LU JUN v. YU QI AND OTHERS

HCCW282/2010

IN THE HIGH COURT OF THE

HONG KONG SPECIAL ADMINISTRATIVE REGION

COURT OF FIRST INSTANCE

COMPANIES (WINDING-UP) NO. 282 OF 2010

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BETWEEN

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RULING

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I. INTRODUCTION

1.  The Petitioner holds 15% of the shares of the 4^th Respondent (“Company”).  The 1^st to 3^rd Respondents together hold the majority 85%.  For convenience, I shall refer to the 1^st and 3^rd Respondents as “Respondents”.

2.  The Petitioner commenced these proceedings seeking relief under s. 168A of the Companies Ordinance, Cap. 32, primarily for an order that the 1^st to 3^rd Respondents buy out his shares in the Company at a value to be determined by the Court; alternatively for winding up of the Company under the just and equitable ground.

3.  There are 3 applications for determination:

3.1 The Respondents’ summons dated 31 May 2010 (as amended with leave granted, without opposition, at the hearing on 7 December 2011) seeking a validation order under s. 182 of the Companies Ordinance (“Validation Summons”).

3.2 The Petitioner’s summons dated 12 October 2010 seeking to appoint provisional liquidators (“PL Summons”).

3.3 The Petitioner’s summons dated 7 July 2011 for the appointment of interim receivers pending determination of these proceedings (“IR Summons”). Although the IR Summons does not expressly say so, Mr Jonathan Wong, counsel for the Petitioner, confirms in his Skeleton Submissions that this is in the alternative to the application to appoint provisional liquidators.

4.  These proceedings have had a long and checkered procedural history with many interlocutory skirmishes.  Numerous affidavits have been filed which, together with exhibits, run into well over 2,000 pages.  For the disposition of these summonses, however, it is unnecessary to go into the details of the parties’ respective cases.  Indeed, counsel sensibly agreed that for the purpose of this hearing, the allegations and counter-allegations cannot be determined on the basis of the affidavit evidence.

5.  The trial of the Petition is fixed for July 2012.

II. VALIDATION SUMMONS

6.  The Validation Summons, as amended, seeks the following order:

“1. That notwithstanding the presentation of the Amended Petition dated 19^th August 2010:–

(a) Payments made into or out of the bank accounts of the 4^th Respondent in the ordinary course of business of the 4^th Respondent; and

(b) The following transaction and payments of the 4^th Respondent made in the ordinary course of its business for proper value between the date of the presentation of the Amended Petition or further order in the meantime shall not be void by virtue of section 182 of the Companies Ordinance, Cap. 32 Laws of Hong Kong in the event of an order for the winding up of the 4^th Respondent being made on the said Amended Petition provided that the banks of the 4^th Respondent shall [be] under no obligation to verify for themselves whether any transaction through the 4^th Respondent’s bank accounts is in the ordinary course of business, or that it represents full market value for the relevant transaction.

Schedule

(1) The acquisition by the 4^th Respondent from First Master at the consideration of RMB4.5 million or the net asset value of Shanghai [Hanglong] as the date on which the share transfer is approved by the PRC authority;

(2) The after tax amount of the following dividends declared in favour of the 4^th Respondent be released for use in the ordinary course of business of the 4^th Respondent after 15% of the respective sum be paid into Court.

Schedule

Changzhou Company	RMB33,241,567.69
Tangshan Company	MB45,823,215.00
Xinyu Company	RMB9,404,069.00

(3) The following management fees received in favour of the 4^th Respondent be released for use in the ordinary course of business of the 4^th Respondent after 15% of the respective sum be paid into Court.

Schedule

Changzhou Company	RMB10,315,502.51
Tangshan Company	RMB6,119,654.56

(4) The following amounts be released by the 4^th Respondent for the following purpose.

(i) 85% of the after-tax dividends be applied to repay the principal and interests of the loan owned by the 4^th Respondent to the 3^rd Respondent (the said amount as at 31.3.2011 is HK$9,013,006.59);

(ii) 85% of the after-tax Management Fees shall be paid in RMB into a bank account in the PRC of Shanghai Hanglong which will receive such Management Fees for and on behalf of the Company for paying:

(a) the general expenses and expenditure of the 4^th Respondent incurred from April 2010 to March 2011 in the total sum of HK$9,600,868.54;

(b) the general expenses and expenditure of the 4^th Respondent to be incurred in the average sum of HK$600,000 per calendar month.”

7.  Mr Jonathan Wong very helpfully indicated in his Skeleton Submissions that the Petitioner would not oppose any application for validation in respect of legitimate ordinary business expenses.  What he takes issue with are the following:

7.1 the propriety of the proposed acquisition (or re-purchase) of Shanghai Hanglong;

7.2 the repayment of the alleged outstanding loans said to be due to the Respondents; and

7.3 the amount of ordinary business expenses the Company is permitted to spend per month.

II.(1) Acquisition of Shanghai Hanglong

8.  Shanghai Hanglong, a PRC registered company, used to be a wholly-owned subsidiary of the Company.  It was purportedly sold to First Master pursuant to a share transfer agreement dated 9 May 2010 for RMB4.5 million.  Pursuant to clause 1.1 of that agreement, the consideration was to be paid within 1 year of the completion of the transfer (which took place on or around 2 July 2010, when the PRC authorities approved the transfer).  The consideration has not been paid.

9.  For reasons that I need not go into, it is proposed that the Company should re-purchase Shanghai Hanglong from First Master for the same consideration of RMB4.5 million or its net asset value, whichever is lower.  The proposed re-purchase agreement again provides that the consideration is to be paid within a year of completion.

10.  The Petitioner objects to the acquisition without a due diligence being conducted beforehand.  The parties disagree on the need to conduct a due diligence and the re-purchase agreement has not been signed.

11.  Thus as things stand, First Master owes the Company RMB4.5 million and if the Company enters into the re-purchase agreement, the Company would owe First Master a maximum of RMB4.5 million repayable within a year.  The two sums would set-off against each other.  In any case, the consideration for the re-purchase is not payable until a year later, so there is no “disposition” of the Company’s assets if it should sign the re-purchase agreement to acquire Shanghai Hanglong from Fair Master.

12.  In the circumstances, it would appear that a validation order is not necessary.  When this was pointed out to Mr Brian Wong, counsel for the Respondents, at the hearing, counsel did not suggest otherwise.  Nor is there evidence that First Master would not sell the shares of Shanghai Hanglong back to the Company absent a validation order.  That being the case, I decline to make an order in relation to this acquisition.

II.(2) Repayment of loans

13.  Turning to the repayment of loans, the Company is due to receive various dividends from the operating joint ventures in the PRC, amounting to some RMB 88 million.  Subject to withholding 15% of the dividend payments to safeguard the Petitioner’s interest, the Respondents seek validation to enable the dividends to be applied towards discharging shareholder’s loans owed to the 1^st and/or 3^rd Respondents, the principal amount of which stood at just over HK$111 million.  I say “and/or” because the 1^st Respondent’s shareholder’s loans have been assigned to the 3^rd Respondent, although there appears to be some uncertainty as to the documentation and the validity of the assignment is not accepted by the Petitioner.

14.  Mr Brian Wong has drawn my attention to the Petitioner’s own evidence that there was agreement between him and the 1^st Respondent that any loans from related parties would be repaid when income (whether dividend or consultancy income) was received by the Company: see Petitioner’s 1^st affirmation, paragraph 13.

15.  The dispute has narrowed down considerably in the course of the hearing.  Mr Jonathan Wong fairly accepts that there is no reason why the Company should not repay the “cash parts” of the shareholder’s loans owed to the 1^st Respondent (“cash parts” represent the Company’s contribution in cash to the share capital of the 3 PRC joint ventures).

16.  The “cash parts” contributed by the 1^st Respondent (by herself or through associated parties) totalled some US$15.36 million. There is no suggestion that the Company is insolvent or unable to make payment of these loans once the dividends are received.

17.  In the circumstances, I do not see any valid reason why the dividends, when received, should not be used to repay the “cash parts” of the shareholder’s loans.  I am therefore in favour of granting a validation order for this purpose.

II.(3) Ordinary business expenses

18.  As stated above, the Petitioner does not oppose an order allowing the payment of ordinary business expenses of the Company.  The dispute centres on the amount allowed to be paid.

19.  Paragraph 1(b)(4)(ii) of the Validation Summons asks for two types of payments:

19.1 payment of general expenses and expenditure of the Company incurred from April 2010 to March 2011 in the sum of HK$9,600,868.54; and

19.2 payment of monthly expenses of not more than HK$600,000 from April 2011 onwards.

20.  It is proposed that these payments be made from the management fees of about RMB16 million which the Company is due to receive from two of the joint ventures.  Again, the Respondents propose to utilise only 85% of the management fees received.

(a) Expenditure for 2010-2011

21.  The Respondents’ case on this issue is that although the direct expenses of the Company in the past years have been relatively small (in the region of approximately HK$200,000 per year), that was because the Company was the holding company.  The operating business of the Company was the PRC joint ventures and Shanghai Hanglong had been managing the Company’s interest in and operating those joint ventures on its behalf.  One must therefore take into account the expenditure incurred by Shanghai Hanglong on behalf of the Company in the operation of the joint ventures.  Mr Jonathan Wong does not dispute that proposition for the purpose of this hearing.

22.  There is no clear evidence of the amount of expenditure on an annual basis.  This is partly due to the unavailability of up to date financial statements.  I think it may also be due to the different reporting periods adopted by the Company (April to March) and PRC companies (January to December).

23.  The audited accounts of Shanghai Hanglong for 2009, which are the latest available ones, indicate that just over RMB7 million in “management fees” had been incurred in each of 2008 and 2009.  Mr Jonathan Wong realistically does not challenge these figures, because his client was in charge of the operation of Shanghai Hanglong and the joint ventures at the material time.

24.  The figure of HK$9,600,868.54 asked for in paragraph 1(b)(4)(ii)(a) of the Validation Summons, however, cannot be found in any of the accounts and cash statements produced.  There is a sum of HK$9,507,668.54 being the “administrative expenses” of the Company for the year ended 31 March 2011 in an income statement prepared by a firm of certified public accountants.  This figure includes a sum of HK$7,340,839.20 in respect of consultancy fees, which roughly corresponds to Shanghai Hanglong’s “management fees” of around RMB7 million a year.

25.  The difference between HK$9,600,868.54 and HK$9,507,668.54 is insignificant.  I am therefore prepared to grant the order sought under paragraph 1(b)(4)(ii)(a).

(b) Future expenses

26.  As to future expenses, the sum of HK$600,000 is roughly based on Shanghai Hanglong’s “management fees” of RMB7 million for 2008 and 2009. 

27.  Mr Jonathan Wong, while not disputing the figures in the audited accounts of Shanghai Hanglong, submitted that HK$600,000 per month, or HK$7.2 million, per year is not justified because in the breakdown given by the 1^st Respondent, HK$4.7 million is provided for payment of salaries, out of which HK$1.5 million is provided for the 1^st Respondent alone.  This is to be contrasted with the salary that the 1^st Respondent had been receiving from the Company in 2006 (RMB15,000 a month) and since 2007 (RMB20,000 per month).

28.  It is not possible for me to come to any definite conclusion on the appropriate amount of monthly business expenditure. Taking into account the objection, I am prepared to make an order permitting the Company to incur up to HK$600,000, or its equivalent, in business expenses per month from April 2011 onwards.  This is, of course, without prejudice to the Petitioner challenging the appropriate amount of any salary payment (or indeed, any payment) which may be made.

(c) Reporting conditions

29.  Mr Brian Wong on behalf of the Respondents stated during the hearing that the Respondents are prepared to have reporting requirements imposed. 

30.  I am inclined to impose a requirement that the Respondents’ solicitors should inform the Petitioner’s solicitors of any item of expenditure incurred by or on behalf of the Company over HK$100,000 within a reasonable time, say 7 business days, of payment, giving particulars of the payment.  I trust that this will not be too burdensome given that the trial is due to take place in July 2012. I will hear counsel on the precise wording.

III. PL SUMMONS

31.  The main submission of the Petitioner as to why provisional liquidators should be appointed is, essentially, that there have been dubious transactions—such as the purported sale of Shanghai Hanglong and buy-back, an alleged attempt by the 1^st Respondent to get around an injunction granted by Au J on 17 March 2011, and the purported assignment of loans in favour of the 3^rd Respondent—which gave rise to concerns over risks of dissipation of the Company’s assets and a need for investigation.

32.  However, as counsel accepted at the hearing, the merits of the allegations and counter-allegations cannot be resolved at this hearing.  On the basis of the materials before me, I am not satisfied that the Petitioner has made out a prima facie case that a winding-up order will be made, instead of relief under s. 168A, at trial. 

33.  Moreover, there are orders granted by Chu J and Au J which serve to preserve the status quo.  And in view of the fact that the trial is only a few months away, I am not persuade that this is an appropriate case to appoint provisional liquidators.

IV. IR SUMMONS

34.  For substantially the same reasons, I am not satisfied that this is an appropriate case to appoint interim receivers.  The trial is only a few months away and in my view, to appoint interim receivers at this stage is likely to cause far more harm than good to the Company, which is solvent and has an active profitable business through its interests in the joint ventures.

V. CONCLUSION

35.  I have outlined very brief reasons for coming to my decisions on the applications.  They are far from comprehensive, but I think it is in the interest of everyone concerned that the summonses be disposed of as quickly as possible, so that the parties can focus their attention on preparing for the trial.

36.  I will hear counsel on the precise terms of the order to be made and costs.