RE LAU YU also known as JAFFE LAU

HCB 104/2017

IN THE HIGH COURT OF THE

HONG KONG SPECIAL ADMINISTRATIVE REGION

COURT OF FIRST INSTANCE

BANKRUPTCY PROCEEDINGS NO 104 OF 2017

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JUDGMENT

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1.  This is a bankruptcy petition dated 6 January 2017 presented by the petitioner (“the Bank”) for a bankruptcy order based on an unpaid statutory demand dated 21 November 2016 served on Lau Yu, also known as Jaffe Lau (“the debtor”). At the conclusion of the hearing, judgment was reserved which I now give.

Background facts

2.  As at 8 August 2017, the date of the Bank’s 2^nd summons to amend the petition, the amount (including accrued interest) due to the Bank stood at US$44,926,784.10 (“the debt”).  After taking into account the debtor’s securities, the unsatisfied part of the debt was of the order of US$35.96 million.

3.  The debtor was one of the guarantors in respect of banking facilities provided by the Bank to General Nice Resources (Hong Kong) Limited (“GNR”).  Disputes arose when the Bank made demands against the borrowers, the related mortgagors and guarantors (collectively “the GN Parties”).  The Bank and the GN Parties settled those disputes by entering into a Settlement Agreement on 31 March 2016.  The term “GN Parties” as defined in the Settlement Agreement includes the debtor.

4.  Prior to the Settlement Agreement, on 13 June 2011, the debtor with others had provided an unlimited joint and several guarantee in favour of the Bank with respect to all monies that may be owing by GNR to the Bank (“the guarantee”).  It is common ground that the guarantee extends to and includes the amounts due and arising under the Settlement Agreement. 

5.  By clause 7.9 of the Settlement Agreement, each of the GN Parties undertook to ensure that a settlement security (“the Settlement Security”) over an Australian property (“the Australian property”) would be entered into and registered within 30 days of the date of the Settlement Agreement.  The Settlement Security was defined as “a second lien mortgage over [the Australian property] as security for the obligations of the GN Parties under the Settlement Agreement in form and substance satisfactory to the Bank”.

6.  No Settlement Security was executed or registered within the 30 days stipulated or at all.

7.  After the petition was presented, the debtor discovered through the lands registration records that the Australian property had been sold to a third party for AUD 78 million in April 2017.  The outstanding indebtedness to the first mortgagee of the Australian property (the National Australian Bank (“NAB”)) was AUD 26 million. The balance of the net proceeds was approximately AUD 52 million, equivalent to a little over US$41 million.

The defence

8.  Ms Eu SC, who appeared for the debtor, submitted that there is a bona fide defence to the petition based on the Bank’s alleged breach of the Settlement Agreement in failing to execute the second lien mortgage, causing prejudice to the debtor.   

9.  The relevant provisions of the Settlement Agreement relating to “Settlement Security” are those set out in §5 above.  The term “Security” was defined as meaning, inter alia, the guarantee and the Settlement Security.

10.  The obligations of the GN Parties included the “perfection of the Settlement Agreement” which arises under the terms of clause 7.9 and clause 2.3 provided for the Bank to recover, inter alia, those costs on an indemnity basis.

11.  It is common ground that as a matter of Australian law, the registration of a second lien mortgage requires the written consent of the first mortgagee.  Thus, the consent of the first mortgagee was a pre-requisite for registration and, without registration, the second mortgagee would be at risk of losing priority to subsequent encumbrancers.

12.  The debtor’s argument was that on its proper construction, the Settlement Agreement required that the mortgage be “in form and substance satisfactory to the Bank”, then it has to be executed and after that, the GN Parties have to ensure due registration before the expiration of the 30-day period.  The Bank can only complain if there is no registration after all the prior steps had been performed.  It was emphasised that registration is something distinct and separate from the validity of the underlying instrument.

13.  The nub of the submission was that the phrase “in form and substance satisfactory to the Bank” did not confer on the Bank any right to require written consent being obtained from NAB before executing the mortgage as NAB’s consent was only relevant for the purposes of registration but had nothing to do with the validity of the mortgage instrument itself. 

14.  It was said that on the facts, it was the Bank that was in breach of its contractual obligations by its failure to execute the mortgage.  It was also the debtor’s case that the onus was on the Bank to prepare and execute the second mortgage and that it was in breach by failing to do so.  That submission was necessarily predicated on the mortgage terms having been agreed at the relevant time.

Applicable legal principles

15.  The principles are not controversial: the jurisdiction will only be exercised in very clear cases.  See Re Leung Cherng Jiunn [2016] 1 HKLRD 850 §§23 – 27.

Bona fide defence?

16.  As a preliminary matter, it should be mentioned that Ms Eu sought to distance the debtor from the other GN Parties and suggested that he was in a somewhat different position.  However, I do not consider there to be any valid reason for treating the debtor’s obligations differently from those of the other GN Parties.

17.  The debtor’s case (elaborated in his third affirmation) was that he had a good and long-standing business relationship with NAB and one of its senior officers and had the draft second mortgage been signed and executed, the debtor (acting through his NAB contact) would have been able to convince NAB to grant its consent for the registration of the second mortgage.

18.  The only contemporaneous evidence available is a chain of email correspondence passing between the parties and exhibited by the plaintiff showing the sequence of events.  The following summary is extracted from that correspondence:

(i) Between 16 March 2016 (2 weeks prior to the date of the Settlement Agreement) and 8 April 2016, the Bank and its solicitors (A&O) sent several reminders to the GN Parties concerning their obligation to enter into and register the Settlement Security[1].

(ii) On 18 April 2016, GNR instructed Corrs its Australian solicitors to prepare a draft for a second mortgage of the Australian property and, on 22 April 2016, such a draft was provided by the GN Parties’ HK solicitors to the Bank for comment, stating that they had been instructed by their clients to inform the Bank that the first mortgagee was NAB who “usually will not consent to 2^nd mortgage charges by other financial institutions”.

(iii) On 25 April 2016, the Bank expressed surprise at this statement and enquired of GN Parties’ Hong Kong solicitors as to the status of any contact between GNR and NAB.

(iv) 4 days before the deadline, on 26 April 2016, GNR advised the Bank to the effect that the second mortgage might require the consent of the first mortgagee “which may or may not be granted”.  It also disclosed that notwithstanding its best endeavours made since late March 2016, GNR had not been able to obtain NAB’s consent but GNR believed that the second mortgage “though not perfect with[out][2] the consent” could provide additional comfort.

(v) The Bank expressed surprise in its reply to GNR but agreed to instruct A&O to review the draft and to take such steps as were necessary to ‘perfect the security’.  

(vi) On 28 April, the marked-up draft was returned to Corrs, A&O referencing its understanding that the mortgagor was in continued discussion with NAB concerning the latter’s consent to the second mortgage and stating that “NAB will be required to produce the certificate of title with NSW LPI for the purposes of registration ….”

(vii) On 2 May 2016, not having received any response, A&O enquired of Corrs if the latter had further comments on A&O’s mark-up, whether its terms were agreed and whether NAB’s consent had been obtained.  No reply was received although by this time the 30-day deadline had expired.

(viii) On 11 May 2016, the Bank reminded GNR that clause 2.3 of the Settlement Agreement stipulated for “perfection of the Settlement Security” and stated that a no consent from NAB consent “is not considered perfection of Settlement Security, even if the 2^nd lien documentation is finalised and signed.”

(ix) Subsequently, on 20 May 2016, the Bank reached agreement with the debtor and GNR that (a) A&O be allowed to engage in discussions with NAB “in order to assist with perfecting the second lien in Australia”, and (b) GNR/the debtor to provide contact details of the relevant NAB contact to A&O and to notify NAB that A&O would be making contact by 23 May 2016.

(x) On 1 June 2016, the Bank recapped the then status which included GNR’s and the debtor’s agreement “to review all of the properties held by GNR and the debtor and provide details to the Bank by Fri 27 May 16 regarding details of valuation and any first lien and second lien details taken on each property by other parties”.  The Bank made it clear that it would require alternative security acceptable to the Bank as substitute if A&O proved unsuccessful in perfecting the secondlien on the Australian property. 

(xi) By 13 June 2016, NAB indicated that it might be prepared to consent but needed to consider the nature of the circumstances that gave rise to the second mortgage.  The Bank therefore sought GNR’s consent (because of confidentiality provisions) to disclose the terms of the Settlement Agreement which request was refused on 23 June 2016.

(xii) Instead, GNR suggested advising NAB verbally that the Bank was supporting GNR with a long-term loan that required a second mortgage as collateral/comfort and that, for its part, GNR would separately seek NAB’s endorsement.

(xiii) The Bank made several requests of the GN Parties for updates during the 3 subsequent weeks but no response was forthcoming. 

19.  The debtor did not seek to supplement the correspondence although that could easily have been done had material emails been omitted.  In any event, despite making a 3^rd affirmation, the debtor has not sought to exhibit any ‘missing’ documents in this regard.  To say now that the correspondence was ‘incomplete’ is somewhat disingenuous.

20.  Several matters emerge from the summary above that call for comment: 

(a) why was A&O’s mark-up to Corr’s draft provided on 28 April 2016 met with complete silence?  That appears inexplicable given the then impending deadline;

(b) it remains unclear (i) whether and, if so, what the terms of the second mortgage were that had been agreed: was it the original or the marked-up version?  and (ii) the date it is alleged the second mortgage should have been executed;

(c) the absence of any request made to the Bank by the debtor for execution of the second mortgage;

(d) the debtor’s allegation does not sit comfortably with the agreement of 20 May 2016 of the GN Parties (including that of the debtor’s) to accept A&O’s assistance to negotiate with NAB for consent; and

(e) the absence clear evidence of the Bank’s refusal to execute the second mortgage as such; insofar as reliance is placed on the 20 May email, it is to be noted that the subject matter being addressed was the GN Parties’ obligation to perfect the security.‌

21.  In view of the above, I do not consider there to be precise and clear evidence of the Bank’s refusal to found the debtor’s defence. However, for present purposes, I am prepared to give the debtor the benefit of the doubt and proceed on the basis that there is a factual dispute which can only be resolved at trial.   

22.  In essence, the debtor’s case is that (a) had the second mortgage been executed, the debtor would have obtained NAB’s consent and the Settlement Agreement would have been perfected; (b) as apractical matter, the Bank would not seek payment from the debtor if the Settlement Security had been perfected; (c) therefore, had the Bank not refused to execute the second mortgage, the debtor would have been entitled to exercise his right of subrogation; and (d) as a result of the Bank’s breach, the debtor has been prejudiced.

23.  On the figures available at the hearing, the balance of the proceeds of sale of the Australian property was AUD 52 million. That is equivalent to approximately US$38.2 million which exceeds the amount of the debt as at 8 August 2017, namely, US$35.96 million.

24.  Apart from showing a breach of contract on the part of the Bank, to get his defence off the ground, the debtor must show that he has suffered prejudice as a result.  It was submitted that because of the Bank’s breach, the debtor lost his right to subrogation.

25.  But the right of subrogation does not and cannot arise unless and until the debtor has discharged the debt.  As Mr Khaw SC (who appeared for the Bank) rightly pointed out, on the figures before the court, had the Settlement Security been perfected and the debt discharged, no question of subrogation could or would arise.  On the scenario postulated, there would be no question of the Bank (who has realised the security) pursuing the debtor for the same amount.  Quite simply the Bank would have been repaid.   

26.  Second, as a matter of law, the Bank as creditor has an unfettered choice as to how, and against whom, it should proceed to recover the debt to which it is entitled.  The Bank is not legally obliged to resort to available security before pursuing the debtor personally for the debt.  The presence of security provided by a third party is not a defence to an action against the debtor or a winding up petition: see Re Fame Dragon International Investment LtdHCCW 373/2016, unreported, 20 March 2017 at §22; Re Kwok Chok Yee[2000] 2 HKC 543 at 548B–E; and Standard Chartered Bank (Hong Kong) Limited v Pak Kwan HoHCA 1269/2015, unreported, 26 August 2016 at §13.

27.  In my view, the debtor’s submission is fundamentally flawed because of the absence of prejudice caused by the alleged breach.  I do not consider it arguable as a matter of law. 

28.  For those reasons, I am not persuaded that the debtor has a bona fide defence to the petition.  Accordingly, a bankruptcy order must follow.

29.  Clause 2.3 of the Settlement Agreement is an express agreement by the debtor (being one of the GN Parties) to pay the Bank’s costs on an indemnity basis.  Accordingly, there is to be an order nisi that costs be awarded to the Bank on an indemnity basis with certificate for two counsel.  The Official Receiver whose attendance was dispensed with be awarded costs of $4100.‌

The new evidence

30.  The debtor had applied by summons dated 27 July 2017 for leave to file his 3^rd affirmation as well as the affirmation of Ronald Chi Chung Ma which were read by the court de bene esse.  As the new evidence has been considered, leave is granted.

31.  §2 of that summons provided for the costs to be in the cause of the petition.  Accordingly, the Bank being the successful party is entitled to such costs on an indemnity basis with certificate for two counsel.‌