OUTBLAZE LTD v. TELECOMMUNICATIONS & TECHNOLOGY ASIA LTD

CACV 17/2010

IN THE HIGH COURT OF THE

HONG KONG SPECIAL ADMINISTRATIVE REGION

COURT OF APPEAL

CIVIL APPEAL NO. 17 OF 2010

(ON APPEAL FROM HCMP NO. 1608 OF 2009)

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REASONS FOR JUDGMENT

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Hon Rogers VP:

1.  I agree with the reasons for judgment of Le Pichon JA.

Hon Le Pichon JA:

2.  This was an appeal from an order dated 22 December 2009 of Poon J dismissing the plaintiff’s application for an injunction restraining Telecommunications & Technology Asia Ltd (“ the company”) from prosecuting proceedings in breach of a shareholders’ agreement dated 1 June 2007.  At the conclusion of the hearing the appeal was dismissed with reasons to be handed down.

Background

3.  The short point of construction that arises on this appeal concerns clause 3A.1.12 of the shareholders’ agreement which came into being in the following circumstances.

4.  The plaintiff was engaged in the business of developing software for internet mail systems with anti-spam and anti-virus functions.  On or about 1 June 2007, the plaintiff reached an agreement with TTBVI and Shun Hing for the sale of the plaintiff’s business to the company in return for 80 new shares to be issued by the company. That transaction would result in a new shareholding structure for the company, with the plaintiff, TTBVI and Shun Hing holding 28%, 29% and 43% respectively of its issued shares.

5.  The shareholders’ agreement dated 1 June 2007 set out the parties’ agreement as to how the company (with the new shareholding structure) was to be managed and operated and, as one would expect, it contained detailed provisions regarding directors and their proceedings, actions requiring the approval of majority shareholders, pre-emption rights etc.

6.  On the same day, the plaintiff and the company entered into a number of other agreements:

(1)   a sale and purchase agreement under which the plaintiff agreed to sell and the company to buy “the business” in return for the allotment of the 80 new shares in the company;

(2)   a distributorship agreement under which the company granted the plaintiff non-exclusive distribution rights to the software services for an initial term of 10 years and, in return, undertook various fiduciary obligations and the obligation to pay royalties;

(3)   a data licence agreement under which the company granted the plaintiff an exclusive licence to use data for an initial term of 10 years in return for fees; and

(4)   a side letter under which the plaintiff agreed to provide additional services to the company to support the business sold to the company in return for additional payments.

It is common ground that those agreements were inextricably linked to the shareholders’ agreement and, together, constitute the relevant factual matrix.

7.  The plaintiff commenced proceedings (HCA 1236/2009) against the company on 20 May 2009, claiming damages for breach of contract.  The company filed a defence as well as a counterclaim on 10 July 2009.  Shortly thereafter, the plaintiff took out the originating summons seeking injunctive relief on the footing that the making of the counterclaim by the company was in breach of clause 3A.1.12 of the shareholders’ agreement.  The plaintiff’s stance is the clause gave it an unqualified right to veto proceedings brought by the company.

8.  The judge rejected the plaintiff’s interpretation of clause 3A.1.12, holding that the clause only applies to third party claims and dismissed the plaintiff’s originating summons.

This appeal

9.  Clause 3A.1.12 reads:

“ 3A.1.    The shareholders agree and shall procure that the Company shall not without the prior written approval of 75% of the shareholders (expressed as percentage of shareholding and not persons):

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  3A.1.12    institute, withdraw or settle any legal action or proceedings …”

10.  Mr Man (who appeared for the plaintiff) submitted that the wording of the provision is clear and should be given effect.  He accepted that, on his construction of the clause, his client, while a minority shareholder, would have a right of veto on the question whether the company should “institute, withdraw or settle any legal action or proceeding”, be it against a third party or the plaintiff.  It was said that there was nothing wrong with conferring this right (which in essence is a right to veto how the company’s money ought to be spent in litigation) on a minority shareholder since remedies are available under company law for any abuse of that power.  The company law remedies Mr Man had in mind were section 168A proceedings and derivative actions.

11.  Mr Lee’s primary submission (on behalf of the company) is that the plaintiff’s interpretation would produce an unreasonable outcome such that the parties could not have intended it.  Further, section 168A proceedings and/or a derivative action may not be available for each and every ‘wrong’ done to the company by the plaintiff.

12.  As already noted, in addition to the shareholders’ agreement, the parties also executed the four agreements mentioned in § 6 above.  The provisions of those agreements are equally relevant when the parties’ intention has to be ascertained.

13.  The first matter to note is that on the plaintiff’s construction, although the contracting parties to each of those agreements are the plaintiff and the company, only the plaintiff may bring proceedings for a breach of any of those agreements and not the company, in the sense that it is subject to the plaintiff’s power of veto.  That, of itself, is highly unusual.

14.  Next, a perusal of the sale and purchase agreement shows that the parties envisaged that claims may be brought by the company against the plaintiff: there are detailed provisions for the giving of notice, imposing time limits on the company for bringing claims, capping the plaintiff’s liability and setting a threshold for claims.  On the plaintiff’s interpretation, none of those provisions can take effect.

15.  The same situation arises under the distributorship agreement.  Clause 24 expressly provides for disputes arising under that agreement that cannot be resolved by negotiation to go to arbitration.  Clause 24.3 which contemplates a party “seeking urgent equitable relief before an appropriate court”, expressly preserves the parties’ right to do so.  Again, none of those provisions can take effect on the plaintiff’s interpretation of the clause.  In my view, an interpretation resulting in a number of express contractual provisions having no effect is unlikely to reflect what the parties had intended.

16.  Turning to remedies available under company law, section 168A proceedings and/or derivative actions are remedies fashioned for disputes between shareholders in the company and are not appropriate to address claims by a company that are nothing more than breaches of contract or wrongs committed by the other contracting party.  Generally speaking, complaints of unfairly prejudicial conduct are about a course of conduct over a period of time on the part of the alleged wrongdoer.  In my view, company law remedies are no substitute, much less an adequate substitute, for the specific remedies the parties agreed to in the sale and purchase agreement and the distributorship agreement.

17.  I would add that in so far as it was suggested that the nature of the right to veto litigation remains the same whether or not it is limited to third parties, it has to be borne in mind that the issue is not about the nature of the right.  Rather, the issue is how the provision is to be read: on the plaintiff's reading, various provisions in the agreements cannot be given the effect; on the company’s reading, all the provisions in the agreements can be given effect.

18.  In my view, there are compelling reasons why the company’s interpretation is the correct interpretation of clause 3A.1.12.  The plaintiff’s seemingly untrammelled right to veto legal proceedings which the company wishes to bring is in fact qualified and limited to third parties.

Hon Lunn J:

19.  I agree with the judgment of Le Pichon JA.