HCK CHINA INVESTMENTS LTD. AND ANOTHER v. WAH NAM GROUP LTD.

HCCW 166/2000

IN THE HIGH COURT OF THE

HONG KONG SPECIAL ADMINISTRATIVE REGION

COURT OF FIRST INSTANCE

COMPANIES (WINDING-UP) NO. 166 OF 2000

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J U D G M E N T

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1. This is a petition for the winding-up of a publicly listed company, Wah Nam Group Limited ("the Company"). The trading of the Company's shares has been suspended in the Hong Kong Stock Exchange. The petition was brought by HCK China Investments Limited ("HCK"), a company incorporated in the British Virgin Islands and Investment Austasia Limited ("IAL"), a company incorporated in the New South Wales and whose shares are listed on the Australian Stock Exchange. They will be referred to collectively as "the Petitioners".

2. 3 creditors of the Company have appeared on the hearing of the petition to support it. They are Excel Noble Development Limited ("Excel"), Unbeatable Assets Limited ("Unbeatable") and Stamford Star Finance Limited ("Stamford"). Excel and Unbeatable are the petitioners of a winding-up petition against the Company in HCCW No. 130 of 2000, which was ordered to be stood over until the petition in the present proceedings has been dealt with.

3. At the outset of the hearing, I gave leave to the Petitioners to amend the Petition by inserting the words "as is evidenced in a document described as" before the words "promissory note" in each of paragraphs 5(a) to (d) and 6(a) to (d). The purpose of the amendments is to make clear that the Petitioners do not rely on the 8 documents on which the debts are founded as promissory notes. Mr Winston Poon, SC, who appeared with Miss Adriana Ching in this hearing, has accepted in his skeleton argument that notwithstanding each of the documents was stated to be a promissory note on the face of the document, none of them could take effect as promissory notes under the Bills of Exchange Ordinance, Cap. 19. It is, however, contended by the Petitioners that the "promissory notes" are valid as formal contracts or contracts by deed without the necessity for consideration because they are written documents, sealed with the common seal of the Company and there was delivery. Alternatively, if the "promissory notes" are not enforceable as deeds, they are evidence of indebtedness of binding agreements for which consideration had been given. The aggregate sum of the 8 "promissory notes" given by the Company to the Petitioners is A$7.35 million, with interest thereon at 8% per annum from 15 March 1999 to 14 December 1999.

4. The petition is brought under Section 177(1)(d) of the Companies Ordinance, Cap. 32, namely that the Company is unable to pay its debts. The Petitioners rely on Section 178(1)(a) (i.e. service of statutory demand) and/or Section 178(1)(c) (that it is proved to the satisfaction of the court that the Company is unable to pay its debts).

The background facts

5. The background facts may be given as follows.

6. The 8 "promissory notes" were given by the Company to the Petitioners pursuant to Clause 3.1(c)(ii) of an agreement dated 16 April 1998 made between IAL of the first part, the Company of the second part and the then directors of IAL of the third part. I shall refer to this agreement as the "Acquisition Agreement" following the terminology used in a circular of the Company to its shareholders dated 26 June 1998. By the Acquisition Agreement, IAL agreed to sell to the Company the entire issued share capital of two subsidiaries wholly owned by IAL. They are IAL HK Limited ("IAL HK") and Wah Nam Infrastructure Investment Limited ("WNII"). The total purchase price was A$49 million of which A$41.65 million was settled by the Company on completion on 15 September 1998, save for a cheque for A$1,080,453.00 which was subsequently countermanded by the drawer and is not relevant to the present proceedings as accepted by the Company. The balance of the purchase price in the sum of A$7.35 million was to be paid within 15 months of completion, i.e. by 15 December 1999.

7. Completion of the Acquisition Agreement took place on 15 September 1998 and the Company acquired the entire issued share capital of IALHK and WNII. 8 "promissory notes" were issued by the Company, 4 in favour of HCK and the other 4 in favour of IAL, as provided under Clause 3.1(c)(ii) of the Acquisition Agreement, in the total sum of A$7.35 million.

8. The first instalment of interest under the 8 "promissory notes" was payable on 15 March 1999 and was duly paid by the Company. The second instalment of interest, which was payable on 15 September 1999, was not paid by the Company to HCK and IAL. As a result, HCK and IAL brought proceedings in the High Court in HCA No. 15615 of 1999 and HCA No. 15616 of 1999 to recover the second instalment of interest. The capital sum and the final instalment of interest under the "promissory notes" were due on 15 December 1999. As no payment was made by the Company, 8 statutory demands dated 22 January 2000 were served on the Company, one in respect of each "promissory note". Eventually, this petition was presented on 23 February 2000, within a fortnight of the other petition presented by Excel and Unbeatable in HCCW No. 130 of 2000.

Are the "promissory notes" enforceable as deeds?

9. In each of the "promissory notes", it is stated that the Company "hereby promises to pay" to HCK or IAL the amount stated therein together with interest as stipulated on or before 15 December 1999 and that the amount was payable at Sydney. The common seal of the Company was affixed to each of the documents and it is stated on each document that the common seal was affixed by authority of a resolution of directors in the presence of two of the directors of the Company at that time. It is not alleged by the Company that the directors had no authority to affix the common seal, nor is it alleged that the documents were not duly executed.

10. What is contended by Mrs Dora Chan, who appeared for the Company, is as follows. It is argued that if the "promissory notes" are subject to Australian Law, they cannot take effect as deeds in view of Section 127(3) of the Corporations Law of Australia. If the applicable law is common law, it is submitted that the "promissory notes" would not take effect as deeds because they were not intended to be made as deeds.

11. Under Section 127(3) of the Corporations Law of Australia, it is provided inter alia that "a company may execute a document as a deed if the document is expressed to be executed as a deed." It is argued by the Company that none of the 8 documents in question was "expressed to be executed as a deed". In fact, each of them was stated to be a promissory note. This argument based on Australian law can be disposed of quickly. In the Corporations Law, "company" is defined under Section 9 to mean a company registered or taken to be registered under the Corporations Law of Australia. The Australian legislation clearly has no application to a company incorporated under the laws of Hong Kong. It has no bearing whatsoever to the execution of a deed by the Company, which was incorporated under the Companies Ordinance.

12. I turn to consider the argument based on the common law as the applicable law. Before I do so I should point out that the position in the United Kingdom is different because the requirement of sealing was abolished for all deeds executed by an individual and by a company incorporated under the Companies Acts by legislation enacted in 1989. Under Section 1(2) of the Law of Property (Miscellaneous Provisions) Act 1989, which governs the execution of deeds by an individual, it is provided that for such an instrument to be a deed, it must make "clear on its face that it is intended to be a deed by the person making it or, as the case may be, by the parties to it (whether by describing itself as a deed or by expressing itself to be executed or signed as a deed or otherwise)." In respect of deeds executed by companies, it is provided under Section 36A(5) of the Companies Act 1985, as amended in 1989, that "a document executed by a company which makes clear on its face that it is intended by the person or persons making it to be a deed has effect, upon delivery, as a deed." There is no Hong Kong legislation equivalent to the statutory provisions in the United Kingdom enacted in 1989.

13. Notwithstanding this, Mrs Dora Chan has argued that at common law, it is still a requirement that for a document to take effect as a deed, it must be intended as a deed by the maker of the document. In support of that proposition, she has referred me to an article entitled "Breaking the seal: the new law on deeds" by Graham Virgo and Charles Harpum, published in [1991] LMCLQ 209 in which the authors dealt with the position at common law and in respect of the requirement of sealing, they have made the following statements:

"As regards bodies corporate, the sealing of a document made by a corporation with the corporate seal authenticated it as the corporation's. However, it did not of itself make the instrument a deed. In most affairs a corporation could act only under its seal. It followed, therefore, that a document bearing a corporate seal was not a deed unless the intention to make it so was apparent." (at p. 210; emphasis supplied)

14. No authority has been cited by the authors in support of the statement in italics.

15. Mrs Dora Chan has also referred me to Chitty on Contracts, 28th ed, Vol 1 para. 1-045; "The Law of Contract" by Treitel, 10th ed, p. 145; and "The Law of Contract" by Cheshire, Fifoot and Furmston, 13th ed, p. 29.

16. It seems to me that Mrs Chan has conflated the proposition of the authors of the article in the above statement I have italicised with the changes introduced to English law by the 1989 legislation. It is quite clear that the extracts in Chitty and Treitel she has referred me to are concerned with the position as governed by the Acts in 1989. Even if I were to accept that the position at common law is as set out by the authors in the italicised statement (and I repeat that the authors have not cited any authority in support of that statement), it is quite clear from the reading of the article that the authors have not regarded the position at common law as they understood it to be the same as the provisions introduced into English legislation in 1989. At p. 224 of the article, in which the authors discussed section 1(2) of the Law of Property (Miscellaneous Provisions) Act 1989, they have stated as follows:

"Section 1(2) provides that an instrument shall not be a deed unless two pre-conditions are satisfied. One of these is not new: the deed must be validly executed as a deed by the person making it or the parties to it. The other is a novelty. An instrument must now make it clear on its face that it is intended to be a deed by the person making it or the parties to it. This may be done by describing an instrument as a deed, or by stating that it is executed or signed as a deed, 'or otherwise' ... The requirement that a document should be a deed only if that is apparent from its face is a necessary concomitant of changes to the manner in which a deed made by an individual or by a company must now by executed." (emphasis supplied)

17. Thus, even assuming that the authors have correctly described the position at common law when they stated that the intention to make a document bearing a corporate seal a deed must be apparent, they have not stated that such an intention must be apparent "on the face" of the document. It seems to me that Mrs Chan has misunderstood the position at common law.

18. I was referred by Mr Poon to para. 1-042 in Chitty on Contracts, which in my view sets out correctly the position at common law:

"At common law, all deeds were documents under seal, but not all documents under seal were and are deeds. A deed must either:

(a) effect the transference of an interest, right or property, or

(b) create an obligation binding on some person or persons, or

(c) confirm some act whereby an interest, right or property has already passed."

19. It is submitted by Mr Poon that the "promissory notes" are deeds because they "create an obligation binding on some person or persons", as apparent from the opening words of the document which provided that the Company "hereby promises to pay". I accept Mr Poon's submissions. I reject Mrs Chan's submissions that if the documents were stated to be "promissory notes", it could not have been intended by the maker of the documents that the documents were also made as deeds. I hold that each of the "promissory notes" is valid and enforceable as a deed with the consequence that it would not be necessary for the Petitioners to show that they had provided consideration.

Was consideration for the debts provided by the Petitioners?

20. If I am wrong in holding that the "promissory notes" are valid as deeds, I go on to consider whether there was consideration provided by the Petitioners for the debts due from the Company as evidenced by the "promissory notes". I wish to make clear that this part of my ruling is strictly obiter as I have held that the "promissory notes" are valid and enforceable as deeds and that it would not be necessary for the Petitioners to establish consideration.

21. As set out in the background facts, the "promissory notes" were given by the Company in part payment of the purchase price of the shares sold by IAL to the Company under the Acquisition Agreement. As provided in Clause 3.1(c)(ii) of the Acquisition Agreement, the Company was to give 4 promissory notes in favour of IAL and the other 4 in favour of HCK and that the aggregate sum of the 8 notes would be A$7.35 million.

22. There is no doubt that IAL had provided consideration for the debt of A$3.35 million as evidenced by the 4 "promissory notes" given by the Company to IAL. Completion of the sale and purchase of the shares in question by IAL to the Company had taken place on 15 September 1998. But was there consideration provided by HCK in respect of the debt of A$4 million as evidenced by the 4 "promissory notes" given by the Company to HCK? HCK was not a party to the Acquisition Agreement. It had no obligation to perform under that agreement. Consideration must move from the promisee, in this case, HCK. This had not happened here. There were other share sale transactions taking place contemporaneously between the Company, HCK, IAL and other entities, which I shall deal with in the subsequent part of this judgment. However, in respect of the obligation of the Company to pay the purchase price of the shares under the Acquisition Agreement, HCK had not provided any consideration for it.

23. Mrs Chan has taken a lot of points to oppose this petition for winding-up. However, she has made no submission on this point and seems to have tacitly accepted that consideration had been provided by IAL and HCK. Mr Poon has not alluded to the possibility of HCK providing no consideration and merely submitted that there was no denial by the Company that consideration had not been passed to the Company under the Acquisition Agreement because IAL had performed its side of the bargain.

24. The position where there is more than one promisee and one of them has provided no part of the consideration is discussed in Chitty on Contracts at paras. 3-039 to 3-042. Where a promise is made to A and B jointly, it can be enforced by both of them even though the whole consideration was provided by A. Where a promise is made to A and B severally, each promisee must provide consideration for what is a separate promise to him. Where a promise is made to two persons jointly and severally, the author's view would appear to be that the promisee who has provided no consideration would be unable to sue on any several promise for this is ex hypothesi an independent promise and no consideration for it has moved from that promisee. The author has further commented that the probable view would be that the promisor makes no promise at all to the promisee who has provided no consideration but only has authority to pay him.

25. In the present case, the debt in the aggregate sum of A$4 million to HCK was evidenced by 4 "promissory notes" given by the Company to HCK. In my view, the Company's promise to pay HCK the debt in question was made to HCK severally. As HCK had not provided consideration for the debt, HCK would not be able to enforce the Company's promise to pay A$4 million. This would in no way affect the debt of A$3.35 million due to IAL, as IAL had provided consideration to the Company in respect of that debt. IAL would also be able to enforce the promise of the Company made to it under the Acquisition Agreement to pay the balance of the purchase price of A$7.35 million, which would include the A$4 million covered by the "promissory notes" to HCK, as IAL had provided consideration for this promise. I wish to repeat and emphasize that this part of my judgment is obiter.

Were the statutory demands valid - s. 178(1)(a)?

26. Two points are taken by Mrs Chan for the Company. Firstly, it is contended that the statutory demands are not valid because they were based on the notes as promissory notes and not as a debt under the Acquisition Agreement. Secondly, it is argued that the debts as amounts due under the Acquisition Agreement were never demanded by the Petitioners as the debts were only demanded as amounts due under various promissory notes.

27. The relevant part in each of the statutory demands is as follows:

"We, Messrs King & Company, solicitors for [HCK/IAL] ... HEREBY on behalf of [HCK/IAL] DEMAND payment of the amount of [A$1,000,000.00/A$837,500.00] now due by you to [HCK/IAL] together with interest thereon at the rate of 8% per annum from the 15 March 1999 to 14 December 1999 amounting to [A$60,000.00/A$50,250.00] under the promissory note No. 1 [or Nos. 2 to 8 as the case may be] made by your company to [HCK/IAL] on 15 September 1998."

28. There is no prescribed form in the Companies Ordinance for a statutory demand for the purpose of Section 178(1)(a). That provision states that "if a creditor.... to whom the company is indebted in a sum exceeding $5,000.00 then due, has served on the company.... a demand under his hand requiring the company to pay the sum so due", the company shall be deemed to be unable to pay its debt if it has for 3 weeks thereafter neglected to pay or to secure or compound for the debt. So long as the debt is adequately described and the company is able to ascertain from the demand what is due by it, the requirement under section 178(1)(a) would have been satisfied. It is not required under the statute to describe the basis upon which the debt is due.

29. The statutory demands in question have identified the amount and referred to the document which was made by the Company to HCK or IAL on 15 September 1998 so as to enable the Company to ascertain what was the debt due by the Company to HCK or IAL. I hold that each of the statutory demands is valid and Section 178(1)(a) can be relied upon by the Petitioners in that the Company should be deemed to be unable to pay its debts as the Company had for three weeks thereafter neglected to pay the debts or to secure or compound for the debts.

Inability to pay the debt - s. 178(1)(c)

30. The Petitioners have adopted a fall-back position in that they seek to rely on Section 178(1)(c) if I should rule that the statutory demands are not valid. It is submitted by Mr Poon that where a company is under an undisputed obligation to pay a debt and has failed to do so, it could be inferred that it is unable to do so (Cornhill Insurance plc v. Improvement Services Ltd [1986] 1 WLR 114). The reason for non-payment of a debt has to be substantial and it is not enough if a thoroughly bad reason for disputing a debt is put forward honestly (Re Taylor's Industrial Flooring Ltd [1990] BCC 44).

31. The question here is whether the debts of HCK and IAL are bona fide disputed by the Company on substantial grounds. In the absence of a substantial ground of defence to the debts, I could infer evidence of insolvency. The onus is on the Company to "adduce sufficiently precise factual evidence to satisfy the court that it has a bona fide dispute on substantial grounds" (Re ICS Computer Distribution Ltd [1996] 1 HKLR 181 at 183I).

Is there a bona fide dispute of the debts on substantial grounds?

32. As I understand Mrs Chan's submissions, the Company does not dispute that there is a debt of A$7.35 million owed by the Company under the Acquisition Agreement but asserts that the Company has a set-off or counterclaim in respect of the following amounts:

(1) A$2,101,408.00

This figure is arrived at by taking the amount of A$2,432,760.00 which is the amount payable to Charmlink International Limited ("Charmlink") and Wise Spencer Limited ("Wise Spencer") under a share sale agreement dated 15 April 1998 ("the Eutopia Agreement") less A$331,352.00 which is the amount paid by IAL under an arrangement to buy back 20% of its shares. It is unnecessary for the purpose of this judgment to go into the buy back arrangement, suffice it to say that the amount which is the subject of the alleged set-off or counterclaim is the purchase price of the shares sold under the Eutopia Agreement, the net figure of which is about A$2.1 million.

(2) A$4,322,468.00

This is an amount allegedly due to Aachen (Asia Pacific) Consultants Limited ("Aachen") under a mandate agreement dated 5 December 1997 ("the Mandate Agreement"). By a deed made on 6 April 2000 between Aachen as the assignor and the Company as the assignee, the debt allegedly due to Aachen under the Mandate Agreement was assigned to the Company.

33. It should be noted that even after taking into account the amounts in (1) and (2) above, the Company still owes A$926,124.00 to the Petitioners. I turn to consider each of the alleged grounds for set-off.

The amount allegedly due under the Eutopia Agreement

34. It is contended by the Company that the Acquisition Agreement (under which the 8 "promissory notes" were given to the Petitioners) was part of a series of inter-dependent transactions which the Eutopia Agreement also formed part. The Eutopia Agreement has not been completed. Due to the default of the purchaser in the Eutopia Agreement, the Company is deprived of the proceeds under the Eutopia Agreement (in the net sum of approximately A$2.1 million) which would have been applied towards settlement of the purchase price under the Acquisition Agreement.

35. It is necessary to give a description of the parties and the agreements in the transactions said to be inter-dependent. There are a total of 5 agreements. I shall use the terminology in the circular of the Company to shareholders dated 26 June 1998 to avoid confusion, as different terminology was used in the affirmations and various share sale agreements. The 5 agreements are as follows:

(1) the Acquisition Agreement

This is an agreement dated 16 April 1998 made between IAL as the vendor and the Company as the purchaser by which IAL agreed to sell to the Company the entire share capital of WNII and IALHK, two subsidiaries wholly owned by IAL. The purchase price was A$49 million.

(2) the Disposal Agreement

This is an agreement dated 16 April 1998 made between the Company as the vendor and HCK as the purchaser by which the Company agreed to sell to HCK about 25.1 million shares in IAL (which represented 50% of the total issued shares of IAL). The purchase price was approximately A$24.3 million.

(3) the IAL Agreement

This is an agreement dated 16 April 1998 made between HCK as the vendor and IAL as the purchaser by which HCK agreed to sell to IAL the entire issued share capital of Golden Glory International Limited ("Golden Glory"). The purchase price was A$35 million.

(4) the HCK Agreement

This is an agreement dated 16 April 1998 made between Wah Nam Holdings Co. Limited ("Wah Nam Holdings") and its related companies as the vendor and HCK as the purchaser by which the vendor agreed to sell to HCK about 16.7 million shares in IAL (which represented about 33% of the total issued shares of IAL). Wah Nam Holdings is a private company incorporated in Hong Kong and is beneficially owned as to 60% thereof by Mr William Chan Pak To, a director of the Company. The purchase price under this agreement was approximately A$16.2 million.

(5) the Eutopia Agreement

This is an agreement dated 15 April 1998 made between Charmlink and Wise Spencer as the vendor and Eutopia (BVI) Limited ("Eutopia") as the purchaser by which the vendor agreed to sell to Eutopia about 2.5 million shares in IAL. The purchase price was about A$2.4 million and the net amount payable was about A$2.1 million. On the case of the Company, Charmlink and Wise Spencer are the nominees of Wah Nam Holdings, I shall assume this is so for the purpose of these proceedings. Eutopia would appear to be the nominee of HCK, again I shall assume this is so for present purpose.

36. The purpose of the above transactions, in so far as the Company is concerned, is to enable the Company to dispose of its IAL shares which would be held by HCK after completion and to acquire the remaining interests in both WNII and IALHK. So far as IAL is concerned, upon completion, IAL would only be interested in the entire issued share capital of Golden Glory, the principal business of which is a cable car operation in Beijing.

37. Completion of these agreements was all scheduled to take place on 15 September 1998. I was referred to provisions in the Acquisition Agreement, the HCK Agreement and the Eutopia Agreement by which it is stated that completion is conditional upon the contemporaneous completion of the related transaction or transactions as described in each of these agreements. I do not know what were the "related" transactions in so far as the Disposal Agreement and the IAL Agreement are concerned because these agreements have not been adduced in evidence.

38. Evidence was adduced from Mr Andrew Chen Aun Li, a director of Aachen, as to how the payment of the purchase price was effected for some of the transactions. On completion of the Disposal Agreement, the purchase price of approximately A$24.3 million was satisfied by HCK issuing a bill of exchange in favour of the Company. On completion of the HCK Agreement, the purchase price of approximately A$16.2 million was satisfied by HCK issuing bills of exchange in favour of Wah Nam Holdings and its related companies. On completion of the Acquisition Agreement, the purchase price of A$41.65 million was satisfied in part by the Company, Wah Nam Holdings and its related companies endorsing the various bills of exchange referred to above in favour of IAL for the total sum of about A$40.5 million. The difference of A$41.65 million and A$40.5 million was paid by a cheque of A$1,080,453.00 which was provided by HCK at the direction of Aachen and which was countermanded for reasons not relevant to the present proceedings. The balance of the purchase price in the sum of A$7.35 million was provided by the Company issuing the 8 "promissory notes" to the Petitioners.

39. Having given a description of the transactions which are said to be inter-dependent, I am at a loss to understand how it could be alleged by the Company that the Company would be entitled to a set-off in respect of the amount due under the Eutopia Agreement which has not been completed. The Company is not the vendor of the shares in the Eutopia Agreement. Moreover, the vendor companies, Charmlink and Wise Spencer, are the nominees of Wah Nam Holdings, not of the Company, on the Company's own case. Neither HCK nor IAL, the Petitioners herein, is a purchaser under the Eutopia Agreement. Eutopia is alleged to be a nominee of HCK. They are two separate companies and I cannot disregard this fact. There does not appear to be any justification for lifting the corporate veil.

40. Furthermore, under the Eutopia Agreement, the transaction stated in that agreement that must be completed contemporaneously with the transaction under the Eutopia Agreement is only the HCK Agreement. The Acquisition Agreement is not a transaction required to be completed contemporaneously with the Eutopia Agreement.

41. There is yet another argument advanced on behalf of the Company that it is entitled to a set-off of the proceeds that should be paid under the Eutopia Agreement. It is alleged that the shares under the Eutopia Agreement were carved out and formed the subject of a separate agreement under the Eutopia Agreement instead of being included in the HCK Agreement so as to circumvent requirements under the Corporations Law in Australia and the Australian Stock Exchange on which the shares of IAL are listed. It was thought that the shares carved out under the Eutopia Agreement would not be subject to any voting disqualification, and as they were acquired in the name of a nominee, not in the name of HCK, they could be voted at the direction of HCK if the need should arise. It is alleged by the Company that its former directors, Mr Samson Chen and Mr Terence Ho Pui Tin, had acted in breach of their fiduciary duty to the Company in carrying out the Eutopia Agreement in contravention of the Corporations Law of Australia. I am quite unable to see how Mr Chen and Mr Ho could have acted in breach of their fiduciary duty to the Company in those circumstances, as the vendor companies under the Eutopia Agreement are not the nominees of the Company but of Wah Nam Holdings, which is a wholly separate entity. It is then argued that HCK knew of this breach of fiduciary duty of the Company's former directors, and HCK had assisted in the commission of such breach of fiduciary duty with the consequence that HCK should hold the proceeds that should be payable under the Eutopia Agreement in trust for the Company. This seems to me to be an extraordinary proposition. I am unable to see any sound legal basis for this and none has been put forward. The argument was merely advanced in the barest form in the way I have described.

42. For the above reasons, I hold that the Company has not made out any case of a set-off or counterclaim on substantial grounds in respect of the proceeds under the Eutopia Agreement.

The amount allegedly payable under the Mandate Agreement

43. The assignment of the alleged debt took place on 6 April 2000, after this petition for winding-up was presented, and shortly before the Company filed its evidence on 12 April 2000 to oppose the petition. Leaving aside the lateness of the assignment of the debt, I turn to consider if there is any sound basis for a set-off or counterclaim in respect of the amount allegedly due under the Mandate Agreement.

44. The Mandate Agreement was made on 5 December 1997 between Mr Khoo Ee Liam and Khoo Ee Ting of the one part and Aachen of the other part. It recited that the Khoos had engaged the services of Aachen in sourcing an Australian listed company for acquisition and in consideration of the services, the Khoos agreed to pay Aachen a consulting fee in the amount and manner as stated therein. HCK was not a party to this agreement. So how is it said that HCK is liable to pay the debt to Aachen under the Mandate Agreement so that the debt (which has been assigned by Aachen to the Company) could be used to set-off the Company's indebtedness to HCK as evidenced by the 4 "promissory notes"?

45. The Company's argument runs as follows. HCK is at all times beneficially owned by Mr Khoo Ee Liam and his wife. HCK and Mr Khoo Ee Liam should be regarded as the same. There is a bare allegation in the affirmation of Mr Alfred Cheung Tze Fat, the Legal Officer of the Company, that he was advised by Mr Andrew Chen, a director of Aachen, and verily believe that the Khoos requested Aachen to "provide the Services to HCK, upon and subject to the clear understanding and agreement between Khoos, HCK and Aachen (arrived at during a series of meetings between [sic] discussion between Khoos and Andrew Chen and others during October to December 1997) that Khoos and HCK shall be jointly and severally liable to pay Aachen the Consulting Fee." (emphasis supplied) Mr Andrew Chen has made an affirmation in these proceedings on 7 July 2000, but has not deposed to any details of the "understanding and agreement" by which the Khoos and HCK should be jointly and severally liable to pay the consulting fee to Aachen.

46. This alleged set-off would of course not affect the Company's debt to IAL in the sum of A$3.35 million. The Company's argument on this must fail. HCK was not a party to the Mandate Agreement. There is no valid reason for lifting the corporate veil. Moreover, on the evidence, the Company has simply not adduced "sufficiently precise factual evidence" to satisfy the court that it has a serious contention that the Khoos and HCK should be regarded as jointly and severally liable to pay Aachen the consulting fee. The alleged meetings and discussion between the Khoos, Andrew Chen and other unspecified persons took place during October to December 1997 according to the Company's evidence. The Mandate Agreement was made on 5 December 1997 and was close in time to the alleged meetings and discussion. The Mandate Agreement provided that the Khoos were to pay Aachen the consulting fee. There is no mention in that agreement of any joint and several liability with HCK. It does not seem to me that the allegation of joint and several liability is credible.

47. I hold that the Company does not have a set-off or counterclaim on substantial grounds in respect of the alleged debt under the Mandate Agreement.

48. As I have mentioned, Mrs Chan has taken a lot of points for the Company to oppose the winding-up. I have dealt with the main points and I do not think it is necessary to deal with all the arguments advanced by her. I would only say that I reject her argument that the parties should have litigated their disputes in Australia and that the Petitioners should not have brought proceedings to wind up the Company in Hong Kong. I also reject her argument based on a debenture given by Wah Nam Holdings to IALHK dated 22 April 1997 by which Wah Nam Holdings has charged its undertaking and all its property and assets as security for its debt to IALHK in the sum of about HK$86.79 million. I am wholly unable to see any or any relevant liability on the part of the Petitioners in respect of that debenture.

Is the Company insolvent?

49. I have held that the statutory demands are valid and that the Petitioners can rely on the deeming provision in Section 178(1)(a) that the Company is unable to pay its debts.

50. The Petitioners rely on Section 178(1)(c) as an alternative, under which they have to prove to the satisfaction of the court that the Company is unable to pay its debts. I must be satisfied that the Company is insolvent before I make a winding-up order.

51. In my view, there is clear evidence of insolvency in that there is failure by the Company to pay the debts due to the Petitioners as they fell due notwithstanding that the Company has no substantial ground for disputing them. I have already referred to the cases of Cornhill Insurance v. Improvement Services and Re Taylor's Industrial Flooring Ltd. Furthermore, even on the Company's case of set-off and counterclaim, the amounts that could allegedly be applied as a set-off are insufficient to extinguish the Petitioners' debts. There is a short-fall of A$926,124.00 which has been undisputed all along and which the Company has not paid.

52. I was referred by Mrs Chan to the two principal tests for insolvency, namely, the cash flow test and the balance sheet test. It is urged on me that I should apply the balance sheet test in this instance.

53. I should mention that if the cash flow test is to be applied and no regard is given to the assets or prospective assets of the Company, the Company is clearly insolvent as it is unable to pay its debts as they fall due. I have already referred to the debt due to the Petitioners. There is also a debt of HK$10 million due to Heng Fung Holdings Co. Ltd ("Heng Fung") on a convertible note which has matured on 21 July 2000. At the hearing of the petition on that day, I was informed by Mrs Chan that the Company has agreed with the holder of the convertible note for the amount due to be rolled over. However, she had no instructions on the details of the arrangement and was unable to say whether there is a disposition of the assets of the Company to necessitate an application for a validation order.

54. I should also mention that there were two applications for a validation order to date and they were made by Yuen J on 10 March 2000 and 12 April 2000, as a result of which new shares of the Company were issued to Mr Chim Hiu Fei and China Zone Ltd and the proceeds paid for the subscription of the new shares in the total sum of HK$24 million were applied by the Company to make a payment into court as ordered by Beeson J in HCA No. 12439 of 1999 on 17 December 1999. That action was brought by Excel, Stamford and Unbeatable, who have appeared as supporting creditors in this petition, against the Company and other defendants in respect of 4 convertible loan notes given to the supporting creditors. By the order of Beeson J, it was ordered that the Company was to make a payment into court of HK$30 million (the amount due in respect of two of the loan notes) by 7 January 2000 and a Mareva injunction was granted against the Company to restrain the disposal of assets up to HK$61 million (being the amount due in respect of the other two loan notes). The order of payment into court was not fully complied with until 14 April 2000, after Yuen J made the second validation order on 12 April 2000.

55. I am firmly of the view that the Company is insolvent applying the cash flow test.

56. If the balance sheet test is to be applied, a company would be regarded as insolvent if its liabilities should exceed its realisable assets. It is contended by the Company that I would reach a different result regarding the solvency or otherwise of the Company applying this test. It is argued that on the pro forma balance sheet of the Company as at 31 May 2000, this showed net current assets of HK$221 million and current liabilities of only HK$30.5 million. There are a number of seriously questionable aspects about this latest financial statement of the Company and they are as follows:

(1) The pro forma balance sheet is a one-page document provided by the Company. The last audited account of the Company was published on 2 August 1999. The Company has not, to date, produced the audited accounts for the year ended 31 December 1999. Under the Listing Rules of the Stock Exchange of Hong Kong Limited, the audited accounts of a listed company should be published within 5 months of the financial year end. On 22 June 2000, the Company obtained an order from the court giving it an extension of 4 months to 30 October 2000 to comply with its obligation under Section 122 of the Companies Ordinance by which the directors are required to lay before the Company at its annual general meeting the accounts made up to a date falling not more than 6 months before the date of the meeting. This failure to provide audited accounts within time should be looked at in the context of the last audited account made up to 31 December 1998 which was heavily qualified. It was stated by the certified public accountants they had not been able to obtain sufficient evidence concerning related party disclosures, the recoverability of advances to and amounts due from related companies, an amount due to a related company, obligations in connection with a joint venture in the PRC, and the appropriateness of the accounting treatment for the notes which were the subject of 3 subscription agreements in September 1998. Further, the Company had not disclosed the net result of subsidiaries not consolidated, which is not in accordance with the requirements of the accounting practice of the Hong Kong Society of Accountants.

(2) In the pro forma balance sheet, current liabilities are stated at HK$30.5 million. The amount due to the Petitioners under the 8 "promissory notes" in the total sum of HK$33,957,000.00 (equivalent to A$7.35 million) is stated as a separate item and is not included in the current liabilities. Likewise, the amount of HK$10 million due to Heng Fung on a convertible note which has matured on 21 July 2000 is not included under current liabilities. This accounting treatment is improper to say the least. There is no justification for taking the amounts due on the "promissory notes" and the convertible note out of current liabilities and treating them as long term liabilities in the pro forma balance sheet. This is also different from the treatment of the promissory notes in the audited accounts of 1998 in which the amount due thereunder is treated as part of the current liabilities.

(3) In the pro forma balance sheet, an amount of HK$243 million being investment in subsidiaries is regarded as part of the assets of the Company. The amount for investment in subsidiaries is the most significant item that makes up the net current assets of the Company in the pro forma balance sheet. This would appear to be confusing the Company's account with the consolidated account of the Company and its subsidiaries. The liabilities of subsidiaries do not appear in the pro forma balance of the Company. There is, for instance, a substantial liability of RMB56 million of WNII, a wholly owned subsidiary of the Company, to a PRC joint venture known as Hangzhou Huanan Engineering and Development Co. Ltd ("HHED", of which WNII owns 60%), as appears from the audited report of HHED as at 31 December 1999. The pro forma balance sheet cannot give a true and fair view of the financial position of the Company. I should also point out that in the last audited account of the Company as at 31 December 1998, the net current liabilities of the Company stood at HK$163 million whereas the net current liabilities of the Company and its subsidiaries stood at HK$63 million.

(4) Under the item of issued and fully paid capital in the pro forma balance sheet (in the amount of HK$303 million), there is included an amount of HK$90 million being new shares to be issued by the Company to the vendors under a share sale and purchase agreement dated 28 February 2000 between the Company and the vendors by which the Company was to acquire the entire issued share capital of Beauty Asia Enterprises Ltd at an aggregate consideration of HK$90 million. That agreement is the subject of the Company's application for a validation order that was heard on 10 March 2000 but was adjourned sine die by Yuen J. The Company has not restored this application to date. As the transaction has yet to be validated by the court, the amount of HK$90 million involved in the transaction should not be included as part of the issued and fully paid capital in the pro forma balance sheet.

(5) In the application for a validation order heard by Yuen J on 17 April 2000 and 15 May 2000, evidence was adduced by the Company which showed that the net asset value of the Company was 3 cents per share. In the pro forma balance sheet as at 31 May 2000, only two weeks after the last hearing for a validation order, the net asset value of the Company is presented as 7 cents per share (arrived at by taking the net current assets of HK$221 million and dividing it by the issued and fully paid capital of HK$303 million), more than double of the net asset value per share on the information presented to the court only two weeks ago. No explanation has been provided by the Company for this considerable fluctuation in the net asset value per share over such a short period of time. This makes me doubt the accuracy and reliability of the pro forma balance sheet.

57. On the available information, it does not appear to me that the realisable assets of the Company would exceed its liabilities. I arrive at the same conclusion that the Company is unable to pay its debt applying the balance sheet test.

Discretion of the court

58. An order for the winding-up of a publicly listed company would have grave implications affecting a great number of people. It is submitted by the Company that the court should exercise its discretion not to wind up the Company having regard to the following matters:

(1) the Petitioner's debts are very much disputed;

(2) the Acquisition Agreement under which the "promissory notes" were given was part of a complex asset swapping arrangement involving inter-dependent transactions;

(3) there are complex questions of fact and law involving breach of fiduciary duty of the Company's former directors, constructive trust, illegal transaction and the lifting of the corporate veil; and

(4) the Petitioner's debts are secured.

59. As I have found against the Company on the first three matters, it would only be necessary for me to deal with the fourth matter.

60. Under the Acquisition Agreement, it is provided that the sum of A$7.35 million to be paid by the Company shall be secured by the Company depositing with the escrow agent, Messrs Baker and McKenzie, the share certificate of all the WNII shares (being one of the parcel of shares sold to the Company under the Acquisition Agreement) until full payment of A$7.35 million. The Company has produced a Share Deposit Deed ("the Share Deposit Deed") made on 15 September 1998 between IAL, HCK, the Company and B & Mc K Nominees Ltd ("the Deposit Agent") by which it is provided that the Company must transfer, or procure the transfer of, the WNII shares to the Deposit Agent upon execution of the deed as the Company was obliged to do under the Acquisition Agreement. It is alleged by the Company that security has been provided in that the WNII shares were transferred to the Deposit Agent and that the Petitioners could and should have enforced the security under the Share Deposit Deed instead of seeking to wind up the Company.

61. There are some peculiar features about the alleged transfer of the WNII shares to the Deposit Agent:

(1) The Company has produced to the Court at this hearing the original of a share certificate of the WNII shares issued to the Deposit Agent on 3 August 1999. If the WNII shares had been transferred to the Deposit Agent as security pursuant to the Share Deposit Deed, there is no explanation as to why the original share certificate is held by the Company instead of by the Deposit Agent. It makes one wonder if the Deposit Agent has indeed received the security.

(2) There is a letter dated 20 July 2000 from the Deposit Agent to IAL confirming that it has not received from the Company or any other party "any share transfer documents" relating to WNII.

(3) According to the audited account of the Company as at 31 December 1998, which was published on 2 August 1999, it is stated that the Company "has pledged" all its shares in WNII as security under the Share Deposit Deed. According to the share certificate issued to the Deposit Agent, the WNII shares were issued to the Deposit Agent only on 3 August 1999, the day after the publication of the audited account.

(4) To add to the confusion, there is a letter from the Deposit Agent dated 15 March 1999, which was before the WNII shares were issued to the Deposit Agent according to the share certificate dated 3 August 1999. It would appear from the letter that the WNII shares were in the possession of the Deposit Agent as on the date of that letter because the Deposit Agent had given notice to the parties to the Share Deposit Deed that it would retain the WNII shares pursuant to the deed as it had received conflicting demands with respect to the WNII shares.

(5) There is a letter dated 13 April 2000 from HCK to the Company alleging that the actual transfer of the WNII shares to the Deposit Agent had not been effected by the Company as at the date of that letter. A further complaint was made by HCK that in October 1999, after the Company's default to pay the interest due on 15 September 1999 on the "promissory notes", the Company had arranged to dispose of a valuable asset of WNII being the toll bridge at Hangzhou without reference to the shareholders of WNII and in breach of the Share Deposit Deed which provided that the voting rights pertaining to the shares of WNII must be carried out at the direction of HCK after a notice of default has been given by HCK.

62. Leaving aside the uncertainties as to whether security has in fact been provided to the Petitioners, there is also the question if the security would be an adequate security in that the Petitioners would be able to pay themselves in full by realising it. I have grave reservations whether the security allegedly provided is adequate. The WNII shares are the shares of a private company with restriction on the transfer of the shares. It is very different from the situation in Re I J Langleb Ltd CWU No. 377 of 1996, Le Pichon J, 9 December 1996 (unreported) in which office premises were the subject of a charging order absolute obtained by the petitioning creditor against the company. Furthermore, according to the audited account of 1998, the Company and its subsidiary have pledged the 60% shareholdings of WNII in HHED to obtain bank loans of RMB35 million.

63. As I have grave reservations to the security allegedly provided to the Petitioners and the adequacy of it, I do not think this is an appropriate case to exercise my discretion not to make a winding-up order.

64. In conclusion, the Petitioners have established to the satisfaction of the court that the Company is unable to pay its debts and is insolvent. I order that a winding-up order be made against the Company. I will hear the parties on costs.