ZHANG YUZHEN v. YANG YUEXIANG AND OTHERS

HCA 157/2015

IN THE HIGH COURT OF THE

HONG KONG SPECIAL ADMINISTRATIVE REGION

COURT OF FIRST INSTANCE

ACTION NO 157 OF 2015

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J U D G M E N T

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Introduction

1.  The 6^th defendant (“the Company”) was incorporated in Hong Kong in 2005.  The Company has an authorised and issued share capital of 10,000 shares of HK$1 each.  The Company was set up for the sole purpose of holding a WFOE in the PRC, Zhenjiang Junya (“ZJ”), and it is the sole shareholder of ZJ.

2.  ZJ owns and runs a factory manufacturing air conditioning equipment, parts and accessories for domestic sale in the PRC.

3.  The plaintiff (“P”) brings this claim as a shareholder of the Company, in the form of a common law derivative action.  The thrust of the complaint is that the 1^st defendant (“D1”) and the 2^nd defendant (“D2”) — perhaps with the 3^rd defendant (“D3”) — have wrongfully procured the Company to sell its only asset (the entire shareholding in ZJ) to the 4^th defendant (“D4”) at a significant undervalue.  D4 acted by its sole shareholder and director, the 5^th defendant (“D5”).

4.  On 17 January 2015, P applied ex parte for an injunction which was granted by Au J.  By the terms of the ex parte order made, it was ordered that:

a. D1, D2, D3 and D4 be restrained from:

i. completing and putting into effect the registration of the change of investor/shareholder of ZJ; and

ii. causing or procuring selling, charging, transferring, disposing of and/or otherwise dealing with any of the shares and/or assets and/or business undertakings of ZJ.

b. In the event that the change of investor/shareholder of ZJ had been completed, D1 and D6 be restrained from dealing with and/or disposing of the proceeds of the sale in the transaction or any part of the proceeds as might come into their possession.

c. D4 be restrained from making any changes to ZJ’s name, registered address, legal representatives, registered members, memorandum and articles, seals, stamps or chops; and from making application to any PRC government department authority relating thereto.

5.  The usual cross‑undertaking given by P was required to be fortified by a payment of RMB 1 million to be held by P’s solicitors as stakeholder.

6.  By summons dated 20 January 2015 (“the Summons”), P applied for the continuation of the ex parte order until trial or further order.

7.  At the first return date hearing on 23 January 2015, DHCJ Kent Yee discharged the injunction as against D3, but otherwise extended the ex parte order until determination of the Summons.  He also gave directions as to filing evidence, and adjourned the hearing of the Summons to a date to be fixed with one day reserved. 

8.  By summonses dated 11 and 28 May 2015 respectively (“the Discharge Summonses”), D1 and D2 (together) and D4 applied for the discharge of the ex parte order, alternatively for P to provide further security to fortify the cross‑undertaking in damages.

9.  The Summons and the Discharge Summonses were subsequently fixed to be heard by me on 29 June 2015.

10.  In the meantime, there followed various applications in relation to filing of evidence, requiring extensions of time and leave for further evidence.  By the time of the hearing of the Summons and Discharge Summonses, the following evidence had been filed with leave:

a. on behalf of P: the 1^st and 2^nd affirmations of P herself, and an affirmation of a Wang Xioaqing, a lawyer in a PRC law firm;

b. on behalf of D1 and D2: an affirmation of D1, and the 1^st and 2^nd affirmations of D2; and

c. on behalf of D4 and D5; the 1^st and 2^nd affirmations of D5.

11.  However, by summons dated 22 June 2015, D4 sought leave to rely also on the 3^rd affirmation of D5. That application was opposed by P, and I dealt with the materials on a de bene esse basis in the course of hearing argument on the Summons.  After hearing argument, I am content to allow the affirmation in as it does not add much and I do not think it causes any prejudice to P, and I grant the leave sought.

12.  Also by the time of the hearing, the parties’ cases had been fully pleaded in P’s Statement of Claim and the Defences of D1, D2 and D3 (all separately), and D4 and D5 (together).

13.  At the hearing of the Summons, P was represented by Mr Kenny Lin and Mr Lincoln Cheung, D1 and D2 by Mr Ronny Tong SC and Mr Ernest Ng, and D4 by Mr Earl Deng, all of counsel.

P’s case in summary

14.  P’s case is broadly as follows.  She is a shareholder holding 45% of the shares in the Company, with the remaining 55% held by D1.  P holds her shares as nominee for her son, Ni Naibin (“Naibin”); and D1 holds her shares as nominee for her son, D2.  P and Naibin left the setting up of the Company to D2.  P and D1 and D3 were made directors of the Company.  D3 was chosen by D1 or D2, and neither P nor Naibin have ever met her.

15.  The Company was incorporated so as to hold ZJ, which was intended to be run and operated by Naibin and D2 together.  It was in fact run on, that basis, at all material times since.

16.  However, in early August 2014, Naibin was arrested in the PRC on D2’s complaint that he had received improper rebates from ZJ’s customers. Naibin has been held in custody ever since, with no access from his family until very recently (when he was able to provide a statement through his lawyer).  After Naibin’s arrest, D2 took over control of ZJ and the remaining directors of ZJ are his nominees.

17.  P has since been completely excluded from accessing any information or records of the Company (or ZJ) despite engaging solicitors to make requests for information to be provided to her as a director of the Company.  In November 2014, P sought to call various board meetings and an EGM.  However, D1 sought to delay the meetings until mid‑January 2015.  At an adjourned EGM held on 18 December 2014, D1’s proxy voted against all resolutions proposed by P.

18.  D1 herself called a board meeting and EGM on 21 January 2015. However, on 12 January 2015, P was notified by her PRC lawyer that on some date before 5 January 2015 the shareholding in ZJ had been transferred from the Company to D4.  Despite P’s asking for an explanation from D1 and D2, none was forthcoming by the time of the ex parte application.

19.  Hence P says it is clear that D1 and D2 were deliberately delaying any board meeting or EGM, whilst simultaneously negotiating and making the concealed agreement to transfer the Company’s only asset to D4.  The concealed sale was also at an undervalue as the sale price was RMB 13.8 million, when the company was worth at least RMB 34 million just a few months beforehand.

20.  The documents relating to the transfer also reveal that D4, acting by D5, must have been part of a conspiracy to obtain the shares in ZJ at an undervalue, or at least turned a blind eye to the obvious and is guilty of dishonest assistance.  D4 was not a bona fide purchaser for value without notice.

21.  P says she can establish a serious issue to be tried, but damages would not be an adequate remedy, and that the balance of convenience is in favour of the grant or continuation of the injunction.

D1 and D2’s case in summary

22.  D1 and D2, on the other hand, submit that P has committed material non‑disclosure or has unclean hands which would justify the discharge of the injunction without re‑grant. 

23.  D1 and D2 say that the Company was set up by D2 alone.  Although there had been consideration that D1 might hold shares in the Company on behalf of D2, no shareholding was ever in fact given to D1.  Nor was any shareholding given to P.  D2 remained and remains the sole shareholder of all 10,000 shares in the Company, and this is shown in the Company’s register of members.

24.  Naibin’s involvement at that stage was to find nominee shareholders and directors, albeit that only nominee directors were in fact actually used, and they (including D3) were all nominees acting for D2 alone.

25.  Although there were various dealings later, by which it looked as though D1 and P were treated as being shareholders, that was a mistake.  It was not until receipt of the Summons and P’s 1^st affirmation that D2 was advised to give serious consideration as to whether P was in fact a registered shareholder of the Company.  Hence, the fact that she is not a shareholder did not come to D2’s mind in late 2014 when there were exchanges with the legal representatives of P as regards convening EGMs.

26.  As a result of their long friendship, D2 had entrusted Naibin with the management of ZJ, so that D2 could focus on dealing with clients.  Naibin was properly rewarded for his work.  However, towards the end of 2013, D2 began to receive complaints from long serving employees in ZJ.  After making enquiries, D2 became aware of certain conduct of Naibin, which was prejudicial to the interests of ZJ. 

27.  After Naibin tried to rid himself of the whistle‑blowers, D2 discovered that Naibin had made secret commission or rebates, had misappropriated company assets, had diverted clients and converted raw materials, and had also been engaged in the fabrication of documents and false accounting.

28.  In August 2014, D2 handed his incriminating materials to the Public Security Bureau (“the PSB”) in the PRC, which body arrested Naibin after investigation.  But D2 says he does not know what happened after that (as he only reported the case on behalf of ZJ as complainant).

29.  Having taken back control of ZJ, D2 found that the financial condition of it was chaotic as a result of Naibin’s misconduct.  A critical handicap faced was as to cash flow and the immediate normalisation of operations.  After discussions with management, D2 and the management formed the view that the best way to keep ZJ alive was to sell the business so that a new investor could come in and rescue or salvage the situation.

30.  Having been introduced to D5, arms-length commercial negotiations took place.  Various inspections of the factory and documents were made by D5, and a valuation and audit report were prepared.  Based on these matters, a price was agreed for the sale of the shares in ZJ to D4 at RMB 13.8 million. As a sign of goodwill, D2 agreed to stay on as the legal representative and director of ZJ for a six‑month transition period.

31.  D1 was not directly involved in the negotiations, though she was aware of them and met D5, and says she was informed by D2 on around 19 December 2014 of the sale to a company (D4) owned by D5.

32.  D2 emphasizes that there was no secrecy or concealment of the deal. Rather, it was P who tried to engineer a lack of meetings so as to be able to create an alleged concealment in ignorance of the bona fide attempt by D1 and D2 to meet and discuss the matter.  D2 says that in any event, and as was the fact, he treated ZJ as his company.  Further, the matter was anyway raised as AOB at the EGM of the Company on 21 January 2015 for ratification — even though with the benefit of hindsight such ratification was not necessary as P is not a shareholder at all.

33.  The material non-disclosure alleged against P is the failure to have disclosed (a) the management of the Company and ZJ (including that she was not in fact a shareholder of the Company), and (b) the arrest Naibin which precipitated the sale of ZJ.  The ‘unclean hands’ alleged against P is the threats she made to wind up the Company and ZJ if D2 did not help Naibin after his arrest.

34.  D1 and D2 also say that the ex parte injunction is causing irreparable prejudice in preventing ZJ from carrying out its ordinary business and operations.  So, whatever else arises, the balance of convenience is against the continuation of the injunction.

D4’s case in summary

35.  D5 is the sole director and shareholder of D4, which was purchased by him off the shelf as the vehicle to use for the acquisition of ZJ.

36.  D4 is a CPA and has worked in financial/business control for various companies in Hong Kong and PRC, where he developed a strong background in shortfall management, data analysis, corporate governance and risk assessment.  Since May 2014, he has been a personal business consultant.

37.  Prior to 27 October 2014, D5 had never met any of the other defendants, but knew Yang Jun, an employee of ZJ, who introduced him to that company. However, D4 flatly denies being part of a conspiracy or acting in concert with the other defendants, and asserts that he was at all times acting bona fide without any notice of any defect or irregularity in the Company’s procedure, or any disputes between shareholders.

38.  On behalf of D4, D5 explains the process through which he went in negotiating the acquisition of ZJ.  This included inspection visits to the factory in October, November and December 2014.  He found there were no proper accounting documents, so that it was difficult to ascertain the true value of ZJ just by looking at the records presented to him, though he could identify a solid customer base.

39.  D5 proposed to D2 that D2 should engage an independent auditor and valuer of ZJ, which D2 agreed to do.  The date 30 November 2014 was adopted as the cut‑off date for accounting purpose.  After receiving the report, with which D5 was not entirely happy, he conducted negotiations and first offered to pay RMB 9.18 million.  D2 counter‑offered RMB 12.8 million. D5 then made a ‘final’ offer of RMB 9.28 million.  When D2 made the surprise counter‑offer by increasing the price to RMB 13.8 million, D5 decided to accept it.

40.  He did so as the price was still below the valuation of RMB 14,679,700, and with his own connections and the existing customer base, he thought ZJ could be turned around within one year. 

41.  The first RMB 3.8 million has been paid (to the Company’s bank account), and the only reason why no further instalments have been paid is because of the injunction.

42.  D4 and D5 complain of the various serious problems facing ZJ because of the grant of the injunction, not least because it has prevented D2 from being able to restructure or renegotiate the terms of the loan facilities necessary to assist with the cash flow issues.  Further, there have been problems from the major suppliers ceasing to supply ZJ with the raw materials necessary to manufacture the products.  This threatens a significant loss of goodwill and value.

D3’s position

43.  Though no longer a party to the Summons, the position of D3 can be looked at.  The annual return of the Company dated 27 July 2014 shows D3, the holder of an identified Hong Kong identity card, as one of its directors. A copy of that identity card is also contained in the company record of ZJ, of which D3 is the legal representative.

44.  As Wang Xiaoqing was told by P and Naibin that they did not know and have never met D3, he performed a search on her name and discovered an association with another company in the PRC.  Mr Wang went to meet D3, explained to her about these proceedings and showed her the company records of the Company and ZJ.  D3 was astonished and angry to see what she described as a copy of her old identity card, and said she had never agreed to be a director of the Company or to have any involvement with either the Company or ZJ.  In fact, she says she always uses the English name of ‘Cheung Wai Yee’, and not ‘Zhang Huiyi’. 

45.  D3 subsequently provided a statement confirming these matters.  She has also filed a Defence asserting her position that she is not in fact D3 in the action, pleading to the lack of any relationship she has with P or the Company or the shareholders and/or directors of the Company.  She has made a complaint to the PSB.

46.  Importantly for present purposes, the Defence denies any of the signatures on the company documentation as being hers, and specifically denies that she signed the agreement to transfer the shares in ZJ from the Company to D4, despite the fact that the agreement purports to have been signed by her. 

47.  Another oddity is that D3 could not have signed the share transfer agreement as director on 19 December 2014, as the Company’s records at the Registry identify that D3 had already resigned as a director on 17 November 2014.

Applicable principles

48.  I can deal briefly with the principles applicable on applications for interlocutory injunctions, for they are well‑known.  The applicant must show (a) a serious issue to be tried; (b) that damages are not an adequate remedy; and (c) the balance of convenience is in favour of the grant of the injunction.

49.  At the interlocutory injunction stage, the principal concern of the court is that it might make a wrong decision in the sense that, after trial, the party to whom an interlocutory injunction has been granted may lose, or the party who has been refused one may win.  The court will therefore take whichever course appears to carry the lower risk of injustice if it should turn out that it is wrong.

50.  When an application for an interlocutory injunction is made upon contested facts, that presupposes that the decision whether or not to grant the injunction will take into account that the existence of the right or the violation of it, or both, is/are uncertain, and will remain uncertain until final judgment.

51.  An applicant for an interlocutory injunction must comply with the duty to make full and frank disclosure of all material facts, that is facts which are material for the judge to know in dealing with the application as made.  Materiality is decided by the court.  Giving full and frank disclosure requires the applicant to make proper enquiries, though the extent of the enquiries to be made will depend upon all the circumstances of the case.

52.  If material non‑disclosure is established, the court will normally be astute to deprive the applicant of any advantage he may have derived from that breach of duty.  Whether the fact not disclosed is sufficiently material to justify or require immediate discharge of the order without examination of the merits will depend on the importance of the fact to the issues which were to be decided by the judge on the application.

53.  Not every material non‑disclosure will lead to the discharge of the injunction.  The court retains a discretion nevertheless to continue the ex parte order or to make a new order on terms.

Serious issue as against D1 and D2

54.  It is convenient first to deal with the question of locus standi. As the action is a common law derivative action, I am entitled to look at the evidence as to whether or not P has locus, particularly in circumstances where she has expressly disavowed any beneficial interest in the shares of the Company.

55.  For D1 and D2, Mr Tong submits that P has no locus as she is not a member on record of the Company, and P has not adduced any evidence as to the acquisition of title of shares, such as by way of register of members or shares transferred certificates.  He also relies on authority for the view that the register is the only evidence to be looked at in the determination of rights of ‘members’.

56.  Reliance is also placed on a page from the statutory book of the Company, produced as an exhibit by D2, which shows he is the shareholder of shares numbered from 1 to 10,000, having become a member on 27 July 2005.  So, it is said for D1 and D2, the “hard edged question” as to whether or not P is a shareholder must be answered in the negative (though I think it must be accepted that a register can be rectified if it is wrong).

57.  Mr Tong then asserts that P seeks to get around that problem by running an argument akin to an estoppel argument.  That is why P refers to the Company’s documents filed at the Registry, and to the various meetings convened by or with P present as a shareholder.  Mr Tong submits that all those matters simply identify that the forms filed were mistakenly filled out, and the shareholders meetings called were objectively improperly constituted, and (against the authorities he cites) no inferences may be properly drawn in favour of P from this material.

58.  However, I do not think that P is really running an estoppel argument; rather, she points to significant other evidence which is consistent with her being in fact a shareholder of the Company.

59.  Indeed, Mr Lin argues that D1 and D2’s position is no more than an afterthought, which is not supported by contemporaneous documents, and is contradicted by many documents and facts.  For example, D1 unequivocally signed to confirm P’s shareholder status in various company returns since 2006, and I accept that the annual returns of a company are prima facie evidence of the truth of the contents.

60.  Mr Lin also points to the fact that D1 and D2 failed to reject P’s calls for a board meeting and EGM, despite being legally represented at the time.  Further, D1 and D2’s legal representative and the Company’s company secretary actually issued notices to P calling her to a board meeting and EGM on 21 January 2015.

61.  Reliance was also placed on a document which is some form of asset accounting document of ZJ.  It seems that this document might first have come from P or Naibin to D1 and D2, but it was returned with calculations marked in D2’s own handwriting, describing assets to be divided between Naibin and D2 as to 45% and 55% respectively.  Obviously, those presented figures are entirely in line with the asserted shareholder split identified by P, and whilst they do not prove any shareholding, they are strongly suggestive of a beneficial ownership divided between Naibin and D2 in those percentages.

62.  Also, the fact that P is a director at all is at least capable of being consistent with her being a nominee for her son, in relation to his beneficial interest.  Though I do not need to decide the point, it seems to me to be somewhat less likely that P would have been appointed as a director to be a nominee for D2 (and D1 was more likely his nominee).

63.  In sum, save for the late production of a photocopy of just one page from the statutory book of the Company, and the late assertion that P was never a shareholder, the remaining material available to me is consistent with P having the necessary locus to bring these proceedings.

64.  As acknowledged by Mr Tong on behalf of D1and D2, the substance of P’s complaints lie in the allegations of an undervalued dissipation of ZJ by the Company, without board meetings.  But Mr Tong submits that it can be shown that the sale of ZJ was bona fide and objectively fair and in the interests of the Company, when giving due deference to the director’s judgment. He also submits that a legitimate commercial transaction to sell would necessarily mean that there was no conspiracy between D1/D2 and D4/D5.

65.  As pointers to the legitimacy of the sale, Mr Tong argued that it was necessary for ZJ to be sold in late 2014 given its then poorly managed status and cash flow problems; and there was no connection to the potential buyer, who conducted proper due diligence before making an offer, which led ultimately to an agreed price based upon the valuation obtained.  He also argued that there was no concealment of the sale.

66.  However, even if one accepts the premise that the financial and business position of ZJ was precarious, and had become so because of the conduct (or misconduct) of Naibin, I am afraid I do not see why it logically follows that a sale of the entirety of ZJ was necessary.  Indeed, it seems to me to be illogical for D2 to suggest that the best way to keep ZJ “alive” was to sell it, when the relevant question should have been how best to retain maximum value in ZJ as an asset of the Company.  The stated reasons underpinning the sale do not in fact logically justify it.

67.  So I do not think any great reliance can be placed upon the audit and valuation report as a reason for selling, though it might be relevant to a decision on a selling price, if it is to be sold.  (Also, the valuation is based upon only a view of 11 months of business, without reference to previous years or any future forecast.)

68.  Of course, whether the sale was at an undervalue comes second to the question as to whether the sale was necessary in the first place.  But both points are informed by the circumstances which seem to me to point strongly to concealment by D1 and D2 from P (and so from Naibin) of the intended sale transaction. 

69.  From the time of Naibin’s arrest, as is common ground, D2 assumed complete control of ZJ (and perhaps the Company).  In her capacity as a director of the Company, P sought access to the information records, but this was denied or ignored.  P made the request through her solicitors on 10 October 2014, and by the attendance of her solicitors at the Company’s registered office on 17 and 24 October 2014.

70.  On 10 November 2014, P issued notices to the Company’s directors to convene a board meeting on 14 November 2014 (and though it probably does not matter for present purposes precisely what resolutions were proposed, they included appointing P’s daughter as director, and to procure the Company to appoint substitute directors for ZJ).

71.  On 13 November 2014, D1 notified P’s PRC lawyers that she could not come to Hong Kong for health and permit reasons, and suggested deferring the board meeting for two months.  Although D1’s representative attended the board meeting on 14 November 2014, D1 had not empowered that representative to act in her stead.  The meeting was adjourned.

72.  On 17 November 2014, P issued notices to convene a board meeting on 11 December 2014, and an EGM on the same date.  But on 8 December 2014, P’s solicitors received two counter notices from solicitors for D1 and D2, calling for the board meeting and EGM on 21 January 2015 (albeit with an almost identical agenda to that proposed by P).

73.  On 11 December 2014, D2 was present at the EGM, but had not been appointed by D1 as her proxy.  The board meeting and EGM had to be further adjourned for one week.  On 18 December 2014, the adjourned EGM was held, but D1’s appointed proxy voted against all resolutions proposed by P.

74.  On 22 December 2014, the Company’s company secretary issued notices, with content identical to the notices already issued by D1.

75.  Whilst the proposed meetings on 21 January 2015 were pending, P learned of the transfer of the shareholding in ZJ from the Company to D4.  She had not been aware of any board meeting being called to consider and, if appropriate, approved such a transaction.  Indeed, it seems that no such meeting in fact took place.  Had such a meeting taken place, I would have expected a proper consideration of whether to sell at all, and if so at what price and on what basis, by reference to different potential valuation bases. Of course, none of this happened.

76.  Instead, there is a document which purports to be a resolution of ZJ, by which ZJ purported to resolve for the Company to sell its entire shareholding in ZJ to D4 at the price of RMB 13.8 million.  That document is said to have been signed by D3, though she denies having signed it.

77.  On 21 January 2015, the Company’s EGM took place.  By the vote of D1 as 55% majority shareholder, D2 was appointed a director of the Company. The ratification of the share transfer, which D2 says took place at the EGM, took place only after the representatives of P have left the meeting.  But I might add here that I do not think it likely that a misappropriation of a company’s assets by a decision of some of the directors can be ratified by shareholders in general meeting in any event.

78.  Anyway, these steps all took place against the chronology of the negotiation and making of the share transfer agreement.  By the time P called meetings in early to mid‑November 2014, D5 had visited ZJ’s factory in late October as part of his due diligence process.  During that visit, he met D1 as well as D2.  Two further visits by D5 took place at on 5 to 7 November and 19 to 21 November 2014.  A fourth visit took place on 3 to 5 December 2014. 

79.  The actual price discussions took place between 16 and 18 December 2014, and the price was agreed on 18 or 19 December 2014.  The share transfer agreement was signed on 19 December 2014, and approved by the PRC authorities on 25 December 2014.

80.  Throughout this period, D1 and D2 were of course working on the basis — which they now say was mistaken and without proper foundation — that P was a director and shareholder of the Company.  However, despite that fact, and despite the fact that there was plainly no difficulty in effecting communications between the parties and their respective instructed solicitors, there was no mention whatsoever by D1 and/or D2 of any proposal to sell the only asset of the Company, being its shareholding in ZJ.

81.  On the basis that D2 was still labouring under the ‘misapprehension’ that P was in fact a director and shareholder of the Company, there would have been no reason not to tell her about a proposed transfer unless he wished to keep it from her (and Naibin). 

82.  I do not think it is open to D1 and D2 now to say that on the proper shareholdings there was no need to have sought approval from P, and I reject as irrelevant the submission now made for them that whilst there may have been technical irregularity in the lack of a board meeting, as P was a nominee only consultation with her would have been futile.  Nor is it an answer for D1 and D2 to say they were going to discuss the transaction with P after it had taken place (as it happens at an EGM more than a month after the event of the share transfer agreement, ad after the ex parte order was granted in these proceedings).

83.  Thus, the circumstances seem to me to suggest rather strongly that the proposed transfer of the shares was being negotiated, whilst being deliberately concealed from P.  The various delays of the meetings also seem to have been to further that concealment, and as Mr Lin submits, to buy time.  That is bound to give rise to the question why.

84.  On the materials I have, there is at least a sufficiently arguable answer to that question, namely that it was because D1 and D2 knew the transfer would not have been agreed by P (or Naibin) and/or that it was at an undervalue.

85.  I have also in mind that the share transfer agreement was signed, supposedly by D3 (though she denies it), at a time when Naibin had been in custody for some time, so that it could not have been Naibin who made or obtained or gave instructions for obtaining the signature.  Indeed, despite his attempted explanation as to how D3’s signature came to be on the document, D2’s own case was that he was the person in charge of the transfer negotiations and conduct of the sale of ZJ to D4.

86.  I am wholly satisfied P has established the necessary serious issue to be tried.

Material non‑disclosure

87.  As to the allegations of material non‑disclosure, I do not accept them.  It seems to me that P did indeed identify the management structure of the Company and ZJ (and what is said to be non‑disclosure is in reality the competing or conflicting version of events put forward by D1 and D2, some of it inconsistent with how they themselves were behaving contemporaneously), and P did deal with the arrest of Naibin (though, again, there may have been differences in the explanation for that, resulting from the competing or conflicting cases).

88.  In any event, had I been persuaded that there was non‑disclosure of sufficient materiality, I would not have discharged the ex parte order for that reason, nor would it prevent me continuing the injunction on an inter partes basis for that reason.  Nor do I accept the allegation of ‘unclean hands’.

Serious issue as against D4

89.  Mr Lin starts his argument against D4 with the submission that as D3 denies having signed the share transfer agreement, that would make it an instrument of fraud, so a nullity, against which D4 would have no answer.  But, in any event, Mr Lin argues that D4 could not simply have relied on D1’s substantial shareholding in the Company as conferring authority on D2 to proceed with the transaction on the Company’s behalf.

90.  This is particularly so, he says, where there has never been any board resolution of the Company approving the sale of ZJ to D4, a sale of the only asset of the Companies so that it could not be described as a disposition in the ordinary course of business.  In any event, it was clear from the document filed at the Registry that D3 had resigned as a director of the Company more than one month before the date of the share transfer agreement was purportedly signed by her (and which document was filed at the Registry nearly three weeks before the share transfer agreement was signed by D5).

91.  On the basis that D5 claims to be a professional with substantial management and mergers and acquisition experience, Mr Lin submits that D5’s affidavit evidence is incredible.  First, no bona fide buyer having seen the Company’s Registry filings would have failed to ask P to confirm she had no interest in the Company, and would have been content to leave to only named persons decisions relating to the Company’s only asset. 

92.  Secondly, he says D5 should have known that D1 as merely a majority shareholder could not have represented, in a way that would bind the Company, that D2 could represent the Company and be the person in charge for the transaction.

93.  Thirdly, he says D4 and D5 purport to have relied on a valuation report, which was not prepared for the purpose of the transaction and where the valuer was not engaged by D4 or D5.

94.  Fourthly, he says that D5 must have been aware that he was not entitled to assume D3 had been authorised to enter into the share transfer agreement, and that it is incredible that he would not have asked for sight of the board resolution of the Company approving and authorising the transaction. It might be added that D5 might at least have sought an updated company search which would have revealed that D3 was no longer a director anyway.

95.  Hence, Mr Lin submits that P has satisfied that there is a least a serious question to be tried on the claim against D4 and D5.  He further points out that the burden would be on D4 and D5 at trial to establish the defence of being bona fide purchaser for value, and that that is not something which P has to disprove at this stage.  At the very least, it is said, D4 and D5 must have turned a blind eye to the obvious.

96.  In response, Mr Deng submits that D4 and D5 had no knowledge of any shareholder disputes within the Company and were for all purposes innocent third parties, and it is not open to the Company (represented by P in this common law derivative claim) to rely on the alleged illegality of the share transfer agreement to claim restitutionary relief against third parties to whom the legal interest has already passed.

97.  Mr Deng characterizes Mr Lin’s submissions as being at the highest that D5 as a professional investor and third party should have taken more care and performed more investigations before committing himself to the share transfer agreement.  But, he says, P is unable to show on the facts that D5 was irrational in relying on the representations he says were made to him, and all the objective evidence supports his reliance on those matters.  He says there is no real evidence that D4 or D5 were involved in any conspiracy with D1, D2 or D3.

98.  Of course, Mr Deng relies heavily on the ‘indoor management rule’, and points out that D4 or D5 relied on a series of representations from D1 (as majority shareholder and a director), D2 himself (as legal person of ZJ, and claimed beneficial owner of the Company), Mr Yang (a senior manager of ZJ) and the share transfer agreement itself, that D2 had at least ostensible authority to conclude the transaction. 

99.  But I do not think a disposal of a company’s assets at an undervalue can be categorized as anything other than a misappropriation, or that it is a matter of the internal management of a company with which the court could not interfere.

100.  Mr Deng also relies on certain other features of the case, namely that the transfer of the shares was to benefit only the Company, and payments were to be made in tranches to the Company; there was arms-length negotiation following a thorough due diligence process in which a valuation and audit report was performed; and it would have appeared to D4 or D5 in the light of the earlier representations and the execution of the agreement by D3, that any necessary resolution would have been secured to affect the lawful transfer of the shares.

101.  Mr Deng further relies on the fact that, notwithstanding any illegality involved in the contract, the ownership in the shares had already passed.  It would not be open to the Company to rely on the wrongdoing of its own officers in seeking to rescind the share transfer agreement.  Also, the fraud exception does not apply in the present case because D4 and D5 are innocent third parties, and such fraud as is alleged can be attributed to the mind of the Company.

102.  Lastly, he says that no inference can fairly be drawn against D4 from the fact that it still wishes to go through with the transaction notwithstanding now being caught in this dispute and the trouble identified with it.

103.  I recognise the force in some of these submissions.  I accept, for example, that the email negotiations have the look of genuine arms-length dealings.  However, that D4 can identify good arguments against the claim does not mean that P has not identified a serious issue to be tried between them. 

104.  Balancing the various arguments, it seems to me that there is a serious issue to be tried as between P and D4.  I do not need to go so far as to hold that D5’s affidavit evidence is incredible, but there is sufficient force in the points made on it, as against all the circumstances, that identify the serious issues to be tried.

Adequacy of damages and balance of convenience

105.  As to the adequacy of damages, Mr Lin submits that damages could not be an adequate remedy for the Company’s loss caused by the transfer of its interest in ZJ to D4 without a proper resolution.  This is particularly so in that new management taking over control of ZJ could make decisions which would be difficult to unscramble later.  Indeed, he says, ZJ might be in a very different form sometime down the road.  Hence, he says, it is not possible to see what damage the Company would suffer if the injunction is discharged.

106.  I have been reminded that the question of balance of convenience is in substance about the balance of risk of injustice, and that all other factors being equal, courts usually incline to preserving the status quo immediately before the issue of the writ, or before the acts complained of have begun.

107.  Mr Lin says that it is clear that the defendants have not been acting in good faith, and that their conduct leaves much to be desired from a commercial morality point a view.  Therefore, he submits, that absent an injunction, there must be a real risk that the defendants would continue to exploit and misuse their position, power and authority by taking further action to the prejudice of the Company, which would be irreparable harm if subsequently at trial the court finds that the share transfer agreement is invalid.

108.  So, Mr Lin says that the balance of convenience falls in favour of preserving the status quo, by which he means preventing the share transfer agreement from being completed.

109.  On the other side, Mr Tong and Mr Deng suggest any consideration of the adequacy of damages for either side and the balance of convenience points firmly against the imposition or continuation of an injunction.

110.  To be fair to Mr Tong for D1 and D2, he led his submissions with the balance of convenience argument.  In my view, that was correct as it is his strongest point.  It encompasses two main aspects under the existing ex parte order, namely the prevention of the implementation of the sale of the shares, and the prevention of dealing with the underlying assets.

111.  As to the first point, where the formalities of transfer have been completed, it could be said to be in the best interest of the Company to receive the balance of the payment from the purchaser of the shares.  Indeed, Mr Tong submits that whatever the result of the action, it is difficult to see why the Company should be prevented from being paid.  Of course, Mr Lin says that there is no term of the injunction as actually prevented the balance of the purchase price being paid, though Mr Deng disputes that.

112.  As to the assets of ZJ, Mr Tong submits that the management should not be prevented from carrying on the business.

113.  Mr Tong says that the continuation of the injunction gives rise to a serious risk of irreparable damage to, if not total loss of, ZJ which there is no realistic prospect of compensation from any conceivable cross undertaking in damages from P.

114.  He points out that the starting point must be that P is suing for and on behalf of the Company, that is, for the benefit of the Company, and it is on this basis that the prejudice ought to be assessed.  I agree. 

115.  He also points to the muddled approach of P in the expression of concern about further dissipation of assets of the Company, when the injunction concerns only the sale transaction and there are no other assets of the Company.  But, whilst I also agree with that, the point seems to me to cut two ways.

116.  The best point is that D1 and D2 and D4 and D5 have deposed at some length to the prejudice that would be caused to all parties were the injunction to be continued.  First, D2 as the central person to carrying out the business of ZJ, at least in the transition period is debarred from participatingentirely. Secondly, so is D4, as the new legal owner of ZJ.

117.  As a result of the injunction, ZJ has been in limbo, including that it is risking its loss of goodwill through the vacuum of top level management, against what was already said to be a difficult cash flow problem and the inability to pay for supplies to be used to produce the product which might be sold at a profit.

118.  Mr Tong says that D1 and D2 would undertake not to cause or procure selling, charging, transferring, disposing of and/or otherwise dealing with the assets and/or business undertakings of ZJ other than in the ordinary course of business of ZJ without approval from the court.

119.  As to the effect of the injunction in its current wording, Mr Lin says it was never meant to prevent the operation of ZJ in its ordinary business.  That may not have been the intention, but I think the wording does have the practical effect of preventing any real operation of the business by D2 and/or D4 at least. 

120.  Mr Lin says that, if necessary, I can make the point clear by adding a paragraph to the order that says that nothing in the order shall preclude the defendants from operation ZJ as a going concern and dealing with its assets for the purpose of and in the ordinary course of its business.

121.  However, that addition would seem to me to identify, and indeed be recognition, that ZJ should be able to be operated as a going concern in its ordinary business, and that fact tends to point away from an injunction of the sort so far in place.

122.  Mr Tong also says that the cross undertaking in damages from P, even though fortified already to the extent of RMB 1 million, does not convince that P would ever be able to honour the cross undertaking.  On the other hand, he says, D2 has made frank disclosure of his assets to show that he could satisfy any damages claimed by P in the end.

123.  In short, Mr Tong says that the injunction is unnecessary to protect the alleged interest or right of P, when it makes no sense to bring the share transaction to a standstill.  So long as there is no dealing with or dissipation of the assets of the Company or ZJ, other than in the ordinary course of business, there is no need to prevent the defendants from participating in the management of ZJ.  On the contrary, it would be in the Company’s best interest to keep ZJ going and to have the remainder of the consideration for the share transfer agreement to be paid to the Company.

124.  Mr Deng says on behalf of D4 that there is nothing to suggest that the balance of convenience lies anywhere but in favour of discharging the injunction against D4.  In particular, though ZJ is at present a going concern, the continued imposition of the injunction against the current financial predicament and uncertainties over management would cause irremediable prejudice to D4.

125.  As part of his submissions, Mr Deng also told me that D4 would undertake (1) to pay the balance of the RMB 10 million to the Company pursuant to the share transfer agreement, and (2) pending the resolution of the trial against, and upon any assignment, transfer or alienation by D4 of the shares or interest (beneficial or legal) in ZJ to put such purchaser or investor on notice of the proceedings, including the claimed relief of rescission sought by P. 

126.  At the end of the day, I am persuaded that the balance of convenience points in favour of the defendants.  The claim brought is really that of the Company.  Its loss is the value of its only asset, namely the value of or in ZJ.  I would think that it is possible to place a value upon ZJ at the material date or dates, and (for example) to identify whether it was sold at an undervalue or not.  That valuation need not be on the same basis as that taken in the valuation that is said by D2 and D5 to underpin the sale to D4 (about which there are legitimate doubts, at least) and may take into account income streams or a combination of valuation methods.

127.  But the balance does not seem to me to rest in preventing the sale transaction going through or in any way effectively preventing ZJ from operating.   I think there is real force in permitting ZJ to operate to the fullest extent possible, so as to obtain or retain its maximum value.

Post‑hearing submissions

128.  After the hearing, the solicitors for D1 and D2 wrote to me as regards the submissions as to the proper effect and intention of the injunction order, and in particular whether — contrary to the suggestion of Mr Lin at the hearing — P had intended to prevent the dealing with ZJ’s assets even in the ordinary course of its business.  Earlier correspondence between the parties was attached.

129.  In response, the solicitors for P objected to what they considered was the making of further submissions by P after the hearing had concluded, whilst making a few points themselves.  The solicitors for D4 also offered some clarification.

130.  I have been able to decide this matter without close reference to this ‘after-the-hearing’ exchange of correspondence, as I consider the various points were already sufficiently clear from the written and oral submission already made.

Conclusion

131.  On the basis of the undertakings offered by D1 and D2 and D4 referenced above, which I accept save that the balance of the RMB 10 million due from D4 under the share transfer agreement should be paid into court, I will discharge paragraphs 1 and 3 of the Au J injunction order with immediate effect and I will not continue that injunction.  Paragraph 2 shall be continued.  This approach seems to me to carry the lower risk of injustice if it should turn out that it is wrong.

132.  I will make an order as to costs that the costs of all three applications, namely the Summons and the Discharge Summonses, shall be costs in the cause.  The costs order will be an order nisi in the first instance and will become absolute after 14 days.  Hence, should any party wish to vary that order, the application shall be made by letter within 14 days, and the letter shall contain the argument of the applicant.  The other parties shall have seven days to make any reply submission(s), and I shall thereafter decide the matter on the papers.

133.  I thank Counsel for their assistance.