LIU HSIAO CHENG v. WONG SHU WAI AND OTHERS

HCA 1278/2013

IN THE HIGH COURT OF THE

HONG KONG SPECIAL ADMINISTRATIVE REGION

COURT OF FIRST INSTANCE

ACTION NO. 1278 OF 2013

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(by original action)

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 (by counterclaim)

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D E C I S I O N

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1. By a Summons dated 16 October 2014, the plaintiff (who is the 1^st defendant by Counterclaim) (“Liu”) applied to strike out the entire Amended Counterclaim and related paragraphs of the Amended Defence of the 1^st defendant (and plaintiff by Counterclaim) (“Wong”) pursuant to O 18, r 19, RHC on the ground that they disclose no reasonable cause of action.

2. By an Order dated 12 February 2015 (“Order”), Master Chow struck out paras 125 and 127 of the Amended Counterclaim and awarded Liu 80% of his costs.

3. Wong now appeals against the Order and Liu cross-appeals to strike out also paras 43(f), 43(g) and 94(c)(i) of the Amended Defence and para 126 of the Amended Counterclaim. 

Background

4. This is yet another case where former business partners are locked in a legal battle.  According to the pleadings filed in this action, Wang and Liu were good friends and they became partners in various business ventures in Zimbabwe.  The businesses were conducted via corporate vehicles.  The main venture was a tobacco business involving millions of dollars. 

5. Liu commenced this action as a common law derivative action (“CLDA”) against, inter alia, Wong as follows :

(a)   Gold Driven Investments Ltd (“GDIL”) is a Hong Kong company.  This was the corporate vehicle with which the tobacco trading was conducted;

(b)   Half of the shares in GDIL are held by Liu and his wife, Shen Luan.  The other half is held by Wong and his wife, Tsoi Yu Yu.  The 4 shareholders are also the only directors of GDIL.  The wives are merely nominees of their husbands;

(c)   Wong is in control of GDIL;

(d)   Liu is claiming on behalf of all shareholders of GDIL except Wong and his wife;

(e)   Liu alleges that Wong had, inter alia, breached his fiduciary duties to GDIL by committing various wrongful acts. Such acts primarily concern money belonging to GDIL.

6. Wong makes a counterclaim against Liu.  The counterclaim also takes the form of a CLDA.  In the Amended Counterclaim, apart from repeating his Amended Defence, Wong pleaded that :

(a) Liu and Shen hold 50% of the shares in GDIL. Wong counterclaims on behalf of the shareholders of GDIL except Liu and Shen;

(b) Liu was under fiduciary duties to GDIL;

(c) Liu had breached his fiduciary duties by reason of 3 wrongful acts, and for which he is liable to give an account and/or pay damages.  The 3 wrongful acts are pleaded in paras 125, 126 and 127 respectively:

(i) Liu failed to account for the sum of HK$447,636,928.67 remitted by Wong to Zimbabwe;

(ii) In March 2012, Liu caused part of the sale proceeds of the “Tobacco Business”[1] in the total sum of US$3,356,100 to be transferred to an unknown account instead of the account of GDIL;

(iii) Liu failed to cause Wonderful International (a company beneficially owned by Liu and his wife) to return a total sum of US$1,213,157.50 to GDIL.

7. In respect of the first alleged wrongful act committed by Liu, Wong has pleaded in the Amended Defence that :

(a) GDIL was incorporated for the Tobacco Businesses in Zimbabwe;

(b) GDIL would also be responsible for funding the other “Zimbabwe Businesses”[2];

(c) GDIL became the financial hub for the Tobacco Business and the Zimbabwe Businesses.  Wong would arrange funds to be transferred to various accounts according to the instructions of Liu;

(d) Liu made requests for funds from time to time and had full control of the funds remitted to Zimbabwe.  Wong relied on Liu to manage those funds with the belief that Liu would use the funds honestly and for proper purposes.  He had never asked Liu to provide any accounts for the funds;

(e) From 25 July 2003 to 31 March 2013, a total sum of HK$447,636,928.67 was remitted by Wong, through various entities, to Zimbabwe accordingly. Most of the money came from the income of GDIL paid by China Tobacco (one of its trading partners);

(f) Since about early November 2011, Liu has failed to provide an account for the funds remitted to Zimbabwe despite Wong’s repeated requests.

Issues

8. Mr Lam SC, who appeared for Wong, has identified 3 issues at the beginning of this hearing.  Those issues were agreed by Mr Wou, who appeared for Liu.  However, in the course of Mr Wou’s submissions, it became clear that the arguments here are limited to 2 issues.  They concern the requirements for a CLDA, namely, (a) whether Liu “controls” GDIL such that he can stifle any suggestion of an action by GDIL against him; and (b) whether it must be shown that Liu had derived personal benefits from the wrongdoings alleged against him.

9. This strike out application is premised solely on the ground that there is no reasonable cause of action.  No evidence is admissible.  The court shall look at the pleading alone and decide whether, on the assumption that the facts as pleaded are true, it discloses a reasonable cause of action.  It is only in a plain and obvious case that a claim should be struck out.

Amendments to the Amended Counterclaim

10. Before dealing with the issues, it should be noted that Mr Lam has accepted that there are deficiencies in the Amended Counterclaim in respect of (a) the allegations concerning Liu’s breach of fiduciary duties and (b) the allegations over the sum of HK$447,636,928.67 in para 125 in that they concern, in addition to the Tobacco Business, also the Zimbabwe Businesses.

11. Mr Lam informed the court that voluntary particulars will be provided to remedy the 1^st deficiency.  As regards the 2^nd, I give leave for the remedial amendment. 

Control

12. This is the only ground pleaded in the Defence to Amended Counterclaim of Liu in support of the contention that Wong is not entitled to sue :

(a) Wong, together with his wife, hold 50% of the shares in GDIL;

(b) Liu was never in control of GDIL;

(c) Wong made no attempt to cause or procure GDIL to sue in its own name.

13. The issue here is the control of voting power in the general meeting of the GDIL.  The critical question is whether Liu is in a position to prevent the company from suing in its own name.

14. In para 122(a) of the Amended Counterclaim, Wong pleaded that :

“As pleaded above, Liu and Shen (being Liu’s nominee according to Liu) hold 50% shares in GDIL.”

15. Mr Wou accepted that in a deadlock situation, the requirement of control can be satisfied as a matter of law. 

16. This concession was rightly made.  In Anglo-Eastern (1985) Ltd and Anr v Karl Knutz and Ors [1988] 1 HKLR 322 at 329E-F, the Court of Appeal held that, although strictly speaking there are no minorities in a deadlocked company, there is no good reason why a CLDA cannot be brought in such a case.  In such circumstances, the shareholder who has committed the wrongful act is in control of the company in the negative sense that he can prevent the company from taking action (see Glass v Atkin [1968] 1 O.R. 90-93).  As Briggs J observed in Universal Project Management Services Ltd v Fort Gilkicker [2013] Ch 551, §§18 & 54, “wrongdoer control” will arise where the aggrieved members and the wrongdoers are in 50/50 control, such that either may prevent the company from suing.

17. However, Mr Wou argued that the control element has not been satisfied when Wong did not call for a meeting to discuss an action by GDIL against Liu. 

18. There is an usual feature in this argument.  Mr Wou is relying upon an ambiguity in Wong’s pleading as to whether Liu’s wife is merely his nominee (see para 14 above).  Further, Liu’s plea that the wives are nominees has been denied in para 27 of the Amended Defence.  Hence, the foundation of Mr Wou’s argument, that Liu’s wife is not merely his nominee, is contrary to Liu’s own pleaded case. 

19. In answer, Mr Lam said that there is no legal requirement that, before commencing a CLDA, a member must first make an attempt to procure the company to sue in its own name.  Further, he argued that such an attempt would have been futile. 

20. Furthermore, Mr Lam submitted that Wong and Liu are in the same position in this respect.  If Liu is entitled to bring a CLDA against Wong, it is impossible to understand how, at the same time, he can assert that Wong is not so entitled.  There is no averment in Liu’s pleading that he had tried but failed to procure GDIL to bring an action against Wong. 

21. I agree with Mr Lam that there is no legal requirement that in a deadlock situation, the aggrieved member is required to try to procure the company to take action against the wrongdoer.  Such an act would be futile.  It follows that there is no requirement for such a plea in a CLDA. 

22. The issue is boiled down to whether the deadlock has been sufficiently pleaded by Wong.  The way in which Wong’s case has been formulated is not entirely satisfactory.  The averment could, and should, have been pleaded without ambiguity.  Indeed, the ambiguity is inconsistent with the unequivocal manner in which the deadlock point has been made by Mr Lam. However, the deficiency here does not constitute a plain and obvious case to justify a strike out. 

23. On the other hand, the deficiency should be remedied, and for which purpose Wong should take advantage of the opportunity to amend his pleading (see para 11 above).  I extend the leave to amend to cover this deficiency.

Fraud for the purpose of CLDA

24. The analysis of the 2^nd issue (see para 8 above) should start with an examination of the element of fraud which gives rise to a CLDA.  In Anglo-Eastern (1985) Ltd, supra, at pp 327C-328H, the Court of Appeal held that, in the context of a CLDA, fraud is not limited to common law fraud; it includes fraud in the wider equitable sense.  There is no doubt that fraud in the present context includes breach of fiduciary duty (see Universal Project Management Services Ltd, supra, §§18 & 54).

25. Mr Wou did not quarrel with the proposition that breach of fiduciary duty is a specie of fraud which can be relied upon in a CLDA.  Therefore, prima facie, the Amended Counterclaim is properly constituted. 

26. The controversy is boiled down to Liu’s contention that to properly constitute a cause of action under a CLDA there must be a plea that the wrongdoer has received some personal benefits by reason of the acts complained of. 

27. This argument cannot apply to para 127 because Wong has pleaded in that paragraph that the monies in question were received by Wonderful International, which is a company beneficially owned by Liu and his wife.

28. The legal question here is whether it is an essential element in a CLDA based on breach of fiduciary duties that the wrongdoer is in receipt of benefits by reason of his wrong.

29. Mr Wou’s argument is based on the following dicta by Templeman J in Daniels v Daniels [1978] Ch 406 at 413H-414B (the dicta was cited in Anglo-Eastern (1985) Ltd, supra, at p 327G-I) :

“The authorities which deal with simple fraud on the one hand and gross negligence on the other do not cover the situation which arises where, without fraud, the directors and majority shareholders are guilty of breach of duty which they owe to the company, and that breach of duty not only harms the company but benefits the directors. In that case it seems to me that different considerations apply. If minority shareholders can sue if there is fraud, I see no reason why they cannot sue where the action of the majority and the directors, though without fraud, confers some benefit on those directors and majority shareholders themselves. It would seem to me quite monstrous – particularly as fraud is so hard to plead and difficult to prove – if the confines of the exception to Foss v Harbottle 2 Hare 461 were drawn so narrowly that directors could make a profit out of their negligence.”

Templeman J further held at p 414D:

“… a minority shareholder who has no other remedy may sue where directors use their powers, intentionally or unintentionally, fraudulently or negligently, in a manner which benefits themselves at the expense of the company.”

30. Acting in the best of tradition of the Bar, this court’s attention has been drawn by Mr Lam to a recent English first instance judgment which supports Liu’s argument.  In Abouraya v Sigmund & Ors [2014] EWCH 277 (Ch), David Richards J[3] held in §25 as follows :

“Equally, the authorities require that, in the absence of actual fraud or an ultra vires act, the wrongdoers should themselves have benefitted from the wrongdoing. The significance of this requirement is that their breach of duty cannot be ratified by a majority vote which depends on the votes of the wrongdoers. It is essential to the exception to the rule in Foss v Harbottle that the alleged wrongdoing is incapable of lawful ratification …”

31. Mr Lam submitted that, as a matter of Hong Kong law, it is not plain and obvious that receipt of personal benefits is an essential element in a CLDA based on breach of fiduciary duties by a director for the following reasons.

32. Firstly, there appears to be no Hong Kong authority which has considered the correctness of such proposition.  I am unable to accept the contrary suggestion by Mr Wou relying upon a dictum in CS Low Investment Ltd & Ors v Freshfields (a firm) [1991] 1 HKLR 12 at 25I :

“… the plaintiffs did not have a cause of action based on breach of fiduciary duty unless they were able to plead (and later prove) an actual conflict of duty and not merely a theoretical one, with resulting loss.”

33. With respect, that was not a case of CLDA.  It was one where the plaintiffs sued their ex-solicitors for negligence and breach of fiduciary duty arising from alleged conflict of interest.  This authority has no bearing on the legal issue in question. 

34. I also disagree with Mr Wou that in citing the dicta of Templeman J the Court of Appeal in Anglo-Eastern (1985) Ltd agreed with the proposition that in order to constitute a valid CLDA the breach of fiduciary duty relied upon must have resulted in profit made by the wrongdoer.  That point was not in issue in the case before the Court of Appeal.  The proposition derived from Daniels v Daniels which the Court approved was that fraud in the context of CLDA included fraud in the wider equitable sense (see p 328A-F). 

35. I agree with Mr Lam that Liu’s argument on the requirement of profit does not sit well with p 328I-J of Anglo-Eastern (1985) Ltd.

36. For completeness, I do not find any assistance on the other authorities relied upon by Mr Wou[4] for the purpose of resolving the present issue.

37. Secondly, Mr Lam relies on Minority Shareholders : Law, Practice and Procedure by Joffe QC and others,5th edn, §2.15(a), where the learned authors expressed doubts over the judgment in Abouraya, supra, on the point in question :

“… Equitable fraud, such as a breach of fiduciary duty, has also long been held to be sufficient. It was, however, held by David Richards J in Abouraya that even in the case of equitable fraud (although not in the case of actual fraud) it is necessary to show some personal benefit to the wrongdoer. It is, with respect, far from clear that a breach of fiduciary duty, which, at any rate in the case of a breach of a director’s duties under CA 2006, s 172 (which requires him to act in a way he considers, in good faith, would be most likely to promote the success of the company for the benefit of its members as a whole) requires an intentional act or omission on the part of the wrongdoer, should be equated with mere negligence for this purpose. This runs counter to the strictness with which the courts generally seek to hold to account those in a fiduciary position. The court has a discretion whether or not to permit derivative claims to continue in any event: the imposition of the requirement that the wrongdoer (as opposed to a third party) should have benefited personally as well as that the company must have suffered loss runs counter to the purposive reasoning underpinning Waddington Ltd v Chan Chun Hoo Thomas and Fort Gilkicker that a wrong should not be left without a remedy. If, however, some ‘benefit’ to the wrongdoer personally is a requirement, such benefit need not be a financial benefit but can be construed in wide terms. …”

38. Relying on the above commentary, Mr Lam submitted that it is highly arguable that the requirement of personal benefit should be confined to cases where the cause of action is negligence, but not fraud or breach of fiduciary duty.  He pointed out that Daniels v Daniels was a case concerning gross negligence (p 413F).

39. Thirdly, Mr Lam relies on the principle that the burden is on a director of a company who is in receipt of the company’s property to account for the same.  In Gillman & Soame Ltd v Henry Young [2007] EWHC 1245 (Ch), Deputy Judge Robert Miles QC held at §82 :

“I should say something about the burden of proof. Where a person in a fiduciary position receives property of his principal the burden is on him to account … This principle applies to company directors as it does to trustees … It is, therefore, for GSL to prove that Mr Young received a particular payment from the company; but where it does so, it is for him to show that the payment was proper.”

40. Fourthly, Mr Lam submitted that if Liu’s argument were correct, it would mean that there will be no remedy against a wrongdoer in control of a company who has committed a breach of fiduciary duty by refusing to account for property that he has received from the company, unless the other members of the company know (and can prove) that he has derived benefit from such wrong.  It is against common sense that a wrongdoer who is clever in hiding the whereabouts of the company’s property would be in a better position than one who is not so successful in such exercise.

41. For the present purpose, it is unnecessary for the court to come to any conclusion on the legal issue in question.  It suffices if the point is arguable.  I agree with Mr Lam’s submissions set out in para 38 above.  Indeed, I find considerable force his submissions on this legal issue.

42. In the course of his submissions, Mr Wou has shifted the emphasis of his argument to a requirement of loss suffered by the company as a result of the breach of fiduciary duty by the wrongdoer.  The argument relies heavily upon Heyting v Dupont & Anr [1964] 1 WLR 843.  It was a case involving a derivative action over an alleged misfeasance by the defendant in failing to exploit an invention of the company.  The holding can be found in the headnotes :

“Held, that even if a minority shareholder could sue for damages on behalf of a company against a majority shareholder-director on the ground of misfeasance without alleging fraud or ultra vires, nevertheless the misfeasance relied upon must have caused real damage to the company and since in the present case it was plain on the pleadings that the company was in such a state of paralysis that it could not have successfully exploited the invention, it had suffered no such damage, and, therefore the action failed in limine.”

43. First of all, this argument cannot apply to both paras 126 and 127 of the Amended Defence (see para 6 above).

44. In respect of the very large sum of money pleaded in para 125, Wong does not know where the monies had gone.  However, it is pleaded that “…  Insofar as such account may reveal that [Liu] has misappropriated any part of this sum, he is liable to repay the same and account for the profits made out of the same.”

45. Heyting, supra, must be properly understood.  The 2 bases which gave rise to the claim for damages in that case were described by Court of Appeal as respectively “chimerical” and “a visionary claim”.  I agree with Mr Lam that this case did not lay down any principle on what is or is not an essential requirement for a CLDA. 

46. In any case, Liu’s argument must be considered in the context that Wong does not know where the very substantial sum of money had gone because Liu had refused to discharge his duty to account for the same. Wong is therefore unable to aver any loss to GDIL.  It cannot be right that GDIL should therefore be left with no remedy.  To hold otherwise would permit Liu to take advantage of his own wrong. 

47. In the premises, I cannot agree that this is a plain and obvious case for a strike out. 

Lengthy pleadings

48. I cannot conclude this decision without mentioning the state of the pleadings.  The Amended Statement of Claim (“ASOC”) is 54-page document, excluding the 1 page statement of truth and the appendix. There are 117 paragraphs in that document. 

49. With respect, the ASOC is a very unhelpful document.  The length of it and the amount of evidence contained make it very difficult for the reader to discern the real issues in Liu’s case.  I shall desist from saying more about the ASOC because the following order was made at the beginning of this hearing after giving an opportunity to Mr Wou to address the matter :

(1) Plaintiff to file and serve a 2-page summary (in font size 13 with double-line spacing) of his case within 7 days;

(2) An index be added to the ASOC;

(3) No costs is allowed for the ASOC without an order;

(4) Liberty to the plaintiff to apply in respect of (3) above.

50. The Amended Defence and Counterclaim of Wong is also a very lengthy document of 59 pages and 129 paragraphs.  The sheer length and details have rendered it a very unhelpful document.  Such a document simply does not fulfil the function of a pleading. However, it may be said that the length of Wong’s pleading is much dictated by the length of the ASOC.  I have also ordered the filing of a 2-page summary by Wong and the addition of an index to his pleading.

51. In Li Tak Yee Samuel v Societe Generale Bank and Trust & Anr,unrep, HCA 2478/09, 16 April 2013, paras 3 to 7, this court made the following observations about lengthy pleadings (footnote omitted) :

“Pleadings

3. Before I set out the background to this case, I feel obliged to ventilate, with respect, my disapproval of the state of the pleadings. I should make it clear that the pleadings before this court do not bear the name of any of the counsel who appeared in this hearing.

4. I agree with Mr Man, who appeared for Soc Gen, that this is actually a simple case. However, anyone who has read the 41-page Consolidated Statement of Claim (“SOC”) would not think so. It is very difficult to see how that document serves the purpose of identifying the real issues in the case in a straightforward manner so that the defendants are clear as to the case they have to meet and that the court will be assisted in the just and expeditious determination of the action. Little regard was paid to the rules of pleadings – much evidence is contained in the SOC (eg, paras 17 and 32), it is repetitive (eg, paras 23 and 28) and it contains irrelevant allegations (eg, para 29). Para 29 may be seen as serving to embarrass Soc Gen.

5. The Defence of Soc Gen (“Defence”) runs to 52 pages and 200 paragraphs. It started with an “overview” section so that the readers might not get hopelessly lost in the details. In fairness, one may say that the length of the Defence was dictated in large part by the SOC. Nevertheless, it is very difficult to see how the SOC and the Defence properly serve the function of pleadings. It is a reflection of the unhelpfulness of those documents that in the course of the hearing counsel from both sides had found it difficult to identify to the court the relevant pleas on a number of issues.

6. Prolixity in pleadings is not only against the rules and unhelpful to the court, given that pleadings are the foundation on which the litigation proceeds it is easy to see that it leads to wastage of resources and delay. An obvious example is that a lengthy pleading can be followed by an extensive request for further and better particulars thereof.

7.   Further, neither the SOC nor the Defence has fulfilled any of the underlying objectives enshrined in O.1A, r.1.  It would not be right for such state of affairs to be tolerated.  I can well understand that a party who is at the receiving end of an unhelpful pleading is reluctant to challenge it by way of a strike out application because of the costs and time ramifications.  However, such a party should not hesitate to argue when it comes to costs that (a) no costs should be awarded for the unhelpful pleading and/or (b) the offender should bear the consequence of any increase in costs due to his pleading.”

52. Regrettably, unhelpfully lengthy pleadings remain a common feature in litigation in this jurisdiction.  It is the duty of the court to exercise control over its process and to weed out costs wasting practices.

53. Pleadings are meant to be succinct documents which readily inform the readers of the issues in the case.  In order to produce such a document, the drafter is required to have fully digested the facts of his case, researched the applicable law and properly conceptualized his case.  Only when the groundworks have been done, the material facts can be identified. 

54. It cannot be over emphasized that pleadings are the roadmaps for the litigation.  Unless they fulfil the function of identifying the issues, much time and costs would be wasted.  As an example, pleadings are usually the first set of documents which the court will consider in an interlocutory application for the purpose of understanding the issues in the case.  Unhelpfully lengthy pleadings would take up a great deal more of the court’s time without serving much useful purpose.  Bluntly put, reading such a document is often a waste of time. 

55. On the part of the party at the receiving end of an unhelpful pleading, he should not regard himself as entirely free from responsibility if he fails to take reasonable measure to avoid the waste of resources.  Answering prolixity with prolixity is not reasonable.  He can raise the issue with the offending party and, if that falls upon deaf ears, may apply to strike out the pleading in question.

56. There is a duty on the court to further the underlying objectives enshrined in O 1A, r 1, and to actively manage cases for such purpose (O 1A, r 4).  Where there is a need to enforce the rules of pleadings and to prevent waste of resources, the court would not hesitate in taking the appropriate actions.

Conclusions

57. For the reasons explained above, I allow Wong’s appeal and make an order in terms of Wong’s Notice of Appeal dated 18 February 2015, save that, to reflect the need to remedy various deficiencies in his pleading, I make an order nisi that Wong is to have 80% of his costs here and below payable forthwith with a certificate for counsel.  Such costs are to be taxed if not agreed. 

58. I dismiss Liu’s Notice of Appeal dated 25 February 2015 with a costs order nisi in Wong’s favour.

59. Last but not least, I am grateful to counsel for their assistance.