGS survey report, of much use when the standards against which the Plaintiff's PCBs were analysed are not revealed or explained.

60. Thus, reliable evidence of the condition of the goods has to come from the actual exhibits and the contemporaneous documentary evidence.

61. As far as the actual exhibits are concerned, D-1 is a bag of QH's delivered by the Plaintiff to the Defendant. Mr Chong accepted that they were in the same state when they were delivered to the Defendant. The surfaces of the QH's are extremely dusty.

62. Further, the QH's which were attached to the mainland factory report of 18 May 1995 were clearly and admittedly unuseable.

63. Moreover, strong evidence comes from the contemporaneous reports from the mainland factory (at pp 99, 103 and 105 of the Bundle), which pointed out the problems in some considerable detail (which can be found in those reports) and which had the opportunity to submit relatively larger numbers of PCBs to inspection. I find that there is sufficient evidence there to show that the QH's were unmerchantable and unfit for the purpose.

64. The Plaintiff has argued that it had at an earlier stage offered to take the QH's back for washing and to smoothen the rough edges, although in fact it never did so. However, I do not find that helps the Plaintiff. It is no defence to a charge of unmerchantability or unfitness for purpose that the seller was prepared to repair the goods, or that the buyer could have repaired them itself at minimal cost. The buyer has no obligation at law to do so. It is entitled to merchantable goods on delivery, not later.

65. Further I do not accept the Plaintiff's argument that the deviation of the QH's could have been due to faults in the production of the LCD, the positioning of the screw-holes or the casing. I accept Mr Tam's evidence that the Defendant had always had the same suppliers for all these other components. Further, the casing was manufactured by means of injection of plastic into steel moulds, which are far less capable of variations, and the screw holes are fixed in the steel moulds. Mr Tam's evidence was further that the Defendant has experienced no problems with Q-78 boards supplied by other suppliers since. So on the balance of probabilities, it is most likely that the fault lay with the Plaintiff's QH's, rather than the other components.

66. I also reject the Plaintiff's suggestion that the reason for the Defendant's rejection of the PCBs was because it had over-ordered them. There is contemporaneous documentary evidence of 10 August 1995 that there were urgent orders for the Q-78 game machines, and that the Defendant was exploring means of using the Plaintiff's PCBs, including re-casting the mould so as to add extra plastic to compensate for the deviation of the QH's.

67. In conclusion therefore, I am satisfied on the evidence that the QH's were unmerchantable and unfit for the purpose, and that the Defendant was entitled to reject them.

68. However the evidence is much less strong for the Q-19's and Q-23's. There is no specific mainland factory evidence about Q-23's and the only evidence that specifically reports on Q-19's (a piece was attached) is the report of 19 May 1995.

69. It would appear that the main problem with the deliveries was that the QH's deviated to one side and thus did not connect with the main board PCBs. That was why when the extra strip of plastic was added to force the head board to one side, substantial improvement in proper contact was made. There does not therefore appear to be much fault with the main board PCBs themselves.

70. That is supported by the position taken by the Defendant itself at the November 1995 meeting. Whilst Mr Tam was (in my view, rightly) critical of the QH's as being entirely useless, he did not level the same charge against the main board PCBs. Clearly, he was prepared to use them for single cabinet game machines, and if there had been a demand for these games, the Q-19's and Q-23's would have been used by the Defendant.

71. Accordingly I find that there is insufficient evidence of failure to correspond with sample, unmerchantability or unfitness for purpose, as far as the Q-19's and Q-23's were concerned, that would justify the Defendant rejecting them or refusing to pay for them.

72. Whilst I appreciate that the Defendant had ordered both head board and main board PCBs from the Plaintiff, I do not find that just because the Defendant had rightly rejected the QH's, it could therefore reject the Q-19's and Q-23's as well. As I have pointed out above, it has not been pleaded that the contracts for the purchase of the main board PCBs (the QH's) and the subsidiary or head board PCBs (the Q-19's and Q-23's) were correlated, and there is nothing in the quantities ordered in each Purchase Order to show any such correlation in fact.

73. I find therefore that the Defendant is liable to pay the Plaintiff for the Q-19's and Q-23's.

74. That would mean that of the amounts outstanding under the invoices in April ($300,760) and June-August 1995 ($105,390) totalling $406,150, the Defendant remains liable to pay the Plaintiff the same less the price of the QHs rejected by the Defendant ($0.18 x 332,200). That results in $346,354.00).

(6) No damages on counterclaim

75. Finally I have to consider what damages may have been suffered by the Defendant as a result of the Plaintiff's failure to supply proper QH's. I find in the circumstances that there is insufficient evidence of any such damages.

76. There is no evidence to show that the 4 contracts allegedly lost would have been fulfilled by products containing the Plaintiff's QH's because there is insufficient cogent evidence that the Plaintiff was the Defendant's sole supplier of PCBs. Moreover the evidence of the loss of these contracts is shaky - Miss Yung purported to speak to this, but it was clear that she had no real knowledge of the sales contracts which were within the domain of sales staff from whom there was no evidence. Further, there is insufficient evidence of the amount of profit lost on the contracts in question. No accounts showing the Defendant's profit margin have been exhibited.

Order

77. In conclusion, I would give judgment to the Plaintiff in the sum of $346,354 plus interest thereon at the commercial rate of 1% above prime from date of issue of writ to judgment, and thereafter at judgment rate until payment, and I would dismiss the Defendant's Counterclaim. I would also make an order nisi that the Defendant bear the Plaintiff's costs.

78. Finally it only remains for me to thank counsel for their assistance.

April 1995

Total Invoiced value: $600,760

Part Payment: $300,000 on 26-6-1995; Balance: $300,760

May

Total Invoiced value: $347,130

Paid in Full on 27-7-1995

June, July, August

Total Invoiced value: $105,390

No payment

SCHEDULE 2