RE EZCOM TECHNOLOGY LTD

HCCW 315/2005

IN THE HIGH COURT OF THE

HONG KONG SPECIAL ADMINISTRATIVE REGION

COURT OF FIRST INSTANCE

COMPANIES (WINDING-UP) NO. 315 OF 2005

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D E C I S I O N

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1.  This is an application for a validation order under section 182 of the Companies Ordinance, Cap. 32.

2.  Ezcom Technology Limited (“the Company”) seeks an order that payments to be made into or out of its bank accounts as specified in the ordinary course of business shall not be void in the event that a winding-up order is to be made on a creditor’s petition presented by Sojitz Corporation.

3.  The payments sought to be validated amounted to about $557,000.00 odd a month.  They relate to four items:

(1)     rent, management expenses and rates of the office premises and warehouse;

(2)     the remuneration of directors and officers;

(3)     employees’ salaries; and

(4)     charges for telephone services provided.

The 2^nd and 3^rd items amounted to about $473,000.00.

4.  The current bank balances of the Company are in the aggregate of about $972,000.00 odd, so that would cover about two months’ operating expenses, if no revenue or other receivables are received in the meantime.

5.  The petition was presented on 25 April 2005.  The debt of the petitioner is in the sum of Japanese ¥906,277,079.00, equivalent to about $66 million, in respect of the price of goods sold and delivered.  The petition is scheduled to be heard on 22 June 2005.  In the evidence of the Company filed in support of the application for a validation order, the Company has not raised any dispute as to the petitioning debt.  At the same time the petition was presented against the Company, the petitioner also presented a petition to wind up the ultimate holding Company, Ezcom Holdings Limited (“Holdings”), as the guarantor of the Company’s debts, in HCCW No. 316 of 2005.  Holdings is a listed company in Hong Kong.  The trading in its shares was suspended on 17 May 2005.

6.  This summons for a validation order was issued on 20 May 2005.

7.  The reason for seeking a validation order is to keep the Company as a going concern, as Holdings and the Company are conducting negotiations with two parties who are interested in investing in the Ezcom group.  The Company and Holdings might be salvaged if an investor could be found.  Mr Frederick Chan who appeared for the Company submitted that the key factor here is the possibility of substantial investment that might be made in the Company and that negotiations are on foot.

8.  The application is opposed by the petitioner and the Official Receiver.

9.  The principal activity of the Company is the trading of mobile telephones, parts and components.  The principle activity of Holdings is investment holding.  A related company is China Kejian Corporation Limited (“Kejian”).  The principal activity of Kejian is also trading in mobile telephone products.

10.  Looking at the financial statements of Holdings and of the Company adduced in this application, it is apparent that the Ezcom group is in serious financial difficulty and the Company is clearly insolvent.  According to the evidence filed by the Company, Kejian has to put on hold any payment of debt to the Company as it too has cash flow difficulties.

11.  In the letter of the petitioner’s solicitors to the Company’s solicitors dated 24 May 2005 sent after the petitioner was served with the evidence in support of this application, very pertinent observations were made on the financial condition of the Company and on the inadequacy of the evidence filed in support of this application.  The Official Receiver agrees with these observations.  I set them out in full below:

(1)	the profit and loss accounts of the Company for the period ended 28 February 2005 (being the latest financial statement adduced in the supporting evidence) showed a loss after taxation of $16 million odd;
(2)	although the profit and loss accounts showed sales in excess of $617 million, the costs of goods sold amounted to $613 million, giving a gross profit of only $4.7 million.  It is difficult to see how the Company would be able to trade out of insolvency;
(3)	the balance sheet for the period ended 28 February 2005 showed fixed assets of only $13.5 million.  The current assets of  $396 million are made up largely of receivables, in particular those from the Ezcom group or related companies, such as Kejian.  There is no indication as to whether the receivables are likely to be recovered at all;
(4)	only vague mention was made in the supporting evidence of the amounts due from Kejian, no details were given regarding the $200 million owed by Holdings and Ezcom Electronics Limited (“Electronics”);
(5)	announcements were made on the Hong Kong Stock Exchange of court actions against Holdings, the Company and Electronics, it would appear unlikely that the debts owed to the Company by Holdings and Electronics would be repaid soon, if at all;
(6)	according to the balance sheet for the period ended 28 February 2005, the Company had cash at bank and on hand of $52 million, whereas in the evidence in support of this application, the aggregate bank balances are less than $1 million in May 2005, no explanation was provided for this drastic reduction;
(7)	none of the payments sought to be validated relate to payments to trade creditors or suppliers which one might think would be necessary for the Company to make to keep trading and thus generate further revenue and profits.  No evidence was given if the Company is to continue to trade in any sense.  The bulk of the payments sought to be validated relates to the remuneration of directors and officers and staff salaries of $473,000.00 a month, no evidence was proffered as to why it is important that such payments should be made;
(8)	no evidence was adduced as to whether and when any meaningful investment in the Company and in Holdings might be made, other than vague assertions.

12.  The petitioner’s solicitors concluded their letter with the statement that the petitioner would oppose the application on the unsatisfactory state of the Company’s evidence, and propoed either the Company should withdraw its application or seek an adjournment to allow the Company to file further evidence in support.

13.  The Company has pressed ahead with this application nonetheless.  Nothing was done to address any of the pertinent observations made by the petitioner’s solicitors.  The Company filed further evidence on 27 May 2005 exhibiting the management accounts for the period ended 31 March 2005.  The only other piece of evidence adduced is that Holdings has signed an agreement with the potential investors to keep their negotiations confidential.  This has not altered the position in any significant way.

14.  I note in the evidence in opposition filed by the petitioner that two writs were issued against the Company in April and May 2005, claiming total sums of about $40 million.

15.  There is only a bare assertion that it is important to pay monthly remuneration and salaries and the rental of office premises and the warehouse.  I fail to see how that is likely to benefit unsecured creditors.  If the Company were to be kept as a going concern merely to allow the Company to collect the accounts receivable, no details were provided as to the recoverability except for the debt due from Kejian of about $48 million and that would not be paid in the near future.  If a validation order were to be made, the cash position of the Company would be depleted entirely in two months’ time.  As the Official Receiver has pointed out in a letter dated 25 May 2005, in the event that a winding-up order is made, which seems to be likely, such payments as sought to be validated would merely be preferring those creditors to whom payment is proposed.

16.  Mr Chan cited no less than 11 cases in support of his application.  I do not find this extensive citation of authorities helpful.  It cannot be over emphasized that in an application of this nature, where the court has a general discretion to exercise and has to strike a fair balance between the interest of the company and the interest of unsecured creditors, each case must be dealt with on its own facts and particular circumstances.

17.  I do not think I can draw any general principle from the cases Mr Chan cited that a validation order would invariably or usually be made in any of the following situations:

(1)	there is a desire to preserve the company as a going concern, where the company is ultimately to be sold; or
(2)	that the court should extend indulgence to validate the payments of wages, provided that the payment is a reasonable disposition and is not dishonest or reckless.

The facts of the cases cited by Mr Chan, properly analysed, do not support any such general principle.

18.  As stated by Barma J in Re Century Group Limited [2005] HKEC 781 at paragraph 7, “the desirability of the Company being able to carry on its business is often a matter of speculation and in each case the court must carry out a balancing exercise and consider where the interests of the unsecured creditors lie”.

19.  In a situation like this, it behoves the Company to adduce sufficient evidence to provide a proper basis on which the court could assess whether or not the Company would operate profitably for the benefit of the creditors as a whole, if it were permitted to carry on business.

20.  The evidence of the Company simply does not make out a sufficient case as to why payments should be validated notwithstanding it is clearly insolvent.  What makes it worse is that the Company has been told in very clear terms in what respects its evidence is wanting and has done nothing to address the inadequacy.

21.  In these circumstances, I must dismiss the application.