LO SIU TIM AND ANOTHER v. FITNESS TOGETHER LTD AND OTHERS

HCMP 766/2021

[2022] HKCFI 2946

IN THE HIGH COURT OF THE

HONG KONG SPECIAL ADMINISTRATIVE REGION

COURT OF FIRST INSTANCE

MISCELLANEOUS PROCEEDINGS NO 766 OF 2021

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DECISION ON COSTS

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1.  The plaintiffs discontinued the proceedings in the present action. By consent, the issue of costs was reserved to be decided by the court on paper only. Hence this decision.

Background

2.  The 1^st defendant (“FTL”)  operates a fitness centre in Tai Po under the brand of “Snap Fitness” (“the Gym”)  pursuant to a franchise agreement dated 15 July 2019 (“the Franchise Agreement”)  with the franchisor of the brand, Fitness Brands Limited (“the Franchisor”).

3.  At the material times, the shareholders of FTL were the 2^nd defendant (“Billy”), the 3^rd defendant (“Button”)  and the 4^th defendant (“Eric”).  Billy and Button held 330 shares each while Eric held 340 shares.  Hence a total of 1,000 shares.  They were also the directors.

4.  In turn, the three shareholders held the 1,000 shares as nominees (collectively “the Nominees”)  on trust for themselves and various other beneficial owners, namely:

Eric	200 shares
Ho Siu Wai	50 shares
Billy	150 shares
Button	125 shares
Ho Cheuk Fung (“Flex”)	150 shares
Cheung Chun Wai	25 shares
Wu Kent Roy (“Roy”)	250 shares
The 2nd plaintiff (“Leo”)	50 shares

5.  The terms of the nominee arrangement in respect of the ownership of FTL was documented by a nominee shareholding deed dated 31 January 2020, which was signed by all the then beneficial shareholders (“the Nominee Deed”).  The Nominee Deed contained, amongst others, the following terms:

Clause 1

“In consideration of the Nominee at the request of the Beneficiary agreeing to hold on behalf of the Beneficiary shares (“Shares”)  in the capital of the Company ... as set out in Paragraphs 3 and 4 of Schedule 1 of the Deed, the Nominee shall be authorised to register the Shares and to hold the Shares in its own name on behalf of the Beneficiary upon trust for the Beneficiary absolutely.”

Clause 2

“Save as otherwise provided in this Deed, the Nominee shall hold, dispose of or otherwise deal in the Shares on the written instructions of the Beneficiary or other person duly authorised in that behalf. The Nominee may in its discretion act on instructions given or purporting to be given by letter, telegram or telex and shall not incur any liability by reason of acting or omitting to act on any such instructions should there be any error or ambiguity therein.”

Clause 3(b)

“The Nominee will transfer, pay and deal with the Shares and all dividends and interest payable in respect of the same in such manner as the Beneficiary shall from time to time direct.”

Clause 3(c)

“The Nominee will not exercise the voting power of the Nominee in respect of the Shares otherwise than in accordance with the directions of the Beneficiary or in the absence of such directions in what the Nominee believes to be in the best interests of the Beneficiary.”

6.  The operation of the Gym also involved another corporate vehicle, Happy Fitness Master Two Limited (“HFM2”), which, amongst other things, took up the lease of the premises for the Gym as well as paid the rent and the other expenses of FTL.  Roy was the sole shareholder and director of HFM2 (until his shareholdings and sole directorship were subsequently transferred to the 1^st plaintiff (“Lo”)).

7.  Likewise, Roy held the shares of HFM2 as nominee for himself and the other beneficial owners of FTL.  A nominee shareholding deed dated the same date as the Nominee Deed for FTL mentioned above was also entered into in that connection.

8.  The beneficial owners ended up in dispute in respect of the management and control of FTL, including alleged financial misconduct on the part of Roy.  The plaintiffs are said to have sided with Roy.

9.  Since October 2020, some beneficial shareholders, including Roy, Lo and Leo, had requested that the legal title of the FTL shares, which they respectively owned beneficially, be transferred to them, and that general meeting of FTL be convened to consider resolutions of removing the Nominees from directorship.  Lawyers were engaged by the parties.

10.  In October 2020, Roy requested the board of FTL to convene a general meeting and for the Nominees to vote in accordance with his instruction in respect of his beneficial shareholdings held by them.  That was not acceded to.  This drove Roy to commence legal proceedings (HCMP 1913/2020)  for, amongst other relief, that the shares which he owned beneficially be transferred to him and that he be registered as a shareholder of FTL.

11.  Correspondence between the parties’ solicitors ensued.  Eventually, upon confirmation of the Nominees’ readiness to transfer the legal title of the relevant shares, the proceedings in HCMP 1913/2020 were discontinued.

12.  One major reason put forward by the Nominees was the alleged absence of management accounts.  Those accounts were subsequently provided in January 2021.  Draft documents for the share transfer also came about.  Further requests for execution of the share transfer and convening of shareholders meeting by the Nominees were made in April and May 2021.

13.  Seeing that nothing materialised, the plaintiffs commenced the present proceedings on 1 June 2021, seeking, amongst others, the following relief:

(1)  declaration that Billy, Button, and Eric (ie the Nominees)  hold 250 shares in FTL on trust for Lo and 50 shares on trust for Leo;

(2)  order that the Nominees do transfer or procure the transfer of 250 and 50 shares in FTL to Lo and Leo respectively, and that FTL do duly register Lo and Leo as shareholders;

(3)  Alternatively, an order that the Nominees exercise the voting powers in respect of the 250 and 50 shares in FTL they hold on trust for and on behalf of Lo and Leo respectively in accordance with the respective directions of Lo and Leo;

(4)  Lo and Leo be at liberty to convene a shareholders’ meeting of FTL (with the agenda of, amongst other things,removing the Nominees from directorship at FTL, appointing themselves instead to the board of FTL, and requesting the outgoing board members of FTL to hand over all the accounting records of FTL to incoming board members of FTL). 

14.  FTL was a necessary party, and therefore named as the 1^st defendant.  So was Eric, who was one of the Nominees, though his stance in the matter should be clear to all the parties concerned.  He indicated his intention not to contest these proceedings.

15.  The argument between the beneficial owners triggered further financial decision resolved by the board consisting of the Nominees, notwithstanding Eric’s dissent.

16.  On 16 June 2021, the beneficial shareholders held a meeting.  The majority of them requested for the current directors to be removed, which was not acceded to by Billy and Button.

17.  On 18 June 2021, Eric issued a special notice to the beneficial shareholders to convene a general meeting for considering, amongst others, the removal of the Nominees from and the appointment of new directors to the board of FTL.  At the meeting on 19 July 2021, Billy and Button refused to vote in accordance with the instructions given by their opposite camp of beneficial shareholders, and they voted down the proposed resolutions.

18.  This prompted Eric to commence action on 2 July 2021 against Billy and Button, with FTL joined as a necessary defendant, for, amongst others, injunctive relief restraining them from causing unauthorised payments to be made by FTL and compelling them to exercise their voting rights in accordance with the instructions of the beneficial owners of FTL to the extent of their beneficial shareholdings (HCMP 934/2021).

19.  By then, the Franchisor had already been alerted of the shareholders’ dispute.  The Franchisor also demanded an audit of the business of the Gym.  After audit, the Franchisor caused its solicitors to set out in their letters in July and August 2021 its criticism against FTL and its directors for breach of the Franchise Agreement.  Amongst other things, it was alleged that Billy and his brother, Flex, set up similar business and making use of business model and intellectual properties of the franchisee in competition with the Gym.  It was also alleged that the sales income of FTL had been under-reported.  It also complained about the non-disclosure of the actual beneficial shareholding and ownership of FTL when the Franchise Agreement was entered into.  In its own words, the Franchisor found it to be intolerable that Billy and Button continued to have day to day involvement with the Gym, and requested that the two stepped down from directorship and FTL’s operation.

20.  Billy and Button through their current solicitors confirmed that they would resign from the directorship of FTL at the end of the month, and that they would initiate the handover arrangement.  They also represented that they would be agreeable to execute the transfer of the shares to the beneficial shareholders to terminate the nominee arrangement.

21.  The transfer was eventually effected in late September 2021.  Around the same time, FTL resolved that Lo, Raymond Ho, and Leo’s wife were appointed as directors of FTL while Eric also resigned as director.

22.  Purpose served, the plaintiffs in HCMP 934/2021 and the present action saw no need to further pursue their claims.  In November 2021, Eric discontinued the proceedings in HCMP 934/2021 with no order as to costs.  By consent summonses filed on 28 January 2022, the plaintiffs also discontinued the proceedings in the present action, leaving the issue of costs to be determined by the court on paper only.  Directions for the filing of written submissions on the issue of costs were thus given.

The parties’ positions

23.  FTL and Eric were named as defendants because they were necessary parties.  It should be clear that neither of them contested the present proceedings, and it was agreed that there would be no order as to costs between the plaintiffs and them.

24.  The plaintiffs’ position is that the costs of these proceedings should be borne by Billy and Button, and be taxed on an indemnity basis.  Essentially, they argue as follows:

(1)  They effectively succeeded in obtaining substantially what was sought by the originating summons, ie, the transfer of the shares to the beneficial owners of FTL, and thus collapsing the trust arrangement under the Nominee Shareholding Deed, as well as the removal of Billy and Button from the board.

(2)  Billy and Button were the wrongdoers whose wrongful retention of control over the legal title to the FTL shares and the board necessitated the present proceedings to be brought against them.  Billy and Button yielded only upon the Franchisor’s own finding of the misconduct on the part of Billy and Button and ultimatum demanding them to cease all their involvement in FTL’s operations.

(3)  In view of the lack of good faith on the part of Billy and Button as well as their reprehensible attitude towards their duties as the Nominees, indemnity costs against them would be justified in the circumstances.

25.  Billy and Button oppose the costs order proposed by the plaintiffs, and propose no order as to costs.  Essentially, they argue as follows:

(1)  The plaintiffs’ claim was misconceived, and became academic because of the events subsequent to the commencement of these proceedings that were unconnected to the claim.

(2)  The conduct of the plaintiffs before and after the commencement of these proceedings were unreasonable.

(3)  The plaintiffs failed to obtain all the relief sought in that Leo eventually did not manage to become a shareholder or director of FTL.

(4)  It would not be appropriate in the circumstances of this case for the court to go into the parties’ arguments in detail, and thus effectively proceeding in full, for the sole purpose of determining costs liability.

26.  Relying on their Calderbank offer of no order as to costs, Billy and Button further indicate that should they manage to achieve that result, their costs of the argument on costs should be borne by the plaintiff.

The Principles

27.  If a plaintiff withdraws an action or a summons because the defendant had done something, after the issuance of writ of summons or summons, which renders it unnecessary or academic for the plaintiff to proceed with the action or application, the court has a full discretion to award costs to the plaintiff after taking all the circumstances of the case into consideration, including that the respondent could have acted sooner: Hong Kong Civil Procedure 2022 (Vol 1)  (“HKCP”)  at §21/5/12A.

28.  In Famous Marvel Co Ltd & Ors v Conversant Group Ltd & Ors HCA 2153/2009 (29 October 2012), the court explained as follows:

“22.   There is no dispute that even if a case is settled except as to costs, the Court still has power to determine which party should be liable for costs. There is no tradition for there to be “no order as to costs” in such a scenario. I am guided by the following principles in deciding costs:

(i)  The Court is to decide if the party seeking costs has substantially obtained the reliefs sought in the litigation.

(ii)  At each end of the spectrum there will be cases where it is obvious which side would have won had the substantive issues been fought to a conclusion. In between, the position will, in differing degrees, be less clear. How far the Court will be prepared to look into the previously unresolved substantive issues will depend on the circumstances of the particular case, not least the amount of costs at stake and the conduct of the parties.

(iii)  The Court will first consider if it is in a position to say what the likely outcome after trial would have been. If it is not in a position to do so, the order may well be no order as to costs.

(iv)  The Court may permit parties to adduce evidence on the question of costs.  However, to say that the parties must go to trial in order to resolve any outstanding questions of costs would be contrary to the underlying objectives enshrined in RHC Order 1A rules 1 and 2.

(v)  A broad brush can be taken by referring to all matters already laid before the Court, eg pleadings, correspondence, witness statements, transcripts of evidence and the terms of the settlement order.

(vi)  The objective is to do justice between the parties without incurring unnecessary Court time and consequently additional costs.”

29.  In Re Lucky Ford Industrial Limited [2013] 3 HKLRD 550, the court had this to say:

“14. In my view having regard to O.1A r.1 the correct approach to determining costs in cases which do not involve the court granting substantive relief is for the court first to consider the terms of settlement and assess whether the petitioner has obtained substantially what he sought in his petition. If he did it will not be necessary or appropriate for the court to consider evidence and arguments directed to the merits of the case and whether or not the petitioner would have been successful if the petition had gone to trial. The petitioner will be treated as having been successful and entitled to his costs.

15.   There may be cases in which it is not clear from the terms of settlement whether it can fairly be said that the petitioner has been substantially successful. In such cases the court will have to determine whether it is probable that the petitioner would have been substantially successful. This may require a consideration of the merits of the case, but this process should be as economical as is consistent with the court’s duty to decide the issue fairly.”

30.  Likewise, in Glory Empire Global Ltd v Bateson Investment Limited HCA 866/2017 (17 August 2017), the court explained (at §44)  that the judge has a wide discretion.  In determining the issue of liability for the purpose of deciding costs, the court may adopt a broad brush approach and does not necessarily have to conduct a trial to determine the substantive issues.  Where it is impossible for the court, on the existing materials, to say what the likely outcome would be, the court may, in appropriate circumstances, decide to make no order as to costs.  Ultimately, the objective is to do justice between the parties without incurring unnecessary court time and consequently additional costs.

31.  I am impressed that the parties do not really dispute the applicable principles.

Discussion

32.  The plaintiffs sought a declaration that the Nominees held the shares in FTL on trust for themselves and the others as the beneficial owners.  Billy and Button argues that the claim was unnecessary, as the beneficial ownership of the shares in FTL was never disputed.

33.  It may be said that the declaratory relief was not strictly necessary, but the claim for such relief could not be faulted as a matter of principle in the circumstances of this case.  More relevantly, there is no suggestion or evidence that the inclusion of the claim for such relief has occasioned any costs which were unnecessary or unreasonable.

34.  As to the claim for the transfer of the Nominees’ legal title of the shares in FTL to the respective beneficial owners to the extent of their beneficial ownership, the stance of Billy and Button was that they never denied the entitlement of the beneficial owners, and were prepared to transfer the shares.  However, they made it their point that such transfer could not be done without the approval of the Franchisor pursuant to the Franchise Agreement (section 11 thereof, to be precise).  Transfer regardless of the Franchise Agreement, they argue, would have run the risk of breach thus jeopardising the very business operation of FTL.

35.  Good or bad faith of Billy and Button aside, the argument in support of their stance is unmeritorious.  If anything, the parties were already in breach of the Franchise Agreement from the outset, and the risk referred to already existed.

36.  Section 15O(1)  of the Franchise Agreement contained the representation and warranty of FTL and its guarantors (ie Billy and Eric)  that the ownership of FTL was completely and accurately listed in Attachment D, and that it would update the Franchisor of any change to ensure the completeness and accuracy of the list.  In Attachment D, Eric and Billy were stated to be the owners of 100% interest in FTL.  It is common ground that the existence of the beneficial owners and the nominee shareholding arrangement was knowingly withheld from the Franchisor.  None of the beneficial owners, except for the Nominees, had the approval of the Franchisor to be involved in the business of Gym.  Indeed, this was also the stance of the Franchisor, when it complained about such breach in their solicitors’ open letter dated 23 August 2021 mentioned above.

37.  That the Franchisor would take the view that the change of shareholders occasioned by the proposed transfer of the legal title of the shares to the beneficial owners would be substantial should not be surprising.  There was indeed substantial discrepancy between the representation and warranty in this respect under the Franchise Agreement and the true state of affairs.  That however was not brought about by the request by the plaintiffs for the transfer of the legal title of the shares to the beneficial owners.  That existed from the outset.  The risk of breach referred to by Billy and Button would have existed, when they put that forward as a pre-condition to effecting the requested transfer.

38.  More fundamentally, the relationship amongst the beneficial owners was governed solely by the Nominee Deed, the relevant terms of which are set out above.  As a matter of contract between the Nominees and the beneficial owners, the operation of these terms was not subject to any contractual pre-condition, let alone the approval by the Franchisor which was a third party to the deed.  Where the parties to the Nominee Deed agreed to be bound by such terms notwithstanding the terms of the Franchise Agreement, Billy and Button could not be heard to subject their compliance with the terms of the deed or the discharge of their fiduciary obligations as nominees owed to the beneficial owners to extraneous conditions or pre-conditions.

39.  It follows that it is disingenuous for Billy and Button to point out that the plaintiffs did not succeed entirely in that Leo eventually did not manage to be a shareholder or director.  The Nominees were contractually bound to hold their shares on trust for the beneficial owners, including Leo, in terms of the Nominee Deed.  That would have entailed the Nominees’ exercise of the voting power in accordance with the beneficial owners’ instruction to the extent of their respective beneficial ownership in FTL.  It therefore sounds unrealistic that the concern about approval of such state of affairs, including the individual beneficial owners, by the Franchisor would not have arisen, but for the requested transfer of the legal title of the shares to the beneficial owners.

40.  Whether or not Leo would have been approved by the Franchisor was irrelevant to their contractual and fiduciary obligations as nominees owed to Leo.  Nor was that relevant to their compliance with their contractual obligations under the Nominee Deed. Further, the evidence, which is not really disputed, is that Leo had his wife to take up the shares which he was entitled to beneficially and to join the board.  Whether or not that was out of consideration of meeting the requirement of the Franchisor for the continuation of the business of the Gym was a matter for him, and does not support the argument of Billy and Button in this respect.

41.  By late July 2021, the Franchisor had indicated their approval of the change in the legal shareholding structure of FTL (which was in line with the existing beneficial shareholdings)  as well as change in the composition of the board of directors.  Terms were offered for a new franchise agreement to entered into with the new owners in order to continue the business of the Gym under the franchise.  That included, as before, the provision of personal guarantees of the owners.  As they admitted, Billy and Button refused to provide such personal guarantees.  In other words, whilst on the one hand Billy and Button persisted in refusing to effect the transfer of the legal title of the shares for their concern about the approval of the Franchisor and the risk to the continuation of the business of the Gym, they on the other hand conducted themselves contrary to the same concern when the Franchisor was prepared to grant its approval.

42.  Another reason put forward by Billy and Button at one point to justify their withholding the transfer of legal title of the shares to the beneficial owners was the stamp duty issue.  That gave rise to their insistence on the obtaining of business accounts and statements for stamp duty assessment.  Merit of the concern about the issue aside, one does not see that the stamp duty assessment had to be resolved prior to the execution of the transfer.

43.  As to the claim for an order authorising the plaintiffs to convene a shareholders’ meeting of FTL, this was based on section 570 of the Companies Ordinance, Cap 622 (“CO”).  It provides that:

“(1)  This section applies if for any reason it is impracticable-

(a)  to call a general meeting of a company in any manner in which general meetings of that company may be called; or

(b)  to conduct the meeting in the manner prescribed by the company’s articles or this Ordinance.

(2)  The Court may, either of its own motion or on application-

(a)  by a director of the company; or

(b)  by a member of a company who would be entitled to vote at the meeting,

order a general meeting of the company to be called, held and conducted in any manner the Court thinks fit.

…”

44.  The impracticability in the circumstances of this case was that only the Nominees were the registered members of FTL.  The proposed agenda for the shareholders’ meeting per se was not exceptional.  As to how the Nominees should vote in respect of the shares to which the other beneficial owners were entitled, that would prima facie have been a matter of instructions of the beneficial owners and provisions of the Nominee Shareholding Agreement.  In the circumstances, there would have been a strong likelihood that the court would grant the order for such meeting to be convened.

45.  Had the shareholders’ meeting been convened, the plaintiffs would have secured the majority beneficial shareholders’ instructions according to which the Nominees had to cast their votes that would suffice to pass the resolution at least to remove Billy and Button from the board.  In any event, the purpose of the intended shareholders’ meeting was now served.  The board of FTL was reconstituted, with Billy and Button stepping down from the board, which happened only upon the Franchisor’s complaint about their alleged misconduct and breach of the Franchise Agreement.  Billy and Button became those whom the Franchisor did not approve to be further involved in the operation of the business of the Gym.  Had these proceedings continued, such development would only have fuelled the plaintiffs’ justification for demanding the convening of the general meeting to resolve the matters as proposed in the agenda.

46.  Though the proceedings in the present action were discontinued on the basis that they had become academic, this court accepts the plaintiffs’ contention that they should be considered as effectively the successful parties in these proceedings.

The parties’ conduct

47.  As mentioned, there are mutual criticism from the two sides of the other’s conduct prior to and during these proceedings.

48.  Essentially, the plaintiffs contend that the persistent refusal of Billy and Button to accede to the demands of the plaintiffs for the transfer of the legal title of the shares to the beneficial owners and for a shareholders’ meeting to resolve the issue of directorship of FTL brought about these proceedings.  Despite lack of merit, Billy and Button maintained their stance even after the commencement of proceedings.  They yielded only after the Franchisor joined in the criticism against them after its audit of the business of the Gym.  The above discussion refers.

49.  Billy and Button criticise the plaintiffs for pressing ahead for final judgment during the first hearing of these proceedings on 30 June 2021.  That was red herring.  That the court found that the plaintiffs could not justify such application at the time had no material bearing on the further proceedings in the present case.  Refusing the plaintiffs’ request, the court gave directions for the further proceedings and made an order of costs in the cause.  The defendants, Billy and Button included, were never deprived of the opportunity to answer the claim by way of affirmations.  Such episode has no material bearing on the issue of costs of these proceedings before the court now.

50.  Billy and Button also take issue as to the stance of Eric.  They point out that those acting for the plaintiffs in the present case also acted for Eric in his action in HCMP 934/2021 against Billy and Button.  Eric was named as a defendant in the present case.  However, not only did Eric not contest these proceedings but he also filed affirmation for the purpose of the plaintiffs’ claim.  It is suggested that Eric was so joined in these proceedings to pave the way for gaining a tactical advantage by slipping in evidence that was originally not in the plaintiffs’ affirmations.

51.  Insofar as any hint of conflict of interest is concerned, this court does not find anything objectionable for Eric to be joined as a defendant in these proceedings.  As mentioned, Eric must be necessary party, being one of the Nominees, that would need to be bound by the order being sought by the plaintiffs.  Those acting for the plaintiffs do not act for Eric in these proceedings, who also indicated no intention to defend. In the circumstances, there was nothing objectionable for Eric to file his affirmation for the purpose of the plaintiffs’ claim.  The suggestion of a plot by the plaintiffs to slip in the evidence of Eric defies understanding.

52.  Lastly, Billy and Button refer to the alleged difficulty in apportioning the costs incurred for HCMP 934/2021 and the present action.  This court does not see that as an insurmountable concern. The costs incurred in the present action are defined by the work done for the preparation of these proceedings from their commencement.  That there might be overlap in the preparation by those acting for the plaintiffs in these proceedings and Eric in HCMP 934/2021 does not render the assessment of costs unusual in any manner.  Taxation could be properly carried out, in the event of disagreement.

Conclusion

53.  These proceedings could not have been prevented in view of the stance of the Billy and Button at the time.  There is a strong likelihood that the plaintiffs’ claim would have substantially succeeded on the basis that Billy and Button did not have good defence against the requested transfer of the legal title of the shares to the respective beneficial owners of the shares.  Nor did they have good defence in resisting the requested convening of the shareholders’ meeting for the purpose of resolving as to the change of directorship.  The circumstances, in my judgment, warrant the making of an adverse costs order against Billy and Button.  That said, that this court disagrees with the stance of Billy and Button, albeit legally advised, per se does not warrant an indemnity costs order.  All the circumstances, including the parties’ conduct of these proceedings, considered, this court maintains this view.

Costs of the action

54.  Hence apart from no order as to costs between the plaintiffs and FTL and Eric[1], the plaintiffs’ costs of and occasioned by the present action against Billy and Button shall be paid by Billy and Button jointly and severally.

55.  This court refrains from summary assessment of such costs, in view of the probable disagreement between the two side concerning the proper differentiation between the costs incurred in these proceedings and HCMP 934/2021.  Costs shall therefore be taxed, if not agreed, with certificate for counsel.

Costs of the argument on costs

56.  In view of the above conclusion, the issue of whether the plaintiffs should have accepted the Calderbank offer of Billy and Button does not arise.

57.  I also make a nisi order that Billy and Button shall jointly and severally pay the plaintiffs’ costs occasioned by the argument on the issue of costs.  Engagement of counsel is certified.  In the absence of application within 14 ‌days, the nisi costs order shall become absolute without further order of the court.