KIDDIE PRODUCTS CO. LTD. v. WONG MAN KAM PATRICK

HCA2008/2002

IN THE HIGH COURT OF THE

HONG KONG SPECIAL ADMINISTRATIVE REGION

COURT OF FIRST INSTANCE

ACTION NO.2008 OF 2002

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J U D G M E N T

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The Applications

1. I have before me two summonses. The first is a summons by the defendant to discharge a Mareva injunction obtained ex parte by the plaintiff from Ma J against the defendant on 24 May 2002 whereby the defendant was restrained from disposing of his assets up to the limit of $21,968,745.80. The second is a summons by the defendant, as an alternative to the first, for a variation of the Mareva order so as to increase the amount that the defendant be allowed to spend on legal expenses from the sum of $200,000 originally provided in the order to just over $1,000,000 up to the discharge of the injunction.

Background

2. The plaintiff is a Hong Kong company. It has three shareholders and directors. These are Madam Yuen Kung Chun ("Madam Yuen") who holds 47.1%, the defendant who holds 35.5% and Tommy Fong Chi Kwong ("Fong") who holds 17.6%. Fong is Madam Yuen's brother-in-law. The defendant was a friend of Madam Yuen's late husband who passed away in 1993.

3. The plaintiff was established in about 1987. Since then, it has been carrying on the business of a toy manufacturer, with offices in Hong Kong and a factory in Po On County in the mainland. At all material times, its main if not the only customer is a company in which the defendant has majority control called Lauender Company Limited ("Lauender"). Lauender is a trading company. The defendant holds 78.27% of Lauender, Fong is also a shareholder, holding 10% and other shareholders hold the balance.

4. It is not disputed that Madam Yuen did not take any part in the day to day running of the business of the plaintiff. She relied on Fong and the defendant to run the business.

Evidence and Submissions

5. When the plaintiff applied for the Mareva injunction against the defendant, it relied on only one affirmation in support, that of Madam Yuen. The plaintiff's case was that the defendant deceived the plaintiff in the total sum of $21 million by fabricating bogus sub-contracting charges.

6. Yuen stated in her affirmation that the defendant was in charge of the management and administration of the plaintiff and the marketing of its products; and that Fong was responsible for production matters in the factory in China. She said that some time this year she was alerted by a firm of accountants to questions over the sub-contracting charges in the plaintiff's account. She said that Fong told her that the plaintiff sub-contracted part of its production to factories in the mainland from time to time when the plaintiff's factory was unable to meet the deadline of the purchase orders and that she understood from Fong that at all material times the defendant was in charge of the sub-contracting matters in mainland China.

7. According to the Director's Reports, the plaintiff was recorded to have paid sub-contracting charges during 1995-1999 in the following sums :

1995 HK$6,627,843

1996 HK$6,140,591

1997 HK$6,236,457

1998 HK$4,157,826

1999 HK$6,199,813

8. Yuen deposed to the fact that in early May 2002, the accountant asked Fong for copies of the vouchers or invoices relating to the sub-contracting charges. Fong produced various vouchers and invoices which related to five factories in Dongguan. From the documents produced by Fong, the accountant worked out the total amount of the charges recorded as paid to these five factories to amount to $22,929,780. The accountant discovered in the course of inspecting the company's books some blank envelopes and blank writing paper of some of these factories. This aroused Madam Yuen's suspicion on the genuineness of the transactions with the five factories in Dongguan and she instructed the accountant to seek the assistance of lawyers in China to carry out an investigation.

9. According to Madam Yuen, the accountant was asked to check with Fong, and Fong produced certain records of the plaintiff including those for the years 1995, 1997 to 1999. These were said to show the genuine subcontracting charges incurred by the plaintiff over the years as :

1995 $134,628.79

1997 $121,530.10

1998 $494,274.10

1999 $502,760.20

10. Investigations by lawyers in Guangdong revealed that two of the factories who appeared on the plaintiff's records to have charged for sub-contracting work did not even exist. Another one of the factories had indicated that it had not had any business with the plaintiff since 1994.

11. The plaintiff submitted on the ex parte application that there was a good arguable case that the defendant committed fraud against the plaintiff and derived personal gains by fabricating transactions with "pseudo" factories in China. There is also an allegation that the defendant took action to destroy relevant documents and records in an attempt to conceal his wrong-doings.

12. The defendant made two affirmations himself and relied on two others to support his application for discharge. The gist of the defendant's case on material non-disclosure is that it was Fong (and not the defendant) who was responsible for finding sub-contractors in China and making decisions on who to engage. The defendant points to the fact that many of the invoices relating to sub-contracting which are exhibited to Madam Yuen's affirmation were addressed to Fong. The defendant further produces vouchers of the plaintiff which show that payment to the so-called "pseudo" sub-contractors were approved by Fong. There were also cheques issued by the plaintiff ostensibly for the payment of these charges that were authorised by Fong and the defendant made payable to Fong. None of these matters were drawn to the attention of Ma J or disclosed to him.

13. The defendant further claims that Yuen was well aware of Fong's role within the plaintiff. He relies on the fact that Fong regularly sees Yuen and their respective residences are in the same building. Counsel for the plaintiff submitted that the plaintiff's duty to disclosure is a strict duty and applies to matters known to the plaintiff or his agents, or matters which they ought to have known, had they made all inquiries which should reasonably have been made prior to the application (see Gee, Mareva Injunctions and Anton Piller Relief, 4th ed., p.129).

14. When the summonses were called on, the plaintiff sought leave to file three affirmations out of time. In the absence of any opposition from the defendant, I gave leave for them to be filed. One of these is an affirmation by Fong. Fong stated that in making this affirmation, he had received independent legal advice and was prepared to tell the truth, notwithstanding that what he stated may incriminate him and be used as evidence against him in subsequent legal proceedings. In this affirmation, Fong denied that he was in charge of the day-to-day management or administration of the plaintiff. He admitted, however, that he and the defendant were parties to certain schemes which were devised by a former accountant of the plaintiff. These schemes involved the making up of false vouchers and invoices in respect of sub-contracting charges. Paragraph 9 of that affirmation states :

"The Defendant and I used the blank writing papers of the sub-contractors that the Plaintiff had used in the past, to prepare false invoices and vouchers. As a consequence of the scheme, the Plaintiff had in effect, on numerous occasions, manufactured toys for Lauender for free. The schemes devised were those set out in the Affirmations of Lok Wing Cheung dated the 4th of July 2002..."

15. He continued in paragraph 10 to state :

" As (the accountant) had advised the Defendant the names of these sub-contractors should no longer be used in the Schemes, the Defendant asked me to make up names of fictitious sub-contractors and to order company chops to be made in respect of the fictitious sub-contractors and writing paper and envelopes bearing the names of the fictitious sub-contractors. As instructed, I asked (a staff who was named) to place an order for company chops to be made in the name of Li Da and Hong Hing. This was done. When (the accountant) was preparing the Plaintiff's audited accounts, he would give the Defendant a rough figure of sub-contracting charges for that particular year and the Defendant would make up or instruct me to make up false invoices, vouchers and documents in the name of the bogus sub-contractors.

I asked the Defendant what was to happen to the monies that were taken from the Plaintiff under these 2 schemes. The Defendant told me that the money would form a pool which would be divided between the shareholders of the Plaintiff in accordance with their respective shareholdings. It was only recently that I realized that the Defendant used these schemes to defraud the Plaintiff."

16. The "schemes" that Fong referred to in his affirmation were elaborated upon in an affirmation made by a staff of the accountant firm recently instructed by the plaintiff to investigate into these matters, Mr Lok Wing Cheung ("Lok"). The first scheme was said to involve the following :

(1) documents in respect of sub-contracting works were fabricated,

(2) Lauender was treated as having paid these sub-contractors on the plaintiff's behalf,

(3) the sums allegedly paid by Lauender were entered in the plaintiff's books as debts due from the plaintiff to Lauender,

(4) these sums would then be set-off against sums due from Lauender to the plaintiff for genuine manufacturing charges.

The effect was that the plaintiff manufactured toys for Lauender without getting paid.

17. The second scheme was more complicated. It is said to involve the following :

(1) documents would be fabricated to show transactions between the plaintiff and bogus sub-contractors in the mainland,

(2) the plaintiff would then draw cheques against these fabricated documents in favour of Fong, or in some cases, to a person named Tse, who would in turn draw cheques of similar amount to Fong,

(3) the cheques drawn on behalf of the plaintiff would be entered into the plaintiff's books and records as payment of sub-contracting charges, which were in fact bogus,

(4) the money would be received by Fong in a joint account held by Fong and his wife,

(5) Fong would then draw a number of cheques in favour of the plaintiff. The total sum of the cheques drawn by Fong in favour of the plaintiff was said to be close to, if not equal, the sum of the plaintiff's cheques drawn in Fong's favour,

(6) Fong's cheques would be entered in the plaintiff's books and records as directors' loans,

(7) the plaintiff would then draw cheques, close to, if not equal to the amount entered in the plaintiff's books as directors' loan in favour of either Fong or the defendant,

(8) in respect of sums received by Fong, he would draw cheques for identical/similar sums in favour of Lauender.

18. It is patently obvious from these new affirmations that the Judge dealing with the ex parte application was not told facts which are now disclosed in the affirmations of Fong and Lok and that these facts are material. But even with the latest affirmations, I am far from satisfied that Fong has given the Court the full picture. The documents produced show that a great deal of the money was channelled to Fong, and although he said that the money ended up in Lauender or the defendant, the court has not been provided with documentary evidence of where the money eventually went to. For reasons which will become apparent, counsel for the plaintiff was even constrained to submit that the Court should not accept part of Fong's evidence. That is the part where he claimed that the defendant told him that the money would form a pool to be divided among the shareholders and that he only realized recently the defendant used these schemes to defraud the plaintiff.

19. Mr Remedios' main submission is that the Court should not treat Fong's knowledge as that of the plaintiff. He says that the Court is dealing here with a massive fraud practised by Fong and the defendant on the plaintiff. He reminds me that it is not in dispute that Madam Yuen played no part in the management of the company. He submits that Fong should be treated as an agent who was practising fraud on his principal and that his knowledge should not be imputed to the principal, relying on Bowstead and Reynolds on Agency, 16th ed., para.8-207. In this connection, Mr Remedios invites me to reject the exculpatory part of Fong's evidence as being obviously incredible. He accepts that the plaintiff cannot show at this stage that all the money went to the defendant, but argues that there is clear evidence that the defendant was a party to the fraud, and that he would be liable for the loss and damage suffered by the plaintiff by reason of his breach of fiduciary duties and fraud. Mr Remedios points to documents which shows the defendant's complicity in the fraud. He further submits that the defendant's conduct, in particular, with regard to the loss of the company's books and accounts, give rise to a reasonable belief that he would attempt to dissipate his assets to avoid execution of any potential judgment against him. Mr Remedios asks the Court to re-grant a fresh injunction even if I come to the conclusion that there has been material non-disclosure.

20. I accept that the plaintiff does have a good arguable case of breach of fiduciary duty and fraud against the defendant and that the evidence before me does disclose a real risk of dissipation of assets that would justify the grant of a Mareva injunction. I am further prepared to accept that the defendant has not been able to demonstrate that Madam Yuen was herself guilty of non-disclosure of any material facts known to her. However, what I have to consider is whether the plaintiff is guilty of material non-disclosure and, for that purpose, consider whether the knowledge of Fong should be imputed to the plaintiff, and if not, whether the plaintiff would nevertheless have discovered the facts now disclosed by Fong had the plaintiff made reasonable inquiries before launching the ex parte application.

Should Fong's knowledge be imputed to the plaintiff?

21. On the question of whether Fong's knowledge should be treated as the plaintiff's knowledge, I must have regard to the following facts and matters :

(1) this action was commenced on the authority of a resolution of the plaintiff's board of directors signed by Madam Yuen and Fong,

(2) that Fong remains to this day a director of the plaintiff,

(3) from the date when the plaintiff applied for the ex parte order up to the present hearing, Fong has been co-operating with Madam Yuen in the conduct of this action,

(4) although there is a suggestion from counsel that the plaintiff would join others including Fong as defendants, this has not been done.

22. In these circumstances, I am of the view that Fong is and was at all material times an agent of the plaintiff, and that his knowledge must be regarded as the plaintiff's knowledge. It follows that the plaintiff has not made full disclosure of matters within the knowledge of its agent. I accept Mr Fung's submission that the principle cited from Bowstead does not apply here, since it is Fong's case in his affirmation that he took part in the schemes not for the purpose of defrauding the plaintiff, but upon the understanding that the money would be distributed among shareholders. I am unable to accept Mr Remedios' submission that I should disregard that part of Fong's evidence. This is, after all, an affirmation made by a director of the plaintiff, filed on its behalf to be used in these proceedings to resist the defendant's summons for discharge.

Conclusion

23. For these reasons, I find that the plaintiff failed to make material disclosure in obtaining the ex parte order from Ma J. I exercise my discretion to set aside the order dated 2 May 2002 as varied by the order of 31 May 2002. The failure on the part of Fong to make disclosure cannot be regarded as inadvertent. As I said, I am not satisfied that what has now been disclosed can be regarded as full and frank. In these circumstances, I do not consider that it would be appropriate to re-grant a fresh injunction.

Summons for variation

24. In the event, there is no need for me to make any order on the summons for variation. I merely observe that had the need arisen, I would be prepared to accede to the request for variation, but would consider the quantum sought to be excessive. I would have allowed a variation of up to $500,000 for legal costs.

Costs

25. As to costs, I make an order nisi that the plaintiff shall pay the defendant's costs of the summons for discharge, with certificate for two counsel. I make no order as to costs on the variation of summons. I give the parties liberty to apply.