XCHRX THE HONGKONG AND SHANGHAI BANKING CORPORATION LTD. v. VESOCO CO. LTD. (in liquidation)

CWU 61/1998

IN THE HIGH COURT OF THE

HONG KONG SPECIAL ADMINISTRATIVE REGION

COURT OF FIRST INSTANCE

COMPANIES (WINDING-UP)

NO. 61 OF 1998

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REASONS FOR DECISION

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1. I have before me an application by the Hongkong and Shanghai Banking Corporation Limited ("the Bank") for a validation order under section 182 of the Companies Ordinance in respect of three debits in the account of Vesoco Company Limited ("the Company") with the Bank made between the presentation of the winding up petition and the advertisement of the petition. The application is opposed by the Official Receiver, who is the liquidator of the Company. At the end of the hearing, I made a validation order, declaring that the debits in the account with the Bank in the respective sums of HK$10,000.00, HK$20,000.00 and HK$135,157.00 on 4 February 1998, 6 February 1998 and 17 February 1998 had not been avoided by section 182. I also made an order that the Bank's costs in this application, which I have assessed on a gross sum basis under O. 62 r. 9(4) of the Rules of the High Court, be paid out of the Company's assets and be given priority immediately after the Petitioner's costs. As for the costs of the Official Receiver in this application, which are also assessed on a gross sum basis, I have ordered that they be included in the costs of the liquidation. I now give reasons for my decision.

2. The relevant facts of this application are as follows. On 2 February 1998, a winding up petition in respect of the Company was presented. The petition was advertised in the newspapers and published in the Gazette on 27 February 1998. The Bank had a system of checking every issue of the Gazette on the very day of its publication to see whether any notice of presentation of winding up petition published in the Gazette related to any of the Bank's customers. Thus, on 27 February 1998, the Bank became aware of the petition. In accordance with the Bank's practice, the Company's current account with the Bank was frozen the same day. On 8 April 1998, a winding up order was made on the petition. It is not in dispute that the Bank did not have any knowledge of any winding up proceedings against the Company before 27 February 1998, nor was it suggested that the Bank should have been aware of the petition prior to that date.

3. As stated earlier, the three debits in the Company's account with the Bank were made between the presentation of the petition and the advertisement of the petition. The first two debit payments were effected by transfer payment to E-Zone (Hong Kong) Limited, an associated company which had apparently ceased operation in 1998. The purpose of the transfer payments was to reimburse sundry expenses incurred by E-Zone for the Company. The third debit was a cheque payment to Karfield Limited. This was a refund of rental deposit by the Company to its tenant who had directed that the payment be made to Karfield Limited.

4. The Company's account with the Bank was at all material times in credit both before and after each of the three debits. The Bank had no reason to believe and in fact was not aware that the Company was in financial difficulty or was insolvent between the dates of presentation of the winding up petition and its advertisement. It was not challenged by the Official Receiver that the withdrawals were made in the ordinary course of the Company's business and that the Bank had effected the withdrawals in good faith pursuant to the mandate of the account.

5. The Official Receiver had taken reasonable steps in an attempt to recover the proceeds of the cheque from Karfield Limited but the efforts were in vain. It is unlikely that there would be recovery of the amounts debited from any of the payees.

6. Mr Godfrey Lam, counsel for the Bank, expressly reserved his position whether each of the debits made by the Bank should be regarded as a "disposition" within section 182 on the basis that there was no disposition to the Bank as disponee in that the Bank was simply acting as the agent of the Company in making payments out of the Company's account. He drew my attention to the Australian case of Re Loteka Pty Ltd (1989) 15 ACLR 620 and the decision of Lightman J in Coutts & Co. v. Stock [2000] 1 WLR 906. Mr Lam accepted that in view of the decision of the Hong Kong Court of Appeal in Bank of East Asia Ltd v. Rogerio Lam [1988] 1 HKLR 181, he would not argue in this court that the debits in question were not dispositions within section 182. He reserved his position to argue the point if the matter should be taken to a higher court.

7. The question I have to determine is whether I should validate the debits under section 182.

8. Mr Lam and Mr M K Tam, who appeared for the Official Receiver, referred me to a number of English and local decisions on the exercise of the discretion of the court in making a validation order. In all the cases cited to me, there was not a single case in which a bank was held liable to repay the liquidator for the payments made by the bank out of an account in credit pursuant to its mandate before the advertisement of the winding up petition. On the contrary, it would appear from the English cases cited to me that there has been a well established practice that the courts would grant validation orders in favour of a bank which had debited a customer's account for payment made on the bank mandate before the bank knew or should have known of the petition. This is apparent from the dicta in the following cases:

"A disposition carried out in good faith in the ordinary course of business at a time when the parties are unaware that a petition has been presented may, it seems, normally be validated by the court ... unless there is any ground for thinking that the transaction may involve an attempt to prefer the disponee, in which case the transaction would probably not be validated." (In re Gray's Inn Construction Co. Ltd [1980] 1WLR 711 at 718 G-H, per Buckley LJ; emphasis supplied)

"The liquidator only seeks all payments made after advertisement to be repaid to him; that is because he takes the view that the court would not at the suit of an officer of the court, who has a duty to act responsibly, make an order against the bank in respect of payments made at a time when the bank was not on notice because there was no advertisement of the existence of the petition." (Re McGuinness Bros. (UK) Ltd (1987) 3 BCC 571 at 574, per Harman J; emphasis supplied)

"The liquidator does not, in the event, seek repayment of all sums paid out subsequent to presentation of the petition, merely that there be payment of a sum equal to the various sums paid out of the account following advertisement of the petition on 26 February. This is in accordance with the well established practice of the court whereby dispositions effected after commencement of a company's winding up but before advertisement, although avoided under section 127, would ordinarily be validated on an application for that purpose by the person from whom repayment is sought. Underlying this is a twofold assumption: (1) that advertisement of the petition is notice to all the world that a winding up petition against the company in question has been presented ... ; and (2) that the person sought to be made accountable (in this case the bank) had no actual knowledge of the winding up petition prior to its advertisement." (Hollicourt (Contracts) Ltd v. Bank of Ireland [2000] 1 WLR 895 at 897G to 898A, per Blackburne J; emphasis supplied)

"... the bank or such a payee, so long as it was ignorant of the presentation of the petition at the date of any payment or receipt of the debtor's money, could have applied for a validation order validating payments by or to it between the date of presentation and the date of advertisement and on such an application a validation order would have been granted almost as a matter of course: see the Hollicourt case ..." (Coutts & Co. v. Stock, supra. at 909E, per Lightman J; emphasis supplied)

9. Notwithstanding this well-established practice in the English Courts, the Official Receiver has opposed the Bank's application for a validation order in respect of debits made before the advertisement of the petition. Mr Tam took the stance that the payments out of the Company's account did not confer any benefit to the estate of the Company and had resulted in a reduction of the Company's assets. As the transactions were not shown to be for the benefit of the creditors generally, a validation order should not be made notwithstanding that the Bank had no notice of the petition when the payments were effected and was acting in good faith. Mr Tam relied in particular on the case of Re S A & D Wright Ltd [1992] BCC 503 and submitted that there was a shift in emphasis in that the court would be more concerned with whether the transaction was for the benefit of the company or its creditors generally in an application of this nature and not so much with the lack of notice of the petition on the part of the Applicant. My attention was drawn to the following passages in Re S A & D Wright Ltd:

"But while good faith is in my view, established, I do not think that good faith is enough by itself to justify validation. Thus, in Re J Leslie Engineers Co. Ltd [1976] 1 WLR 292, Oliver J said at p. 304:

'Whilst obviously the absence of any actual knowledge in the recipient of a payment that a petition is in being is a factor - indeed a very powerful factor - to be considered in relation to the exercise of discretion, I do not think that, by itself, it can be conclusive ... I think that in exercising discretion the court must keep in view the evident purpose of the section which .... is to ensure that the creditors are paid pari passu. Obviously there are circumstances where this cannot in fairness be the sole criterion in cases where, for instance, the creditor concerned has since the presentation of the petition helped to keep the company afloat, or has otherwise swollen the company's assets, salvage cases and that sort of thing.'

....

Accepting, as I do, that the parties acted in good faith, the essential questions I think are:

(1) Were the parties acting in the ordinary course of business?

(2) Were the relevant transactions likely to be for the benefit of the creditors generally?" (at 505H - 506D, per Fox LJ; emphasis supplied)

10. I do not agree with Mr Tam that there has been a shift of emphasis in weighing the matters relevant to the exercise of the discretion of the court in an application for a validation order since the case of Re S A & D Wright Ltd. In fact, among the propositions governing the exercise of the court's jurisdiction as stated in Re Gray's Inn Construction Co. Ltd and summarized by Fox LJ in Re S A & D Wright Ltd at 504G - 505F, these propositions were regarded as approved by the Court of Appeal in Re Gray's Inn:

"(2) The basic principle of law governing the liquidation of insolvent estates, whether in bankruptcy or under the companies legislation, is that the assets of the insolvent at the time of the commencement of the liquidation will be distributed pari passu among the insolvent's unsecured creditors as at the date of the bankruptcy ...

(3) There are occasions, however, when it may be beneficial not only for the company but also for the unsecured creditors, that the company should be able to dispose of some of its property during the period after the petition has been presented, but before the winding-up order has been made. Thus, it may sometimes be beneficial to the company and its creditors that the company should be able to continue the business in its ordinary course.

(4) In considering whether to make a validating order, the court must always do its best to ensure that the interests of the unsecured creditors will not be prejudiced.

...

(6) The court should not validate any transaction or series of transactions which might result in one or more pre-liquidation creditors being paid in full at the expense of other creditors, who will only receive a dividend, in the absence of special circumstances making such a course desirable in the interests of the creditors generally ..."

11. Thus, I think it is incorrect to say that there has been a shift in emphasis in that the Court should pay regard only or primarily to the benefit to the company or its creditors generally in an application of this kind. The circumstances and reasons of an application for a validation order, which can be made prospectively or retrospectively, vary from case to case. In the weighing exercise, what emphasis is to be given to a particular aspect would depend very much on the facts of a particular case. It would not be appropriate to adopt rigid guidelines as to how the discretion of the court is to be exercised. The lack of notice by the Bank of the petition, that it was acting in good faith, and that the payments out were in the ordinary course of the Company's business were important factors in the exercise of my discretion. However, they were not the only factors favourable to the Bank. As submitted by Mr Lam, there were these further matters which should tip the balance in favour of the Bank:

(1) The current account of the Company was in credit at all material times. The Bank was a debtor to the Company. This is different from the situation where an account is in overdraft and a payment into an account would reduce the customer's indebtedness to a bank. In the present case, there is no question of the Bank being preferred as a creditor.

(2) For the above reason, there is a vital distinction to be drawn between the Bank as a debtor effecting payment to a third party as agent for the Company and the situation of a disponee retaining a preferential payment. In this case, there was no receipt of any property by the Bank and no question of restitution from the Bank. If the Bank were to be ordered to pay to the liquidator the amounts it had debited, the Bank would be required to pay the amounts twice over. For the second time, payment would be made by the Bank from its own funds to top up the estate of the Company.

12. I think these are weighty factors to be taken into account. For the reasons given above, I made the validation order sought by the Bank.