RE FAR EAST STRUCTURAL STEELWORK ENGINEERING LTD (IN LIQUIDATION)

HCCW 354/2001

IN THE HIGH COURT OF THE

HONG KONG SPECIAL ADMINISTRATIVE REGION

COURT OF FIRST INSTANCE

COMPANIES (WINDING-UP) NO. 354 OF 2001

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D E C I S I O N

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1.  There are two applications before me.  The first is an application by the liquidators of Far East Structural Steelwork Engineering Limited (“the Company”) that two payments made by the Company to Weir & Associates (“the Solicitors”) by 2 cheques dated 18 April 2001 and 16 June 2001 in the respective sums of $100,000.00 and $120,000.00 for legal services provided be declared void under section 182 of the Companies Ordinance, Cap. 32 and that the Solicitors be ordered to repay the said sums to the Company.  There is a cross application by the Solicitors for an order that the 2 payments be validated under section 182, on the ground that they were payments made in good faith, in the ordinary course of business of the Company and were for the benefit of the creditors generally.

2.  The relevant facts may be stated as follows.

3.  The Solicitors were first instructed by the Company in November or December 2000.  The Company was in the construction business and had been carrying on business for about 20 years.  Initially, the Solicitors were retained to advise on the sale of the Company’s interest in another entity for $1 million, which transaction was duly completed.

4.  In early 2001, the Solicitors were instructed to assist and advise on a debt restructuring of the Company.  They attended a creditors meeting in January 2001 with the certified public accountants engaged by the Company and had helped in preparing a repayment scheme that was put forward to the creditors.

5.  The salient points of the scheme were that the Company would cease all trading activities with effect from 1 February 2001 and would only maintain an operation for the sole purpose of collection of debts for distribution to its creditors.  Distribution to creditors was estimated to range from $0.13 to $0.45 in the dollar.  According to the projected realisation statement, as at 31 January 2001 account receivables were estimated to range from $7.2 million to $12 million.  On a best case scenario, the estimated deficiency as regards unsecured creditors was stated to be in the region of $27.3 million. 

6.  From early 2001 to May 2001, there were over a dozen claims filed against the Company in various courts.  The Solicitors acted for the Company in these legal proceedings.  In 2 instances, a defence was filed for the Company, one also containing a counterclaim for over $500,000.00.  In another instance, a draft defence was prepared but was not filed as the proceedings were stayed due to the winding-up petition presented against the Company.  In yet another instance, judgment was obtained against the Company before a Master and the Solicitors pursued an appeal to a Judge in chambers.  In all the other instances, it would appear that the Solicitors had advised the Company on the claims and had liaised with the plaintiffs for settlement.

7.  On 17 April 2001, a petition to wind up the Company was presented by a judgment creditor.  The Solicitors were retained in May 2001 and counsel was instructed to appear and to oppose the petition.  The petition was adjourned 3 times.  The Company was ordered to be wound up on 6 August 2001.  According to the affirmation filed by the handling solicitor, during all this time when the Solicitors continued to liaise with creditors on the instructions of the Company to achieve a compromise, the directors were optimistic that a settlement could be reached.

8.  For all the above work done, the Solicitors rendered a total of four invoices.  I am concerned with only three.  The first invoice was dated 16 March 2001 for $152,000.00, it was for legal services rendered from December 2000 to 16 March 2001.  Part payment of this invoice in the sum of $90,000.00 was made on 27 March 2001.  Out of the $100,000.00 paid on 20 April 2001, $62,000.00 was applied towards settlement of the balance of this invoice and the remaining sum of $38,000.00 was held as costs on account for ongoing work and work done but not yet billed by the Solicitors.

9.  At the time the payment of $100,000.00 was received by a cheque dated 18 April 2001 which was issued one day after the presentation of the petition, the Solicitors claimed that they had no knowledge of the petition.  I accept the absence of knowledge on their part.

10.  The second invoice dated 19 June 2001 was for $138,110.00 for legal services rendered from 17 March 2001 to 31 May 2001.  $38,000.00 was applied from the balance of the payment made on 20 April 2001.  Out of the $120,000.00 paid by a cheque dated 16 June 2001, $100,000.00 was applied towards payment of the balance of this invoice and the remaining sum of $19,890.00 was held as costs on account.

11.  By the time the second payment of $120,000.00 was received, the Solicitors had of course known about the petition.

12.  The third invoice dated 10 June 2003 was for $19,890.00.  The Solicitors simply reduced their fees to the amount as stated in this invoice and paid themselves what was left from the costs held on account in the sum of $19,890.00.

13.  I am mindful that I should not validate any transaction which would result in one or more pre-liquidation creditors being paid in full at the expense of other creditors, in the absence of special circumstances making such a course desirable in the interests of the unsecured creditors generally.

14.  I was referred by Mr Kemp who appeared for the liquidators to a decision of the Court of Appeal in Re Parnip Investment Limited [1991] 2 HKC 272, in which the company sought a validation order for payments to be made to oppose a winding-up petition brought by one of the shareholders alleging a debt owed by the company and to defend an action brought by an entity owned by the petitioner and to lodge a counterclaim in that action.  The company’s application for a validation order was refused and this was upheld by the Court of Appeal.

15.  The Court of Appeal at 278H to 279B considered there were good reasons in that case to depart from the usual practice where payments made honestly and in the ordinary course of business would be sanctioned.  At 276G to H, Nazareth JA had this to say about what could be regarded as measures taken in the ordinary course of business, even if a company has ceased trading:

“In the present case, the company has clearly ceased trading and indeed been disposing of assets required to operate the business so that it is not necessary to permit it to continue to trade in order to preserve its assets.  Nonetheless, it seems to us that even if the company is not trading, it must be in the ordinary course of its business for the company to preserve and bring in its assets, whether by way of defending legal claims or proceeding by way of counterclaim, so that the disposition should be sanctioned unless there is some good reason for the court’s discretion to be exercised otherwise than in accordance with the practice adverted to.”

16.  Here, I am satisfied that what the Company was doing, in its attempts at debt restructuring, in negotiating a compromise with its creditors, in liaising with those who had brought legal proceedings against the Company with a view to settlement, in defending some of these actions, in pursuing an appeal and lodging a counterclaim in another instance, could fairly be regarded as actions taken to preserve or bring in the assets of the Company, even assuming the Company was not actually trading during the material period, of which there is no clear evidence.

17.  Mr Kemp also submitted that such actions taken by the Company were not for the benefit of the creditors generally, as the Company was clearly insolvent and that the legal costs incurred would diminish further the funds from which unsecured creditors could be paid.  In Parnip, there was clear evidence that the funds of the company would run out prior to the conclusion of the legal proceedings that the company was minded to contest.  Here, the situation was somewhat different.  The strategy apparently taken was not to contest all legal proceedings vigorously, except in one instance where a counterclaim was lodged and in another instance where an appeal was pursued against the decision of a Master.  The Company would seem to be doing what was just sufficient to stop further judgments being entered where claims were made and to negotiate vigorously with creditors in the meantime, in the hope that a compromise might be reached with all.  I note that the repayment scheme was provided to the creditors for their consideration in January 2001, before the flurry of writs were issued.  I note also that the petition was adjourned on 3 occasions, and I have no reason to think that good grounds for adjournment were not made out on those occasions when the adjournment was granted.  Even though the Company was insolvent at the material time, I cannot say that measures taken to reach a compromise with the creditors, although ultimately unsuccessful, were clearly of no benefit to the unsecured creditors.  Presumably if the repayment scheme put forward was successfully implemented, the creditors should have a better return compared to what they would receive in a liquidation.  Otherwise, there would have been no point for the directors to engage the Solicitors and certified public accountants to prepare the scheme.  I do not think there is sufficient evidence to infer that the directors in taking such measures were not acting bona fide or that it must have been clear to them that there was no chance of successfully reaching a compromise with the creditors.

18.  I am not persuaded in this instance there are compelling reasons to justify departure from what was described as the usual practice in Parnip, namely that the court should sanction payment where it was made honestly, in the ordinary course of business, and for the benefit of creditors generally.

19.  For the above reasons, I make a validation order in the terms at sought in the amended summons of the Solicitors.  The liquidators’ summons is dismissed.

20.  I make no order as to the costs of these applications, save that the liquidators’ costs are to be paid out of the Company’s assets.  The liquidators had written to the Solicitors three times regarding the payments in question before the summons was issued.  There was no response from the Solicitors.  Even after the liquidators’ summons was issued, the first affirmation filed by the Solicitors failed to provide sufficient information and the first hearing was adjourned to give them an opportunity to file further evidence.  In the circumstances, I decide to make no order as to costs.