CENKY LTD v. ZEALOT & CO LTD AND ANOTHER

HCMP 1823/2006

IN THE HIGH COURT OF THE

HONG KONG SPECIAL ADMINISTRATIVE REGION

COURT OF FIRST INSTANCE

MISCELLANEOUS PROCEEDINGS NO. 1823 OF 2006

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D E C I S I O N

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1.  I have before me a summons issued by Cenky Limited (“Cenky”) to appoint interim receivers for Zealot & Company Limited (“the Company”) and a summons issued by the 2^nd respondent, Ma  Ching  Lai Gloria (“Gloria”) to strike out, alternatively to stay, the proceedings in the originating summons brought by Cenky.

2.  The background leading to these two summonses may be stated briefly as follows.

3.  On 11 September 2006, Cenky issued the originating summons under section 114B of the Companies Ordinance, Cap. 32, seeking an order to convene an extraordinary general meeting for the Company, for the purpose of considering and voting on a resolution to appoint Cenky as a director and that certain articles in the articles of association be amended. 

4.  Cenky is the registered shareholder of 999 of the 1,000 issued shares of the Company.  It is owned by three of the step-siblings of Gloria – Ma Ching Yim Banton, Ma Ching Yu Cecilia and Ma Ching Che Christina.  Another sister Ma Ching Miu Priscilla is a director.  I shall refer to them collectively as “the siblings”.

5.  The remaining share in the Company was registered in the name of the late Madam Lo Chiu Bun (“Madam Lo”), the mother of Gloria and the siblings.  Madam Lo died intestate on 5 June 2006.  At the time of her death, Madam Lo and Gloria were the only directors of the Company.

6.  The Company has never carried on business or owned any property in Hong Kong.  All its business dealings were carried on in the United States.  Madam Lo had emigrated there and Gloria and Banton are citizens of the United States.

7.  There is a dispute of the ownership of the shares in the Company held by Cenky.  This is to be resolved in a writ action brought by Cenky against the Company and Gloria in High Court Action No. 2269 of 2006 (“the writ action”).  The parties have served pleadings in the writ action.

8.  The 999 shares were originally owned by Gloria.  Gloria transferred all her shares to Madam Lo’s brother Law Biu Biu (“Law”) by an instrument of transfer and bought and sold notes dated 27  November  1992.  It is not in dispute that Law took the transfer as the nominee of Madam Lo.  He executed a declaration of trust dated 27  November 1992 declaring that he held the shares on trust for Madam  Lo.

9.  Law later executed an instrument of transfer and bought and sold notes dated 27 September 1999 and transferred all the shares he held to Cenky.  Madam Lo and Law signed minutes of a board meeting of the Company of the same date to approve the transfer of shares to Cenky.

10.  Gloria has alleged that the transfer by her of her shares in 1992 was by way of security for the loans made by Madam Lo to the Company.  The security was held on these terms : that Madam Lo would not dispose of the shares during subsistence of the security; she would hold the shares as security until a property owned by the Company in San Diego, California, known as the Bay Ho Property, is sold or until her loans are repaid in full, in which event the shares would be transferred back to Gloria; Gloria would remain as the owner of the shares and retain all her rights except the right to sell or further encumber the shares; and if the Company should default in repayment, Madam Lo would enforce the security by foreclosing the shares.  As the Company had not been in default of repayment, Madam Lo never had the right to foreclose the shares and the documents executed by her and Law in September 1999 were under a total mistake as to their nature and contents.  The purported transfer of shares to Cenky in 1999 was invalid and Gloria is at liberty to redeem the security as the legal and beneficial owner of the shares.

11.  Cenky claims it is the legal and beneficial owner of the shares it held in the Company.  It denies that the transfer of the shares to Law in 1992 was by way of security and contends that it was an absolute and unconditional transfer of the legal and beneficial interest in the shares to Law, as Madam Lo’s nominee.  The reason why Gloria agreed to transfer her shares to give Madam Lo total ownership of the Company was because Madam Lo had been financing Gloria and the Company for some time and by 1992, the Company’s net assets were worth no more than the amount owed to Madam Lo and probably less.  In 1995, Madam Lo and Gloria reached a settlement in which Gloria assigned to Madam Lo all her remaining interest in the Company, being Gloria’s loans to the Company and interest thereon, and in return all the outstanding loans made by the family to Gloria would be cancelled.  However, the family loans made to the Company would not be cancelled because the Company was already owned by Madam Lo since 1992.

12.  At the first hearing of the originating summons on 11  October  2006, in view of the dispute of the ownership of the Company, I directed the originating summons to be adjourned sine die pending determination of the beneficial ownership of the shares held by Cenky in the Company in a separate writ action.  The writ in the writ action was issued on 11 October 2006.

13.  The siblings had proposed on 29 September 2006 that instead of appointing Cenky as director, as sought in the originating summons, all four of them with Gloria should be appointed directors, pending resolution of the ownership dispute.  As the proposal was not accepted by Gloria, Cenky issued a summons for the appointment of interim receivers on 10  October  2006.  This was adjourned for argument to today.

14.  On 17 January 2007, Gloria issued a summons to strike out the originating summons on the grounds that :

(1)     Cenky has no authority to pursue any of its claims against the Company or Gloria; and/or

(2)     Cenky, not being a member of the Company, has no locus standi to commence or pursue these proceedings.

Alternatively, she seeks an order that all further proceedings commenced by Cenky including the summons to appoint interim receivers be stayed until after the determination of legal and beneficial ownership of the shares in the writ action or further order on the grounds that :

(1)     the purported transfer of the 999 shares from Law to Cenky on 27 September 1999 was unlawful, void and of no legal effect; and/or

(2)     Cenky, not being a member of the Company, has no locus standi to commence or pursue these proceedings.

15.  It would be convenient to deal with the summons of Gloria first.

16.  Voluminous evidence has been filed on both sides.  I have very full submissions from Miss Linda Chan for Gloria and Mr  Jonathan  Harris, SC for Cenky.

17.  Despite all that was said by Miss Chan, I am firmly of the view that the strike out application does not stand a chance.  Mr Harris submitted that Gloria’s summons for striking out or stay of all proceedings including the application to appoint receivers was merely an attempt to prevent Cenky from applying for receivers.  Miss Chan would seem to have accepted this.

18.  The principles for striking out are not in dispute.  It is not a plain and obvious case that the court can hold, on the basis of the evidence filed, and assuming that the disputed facts are taken in favour of Cenky, that Cenky’s claim to legal and beneficial ownership of the shares is unarguably bad and obviously unsustainable.  As mentioned earlier, the dispute as to share ownership is to be decided in the writ action, in which extensive pleadings have been served.  Once that issue has been determined in the writ action, the objection raised as to the authority and locus of Cenky to pursue the originating summons would also be resolved, and that was one of the reasons why the originating summons was adjourned sine die pending the determination of the writ action.

19.  I will endeavour to state my reasons succinctly why the arguments for striking out cannot get off ground.  I do not propose to rehearse the evidence or going into minute details, save to say that I have of course considered the evidence filed.

20.  Factual disputes are raised in the evidence filed on both sides.  Disputes of this nature are too many to mention, some involving serious allegations of dishonesty, forgery and manipulation of financial records.  It is plainly not possible to resolve these disputes without proper discovery and the assessment of oral evidence given at a trial.

21.  Despite the considerable documents exhibited on both sides, oral evidence would play a very material part in resolving the factual disputes.  The allegation of Gloria that the transfer of her shares in 1992 was by way of security was based on an oral agreement made between her and Madam Lo.  Gloria’s first claim of beneficial ownership of the shares was made in a letter of her solicitors dated 24 August 2006, two months after Madam Lo had passed away.

22.  Likewise, although Cenky claims there is a comprehensive paper trail evidencing the intentional transfer of Gloria’s interest in the shares, initially to Law as nominee of Madam Lo, and later to Cenky, its allegation that there was a settlement between Madam Lo and Gloria in 1995 for the release of loans is based to a large extent on the oral assertion of the siblings.

23.  Cenky has pointed to a number of matters to show that taken together, they would demonstrate that Madam Lo intended to acquire the beneficial interest in the shares with Gloria’s agreement and in turn intended to transfer the legal and beneficial interest to Cenky.  I do not propose to set them out, they are particularised in paragraph 3 of the Reply  and Defence to Counterclaim in the writ action and further developed in paragraph 16 of Mr Harris’s submission.  I am unable to say at this stage that Cenky’s contentions are plainly untenable.  As mentioned above, Gloria’s case that the shares were transferred by way of security rests entirely on an oral agreement between her and Madam Lo.  Cogent explanation is required from her of various documents and transactions which would appear to be inconsistent with her case.

24.  The analysis of the financial position of the Company as at 1992 and 1995 is another crucial matter in resolving the factual dispute as to why the transfer of shares was made in 1992.  The competing analyses put forward on both sides would need to be tested in cross-examination.  Whether consideration was indeed received by Gloria for the transfer in 1992, as contended by the siblings, is something that would need to be looked into closely at the trial in the writ action.

25.  Miss Chan contended that Cenky is not a member of the Company by virtue of section 28 of Cap 32, as its name was not entered in the register of members, so it has no locus to apply for an order under section 114B in the originating summons.  It is not in dispute that the old register of members had been lost, and the register in which Cenky was entered as a member is a re-constituted register.  Gloria claims that the new register was a bogus document and recently fabricated.  There is contrary evidence from one of the siblings, Christina, that the new register of members was prepared in March 2006 with the full approval of Madam Lo, after seeking advice from a registered company secretary what should be done to remedy the loss of the company kit of the Company.  In view of this conflict in evidence, it cannot be said at this stage that Cenky is plainly not a member of the Company.

26.  As for the contention that the transfer in 1999 was unlawful as this was in breach of article 3(a) of the articles of association in that the transfer was not effected with the previous written consent of the directors at the time, being Law, Madam Lo and Gloria, again this is not as straightforward as Miss Chan has put it.  It is not entirely clear on the available evidence if the transfer in 1992 to Law had been registered in the share register of the Company.  If the transfer had been registered, by virtue of article 9(d) of the articles of association, Gloria would need to vacate office as a director as she had ceased to hold a qualification share.  If Gloria should not be regarded as a director and only Law and Madam Lo were directors at the time, it is arguable that there was no breach of article  3(a) as both had signed minutes of the board meeting approving the transfer.

27.  Mr Harris has drawn my attention to the decision of Barma J in Re Mak Shing Yue Tong Commemorative Association Ltd [2005] 4 HKLRD 328 at 348C to 349G, paragraphs 53 to 56, in which the judge dealt with submissions similar to those made by Miss Chan above.  Mr  Harris submitted that by signing the minutes of the board meeting, the directors had approved the transfer of shares to Cenky, and all that was required to perfect the membership was to enter Cenky’s name on the share register.  Assuming that was not done, the Company would be estopped from denying Cenky’s status as a member, as it would be unjust to refuse recognition of Cenky, where the failure to register was due to wrongful act or default of the Company or its officers.  This is clearly arguable.

28.  For all the above reasons, I dismiss Gloria’s summons.

29.  I turn to consider Cenky’s application to appoint interim receivers for the Company.

30.  The principles for the appointment of interim receivers are well established.  I apply by analogy the principles for granting interlocutory injunctions in American Cyanamid v Ethicon Ltd [1975] AC  396.  I need to consider if there is a serious case to be tried, if there is proper basis for appointing receivers such as a jeopardy to assets, and where does the balance of convenience lie.

31.  For the reasons given earlier in dismissing Gloria’s strike out application, I am satisfied there is a serious question to be tried if Cenky has legal and beneficial interest in the shares of the Company.  The evidence is not all one-way as submitted by Miss Chan.

32.  Cenky’s case for the appointment of receivers, presented by Mr Harris in a chronological manner, may be set out as follows :

(1)     Bay Ho Property is a substantial asset of the Company.  Soon after Madam Lo’s death on 5 June 2006, Gloria entered into a sale and purchase agreement dated 22 June 2006 to sell this property to Greymar Associates Limited (“Greymar”) for US$6  million.  The agreement was entered into without prior consultation with the siblings.  The agreement would appear to have been back-dated to 22 June 2006, as it would appear from the e-mails that the agreement was not signed by 28  June 2006 or even 26 July 2006.  The apparent reason for back-dating the agreement was because Gloria was told by the siblings shortly after 22 June 2006 they would not recognise her as a director of the Company.

(2)     The siblings find the terms of the sale and purchase agreement disturbing.  They are concerned that the sale was agreed on terms very favourable to Greymar at the expense of the Company.  The completion date was on or after 15  July  2008.  The total deposit required to be paid by Greymar is less than 4% of the purchase price.  In the event of default by Greymar, the Company could only forfeit the deposit as full, liquidated and agreed damages.  Greymar would appear to be owned by a former executive director of XXsys Inc, which was a company founded by Gloria.  Although the escrow arrangement for the sale of the property had been cancelled by Banton as Greymar did not pay the deposit in accordance with the agreement, Gloria maintains there continues to exist an enforceable agreement between the Company and Greymar and she has continued to liaise with Greymar to keep the sale alive for the Company.

(3)     Bay Ho Property has been kept in a poor state of repair due to the neglect of Gloria.  The siblings have obtained a report in November 2006 on the condition of this property and some of the deficiencies would require immediate repair.

(4)     On 24 August 2006, Gloria through her solicitors made a claim for the first time that the Company is owned by her.  This came as a complete surprise to the siblings, as they had e-mail exchanges with Gloria in January 2006 and on 4  June  2006 in which Gloria would appear to have acknowledged that Cenky held all but one share in the Company.

(5)     Gloria is currently in control of the Company.  She has sole signing rights over the bank accounts of the Company with unlimited authority.  The siblings have become very concerned about Gloria’s conduct and the risk to the assets of the Company if she should continue to have control.  They have pointed to discrepancies and anomalies in the financial information and tax returns produced by Gloria.  They are of the view that Gloria has been untrustworthy in dealing with financial matters and records.  She has received over US$1.1  million from the Company from 2001 to 2005.  She claims that the payments were interest on her loans, whereas the siblings say they were further loans to her by Madam Lo.

(6)     After Madam Lo’s death, Gloria continued to cause the Company to make payments to herself.  In June and July 2006, Mercury Plaza LLC (“MPLLC”, a wholly owned subsidiary of the Company) transferred US$800,000.00 to the Company.  According to the bank statements of the Company provided by Gloria’s solicitors in April 2007, the bank balance for February 2007 was only US$9,000.00 odd.  It would appear Gloria had paid herself a large part of the US$800,000.00, so much so she had to ask Banton on 14 April 2007 to transfer a further sum of US$320,076.00 from MPLLC to the Company so that the Company could pay the capital gains tax payable by the Company arising out of the sale of Mercury Plaza in 2005.  Banton replied on 15 April 2007 declining to release further funds unless Gloria has released to him the 2005 tax return and detailed calculation of the tax so he can verify if the tax amount is correct.

(7)     On 11 October 2006, Gloria brought proceedings in the United  States against the Company for US$2 million odd, claiming repayment of the loans allegedly made by her.  She relied on the promissory note signed by her on the Company’s behalf dated 30 December 2005.  The claim also referred to a demand for repayment sent by Gloria to herself dated 29  September 2006.  The Company has no directors capable of properly managing its affairs.  The siblings are concerned that Gloria might obtain judgment in default against the Company in the United States, and that she would be able to enforce judgment against its assets there and leave the Company virtually a shell.

(8)     The siblings claim Gloria has falsified interest repayments by the Company to reduce the Company’s taxable income.  This would have severe consequence with the tax authorities in the United States and significant penalties may be imposed.  This is also one of the main reasons why the siblings seek to appoint receivers to take control of the Company and ascertain its true financial position.

33.  Mr Harris submitted Gloria has used her control over the Company to pay herself a substantial part of the US$800,000.00 and to attempt to sell Bay Ho Property immediately after Madam Lo’s death, so that she could pay herself as soon as possible or to prevent the siblings from dealing with that property.  If that should happen, Cenky would have to litigate in the United States to recover the wrongful payments from Gloria, the prospect of actual recovery may be uncertain, and that is not a situation in which Cenky can be adequately compensated in damages.  Receivers should be appointed to preserve the status quo pending the determination in the writ action.

34.  Miss Chan submitted that the court should be slower to appoint interim receivers than to grant an interlocutory injunction, as this form of relief is more intrusive, more expensive and less reversible than the granting of an injunction.  Hence, the applicant must show that the appointment of receivers is appropriate because other less invasive remedies would be inadequate (Commercial Injunctions by Steven Gee, 5^th  ed, para 16.008; Goldlion Properties Ltd & Ors v Regent National Enterprises Ltd, HCMP No. 5273 of 2003, 21 September 2006, paragraph  38).  I was also reminded that the courts have always recognised the need for great circumspection in granting such relief, as the appointment of interim receivers is an extremely serious matter for a company (Bond  Brewing  Holdings Ltd & Ors v National Australia Bank Ltd & Ors (1990) 1 ASCR 445 at 456-7, 471; Re Chime Corporation Ltd, HCMP  No.  4146 of 2001, 25 June 2003, paragraph 41).

35.  I bear these principles in mind.  There are four questions I need to consider :

(1)     if there is a risk of dissipation of assets;

(2)     if some form of interim protection should be given to preserve the status quo;

(3)     if it is necessary to appoint receivers or whether some other less invasive form of protection would suffice; and

(4)     if Cenky is able to provide an undertaking as to damages suitably fortified.

36.  Miss Chan pointed out that the bulk of cash belonging to the Company has been kept at bank accounts opened in the name of its subsidiary, MPLLC, which was and is managed by Banton.  As at 30  March 2007, the bank balance in the Company’s accounts only amounted to US$5,800.00 odd, whereas the total balance in the accounts of MPLLC amounted to US$2.57 million.  Since the death of Madam Lo, the accounts of MPLLC have been under the sole control of Banton.  The US$800,000.00 transferred to the Company from MPLLC in June and July 2006 was made by Banton.  Miss Chan submitted that insofar as the bank balances of the Company are concerned, it could not be said that the assets are in jeopardy.

37.  As for the Bay Ho Property, Miss Chan submitted that no agreement for sale and purchase can be made by Gloria for the purpose of selling this property without the consent of the siblings, as the latter have filed notice in the Companies Registry alleging that Gloria had resigned as a director, the validity of which is disputed by Gloria.  This may or may not be right, but a sale and purchase agreement had already been signed with Greymar, and it would appear from Gloria’s affirmation she regards the agreement as enforceable and is doing what she can to keep the sale alive.  There is nothing to prevent Gloria from proceeding with the sale and purchase to Greymar, assuming that Greymar is still willing to purchase.

38.  Once this substantial asset of the Company is sold and the assets are disposed of by Gloria, damages may not be an adequate remedy to the siblings for the loss they have sustained if they should succeed in establishing that the Company is owned by Cenky.

39.  I have considered the discrepancies and anomalies in the financial information and tax returns produced by Gloria.  I do not think they have been adequately explained, notwithstanding the considerable evidence filed by her.  I do not go so far as to say that Gloria is untrustworthy with financial matters, but it cannot be said that the concerns of the siblings as to whether the financial records were properly kept or whether the financial position had been properly reported to the tax authorities are unjustified.

40.  I find that a case is made out that there may be a risk of dissipation of assets.  I am persuaded there is a need to preserve and protect the assets of the Company pending the resolution of the ownership dispute.

41.  Between 20 April 2007 and 4 May 2007, Gloria, the siblings, Cenky and MPLLC entered into an agreement by which the 2 camps gave mutual undertakings not to dispose of the assets of the Company, including the Bay Ho Property and the cash in the bank accounts of MPLLC, until the determination of the applications today, other than to pay recurring expenses of the Company, but not the loans and loan interests payable to Gloria, any of the siblings, or Madam Lo.

42.  Undertakings were given to the court on the same terms, they are to last only until the determination of the present applications.

43.  The process for the proceedings in the United States has not yet been served on the Company.  Gloria claims this is just a protective action to safeguard her interest in view of Cenky’s attempt to impugn the loans she had made to the Company.  She offered an undertaking she will not take steps in those proceedings until after the determination of the present summons.

44.  At the hearing yesterday, Miss Chan made a belated offer on Gloria’s behalf to extend the existing undertakings not to dispose of the assets of the Company and not to take further steps in the action in the United States until after the determination of the writ action.

45.  The question is whether these undertakings would give sufficient protection or whether receivers should be appointed.

46.  I have considered the costs and expenses likely to be incurred if an appointment is made.  It would be costly for receivers to take control of the Company but the expenses would be nowhere near the estimated expenses given by Gloria which are grossly exaggerated.  Nor do I think it likely that an appointment would cause the bank under a trust deed to demand immediate repayment of a 10-year term loan of US$1.05 million from the Company and Gloria as guarantor.  A demand for immediate repayment is likely only if the receivers should default in paying principal or interest when due to the bank.  I understand from Mr Harris that Cenky would have no objection that the loan should continue to be repaid out of the Company’s assets.

47.  On balance, I am persuaded that independent professionals should be appointed to manage the affairs of the Company.  Its financial and tax affairs would need the input of independent professionals to be put in some order.  The receivers are to manage the Bay Ho Property for the Company, and to attend to ongoing administrative tasks such as preparing accounts and reporting to the tax authorities.  They are not required to investigate the financial position of the Company at the time the disputed transfers of the shares took place in the 1990s.

48.  Counsel for Cenky should provide a draft order for the approval of the court setting out such specific and incidental powers and duties that the interim receivers should have.

49.  Cenky has offered an undertaking as to damages that should be given by Cenky for the loss that the Company might have sustained, if Gloria should establish that the Company is owned by her and she is prevented from dealing with its assets.  The undertaking as to damages is fortified by an undertaking of Cenky not to dispose of its two unencumbered residential properties in Cheung Hong Street and King’s  Road, North Point, Hong Kong, valued at a total sum of HK$5  million.  I order Cenky to file an affirmation confirming its ownership of these properties within three days hereof.

50.  I will accept the undertaking as to damages and appoint interim receivers on the above basis.

51.  For the costs of Gloria’s summons, this is a discreet application and it is entirely without merit.  I order the costs of Cenky be paid by Gloria forthwith. 

52.  For the costs of the application for interim receivers, I will adopt a similar approach to the usual order for costs of interlocutory injunctions.  I order Cenky’s costs of this application to be Cenky’s costs in the cause of the originating summons. 

53.  I would apportion half of the hearing time for this application to Gloria’s summons.