CHINA MEDICAL TECHNOLOGIES, INC. (IN OFFICIAL LIQUATION) v. KPMG (A FIRM)

HCA 1822/2013

IN THE HIGH COURT OF THE

HONG KONG SPECIAL ADMINISTRATIVE REGION

COURT OF FIRST INSTANCE

ACTION NO. 1822 OF 2013

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HCA 1138/2014

IN THE HIGH COURT OF THE

HONG KONG SPECIAL ADMINISTRATIVE REGION

COURT OF FIRST INSTANCE

ACTION NO. 1138 OF 2014

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HCA 2276/2016

IN THE HIGH COURT OF THE

HONG KONG SPECIAL ADMINISTRATIVE REGION

COURT OF FIRST INSTANCE

ACTION NO. 2276 OF 2016

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(Heard Together)

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D E C I S I O N

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1.  There are three matters before me, namely summonses in respect of three protective writs issued by the Plaintiff, being a company in liquidation (“CMED”) against the Defendant, KPMG Hong Kong (“KPMG”), in HCA 1822/2013 (“the 1^st KPMG Protective Writ”), HCA 1138/2014 (“the 2^nd KPMG Protective Writ”) and HCA 2276/2016 (“the 3^rd KPMG Protective Writ”) (collectively, “the Protective Writs”). KPMG was the former auditor of CMED. The Protective Writs seek to preserve possible claims against KPMG with respect to services that it provided to CMED during the period from 2004 to 2012.

2.  At present, the 1^st KPMG Protective Writ is valid only to 25 September 2017, and the 2^nd and 3^rd KPMG Protective Writs are valid to 1 September 2017.  The three summonses seek to extend the validity of each of the Protective Writs to 19 June 2018 (collectively, “the Extension Applications”).

3.  For the 1^st KPMG Protective Writ, the validity of the writ has been extended three times by the court.  For the 2^nd KPMG Protective Writ, the validity of the writ has been extended twice by the court.  For the 3^rd KPMG Protective Writ, this is the first application.

4.  The Extension Applications are supported by the 3^rd Affidavit of Mr Cosimo Borrelli sworn on 2 June 2017 (“Borrelli 3”) and his 4^th Affidavit sworn on 1 August 2017 (“Borrelli 4”).  Mr Borrelli is one of CMED’s joint and several liquidators (“the Liquidators”).

5.  Notwithstanding that the Extension Applications are made on an ex parte basis, the Liquidators have given notice of the same to KPMG, so that it may intervene in the Extension Applications and provide responding evidence to the court if it sees fit.  KPMG considers that it does not have standing to seek to intervene or make submissions in these proceedings.  Obviously, KPMG also wants to preserve its position so that it can perhaps make an application to set aside the order for the extension of the validity of the writ in due course.

6.  According to the Liquidators’ investigations, CMED’s former senior management stole at least US$355.50 million from CMED, through two major transactions that it entered into in February 2007 and October 2008.  KPMG was CMED’s auditor at the time of the transactions and issued unqualified audit opinions in respect of the financial years ended 31 March 2006 to 31 March 2008.

7.  The Liquidators have identified potential claims that CMED may have against KPMG which include, inter alia, losses and damages for breach of contract, tortious and equitable duty arising from KPMG’s audit of the CMED Group’s financial statements and its provision of other advice and services.  However, the Liquidators claim that they had difficulty in investigating the affairs of CMED, and they are not yet in a position to determine whether it is appropriate to pursue those claims.

History of the litigation

8.  There was a bit of history to this case.  There was an application by the Liquidators seeking order that KPMG do produce all documents relating to CMED.  The application was dealt with by Harris J and the matter even went to the Court of Appeal.  The Liquidators sought to have the present application be heard before Harris J.  As the learned Judge was not available to deal with the matter, the Extension Applications came before DHCJ To on 12 June 2017.  DHCJ To made an order to extend the validity of the 2^nd KPMG Protective Writ to 1 September 2007 and that the substantive Extension Applications be listed together before Harris J before 26 August 2017.

9.  There was a compliance summons scheduled to be heard by Harris J on 6 July 2017.  The learned Judge refused to deal with the Extension Applications on the same day and indicated that his diary did not permit him to hear the Extension Applications before 26 August 2017.  The Extension Applications therefore came before me today.

10.  I am given to understand that KPMG has earlier indicated its view that the Liquidators should obtain the documents in the Mainland by utilising the Arrangement on Mutual Taking of Evidence in Civil and Commercial Matters between the Court of the Mainland and the Hong Kong Special Administrative Region (“the Mutual Arrangement”).  KPMG was of the view that the service of the Protective Writs is necessary for this purpose.

11.  On 9 June 2017, KPMG served notices pursuant to O 12 r 8A(1) of the Rules of the High Court requiring the Liquidators to proceed to serve the Protective Writs or discontinue the action within 14 days of the notice.

12.  The Liquidators did not serve the proceedings and on 4 July 2017 KPMG issued three summonses seeking orders that the Liquidators do serve the Protective Writs within 7 days and failing which, the actions be discontinued (“the R 8A Applications”).  Each summons was supported by an affidavit and exhibits in substantially identical terms.

13.  The R 8A Applications were listed for a call-over hearing before DHCJ To on 14 July 2017.

14.  At the hearing, KPMG sought order that the Extension Applications and the R 8A Applications be heard together at the hearing of the Extension Applications listed for 8 August 2017.  KPMG submitted that this was appropriate because the issues were substantially similar.

15.  The Liquidators submitted that there was no need to list the R 8A Applications on an urgent basis as the Extension Applications had been, particularly given the potential that expert evidence would be needed on the R 8A Applications as to the operation of the Mutual Arrangement.

16.  DHCJ To refused KPMG’s application to have the R 8A Applications be heard together with the Extension Applications and made the order sought by the Liquidators.  The learned Deputy Judge directed that the Liquidators shall have 6 weeks to file evidence and KPMG shall have 4 weeks to respond.  The R 8A Applications were eventually listed for hearing on 1 November 2017 with half-day reserved.

17.  The Liquidators are currently obtaining opinions on both Hong Kong and Mainland law as to the operation of the Mutual Arrangement and therefore their position may change in advance of the hearing of the R 8A Applications.

18.  Since the Extension Applications are made ex parte, I can only determine the applications based on the evidence and arguments presented to me only by the Liquidators.

Legal principles for extension of validity of a writ

19.  The principles to be applied in determining whether or not to grant an extension of the validity of a writ under O 6 r 8(2) of the Rules of the High Court are well-established.  As summarised in the leading case of Chow Ching Man v Sun Wah Ornament Manufactory Ltd [1996] 2 HKLR 338 at 341B-C, the court will undertake the following two-stage inquiry:

(i) the court should be satisfied that there are matters amounting to good reason for extension; and

(ii) if the court is so satisfied, then it should decide whether or not to exercise its discretion in favour of the extension by considering all the circumstances of the case including the balance of hardship between the parties.

20.  If the extension application has been induced or contributed to by the conduct of the defendant, it may amount to a good reason to extend the validity of the writ (see: Hong Kong Civil Procedure 2017, vol 1, para 6/8/5).

21.  For all the reasons detailed in Sections D and E of Borrelli 3, I accept that there is good reason to extend the validity of the Protective Writs.

22.  Based on the evidence adduced by the Liquidators, I accept that they had genuine difficulty in the investigation of the claims the subject of the Protective Writs.  The absence of certain documents and the inability to obtain copies of the documents, to which KPMG would be partly responsible, would make it difficult for the Liquidators to brief and consult legal and technical experts to assess the validity of CMED’s potential claims against KPMG.  Further, as CMED is insolvent and has no assets of value other than perhaps potential legal claims, any legal proceedings constitute a significant financial risk and should only be undertaken after careful consideration and analysis.

23.  Given that the Liquidators are not in a position to determine whether or not to pursue or abandon the claims through no fault of their own, I accept that there is good reason to extend the validity of each of Protective Writs until 19 June 2018.

Balance of Hardship

24.  I also accept that the balance of hardship favours making an order to extend the validity of the Protective Writs.

25.  As explained in Section E of Borrelli 3, any potential prejudice to KPMG that may arise from an extension of the validity of the Protective Writs is likely to be minimal.  Amongst other things, KPMG has issued preservation notices internally to preserve all documents relating to its engagement by CMED and is likely to have taken specific steps to identify and preserve all documentary evidence that may be relevant to potential claims that may be brought by CMED against it.  They may also be general prejudice caused to KPMG by the lapse of time such as loss of memory of witnesses, but such prejudice should be limited given that it has had knowledge of the intended litigations for a long time.

26.  In contrast, the potential prejudice to CMED, should an extension of the Protective Writs be denied, is grave.

27.  CMED may lose a potential claim against KPMG if the Liquidators decide to allow the Protective Writs to expire.  On the other hand, if the Liquidators decide to serve the Protective Writs, they run the risk of bringing potential unmeritorious claims against KPMG without proper assessment of the merits of the claims.

28.  Under such circumstances, I accept that the balance of convenience comes down in favour of allowing an extension of the validity of the Protective Writs and I therefore exercise my discretion to do so.

Possible arguments of KPMG

29.  In discharging the duty of full and frank disclosure, Mr Manzoni SC, counsel for the Liquidators, has referred me to the possible argument of KPMG based on the Mutual Arrangement.

30.  I am sure that such argument would be fully canvassed in the R 8A Applications in November.  At this stage, it suffices for me to say that the concern of the Liquidators as stated in paras 41-45 of Borelli 4 deserves serious investigation.  Pending the availability of the opinions from the Mainland law experts and the full argument on the issues by both parties, I accept that the court should extend the validity of the Protective Writs pending full argument on the issue in the R 8A Applications.

31.  KPMG may also argue that the effluxion of time is too great and that further extension would cause difficulties because of the loss of documents and depreciation of memories.  However, the Liquidators have provided an account of what happened since the last application for extension of validity of the 1^st and 2^nd KPMG Protective Writs in Section C of Borrelli 3.  In the past 12 months or so, the Liquidators have been pressing KPMG to produce documents.  It is fair to say that there was delay and obstruction on the part of KPMG making it difficult for the Liquidators to carry out the investigation work.  The evidence at this stage shows that KPMG is responsible for such delay and so the effluxion of time should not be a factor to deny the Extension Applications.  In particular, there should be no destruction of documents given the preservation order in place by KPMG.

32.  For the above reasons, I am satisfied that the validity of the Protective Writs should be extended to June 2018 which provides a reasonable time for the carrying out of the investigation work.  However, I must warn that the Liquidators cannot expect to have indefinite extension of the validity of the Protective Writs.  Any further extension applications would have to be closely scrutinised by the court in the future.