GRANDCO (HOLDINGS) LTD. v. HARBOUR WEALTH CO. LTD.

HCA 3388/1998

IN THE HIGH COURT OF THE

HONG KONG SPECIAL ADMINISTRATIVE REGION

COURT OF FIRST INSTANCE

ACTION NO. 3388 OF 1998

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J U D G M E N T

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The Facts

1. This is an action for breach of a sale and purchase agreement in respect of a house in Hong Lok Yuen in Taipo (hereinafter called the "Property"). At the material time, the plaintiff was the owner of the Property, which it acquired in April 1997 for $21.6 million. The previous owner had carried out certain unauthorised works on the Property. Firstly, the rear sloping garden had been filled up with earth and converted into a level garden. Secondly, there was an unauthorised cockloft over one of the rooms. The plaintiff had not inspected the Property as it was tenanted at the time when it was bought and was not aware of these unauthorised alterations. The plaintiff obtained vacant possession when the tenant vacated in September. It then sold the Property on an "as is" basis to the defendant on 5 October 1997 for $33.25 million for completion on 28 February 1998. It also granted a licence to the defendant to enter the Property for renovation purpose upon signing of the formal sale and purchase agreement on 18 October 1997.

2. Shortly after signing the formal sale and purchase agreement, Ms Cheng, a director of the defendant company (DW2), a swimming pool contractor (DW1) and some decoration workers went to inspect the Property in connection with the renovation work. DW1 discovered that the garden had been filled up with earth by about 5.6 feet. This created problems for the construction of the swimming pool because the garden would have to be reinstated to its original sloping level before approval could be sought from the Building Authority for building a pool. Thus DW2 referred the matter to her solicitors.

3. On 31 October 1997, the defendant's solicitor wrote to the plaintiff's solicitors enquiring if approval had been obtained for the filling up work and reminding them of the plaintiff's obligation to prove and give good title to the Property, including the garden on an "as is" basis, i.e. a level garden. To that the plaintiff's solicitors replied that the plaintiff had never made any alteration since it acquired the Property but invited suggestion from the defendant as to how the garden should be reinstated. On the following day, i.e. 4 November, the defendant's solicitors replied that reverting the garden to its approved form could not be an answer to the requisition and the garden would not then be sold on the "as is" basis as the defendant had contracted for.

4. Thereafter, the parties' solicitors exchanged numerous correspondence. The defendant's solicitors requested answer to their requisition about the level garden. These requests were ignored or evaded by the plaintiff's solicitors accusing the defendant of locking up the Property by a chain and lock. They alleged that the defendant had thereby claimed exclusive possession to the Property and had waived its right to requisition of title. I think the allegation was groundless and showed a total lack of good faith on the part of the plaintiff's solicitors in dealing with the requisition. There was an undisputed incident that shortly after the defendant obtained the keys to the Property on 24 October, DW2 saw the former tenant entering the Property and removing things from the Property. She promptly alerted the management office and the estate agent. Thereupon the estate agent telephoned a Ms Ng of the plaintiff company, presumably PW2, to verify the identity of the trespasser. During that telephone conversation, DW2's suggestion of putting an additional chain and lock for mutual protection was discussed as the plaintiff had some building materials stored in the Property as well. The defendant's solicitors also made repeated offers of a set of duplicate keys to the plaintiff's solicitors. On the facts, I find that as the former tenant was still retaining the keys to the Property, it was for the parties' mutual benefit or protection that the defendant installed a chain and lock. In view of the plaintiff's acquiescence and the offer of a set of duplicate keys, the installation of the chain and lock did not amount to the defendant acquiring exclusive possession over the Property. The defendant has not waived its right to requisition.

5. Then, instead of answering the requisition, the plaintiff started excavation work in the garden in an attempt to reinstate it to its original form. The defendant produced a number of photographs it took showing the plaintiff's workers and a bulldozer working in the garden. This is further corroborated by a contemporaneous complaint in a letter dated 9 January 1998 from the defendant's solicitors to the plaintiff's solicitors, in which the defendant's solicitors reminded the plaintiff that the garden was sold on an "as is" basis and that the requisition could not be answered by reinstating the garden. On 14 January, the plaintiff's solicitors replied repeating their complaint about the chain and lock and exclusive possession. They promised to provide certification by an authorized person to answer the requisition, which they did eventually produce, but that was after the garden had been fully reinstated and the staircase to the cockloft removed.

6. In the meantime, the defendant's solicitors enquired from the Buildings Department as to the legality of the level garden and cockloft. They were advised respectively on 17 January and 18 February 1998 that proposals for the alteration works have not been submitted to the Buildings Department for approval and that in the absence of approval or consent, the alteration works were unauthorized and may be subject to enforcement action under section 24(1) of the Buildings Ordinance.

7. Numerous correspondence were exchanged in which the parties' solicitors repeated their respective position. On 20 February 1998, the defendant's solicitors wrote to the plaintiff's solicitors again drawing their attention to a second stage of excavation work being carried out by the plaintiff workers since 19 February.

8. On completion of the excavation work and re-turfing, the plaintiff's solicitors wrote to the defendant's solicitors enclosing a report from Mr Shun Lok-nin (PW3), an authorized person, that there were no illegal or unauthorized or non-exempted structures or building works in the Property in purported answer to the defendant's requisition. That was unacceptable to the defendant who refused to complete the purchase on 28 February 1998 and the plaintiff forfeited the defendant's deposit.

9. On 5 March, the plaintiff instituted the present action against the defendant who subsequently registered a lis pendens against the Property in the Land Registry. On 8 June 1998, the plaintiff entered into a provisional sale and purchase agreement with Luen Yat Enterprise Co Ltd ("Luen Yat") for the sale of the Property for $18 million. As the plaintiff and defendant were unable to come to terms about removal of the lis pendens the provisional agreement was cancelled. On 13 November 1998, the mortgagee bank took possession of the Property and sold it to Luen Yat for $14.5 million. Accordingly, the plaintiff claimed damages being the difference between the purchase price under the sale and purchase agreement with the defendant, i.e. $33.25 million, and the resale price of either $18 million or alternatively $14.5 million.

The issues:

10. The defendant refused to complete because, firstly, the level garden had been reconverted into a sloping garden and the cockloft had been reconverted to a false ceiling; and secondly, that the plaintiff failed to show good title to the level garden and cockloft.

11. The plaintiff does not dispute that the level garden and cockloft which then existed were illegal structures. its case is that the defendant bought the Property with knowledge that the garden will be excavated and there was no representation that it will have a level garden. Secondly, even if the plaintiff were in breach of its obligation to deliver a level garden, that was only a breach of an intermediate or innominate term which did not justify rescission by the defendant. Thirdly, the plaintiff was entitled to protect its interest in the Property by reinstating the garden and was thereby able to show good title by substantial performance.

12. On the question of liability, the issues are therefore as follow:

(1) Whether the Property was contracted to be sold with a level garden (there is no dispute that the cockloft formed part of the "as is" condition of the Property);

(2) If yes, whether the defendant's failure to deliver a level garden and cockloft, was a breach of an intermediate term or a condition. If no, then issue (4);

(3) If the breach is of an intermediate term, whether the defendant has shown that the breach deprived it of substantially the whole benefit of the contract. If yes, or if the breach is of a condition of the agreement, then judgment for the defendant. If no, then issue (4).

(4) Whether the plaintiff has shown good title by substantial performance.

The level garden:

13. According to PW1, a director of the plaintiff, he had instructed Lung Shan Garden in September to carry out certain renovation work, including tidying up the garden, cutting trees and tidying up the soil and removal of debris before DW2 inspected the Property. He was quite evasive as to what he meant by "tidying up the soil". Another director, PW2, said that when DW2 viewed the Property, renovation work in the garden was going on and therefore the defendant knew that work would be carried out in the garden and that it was not going to get a level garden.

14. I do not find PW1 and PW2 honest and credible witnesses. Apart from PW1's evasiveness, their evidence in this respect is contradicted by their solicitors' letter dated 3 November in which they said "we write to inform you that our client has made no alteration whatsoever since they have bought the Property". According to DW2, she viewed the Property in September and October and she saw no renovation work going on in the garden. Her evidence is corroborated by the photographs she took on 29 October which show a large level garden, with no signs of being excavated. In view of the photographs and the letter from the plaintiff's own solicitors, I have no reason to disbelieve her. Accordingly, I find that when she viewed the Property it showed a level garden, which was the "as is" condition, the Property was contracted to be sold.

Obligation to deliver the level garden and cockloft is an intermediate term:

15. Mr Ho, on behalf of the plaintiff, said that there is no description in the sale and purchase agreement as to how the garden should look like or whether it is a level garden or one with a gradient. He argued that the defendant contracted for a garden and would get a garden. He submitted that common sense says that the gradient does not materially change or affect the use and enjoyment of the garden as a garden.

16. With respect, I do not agree. Though the sale and purchase agreement does not contain any description as to how the garden should look like, the description is written in the words, "as is". The plaintiff's obligation could not be discharged by merely delivering a garden of any size and gradient as Mr Ho submitted. The issue is whether the obligation to deliver the level garden and cockloft is a condition of the sale and purchase agreement or an intermediate term.

17. Mr Ho argued that the defendant had never seen the plaintiff's directors and had never communicated to them its intention of building a pool in the garden and that the communication to the estate agent acting for both parties was not sufficient. I do not agree. The estate agent acted as common agent for the plaintiff and defendant. Of course, when showing the house to the defendant, the agent was acting as agent of the plaintiff. When DW2 told the estate agent that the defendant intended to build a pool on the level garden, it must be talking to the estate agent as agent of the plaintiff. The conversation should not be treated as a piece of casual conversation between the defendant as principal and the estate agent as the defendant's own agent. Further, the plaintiff does not challenge DW2's evidence that the plaintiff agreed to the four month delayed completion and granted the licence for decoration because it would take a few months for the Building Authority to process the defendant's application for constructing a pool. Thus, the defendant's intention of constructing a pool must have been related to the plaintiff who then agreed to the delayed completion and licence. The fact that soon after signing the formal sale and purchase agreement, DW2 showed the Property to DW1, the swimming pool contractor, adds credence to her evidence.

18. Mr Ho submitted that any understandings between the parties have been superseded by Clause 29 of the the formal sale and purchase agreement which provides:

"This agreement sets out the full agreement between the parties hereto and supersedes any other commitments, agreements, warranties or understandings, written or verbal, that the parties hereto may have had with respect to the subject matter of this Agreement."

Though Clause 29 is sufficient to supersede any other commitments, agreements or understandings about the pool etc., it cannot supersede the agreement to sell the Property in its "as is" condition, including a level garden and cockloft.

19. Mr Ho then referred to Clause 7, which provides as follow:

"..... The Property is and will be sold on an "as is" basis and in the physical state and condition as it stands and no warranty or representation whatsoever has been given or is made by the Vendor or his agents regarding the physical state and condition thereof or of the building of which the Property forms part ("the Building"). In particular and without limiting the generality of the foregoing, no warranty or representation is given or made by the Vendor or his agents on any of the following matters, namely:-

(a)

(b) The physical state and condition or the legality or the user of the Property or of the Building or of any structures or erections therein or thereto;

(c)

(d) "

20. He cited Homyip Investment Ltd v. Chu Kang Ming Trade Development, [1995] 2 HKC 458, as authority for his proposition that the obligation to deliver the Property on completion on an "as is" basis is only an intermediate or innominate term of the agreement. I think counsel has been misled by an over simplified headnote. In relation to the "as is" clause, Cheung J in that case held that the plaintiff could not show that the breach of that clause deprived him of substantially the whole benefit which it was intended that he should obtain from the contract, as the plaintiff had not even inspected the property when he entered into the agreement. The text of the "as is" clause has not been recited in the judgment. I am therefore unable to place any reliance on that headnote.

21. Clause 7 would have to be interpreted in accordance with its terms. It states clearly that the Property is and will be sold on an "as is" basis. However by expressly stating that no warranty or representation whatsoever has been given or is made as to the legality or the user of any structures or erections in the Property, it must be the parties' intention that the legality of the level garden and cockloft is not a condition of the agreement, breach of which will result in rescission. I therefore find on a true interpretation of the agreement, the obligation to deliver a level garden and cockloft is only an intermediate term, breach of which will only entitle the defendant to damages, but not rescission. But that is without prejudice to the defendant's right to proof of good title by the plaintiff.

Whether the breach deprived the defendant of substantially the whole benefit of the contract:

22. The cockloft that the defendant would be deprived of was about 160 square feet. It was an enclosed space under the pitched roof without windows. As the video tape shows, it could only be used as a storage space and could not be used as living area. Compared with the total living area of the house of about 3,000 square feet, the cockloft is insignificant. The real matter of concern is the level garden.

23. Though the gradient was only 6 degrees, because of its large size, the sloping garden as reinstated shows a difference of about 5.6 feet between the top and the bottom of the slope. This is more than the height of an average person. A level garden gives a more open and superior view over its surrounding, let alone the problem a sloping garden has in relation to building a pool. To build a swimming pool on a slope would cost much more. It also involves cutting down part of the slope to create a level ground for the pool. This would increase the gradient of part of the slope as to make that part of the slope unusable. Access to the pool would have to be by way of steps. A sloping garden is also less enjoyable to walk or cycle on. I think all these drawbacks adversely affect the enjoyment of the garden, whether a pool is to be built or not.

24. The Property contracted to be sold was a luxurious detached house with a large level garden. The use and enjoyment of a garden must be part and partial of the style of living in such a luxurious property. Having viewed the photographs before and after the reinstatement of the garden, I can well appreciate the substantial difference between a level garden and a sloping one. The difference could particularly be felt by viewing the photographs and video tape showing the extent of the second stage of the excavation work while it was being carried out. By excavating the level garden to a depth of 5.6 feet, the open view one enjoyed from the garden as it was is totally lost and reduced to a sunken view within the three walls of the garden and the top of the slope. If a purchaser is not aware of the excavation work, he would probably be shocked when he entered the Property after completion to find that his garden had sunken by the height of a person and the open view from the garden totally disappeared. I find the reinstatement substantially altered the character of the garden and substantially affected the enjoyment of the garden and with that the entire Property as a whole. The substantial benefit under the contract is not just the roofed area and the garden. It is the whole style of living one can enjoy from a house of that size and a level garden with an overlooking and open view. While PW3 said it was technically feasible to re-convert the garden into a level one, it requires approval for site formation work from the Building Authority. Such approval may not be granted. If approval could be readily granted, the plaintiff would have obtained it in answer to the requisition. In my view, no amount of damages could put the defendant in the same position as if the Property had been conveyed to it in its "as is" condition.

25. Applying the test in Hongkong Fir Shipping Co. Ltd v. Kawasaki Kisen Kaisha Ltd, [1962] 2 QB 26 at 66, I find that the reinstatement of the garden to its authorized form deprived the defendant who has further undertakings to perform of substantially the whole benefit which it was the intention of the parties as expressed in the contract that it should obtain as the consideration for performing those undertaking. The defendant is entitled to accept the plaintiff's breach as repudiation and refuse to complete the purchase.

Substantial performance:

26. My finding above would be sufficient to dispose of the matter before me. However, assuming that I were wrong about the defendant's right to rescission, I shall deal with Mr Ho's claim for substantial performance. Mr Ho submitted that the vendor is entitled to remove any unauthorized structure so as to make good his title to the Property on the basis that good title can be given by substantial performance. In Goldful Way Development v. Wellstable Development Ltd, HCMP No. 2405 of 1997, the purchaser contracted to buy a detached house which it had not inspected before. There was a greenhouse in the back yard, which was an illegal structure approximately 3.93% of the total area of the property or 5.7% of the internal floor area. The Building Authority had indicated it would take enforcement action unless the structure was demolished. Yuen J followed the Court of Appeal decision in Ji Shan International Investment Ltd v. Resources Main Enterprises Ltd & Another, [1998] 1 HKLRD 800, and held that the vendor is not merely a bare or dormant trustee of the property he has agreed to sell but is a trustee having a personal and substantial interest in the property. The relation of vendor as trustee and the purchaser as cestui que trust subsists subject to the paramount right of the vendor and trustee to protect his own interest as vendor of the property. The vendor was therefore at liberty to demolish the greenhouse to protect that interest. She then went on to hold that the vendor could give good title by offering substantial performance. She correctly stated the law on substantial performance as follow at page 570:

"It is well established that in considering whether a vendor has shown good (albeit not perfect) title, the test is whether a court would at the instance of the vendor force the title upon an unwilling purchaser in a suit for specific performance (Farrand, Contract and Conveyance (4th ed.) p. 87, Manning v. Turner [1957] 1 WLR 91, Pyrke v. Waddingham (1852) 10 Hare 1).

It is equally well established that a court of equity would decree specific performance at the suit of a vendor where he is able to convey substantially (albeit not all of) what he has contracted to sell (Spry, Principles of Equitable Remedies (5th ed.) pp. 292-6).

Accordingly, as a general proposition, good title can be given where a vendor is able to offer substantial performance. To say otherwise would lead to the anomalous situation that whereas in a vendor and purchaser summons, the court would have to find that no good title is given; yet on the same material, the court would decree specific performance if the claim is heard at the same time."

27. Yuen J then held there would be substantial performance because the greenhouse was small compared with the internal area of the Property and its demolition would not materially affect the value or the enjoyment of the rest of the property. She warned that every case will have to depend on its own facts and cited Sun Great International Ltd v. Polly Hui Lai Ying, HCA No. 10742 of 1994, as an example with the contrary result.

28. In Sun Great International Ltd, the purchaser contracted to buy after having inspected the property three times. The property had an authorized roofed area of about 700 square feet which was converted into 900 square feet of living area by three illegal extensions: the under balcony addition, the skylight addition and the courtyard addition. The purchaser refused to complete because it was unable to obtain mortgage finance as a result of the illegal structures. In rejecting the vendor's contention that the defects in the title could be removed by demolition of the three illegal additions, Waung J held:

"It is a well recognised principle of conveyancing that a vendor is a trustee of the property agreed to be sold and is not at liberty to make changes to the property let alone demolish 25% of the enclosed structure of the property. I do not see how a vendor can demolish an illegal part of the property agreed to be sold and yet be able to force that property on the buyer on completion...."

29. In Max Smart Ltd v. First Super Investment Ltd, [1999] 1 HKLRD 519, the plaintiff contracted to purchase a shop with an unauthorized cockloft which was used as an office. The cockloft covered almost the entire area of the shop space. Upon the plaintiff's requisition relating to the unauthorized cockloft, the defendant offered to demolish the cockloft. Yam J followed Sun Great International Ltd and held the offer was insufficient to prove or pass good title to the property.

30. How far then should the plaintiff's paramount right to protect its own interest as vendor of the Property be balanced with its contractual obligation to deliver the Property in its "as in" condition? As Yuen J held, each case will have to be decided on its own facts. The test, as stated by Yuen J at p.570 after referring to Rutherford v. Acton-Adams [1915] AC 866, is whether the vendor will be conveying substantially what the purchaser has contracted to get. The considerations are the nature of the defect, the proportion of the whole of the land that is affected by it, and the purposes or uses for which the parties knew that it was being sold, or ought reasonably to have known that it was being sold, and on any other matters which might reasonably have affected the decision of the purchaser to enter into the agreement or which were known by the vendor to have affected the decision (see Spry, Principles of Equitable Remedies (5th ed.) at pp. 292-6. Against these considerations, one must also bear in mind that specific performance is an equitable remedy and not a contractual right. In Pang Chor Ying Annie v. Lifton Investment Ltd, [1993] 2 HKC 57 at 61, Litton JA, as he then was, held:

"If it should transpire that the vendor was unable to discharge her obligation fully - because, for instance, the furniture has been stolen or destroyed - then the court, in the exercise of its equitable jurisdiction, would order specific performance with an abatement of the purchase price, to reflect the value of the missing furniture. This is a remedy which a court of equity is entitled to give; it is not to be translated into a contractual obligation falling on the shoulders of the purchaser, in anticipation of the vendor's default, on the day fixed for completion. To give effect to the agreement in this way is to make the respective obligations clear-cut and unambiguous - which is what the parties have done by the terms of their own agreement. The vendor's argument of 'substantial performance' is to introduce an ambiguity into the contract which the words used do not permit."

31. On the facts, the defendant contracted to buy a house with a level garden. The slope covers almost the entire garden. Thus a substantial proportion of the whole of the land is affected by it. The plaintiff knew that the defendant intended to build a pool on the garden. It ought to have known how the alteration would affect the enjoyment of the garden and the cost of building a pool. The alteration is not the result of any involuntary act of the plaintiff or a supervening event which it has no control. It was brought about by the voluntary act of the plaintiff because it was unable to show good title to a material part of the Property, i.e. the level garden, as the Property would then be subject to enforcement action by the Building Authority. In the words of Litton JA, to order specific performance in the circumstances of the present case would be "translating into a contractual obligation falling on the shoulders of the purchaser in anticipation of the vendor's default", to purchase what it has not contracted for."

32. The burden of proving substantial performance rests on the plaintiff. The plaintiff has not shown that the Building Authority will as a matter of course approve site formation work to convert the garden to a level one. If approval will be readily given, the plaintiff could still argue that the cost of works could be assessed. Assuming the cost of works to be insignificant as compared to the purchase price of $33.25 million, the plaintiff can then argue for specific performance with an abatement of purchase price. If approval will not be given, then no amount of damages could restore the defendant to the same position as if the contract had been performed in accordance with its terms. In my view, no court of equity would force specific performance on the purchaser in the circumstances. My conclusion is that there is no substantial performance in this case.

33. In the circumstances, what the plaintiff should have done, and what I believe most conveyancing lawyers would have advised their vendor clients, was to admit the defect in title and offer an abatement of the purchase price. If that is not acceptable to the purchaser, then the deposit have to be returned. While no blame could be attached to the plaintiff for having an unauthorized level garden, to excavate the garden and to restore it to its authorized form was not the proper way to answer the defendant's requisition. It was wrong to force a sloping garden on the purchaser, for that was not what the purchaser had contracted for.

34. The same consideration, which applied to the garden, is also applicable to the cockloft. The plaintiff conceded it was an unauthorized structure. The defendant has obtained letters from the Building Authority that it has neither received any application nor given any approval for the construction of the cockloft and that the structure is liable to enforcement action by the Building Authority. This constitutes an encumbrance on the title of the Property. The plaintiff sought to remove that encumbrance by removing the staircase and closing the entrance thereby converting the floor slab of the cockloft into a false ceiling. Mr Lam, for the defendant, argued that the removal of the staircase is a breach of the plaintiff's obligation to deliver the Property in its "as is" condition, while the remaining floor/ceiling slab, an unauthorized structure, constitutes an encumbrance which renders the Property liable to enforcement action under section 24 of the Buildings Ordinance.

35. In Max Smart Ltd and Sun Great International Ltd referred to above, the unauthorized structures amounted respectively to about 50% and 25% of the floor area contracted to be sold. The courts held that the vendors could not show good title by offering to demolish the unauthorized structures.

36. However, the present case is clearly distinguishable. The cockloft was only 160 square feet as compared to about 3,000 square feet of living area in the house, i.e. about 5% of the floor area. As the video shows, it is an enclosed area with no window and is of little use except for storage purpose. I consider it even less significant than the greenhouse to the purchaser in Goldful Way Development Ltd. As for the remaining floor/ceiling slab, I do not think there is any real risk of enforcement action in view of the insignificant nature of the slab. If this were the only encumbrance, I would have held that the plaintiff could offer substantial performance by removing the staircase. But in view of my finding about the level garden, this additional finding cannot help the plaintiff.

Conclusion

37. Thus, by restoring the garden to its authorized form, the plaintiff was repudiating its contract to deliver the garden in its then "as is" condition, which deprived the defendant of substantially the whole benefit of the contract. In addition, the plaintiff was unable to show good title by substantial performance. The defendant was therefore entitled not to complete the purchase.

38. In conclusion, the defendant is entitled to return of its deposit of $3,325,000.00, the management fee it paid totalling $7,449.70, and stamp duty of $914,375 in accordance with Clause 33 of the sale and purchase agreement. The total amount is $4,246,824.70. In addition, it is also entitled to recover the conveyancing costs and disbursements it paid. That will have to be taxed, if not agreed.

39. Accordingly, I dismiss the plaintiff's claim and enter judgment for the defendant on its counterclaim in the amount of $4,246,824.70 plus conveyancing costs and disbursements, with interest at half judgment rate from the date of the counterclaim until judgment and thereafter at judgment rate until payment. I also grant a declaration that the defendant is entitled to a lien over the Property. The defendant shall have costs against the plaintiff, to be taxed if not agreed.