LI EN QIANG v. NOVA DIRECT INVESTMENT LTD AND ANOTHER

HCA 1645/2016

IN THE HIGH COURT OF THE

HONG KONG SPECIAL ADMINISTRATIVE REGION

COURT OF FIRST INSTANCE

ACTION NO 1645 OF 2016

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AND

HCMP 485/2016

MISCELLANEOUS PROCEEDINGS NO 485 OF 2016

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(Heard Together)

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JUDGMENT

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1.  The principal matter for determination is whether the court should grant Li En Qiang (“the plaintiff”) the interim injunctive relief he seeks by summons dated 22 June 2016 in HCA 1645/2016 (“the action”) against the 1^st defendant Nova Direct Investment Ltd (“Nova”) (formerly known as Quantum Direct Investment Ltd and Tobo Investments Holdings Limited).

2.  The second summons before the court arises in HCMP 485/2016 which were ancillary proceedings under sections 21M and 21N of the High Court Ordinance commenced on 2 March 2016 for interim injunctive relief in aid of proceedings initiated by the plaintiff in the BVI in February 2016 against Nova.  Although the BVI proceedings were stayed on 2 June 2016 in favour of Hong Kong as forum conveniens, the BVI court granted what is referred to as the 3^rd BVI order ex parte in anticipation of the Hong Kong action which had not then been instituted.

Background facts

3.  Taiping Quantum Strategic Fund (“the Strategic Fund”) is a segregated portfolio company incorporated in the Cayman Islands on 22 April 2014 as an exempted company with limited liability to operate a private investor fund.

4.  The share capital of the Strategic Fund was divided into voting non-participating shares (“management shares”) and non-voting participating redeemable shares (“participating shares”).  Its objective appears from its Offering Memorandum.  The Strategic Fund is managed, controlled and governed by its board of directors.  At the time the plaintiff subscribed for participating shares of the Strategic Fund, its directors were the 2^nd defendant Yeung Chun Wai Anthony (“Mr Yeung”), Johnny Huang and Wang Chunyang (collectively “the old directors”). Apex Funds Services (“Apex”) was its Administrator.

5.  Quantum China Asset Management Limited (“Quantum Cayman”) was the Manager of the Strategic Fund with responsibility for the selection of investments advised by the Principal Investment Adviser who in turn was advised by the Adviser although they were subject to the board’s overall control.  The Manager was entitled to receive a management fee of ¹/₁₂ of 2% of the net asset value of the participating shares of the Strategic Fund.  The old directors were also directors of Quantum Cayman.

6.  On 20 August 2015 Ms Wang resigned and three new directors being Chen Rongbin, Ding Dadu and Xu Haiou (“the new directors”) were appointed.  Mr Huang resigned shortly thereafter and on 11 December 2015 Mr Yeung also resigned leaving the new directors as the only directors.

7.  It is common ground that:

 (1) the plaintiff subscribed for 25,282,819 participating shares (“the subscription shares”) in the Strategic Fund at a cost of HK$20 million in May 2014;

 (2) on 24 June 2014 Mr Yeung procured the transfer of the subscription shares to Nova (an entity he owned and controlled) utilising a transfer form which the plaintiff was requested to and did sign in blank at the time he subscribed for the subscription shares[1];

 (3) on 7 November 2014, Nova redeemed 6198.07 subscription shares and received proceeds of HK$22 million (“the first redemption”);

 (4) on 26 May 2015, Nova further redeemed 10,815.24 subscription shares, receiving proceeds of HK$77.5 million (“the second redemption”); and

 (5) Nova continues to hold the remaining 8269.5 subscription shares (“the remaining shares”)[2].

8.  It is the plaintiff’s case that his subscription shares have been siphoned off by the defendants without his knowledge and consent.  The plaintiff alleges unconscionable and dishonest behaviour on the part of the defendants in perpetrating a fraudulent scheme whereby the plaintiff was left with no subscription shares whilst Nova not only holds the remaining shares but also has received redemption proceeds totalling HK$99.5 million.

9.  Mr Yeung was and remains the sole owner of Nova. As already noted, he was one of the old directors.  It is the plaintiff’s case that the other two old directors were his nominees.

HCA 1645/2016

10.  The plaintiff seeks the following interim relief:

 (a) a proprietary injunction in respect of the remaining shares, to restrain Nova from redeeming and/or dealing with them; and

(b) a Mareva injunction to restrain Nova from disposing of or otherwise dealing with its assets in Hong Kong up to the value of HK$99.5 million, being the aggregate proceeds received as a result of the first and second redemptions.

The proprietary injunction

11.  The plaintiff’s claim in respect of the remaining shares is as beneficial owner and so is proprietary in nature.  The legal requirements are not controversial.  The plaintiff has to establish that:

 (a) there is a serious issue to be tried;

 (b) the balance of convenience is in favour of granting the injunction; and

 (c) it is just and convenient to grant the injunction.

The defence

12.  Mr Mok SC, who appeared for the defendants conceded that the plaintiff has shown that there is a serious issue to be tried in that there is a dispute between the plaintiff and Mr Yeung as to whether the plaintiff is the beneficial owner of the subscription shares or merely a nominee for one Deng Junjie (“Mr Deng”).  It was not conceded that the question involved fraud or any fraudulent scheme.

13.  The crux of the defence is that Mr Deng was behind all the transactions, he being the real beneficial owner, that Mr Deng knew and/or agreed to the transfer to Nova made on 24 June 2014.  The allegation is that the plaintiff was in fact Mr Deng’s personal driver and a mere nominee for Mr Deng.

14.  The defendants’ case is that in early 2014 as a result of Mr Deng agreeing to invest HK$50 million, Mr Yeung established 5 investment vehicles namely the Strategic Fund, Taiping Quantum China Opportunities Fund, Taiping Quantum Prosperity Fund, Quantum Advantage Fund and Quantum Enhanced Fund (all of which were managed by Quantum Cayman as Manager) to enable investors who traded on penny stocks to use margin trading to leverage their investments through the device of “per-fund” pledging.  Whilst banks would not offer margin trading on a “per-client” basis to a particular penny stock, they may nevertheless offer margin trading on a “per-fund” basis, namely to a diversified portfolio containing a variety of stocks including penny stocks.

15.  According to Mr Yeung, each of the investors who applied to subscribe to the individual funds would give his own instructions to the fund manager to buy designated stocks and each would bear his own profit and loss.  While the investors would be allocated fund units reflective of the initial invested sum, an individual investor would not benefit from the overall appreciation of the relevant fund but only from the increase in value of his own designated stock(s).  

16.  The scheme required periodic reconciliation to reflect the true value of each investor’s designated stock(s) and to that end it was said that Nova was established as a settlement house for such reconciliation exercises in respect of which services it would be paid 2% of the net asset value of the relevant fund.

17.  The largest investor in those funds was Mr Deng a sophisticated and professional investor who, according to Mr Yeung, chose to hold his investments via nominees, that being his modus operandi.  Apart from the plaintiff, the other two ‘investors’ in the Strategic Fund in May 2014, namely, Jin Cancan (“Jin”) and China Water Industry Group Ltd (“China Water”) were also said to be Mr Deng’s nominees.  Together, the three subscriptions amounted to an investment of HK$50 million.

18.  It was said that effect of this arrangement was that the real investor, in this case Mr Deng, had the real authority to give instructions in relation to and/or deal directly with his investments and the relevant investments would be managed by Mr Deng directly without having to channel instructions through his nominees.  That was the reason Mr Yeung initially gave as the reason for requiring the plaintiff to sign the transfer in blank at the time he signed the subscription agreement: see §7(2) and footnote 1 above.

19.  Further, Mr Yeung relied on the fact that there was a “grand settlement” of his dispute with Mr Deng in mid-July 2015 whereby the defendants agreed to and did transfer 3 of the 5 funds (namely, the Strategic Fund, the Advantage Fund and the Opportunities Fund) as well as the Manager (Quantum Cayman) to Mr Deng.

20.  There is evidence that all the management shares were transferred to Mr Deng’s brother-in-law Tang Wai Kuen (“Mr Tang”) (who was also said to be one of Mr Deng’s personal drivers) on 27 July 2015 and the new directors were appointed to the board of the relevant funds on 20 August 2015.  But that merely shows a change of control of the Manager and of control of the board: there is no evidence of the transfer of any participating shares to Mr Deng or his nominees.

21.  There is no affidavit from Mr Deng but he has filed a Defence to Counterclaim (“Mr Deng’s defence”) in response to the defendants’ counterclaim against him.  Mr Mok sought to derive assistance from Mr Deng’s defence in support of the defence advanced.

22.  The effect of Mr Deng’s pleading is as follows:

(i) In early 2014, Mr Deng agreed to provide initial capital to Mr Yeung for the latter to set up and operate private investment funds in which Mr Deng could refer wealthy friends (and friends of friends) to invest.  Mr Yeung would manage the funds and enjoy 20% of the profits and also draw an annual salary of HK$2 million (§11).

(ii) Quantum Cayman was set up in early 2014 as the management company.  It was wholly owned by Quantum Capital Management Group Inc a BVI company (“Quantum BVI”) which, in turn, was 80% owned by Mr Deng through his relative and nominee Mr Tang and 20% by Mr Yeung (§13).

(iii) Mr Deng denied Mr Yeung’s allegation of ‘per fund margin financing arrangement’ (§10).

(iv) The plaintiff was one of the investors in the Strategic Fund and a friend of Mr Deng’s but was not the latter’s nominee, driver or bodyguard.  Mr Deng opined that the plaintiff has a legitimate claim against Nova and Mr Yeung (§§4, 9, 16, 51 and 52).

(v) In the first half of 2015, Mr Deng lost touch with Mr Yeung but heard that the latter was holding himself out as the ultimate owner of the promoter and fund management company Quantum Cayman.  Mr Deng discovered in early July that Quantum BVI’s 80% shareholding in Quantum Cayman had been transferred to three entities in succession without Mr Deng’s knowledge (§§27 – 29).

(vi) When confronted by Mr Deng in mid-July 2015, Mr Yeung acknowledged that he was the owner of those three entities one of which was “QCGL” and admitted the three illicit transfers (§31).

(vii) After the new directors were appointed on 20 August 2015, it was discovered that between July 2014 and June 2015, Mr Yeung had illicitly caused HK$131,866,000 to be paid out of Quantum Cayman in purported dividends to Quantum BVI and to QCGL but were in fact paid directly to Mr Yeung’s account (§34).

(viii) After negotiations, Mr Yeung agreed to (1) repay HK$104 million (being 80% of the purported dividends) and (2) return control of the Opportunities Fund, the Strategic Fund and the Advantage Fund to Mr Deng. It was Mr Yeung’s position that the remaining two funds comprised investments from investors whom he (rather than Mr Deng) had found (§46).

(ix) Mr Deng’s 80% holding in Quantum Cayman was returned to Mr Deng’s control when the management shares were transferred to Mr Tang on 27 July 2015.  Various sums totalling HK$104 million were transferred in September and October 2015 to Mr Tang for Mr Deng (§47).

23.  On analysis, far from offering support for Mr Yeung’s defence (to which the arrangement for per fund margin financing and Nova’s role as a settlement house for reconciliation purposes are pivotal), in fact, Mr Deng’s pleading does the contrary.  Instead, it supports the plaintiff’s case.

24.  Further, one should also not lose sight of the fact that Mr Yeung’s case relating to the operation of inter alia the Strategic Fund flies in the face of the provisions of the Offering Memorandum.

25.  It should be noted that no internal documents of the Strategic Fund have been exhibited that support the alleged reconciliation exercises. In fact, it is apparent from an internal document identifying the investors and their respective holdings as of 29 January 2016 that the NAV price of the shares held by each investor is identical.  That contradicts Mr Yeung’s version of the arrangement to the effect that each investor would only be entitled to such profits as were generated by the particular stocks selected he had selected.  The investor was not entitled to a proportionate share in the appreciation in value of the Strategic Fund attributable to the number of units held by him.

26.  In short, there is no evidence other than Mr Yeung’s bare assertions that substantiates Mr Yeung’s defence.

27.  It is also noteworthy that the reconciliation defence only emerged for the first time on 6 October 2016 when the defence was filed, some 6 months after Mr Yeung’s 1^st BVI affirmation when one would have expected such a defence to have been raised at the first opportunity. Nor was such a defence put forward as a defence to similar claims made by investors in other funds.

28.  As much was made the nominee allegation, I will address that briefly.  So far as it concerns the plaintiff, there is evidence that the relevant subscription documentation was signed by the plaintiff in Mr Deng’s office in Shenzhen.  That fact of itself has little significance in the absence of credible evidence of the central features of the alleged per fund margin financing arrangement.  Moreover, even if the plaintiff were a nominee, that would still not justify the transfer to Nova.

29.  Be that as it may, the evidence is that the plaintiff and Mr Deng had known each other for some years.  The plaintiff sought advice and commercial contacts from Mr Deng from time to time and was made aware in early 2014 of the Quantum group and the investment funds.  In those circumstances the fact that the subscription documentation was signed at Mr Deng’s office is of little significance.

30.  One is left with the evidence of Lee Chi San (“Mr Lee”).  It is remarkable to say the least that the chauffeur of an unrelated third party whose employer was unrelated and unknown to Mr Yeung was willing to provide an affirmation (in June 2016) to a complete stranger deposing to information gleaned from the plaintiff (whom Mr Lee first met in late 2014) in casual conversation.  Mr Lee’s evidence was to the effect that the plaintiff was the personal driver, nominee and bodyguard of Mr Deng (whom Mr Lee does not know personally).  

31.  Implicit in Mr Lee’s affirmation is the allegation that he saw the plaintiff on a regular if not daily basis from late 2014 until late 2015.  It is difficult to reconcile that allegation with the fact that the plaintiff is a PRC resident and has to obtain a visa for each of his visits to Hong Kong.

32.  In Jin’s case, the only evidence is that he signed the relevant subscription documents at Mr Deng’s office.  That fact of itself is hardly probative of his being Mr Deng’s nominee.  As regards China Water, Mr Mok drew attention to the fact that its chairman was Mr Deng’s sister.  That is beside the point when China Water is a public company listed on the HK Stock Exchange.  In fact, its investment in the Strategic Fund was approved by China Water’s board.

33.  Mr Mok made reference to the monthly statement dated 1 August 2014 from Apex to the plaintiff showing that on 2 July 2014 the subscription shares were transferred by the plaintiff to Nova (then known as Tobo Investments Holdings Ltd) and invited the court to proceed on the basis that that statement would have been despatched by Apex in the ordinary course of business.  The plaintiff denied ever having received the statement.  In those circumstances, I do not consider that the possibility that the statement had gone astray can be disregarded altogether; the court cannot proceed on the basis that the plaintiff must have received it and that therefore the plaintiff must have known of the transfer to Tobo by August 2014.

34.  Nova attached considerable significance to the fact that the transfer to it as well as the two subsequent redemptions were done openly and there was no attempt to hide those matters from anyone, which it was said militates against fraud having been perpetrated.  It was also stressed that the transfer to Nova was known to Mr Deng who accepted it as necessary for the reconciliation exercises that had to be undertaken.

35.  The fact remains that but for the confrontation that took place in mid-July 2015 between Mr Yeung and Mr Deng culminating in the change of control of the board on 20 August 2015, the transfer might never have come to light in the autumn of 2015.  The plaintiff would have been none the wiser.

36.  Mr Mok then submitted that the proprietary injunction should not be granted because of the “grand settlement” involving the transfer of 3 of the funds including the Strategic Fund to Mr Deng.  It was submitted that the court ought not make an order that would serve no purpose.

37.  But as earlier noted in §20 above, there was no transfer of the participating shares in the Strategic Fund as such but only a change of control of the board on 20 August 2015.  That change did not and could not affect the holdings of the investors in the funds.

38.  It is not and has never been Nova’s case that Mr Deng is the plaintiff’s nominee or under the plaintiff’s control and/or that the new directors are the plaintiff’s nominees or under his control.  In any event the change of control of the Strategic Fund in August 2015 could not have affected the transfer to Nova (in June 2014), an event that preceded the change of control by 14 months in the absence of any evidence of a transfer by Nova of the remaining shares to Mr Deng.  As earlier noted, there is no evidence of any transfer of participating shares as part of the “grand settlement”.

39.  In fact, the remaining shares are subject to the 3^rd BVI injunction order dated 2 June 2016 restraining Nova from taking any steps to seek or request the redemption of, inter alia, the remaining shares and prior to that to the 2^nd BVI order and the order granted by Deputy High Court Judge Cooney SC on 29 April 2016 (“the 2016 order”) in the HCMP proceedings in aid of the BVI proceedings.  Those shares remain in Nova’s possession and/or control: see footnote 2 to §7(5) above.

40.  Where the injunction sought concerns the preservation of a proprietary interest, the balance of convenience would lean in favour of the grant of relief.

41.  Any loss that Nova would suffer as a result of an injunction and the inability to redeem the remaining shares is compensable in damages whereas the plaintiff’s loss is not because participating shares are not traded on the open market.  Those are compelling considerations that would render it just and equitable for the proprietary injunction granted.

Conclusion

42.  Accordingly, in my view, the proprietary injunction sought should issue.

The Mareva injunction

43.  For a Mareva injunction to issue, the plaintiff also needs to show that there is a risk of dissipation of assets.  Nova’s ICBC account shows a balance of HK$11.7 million.  The whereabouts of the shortfall of HK$88 million odd of the total redemption proceeds of HK$99.5 million that had been paid into its ICBC account are not known or accounted for.

44.  Mr Fung SC who appeared for the plaintiff submitted that to the extent that the shortfall referred to has been dissipated, the plaintiff has a personal claim for equitable compensation for breach of trust, for conspiracy, knowing receipt and/or unjust enrichment.  The personal claim arises because the defendants combined to procure the fraudulent transfer of the subscription shares to Nova.

45.  As already noted, Mr Yeung’s original position was that the transfer form was signed by the plaintiff in blank at the time the subscription documentation was signed in May 2014.  That remained his position notwithstanding several affirmations filed by him in the BVI proceedings and in HCMP 485/2016 during the intervening six months.  It was only upon the filing of the defence in the present action on 6 October 2016 followed by Mr Yeung’s 1^st affirmation and Mr Chui’s affirmation in this action dated 13 October 2016 that it was said that the transfer form was only signed by the plaintiff on 24 June 2016.

46.  In the context of the interim relief sought, it matters not whether the transfer was executed in May or in June 2014. The critical point is that even if the plaintiff were a nominee, there is still no justification for stripping away the subscription shares from him and retaining the proceeds when there is no credible evidence of the alleged “per fund margin financing arrangement” and reconciliation exercises.

47.  For the reasons stated above, I consider the alleged arrangement implausible.  Mr Deng has not been shown to be the real beneficial owner of the subscription shares.  It would follow that the serious issue to be tried does involve the question whether the transfer of the subscription shares to Nova was procured by fraud.

48.  Where a good arguable case on a claim of fraud or dishonesty has been made out showing that the defendants have acted with an “unacceptably low standard of commercial morality”, the courts will more readily infer a real risk of dissipation.  Other than the balance of HK$11.7 million odd in its ICBC account, there is no evidence that Nova has other assets or the ability to repay HK$99.5 million should the plaintiff prevail at trial.  It follows that if Nova were to dissipate its assets, it would render nugatory any judgment that the plaintiff may obtain against.  In the circumstances, the status quo should be preserved pending trial.

49.  For those reasons, a Mareva injunction should also issue.

Order in HCA 1645/2016

50.  At the hearing the plaintiff provided a draft of the order it seeks.  I will make an order in terms of the draft as amended.

51.  There is to be an order nisi of costs of HCA 1645/2016 in favour of the plaintiff to be taxed if not agreed, with certificate for 2 counsel.

HCMP 485/2016

52.  There is extant an injunction order.  The parties are agreed that the 2016 order no longer serves a useful purpose and to be discharged.

53.  Accordingly, it is ordered that the 2016 order be discharged and that the costs of the proceedings in HCMP 485/2016 be reserved pending the determination of HCA 1645/2016.