RE TERAL (HK) LTD.

HCMP 5021/2002

IN THE HIGH COURT OF THE

HONG KONG SPECIAL ADMINISTRATIVE REGION

COURT OF FIRST INSTANCE

MISCELLANEOUS PROCEEDINGS NO. 5021 OF 2002

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REASONS FOR JUDGMENT

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1. This is a petition seeking confirming of a reduction of capital under section 59(1) of the Companies Ordinance, Cap. 32. I have made an order as sought and these are the reasons for my judgment.

The Company

2. Teral (HK) Limited ("the Company") was incorporated as a private company in Hong Kong on 2 May 1995 and its name was changed to its present name on 20 June 1995. The holding company of the Company is Teral Kyokuto Inc. ("Teral Kyokuto"), a company incorporated in Japan. The principal activities of the Company are trading of pumps and fans and provision of maintenance services for such goods.

3. The original share capital of the Company was HK$10,000.00, divided into 10,000 shares of HK$1.00 each. The share capital has been increased three times. As at the presentation of the petition, being 2 December 2002, the authorised share capital is HK$7 million divided into 140 shares of HK$50,000.00 each, all of which have been issued and are fully paid up. 134 of the shares are held by Teral Kyokuto and the remaining six shares are held by Teral S E Inc., also a company incorporated in Japan.

The special resolution

4. Article 52 of the Company's Articles of Association provides that the Company may by special resolution reduce its share capital.

5. An extraordinary general meeting of the Company was convened on 8 November 2002 by a notice dated 1 November 2002 for the purpose of considering, and if thought fit, passing a special resolution for the reduction of capital. The two shareholders consented to short notice being given. It was unanimously resolved that the capital is to be reduced from HK$7 million divided into 140 ordinary shares of HK$50,000.00 each to HK$2.8 million divided into 140 ordinary shares of HK$20,000.00 each, such reduction is to be effected by reducing the par value of the ordinary shares of the Company from HK$50,000.00 to HK$20,000.00 each and cancelling HK$4.2 million of paid up capital of the Company which has been lost, or which is no longer represented by available assets.

6. The proposed reduction does not involve either the diminution of any liability in respect of unpaid capital or the payment to any shareholder of any paid up capital or of any amount standing to the credit of any share premium account.

7. At the hearing of the summons for directions on 7 January 2003, I made an order dispensing with the settling of a list of creditors and gave directions for advertisement of a notice of the petition. The directions have been complied with. No objection to the proposed reduction of capital has been received by the Company and no one has appeared at the hearing to oppose the petition.

The purpose of reduction of capital

8. As stated in the special resolution, the reason for reduction of capital is to reduce part of the paid up capital which is not represented by assets because of losses suffered by the Company.

9. Based on the audited financial statements of the Company from the year ended 31 March 1996 to the year ended 31 March 2002, the accumulated losses on the profit and loss account amounted to HK$7,021,666.00. In the management accounts of the Company for the month ended 31 October 2002, the accumulated losses on the profit and loss account stood at HK$7,017,598.00.

10. The accumulated losses consist of two categories, the trading losses which cannot be recovered and a special provision for a sum of HK$2,704,499.00 for diminution in value of the Company's investment in an associated company, Teral Foundry (Thailand) Company Limited. Hence, out of the accumulated losses of HK$7,017,598.00 according to the latest available figures, HK$2,704,499.00 is unrealised loss and HK$4,313,099.00 is realised and permanent loss.

11. Teral Kyokuto has been supporting the Company in dealing with accumulated losses by injecting capital into the Company and that was why capital was increased on three occasions. Teral Kyokuto has required the Company to apply to court to reduce its capital which is not represented by its assets due to the accumulated losses so that the Company will be in a position to pay dividends if and when its financial position should improve. Further, the Company's main banker, the Chugoku Bank Limited, Hong Kong branch, has suggested to the Company, as a condition for the maintenance of the existing loan portfolio and probable future advance, to improve the Company's balance sheet position by effecting a capital reduction. For these reasons, the directors are satisfied that it is for the benefit of the Company to effect a reduction of capital.

The legal requirements

12. I turn to consider the four requirements that must be satisfied for the court to confirm a reduction of capital (Re Cheuk Nang Technologies (Holdings) Ltd [2001] 4 HKC 571 at 573A to H).

13. The first requirement is that the shareholders should be equitably treated in the proposed reduction. Here, there is only one class of shareholders and all are affected in the same way by the proposed reduction.

14. The next requirement is that the shareholders should have the proposed reduction properly explained to them so that they could exercise an informed judgment when they considered the special resolution for reduction at the extraordinary general meeting. The proposal for reduction was initiated by Teral Kyokuto in this instance and in giving their written consent to short notice of the meeting, the two shareholders acknowledged that they had the benefit of reading and studying the latest audited and management accounts of the Company and are satisfied that as the capital has been permanently lost to the extent that the Company seeks a reduction, it is in the best interest of the Company to effect a reduction of capital.

15. I next consider if the proposed reduction is for a discernible purpose. I am satisfied that the purposes for reduction, as mentioned above, would meet this requirement.

16. Lastly, I would need to be satisfied there is adequate protection for the existing creditors, in view of the fact that part of the accumulated losses of the Company is unrealised loss. Safeguard for the creditors is provided in two respects.

17. According to the management accounts as at 31 October 2002, the Company has total liabilities of HK$7,017,598.00 and the current liabilities are in the sum of HK$4,612,552.86. Letters of consent to the proposed reduction were obtained from each of the creditors who are owed the current liabilities. So this is the first safeguard of the interests of creditors.

18. Secondly, the Company has provided an undertaking to the Court on the making of the order confirming the proposed reduction in these terms:

"The Company undertakes that out of the capital by which the Company now seeks to be reduced, a sum of HK$4,200,000.00 will be credited to a capital reduction reserve in the books of account of the Company which (a) will not be treated as realised profits and (b) shall be treated as an undistributable reserve of the Company which shall not be distributable until and unless the creditors of the Company as at the date of the sanction of the reduction of capital ("the creditors") are fully settled, provided for by the Company or the remaining creditors and each of them do consent by which time the said Capital Reduction Reserve Account will be cancelled and provided that prior to the cancellation of Capital Reduction Reserve Account the audited accounts of the Company will contain a note recording this Undertaking."

19. I am satisfied that the above undertaking to establish a capital reduction reserve account up to the amount of HK$4.2 million, being the full amount of the capital proposed to be reduced, will provide an adequate form of protection to the existing creditors.

Orders

20. For the above reasons, I have made an order in terms of the draft submitted to confirm the reduction of capital by the special resolution, upon the undertaking as recorded above. I have also approved the minute to be registered by the Registrar of Companies with the order and ordered that a notice of the registration is to be published in two newspapers within 21 days after registration.